Basslink which connects the mainland and Tasmania was placed into voluntary administration. This article recaptures the history, reviews the financial performance of Basslink against HydroTas Board's expectations, and then finally discusses potential buyers.
The Basslink undersea HVDC connector between the mainland and Tasmania was placed into voluntary administration on Friday 12 November 2021, some 16 years after being commissioned. EY have been appointed as voluntary administrators. This article recaptures the events that led to this significant event, reviews the financial performance of Basslink against HydroTas Board's expectations, and then finally discusses potential buyers.
This article was written in conjunction with Goanna Energy Consulting, which is Tasmania’s leading independent energy advisory firm.
Our conclusions are:
- As a result of Basslink failing in late 2015, the Tasmanian Energy Security Taskforce was instigated which in our view, improved the risk management practices of HydroTas
- Keppel Infrastructure Trust would have been under significant financial stress as a result of the unfavourable Arbitration and the determination that their actions contributed to the link failure
- HydroTas has a Basslink Services Agreement that has 9-years to run, with a further 15-year option. It is our view that HydroTas is unlikely to exercise the option given their endeavours to pursue the Battery of the Nation project along with Marinus Link; and in doing so, these projects will substantially reduce the value of Basslink
- The Tasmanian Government has expressed no wish to purchase Basslink, and we don't believe HydroTas would wish to either (unless the value was substantially reduced); so that leaves a short list of possible candidates to purchase the asset. The best bid is likely to be a non-believer in Marinus Link and Battery of the Nation, unless the asset was substantially re-valued
1.0 Energy Crisis of 2015
Just before Christmas of 2015, Basslink failed on 21 December 2015 triggering an Energy Crisis in Tasmania. For the next 176 days, Tasmania was disconnected from the mainland and needed to be self-sufficient to keep the lights on. As with many major risk events, planets were aligned.
Through the subsequent Arbitration process, Basslink operators were found to exceed the thermal limits of the cable contributing to the cable's failure. At the same time, Tasmanian water storage levels were just under 25%, the lowest since the 2008 drought and the lowest level for that time of year since connection to the NEM in 2005. Storage levels dropped to 12.8% by the end of April 2016, before exceptional rains reversed the trend.
Storage levels during the third week of December 2015 were significantly lower than the same time of any year of the previous years, and substantially lower than the Prudent Storage Level (PSL) and High Reliability Level (HRL) set by the Tasmanian Economic Regulator following the 2015 Crisis.
In order to secure supply, HydroTas was generally commended for their speed of action and spent $100 million setting in place:
- re-commissioning the gas-fired Tamar Valley Power Station
- striking agreements with 3 major customers (Bell Bay Aluminium, TEMCO and Norske Skog) to reduce a combined load of 180MW
- deploying around 200MW of portable diesel generators
- advancing Tasmania's cloud seeding program
Two major actions stemmed from the Energy Crisis facing Tasmania and these were:
- an Energy Security Taskforce was instigated by the Tasmanian Government, led by Geoff Willis a former HydroTas Chief Executive Officer and Chairman of Aurora Energy
- HydroTas and the Tasmanian Government took legal action against the owners of BassLink (Keppel Infrastructure Trust)
The two Basslink agreements in place are:
- Operations Agreement for 40-years with the Tasmanian Government which contains adjustments for poor performance, such as the out-of-service scenario of the 2005 event
- Basslink Services Agreement for 25-years, with a 15-year option to extend held by HydroTas which also has a performance component based on Basslink's performance during Victorian high price events
(a) Energy Security Taskforce
The Tasmanian Energy Security Taskforce invited submissions and we prepared a submission titled Energy Crisis, or Risk Management Crisis concluding poor risk management practices were deployed by HydroTas. Amongst the Taskforce's recommendations, risk management practices and definition of roles and responsibilities were addressed with the key findings and recommendations of the Taskforce summarised below:
- Define energy security and responsibilities
- Strengthen independent energy security monitoring and assessment
- Establish a more rigorous and more widely understood framework for the management of water storages
- Retain the Tamar Valley Power Station as a backup power station for the present and provide clarity to the Tasmanian gas market
- Support new on-island generation and customer innovation
(b) Financial pressures
It has been reported that Basslink has an overdue $643.8 million loan from a syndicate of banks through a related entity, Premier Finance Trust Australia. The National Australia Bank is the agent for the lenders.
