BURGAN CAPE TERMINALS (PTY) LTD Revised NERSA Tariff Application

Transcription

1 BURGAN CAPE TERMINALS (PTY) LTD Revised NERSA Tariff Application Date: 17 July 2017

2 Contents 1 Introduction Background Summary of project Business model Value to the economy Purpose of this tariff application The Facility... 4 Loading facility... 4 Storage facility and auxiliary equipment... 5 Pipeline Tariff methodology Imposing a regulated tariff in a competitive environment Tariff methodology per facility... 6 Loading and storage facilities... 6 Pipeline Useful life The Project Costs Capital expenditure Operating costs Decommissioning costs Working capital Tax IOC tax calculation Rate of Return tax calculation Cost schedule per facility Loading facility Storage facility Pipeline Regulatory Asset Base and the calculation of Trended Original Cost (TOC) Loading facility Storage facility Pipeline Discount Rate Cost of equity Risk free rate Market risk premium Beta... 18

3 Small stock premium Project specific risk Liquidity risk Calculation of Ke Gearing and cost of debt Weighted Average Cost of Capital (WACC) Volume forecast Total volumes Tariff calculation Loading facility tariff calculation Levelised IOC tariff calculation for the loading facility Storage facility tariff Levelised IOC tariff calculation for the storage facility Pipeline tariff Rate of Return tariff calculation for the pipeline Conclusion and request for Approval and Setting of Tariffs Request for approval of the tariff for loading Request for approval of the tariff for storage Request for setting of the pipeline tariff Appendix A Economic Indicators Capital Expenditure and allocation per facility... 32

4 Figures Figure 1 Location of facility at the Eastern Mole site in the Port of Cape Town... 2 Figure 2 Layout of the facility... 3 Figure 3: Tariff path comparison for the loading facility Figure 4: Tariff path comparison for the storage facility Figure 5: Tariff path and expected throughput for the pipeline... 29

5 Tables Table 1: Capex for the loading facility (R m) Table 2: Operating costs including decommissioning for the loading facility (R m) Table 3: Working capital for the loading facility (R m) Table 4: Tax calculation for the loading facility (R m) Table 5: Capex for the storage facility (R m) Table 6: Operating costs including decommissioning for the storage facility (R m) Table 7: Working capital for the storage facility (R m) Table 8: Tax calculation for the storage facility (R m) Table 9: Capex for the pipeline (R m) Table 10: Operating costs including decommissioning for the pipeline (R m) Table 11: Working capital for the pipeline (R m) Table 12: Tax calculation for the pipeline Table 13: Asset table for the loading facility (R m) Table 14: Asset table for the storage facility (R m) Table 15: Asset table for the pipeline (R m) Table 16: Small stock premium (PWC Valuation Methodology Survey 2014/15) Table 17: Risk assessment of the Burgan project Table 18: Cost of equity (Ke) for the loading and the storage facility (IOC) Table 19: Cost of equity (Ke) for the pipeline (ROR) Table 20: Weighted Average Cost of Capital (WACC) for the loading and storage facility Table 21: Weighted Average Cost of Capital (WACC) for the pipeline Table 22: Throughput capacity for Burgan terminal Table 23: Volume forecast (million litres) Table 24: Allowable revenue for the loading facility using the IOC method (R m) Table 25: Levelised IOC tariff calculation for the loading facility Table 26: Levelised IOC tariff and revenue for the loading facility Table 27: Allowable revenue for the storage facility using the IOC method (R m) Table 28: Levelised IOC tariff calculation for the storage facility Table 29: Levelised IOC tariff and revenue for the storage facility Table 30: Allowable revenue for the pipeline using the rate-of-return tariff method (R m) Table 31 Tariff for the pipeline using the rate-of-return method Table 32: Macroeconomic indicators... 31

6 1 Introduction In this tariff application document 1 we discuss the three tariffs required by Burgan Cape Terminals. The tariffs are for a loading facility, a storage facility and a pipeline. For the storage and the loading facility we have made the case for NERSA to approve a multi-year tariff for the period FY17 2 to FY19, based on the levelised NERSA IOC methodology for loading and storage facilities. The loading and storage tariffs for FY17 and beyond are based on a reference base value combined with an inflationary escalation mechanism. The reference base value is calculated for FY17. Burgan Cape Terminals requests NERSA to approve a maximum base value of 1.47 cents/litre for the loading facility for FY17. This tariff must be escalated with inflation to obtain the maximum tariff that will apply for subsequent years during the period for which the approval is sought: FY17 to FY19. Burgan Cape Terminals similarly requests NERSA to approve a maximum base value of cents/litre for the storage facility for FY17. This tariff must also be escalated with inflation to obtain the tariff that will apply for subsequent years during the period for which the approval is sought: FY17 to FY19. For the interconnecting pipeline we have made the case for NERSA to set a multi-year tariff starting from FY17 to FY19, based on the NERSA ROR methodology for pipelines. Burgan Cape Terminals requests NERSA to set the pipeline tariff for the period as set out in Table 31 below. 2 Background 2.1 Summary of project Burgan Cape Terminals (Pty) Ltd is a black empowered and independent South African oil storage company. Its shareholders are Thebe Investment Corporation (15%) with experience in the downstream petroleum market, Jicaro (15%) a newly established 100% black owned BBBEE company and VTTI B.V. (70%) a global terminal owner that operates in 5 continents with more than 8 million m 3 of oil storage and LPG capacity. After being identified as the most suitable bidder, Burgan Cape Terminals was awarded a 20-year contract by TNPA 3 to develop and manage fuel storage and distribution facilities at the Eastern Mole of Cape Town Harbour. The Burgan project is supportive of national polices and plans related to security of supply, the maintenance of strategic stocks, infrastructure needs, spatial and capacity planning at the 1 This tariff application incorporates revisions to the original application in order to address concerns raised by NERSA during the application process. More accurate cost information is now available than at the time of the initial application and this updated information has been included in the tariff calculation. 2 Burgan s financial years coincide with calendar years thus FY17 is the period from 1 January 2017 to 31 December Transnet National Ports Authority 1

