More on Contact: Pocket the cash, put up power prices - Sue Newberry's analysis

Last month I wrote about the prospect of investors taking a 'capital return' out of Contact Energy and the likelihood this will lead to higher power prices. On Friday an article by Sue Newberry in the Christchurch Press reached the same conclusion (unfortunately I was unable to find an online version). Sue is a senior lecturer in financial accounting at Canterbury University.

Newberry also reports Contact plan to push through changes to corporate governance at a meeting scheduled for February 15, to remove its self-imposed restrictions on dividend payouts and capital returns to shareholders. Contact could then make a massive payout to shareholders, perhaps as large as $1.15 billion, which will be financed by the company taking on more debt.

Newberry says "Electricity Consumers should think of this massive payout as coming directly out of their own pockets. Part of this payout will have come from money already accumulated within Contact as a result of the high electricity prices domestic consumers already pay; the rest will come from increased electricity prices yet to be imposed."

To Newberry, this highlights a key problem with the current electricity pricing regime. Electricity companies are allowed to earn profits which represent an acceptable percentage return on assets. When a company revalues its assets upwards, just as Contact made a massive upwards revaluation last year, the dollar amount required to earn an acceptable percentage return rises immediately - electricity prices must rise as a result. The asset revaluation also leads to an increased depreciation costs. Electricity prices have to rise again to cover that as well.

On the back of speculation about a capital return to shareholders, Contact's share price jumped over the $7 mark to close yesterday at $7.02 (today's Press, p. C6). Good for investors, but not necessarily good for consumers. The Press also reports big industry is complaining about electricity prices as high as $1.34 a kilowatt hour in the North Island. So a privatised electricity system is kicking the private sector too. That said, the complaints of Comalco New Zealand need to be taken with a grain of salt, especially their disappointment in having to reduce power use by 5% to avoid the daily spot market. The overseas owned company running the Bluff aluminum smelter gains most of its power at far below market rates, thanks to a deal made with the Government in the 1960s to convince Comalco to set up the smelter. The details of this agreement remain secret to this day, but Muldoon did confirm in Parliament in 1968 that this deal included significant tax breaks as well.

If there is a "power crisis" this winter, higher prices will be to the benefit of Contact's Australian owners and other investors, who will be comfortable with their capital return and dividends from the company. But they have no chance of being cold as a result (but I guess NZ shareholders could complain about power prices at a shareholders meeting!)

If there is a "power crisis" this winter, while we are all being told to turn off all unnecessary power, perhaps we should consider closing down the Bluff smelter - if we are serious about electricity savings and guaranteeing supply to essential services. Closing one smelter would release around 15% of NZ total generating capacity.