Vector Annual Report 2018

Group Chief executive’s REPORT continued

Given the size of the investment required to support the ongoing anticipated growth of Auckland’s energy networks, it is of significant concern that our regulated electricity network is not earning its regulatory cost of capital. Vector’s electricity network ROI for the 2018 regulatory year was only 5.49% - significantly lower than the regulatory WACC of 7.19%. This is largely due to Commerce Commission forecast errors in the current regulatory parameters. Absent these errors, Vector’s electricity revenues for the 2018 regulatory year would have been almost $28 million higher. We anticipate the majority of these errors will be corrected at the next reset (April 2020), but will continue to significantly impact network returns until then. Although the regulatory environment is relatively stable, balancing safety, price, service quality, and investing in the future can be challenging for network operators and regulators alike. In that regard, we are working closely with the Commerce Commission on penalties for breaches of quality thresholds. The reality is the Commerce Commission’s current regime may not adequately account for congested Auckland traffic, changes to health and safety best-practice, and more extreme weather events. As a result, meeting quality targets will be a significant challenge for Vector and the wider industry. It is crucial that this issue is addressed no later than at the 2020 reset of regulatory parameters. Our approach to health and safety is informed by the founding principle that nothing matters more than people. This is true also of our approach to our own people. Vector is proud to have been the first large corporate in New Zealand to become an accredited Living Wage employer. Alongside this, we are taking steps to proactively identify and address any pay equity issues within our business. The year also saw changes to the Vector management team with Rod Snodgrass joining us in November 2017 as Chief Customer Officer, and Brian Ryan, our GM for Emerging Technologies, departing in July 2018 after four years with Vector to take up a role in the United Kingdom. In July 2018 Vector was also proud to be one of the founding companies of the Climate Leaders Coalition, a collective of business leaders who have committed to act on climate change, a move consistent with our commitment to be Net Zero Carbon by 2030. LOOKING AHEAD. We have many reasons to be confident about the future. As the economy continues to progressively electrify, trends such as widespread EV adoption must be planned for at an industry, network and community level to ensure those who can afford new energy technologies are not being, in effect, subsidised by those who cannot, in the form of costly upgrades to, or cost impositions from, generation, transmission or distribution assets. With the pace of change rapidly increasing, Vector must invest dynamically to ensure good optionality, and have the flexibility to pivot as and when scenarios emerge. This will help avoid poor

investment decisions as well as maximise the benefits to consumers of new energy technologies. More dynamic investment also requires us to better understand customers energy use. Right now, a significant challenge is that distribution companies do not have ready access to smart meter data held by retailers. This impedes the ability of networks to adequately respond to storms as they cannot ‘see’ faults at the household level. As a collective industry, it is clear there needs to be better sharing of secure real-time information to deliver improved customer service. A political review of the New Zealand electricity sector is currently underway. We welcome the review, because distribution companies are already fully transparent through regulation and we hope to see greater transparency across the sector. The New Zealand generation and retail market has not been looked at in earnest for around a decade and it is right to question whether consumers are receiving the benefits of competition. Recent reviews in similar markets such as the United Kingdom and Australia have identified genuine market concerns at both the retail and generation levels of the market. Technology has an ever more powerful role to play in New Zealand’s future – as an enabler, it will unlock greater choice, increased resilience, lower costs, and a reduction in carbon. Regardless of what we or others wish, industry disruption will march on, so Vector must stay ahead of the technology curve and meet the needs of customers, tomorrow as well as today. Looking ahead we expect largely flat Regulated Network earnings through to the next electricity reset in 2020, and continued growth in our Technology business. We expect adjusted EBITDA for FY19 to be between $470 - $480 million. 1

Simon Mackenzie Group Chief Executive

—— 1 This excludes any impact from the adoption of IFRS 16 Leases .

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