DAM(N)! A half-billion dollar water storage scheme

The Regional Council proposes a half-billion dollar dam project. Tom Belford asks, who pays, who owns, and is it worth it?

All public hedging about feasibility studies aside, the Hawke’s Bay Regional Council wants to build a dam on the Makaroro River in Central Hawke’s Bay. Full stop. And it’s moving mountains, with $5 million worth of analysis, to make a case that both economic betterment and environmental enhancement can be achieved by the project … and that we can afford the investment.

This article looks at the economic side of the proposition – its full costs, the economic benefits claimed, and the possible funding scenario and its implications. The Regional Council is still guarded in its public discussions of the scheme’s economic aspects, although it is clear that substantial financial analysis has been done and inquiries made to prospective financial players.

The most financial information is available in the Regional Council’s recently released Long Term Plan (LTP). In preparing this article, BayBuzz is relying additionally on ongoing conversations with HBRC senior staff, farmers and others who have heard HBRC presentations, and individuals associated with the Hawke’s Bay Regional Investment Company (HBRIC), which will eventually control and oversee the scheme if it goes forward.

What are the full costs?

In its LTP, the Regional Council indicates the dam infrastructure will cost $170 million, noting this is a best estimate, awaiting detailed engineering and design work. More recent comments indicate this number might reach $250 million.

However, this amount, itself daunting, is not the full scheme. The $250 million would cover construction of the dam itself, landscaping and earthworks associated with the 90 million cubic metre reservoir that would be created, and the headrace and other distribution infrastructure required to get the stored water to the farm gate (i.e. to individual farmer-users).

Much of the uncertainty around the ‘infrastructure’ cost relates to geotechnical issues and pending decisions about how water will actually be delivered to farmers – via canals or underground piping.
The significant further cost of the project actually relates to what happens to the water once it gets to the farms. Farmers need distribution systems to reticulate the water throughout their properties. One farmer (see Mark Sweet’s article) estimates his ‘on farm’ cost to irrigate a 330 hectare farm would approximate $500,000, or about $1500 per hectare.

Project spokesmen, including in this magazine, have put the on-farm distribution price tag in the $300-$400 million range … “even more” than the $200+ million off-farm cost, as one HBRC presentation puts it.

Then there’s the cost to farmers of mitigating the environmental impacts of the additional and/or more intensified farming they would undertake. For example, planting riparian strips, fencing off streams, building cow sheds to capture more animal waste. Although the Regional Council insists that such safeguards will be part of the ‘deal’ that ensures environmental protection, no estimates of these costs have yet surfaced.

All in, therefore, it is not unreasonable to estimate the full cost of the storage scheme at closer to $500-$600 million. At this scale, the water storage scheme represents the biggest financial investment ever contemplated in Hawke’s Bay, and ranks as one of the biggest in all of New Zealand.

This investment would create for its owners (whoever they might be), an asset worth even more than the Bay’s much-prized Port, which has recently been re-valued at $177 million. It would dwarf – and some say, with unclear risks and returns, would put at risk – the Council’s entire existing investment asset base of $256 million.

As we’ll see later, HBRC doesn’t intend to fund the dam project on its own. Nevertheless, with the dam as the new keystone, HBRC direct investments are projected to grow to $488 million over the next ten years … a daunting prospect to any ratepayer.

From the farmer-user perspective, the huge macro-numbers ultimately boil down to, “What will it cost me to use the water on my farm?” The cost (to the farm gate only) currently mentioned is $9500 per hectare, although council staff signal that they’re aiming to get the figure down to the $6500/hectare range.

Ultimately, affordability of the stored water for individual farmers is key to the economic viability of the scheme. Right now, many farmers – including many who hold existing water consents they could simply retain – fear the price will be too high. If significant numbers elect not to participate in the scheme, the project falters. We’ll come back to this point.

Big benefits from big investment?

Councils in Hawke’s Bay (indeed throughout New Zealand) have a history of over-estimating the benefits of their forays into commercial activities. With a potential half-billion dollar investment at hand, ratepayers have every right to expect the most meticulous accounting of claimed benefits.

It should be noted that Regional Council presentations in support of the dam project focus first and foremost on economic benefits, with environmental considerations treated largely as a necessary, but unmeasurable, adjunct. The HBRC has adopted the stance of an economic development agency, as opposed to committing itself to a set of sustainable environmental parameters within which suitable economic development can proceed. In the Council’s hierarchy, investors outrank environmentalists.
Ultimately, the accumulated benefits of all types must justify the investment … leaving aside, for the moment, to whom those benefits might actually accrue.

Most directly, surely benefits would accrue to farmers, who, with more water and more security of water (against potential drought) can produce – and earn – more off their land (increasing its capital value 50-100%, judging from Canterbury experience). Arguably, increased farmer earnings can be estimated from the ground up, looking farm by farm at what is being produced now, and what could be produced with more water, more reliably available.

