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Independent Pricing and Regulatory Tribunal

Maximum fees and charges for cruise ships in Sydney Harbour

Transport — Issues PaperMarch 2016

Maximum fees and charges for cruise ships in Sydney Harbour

Transport — Issues Paper March 2016

ii IPART Maximum fees and charges for cruise ships in Sydney Harbour

© Independent Pricing and Regulatory Tribunal of New South Wales 2016

This work is copyright. The Copyright Act 1968 permits fair dealing for study, research, news reporting, criticism and review. Selected passages, tables or diagrams may be reproduced for such purposes provided acknowledgement of the source is included.

ISBN 978-1-925340-60-0 DP186

The Tribunal members for this review are:

Dr Peter J Boxall AO, Chairman

Ms Catherine Jones

Mr Ed Willett

Inquiries regarding this document should be directed to a staff member:

Melanie Mitchell (02) 9113 7743

John Smith (02) 9113 7742

Jenny Suh (02) 9113 7775

Independent Pricing and Regulatory Tribunal of New South Wales PO Box K35, Haymarket Post Shop NSW 1240 Level 15, 2-24 Rawson Place, Sydney NSW 2000

T (02) 9290 8400 F (02) 9290 2061

www.ipart.nsw.gov.au

Maximum fees and charges for cruise ships in Sydney Harbour IPART iii

Invitation for submissions

IPART invites written comment on this document and encourages all interested parties to provide submissions addressing the matters discussed.

Submissions are due by 22 April 2016.

We would prefer to receive them electronically via our online submission form <www.ipart.nsw.gov.au/Home/Consumer_Information/Lodge_a_submission>.

You can also send comments by mail to:

Review of cruise ship site occupation charges Independent Pricing and Regulatory Tribunal PO Box K35, Haymarket Post Shop NSW 1240

Late submissions may not be accepted at the discretion of the Tribunal. Our normal practice is to make submissions publicly available on our website <www.ipart.nsw.gov.au> as soon as possible after the closing date for submissions. If you wish to view copies of submissions but do not have access to the website, you can make alternative arrangements by telephoning one of the staff members listed on the previous page.

We may choose not to publish a submission—for example, if it contains confidential or commercially sensitive information. If your submission contains information that you do not wish to be publicly disclosed, please indicate this clearly at the time of making the submission. IPART will then make every effort to protect that information, but it could be disclosed under the Government Information (Public Access) Act 2009 (NSW) or the Independent Pricing and Regulatory Tribunal Act 1992 (NSW), or where otherwise required by law.

If you would like further information on making a submission, IPART’s submission policy is available on our website.

Contents

v IPART Maximum fees and charges for cruise ships in Sydney Harbour

Contents

Invitation for submissions iii

1 Introduction 1 1.1 What IPART has been asked to do 1 1.2 How we propose to conduct the review 2 1.3 The structure of this paper 3 1.4 Issues we seek comment on 4

2 Context for this review 6 2.1 The Port Authority’s roles, functions and cruise ship terminals 6 2.2 Cruise ship visits to Sydney Harbour 9 2.3 The Port Authority’s services and charges for cruise ships in Sydney

Harbour 11 2.4 Illustrative cost of the Port Authority’s charges for a typical cruise ship

visit 14

3 Our proposed approach 17 3.1 Overview of our proposed approach 17 3.2 Identify the services the Port Authority provides for cruise ships 18 3.3 Estimate the revenue required to recover efficient costs 18 3.4 Decide on forecasts of cruise ship visits 19 3.5 Assess the options for a pricing mechanism 19 3.6 Make our recommendations 20

4 Identifying the services provided by the Port Authority to cruise ships 21 4.1 Why it is important to consider all cruise ship services and charges 21 4.2 The Port Authority’s cruise ship services 22 4.3 Determine whether services should be contestable 23 4.4 Determine whether services should be charged separately 23

5 Estimating the revenue requirement 24 5.1 Building block method 24 5.2 Using a 5-year review period 26 5.3 Using separate building block models for the Port Authority’s different

services and berthing facilities 26 5.4 Estimating the allowance for operating expenditure 27 5.5 Estimating efficient capital expenditure 28 5.6 Estimating the allowance for a return on assets 29

Contents

vi IPART Maximum fees and charges for cruise ships in Sydney Harbour

5.7 Estimating the allowance for depreciation 35 5.8 Estimating the allowance for meeting tax obligations 35 5.9 Estimating the allowance for working capital 36

6 Forecasting cruise ship visits 37 6.1 Historical cruise ship visits 37 6.2 Forecast cruise ship visits 38

7 Assessing the options for price structure or pricing mechanism 39 7.1 Proposed criteria for assessing the options 39 7.1 Key issues the options need to address 40 7.2 Option 1: Current site occupation charge structure 41 7.3 Option 2: A two-part tariff 43 7.4 Option 3: An auction system 44

8 Making our recommendations 48 8.1 Commercial viability of the Port Authority 48 8.2 Total port costs and charges incurred per visit 49 8.3 Equivalent charges in other jurisdictions 50 8.4 Benefits of the cruise industry to the NSW economy 50 8.5 Changes to the regulatory framework and other reforms 51

Appendices 53 A Terms of reference 55 B More information on port charges 58 C IPART’s WACC methodology 62

1 Introduction

Maximum fees and charges for cruise ships in Sydney Harbour IPART 1

1 Introduction

Sydney is a popular destination for local and international cruise ships, and the number of ships visiting has grown strongly in recent years. In 2014-15, Sydney Harbour hosted 281 cruise ship visits1, more than any other port in Australia. An even greater number are scheduled to visit this year, including some of the world’s largest cruise ships.

The Port Authority of New South Wales (the Port Authority), a state-owned corporation, owns and operates two dedicated cruise passenger terminals in Sydney Harbour – the Overseas Passenger Terminal (OPT) in Circular Quay, and the White Bay Cruise Terminal (White Bay) near Balmain. The demand to use the OPT is increasing as larger cruise ships2 can’t fit under the Sydney Harbour Bridge to dock at White Bay. The OPT is now operating near full capacity during the peak cruising season.

In the context of this strong growth in cruise ship visits and limited passenger terminal capacity, it is important the prices the Port Authority charges cruise ships for occupying the terminals:

generate enough revenue to enable the Port Authority to operate the terminals efficiently and maintain their commercial viability over the long-term, and

send price signals to encourage the cruise industry to use the terminals efficiently.

At the same time, it is important that the impact of prices on the growth of cruise ship visits to Sydney is considered.

1.1 What IPART has been asked to do

The Premier of NSW has asked the Independent Pricing and Regulatory Tribunal of NSW (IPART) to conduct a review and make recommendations on the maximum site occupation charges the Port Authority should levy on cruise ships for using the OPT, White Bay and any other berths and moorings in Sydney Harbour.

1 Port Authority of NSW, Annual Report 2014-15, p 17. 2 Cruise ships over 80,000GT.

1 Introduction

2 IPART Maximum fees and charges for cruise ships in Sydney Harbour

Our terms of reference for this review ask us to recommend charges that:

Reflect the efficient capital and operating costs of providing the Port Authority’s existing site occupation services, and the scope for greater efficiency in providing these services so as to reduce costs, improve passenger experience and enhance efficiencies and turnaround times.

Include an appropriate price structure or other pricing mechanism that promotes the allocative efficiency of the Port Authority’s cruise ship infrastructure so as to maximise the economic benefits to the NSW economy, while avoiding cross-subsidies and overly complex pricing structures.

Take account of the need to maintain the commercial viability of the Port Authority’s cruise ship infrastructure.

We have also been asked to recommend an appropriate approach for updating the maximum site occupation charges annually. This approach should take account of administrative costs involved, be clear and simple, and provide certainty over the medium term for the cruise industry and the Port Authority.

In addition, the terms of reference ask us to have regard to a range of matters in making our recommendations. These include:

total port costs and charges incurred per visit by the cruise industry for each terminal/berth/mooring

equivalent charges applicable to the cruise industry in other national and international jurisdictions and the rates of return derived from these charges in these jurisdictions

the benefits of the cruise industry to the NSW economy and the effect any recommendations may have on the viability and growth of the industry

potential changes to the regulatory framework to encourage the efficient operation of the passenger cruise terminal facilities, and

potential reforms that could provide savings to business and the community, including net benefits for NSW, and budget implications for Government.

A copy of our terms of reference is provided at Appendix A.

1.2 How we propose to conduct the review

For this review, we will conduct a public consultation process, obtain expert advice, and undertake our own research and analysis. This paper is the first step in our consultation process, and identifies key issues on which we are seeking stakeholder input.

1 Introduction


We invite all interested parties to make submissions in response to the Issues Paper by 22 April 2016. (See page iii for information on how to make a submission.) We also plan to consult directly with the Port Authority and the cruise ship industry to gather further information.

We will release a Draft Report in June 2016 to explain our draft findings and recommendations, and seek submissions in response to this report. We will also hold a public forum in July 2016 to give stakeholders another opportunity to respond to the report. We will consider all submissions and public forum comments on the Draft Report before making our final recommendations and providing our Final Report to the Minister in September 2016.

Table 1.1 sets out an indicative timetable for the review. We will update this timetable on our website as the review progresses.

Table 1.1 Review timetable

Milestone Date

Release Issues Paper 21 March 2016

Submissions to Issues Paper due 22 April 2016

Release Draft Report June 2016

Public workshop July 2016

Submissions to Draft Report due July/August 2016

Release Final Report September 2016

1.3 The structure of this paper

The following chapters provide more information on the review, our proposed analytical approach and the issues we will consider:

Chapter 2 outlines the context for the review, including information on the cruise ship visits to Sydney Harbour and the Port Authority, the services it provides and the charges it levies.

Chapter 3 provides an overview of the analytical approach we propose to use to make our recommendations.

Chapters 4 to 8 discuss each of the key steps in this approach, including what we will consider in each step.

The issues on which we particularly seek stakeholder comment are highlighted in these chapters. For convenience, they are also listed below. Please feel free to comment on any or all of the issues, or provide other information or comments you consider relevant to the review and our terms of reference.

1 Introduction


1.4 Issues we seek comment on

The issues on which we particularly seek stakeholder comment are highlighted in the following chapters. For convenience, they are also listed below. Please feel free to comment on any or all of the issues, or provide other information or comments you consider relevant to the review and our terms of reference.

1 Do you agree with our proposed approach to the review? Are there any alternative approaches that would better meet the terms of reference, or any other issues we should consider? 20

2 What Port Authority services to cruise ships could be contestable? Are there any legislative or regulatory provisions that restrict the contestability of some services? 23

3 Would it be more efficient to include the compulsory charges outlined in Table 4.1 in the site occupation charge? Which charges should or should not be included in the site occupation charge? 23

4 Do you agree with our proposed approach to share supplementary revenue equally between the Port Authority and customers? 26

5 Do you agree with our proposed review period of five years? If not, what period do you prefer and why? 26

6 Should land at terminals and berthing precincts be valued based on existing use or most valuable use? 30

7 Do you agree with our proposed approach to valuing the initial asset base and allocating shared assets? Are there other approaches or issues we should consider? 32

8 Do you agree with our proposed approach to determining the industry-specific WACC parameters? Are there any other comparable businesses we should consider? 35

9 Do you agree with our overall proposed implementation of the building block model? Are there any other issues we should consider? 36

10 Are there other sources of information or other issues we should consider in deciding on forecasts of cruise ship visits? Is there a need for a mechanism to manage demand risk? 38

11 Do you agree with our proposed criteria for assessing the options for a price structure or pricing mechanism? Are there any other criteria we should consider? 40

1 Introduction


12 What are your views on the three preliminary options for a price structure or pricing mechanism – the current site occupation charge structure; a two-part tariff; and an auction system? Are there any other benefits or limitations we have not considered? Are there other alternatives you would like to see considered? 47

13 What sort of notice or transition period would be required to implement a new price structure or pricing mechanism? 47

14 Should bookings for slots be based on shorter time periods than the current 24-hour slot? Are there any other methods to increase the number of ships that can berth at a terminal in peak times? 47

15 What type of non-Port Authority charges are incurred by cruise ships for a typical visit to Sydney Harbour? How much are these charges? 50

16 What are the external costs and benefits of cruise ships in Sydney Harbour? 51

17 Are there any changes to the regulatory framework or reforms that would encourage more efficient operation of the passenger cruise terminals or provide savings or net benefits to the community? 51

2 Context for this review



IPART is reviewing the site occupation charges the Port Authority levies on cruise ships for using the passenger terminals in Sydney Harbour. We’ve been asked to recommend maximum site occupation charges that reflect the efficient costs of providing the terminals, promote the allocative efficiency of the infrastructure involved, and maintain the commercial viability of this infrastructure. To provide the context for this review, the sections below outline:

the Port Authority’s roles, functions and passenger terminals in Sydney Harbour

the number and growth in cruise ship visits to Sydney Harbour

the services the Port Authority provides to visiting cruise ships and the charges it levies for these services, and

the total cost of these services for a typical cruise ship.