7 Port of Cape Town and the facilitation of greater competition. The importance of the Burgan project has resulted in Government including it as a strategic project under Operation Phakisa a government initiative to unlock the potential of South Africa s oceans in growing the economy and creating jobs. This Greenfield project was officially launched in November 2015 by the Dutch Minister of Agriculture and State Secretary of Economic Affairs, Martijn van Dam and the South African Director-General of the Department of Trade and Industry (DTI), Lionel October. The location of the facility is shown in Figure 1. Figure 1 Location of facility at the Eastern Mole site in the Port of Cape Town 2.2 Business model Burgan Cape Terminals will provide a multi-purpose fuel storage facility used for the distribution of both locally produced and imported fuels. The storage of refined petroleum products will be received either by sea with the loading facilities in Eastern Mole Berth 2 or piped from the Chevron refinery in Milnerton (Cape Town). Tanker vessels will decant at Eastern Mole Berth 2 using the Burgan marine loading arms. Locally produced product may also be pumped from the Chevron Oil Refinery to the Burgan storage facility. The Burgan pipeline will connect the existing Chevron refined product pipeline to the Burgan storage facility. Product will be dispatched from the Burgan facility via the road loading gantry. Burgan s state of the art truck loading facility will allow for an efficient and swift distribution to end-users with limited impact on the surroundings. Customers will pay Burgan a fee for the use of these facilities based on throughput of product. The layout of the facility is shown in Figure 2. The terminal is capable of performing the following operations: Jetty operations o vessel import 2

8 Storage facilities o diesel storage (Diesel 500ppm and 50ppm with separate biodiesel system) o petrol storage (ULP with ethanol blending) o truck loading facility o Additive blending facility Pipeline connections o pipeline import from Chevron refinery Figure 2 Layout of the facility 2.3 Value to the economy Ports are considered an integral part of the petroleum industry s logistical value chain. However, the increased demand for imports has put additional strains on Cape Town harbour. This will be amplified in the future as there is a rapidly growing demand for cleaner fuels in the South African market. Infrastructure to handle additional imports will therefore be critical. This project will result in increased fuel storage infrastructure and allow for fuel importation thereby increasing the security of supply to the Western Cape. The project will also help with improving the fuel distribution capacity in the Western Cape. There have been cases of long queues and congestion at the current road loading gantries. Last but not least is that the Burgan facility is an independent facility. i.e. it does not belong to a marketer. This means any company with a market in Cape Town will be able to import and distribute product. The facility will therefore enable the entrance of new players thus improving competition. The Burgan project is compatible with and supportive of key policies and plans that include: The Liquid Fuels Energy Security Master Plan (2007), The Port of Cape Town Port Development Plan (2013), The Draft Strategic Stocks Petroleum Policy (2013), The National Development Plan (2012), Competition policy with respect to the petroleum industry and The Review of Fuel Specifications and Standards (2011). Government has included Burgan Cape Terminals as a strategic project under Operation Phakisa. In addition, the Burgan facility will have a positive impact on security of supply in Cape Town and the Western Cape in the following unplanned circumstances: 3

9 A harbour incident involving a vessel at either of the existing bulk liquid berths. A refinery incident (fire, critical equipment failure, industrial action) which causes an unplanned outage or slowdown of more than 6 weeks. Damage to or failure of Chevron s 13km white oil pipeline linking the refinery to the harbour. An urgent demand by Eskom for diesel as a result of county wide power shortages The facility will also enable the following benefits to be achieved: Making imported diesel50 available to all motorists whose vehicles require these grades and bridging the supply gap due to the likely delay in meeting the target date of July 2017 for refineries to upgrade to produce these fuels. Provide storage for Clean Fuel strategic stock holding requirements Purpose of this tariff application On 9 December 2014, the Energy Regulator issued a combined licence (PPL.sf.lf.F3/174/2014) to Burgan Cape Terminals for the operation of a petroleum storage facility, a petroleum loading facility and a petroleum pipeline. This tariff application is submitted to NERSA in order to comply with license condition 16 of the operating license. In this tariff application Burgan requests NERSA to: Approve the tariff for the Loading facility Approve the tariff for the Storage facility Set the tariff for the Pipeline 3 The Facility The facility comprises marine loading arms, transfer pipes to a storage tank farm, a storage tank farm, transfer pipes to the road loading gantry, a road loading gantry and a pipeline connecting the storage facility to the Chevron refined product pipeline. The set of infrastructure to be built and operated is set out in more detail in the combined licence construction application and the combined licence operation application. In summary the separate facilities consist of the following: Loading facility The loading facility will be mounted on the Eastern Mole Berth 2. The loading facility consists of two 12 inch diameter marine loading arms that are capable of 1 250m 3 per hour for each arm and two auxiliary 16 inch diameter (approximately 156 meter long) bidirectional pipelines. The pipelines run between the 4 The Draft Strategic Stocks Petroleum Policy, DOE (2013). The policy identifies the age of the refineries as a strategic concern that may severely disrupt supply of refined product. The draft policy recommends that petroleum manufacturers hold 14 days of refined product stocks relative to their respective market shares. 4