HBRC is building such models (six or seven of them, we’re told)… and holding them close to the vest. However, this modeling requires making predictions about the future behavior of approximately 200-plus current owners of the more sizable farming operations in the area to be serviced by the scheme.

And the million dollar question becomes: How might their farming change? Or even more unpredictable, what might future owners do?

Of course the big worry of environmentalists is that there will be wholesale conversion to dairying, with its massive environmental impacts. Currently there are 80-100 dairying operations on the Ruataniwha plains.

It is widely assumed that dairying is the only activity that would yield the financial returns that can justify the huge investment in the scheme. But others (like Sam Robinson in this magazine) dispute that assumption, claiming that other farm production could be more valuable in the future. As one farmer noted, in ten years we could be growing a high value speciality food for the Japanese (or Chinese) that none of us has yet heard of.

Arguably, such is the speculation that afflicts all council efforts at commercial forecasting.

One ‘mosaic’ scenario that is mentioned projects one-third dairying, one-third cropping and one-third beef and sheep. But whatever the assumed mix of future farming, and whatever value is projected for the resultant output, that value – minus the value of what is already produced on the Plains – constitutes the core incremental value realized by building the dam.

To be sure, other benefits do accrue, but the further one moves from the actual farm output, the more speculative these become … a modeler’s delight. Enter the alchemy of ‘multiplier effects’.

There’s more irrigation equipment to be purchased, installed and maintained. If more veggies, milk, wool, meat or grapes are produced, there is more to be processed and potentially more value to be added. More fertilizer to be bought. More product to ship. More accountants required to count all the new money changing hands, and lawyers to write the contracts.

HBRC staff argue that pre-planning for the project is already driving improved scientific understanding of land/water interaction and environmental mitigation opportunities in the region; more cooperation amongst players in the food industry; identification of R&D, farm productivity, technology transfer and value add opportunities (and gaps). Viewed as a ‘greenfields’ opportunity, staff see the project’s feasibility work as yielding benefits whether or not the project proceeds.

Moving still further from the grower, other public benefits might accrue from the project. The Regional Council argues that the environmental and recreational values of the catchment might actually be enhanced – better fishing, swimming and kayaking, even restoration of native species and food collection.

Achieving the benefits of “farming within limits” (as one HBRC presentation puts it) presumes an adequate mitigation strategy and regulatory regime would be put into place … one able to cope with 25-30,000 more hectares of farming-generated pollution (as discussed in the articles of Jess Soutar Barron and Morry Black).

Finally, a handful of other benefits can be cited, from electricity generated at the dam (approx. 6.5 megawatts) to assumed revitalistion of a stagnant Central Hawke’s Bay (although in local job creation terms, most project-related employment will be short-term).

As you see, the benefits become more speculative and harder to quantify the further out you draw the circles from the individual farmer/grower.

Working with a battery of consultants, the Regional Council is attempting to quantify those economic benefits.

One estimate HBRC has used is that the scheme would increase gross farm income from $111 million per annum to $290 million, while increasing the area’s GDP contribution from $125 million to $348 million.

Of course, New Zealand farming economics demonstrate that not all (or maybe even most) of these benefits accrue directly to the farmer who pays in the first instance for the water (or technically, the right to use the water infrastructure). Several farmers have noted that all those ‘upstream’ beneficiaries – for example, the processors and marketers – make their money by driving down the return to farmers. Fonterra is the exception … another inducement toward dairying from the farmers’ perspective.

Naturally, therefore, the individual farmer is less interested in the overall cost/benefit analysis than he is in the immediate return earned from his production. Those ‘other’ benefits accrue to others, raising the question, “Who should pay for this scheme?”

Who should pay for and own the scheme?

The Regional Council guards closely its scenarios for funding the water storage scheme. This despite the fact that HBRC is seeking public ‘sign-off’ for the half-billion dollar project as part of consultation now underway on its LTP.

The LTP presents the scheme funding issues in a very superficial way. It simply prices the dam infrastructure at $170 million (not addressing the other costs discussed above), indicates that $80 million of this amount will come from HBRC itself (i.e., ratepayers) after sale of leasehold assets (but not Port shares), and that remaining funding will be assembled by the HB Regional investment Company (HBRIC), with vague references to “co-shareholders” and “prospective investors”.

Funding beyond the acknowledged $170 million core cost is hinted at, but not discussed in the LTP.
Other presentations and interviews indicate that additional funds would be sought from the Crown (tapping into a $400 million fund Government created for such schemes), iwi, perhaps processors, other private investors/lenders, and of course farmer-users.

If the project in its totality does cost $500 million or more, a great deal of money must be found somewhere. And someone must earn a return on that money.

So far, the Regional Council has not made public any ‘pie chart’ that indicates a likely funding scenario. So we can only speculate. Readers can fill in the adjoining pie chart with percentages they’re comfortable with!