2.1 The Port Authority’s roles, functions and cruise ship terminals

The Port Authority is a state-owned corporation that provides a variety of port and maritime services in Sydney Harbour, Port Botany, Port Kembla and the ports of Newcastle, Yamba and Eden. It was formed on 1 July 2014 when the Sydney, Newcastle and Port Kembla Port Corporations were amalgamated following the NSW Government’s long-term leasing of each corporation’s landside operations.

2.1.1 The Port Authority’s roles and functions

The Port Authority’s statutory objectives and functions are derived from the State Owned Corporations Act 1989, Ports and Maritime Administration Act 1995 and its Port Safety Operating Licence. In addition to operating the cruise ship terminals at Sydney Harbour, its responsibilities in all ports include:

the role of Harbour Master

management of harbour/port approaches and channels

safety of navigation and shipping movements

pilotage



port security

safety of operations

management of dangerous goods regulations

contingency planning and emergency response to marine-based incidents, and

clean-up of spills in the marine environment.3

The Port Authority provides these services for both cruise and non-cruise trade vessels. Around 10% of chargeable vessel movements in Sydney Harbour and Port Botany relate to cruise ships (Figure 2.1).

Figure 2.1 Chargeable vessel visits in Sydney, 2014-15

Note: Trade vessel visits include Sydney Harbour and Port Botany.

Data source: Port Authority of NSW, Annual Report 2014-15, p 17.

While the Port Authority owns many of the assets that are used to provide its services, the seabeds of Sydney Harbour, Botany Bay, Newcastle Harbour and Port Kembla and the channels and berthing boxes are owned by Roads and Maritime NSW (RMS). These are licensed to the Port Authority for its non-exclusive use.

2.1.2 The Port Authority’s passenger terminals in Sydney Harbour

The Port Authority owns and operates two dedicated passenger terminals – OPT and White Bay. The Port Authority resources each cruise terminal with an onsite Duty Manager of Operations supported by an asset manager who manages and oversees all aspects of terminal operations including ship day activities. In addition to these, it has non-dedicated passenger terminal White Bay 4, which is available, but infrequently used by cruise ships. 3 Port Authority of NSW, Annual Report 2014-15, p 9.

Chargeable cruise ship visits ,

281, 10%

Chargeable trade vessel visits ,

2476, 90%



Overseas Passenger Terminal

The OPT is located on Circular Quay, within sight of some of Sydney’s major tourist attractions and on the edge of the CBD. It has undergone several makeovers since it opened in 1960. The most recent upgrade, completed in 2014-15, improved the terminal’s efficiency and capacity to service the growing cruise market. This upgrade included a new mezzanine floor for passenger check-in, new lifts, escalators and a large travelator and more space for baggage. The new design and additional floor space enables passengers to embark and disembark at the same time reducing a ship’s turnaround time by up to 2.5-hours.4

At the same time as the terminal upgrade, the OPT wharf was extended by 60 metres so that it can host the increasing number of large cruise ships visiting Sydney. For example, this includes the Ovation of the Seas which is scheduled to berth at the OPT in December 2016. At close to 170,000 gross tonnes and 5,000 passengers, this will be the largest cruise ship to sail in Australian waters.

White Bay Cruise Terminal

This is a modern terminal located at White Bay 5. Officially opened on 19 April 2013, it features approximately 4,000 square meters of floor space, a dedicated baggage drop facility and short-term parking for up to 200 vehicles. The arrivals and departures halls can cater for up to 2,400 passengers at a time.5 It can also host functions or events on non-cruise days.

The White Bay Cruise Terminal is the designated ‘home port’ for cruise ships serving the domestic market.

Other berthing and mooring facilities

A non-dedicated passenger terminal can be provided adjacent to White Bay 5, at White Bay 4, by erecting temporary structures for customer clearance and baggage storage. This enables two cruise ships to berth at White Bay at the same time. It is also possible for two cruise ships to share the White Bay Cruise Terminal operational space, sharing the costs for security and cleaning, with no requirement for temporary infrastructure at White Bay 4.

4 Advice from the Port Authority of NSW. 5 Sydney Ports Corporation, Annual Report 2012-13, October 2013, p 29.



There are also berthing facilities at Glebe Island 1 and 2 that cruise ships could use if the OPT, White Bay Cruise Terminal and White Bay 4 are all occupied. However, the Port Authority has informed us that no cruise ship has docked at Glebe Island in the last 30 months and they have not forecast any cruise ships using those facilities in the future. Most of the time, these and other non-passenger berthing facilities6 are used for:

loading and unloading vessels transporting construction materials, other bulk materials and bulk liquids

refuelling cruise and other ships

undertaking emergency response and repairs to vessels.7

Additional mooring facilities are also available on the buoys at Athol Bay and Point Piper.

2.2 Cruise ship visits to Sydney Harbour

In 2014-15 Sydney Harbour hosted a record 281 cruise ship visits, making it the most visited cruise ship port in Australia. In line with the national trend, the number of cruise ship visits has grown steadily over the last five years.

These visits fall into several categories (see Box 2.1). Typically, they involve an arrival in the morning and departure in the afternoon or evening on the same day. However, some cruise ships stay in Sydney Harbour overnight.

The Port Authority publishes a cruise schedule on its website8 that enables cruise ship operators to see when the OPT, White Bay Cruise Terminal and White Bay 4 are available in the coming years. The schedule shows the projected arrival and departure times of cruise ships booked to berth at each facility. Currently, bookings are made on a first come first served basis, with established protocols around this process.9 The Port Authority is in the process of reviewing its booking system and is currently consulting with stakeholders independently of this review.

6 Including White Bay 3 and Glebe Island 7 and 8. 7 Port Authority of NSW, Annual Report 2014-15, p 17; Port Authority of NSW, Annual Report

2013-14, p 13. 8 The Port Authority cruise schedule is available at

http://www.sydneyports.com.au/port_operations/cruise_schedule. 9 The passenger vessel protocol is available at

http://www.sydneyports.com.au/__data/assets/pdf_file/0016/33226/Passenger_Vessel_Booking_Protocol_2016_Final.pdf.



Box 2.1 Cruise ship visit categories

Cruise ship visits can be categorised into:

Home port – these vessels are based in Sydney and their passengers are mainlyNSW-based. Their destinations are South Pacific islands, New Zealand, otherAustralian cities or days at sea. These cruises start and end in Sydney and take placeacross the year.

Seasonal – these vessels are deployed from the Northern Hemisphere during theiroff-season (October – April) to undertake Asia-Pacific cruises. The passengers areAustralian and international tourists.

Round the world/vessels in transit – these vessels are based overseas and Sydneyis one destination on a longer cruise through the South Pacific or around the world.The majority of visits are in peak summer months (January - February) and thepassengers are mostly international tourists.

The majority of cruise visits take place in the summer months, and the OPT is the most frequently used berthing facility (Figure 2.3). However, the terminal is already operating near capacity during the peak season. In addition, there is a growing trend for larger cruise ships to visit Sydney. These larger ships can only use the OPT as they can’t fit under the Sydney Harbour Bridge to dock at White Bay. The NSW Government has committed to a Cruise Development Plan to address this and other issues related to the growth of the cruise industry.10 The Australian Government has also conducted a review of berthing facility options east of the Sydney Harbour Bridge.11

10 NSW Trade & Investment, Visitor Economy Industry Action Plan – The NSW Government Response

to the Final Report of the Visitor Economy Taskforce, December 2012, p 24. 11 Australian Government, Independent Review of the Potential for Enhanced Cruise Ship Access to

Garden Island Sydney, February 2012.



Figure 2.2 Sydney Harbour passenger ship visits by month (2014-15)

Data source: Port Authority of NSW, Annual Report 2014-15, p 17.

2.3 The Port Authority’s services and charges for cruise ships in Sydney Harbour

As discussed in section 2.1.1, the Port Authority provides three main services to all cruise ships in Sydney Harbour, for which it levies compulsory charges:

site occupation at berth or terminal

navigation services, and

pilotage.

It also provides mooring and other miscellaneous services, for which it charges cruise vessels separately. Not all of these services are provided directly by the Port Authority. The Port Authority may outsource the service or act as the intermediary to organise the service, in which case it passes through the cost directly to the cruise ship.

While we have only been asked to make recommendations about the site occupation charge, we propose to also consider the other types of charges as part of our review. This is necessary to ensure our recommendations meet our terms of reference by avoiding cross-subsidies between these charges. Each of these charges is discussed below.

We recognise that cruise ship passengers also pay a passenger movement charge to the Australian Government. Cruise ships may also arrange and pay for services unrelated to the Port Authority, such as refuelling and restocking food and beverages. We will not review these other charges, as they are outside the scope of our terms of reference.

0

5

10

15

20

25

30

Jul Aug Sep Oct Nov Dec Jan Feb Mar Apr May Jun

2014 2015

OPT White Bay 4 & 5



2.3.1 Site occupation charge

The site occupation charge is a fee for the use of a berthing facility. Currently, the site occupation charge is based on the number of incoming passengers arriving on the cruise ship12, and is charged per 24-hour slot. This means if a cruise ship’s stay at port is 12 hours, it pays for one 24-hour slot. If it stays 25 hours, it pays for two 24-hour slots. (Table 2.1 summarises the current level of these charges.)

Table 2.1 Site occupation charge for cruise ships in Sydney Harbour – per passenger, per 24-hour slot (from 1 January 2016)

Site type Charge (ex GST)

Dedicated passenger terminal (OPT and White Bay 5)

$30

Non-dedicated passenger terminal (White Bay 4)

$15

Source: Port Authority of NSW, Schedule of Port Charges Sydney - Effective 1 January 2016.

The site occupation charge for White Bay 4 is half the rate for the dedicated passenger terminals because, as discussed above, there are no permanent passenger facilities there. Temporary shelters are erected when it is used by a cruise ship, and the ship pays for the cost of this. Some cruise ships – for example vessels in transit – prefer to book White Bay 4 to take advantage of the lower charge.