10 loading arms on Eastern Mole Berth 2 and the storage facility. The facility will therefore be capable of loading and offloading tanker vessels. Storage facility and auxiliary equipment The storage facility will be located on the Eastern Mole. The storage facility will consist of 12 storage tanks with a combined maximum storage capacity of approximately m 3 and a combined working storage capacity of approximately m 3. The storage tank area will be covered in a raft type foundation which will be reinforced by concrete piles. The storage tanks will be surrounded by a bund wall with a capacity of 110% of the total tank capacity for that bund area. The storage tanks will be able to store petrol, diesel, ethanol and bio fame. The majority of the product consisting of diesel and unleaded petrol (ULP) will be received via the Eastern Mole Berth 2 and the Chevron Oil Refinery. Ethanol, biodiesel and other additives needed for blending will be received via road tanker. All product will leave the storage facility by road tanker. The distribution facility will include a 5 truck loading gantry capable of loading multiple products simultaneously. The auxiliary infrastructure includes an office block, fire-fighting system and a drainage system. Pipeline The pipeline to be constructed will be a 10 inch diameter (approximately 700 meter long) bidirectional pipeline which will run above ground connecting the storage facility to the Chevron 12 inch diameter refined product ( white oil ) pipeline. The pipeline will run aboveground alongside the Eastern Mole Berth service road and enter the Burgan terminal past the FFS Refiners (Pty) Ltd facility, terminating at the Burgan import fuel manifold. 4 Tariff methodology 4.1 Imposing a regulated tariff in a competitive environment Although subject to NERSA regulation, the storage market is an increasingly competitive environment. The tariff that Burgan is able to charge for storage services is thus dictated less by what the regulatory framework will allow, and entirely by what the market is prepared to pay at any given point in time. This is a vital consideration when determining the tariff path over time that Burgan requests NERSA to approve. Section 28(3) of the Petroleum Pipeline Act (60 of 2003) states the following: (3) The tariffs set or approved by the Authority must enable the licensee to - (a) (b) (c) recover the investment; operate and maintain the system; and make a profit commensurate with the risk. 5

11 The Act requires that the tariffs that NERSA approves (in other words the tariff path over the life of the project) must enable the licensee to recover the full costs of providing the service in other words the approved tariffs have to comply with section 28(3) of the Act and with Regulation 4(2). For tariffs to enable the full recovery of costs they must be: Cost reflective (result in tariff levels over the life of the project that are fully reflective of the costs); and Recoverable (result in tariff levels that are in practice recoverable in the market over the life of the project). In order to compete in the storage market Burgan will have to offer commercial pricing arrangements that are competitive and similar to what customers would expect from other suppliers in the market. The recoverability of the tariff is thus a primary consideration when choosing the appropriate methodology for calculating the lifetime tariff trajectory for approval by NERSA. As most commercial storage contracts are of a multi-year nature and subject to some annual inflationary clause, the approved tariff needs to incorporate some inflationary escalation. Rate-of-return (ROR) methods as used for the setting of petroleum pipeline tariffs and historically for storage and loading tariffs result in tariffs that fall in real terms over the life of the project and thus are structurally inappropriate for a market whose expectation is to contract around constant real tariffs. Whilst in reality the market price for new storage contracts will likely fluctuate over the life of the project subject to the cyclical vagaries of the petroleum market, the contracts will be structured with annually escalating clauses tied to inflation. The best proxy for the market price is thus a tariff that is constant in real terms over the life of the project that allows the recovery of sufficient revenue to satisfy the cost-recovery and profit provisions of the Act and Regulations. 4.2 Tariff methodology per facility Loading and storage facilities Burgan has used the IOC tariff methodology 5 comprehensive option in order to calculate the annual allowable revenue for the loading and storage facilities. Due to the ramping of volumes at the start of the project it is necessary to levelise these annual allowable revenues over all project volumes in order to derive a real starting tariff and generate a tariff path that is recoverable. The starting tariff is calculated by dividing the present value of the allowable revenues (calculated using the nominal After Tax WACC) by the present value of the volumes over the life of the project (calculated using the real After Tax WACC) in order to levelise the costs over the volumes and provide a constant real tariff. This tariff must be indexed by inflation on an annual basis. 5 Tariff Methodology for Storage and Loading facilities Version 3, Approved 29 March

12 Pipeline The pipeline tariff is set by NERSA and Burgan has submitted all relevant information in order to facilitate the calculation of the pipeline tariff based on the ROR method, in line with the latest NERSA methodology for the setting of pipeline tariffs 6. Burgan has calculated a proposed tariff for the pipeline and the results of this calculation are presented in section Useful life Burgan is bound by the contractual terms of the lease agreement signed with TNPA. As per the TNPA lease agreement, the operational period of the terminal is defined as a period of 20 years commencing 1 July In addition, the TNPA lease agreement states that twelve months prior to the Handback Date the Authority shall notify Burgan that the terminal will either be decommissioned or transferred to the Authority (including equipment and works related to the development). Burgan is not privy to TNPA s future plans and intention on the use of its land beyond the end of the lease period. As such the appropriate economic life of all the facilities is limited to the period of the lease agreement as there is significant possibility that Burgan will need to decommission the entire site at the lease termination. In any event, Burgan is unable to extract any revenue from the facilities beyond the termination of the lease agreement. The question of appropriate useful life is moot for the IOC calculation used for the loading and storage facility tariffs, however this is an important consideration for the pipeline tariff. Burgan s interactions with NERSA regarding the appropriate useful life to use for tariff calculation purposes have indicated that despite the aforementioned lease terms, NERSA would consider the physical life of the pipeline asset when setting the tariff. Burgan s engineering advisory has suggested that the physical life of the pipeline is approximately 40 years before significant sustaining capex would be required to ensure a life extension. The figure of 40 years has been used in Burgan s calculation of the proposed tariff that NERSA will set. We request however that should the terms of the lease agreement be enforced and that the facility including the pipeline is due to be demolished, that the remaining asset value at that time be depreciated to the end date of the lease. 5 The Project Costs 5.1 Capital expenditure Capital expenditure is expected to be limited to a project development phase and a building phase, spanning the periods from FY14 to FY17. Amounts for the second half of FY16 and later are based on best estimates at time of application. The loading facility, storage facility and pipeline are all built as part of the same EPC (Engineering, Procurement, and Construction) contract and thus the appropriate capex 6 Tariff methodology for the setting of pipeline tariffs in the Petroleum Pipelines industry, Version 7, Approved 29 October