The APA Group undertook due diligence of Basslink before electing to move on and chase other opportunities such as AusNet Services, tussling with Brookfield. The withdrawal of the APA Group from a potential acquisition forced Basslink to take immediate action crystalised the dire financial position of the company with unforeseen liabilities arising.
Following the long arbitration process, the demands on Keppel Infrastructure Trust (KIT) are:
- The State of Tasmania was awarded $39.5m and arbitration costs of $7.2m
- HydroTas claimed $33.3m (although is disputed by KIT) and has been awarded arbitration costs of $29.3m
Given through the Arbitration process, Justice French concluded that deployment of the cable led to thermal stresses contributing to the failure, any damages claim would not have been recoverable from any insurance policy (or possibly warranty). With a repair cost reported as between $400 to $500 million, plus the Arbitration claims totalling $109.3m, would have escalated the financial stress on the business.
Under the Basslink contracts there is a framework which enables the Basslink interconnector to continue to operate through this voluntary administration period. Consequently, power will continue to flow to and from the mainland, allowing Tasmania to retain a secure power supply.
Basslink is the only unregulated interconnector in the NEM, which means the owners strive to obtain a financial benefit by buying energy from one region, and then selling to another. In other words, arbitraging between Tasmanian and Victorian prices. Although smaller in value, Basslink can also sell FCAS services into the market and provides telco services between the mainland and the island.
2.0 Basslink Financial Performance
In December 2011, an Electricity Supply Industry Expert Panel was formed to review the Basslink: Decision making, expectations and outcomes. The following references are drawn from this report.
In 2002 when the Basslink was approved, it was assumed that the Annual Present Value (APV) of the facility fee in the Basslink Services Agreement would be $64m (2002$, p33). However, the expert report did say the Basslink Facility Fee "... BFF is indexed [and] the level of indexation is such that the fee declines in real terms over the life of the Basslink Services Agreement." p45
PwC were commissioned by the HydroTas Board to review the financial agreements and ...
"The PwC report highlighted the need to consider the project from the perspective of its net present value, and to take into account the variability in financial outcomes on a year-by-year basis, which would be largely driven by hydrology. PwC cautioned that focusing on a single “APV” figure to justify proceeding with the project, as Hydro Tasmania’s business case did, disguised the variability that existed in some of the estimated benefits". p30
PwC also noted the APV figure did not consider the $50m security deposit, nor the interest rate risk with the project.
In real terms the APV of $64m (2002$) would be $99m in 2021$, although it is worth noting that the expert report made the comment that the facility fee has in some years exceeded $90m, the annual payment is highly variable and is able to "vary within a 40 per cent range". p45
And finally, "When compared with the sources of value factored into the final December 2002 business case it becomes clear that, on a number of fronts, Basslink’s financial performance is yet to fulfil the expectations contained in the final business case [from 2006-07 to 2010-11]". p46
Although energy arbitrage was regarded as the main revenue source (i.e. about 78% of the benefits), the business case did assume other benefits would arise such as:
- additional system yield (26%)
- selling of risk products in the NEM such as Victorian contracts (19%)
- additional renewable energy certificates (Large Generation Certificates) (18%)
- net exports (15%)
- lower prices in Tasmania (4%)
These benefits would offset lost sales of Tasmania (-16%), leading to a ratio of 1.44 times the cost (p33).