Between 1992 and 2013, the site occupation charge was based on an hourly fee for all cruise ships using the dedicated passenger terminals. This fee was set at $670 between 1 July 1992 and 30 June 1997. From 1 July 1997 to 30 June 2013, the site occupation charge remained fixed at $250 per hour to support the growth of the cruise industry. From 1 July 2000 to 30 June 2013, the site occupation charge for all other non-passenger berths remained at $200 per hour. However, since 1 July 2013, the charge has been based on a per passenger fee and increased to assist with financing infrastructure upgrades and to provide a commercial return on NSW’s investment in cruise ship facilities.13 This fee was originally set at $20 per passenger per 24-hour slot on 1 July 2013, but was discounted to $18 following feedback from the industry that they would not be able to recoup the fee from passengers who had made bookings prior to the fee’s implementation. The fee was increased to $25 per passenger on 1 July 2014 and $30 per passenger on 1 July 2015.

As well as the different rates that apply to the dedicated passenger terminals and other berthing facilities, some rules apply to the site occupation charge. These are discussed in Appendix B.

12 As recorded in the ship’s Inward Passenger Manifest Declaration, excluding infants and crew. 13 Sydney Ports Corporation, Annual Report 2012-13, October 2013, p 20.



2.3.2 Navigation services charges

Navigation Services Charges are authorised by the Ports and Maritime Administration Act 1995, Part 5, Division 2 and are payable in respect of the general use by a vessel of a designated port and its infrastructure.

The charges relate to the provision of the following services and facilities to vessels:

Channels and Berthing Boxes (Maintenance Dredging).

Hydrographical Surveys.

Navigation Ads.

Ports Operations (Communications, Traffic Control and Integrated Vessel Surveillance System).

Port Safety.

Port Security.

Emergency Response Service.

Environmental Control (Protection and Pollution Control).

Harbour Master’s Duties and Responsibilities.

These services improve the safe and efficient movement of vessels and protect the port’s environment and infrastructure.

Cruise ships (and all other commercial vessels) entering Sydney Harbour are required to pay for these navigational services each time they enter the port. The charge for these services is based on the gross tonnage (GT) of the vessel. The current charge is $0.5834/GT (excl. GST) per port entry, which came into effect on 1 January 2016. However, the Port Authority has advised us that all cruise vessels have a 35% discount on this rate, and a further rebate of 9.64% since August 2014. The 9.64% rebate was granted to all ship companies on the basis that during the financial year 2014-15 the OPT was being upgraded and cruise ships would likely experience a measure of inconvenience during the reconstruction works. The 9.64% will be reduced to 7.00% on 1 April 2016. The rebate will gradually be eliminated now that the OPT upgrade is completed.

Additionally, the 35% concession can be increased by a further 15% (ie, a 50% concession in total) for all passenger vessel visits after the 29th visit in a financial year. This concession applies on a group basis such that one company that operates more than one cruise line will benefit as the concession will apply to all vessels after the 29th visit in aggregate for that company.

As noted above, RMS owns the channels and berthing boxes in Sydney Harbour. As these are required by the Port Authority to provide its services, channel fees are paid by the Port Authority to RMS based on a percentage of the navigation service charge revenue per annum. The channel fee is currently set at 13.8% of



the navigation service charge (excluding Maritime Security Charges and GST). Under a Channel Licence Agreement between the two parties, RMS grants the Port Authority a non-exclusive licence to not only use the channels and berthing boxes, but also to undertake maintenance dredging; and to repair, maintain, install and remove navigation aids.

2.3.3 Pilotage charge

Cruise ships (and all other commercial vessels) entering, leaving or moving within Sydney Harbour must take on board a marine pilot to conduct their movement. The pilotage charge is calculated on a tiered basis based on the gross tonnage of the ship. Cruise ships pay the charge, plus a boarding fee, for each inbound and outbound movement within the harbour. As with the navigation services charges, pilotage charges for cruise ship vessels have been granted a rebate of 9.64%, since August 2014, to all ship companies in connection with the OPT upgrade. This rebate will be reduced to 7% on 1 April 2016. The rebate will gradually be eliminated now that the OPT upgrade is completed. More information on pilotage charges is provided in Appendix C.

2.3.4 Miscellaneous charges

Cruise ships can also incur other fees for a range of miscellaneous services, including mooring (which apply if the ship moors on a buoy), security, cleaning, furniture hire and water usage (as applicable). More information on these charges is provided in Appendix C.

2.4 Illustrative cost of the Port Authority’s charges for a typical cruise ship visit

As Chapter 1 indicated, our terms of reference for this review require us to have regard to a range of matters in making our recommendations on the Port Authority’s site occupation charge. These include the total costs of the Port Authority’s charges per cruise ship visit to Sydney Harbour, and the equivalent charges applicable in other Australian and international ports.

While we will do further work on these costs and charges, we have conducted preliminary analysis of the main port charges for two different cruise ship visits at the OPT and White Bay 5 in comparison with those that would apply at the ports in Melbourne and Brisbane. Table 2.2 summarises our assumptions for the calculations.



Table 2.2 Assumptions for the main port charge calculations

Cruise ship A Cruise ship B

Terminal OPT WB 5 Terminal

Type of berth Dedicated passenger berth Dedicated passenger berth

Gross tonnage 167,800 70,310

Length 348 meters 245 meters

Chargeable passenger number

4,905 1,950

Number of pilot movements 2 2

Length of stay at passenger berth

12 hours 12 hours

Note: For a cruise ship visit from 1 April 2016.

As Figure 2.3 shows, Cruise ship A berthed at the OPT would incur approximately $217,847 in site occupation, pilotage and navigation service charges. The site occupation charge makes up about 68% of the total charges. Cruise ship B, which is of a much smaller size and berthed at White Bay 5, would incur a total port charge of $93,340. The site occupation charge represents about 63% of the total charges.

Figure 2.3 Example port charges at OPT and White Bay compared to other ports (ex-GST)

Note: In Melbourne, site occupation is referred to as ‘berth hire’ and navigation is included in ‘channel fees’. In Brisbane, navigation includes Harbour dues and conservancy fees.

Data source: Port Authority of NSW, Schedule of Port Charges Sydney - Effective 1 January 2016; Port of Melbourne, Reference Tariff Schedule - Effective 1 July 2015; Port Phillip Sea Pilots Pty Ltd, Pilotage Rates - Effective1st July 2015; Port of Brisbane, Schedule of Port Charges as at 1 July 2015; Maritime Safety Queensland, Fees and charges, available at http://www.msq.qld.gov.au/About-us/Current-fees.aspx#pilotage.



These charges take account of the current 35% discount on navigation fees and 7% rebate on navigation and pilotage fees offered by the Port Authority to cruise passenger vessels from 1 April 2016. The charges do not include the additional 15% discount on navigation fees for passenger vessels exceeding 29 visits in a financial year (as it is not available to all vessels). We have based our calculations for Melbourne and Brisbane on published fees and charges, which do not include any unpublished discounts or rebates that may be available to passenger vessels at those ports.

In terms of the structure of these charges, there are some similarities and some differences between Sydney, Melbourne and Brisbane:

in Melbourne, cruise ships are charged a flat rate to use a port berth for the first 24 hours and an hourly rate thereafter (the charge is not based on passenger numbers)

in Brisbane, they are charged a flat rate per 24-hour period to use a multi-user terminal

also in Brisbane, pilotage charges are based on the length of the vessel, not the gross tonnage as in Sydney and Melbourne, and

at each of these ports, the navigation fees are based on the gross tonnage of the vessel.

3 Our proposed approach



We have developed an approach we propose to use to guide our analysis and decision-making for this review. The approach ensures we will consider all the matters specified in our terms of reference outlined in Chapter 1, and take account of the contextual issues discussed in Chapter 2.

Our proposed approach is similar to one we use in determining prices in some of the industries we regulate, such as the water industry. It makes use of key methodologies we have developed and tested over time. However, there is also an important difference between this review and our regulatory reviews. The prices we determine for regulated businesses are generally binding on these businesses. In this review, we are only making recommendations. The NSW Government will make the final decisions on the site occupation charge and associated charging arrangements.

The sections below provide an overview of our proposed approach and each of its key steps. Chapters 4 to 8 discuss each step in more detail, including our preliminary analysis and views where we have them.

3.1 Overview of our proposed approach

Our proposed approach involves five steps:

1. Identify all services for cruise ships provided by the Port Authority and determine whether any of these should be contestable and whether they should be levied separately or included in the site occupation charge.

2. Estimate the revenue required to recover the efficient costs of providing all the Port Authority’s cruise ship services over the price-setting period using our ‘building block’ methodology.

3. Decide on the forecast cruise ship visits over this period.

4. Assess the options for the price structure or pricing mechanism for the Port Authority’s cruise terminal and berthing services (ie, the services for which site occupation charges currently apply) by considering how well they would:

a) recover the efficient costs of providing the cruise terminal and berthing services given expected demand for them, and

b) promote the efficient use of infrastructure related to these services.



5. Make our recommendations based on the findings from the first three steps and having regard to the other matters in our terms of reference.

3.2 Identify the services the Port Authority provides for cruise ships

As discussed in Chapter 2, the Port Authority carries out a number of functions in addition to managing terminals and berthing facilities and cruise ships may incur a number of miscellaneous charges for these services in addition to site occupation, navigation and pilotage.

Our first step is to identify all the services that the Port Authority provides for cruise ships and review whether these services should be:

contestable – whether the cruise operator should be able to choose whether to procure the services from the Port Authority or another external provider, and

charged separately – whether the charges that apply should be levied separately or included in the site occupation charge

Currently, all primary (site occupation, navigation and pilotage) and miscellaneous services are either provided by or procured through the Port Authority. However, it may be more efficient for cruise vessels to procure some of these services directly through a third party. This may reduce costs and improve efficiency for both the Port Authority and the cruise operator.

For services that we determine are either more efficiently procured through the Port Authority, or must be procured through the Port Authority for other legislative or regulatory reasons (eg, for security reasons), we will examine whether these services are optional or compulsory – that is, whether the service is something that only some or all cruise ships undertake when they dock at the terminal or berth.

We will then determine whether it is more efficient for the Port Authority to charge for these services separately or bundled together (ie, as part of the site occupation charge).

3.3 Estimate the revenue required to recover efficient costs

In most industries where we determine prices, we use a building block method to estimate how much revenue the business needs to generate from prices over the determination period to recover the efficient costs of providing the regulated services to the required standard. This approach involves ‘building up’ this revenue requirement by calculating and adding individual ‘cost blocks’ such as the efficient operating costs, a return on assets and depreciation for each year of the determination period.



For this review, we propose to use this building block method to estimate the Port Authority’s revenue requirement to recover the efficient costs of providing each of its cruise ship services over a 5-year period (2016-17 and 2020-21).14 We will consider the Port Authority’s historical and projected operating and capital costs. We also propose to engage an external consultant to review the Port Authority’s historical and projected costs and provide advice to us on their efficiency.

Chapter 5 provides a more detailed description of the building block method and how we propose to apply it. It also discusses some of the key issues we will consider in this step and seeks comment from stakeholders.

3.4 Decide on forecasts of cruise ship visits

Once we have estimated the revenue requirement, the next step in our proposed approach is to decide on the forecast chargeable cruise ship visits to Sydney Harbour over the 5-year review period. We will use these forecasts to calculate the price levels needed to recover the revenue requirement for the Port Authority’s cruise terminal and berthing services over this period.

3.5 Assess the options for a pricing mechanism

The next step in our proposed approach is to assess the options for the price structure or other pricing mechanism. In line with the terms of reference for this review, we need to identify which option will best recover the efficient costs of the Port Authority’s cruise terminal and berthing services and send price signals that promote more efficient use of the infrastructure used to provide these services.

At this stage, we propose to investigate the merits of three options:

the current site occupation charge levied by the Port Authority as a single, variable charge on a per passenger basis

a two-part site occupation charge, comprising a fixed charge and a variable charge that could be based on passengers, tonnes or time, and

an auction system for booking slots at each cruise terminal or berthing facility.