13 cost of each facility is based on a rational apportionment of the EPC cost between the facilities. This apportionment has been based on a detailed assessment of the materials requirement and construction complexity associated with each of the facilities. The Loading facility assets are demarcated by the exit flange on each of the two 12 inch diameter pipelines linking the Marine loading arms to the storage facility. The pipeline asset is limited to the pipeline that connects the Chevron white products pipeline to the storage facility and is bounded by the exit flange at the point where the pipeline enters the storage facility. 5.2 Operating costs There are no variable operating costs associated with the facilities. The fixed operating costs for the Loading and Storage facilities consist of the following: Direct Personnel o Salaries / Wages o Training Operating Expenses o Insurance o Utilities and Energy o Environment and Safety o Other Operating Expenses Maintenance and Repairs 7 Indirect Personnel Expenses o Salaries / Wages o Allowances o Training o Other Personnel Expenses General Expenses o Travel o Consultancy and Professional Fees o Information and Communications Technology o Office costs o Property Tax Lease I/C Cross Charge Indirect Costs Due to the integrated nature of the operation of the loading and storage facilities it is not possible to distinguish the operating costs easily between the facilities. Operating costs have been allocated to the facilities based on the Capex allocation. The pipeline is expected to incur negligible operating costs over its lifetime and this has been set to nil. 7 Maintenance and Repairs has been estimated at 2% of the replacement cost of the facility in accordance with the methodology 8

14 5.3 Decommissioning costs Provision for decommissioning has been calculated in accordance with NERSA s proposed methodology as set out in the Frequently Asked Questions related to the methodology for the Setting and Approval of Tariffs in the Petroleum Pipelines Industry. In this respect the decommissioning cost is treated as an operational expense. The decommissioning amount is raised over the life of the project by calculating the real value of the difference between the full liability and what has already been raised in money of the year in question. The difference is divided by the number of years left of the project life to yield the amount that must be raised for the current project year. Decommissioning of a chemical plant involves the following key processes that should be taken into account: Decontamination Dismantling Disposal Rehabilitation Typical decommissioning and rehabilitation costs for a plant such as the Burgan Facility are in the order of 5 10% of the capital expenditure. The actual quantum depends on a large number of variables, including the extent to which the site must be restored to its original state. The decommissioning expense has been set at a level that will not only allow Burgan to fulfil its obligations in terms of the lease agreement with TNPA but will allow for sufficient funds to be transferred to TNPA at the termination of the agreement for the ultimate complete dismantling and restoration of the site to its present condition, should TNPA exercise its right to take over the assets. We have allowed for decommissioning and rehabilitation costs at 8% of the capital expenditure. 5.4 Working capital An assumption of 30 days has been made for both creditors and debtors resulting in the net working capital requirement for the year being the difference between 30/365 of the annual revenue minus 30/365 of the annual operating expenses. The working capital allowance for the loading and storage facilities has been calculated in accordance with the IOC tariff methodology by adding the annual balance to the IOC-trended value of PPE. Allowable revenue on working capital in our ROR calculation for the pipeline has been calculated by allowing a nominal after tax WACC as the opportunity cost on the working capital balance. This is different from the NERSA methodology where working capital is incorrectly added to the RAB and a real return granted thereon. Working capital does not have an inflationary write-up each year and therefore it is an error to apply a real after tax WACC to the working capital balance in the ROR method. 8 8 We will provide NERSA with a simple demonstration model to prove this point if requested. 9

15 5.5 Tax Tax has been calculated on a notional basis whereby the accounting period for depreciation has been used for capital allowance in the tax calculation. IOC tax calculation In accordance with the methodology the tax expense is calculated as follows: NRBTA Tax Expense = Tax Rate (1 Tax Rate) Where: NRBTA = RAB WACCReal RAB = PPE + WC Where: RAB Regulatory Asset Base WC Working Capital Rate of Return tax calculation The ROR calculation is based in the After Tax WACC paradigm regarding the cost of capital which informs the appropriate choice of tax calculation. As the tax shield effect of interest is already accounted for in the discount rate in this framework the per-period interest is excluded from the tax calculation. We use the gross-up calculation as specified in the NERSA methodology and thus tax is calculated for the i th year as follows: NRBTA Tax Expense = Tax Rate (1 Tax Rate) Where: NRBTA = {RAB WACCReal + WC WACCNominal + E + D(historic & write up)} {E + D(historic)} RAB = PPE Where: RAB Regulatory Asset Base WC Working Capital E Expenses D Depreciation 10

16 5.6 Cost schedule per facility In this section we present the full schedule of actual project costs used for the calculation of the tariff for each facility. The capital costs for all three facilities are part of the same EPC contract and all three facilities have shared the same project development costs. In order to allocate an appropriate portion of the capital to each facility the total capital has been split by applying an appropriate percentage allocation per line item of costs. Where there is no direct apportionment possible the allocation has been based on the percentage derived in conjunction with the EPC contractor. The line item breakdown of total capitalised costs is presented in the Appendix in section 11.2 along with the allocation of the costs per facility. Loading facility The capex breakdown for the loading facility is shown in Table 1. Table 1: Capex for the loading facility (R m) FY14 FY15 FY16 FY17 Total Capex The opex breakdown for the loading facility is shown in Table 2. Table 2: Operating costs including decommissioning for the loading facility (R m) I/C Cross Charge Direct Personnel Operating Expenses Maintenance & Repairs Indirect Personnel General Lease Indirect Cost Decommis sioning Total FY FY FY The future decommissioning amount for the loading facility is R1.76m in FY17 currency. The annual working capital requirement for the loading facility is shown in Table 3. Table 3: Working capital for the loading facility (R m) Total Working Receivables Payables Capital Movement FY17 (0.49) 0.15 (0.34) (0.34) FY18 (0.53) 0.16 (0.37) (0.03) FY19 (0.56) 0.17 (0.39) (0.02) The tax calculation for the loading facility is shown in Table 4. 11