Looking at the estimated energy arbitrage revenues shown in the chart below, the average energy arbitrage revenue since 2015 and excluding 2016 was $73.4m ($76.7 in 2021$) and over the last 4-years $90.4m ($99.3 in 2021$). Such an outcome over recent years appears to be on-track with the assumed level of contributing benefits.
The chart below also shows the most profitable years were 2018 to 2021 (year-todate) and most of the arbitrage revenue came from buying from Tasmania and then selling to Victoria.
The next chart shows the time weighted average prices for VIC and TAS, as well as the annual differential since 2006. Spot prices prior to 2016 have generally been lower except for the 2007 NEM-wide drought year. In the earlier years, the annual differential in 2008 and 2009 reached similar levels to 2018 to 2021, while all other earlier years were below.
We note that the expert report concluded up until 2010-11 the Basslink financial performance had delivered below expectations, and the spot price differential since this period up to 2015 appears no higher, therefore it is expected the under-performance would have continued until 2015.
Over the years 2017 to 2021 year-to-date, it is expected that Basslink has met (or possibly exceeded) planned financial outcomes. However, in aggregate since 2006, it is expected Basslink has under-performed financial expectations, but the Basslink Services Agreement has 9 more years to run. Further probabilistic modelling would be required to determine the likelihood of success over the remining term.
3.0 Where to from here?
The next question, what is the future value of Basslink, and which parties (if any) are the logical potential buyers?
3.1 Future Value of Basslink
If the sale price aims to keep the banking syndicate whole, then the minimum price is circa $640m, and if the awarded damages are recognised along with the pending liability of HydroTas' claim, then the total cost is $753m. Such a cost compares with the reported expectation of $1bn when the interconnector was on the market.
However, like any business, the value of an enterprise is driven by future value not existing costs. There are two factors that come to mind regarding the future value:
- Transfer Capability, and
The critical Victorian transfer capability has been on a journey over time and has now reduced to 478MW. The chart below shows the historical 5-minute load in each direction, where the reduced capacity into Victoria (green lines) can be noted.
A reduced capacity means less opportunity to transfer energy between States and less arbitrage opportunities. We haven't derived the financial consequences, but it would be fair to say, a reduction in capacity adversely impacts the valuation.
Unlike when the Basslink was first commissioned, there is now a potential new competitor called Marinus Link. Tas Networks are proposing to build the $3.5bn twin cable each of 750MW from Tasmania (Burnie) to Victoria connecting at the same location as Basslink (Loy Yang Terminal Station). The plan, although not yet approved, is for the first cable to be operational in 2027/28, and the second cable in 2029/30.
According to Project Marinus Initial Feasibility report of February 2019 Marinus Link will be superior technology than Basslink by using Voltage Source Converter (VSC) technology which has the key benefits of:
- operate with lower system strength in Tasmania and a broader NEM future power system with increased inverter-connected renewable generation and less synchronous generation;
- support continuous power flow during power flow reversals;
- support continuous provision of frequency control ancillary services;
- provide substantial reactive support under alternating current system contingencies; and
- offer black start capability (the ability to re-start the power system after a blackout event).
If successful, Marinus Link will be a regulated asset and therefore be paid by consumers through regulated network charges. Marinus Link is unlike Basslink which is an unregulated interconnector and earns a living through the owner / controlling entity exploiting arbitrage opportunities.
The landscape with marinus Link will look very different. Of the back of Marinus Link will come HydroTas' Battery of the Nation project, and no doubt large scale wind farms. The combined capacity of Marinus Link will be 1,500MW compared to the Basslink circa 500MW.
Marinus Link will strive for regulator approval on the basis the link offers consumer benefits to the community, that is reduces prices (or more correctly, avoids higher than otherwise price outcomes). Therefore, by definition, Marinus Link will reduce (or attempt to reduce) the differential between Tasmanian prices and Victorian prices. It is this very difference, that Basslink exploits to earn a living.