We will also consider an appropriate approach to updating prices annually that considers administrative costs, promotes a clear and simple pricing structure and provides certainty over the medium term for the cruise industry and the Port Authority.

14 We will only estimate the efficient costs of services provided by the Port Authority in this step.

As Chapter 2 noted, the charges cruise ships pay for services from other parties are outside the scope of our review.



3.6 Make our recommendations

The final step in our proposed approach is to make our recommendations based on the findings from the first four steps and having regard to other matters in our terms of reference, including:

the effect of our recommendations on the commercial viability of the Port Authority

equivalent charges on cruise ship visits to other national and international ports and the rates of return derived from these charges

the benefits of the cruise industry to the NSW economy and the effect our recommendations on the viability and growth of the industry

changes required to the regulatory framework to encourage the efficient operation of the passenger cruise terminal facilities, and

potential reforms that could provide savings to business and the community, including net benefits for NSW, and budget implications for the NSW Government.

IPART seeks comments on the following

1 Do you agree with our proposed approach to the review? Are there any alternative approaches that would better meet the terms of reference, or any other issues we should consider?

4 Identifying the services provided by the Port Authority to cruise ships



The first step in our proposed approach is to identify all the services the Port Authority provides for cruise ships and determine whether any of these should be:

contestable – whether the cruise operator should be able to choose whether to procure the services from the Port Authority or another external provider, and

charged separately – whether the charges that apply should be levied separately or included in the site occupation charge.

This chapter discusses the relevant cruise ship services for which charges are levied by the Port Authority. It explains how we will determine whether the service should be contestable and charged separately or bundled in with the site occupation charge.

4.1 Why it is important to consider all cruise ship services and charges

Our terms of reference ask us to recommend charges that reflect the scope for greater efficiency in supply of existing services so as to reduce costs and enhance efficiencies and turnaround times. It also asks us to avoid cross-subsidies in our pricing structure. As such, we need to identify whether the services provided by, or procured through, the Port Authority are being provided at least cost. If the service could be provided directly by a third party at a lower cost or in a shorter timeframe, then this could reduce costs, improve efficiencies and reduce turnaround times for operators and passengers.

If the service is routinely provided to all (or a majority of) cruise ships, then it is a standard operating cost for the Port Authority that can be forecasted in advance. As such, it may be more efficient to include those costs in the site occupation charge, rather than administer multiple separate charges. If the service is provided on an ad hoc basis to some cruise ships, it may be more efficient to charge separately so that only the users of that service pay for it.



For all services we will consider whether the current charge reflects the efficient cost of providing that service. If charges do not reflect the efficient cost of providing a service it means that there may be some cross-subsidisation of these costs through other charges, such as the site occupation charge or vice versa. How we propose to determine efficient costs is discussed further in Chapter 5.

4.2 The Port Authority’s cruise ship services

Currently, all the services provided to cruise ships are not contestable. They must be provided by, or procured through, the Port Authority.15 Not all of these services are provided directly by the Port Authority. The Port Authority may outsource the service or act as the intermediary to organise the service, in which case it passes through the cost to the cruise ship. Some of these services are compulsory – they are undertaken by all cruise vessels that dock in Sydney Harbour – and some are optional – they are undertaken by only some cruise vessels. Table 4.1 summarises the current cruise ship services and how they are provided.

Table 4.1 Current services and charges for cruise ships in Sydney Harbour

Charge type Service type Contestable

Site occupation Compulsory No

Navigation services Compulsory No

Pilotage Compulsory No

Buoy (per vessel, per hour) Optional No

Navigation light handling fee (flat rate per vessel, per use)

Optional No

Security Compulsory No

Cleaning Charges (per Vessel Call) - OPT Compulsory No

Cleaning Charges (per Vessel Call) - WB5 Compulsory No

Standard Furniture Hire Compulsory No at WB5 or OPT

Non-Standard Furniture Hire Optional No at WB5 or OPT

Hose Handling Fee Optional No if required

Additional Hours Gangway(s) Hire (per hour) - From 8:00pm to 6:00am

Optional No

Water per KL Optional No

Berthing facility insurance surcharge (per vessel, per hire, per period)

Compulsory No

Source: As advised by the Port Authority of NSW.

15 Except for furniture hire at White Bay 4.



4.3 Determine whether services should be contestable

If a service could be provided directly to the cruise ship by another provider in the market, then the service is considered to be ‘contestable’. In this case a cruise operator can shop around to find the best service and price for their needs.

Services that may only be provided by or procured through the Port Authority are not contestable. The cruise ship does not have a choice in who provides or how much it pays for the service. For example, all ships entering Sydney Harbour must be guided by an experienced pilot, except in limited circumstances where a ship’s captain has the necessary skills and experience and has applied for an exemption. Currently, the Port Authority provides pilotage services on an exclusive basis.

Services may be non-contestable because of regulatory or legislative restrictions. For example, for safety or security reasons, the Port Authority may be the only provider currently authorised to provide the service.


2 What Port Authority services to cruise ships could be contestable? Are there any legislative or regulatory provisions that restrict the contestability of some services?

4.4 Determine whether services should be charged separately

Many of the services listed in Table 4.1 are compulsory – that is, they are routinely provided to all cruise ships. This means that a charge is levied for that service for every chargeable call. This may not be the most efficient way of charging for the service as it incurs additional administrative costs on behalf of the Port Authority and the cruise operator.

Services that are routinely performed should be able to be forecast in advance as a standard operating cost for the Port Authority. As such, it may be more efficient to include those costs in the site occupation charge, rather than through multiple separate miscellaneous charges.

If the service is optional – that is, it is undertaken for only some cruise ship visits, it may be more efficient to charge separately so that only the users of that service pay for it. For example, gangway hire, furniture hire and water.


3 Would it be more efficient to include the compulsory charges outlined in Table 4.1 in the site occupation charge? Which charges should or should not be included in the site occupation charge?

5 Estimating the revenue requirement



The next step in our proposed approach is to estimate the total revenue that is required to recover the efficient costs of providing the Port Authority’s cruise ship services. As Chapter 3 discussed, we propose to use the building block method for this step. The sections below:

provide an overview of the building block method

discuss our preliminary views on how we will apply this method, including:

– using a 5-year review period, and

– using separate building block models to estimate the efficient costs of providing pilotage services, navigational services, and cruise terminal and berthing services at each of the different passenger terminals and berthing facilities

outline how we propose to calculate each of the cost building blocks, including the key issues we will need to consider in doing so.

5.1 Building block method

5.1.1 Overview of the building block method

Under the building block method we build up the total revenue required to cover the total efficient costs of providing cruise ship services, which includes an allowance for:

Operating expenditure, which represents our estimate of forecast efficient operating, maintenance and administration costs associated with providing cruise ship services.

A return on assets used by the Port Authority to provide cruise ship services. This represents our assessment of the opportunity cost of the capital invested by the Port Authority, and ensures that it can continue to make efficient investments in capital in the future. To calculate it, we need to decide on the value of the initial asset base, and the appropriate rate of return.



A return of assets (depreciation). This allowance recognises that through the provision of cruise ship services, infrastructure will wear out over time and therefore revenue must recover the cost of maintaining the asset base. To calculate this allowance, we need to decide on the appropriate asset lives and depreciation method.

Meeting tax obligations. We calculate the allowances for a return on assets and calculate the allowance for tax as a separate cost block.

Working capital. This allowance represents the holding cost of net current assets.

Figure 4.1 shows that the sum of these allowances is the notional revenue requirement.

Figure 5.1 Overview of the building block model

Data source: IPART.

The Port Authority earns supplementary revenue from some of its assets, which is unrelated to cruise services. For example, it leases floor space at OPT to externally-managed restaurants and hires out facilities at White Bay and OPT (when not in use for cruise operations) for functions and events.

Allowance for a return OF assets

Operating and maintenance

expenditure

Allowance for taxation payments

Allowance for a return ON assets

Allowance for working capital

Not

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Consistent with other price reviews we conduct, we propose to deduct a proportion of this revenue from the revenue requirement in recognition that this revenue offsets some of the cost of holding assets used to service cruise operations. Our standard approach has been to deduct 50% of supplementary revenue, where assets in the asset base are being used to generate this revenue. This seeks to strike a balance between passing the benefits of this supplementary revenue to customers through lower prices, and providing the business with incentives to pursue opportunities to earn supplementary revenue from spare capacity.


4 Do you agree with our proposed approach to share supplementary revenue equally between the Port Authority and customers?

5.2 Using a 5-year review period

We propose to apply the building block model over a 5-year period, between 2016-17 and 2020-21. This means we could also recommend prices for this period.

There are advantages and disadvantages of longer and shorter review periods. For example, a longer review period would provide greater stability and predictability in site occupation prices. However, it would also involve increased risk associated with inaccuracies in the forecast data we used to recommend these prices, and the risk that changes in the industry will impact the effectiveness of our recommendations.

In our view, a 5-year period provides a reasonable balance between these competing factors, and is similar to the period we use in other industries.


5 Do you agree with our proposed review period of five years? If not, what period do you prefer and why?

5.3 Using separate building block models for the Port Authority’s different services and berthing facilities

We propose to estimate the efficient costs of providing all the Port Authority’s cruise ship services, and to use separate building block models for pilotage services, navigational services, and for services provided at each terminal and berthing facility. This is consistent with our terms of reference, which require that our recommendations reflect the efficient costs of providing existing cruise services, avoid cross-subsidies between these services, and have regard to total port costs and charges incurred by the cruise industry.



5.3.1 Separate building block models for pilotage and navigational services

Given that the assets involved in providing pilotage and navigational services are mostly discrete, we propose to use a separate building block model for each of these services. This will enable us to avoid including cross-subsidies in our recommended site occupation charges. It will also indicate the extent to which the current pilotage and navigational services charges are cost-reflective, and allow us to assess the impact of our recommendations on site occupation charges on the Port Authority’s overall cost recovery. Our ability to do this will depend on how accurately we can allocate these costs.

5.3.2 Separate building block models for the different terminals and berthing facilities

As Chapter 2 discussed, the assets used to provide the Port Authority’s cruise terminal and berthing services include the OPT, the White Bay Cruise Terminal and, to a lesser extent, berthing facilities at White Bay 4. White Bay 4 is not a dedicated passenger facility and is also used for other purposes.

In our view, using separate building block models for each terminal or berthing facility (or group of facilities) will enable us to recommend charges that better reflect the quality and quantity of services provided at each facility. This is consistent with the terms of reference, which ask us to consider whether there should be different charging schedules and arrangements for the use of different berthing facilities.

5.3.3 Charges for assets owned by other government entities

In general, our building block methodology takes account of all costs incurred to provide the relevant services. As Chapter 2 noted, RMS owns the channels and berthing boxes in Sydney Harbour that are used by the Port Authority to provide its services. The Port Authority pays a fee to RMS for use of the channel, which is 13.8% of its navigation revenue (excluding Maritime Security Charges and GST). This forms part of the Port Authority’s operating costs. We will consider the efficiency of the fees that the Port Authority pays to RMS as part of our review of efficient operating costs (see section 5.4).

5.4 Estimating the allowance for operating expenditure

The allowance for operating expenditure reflects our view of the efficient level of operating costs the Port Authority will incur in providing its cruise services over the review period. These costs include, among others, costs of labour, service contractors, utilities, maintenance and equipment.



We will estimate these costs based on detailed information provided by the Port Authority on its historical and projected operating and maintenance costs. This information will be separated by function – navigation, pilotage or cruise terminal and berthing facilities. Where costs are shared between functions, we propose to allocate them using our proposed methodology for allocating shared assets to the initial asset base (see section 4.6.1 below).