17 Table 4: Tax calculation for the loading facility (R m) RAB x WACC WACC (After RAB Tax, Real) RAB x WACC Tax (1 Tax) FY % (1.14) FY % (1.22) FY % (1.30) Storage facility The capex breakdown for the storage facility is shown in Table 5. Table 5: Capex for the storage facility (R m) FY14 FY15 FY16 FY17 Total Capex The opex breakdown for the storage facility is shown in Table 6. Table 6: Operating costs including decommissioning for the storage facility (R m) Direct Operating Maintenance Personnel Expenses & Repairs Indirect Personnel General Lease I/C Cross Charge Indirect Cost Decommis sioning Total FY FY FY The future decommissioning amount for the storage facility is R60.86m in FY17 currency. The working capital requirement for the storage facility is shown in Table 7. Table 7: Working capital for the storage facility (R m) Receivables Total Working Payables Capital Movement FY17 (17.09) 5.23 (11.86) (11.86) FY18 (18.33) 5.57 (12.76) (0.90) FY19 (19.47) 5.94 (13.53) (0.76) 12

18 The tax calculation for the storage facility is shown in Table 8. Table 8: Tax calculation for the storage facility (R m) WACC (After RAB x WACC RAB Tax, Real) RAB x WACC Tax (1 Tax) FY % (39.56) FY % (42.58) FY % (45.13) Pipeline The capex breakdown for the pipeline is shown in Table 9. Table 9: Capex for the pipeline (R m) FY14 FY15 FY16 FY17 Total Capex The opex breakdown for the pipeline is shown in Table 10. Table 10: Operating costs including decommissioning for the pipeline (R m) Operating Costs Decommissioning Total FY FY FY The future decommissioning amount for the pipeline is R2.70m in FY17 currency. The net working capital requirement and the annual change in the net working capital requirement for the pipeline is shown in Table 11. Table 11: Working capital for the pipeline (R m) Receivables Payables Total Working Capital Movement FY17 (0.30) - (0.30) (0.30) FY18 (0.62) - (0.62) (0.32) FY19 (0.65) - (0.65) (0.03) 13

19 The tax calculation for the pipeline is shown in Table 12. The tax calculation is based on the ROR tariff. Table 12: Tax calculation for the pipeline Revenue Capital Operating Decommis Income Allowance Costs sioning Before Income Gross Up for Tax Tax Expense FY (0.41) - (0.07) (0.89) FY (0.85) - (0.08) (1.85) FY (0.85) - (0.08) (1.95) 6 Regulatory Asset Base and the calculation of Trended Original Cost (TOC) The calculation of a Regulatory Asset Base (RAB) based on the value of Plant, Property and Equipment is required for both the IOC and ROR tariff calculation. The tables below show the calculation of RAB using the IOC methodology for the loading and storage assets and the TOC asset base for the Pipeline. The financing cost of work in progress is calculated at the WACC (After Tax) until the plant is brought into operation. The financing cost is capitalised and used in determining the total original cost to be trended from the year of first operation. The IOC methodology applied to the loading and storage assets trends the RAB at CPI from the year the plant is brought into operation. In accordance with the TOC methodology the depreciation of the pipeline asset is on a straight line basis from year of first operation in FY17 to the end of the pipeline physical life in FY56. Amortisation of the inflation write-up has been calculated in accordance with the NERSA methodology. 6.1 Loading facility The asset table for the loading facility is shown in Table 13. Table 13: Asset table for the loading facility (R m) CWIP CWIP CWIP Current Regulatory Capex Brought Financing Carried IOC b / f Period IOC c / f Asset Base into Cost Forward Write-Up (PPE) Operation FY FY FY FY FY FY

20 6.2 Storage facility The asset table for the storage facility is shown in Table 14. Table 14: Asset table for the storage facility (R m) CWIP CWIP CWIP Current Regulatory Capex Brought Financing Carried IOC b / f Period IOC c / f Asset Base into Cost Forward Write-Up (PPE) Operation FY FY FY FY FY FY Pipeline The asset table for the pipeline is shown in Table

21 Table 15: Asset table for the pipeline (R m) Capex CWIP Financing Cost CWIP Brought into Operation CWIP Carried Forward Current Period Depreciation Depreciated Original Cost c/f Current Period Write-Up Write-Up Bal on which Return Earned Write-Up Amortisation Accumulated Write-Up c/f TOC c/f Total Depreciation & Amortisation Regulatory Asset Base (PPE) FY FY FY FY FY FY

22 7 Discount Rate As described in the tariff methodologies in section 4, the applicable discount rate for the IOC tariff calculation performed in this application is the After Tax WACC. The ROR calculations performed to calculate the pipeline tariff also require an after tax WACC to be used as the discount rate. In this section we specify Burgan s cost of equity, debt and the resultant WACC. 7.1 Cost of equity The cost of equity is built up using the Capital Asset Pricing model. The method we have used is informed by NERSA s Cost of Equity Adjustments Discussion Document for Petroleum Storage and Loading Facilities, 6th May We have additionally made use of the PWC Valuation Methodology Survey, 7th Edition, 2014/ We consider three adjustments to the market-derived cost of equity a small stock premium, a project specific risk premium and a liquidity premium. The liquidity premium is treated as a multiplier on all other cost of equity factors as contemplated in NERSA s FAQ document. Our Cost of equity calculation is thus as follows: Ke = (Rf + MRP Beta + SSP + a) (1 + LP) Where: Ke real after tax cost of equity Rf real risk free rate MRP market risk premium Beta appropriate stock Beta i. e. taking account of gearing SSP small stock premium a Project Specific Risk LP liquidity premium The individual elements of the calculation are described below: 9 Africa: A close look at value - Valuation methodology survey 2014/15, 7 th edition, PWC (2015). Available at 17

