Competition policy and the legal instruments through which it is implemented are very convoluted in practice. Equinox is there to assist you in handling these complexities, in initiating action for the infringement of your rights at the local or the EU level and in limiting your regulatory exposure and regulatory burden.

National Regulatory Authorities (NRAs) require organisations that have significant market power (SMP) to provide specific detailed accounting information containing financial, economic and quantitative information in order to be able to monitor and control their market activities at the retail and wholesale levels with a view to curtail potential instances of anti-competitive abuse.

The primary aim of regulatory accounting is to ensure that an organisation that enjoys SMP does not price-discriminate or engage in unfair and anti-competitive cross-subsidisation among the services offered by the same organisation, thereby enabling the same organisation to kill nascent competition in any one of the markets in which it operates on the strength of its muscle in a different market or set thereof.  The regulatory accounting framework is a means towards ensuring the transparency of accounting information.  It also provides information about the profit margins that are being obtained from an operation either in its totality or in its component parts, irrespectively of whether these are segregated by service, profit centre or cost centre.

Organisations deemed to have SMP positions in the market are at times required to maintain and provide the regulator with a set of accounts that is different from the set of accounts underlying which is the historical cost accounting system.  These sets of accounts need to abide by specific cost allocation rules and accounting practices as defined by the National Regulatory Authority (NRA) overseeing the particular sector.  The NRA also specifies how the separated accounts need to be segmented into various categories, together with other information that is to be incorporated into the reports.

In response to greater transparency and accountability needs, as well as to maintain healthy levels of competition and industry competitiveness in the long-run, national regulators are continuously demanding greater efficiency, quality and cost reductions from utility companies. In this respect, NRAs have a delicate role to play. They need to balance the need for continued infrastructural investment in the long-run while ensuring that consumers (including intermediate input consumers) are getting the product/service at a price that allows them to be competitive in relation to competing destinations. In this respect, NRAs are usually required to collect, verify and process segregated accounting data, to build models thereon and to benchmark prices and results vis-à-vis comparable jurisdictions. Key Performance Indicators (KPIs) are no longer only based on the local scenario. Increasingly, they are being set through comparisons with operators beyond domestic borders, with a view to be able to calibrate efficiency targets.

Organisations enjoying SMP positions in the private sector are sometimes required to publish a set of regulatory accounts with the aim of providing the regulator with a means of ensuring an efficient and healthy competitive market environment.  Private sector organisations are therefore required by NRAs to provide regulatory accounting information that can allow NRAs to ensure that no anticompetitive abuse of the SMP in a particular market is going on as well as to construct cost and network models with which to regulate pricing for specific services that are only using part of a network infrastructure. This enables the enactment of evidence-based policymaking and the informed implementation of any required regulatory interventions on behalf of NRAs.

Organisations are required to base their regulatory accounts on audited statutory financial statements.  The main objectives of regulatory cost accounting are to:

  • Identify and prevent anticompetitive behaviour – provides a tool with which NRAs can identify any behaviour which undermines existing competitors;
  • Enable the introduction of mechanisms of price control – enables NRAs to set wholesale prices in such a way so as not to discourage new at-least-equally-efficient entrants into the market but at the same time not to set prices too low as to encourage inefficient entrants;
  • Set wholesale charging to avoid margin squeeze – ensures that prices being charged by the seller represent a fair charge to the buyer;
  • Transparency – enables NRAs to determine the true competitive level within the industry;
  • Act as a policy making tool – regulatory accounting models enable policy makers to further regulate costs and prices where necessary and to set incentives in line with regulatory objectives.

The current regulatory accounting frameworks across various countries vary significantly.  However, NRAs usually adopt one of the following models to determine the costs of the entity under consideration:

Top-down cost models: an approach which starts from a global cost level in the company’s accounts. These accounts are then subdivided into main activities, which are then further subdivided into sub-activities and minor activities by using adequate cost allocation and apportionment factors.

Bottom-up cost models: this entails building a cost accounting model from a detailed description of the individual activities. Activities are measured and assigned with activity measures and unit usage and pricing in order to determine the cost of the various activities.  These costs are then aggregated to arrive at the total cost of a particular activity.

Hybrid models: these capture the combined efficiency of top-down and bottom-up cost models.  Even though hybrid models are more complex, costs incurred in the provision of a product/service are accurately captured and enable a detailed investigation of cost and demand relationships.

The main approaches that NRAs adopt in setting regulated pricing policies are:

  • Retail-minus –an approach whereby wholesale prices are set on the basis of the retail price less a fixed percentage of the retail price that represents a “fair” return to a non-infrastructure owner;
  • Cost-plus – prices are based on the estimated cost of providing a product/service plus a reasonable return on costs;
  • Price cap – under price cap regulation, retail prices or price changes are capped at a particular level, sometimes taking into consideration the rate of inflation and any expected efficiency savings.

Keeping abreast with changing regulation and costing methodologies could be a daunting task for business executives who are more concerned with the core business activities than with accounting for regulatory purposes.  At Equinox, we offer to take the regulatory burden off our clients so that we can free up valuable time for business professionals to do what they do best – to manage their business and obtain good commercial results.  The regulatory accounting process can be quite complicated and requires a detailed examination of technical, legal and economic aspects.

Our multi-disciplinary teams spanning accountancy, law and economics have the capability and the expertise to take care of regulatory compliance for you.  We have the expertise to help you modify and/or setup your cost accounting systems and any underlying technical models depending on the service area you deal with, to extract and accurately compile the required information, to avoid late submission penalties, and to honour submission deadlines set by the regulatory bodies.

For more information about our Regulatory Accounting services, please contact us here.