Only efficient costs will be included in the allowance for operating expenditure. Efficient costs may vary from the Port Authority’s actual costs in providing the service. Efficient costs represent what an efficient service provider would incur in providing the services at the quantity and level demanded by the industry, and subject to any external legislative requirements and regulatory standards over which the Port Authority has no control.

We propose to engage an external consultant to review the Port Authority’s actual and forecast costs and advise us on their efficiency. Some of the factors that we will ask the consultant to consider include:

the legislative requirements and regulatory standards associated with the provision of cruise ship services (eg, safety standards, OHS, award wage rates paid by the Port Authority)

benchmark costs of similar businesses where available

the quantity and level of cruise ship services and facilities, including whether there is need for spare or additional capacity.

We will ask the consultant to identify where any cost savings could be made through efficiency gains. We will take this advice into consideration when forming our judgement on the level of efficient operating costs to include in the building block models.

5.5 Estimating efficient capital expenditure

Under the building block method, there is no explicit allowance for capital expenditure in the notional revenue requirement. Instead, efficient capital expenditure is added to the asset base and recovered through the allowances for a return on assets and depreciation (discussed below).

To decide how much capital expenditure to add to the asset base in each year of the review period, we will review the Port Authority’s forecast capital expenditure and apply an efficiency test to this expenditure over the period. This test examines whether the forecast capital expenditure represents (over the life of the asset) the best way of meeting customers’ needs, subject to meeting any regulatory requirements. We propose to engage a consultant to assist us in applying the test.



We will incorporate efficient capital expenditure into the value of the asset base, and then use this value in calculating the allowances for a return on assets and depreciation.

5.6 Estimating the allowance for a return on assets

The allowance for return on assets represents the cost of capital invested in a benchmark efficient business through equity and debt investments. Including a return on assets ensures that efficient investment in infrastructure continues into the future to meet growth in demand and maintain the business’ long-term viability. In capital-intensive businesses like the Port Authority’s, this allowance typically represents a large proportion of the total revenue requirement.

To estimate the allowance for a return on assets, we propose to:

determine the value of the initial asset base

decide on an appropriate rate of return, and

multiply the value of the asset base by the rate of return.

5.6.1 Valuing the initial asset base

The asset base refers to the value of a business’ assets used to provide the relevant services, which are funded by shareholders.16 The asset base is valued in real terms and adjusted for CPI annually. Once the value of the initial asset base is established, this value is ‘rolled forward’ at the end of each year in a price setting period. That is, it is adjusted to reflect capital expenditure, asset disposals, depreciation and CPI over the year.

As this is the first time we are applying a building block model to the Port Authority’s cruise ship services, we need to determine an initial asset base for the Port Authority’s for each of these services.

The primary assets associated with providing the services include land, buildings, furniture at terminals, roadways, bridges, wharves, jetties, pilot cutters and breakwaters, plant and intangibles such as software, etc. The Port Authority engages external experts to update the value of its assets every three to five years, depending on the asset.

We propose to review the Port Authority’s asset valuations and consider a number of other valuation techniques, depending on whether the asset is land or any other asset class. We also propose to allocate shared assets between cruise and non-cruise services.

16 In this instance the NSW Treasurer and NSW Minister for Finance and Services are equal

shareholders.



Valuing the Port Authority’s land assets

The land on which the terminals and other assets are built is a valuable asset and the Port Authority is entitled to a reasonable return. When considering the value of land for the initial asset base, we will review the Port Authority’s valuations and the Valuer General’s methodology for determining land values as outlined in the Valuation of Land Act 1916 (NSW). We also propose to consider valuations for surrounding sites with different zoning, such as residential, to develop a measure of the opportunity cost of the land used for providing cruise ship services.

The Port Authority values land at current market prices for existing use. This is done on a direct comparison basis with some adjustments to reflect differences between the parcel of land in question and comparable properties. Where land is restricted in the nature of its use by zoning, as is the case for land around the Glebe Island and White Bay precincts, a discount is applied.

The Valuer General’s methodology for land valuation takes into account:

the location of the land

soil type and land surface (such as slope)

town planning controls and constraints on use (such as heritage restrictions and Crown lease restrictions)

land size and shape, and

nearby development and amenities (such as parks, views, public transport and main roads).

This methodology requires that land be valued in relation to its highest and best permitted use. In most cases, this is based on the current zoning and planning restrictions.17 Generally, restrictions over the use of land (eg, due to terrain, heritage listing, Crown lease restrictions, etc), will lower its value. Valuations of land do not take into account the value of buildings or structures on the land, or other improvements. However, land improvements, such as the reclamation of land by draining or filling, are included in the valuation.


6 Should land at terminals and berthing precincts be valued based on existing use or most valuable use?

Valuing the Port Authority’s non-land assets

We will review the Port Authority’s valuations of all non-land assets, including buildings, roads, wharves and jetties. The Port Authority values buildings at current market prices for existing use, and land based on its existing use. Roads, wharves and jetties are valued at depreciated replacement costs.

17 NSW Government, Valuation of Land Act 1916, section 6A(1).



We propose to also consider the following valuation methods:

Optimised replacement cost method values the asset at the cost of replacing it with a modern equivalent available asset. This method removes excess capacity through ‘optimisation’ and values the asset based on the most efficient way to deliver the required services.

Depreciated optimised replacement cost (DORC) method recognises limited remaining life of the existing asset and depreciates the optimised replacement cost to reflect the current, partly worn-out state and limited service potential of the existing assets.

Depreciated historic/actual cost method values the asset at the cost at which they were originally purchased and applies appropriate deductions for accumulated depreciation.

Allocating shared assets between cruise and non-cruise segments

We are interested in the efficient costs of providing cruise ship services, as opposed to services provided to non-cruise commercial operators. Where assets are utilised by both cruise and commercial operators we will need to consider how to allocate the value of these shared assets to the cruise sector. This is relevant for both pilotage and navigation building blocks, and terminals which service both cruise passengers and non-cruise commercial vessels (eg, White Bay 4).

Figure 5.2 below outlines the process we will use to do this.

Figure 5.2 Allocating assets to cruise and non-cruise services



This approach takes into account the reality of the Port Authority’s business, which incorporates both cruise and commercial operations. There are economies of scale in catering for both segments – that is, it costs less to use the same assets to service both segments, than to build separate assets to service each individually. Both segments benefit from this shared cost arrangement. If we considered the value of assets used to service the cruise segment as a stand-alone business, it is likely that building block costs would be much higher and the Port Authority may over-recover its actual costs, given the existing charges for commercial operators.


7 Do you agree with our proposed approach to valuing the initial asset base and allocating shared assets? Are there other approaches or issues we should consider?

5.6.2 Deciding on the appropriate rate of return

We propose to decide on the appropriate rate of return by using our standard weighted average cost of capital (WACC) methodology. The parameters underlying the WACC calculation can be grouped into two categories:

Market-based parameters, which include risk-free rate, debt margin, inflation rate and MRP. These parameters are common to businesses in all industries.

Industry-specific parameters, which include equity beta and gearing ratio. These parameters are specific to the business’ particular industry.

Estimating the market-based parameters

Risk-free rate

The risk-free rate is used as a point of reference in determining both the cost of equity and the cost of debt within the WACC. It is used as a base rate to which an equity or debt risk premium is added to reflect the riskiness of the specific business for which the rate of return is being derived.

In line with our current WACC methodology, we will estimate the risk-free rate as:

The 40-day average of the 10-year Commonwealth Government Security yields published by Bloomberg. This will be used to estimate the cost of debt and cost of equity using current market data.

The 10-year average of the 10-year Commonwealth Government Security yields published by Bloomberg. This will be used to estimate the cost of debt and cost of equity using long-term averages.



Debt margin

The debt margin represents the cost of debt a company has to pay above the nominal risk-free rate. Following our current WACC methodology, we will estimate the debt margin as:

The two-month average18 of the RBA’s monthly estimates of the credit spreads for 10-year corporate bonds rated as BBB. This is used to estimate the cost of debt using current market data.

The 10-year average of the RBA’s monthly estimates of the credit spreads for 10-year corporate bonds rated as BBB. This is used to estimate the cost of debt and cost of equity using long-term averages.

Inflation rate

The inflation rate is used to convert the nominal post-tax WACC into a real post-tax WACC. For this parameter we will use a 10-year geometric average of the 1-year RBA inflation forecast and the middle of the RBA’s target band of inflation (currently at 2.5%) for the remaining nine years.

Market risk premium

The market risk premium (MRP) is the expected rate of return over the risk-free rate that investors would require for investing in a market portfolio. The MRP is an expected return and is not directly observable. Therefore, it needs to be estimated through proxies. In line with our current WACC methodology, we will use both current market data and long-term averages. For the:

current market data we will establish an MRP range using our six MRP methodologies to estimate the cost of equity, and

long-term averages we will use an MRP range of 5.5% to 6.5% with a midpoint of 6.0%, based on the historical arithmetic average of the excess market return over the risk-free rate, to estimate the cost of equity.

Estimating the industry-specific parameters

Equity beta

The equity beta measures the extent to which the return of a particular security varies in line with the overall return of the market. It represents the systematic risk of a security that cannot be avoided by holding it as part of a diversified portfolio. The equity beta does not take into account business-specific or diversifiable risks.

18 This is as an approximation for the 40-day average.



In each price review we conduct, we determine the value of the equity beta for the relevant business. We do this by estimating the equity betas of (listed) comparable firms, and considering the equity betas that other regulators have applied to comparable businesses.

Subject to data availability, we propose to estimate equity betas for listed international ports that provide similar services to the Port Authority. This will most likely include businesses that provide mixed services to cruise and commercial ships, such as ships anchoring services, handling cargo, loading and unloading passengers, goods storage and car transportation services. This is because it may be difficult to isolate a suitable number of comparable businesses that earn revenues from cruise ship services only.

We will also consider equity betas for international airports. There are some similarities between airports and seaports in that they both provide passenger terminal services, handle cargo, and earn revenues from leasing of food and beverage spaces and retail spaces. There are likely to be many more listed airports than seaports, and this will allow more robust estimation of equity beta.

Lastly, we will consider regulatory decisions on the equity beta for ports and airports in other jurisdictions. For example, we will look at decisions made by the Essential Services Commission, which is responsible for regulating ports in Victoria; Civil Aviation Authority of UK, which regulates charges for various airports in the UK; and the New Zealand Commerce Commission, which determines the appropriate equity beta for Wellington International Airport.

Gearing ratio

The gearing ratio is the proportion of debt to total assets in the business’ capital structure. Regulators commonly adopt a benchmark capital structure rather than the actual capital structure of the regulated entity, to ensure that customers will not bear the costs associated with an inefficient capital structure.

Similar to our proposed approach for determining the equity beta, we propose to estimate the gearing ratio by considering:

gearing ratios of listed international ports

gearing ratios of listed international airports, and

past regulatory decisions on the gearing ratio for ports and airports.

Appendix C provides more detailed information on our WACC methodology, including how we determine the market-based and industry-specific parameters, establishing a WACC range and select a point estimate in this range.




8 Do you agree with our proposed approach to determining the industry-specific WACC parameters? Are there any other comparable businesses we should consider?

5.7 Estimating the allowance for depreciation

The allowance for a return of assets, or depreciation, and is intended to ensure that the capital the business (or its owner) invests in the assets is returned over the useful life of each asset. Depreciation applies only to non-land assets.

To estimate this allowance, we need to decide on the appropriate:

asset lives, and

depreciation method.

We propose to review information provided by the Port Authority on expected and remaining asset lives in the first instance, and consider the reasonableness of these assumptions based on those of comparable businesses and our judgment.