23 Risk free rate As determined from NERSA s provided data 10 for the tariff period 1 Jan Dec 2017 a value of 3.73% has been used. Market risk premium As determined from NERSA s provided data for the tariff period 1 Jan Dec 2017 a value of 6.35% has been used. Beta Beta has been determined from NERSA s document 11 for the tariff period 1 Jan Dec The unlevered value of 0.57 is used in our modelling and levered to 0.88 at a gearing level of 35% once debt is incurred. Small stock premium The small stock premium assumed for Burgan is due to the following reasons: 1. Burgan is a small unlisted company which has recently been formed 2. Burgan has no access to legal expertise within its own structures, these services are purchased from external legal counsel 3. Burgan has to purchase legal, operational and technical expertise from third parties rather than inhouse expertise 4. Burgan has never had access to operational and technical expertise under a previous shareholding dispensation 5. Burgan is a new operator within the South African context Using the PWC Valuation Methodology survey 2014/15 as a guide we use a small stock premium of 3.8% based on the initial RAB and Table 16 from page 54 of the survey. Table 16: Small stock premium (PWC Valuation Methodology Survey 2014/15) Rm % 5.2% 3.8% 2.3% 1.5% 0.7% % 4.4% 2.8% 1.7% 0.9% 0.1% % 3.7% 2.8% 1.3% 0.7% 0.1% % 4.0% 2.7% 1.7% 1.3% 0.4% 10 Document from Nersa website: Economic Data 30YR Market Risk Premium up to January 2016 Petroleum Pipelines Industry.xls 11 Document from Nersa website: Beta Values January 2015 March 2016 Tariff Gearing May 2016 Petroleum Pipelines Industry.pdf 18

24 Project specific risk The project specific risk assumed for Burgan is based on the following reasons: 1. The Eastern Mole project is a Greenfield project and is a completely new activity (independent import terminal) with no similar previous undertaking and thus has numerous unquantifiable risks which might only be encountered during the construction and operational phase of the project. 2. Burgan being an independent storage terminal owner and operator is fully exposed to the oil marketers in Western Cape as potential customers to the terminal. Although discussions with these potential customers have started, until sufficient long term contracts are signed, the returns of the investment are uncertain. This is unlike the existing assets in Cape Town which are owned and operated by oil marketers who have their respective market volume to utilize the assets. Note further that Burgan will bear the risk of not finding replacement off-take agreements should the initial longterm contracts come to an end. 3. The Eastern Mole project will be built on reclaimed land within the Port of Cape Town and as such has brought about construction challenges due to voids etc. within the ground. These issues may require Burgan to pile to bedrock in order to construct the planned terminals which might trigger other potential challenges. Furthermore these challenges may impact on the construction period of the project and given that the lease period is limited to an operational period of 20 years. This could significantly reduce the period in which Burgan may generate returns to fund the project. 4. With no additional land/space for further expansion, Burgan s return on this project is limited to the current terminal design of 118,670 m 3 i.e. there are no further opportunities for Burgan to generate additional revenues from the site. 5. Competition from incumbent oil marketers who have older depreciated assets, long term presence/experience in the South African market and coupled with strong corporate support in the form of steady state volumes and prices. Burgan does not have this kind of support and may need to reduce its tariffs to compete within the market despite a higher NERSA tariff being granted. Given the above there is further risk to Burgan that the asset may not generate the required returns to fund the project. Note there are competing berths and pipelines currently in operation in the port of Cape Town. 6. Burgan is being constructed based on a view of expected supply and demand factors within the port of Cape Town. Should the above expectations not materialize there is significant market risk exposure that the required returns for the project will not be met. 7. NERSA s recent methodology revision has removed the claw-back provision resulting in the licensee i.e. Burgan, shouldering the risk of annual volume fluctuations and their impact on project cash flows. Variations in project cash flows, cash flow timing risk or financing risk, will impact considerably on the returns Burgan expects to generate from the Eastern Mole project. Furthermore given that Burgan is an independent storage company and not an integrated oil major, volume variations (and consequently cash flow timing risk) are far more likely. This situation is further exacerbated by the limited operating period for Burgan under the TNPA lease. 8. In order to meet some of its operational requirements, Burgan will need to connect to and leverage off the Chevron pipeline. It is submitted that Burgan has little to no control over the Chevron pipeline and any factors (outside of the control of Burgan) will impact on the returns of the project. This infrastructural risk can manifest in the form of an inability to service a customer s needs to unscheduled stoppages and down time. 9. TNPA Lease agreement. Burgan faces additional project risks in respect of the lease agreement with TNPA, for example the lease escalation is not fixed nor tied to CPI. Furthermore the lease expires in 19

