The Dunedin City Council has an important decision to make about Aurora Energy, Brian Wood writes.
As a former senior executive at the Dunedin City Council, a former director of both the council holding company and Aurora Energy, previous chief executive of an international infrastructure consulting company and current director of an electricity distribution company, I have been watching with interest the consultation on the proposed sale of Aurora.
Councils across New Zealand are under pressure as they try to balance the need to renew infrastructure like water and roads against what ratepayers can afford.
At the same time, councils have been facing soaring inflation making the balancing act harder and leading to calls for central government assistance.
At present, local government has three main funding sources to pay for local services and community infrastructure: rates and fees, borrowing and income from investments.
It appears the DCC is fast approaching the limits of what ratepayers can afford and its debt ceiling on prudent borrowing.
That makes investment income, in the form of dividends from the subsidiary companies that make up the holding company, DCHL, all the more important.
The decision to sell or retain Aurora will have different outcomes for the investment income DCC can expect in future and its capacity to borrow to fund core infrastructure. In turn, the decision will have different outcomes for Dunedin residents and ratepayers in terms of future rates increases and quality of life.
In financial terms, the proposed sale of Aurora is a choice between the council continuing to invest in a capital-intensive electricity network or swapping that investment to a diversified investment fund.
Either way, some things won’t change.
Whoever owns Aurora Energy must follow the same pricing and quality regulations that protect the interests of consumers. The regulators ensure overall line charges are capped and that prices are allocated fairly across different consumer groups.
They also set targets for service quality and impose hefty fines if these are repeatedly missed.
And whoever owns Aurora will need to invest further capital, estimated to be over $1 billion over the next 10 years according to the company’s published plans. Aurora needs capital to continue to renew and maintain its assets, build capacity to meet growing demand and respond to technological change.
As a country, we are moving away from fossil fuels and relying on increased use of electricity for transport, heating and industry.
Like all electricity networks throughout New Zealand, Aurora will need to make ongoing network investment to meet growing demand as people switch to clean energy and the population grows.
If it were sold, the new owner would be responsible for sourcing the capital needed for the business. Potential buyers such as infrastructure investment funds are typically better positioned to invest capital because they have access to a wider range of funding sources at a lower rate than the council can access.
The proceeds of a successful sale would go to pay off Aurora’s debt and set up an investment fund.
Because Aurora’s borrowing counts towards council group debt, paying off its debt would free up headroom for council borrowing to be reinvested in core infrastructure priorities such as water and roading.
Net proceeds from a sale would enable the council to set up a diversified long-term investment fund for the benefit of future generations.
Councillors have heard from independent experts that benchmark returns from diversified growth funds are estimated to exceed 9% per annum, much higher than the forecast returns from Aurora.
Aurora would in fact need to borrow to pay dividends, for at least the next decade, should they be expected to provide a return to the council, at least until they are in position to fund dividends directly from profits.
For the foreseeable future, Aurora Energy is ill-equipped to provide an equivalent income stream to the council through increased dividends. It cannot increase prices beyond the regulated cap of 10% per annum and the other alternative would be to fund dividends paid to the council through more borrowing, adding to the interest bill and further reducing the council’s borrowing capacity.
If the council retains Aurora and its debt, council borrowing costs would be higher, requiring more of the rates take to go towards interest payments. Having Aurora debt on the council books means the council has very little room left for extra borrowing, borrowing that is needed to fund infrastructure, including water, wastewater, roads and local amenities or God forbid, to support the costs of a natural disaster.
So in summary, it seems to me councillors have before them all the relevant information they need to make a decision.
It really boils down to two simple options for the council:
• Retain Aurora Energy and accept that, for the foreseeable future, dividend returns will be limited, adding upwards pressure on rates, and council debt will increase to fund the essential work that Aurora needs to undertake.
• Sell Aurora Energy and create a new asset in the form of an investment fund, with the expectation of higher returns over the long term reducing the pressure on rates increases, and lower council debt providing more headroom for investment in community infrastructure and unforeseen events.
The choice is an important one for the council to consider carefully on behalf of current and future Dunedin residents.
Aurora Energy’s sale or retention will impact not only the council’s books, but the future costs on ratepayers and the amenities they enjoy.
— Brian Wood is a former director at Dunedin City Holdings Ltd.
