Part 4: Our audits of other energy-sector entities

Energy sector: Results of the 2014/15 audits.

4.1
In this Part, we comment on matters arising from our 2014/15 audits of Transpower, the Electricity Authority, the Energy Efficiency and Conservation Authority, and the mixed-ownership model companies:

  • Genesis Energy Limited (Genesis Energy);
  • Meridian Energy Limited (Meridian Energy); and
  • Mighty River Power Limited (Mighty River Power).

4.2
We have not covered Solid Energy in this Part. Our main findings on Solid Energy are set out in Part 2.

4.3
Transpower and the mixed-ownership model companies are large businesses. In 2014/15, they recognised total revenue ranging from $1.0 billion to $2.9 billion, and made after-tax profits ranging from $47 million14 to $247 million. They own assets worth $23.0 billion, including $14.8 billion in electricity generation assets and $4.4 billion in transmission assets.

4.4
An important aim of the boards and management of Transpower and the mixed-ownership model companies is to distribute earnings to their shareholders. In 2014/15, the companies distributed dividends of $988 million, an increase of $267 million on the previous year. The increase was partly due to Meridian Energy and Mighty River Power paying special dividends in the year.

4.5
A key focus of our annual audits is to assess the overall control environment of an entity. Also, given their significance, we considered the value of property, plant, and equipment. Further, we noted a significant improvement in the overall readability of the financial statements adopted by these entities. We discuss each of these matters below.

The control environment

4.6
In annual audits of Crown entities, mixed-ownership model companies, and State-owned enterprises, we consider and comment publicly on the management control environment and the financial information systems and controls that support the managing and reporting of financial information. We assess strengths and deficiencies, and we recommend specific improvements to fix any deficiencies that we find.

4.7
The entities' annual reports include information on corporate social responsibility and sustainability matters, some of which is reported against international frameworks. We do not audit this extra information. However, we do consider whether the information set out in the annual reports is consistent with the financial statements that we audit.

Management control environment

4.8
Comments about an entity's controls are based on our observations of many elements, including:

  • clarity of strategic planning;
  • organisational structure;
  • how ethical values are communicated and applied;
  • commitment to competence;
  • involvement of those in governance roles;
  • management philosophy and operating style;
  • assignment of authority and responsibility;
  • human resources policy and practices;
  • risk assessment and management;
  • policies and procedures that provide controls over business processes and monitoring, including self-review and internal audit practices; and
  • arrangements to ensure that the public entity complies with legislation.

4.9
In 2014/15, we assigned grades of "very good" to all six entities – Transpower, the Electricity Authority, the Energy Efficiency and Conservation Authority, and the mixed-ownership model companies. A "very good" grade means that we have no recommendations for improvement. The grades were unchanged from those in 2013/14.

Financial information systems and controls

4.10
We base our comments and grades for financial information systems and controls on our observations of:

  • the appropriateness and presentation of financial information;
  • the reliability of financial information systems; and
  • controlling and monitoring activity.

4.11
Again, we assigned "very good" grades to the six entities in 2014/15, as we had done in 2013/14.

Valuation of property, plant, and equipment

Generation assets

4.12
Generation assets are the largest component of property, plant, and equipment and form the largest asset on the mixed-ownership model companies' balance sheets, at 86% of total assets. Accounting standards15 allow an entity to recognise an item of property, plant, and equipment at either cost or fair value. The mixed-ownership model companies recognise their generation assets at fair value, which is determined by the cash flows the assets are expected to generate.

4.13
We were satisfied that the fair value of the generation assets recognised by the mixed-ownership model companies as at 30 June 2015 was appropriate.

4.14
The future cash flows that generation assets are expected to achieve need ongoing careful consideration by the mixed-ownership model companies. In particular, they need to consider the underlying conditions of the electricity market.

4.15
Although electricity use increased in 2014/15, previous investment in generation and by Transpower in the national grid was enough to meet the increased demand. However, there is uncertainty about future demand, particularly given the potential closure of the aluminium smelter at Tiwai Point. Also, changes in large electricity user consumption and the increasing use by consumers of emerging technologies can affect the electricity market.

4.16
For example, Meridian Energy worked with New Zealand Aluminium Smelters Limited and signed a variation to its electricity agreement with the company in August 2015. The smelter uses 12% of New Zealand's electricity production. The smelter has the right to terminate the contract, with a year's notice, from 1 January 2017 until 2030. If the smelter stopped operating, it could affect electricity generation requirements significantly.

4.17
Renewable electricity generation continues to be a cheaper option, which has resulted in some companies reducing other forms of generation. Hydro and wind generation in a given year is weather dependant. Therefore, concern has been expressed by some entities in the sector about security of supply in dry years, given the reduction in conventional generation.

Transmission assets

4.18
Transpower takes a different approach and recognises its transmission assets at cost, which is the amount that Transpower spent to purchase and install the asset.

4.19
We have previously examined how well Transpower is managing risks to the transmission network.16 We found that Transpower was proactive in its efforts to improve grid asset and risk management. The company has set up a number of initiatives in risk areas, which are at various stages of progress. Transpower is using initiatives to prioritise future investment proposals.

4.20
Transpower has also come to the end of a significant period of investment in the transmission network. This is readily apparent with a 28% reduction in capital expenditure to $359 million in 2014/15. In the past five financial years, Transpower has spent around $1.8 billion on its major projects.

4.21
Transpower will need to continue to work with other stakeholders to ensure that future growth in transmission assets will meet future demand needs.

Readability of financial statements

4.22
In 2014/15, Transpower and the mixed-ownership model companies took advantage of a change in the Companies Act 1993 to present only consolidated financial statements.17

4.23
The mixed-ownership model companies took extra steps to improve the readability of their financial statements:

  • The companies reviewed and reduced the information disclosed in financial statements, confining disclosures to matters considered material to a shareholder's understanding. By taking this approach, Mighty River Power more than halved the length of its financial statements to 24 pages.
  • In its annual report, Genesis Energy applied the principles of the integrated reporting framework.18 The company noted that the result shows how Genesis Energy makes a sustainable financial return for its shareholders, while managing and protecting the resources used to create value.19 Genesis Energy significantly improved its disclosures about the people it employs and the natural resources it uses.
  • Meridian Energy restructured its financial statements into six sections, each with an explanatory introduction. The company also highlighted the more important disclosures, such as key judgements and estimates, in the financial statements.
  • Genesis Energy, Meridian Energy, and Mighty River Power presented all information related to a transaction or account balance with the note disclosing the transaction or account balance. Previously, this information was reported in several places in the financial statements.

4.24
We commend these steps to improve the readability of the financial statements. We encourage other entities in the energy sector to follow the lead taken by Genesis Energy, Meridian Energy, and Mighty River Power in reviewing the structure and content of their financial statements.

14: Mighty River Power's 2014/15 profit was reduced by $130 million after providing for impairments of non-current assets.

15: External Reporting Board (2014), New Zealand Equivalent to International Accounting Standard 16: Property, Plant and Equipment (NZ IAS 16), Wellington.

16: Office of the Auditor-General (2011), Transpower New Zealand Limited: Managing risks to transmission assets, Wellington. We followed up on how Transpower responded to the recommendations in our 2011 report in our 2014 report, State-owned enterprises: Results of the 2013/13 audits.

17: Group-only financial statements are allowed under section 202(1) of the Companies Act 1993.

18: Integrated reporting is a framework applied by entities to communicate a clear, concise, and integrated story that explains how all of their resources are creating value (see www.integratedreporting.org).

19: Genesis Energy Limited (2015), Annual Report 2015, page 9.