25 2037 with Burgan being obliged to vacate and clear the site or hand over the site to TNPA, thus there is at this stage no prospect for Burgan to generate revenue from the facility after this date. While the determination of a project risk adjustment is a very subjective exercise, Burgan has attempted to analyse the adjustment applied to the factors described above in Table 17. Table 17: Risk assessment of the Burgan project Risk Rate Assumed Likely Rate Range Refer above Finance/cash flow 3.0% 2% - 8% 1, 2, 3, 5, 7 Market 1.25% 1% - 5% 5, 6 Other 0.75% 0.25% - 5% 2, 4, 8 Total 5.00% 3.25% - 18% The rate assumed for project risk is within the ranges indicated in the PWC Valuation methodology survey 2014/2015 for Southern Africa for adding specific risk premiums which falls between 1%-4% for lower ranges and 5%-10% for upper ranges. Liquidity risk A liquidity risk premium of 5% has been assumed. The liquidity risk premium assumed for Burgan is due to the following reasons: 1. Burgan shares are not publicly traded nor listed on any public exchange 2. Burgan s main shareholder, VTTI, is not listed on any public exchange nor are its shares publicly traded 3. Burgan has limited access to financial markets and institutions for the purposes of raising finance 5% is in line with the value proposed in NERSA s discussion document 12. Calculation of Ke Using the parameters described above and the equation for Ke the real after tax cost of equity can be calculated as follows: Ke = (Rf + MRP Beta + SSP + a) (1 + LP) = (3.73% % % %) (1 + 5%) = 19.02% This figure represents a total premium above the market of 9.70% Cost Of Equity Adjustments Discussion Document For Petroleum Storage And Loading Facilities, 6th May 2014,Page 17, Nersa (2014) % - (3.73% % x 0.88) 20

26 It has been made clear in various recent NERSA decisions and communications that the maximum equity risk premium above the market that will be granted for Petroleum Storage and Loading facilities is 9%. Despite the view of Burgan s shareholders that the premium of 9.70% as calculated above is justified considering the risks facing the Burgan project, the total premium has been reduced to be in line with the maximum of 9%. This has been achieved in practice by reducing α from 5.00% to 4.33%. The final calculation of the real cost of equity used is thus: Ke = (Rf + MRP Beta + SSP + a) (1 + LP) = (3.73% % % %) (1 + 5%) = 18.30% Table 18 and Table 19 shows the cost of equity (Ke) and the resultant discount factors appropriate for each year of the project taking account of the project gearing. The Real Ke is used as an input to calculate the WACC in accordance with NERSA s convention. Table 18: Cost of equity (Ke) for the loading and the storage facility (IOC) Gearing (Opening) Beta Real Ke Nominal Ke FY14 35% % 23.54% FY15 35% % 25.67% FY16 35% % 26.34% FY17 35% % 25.16% FY18 35% % 24.92% FY19 35% % 24.69% Real Ke Nominal Ke Discount Factors Discount Factors Table 19: Cost of equity (Ke) for the pipeline (ROR) Gearing (Opening) Beta Real Ke Nominal Ke Real Ke Discount Factors Nominal Ke Discount Factors FY14 0% % 21.40% FY15 35% % 25.67% FY16 35% % 26.34% FY17 35% % 25.16% FY18 35% % 24.92% FY19 35% % 24.69%

27 7.2 Gearing and cost of debt For the purpose of this tariff application debt has been modelled as a constant 35% of the asset base in line with the IOC methodology for the Loading and Storage facility. For the pipeline ROR calculation the TOC gearing is zero in FY14 and thereafter modelled as a constant 35% of TOC assets for the remaining periods of the project i.e. from FY15 FY37, in order to maintain consistency with Burgan s expected capital structuring schedule. Based on the interactions with potential lenders to date, the Prime rate is a reasonable estimate of the cost of debt that Burgan will be able to raise. As at time of application this would indicate a debt cost of 10.50% before Tax, yielding 7.56% After Tax. Using Burgan s assumption of 5.8% for inflation for FY17 the Real After tax cost of debt is 1.66% for FY Weighted Average Cost of Capital (WACC) As described earlier the after tax WACC is required for both the IOC annual allowable revenue calculation and the ROR method. The appropriate values for WACC are shown in Table 20 and Table 21 using the above calculations for the cost of equity (Ke), the cost of debt (Kd), the gearing assumptions and the macro-economic estimates. The discount factors are based in FY17 in order to derive the FY17 tariff. All present values are thus FY17 values. Table 20: Weighted Average Cost of Capital (WACC) for the loading and storage facility Gearing (Opening) Ke (after Tax, Real) Kd (after Tax, Real) After Tax WACC Real After Tax WACC Nominal After Tax WACC Discount Factor Real After Tax WACC Discount Factor Nominal FY14 35% 18.30% 2.01% 12.60% 17.59% FY15 35% 18.30% 0.50% 12.07% 19.05% FY16 35% 18.30% 0.71% 12.14% 19.77% FY17 35% 18.30% 1.66% 12.48% 19.00% FY18 35% 18.30% 1.86% 12.54% 18.85% FY19 35% 18.30% 2.05% 12.61% 18.69% Table 21: Weighted Average Cost of Capital (WACC) for the pipeline Gearing (Opening) Ke (after Tax, Real) Kd (after Tax, Real) After Tax WACC Real After Tax WACC Nominal After Tax WACC Discount Factor Real After Tax WACC Discount Factor Nominal FY14 0% 16.25% 2.01% 16.25% 21.40% FY15 35% 18.30% 0.50% 12.07% 19.05% FY16 35% 18.30% 0.71% 12.14% 19.77% FY17 35% 18.30% 1.66% 12.48% 19.00%