We propose to use the straight-line depreciation method to calculate the depreciation for non-land assets. This means that the total value of the asset base is recovered evenly in each year over the expected life of the assets.

5.8 Estimating the allowance for meeting tax obligations

Under our building block model, the forecast tax liability of the businesses is estimated as a separate building block component.

We calculate the tax allowance for each year by applying a 30% statutory corporate tax rate adjusted for gamma to the business’ (nominal) taxable income.19 For this purpose, taxable income is the notional revenue requirement (excluding tax allowance) less operating cost allowances, tax depreciation, and interest expenses. As part of calculating the appropriate tax allowance, the business is required to provide forecast tax depreciation for the determination period. Other items such as interest expenses are based on the parameters used for the WACC, and the value of the asset base.20

The tax allowance is one of the last building block items we calculate, due to its dependence on other items such as operating cost allowances and WACC parameters.

19 Under a post-tax framework, the value of franking credits (gamma) enters the regulatory

decision only through the estimate of the tax liability. Our current estimate of gamma is 0.25. 20 The nominal cost of debt is the sum of the nominal risk free rate and nominal debt margin.



5.9 Estimating the allowance for working capital

The allowance for a return on working capital recognises that some businesses incur costs in funding the short-term capital required for day-to-day activities of the business (such as accounts payable, inventories and accounts receivable). If the business’ net working capital is positive, it has invested capital to facilitate its day-to-day activities and should earn a return on that capital. However, if it is negative, then its trade creditors are providing working capital to the business and it should earn a negative return to offset the returns being earned on the capital provided by other parties.

Our standard approach to calculating an allowance for working capital is:

Receivables = 20 days of required revenue.

Inventory = 6 days of operating expenditure plus capital expenditure.

Payables = 30 days of operating expenditure plus capital expenditure.

However, we will consider whether these measures are appropriate, given the seasonal nature of the cruise business.


9 Do you agree with our overall proposed implementation of the building block model? Are there any other issues we should consider?

6 Forecasting cruise ship visits



In conjunction with determining the revenue requirement, we will decide on the Port Authority’s forecast chargeable cruise ship visits over the 5-year review period. These forecasts are used in determining both the Port Authority’s forecast costs and price levels needed to recover the required revenue.

To decide on the annual forecasts of cruise ship visits, we will consider historical data on cruise ship visits to Sydney Harbour, and the Port Authority’s forecast cruise ship visits over the next five years. The sections below provide more information on these data, and discuss how we propose to manage the risk that the forecasts we use differ significantly from actual visits over the five years.

6.1 Historical cruise ship visits

In 2014-15, Sydney Harbour hosted 281 chargeable cruise ship visits. In line with the national trend, the number of cruise ship visits has been increasing in recent times (Figure 5.1).

Figure 6.1 Chargeable cruise ship visits in Sydney Harbour

Data source: Port Authority of NSW, Annual Report 2014-15, p 17; Port Authority of NSW, Annual Report 2013-14, p 21.

153

199

240261

281

0

50

100

150

200

250

300

2010-11 2011-12 2012-13 2013-14 2014-15



As shown in Figure 2.4, the OPT is the most visited port in Sydney Harbour, with larger cruise ships that are unable to fit under the bridge to White Bay.

6.2 Forecast cruise ship visits

The cruise ship schedule on the Port Authority’s website provides a useful indication of future demand for berthing facilities, particularly over the next 2-3 years. In addition to this information, we have requested from the Port Authority detailed forecasts by berthing facility including:

chargeable visits by month

chargeable passenger numbers by month, and

chargeable gross tonnes by month.

It is important that the forecasts are reasonable. We will assess the information provided by the Port Authority and consider other industry sources of information. In making our assessment we will consider the capacity at existing berthing facilities in Sydney Harbour. We invite stakeholders to provide any further information in relation to future demand for cruise ship berths in Sydney Harbour. As discussed in Chapter 8, we will also consider how our recommended charges will affect future demand from cruise ships.

6.2.1 Managing forecasting risk

There are risks associated with forecasting cruise ship visits. If the forecasts differ markedly from the Port Authority’s actual chargeable cruise ship visits, the recommended prices may result in the Port Authority significantly over- or under-recovering its required revenue. If the forecasts are lower than actual visits, cruise customers would pay too much. If they are higher than actual visits, the Port Authority may not earn sufficient revenue to recover its efficient costs.

In other industries we regulate we include mechanisms to manage this risk. For example, in the water industry we have included a demand volatility mechanism to adjust revenue for material variations between actual and forecast demand. This is implemented as an adjustment to the revenue requirement and prices at the next review date to address any under or over-recovery in the current period for which prices are set. The materiality threshold and conditions for implementing the mechanism are clearly defined. We invite comments from stakeholders on whether such a mechanism should be considered for this review.


10 Are there other sources of information or other issues we should consider in deciding on forecasts of cruise ship visits? Is there a need for a mechanism to manage demand risk?

7 Assessing the options for price structure or pricing mechanism



The first steps of our proposed approach discuss the nature of services provided by the Port Authority to cruise ships, how much revenue it needs to recover through its charges and how many cruise ship visits there will be each year over the next five years. The next step considers what price structure or other pricing mechanism it should use to determine the revenue recovered from each visit.

In general, a price structure determines the total amount an individual customer pays for a product or service and how this amount varies according to factors related to the customer. For example, for cruise ship services, these factors are the ship’s size, number of passengers, the time of year it visits, how long it stays, and which berthing facility it uses among other factors. A price mechanism allows the forces of supply and demand to determine this amount. The price structure or pricing mechanism the Port Authority uses will affect how well the cruise terminal or berthing facility charges recover the revenue requirement, and the incentives they create for the Port Authority and cruise ship operators.

We propose to develop a set of feasible options for the price structure or pricing mechanism and assess each option against a set of criteria that reflect the objectives implied by our terms of reference for the review. This will allow us to identify the option that best balances the various criteria and thus is most appropriate. The sections below discuss:

our proposed criteria

key issues the options will need to take into account, and

three preliminary options, including keeping the current site occupation charge structure, a two-part tariff structure, and an auction system.

7.1 Proposed criteria for assessing the options

Our proposed criteria for assessing the options for a price structure or pricing mechanism reflect the matters in our terms of reference relevant to the price structure or pricing mechanism and our experience in setting prices for other monopoly industries. These criteria are as follows:

1. Recover the Port Authority’s revenue requirement.

2. Provide incentives for the Port Authority to improve the allocative efficiency of current cruise infrastructure.



3. Provide incentives for efficient future expenditure.

4. Provide a greater connection between costs and prices by removing cross-subsidies between the cruise and commercial shipping; navigation, pilotage and other cruise services; and between terminals where possible.

5. Provide certainty for stakeholders.

6. Are administratively simple and transparent.


11 Do you agree with our proposed criteria for assessing the options for a price structure or pricing mechanism? Are there any other criteria we should consider?

7.1 Key issues the options need to address

Based on our preliminary investigations, we have identified a number of issues that the options for a price structure or pricing mechanism should address. These include:

the variability in the demand for cruise terminal or berthing facility services in Sydney Harbour due to the seasonal nature of the cruise business

the proportion of fixed versus variable costs in the revenue requirement, and

the different levels of service provided at the Port Authority’s cruise terminals and berthing facilities.

7.1.1 Seasonal variability in demand

The cruise business is a seasonal business. Most cruise visits to Sydney Harbour occur between October and March, and there is typically a peak period in January and February. During the summer months, the OPT is usually booked every day.

Ideally, the price structure or pricing mechanism would provide an efficient means of distributing demand for slots in peak times according to the intrinsic value that customers place on those slots. This would provide benefits for cruise operators. For example, those who place a high value on securing a particular spot at a particular berthing facility can do so by paying more, while those who are more flexible about their preferred slot and/or berthing facility can pay less. It may benefit the Port Authority by ensuring it can recover sufficient revenue in the peak season to cover the fixed costs that it incurs all year round and may not fully recover in the off-peak season. It may also help the Port Authority raise the revenue needed to allocated more resources to meet demand at the busiest times and terminals, and provide a better signal for any future terminal expansions.



7.1.2 Fixed versus variable costs

A relatively large proportion of the Port Authority’s costs relate to the infrastructure and assets that it uses to provide cruise ship services. These costs are fixed costs – that is, they do not vary (in the short-term) with the number of cruise ship visits or passengers.

A price structure or pricing mechanism that reflects the Port Authority’s fixed versus variable costs may create stronger incentives for the Port Authority to make efficient investments in its terminal and berthing facility infrastructure. In general, if suppliers have certainty about recovering the costs of investments, they will invest in new infrastructure where there is demand for it. The variable portion of the charge varies with the relevant cost driver – for example, the number of passengers being processed through the terminal or the number of hours of labour required to embark or disembark from the ship.

Customers can also see how the charges they pay relate to these infrastructure and operating costs, based on the proportions.

7.1.3 Different levels of service at different terminals and berthing facilities

The level and quality of the Port Authority’s cruise terminal berthing facilities and services differ. While the OPT and White Bay Cruise Terminal offer full dedicated passenger services, White Bay 4 offers a substantially pared back level of facilities and services. As a result, the underlying costs of providing services at the different terminals and berthing facilities also differ.

A price structure or pricing mechanism that reflects these different underlying costs may create incentives for more efficient use of the different facilities.

7.2 Option 1: Current site occupation charge structure

The current site occupation charge is structured as a single variable price that is levied on a per passenger basis, per 24-hour time slot. The same price applies to both the OPT and White Bay Cruise Terminal, and a 50% discounted price applies to White Bay 4 to reflect a lower level of facilities.



Figure 7.1 Overview of the Port Authority’s current charging framework

Note: Cruise operators can currently book a slot at the OPT, White Bay Cruise Terminal or White Bay 4 up to five years in advance.

Data source: The Port Authority, Schedule of Port Charges Sydney - Effective 1 January 2016.

Currently, no payment is required upon booking and no cancellation fees apply if the operator cancels or changes their booking. Bookings are negotiated manually between the Port Authority and the cruise operators and take into account such factors as whether:

the ship is able to fit under the Sydney Harbour Bridge to dock at White Bay

there are competing requests for the same slots, and

the ship requires customs, check-in and other facilities only available at dedicated passenger berths or whether it is vessel in transit (ie, only visiting for the day).

Based on our preliminary analysis, the current price structure and booking system has the following characteristics:

the single, variable fee recovers a standard amount of costs from each operator over the year, without taking account of variability in demand

the price is the same for OPT and White Bay Cruise Terminal, which may or may not reflect the efficient costs of or demand for those facilities

there is no secondary market for slots – that is, operators cannot negotiate with other operators to secure preferred slots



it does not allow the Port Authority to recover the opportunity costs of cancelled or amended bookings

it gives the Port Authority the flexibility to accommodate ships at its facilities as it sees fit

while negotiations between the Port Authority and individual operators to book a slot are private, the resultant bookings are published for all operators to view, and

it is relatively simple and provides certainty to operators about how much they will be charged.

The Port Authority is in the process of reviewing its booking system and is currently consulting with stakeholders independently of this review.

7.3 Option 2: A two-part tariff

A two-part tariff is a price structure that includes two components – a fixed fee and a variable per-unit charge. The fixed fee can also vary - for example, it may be higher in the peak season and lower in the off-peak. It is typically set at a level that will recover the fixed costs of providing the service – that is, the costs associated with providing infrastructure that do not vary in the short-term with the number of ship visits.

The variable per-unit charge is usually set equal to the marginal cost of supply. This could be set equal to the long run marginal cost of providing additional berthing services. This may be levied on a per passenger basis, per tonne, per hour or another similar basis, depending on the cost drivers.