HBRC clearly has been wooing Government for a share of its $400 million irrigation fund. A desire to be first in line is driving the speed of HBRC’s ‘feasibility’ study (which is about half-funded by MAF). Unless the Regional Council seriously stuffs up, it’s reasonable to assume some funding from central government, perhaps in the form of short-term equity that HBRIC or farmers buy back over time as cash flows permit.

The region’s iwi are touted as another potential source of funding for the project. Iwi in Hawke’s Bay are tipped to receive nearly $200 million in pending Treaty settlement payments. It’s not unreasonable to think that settlement groups might regard the scheme as a potential investment close to home. And perhaps their investment might be targeted at supporting the mitigation measures farmers would need to take to protect the environment.

However, as Morry Black points out in this magazine, not all Mãori are sold on the project. Indeed, some argue that the water is not the Regional Council’s to distribute in the first place.

General ratepayers, already in the pie chart and subsidizing farmers to the tune of at least $80 million, would probably expect the prime beneficiaries of the project – i.e., farmer-users – to pick up a major portion of the tab. But, as noted above, farmers are pressing for their share of off-farm costs to be as low as possible, rejecting $9500/hectare as unaffordable.

And, apart from off-farm infrastructure, it is not clear whether farmers’ on-farm costs would be subsidized in any way – for example, via low-interest loans from HBRIC (ie. ratepayers) or matching funds.

Given price uncertainty and the availability of water under current water consents, the ‘take-up’ rate at which farmers might (or might not) enter the scheme is still unknown, meaning that the huge upfront infrastructure investment will only gradually build up a cash income to pay returns to investors or lenders.

It is crucial to recognize that the only source of income (or return on capital to scheme owners) is solvent farmers earning enough from their enhanced production to pay capital charges and ongoing fees for water rights. Presumably, if these earnings are insufficient, and farmers are unable to make payments, other owners of the scheme – expecting profitable returns on their investment (the LTP indicates a target return of 6%) – will get grumpy. And in the worst case, trigger foreclosures. Water rights ownership becomes land ownership. Would HBRC or HBRIC step in to prevent that scenario?
Which brings us to the involvement and expectations of private investors in the scheme.

Apart from “selling the Port” (a proposition the LTP notes would require special consultation), no funding source would be as controversial as private investors … especially if those investors are overseas entities. As the LTP states (perhaps ‘understates’ would be more apt): “A debate that may emerge in time is the degree to which this type of infrastructure is owned within the community, or offshore.”

As is evidenced by the broader political dust-up over state asset sales and, closer to home, the sale to the Chinese of Crafar Farms, one might expect the prospect of overseas investors ‘owning Hawke’s Bay water’ to stir up a wee bit of controversy. Even leaving aside ideological or philosophical arguments, foreign ownership involves the exporting profits from the scheme out of the region, as opposed to seeing them re-deployed within Hawke’s Bay.

Some would question whether absentee owners – whether based in Shanghai, Sydney or Auckland – are as likely as local owners to pursue and protect broader community interests and values, as opposed to near-term profit maximization.

Making the decision

A host of philosophical, ideological and practical issues are wrapped up in the funding of a $500 million scheme, and its ultimate ownership

These issues will be sorted by the HB Regional Investment Company, a recent creation of the Regional Council. It is HBRIC that will develop and oversee the project, including its financing, and ultimately create a subsidiary “Waterco” to directly own and operate the scheme.

The Governance board of HBRIC presently consists of three HBRC councillors – Fenton Wilson, Alan Dick and Christine Scott – and three private sector representatives – Andy Pearce (chairman), Jim Scotland and Sam Robinson. Many in the community opposed creation of the investment company; many who supported it wanted it private sector led. The result is this hybrid governance arrangement.
The three private members are each seasoned hands – Pearce runs a similar but larger investment company for Christchurch and is a key player in Canterbury water issues; Scotland occupies various agribusiness roles, but is probably best known locally as chairman of the Port of Napier; Robinson is a CHB sheep & beef farmer serving as chair of the water storage ‘project leadership group’ and as chair of AgResearch.

While the Regional Council will make the political decision on whether to proceed with the water storage initiative, eyes will principally turn on these three when it is time to judge the economic viability of the water storage scheme. All three should instill a certain sense of confidence in the final financial review of the project.

That said, arguably, the chair of the Port would be pre-disposed to welcome an initiative that promised more traffic and earnings for the Port; and Robinson as official chief cheerleader for the project is not exactly dispassionate about its potential value (see Sam’s article in this magazine).

All the more reason their probity and credibility will be on the line when they endorse (or not) the biggest single public investment yet considered in Hawke’s Bay.

Of course, final responsibility for passing judgement on the overall economic and environmental case for the water storage scheme rests in the hands of the Regional Council. Clearly, their LTP signals that they already believe they have a win/winner on the table.

If you have a view on the matter, you had best make a submission on HBRC’s long term plan by May 16, or talk with your favourite Regional Councillor before the LTP is adopted in late June.