28 Gearing Ke (after Kd (after After Tax After Tax WACC (Opening) Tax, Real) Tax, Real) WACC Real Nominal After Tax WACC Discount Factor Real After Tax WACC Discount Factor Nominal FY18 35% 18.30% 1.86% 12.54% 18.85% FY19 35% 18.30% 2.05% 12.61% 18.69% Volume forecast 8.1 Total volumes Burgan will run its operation on a throughput basis, charging customers per cubic metre of product dispatched from the terminal. Actual throughput rates achieved per year will fluctuate substantially depending on factors outside of Burgan s control and related to the business requirements of its customers. In order to ensure the maximum efficient use of the assets Burgan will contract with its customers based on minimum annual throughput through the use of take-or-pay provisions. In order to calculate a reasonable annual throughput volume forecast for tariff calculation purposes Burgan has considered the constraints on the terminal s outbound capacity (the inbound capacity being subject to fewer constraints). The outbound capacity is limited by health, safety and environmental considerations. These relate to the extent to which the terminal infrastructure is utilised in order to maximise the number of tank turns, and the natural restrictions on the dispatch of product by road created by traffic considerations through the port area. Due to safety restrictions tanker truck vehicles may not operate after 10pm and before 5am which restricts the ability for the terminal to operate in a true 24/7 mode. Table 22 shows the calculation of annual throughput based on a conservative assumption of average truck capacity, resulting in a figure of million litres. NERSA s own assessment of the terminal capacity as stated in the RFD for the operating license suggested an annual throughput volume of m 3 ( million litres) based on a traffic study associated with the Environmental Impact Assessment process. For tariff calculation purposes Burgan has assumed an annual volume of million litres. This figure is considered to be a reasonable assessment of the capacity of the terminal. Table 22: Throughput capacity for Burgan terminal Amount Unit Average Truck Capacity 30 m million litres Number of Loading Bays 5 Loading Bay Dispatch Rate 1 trucks per hour Hours per Day 17 Days per Week 7 Weeks per Year 52 Total Throughput million litres per annum 23

29 Burgan expects to begin operations in mid FY17 and thus will not have full throughput for the FY17 financial year. A throughput capacity of 500 million litres has been assumed for the first year of operation. As Burgan s lease agreement with TNPA terminates end of June FY37 the last financial year will also only have half a year s volumes. Burgan expects to receive product into the terminal via both the loading facility and the pipeline. Based on current indications from customers the volume split is expected to be 45% via the Loading facility and 55% via the pipeline. Table 23 shows the volume forecast for each facility for all operational years considered in this application. Table 23: Volume forecast (million litres) Loading Facility Pipeline FY FY FY Storage Facility Tariff calculation In this section we present the calculation of the loading, storage and pipeline tariffs. The loading and storage tariffs are calculated using the IOC formulation of section levelised over the project volumes which results in a base value for FY17 that must be escalated by inflation for subsequent years of the project. We calculate the estimated future tariff and tabulate the estimated revenue for each year of the project based on the estimated inflation and volume assumptions. As NERSA will set the pipeline tariff using the ROR /Allowable Revenue methodology we have calculated a tariff using this methodology for the pipeline. 9.1 Loading facility tariff calculation Levelised IOC tariff calculation for the loading facility Table 24 shows the annual allowable revenue calculation for the loading facility. 24

30 Table 24: Allowable revenue for the loading facility using the IOC method (R m) Return on RAB Operating Costs Decommissioning Tax Total Allowable Revenue FY FY FY The annual allowable revenues for the project life are discounted at the nominal After Tax WACC to yield a present value of R50.69m in FY17 money. 14 Volumes are discounted at the real After Tax WACC to yield the present value of the volumes at million litres. The FY17 base value is calculated by dividing the present value of the revenue by the present value of the volumes to yield 1.47 cents/litre in FY17 money. Table 25: Levelised IOC tariff calculation for the loading facility PV at WACC (After Tax, Nominal) Allowable Revenue R'm PV at WACC (After Tax, Real) Volume Million Litres Tariff T0, FY17 (cents / litre) 1.47 For illustrative purposes we plot the levelised tariff path for the loading facility in Figure 3 and show the levelised revenue for each year in Table The full Excel dataset required for this calculation will be submitted to NERSA as part of this application. 25

31 Tariff (cents/litre) Volumes Levelised IOC IOC FY15 FY16 FY17 FY18 FY19 FY20 FY21 FY22 FY23 FY24 FY25 FY26 FY27 FY28 FY29 FY30 FY31 FY32 Volume million litres/annum FY33 FY34 FY35 FY36 FY37 Figure 3: Tariff path comparison for the loading facility Table 26: Levelised IOC tariff and revenue for the loading facility Volume million IOC Allowable IOC Tariff Levelised IOC Levelised IOC litres Revenue R'm cents/litre Tariff cents/litre Revenue R'm FY FY FY Storage facility tariff Levelised IOC tariff calculation for the storage facility Table 27 shows the annual allowable revenue calculation for the storage facility. Table 27: Allowable revenue for the storage facility using the IOC method (R m) Return on RAB Operating Costs Decommissioning Tax Total Allowable Revenue FY FY FY

32 The annual allowable revenues for the project life are discounted at the nominal After Tax WACC to yield a present value of R m in FY17 money. 15 Volumes are discounted at the real After Tax WACC to yield the present value of the volumes at million litres. The FY17 base value is calculated by dividing the present value of the revenue by the present value of the volumes to yield cents/litre. Table 28: Levelised IOC tariff calculation for the storage facility PV at WACC (After Tax, Nominal) Allowable Revenue R'm PV at WACC (After Tax, Real) Volume Million Litres Tariff T0, FY17 (cents / litre) For illustrative purposes we plot the levelised tariff path for the storage facility in Figure 4 and show the levelised revenue for each year in Table Volumes Levelised IOC IOC Tariff (cents/litre) Volume million litres/annum 0 0 FY15 FY16 FY17 FY18 FY19 FY20 FY21 FY22 FY23 FY24 FY25 FY26 FY27 FY28 FY29 FY30 FY31 FY32 FY33 FY34 FY35 FY36 FY37 Figure 4: Tariff path comparison for the storage facility 15 The full Excel dataset required for this calculation will be submitted to NERSA as part of this application. 27