Based on our preliminary analysis, we consider a two-part tariff:

can be levied according to demand in different periods or service levels at different terminals

is simple to administer and is similar to the current charging arrangement

provides certainty to cruise operators about how much they will pay

maintains flexibility for the Port Authority to allocate terminals based on ship needs and size limitations, and

is non-discriminatory between operators.

However, a two-part tariff may be a less efficient way of allocating spare capacity than an auction system (discussed below) and means that some operators who would be willing to pay more to secure a desired slot would not necessarily get access to that slot.



7.4 Option 3: An auction system

An auction system is a pricing mechanism that allocates limited capacity in the peak season according to the value that customers place on slots.

Auctions have long been used to allocate port capacity for the shipping of bulk goods. Ship loading slots at the grain ports of South Australia (operated by Viterra) and Western Australia (operated by CBH) are sold by auction. More information about the Viterra auction system may be found in Box 7.1 below.

The auction system would involve operating separate auctions for slots at the OPT, and White Bay 4 and 5. The design of the auction system would need to consider what constitutes a ‘slot’. For example, currently a slot is defined as the 24-hour period a ship is booked into a terminal. However, it may be more efficient in the peak season for slots to be for a shorter time – say up to 12 hours to allow more bookings where this is feasible.

The design of the auction system would also need to consider whether bids should be open or sealed and whether auctions for each terminal or berth should occur in sequence, or all at the same time or based on a combinatorial auction. Auctions for airport landing slots and telecommunications are often based on a combinatorial auction process21.

21 A combinatorial auction is a price-based auction method used to sell multiple items in a single

process. It provides bidders with flexibility to bid on different combinations of services.



Box 7.1 Viterra auction system for loading grain in South Australia

South Australian grain ports are operated by Viterra. Viterra operates an auction systemto allocate capacity for grain loading at various ports. The auction rules were worked outin consultation with shippers and the Australian Competition and Consumer Commission (ACCC).

Port terminal capacity is auctioned in tonnes of grain. Three auctions are held: the first for port terminal capacity for peak harvest; and two sequential auctions for the non-harvest period. Capacity not acquired during the first auction is made available atthe second auction. Remaining capacity is then made available on a first in-first servedbasis.

The system is designed to be transparent and non-discriminatory. Slots are allocated to customers that value them the most. The system rules create disincentives to booking inexcess of anticipated requirements.

The key mechanisms of this system are as follows:

Demand for grain is seasonal, so in off-peak time periods a majority of the available capacity is passed in at auction. A minimum reserve price is applied to all slots in thiscase.

Slots that are passed in can be requested by shippers on a first in-first served basis. These are sold at the reserve price.

Any extra revenue generated through the auction premium is all passed back to shippers in proportion to their tonnage shipped over the year.

Shippers who book a slot, but then do not use it to load are penalised by the forfeitureof their right to the auction premium rebate.

Rights purchased in the auction are tradeable and transferable.

Viterra’s auctions for slots in the period 1 October 2015 to 30 September 2016 resulted inthe sale of about 50.5% of the offered capacity and generated an auction premium of$10.1 million.

Recently, Viterra’s preference has been to move away from an auction system to long-term contracting with major shippers. It argued that this would improve its certainty over revenue to underpin new port capacity. However, the ACCC and many users objected tothis change. They preferred the transparency of the auction approach, which limits self-favouritism by port operators who have shipping interests.

The auction mechanics are managed by specialist firm Tradeslot. The auction platformoffered by Tradeslot is also used for timber supply, freight capacity (inland line haul) and carbon permits.

Source: Viterra website, http://www.viterra.com.au/ports-shipping/ports-shipping-2, accessed 18 March 2016.



Our preliminary analysis suggests an auction system has the following merits:

Efficiency: slots are allocated to customers that value them the most, while customers who are more flexible can benefit from a lower price.

Efficient cost recovery: the Port Authority is able to recover more of its annual costs in a time period where demand is higher. A cancellation charge for non-use of slots would recover the Port Authority’s costs of administration.

Transparency: slots are allocated to the highest bidder, rather than being negotiated privately.

Incentives for efficient expenditure: it would clearly identify slots/terminals with the highest demand so resources can be allocated accordingly.

However, we would need to consider the following complexities:

Efficient cost recovery: A minimum reserve price for each slot may need to be employed in off-peak times to ensure that direct operating costs are still recovered. Also, a rebate system may need to be implemented to ensure that the Port Authority does not recover more than its efficient costs of providing services.

Allocative efficiency: not all ships can dock at all terminals. Some ships are too large to pass under the Sydney Harbour Bridge and are limited to docking at OPT. If a smaller ship was to secure a slot at OPT through the auction process, it may mean that a larger ship cannot dock on that day at all, while spare capacity at White Bay remains.

Simplicity: Such a system would be more complex to implement and administer than a fixed price system. It may also need to be supported by new technology, which may pose an additional cost.

Certainty: Slots are currently booked up to December 2021, so such a system may not be able to be implemented for some time in order to give certainty to those who have already booked. Cruise ship operators may plan their cruise schedules within different timeframes, and require different levels of certainty about obtaining a future allocation. This could depend on the complexity of travel itineraries for each cruise ship. In designing the auction system, rules around how far in advance slots would be auctioned are required.

We would also need to consider the interaction of the system with other charges – for pilotage, navigation and mooring services and commercial operations at the terminals.

Some of these complexities may be addressed through the design of the auction system and may also be mitigated by the operation of a secondary market in which slots could be bought and sold by operators outside of the official auction process. A secondary market may also mitigate issues with operators who work on different planning timeframes.



The auction design would also need to address reserve prices and rebates, and how to manage spare capacity upon completion of the auction. It would also need to address short-term allocation problems where a larger ship is delayed and needs to dock at OPT outside its allocated slot.

We will consider these matters in more detail in our Draft Report.


12 What are your views on the three preliminary options for a price structure or pricing mechanism – the current site occupation charge structure; a two-part tariff; and an auction system? Are there any other benefits or limitations we have not considered? Are there other alternatives you would like to see considered?

13 What sort of notice or transition period would be required to implement a new price structure or pricing mechanism?

14 Should bookings for slots be based on shorter time periods than the current 24-hour slot? Are there any other methods to increase the number of ships that can berth at a terminal in peak times?

8 Making our recommendations



The final step in our proposed approach is to make recommendations given the findings from the previous steps and having regard to other matters in our terms of reference. These include:

the effect of our recommendations on the commercial viability of the Port Authority

the total port costs and charges incurred per visit by the cruise industry for use of the OPT, the White Bay passenger terminal and any other berths and moorings in Sydney Harbour

equivalent charges applicable to the cruise industry in other national and international jurisdictions and the rates of return derived from these charges in these jurisdictions

the benefits of the cruise industry to the NSW economy and the effect any recommendations may have on the viability and growth of the industry

changes required to the regulatory framework to encourage the efficient operation of the passenger cruise terminal facilities, and

potential reforms that could provide savings to business and the community, including net benefits for NSW, and budget implications for Government.

In the sections below we discuss these matters in more detail.

8.1 Commercial viability of the Port Authority

Our recommendations must maintain the commercial viability of the Port Authority’s cruise business. We consider that determining the revenue requirement through the building block approach would ensure that we do this.

In reviews where we use the building block model we also conduct a financeability test.22 In the context of this review, we propose to use this test to assess the implications of our pricing recommendations on the short-term financial sustainability of the Port Authority. The test will help us assess the impact of our recommendations on the Port Authority’s ability to fund the provision of services, serve and repay debt, and access debt markets for new borrowing requirements. 22 IPART, Financeability tests in price regulation – Final Decision, December 2013.



As outlined in Chapter 2, cruise ships are a relatively minor part of the Port Authority’s business relative to non-cruise trade vessels. Any assessment of financial viability would need to consider this.

8.1.1 IPART’ financeability test

The financeability test requires us to calculate three financial ratios:

Funds from operations (FFO) interest cover calculated as FFO plus interest expense divided by interest expense. This is a coverage ratio and measures the ability to service debt.

Debt gearing (regulatory value) calculated as debt divided by the regulatory value of fixed assets. This is a leverage ratio and measures ability to repay debt.

FFO over debt calculated as FFO divided by debt. This is a more dynamic measure of leverage than debt gearing and a useful indicator of ability to generate cash flows.

Our financeability test is based on the actual gearing ratio and a forecast of the actual interest expense. If we identify a financeability issue we would consider whether we need to make a net present value (NPV)-neutral adjustment to our pricing recommendations. For example, if we determined that our recommended charges may put the Port Authority at risk of a credit rating downgrade in the short-term, we could recommend a price path that would mitigate that impact, without making them any worse off in the longer-term.

8.2 Total port costs and charges incurred per visit

As discussed in Chapter 5, we propose to consider the efficient costs of providing all the Port Authority services to cruise ships, including site occupation, pilotage and navigation. This means we will consider the Port Authority charges incurred per visit by the cruise industry for use of the OPT, the White Bay passenger terminal and any other berths and moorings in Sydney Harbour.

However, cruise ships also incur other costs at port, for example refuelling costs and charges for using tug boats, and Federal Government charges, such as the Passenger Movement Charge.23 These costs are all relevant to a cruise operator’s decision to visit Sydney and the financial incentives faced by the operator. We invite comment from stakeholders on the nature and amount of these costs for a typical cruise ship visit to Sydney Harbour.

23 The Passenger Movement Charge (PMC) is an excise tax levied by the Australian government

on all passengers departing on international flights or maritime transport.




15 What type of non-Port Authority charges are incurred by cruise ships for a typical visit to Sydney Harbour? How much are these charges?

8.3 Equivalent charges in other jurisdictions

We will consider our recommendations having regard to equivalent charges from domestic and international cruise ports. In particular, we will look at charges at Brisbane, Melbourne and Newcastle, which may be considered substitute ports for Sydney. Where possible, we will also consider the rate of return implied by these charges. However, we expect that it will be difficult to obtain the information required to estimate a rate of return in other jurisdictions. In addition, it may be difficult to determine whether these charges are cost reflective or if there are any cross-subsidies reflected in charging arrangements.

8.4 Benefits of the cruise industry to the NSW economy

The cruise industry contributes to local economies through employment and spending from cruise operators, passengers and crew. Various studies have estimated these economic impacts. For example, a study commissioned by Cruise Down Under estimated the direct expenditure (including both domestic and international passenger, crew, operator and corporate expenditure) by the cruise industry in Sydney in 2014-15 was $1.1 billion.24

We will consider how our recommendations may affect the benefits that the cruise industry provides to the NSW economy and the viability and growth of the industry. To do this we propose to consider:

the responsiveness of demand from cruise ship operators to changes in site occupation charges, and

equivalent charges at ports that may be a substitute for Sydney Harbour (see section 8.3).

While the cruise industry contributes to economic activity in NSW, in our view this does not necessarily imply it should receive a discount or subsidy through port charges. Many of the benefits provided by visiting cruise ships may be considered ‘private benefits’. That is, economic transfers to businesses who service the industry and individuals who gain employment. We consider that there is no economic justification for providing a subsidy for private benefits.

24 Cruise Down Under, Economic Impact Assessment of the Cruise Shipping Industry in Australia

2014-15, September 2015, p 3.



An economic argument for subsidies can be made for goods and services that provide ‘net external benefits’ for society.25 For example, the NSW Government subsidises public transport fares because they provide net external benefits, including from avoided road congestion and air pollution. A subsidy encourages more public transport use than would otherwise be the case, leading to more external benefits and a more efficient outcome for NSW. More information about our approach to external costs and benefits can be found in our report on the external benefits for public transport on our website.26

We propose to undertake a desktop review of external costs and benefits of cruise ships in Sydney Harbour to determine whether there are likely to be any net external benefits.