What is further worrying for Basslink is the sheer scale and better technology associated with Marinus Link. Basslink carries the risk of being over-powered and out run by a more agile competitor that is operating on different business drivers.
A regulated asset simply transfers energy from low price regions to high price regions to reduce the price differential and by doing so, makes the market more cost efficient. An unregulated asset business model is all about control, where the asset is used strategically to exploit the differential between regions, not suppress the differential.
3.2 Potential Buyers
The first cab off the rank is HydroTas either acting for its own commercial interest, or as a representative of Government. We now wish to explore the opportunity facing HydroTas.
HydroTas has 9-years left on the Basslink Services Agreement, and during the last 3-yeasr of this term, Marinus Link will overlap with the first cable, and late in the term, the second cable. The expert report stated that HydroTas has an option to extend for another 15-years.
It is hard to foresee why HydroTas would exercise the extension option, and here is our thinking:
- HydroTas is a key fellow proponent of Marinus Link as it will create the opportunity HydroTas to develop Battery of the Nation
- For HydroTas, maximising the spot price in Tasmania is always a key commercial driver, and barring monopolistic behaviour would endeavour to keep Tasmanian spot prices at a level that makes sense for the organisation and its shareholder
- The investment in Battery of the Nation (a mooted $1bn), will drive HydroTas to extract a fair financial return for its shareholder. Consequently, HydroTas' commercial driver will be to maximise revenue in a holistic manner which means generating more energy (either used in Tasmania or sent to Victoria) at a much higher price than the cost to pump, or catch and process water
- HydroTas will continue to want low prices for pumping and higher prices when dispatching, just like Basslink; however, it will also have scale to consider. Not all of HydroTas' systems are pump storage, and so it will have the dual driver of wanting the highest price of energy as well as the best value for capacity
- HydroTas can achieve most if not all the objectives of managing energy and capacity by using the regulated Marinus Link, without paying a facility fee to Basslink.
- Basslink will lose market power to maximise the arbitrage between regions, with the advent of Marinus Link.
Below is a worked example of the Before and After Marinus Link scenarios and show that Marinus Link will de-value Basslink, and HydroTas can still achieve financial benefits without having to pay the Basslink Facility Fee:
- In Scenario A, this is before Marinus Link and Basslink can be used to buy from VIC and sell to TAS. In this example, energy is purchased at $50/MWh and sold to VIC for $300/MWh making an arbitrage of $250/MWh per hour for each MW transferred
- In Scenario B, Marinus Link first cable is in place and say 700MW flows from TAS to VIC on the 750MW cable. In this case, the regulated interconnector will transfer energy to VIC, causing the VIC price to drop from $300/MWh to say $102/MWh. TAS price at the same time would be equal to the VIC price less the loss factors, say $100/MWh. If Basslink is dispatched, it will receive the revised VIC price of $102/MWh and make no arbitrage after paying for transmission losses
- In Scenario C, suppose Marinus Link is constrained down to 350MW, then the flow would be reduced to the limit. Suppose Tasmania price fell back to the offered price of say $50/MWh, and VIC needs more generation from other sources and would have to pay a higher price at say $200/MWh. Basslink can now sell at the $200/MWh VIC price after buying at $50/MWh from TAS, making $150/MWh per hour which is less than would have been received Before Marinus Link
The next cab off the rank to buy Basslink is the Tasmanian Government, however the "Energy and Emissions Reduction Minister Guy Barnett said the government's primary objective was to have a financially stable and competent operator and did not intend to purchase the cable."
It is our conclusion that HydroTas is an unlikely buyer (unless the price was right), is not likely to exercise the extension option (unless at a substantially reduced price), and if the Tas Government is not interested, then that leads to any opportunistic buyer.
If any potential buyer believes that Marinus Link will come, then the value of Basslink will be substantially written down, and conversely, a higher price bid is likely to only come from a party that is a non-believer in Marinus Link and Battery of the Nation. Such a person is unlikely to live in Tasmania.