16 What are the external costs and benefits of cruise ships in Sydney Harbour?

8.5 Changes to the regulatory framework and other reforms

During the course of our review, we will also consider whether any changes to the broader regulatory framework would encourage the efficient operation of the passenger cruise terminal facilities.

We will also consider potential reforms that could provide savings to business and the community or provide net benefits for NSW. In doing this we will consider the budget implications for government. We invite comment from stakeholders on these issues.


17 Are there any changes to the regulatory framework or reforms that would encourage more efficient operation of the passenger cruise terminals or provide savings or net benefits to the community?

25 An external benefit occurs when producing or consuming a good causes a benefit to a third

party. 26 http://www.ipart.nsw.gov.au/files/sharedassets/website/trimholdingbay/

review_of_external_benefits_of_public_transport_-_december_2014.pdf


Maximum fees and charges for cruise ships in Sydney Harbour IPART

5

Appendices

A Terms of reference



B More information on port charges



In Chapter 2 we outlined the main charges that cruise ships incur for visits to Sydney Harbour. In this appendix we provide more details on these charges.

B.1 Site occupation charge

The site occupation charge is a fee for the use of berths in Sydney Harbour. The current charges are summarised in the table below.

Table B.1 Site Occupation Charge for Passenger Vessels – per passenger, per 24-hour slot (from 1 January 2016)

Site Occupancy type Charge (excl. GST) Charge (incl. GST)

Dedicated passenger berths (eg, OPT and White Bay 5)

$30 $33

Non-dedicated passenger berths (eg, White Bay 4)

$15 $16.50

Source: Port Authority of NSW, Schedule of Port Charges Sydney – Effective 1 January 2016.

The following rules apply to the site occupation charge for passenger vessels:

Timeframe – the site occupation charge is charged once for a 24-hour slot. If a cruise ship stays at port for more than 24 hours it will be charged for an additional slot, and so on.

Minimum charge – the site occupation charge for passenger vessels is based on a minimum of 1,200 passengers per cruise vessel, except for vessels with a stated passenger capacity of less than 200 passengers.

Passenger age – the calculation of the site occupation charge does not include infant passengers (two years old or under).

Passenger type – the site occupation charge is based on the number of incoming passengers arriving on the cruise vessel as recorded in the ship’s Inward Passenger Manifest Declaration. The ship’s crew and non-revenue passengers are excluded from this charge. Non-revenue passengers are restricted to all temporary staff of the vessel only including entertainers and hospitality staff. Any other temporary passengers on promotional activities will be charged the site occupation charge for passenger vessels.



Berth location - the site occupation charge is applicable at individual dedicated and non-dedicated passenger berths in its own right, and not based on grouping by the berth attributes.

Bookings – at the time of booking, a cruise line must only book at either of the two dedicated passenger terminals (OPT and White Bay 5). Bookings at non-dedicated passenger berths (White Bay 4) or mooring buoys will not be accepted if one of the dedicated passenger terminals is available.

Passenger data requirement – the cruise line is to provide the Port Authority with the inward passenger number details between 48 hours prior to ship arrival and the time of ship departure. If the information is not provided within the agreed timeframe, an extra 10% on top of the stated passenger capacity of each cruise vessel will be used for billing purposes.

There are also site occupation charges for non-passenger berths as outlined in the table below. These are hourly rates and may apply if a cruise ship was waiting to access a passenger berth. A lay-up rate only applies to those vessels which are undergoing emergency repairs, emergency maintenance, or which cannot otherwise carry out normal operations.

Table B.2 Site Occupation Charge for Passenger Vessels – hourly rate (from 1 January 2016)

Site Occupancy type Charge (excl. GST) Charge (incl. GST)

Non-passenger berths (eg, Glebe Island 1,2,7 & 8; White Bay 3)

$117.68 $129.45

Lay-up rate (for dedicated, non-dedicated and non-passenger berths) – pre-approval required

$35.30 $38.83

Source: Port Authority of NSW, Schedule of Port Charges Sydney – Effective 1 January 2016.

B.2 Navigation Service Charge

The Port Authority provides navigational advice based on information from radar, closed circuit television, a ship's own automatic identification system and VHF radio, and records this information as well as all communication. This service improves the safe and efficient movement of vessels and protects the port's environment and infrastructure from possible adverse effects.

All commercial vessels, including cargo and passenger vessels, piloted fishing boats, research vessels and tugs entering either Sydney Harbour or Port Botany are required to pay this charge. It is based on the Gross Tonnage (GT) of the vessel. The current charge for a passenger vessel is $0.5834/GT per port entry27. As explained in Chapter 2, there are currently some discounts and rebates for passenger vessels. From 1 April 2016, the Navigation Services Charge for

27 Port Authority of NSW, Schedule of Port Charges Sydney – Effective 1 January 2016.



passenger vessels (including these discounts) will be $0.3550/GT per port entry. For operators that exceed 29 passenger vessel visits within the same financial year there is an additional 15% discount on these rates. From 1 April 2016, the rate will be $0.2731/GT.

B.3 Pilotage Charge

All commercial vessels entering, leaving or moving within Sydney Harbour must take on board a marine pilot to conduct the vessel on its movement into, out of, or within the port. The Marine Safety Act 1998, Section 75 provides some exemptions to this requirement, including for vessels less than 30 meters in length or vessels whose master is the holder of a marine pilotage exemption certificate.

The pilotage charge is calculated on a tiered basis based on the gross tonnage of the piloted vessel, and to this a boarding fee is added. Both the pilotage charge and the boarding fee are applied to each inbound and outbound movement of the vessel. The current charges are summarised in the table below.

As discussed in Chapter 2, pilotage charges for cruise ship vessels have been granted a rebate of 9.64%, since August 2014, to all ship companies in connection with the OPT upgrade. This rebate will be reduced to 7% on 1 April 2016. The rebate will gradually be eliminated now that the OPT upgrade is completed.

Table B.3 Pilotage Charge for passenger vessels from 1 January 2016

Pilotage Charge (per movement) = Boarding fee + Gross Tonnage (GT) Base Charge

Fee Amount (Ex GST)

Boarding Fee $1,145.87

GT Base Charge (per GT)

Tier I (1 to 4,000 GT) $0.00

Tier II (4,001 to 30,000 GT) $0.1316

Tier III (30,001 to 55,000 GT) $0.0224

Tier IV (> 55,000 GT) $0.0075

Notes: The boarding fee includes a fuel surcharge of $25 (ex GST).

These charges do not include the current temporary discounts and rebates discussed above and in Chapter 2.

Source: Port Authority of NSW, Schedule of Port Charges Sydney – Effective 1 January 2016, p 4.

There are also other pilotage charges that may apply, for example, where an inward or outward movement is delayed, or where a piloted movement is required between berths within the same port.



B.4 Miscellaneous fees

All passenger vessels incur miscellaneous charges as per usage. These are summarised in the table below.

Table B.4 Miscellaneous charges for passenger vessels

Charge type Amount (ex GST)

Security (eg, patrolling access to the facility, controlling access to the ship, screening unaccompanied baggage, etc)

Recoverable

Cleaning charges (per vessel call) - OPT $523.55

Cleaning charges (per vessel call) – White Bay Recoverable

Standard furniture hire $1,256.52

Non-standard furniture hire $1,570.65

Hose handling fee $523.55

Additional hours gangway(s) hire (per hour) $146.59

Water per kL $2.276

Berthing facility insurance surcharge (per vessel, per hire, per period) $314.13

Note: The Port Authority charges water per kL at the same rate applied by Sydney Water.

Source: The Port Authority, Schedule of Port Charges Sydney – Effective 1 January 2016, p 9.

B.5 Mooring fee

Mooring fees are time-based charges applied to all vessels for the use of buoys. A vessel is taken to be moored if it is secured to or otherwise held on a buoy or if it is one of a number of vessels secured to or otherwise held together on a buoy.

A navigation light handling fee is levied for the removal and subsequent installation of navigation lights on a buoy. It is always charged to vessels that incur a mooring fee and is applied per vessel, per use.

Table B.5 Mooring fees

Site occupation type Amount (ex GST)

Buoy (per vessel, per hour) $35.30

Navigation light handling fee (flat rate per vessel, per use) $574.02

Source: The Port Authority, Schedule of Port Charges Sydney – Effective 1 January 2016, p 11.

C IPART’s WACC methodology



To determine the WACC, our current WACC methodology is:

1. Establish a WACC range and midpoint by

a) estimating a feasible range based on long-term average (ie, 10-year average) and a feasible range based on current market data (ie, 40-day average)

b) using the midpoints of these two feasible ranges as the upper and lower bounds of the WACC range, and

c) using the average of the upper and lower bounds as the midpoint of the WACC range.

2. Choose a WACC point estimate from within the final WACC range based on our WACC decision rule.28 Our default position is to select the midpoint. However, we consider whether it is appropriate to choose a point other than the midpoint having regard to the level of economic uncertainty.

We use our uncertainty index29 as a measure of economic uncertainty, and select the midpoint if the uncertainty index is within or at one standard deviation from the long-term average of zero. If the uncertainty index is more than one standard deviation from the long-term average of zero, we consider selecting a point other than the midpoint within our final WACC range.

We established this framework as part of our review of WACC methodology in 2013, and have commonly applied across all industries we regulated. We publish biannual market updates in February and August, which show our estimated WACC ranges for the industries we regulate such as water, transport and retail gas. We also publish a spreadsheet containing our WACC calculations.30

C.1 Calculating the real post-tax WACC

We use a real post-tax WACC to estimate the allowance for a return on capital and incorporate tax directly as a separate cost building block in the revenue requirement.

28 IPART, Review of WACC Methodology – Final Report, December 2013. 29 http://www.ipart.nsw.gov.au/Home/Industries/Research/Reviews/WACC/Uncertainty

_Index_Model accessed 23 February 2016. 30 http://www.ipart.nsw.gov.au/Home/Industries/Research/Market_Update accessed

23 February 2016.



We estimate the post-tax WACC using the following formula:

where:

is the expected cost of debt,

is the expected cost of equity, and

and are the proportions of debt and equity in the entity’s capital structure,

respectively. is referred to as a “gearing ratio”.

We adjust the resulting post-tax WACC for expected inflation to obtain the real post-tax WACC.

C.2 Calculating the cost of debt

The cost of debt is the rate that a business is expected to pay debt holders to fund its assets through debt financing, and is calculated as follows:

where:

is the risk-free rate, which is the rate of return an investor would require on a risk-free investment, and

is the compensation above the risk-free rate required by debt holders for credit, liquidity and maturity risks.

We apply a target term-to-maturity of 10 years and a BBB credit rating. Our cost of debt includes debt raising cost allowance of a 12.5 basis point. Across all industries we regulate, we use:

risk-free rates and debt margins averaged over 40 days to calculate the expected cost of debt based on current market data, and

risk-free rates and debt margins averaged over 10 years to calculate the expected cost of debt based on long-term averages.



C.3 Calculating the cost of equity

The cost of equity is the rate of return required by shareholders on an equity investment. We estimate the expected cost of equity using the following Capital Asset Pricing Model (CAPM):

where:

is the risk-free rate as described above,

is the beta of a stock e, and

is the market risk premium, which is expected rate of return over the risk-free rate that investors would require for investing in a market portfolio.

Across all industries we regulate, we use:

risk-free rates averaged over 40 days and an MRP range based on implied MRPs to calculate the expected cost of equity based on current market data, and

risk-free rates averaged over 10 years and an MRP range based on historical MRPs to calculate the expected cost of equity based on long-term averages.

We estimate ranges for the expected cost of equity using current market data and long-term averages. We will review and determine the value of the equity beta for cruise terminal businesses as part of our price determination process.

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