Case study | 3 August 2020

Aged Care Royal Commission | The required return for aged care service providers

View our case study on our work for the Aged Care Royal Commission, looking at the weighted-average cost of capital (WACC).

What was the challenge?

The Aged Care Royal Commission was established by the Australia Commonwealth Government on 8 October 2018. The Royal Commission inquired into the quality of aged care services in Australia, whether those services were meeting the needs of the community, and how they could be improved in the future.

In 2020, Frontier Economics was engaged by the Aged Care Royal Commission to:

Estimate the weighted-average cost of capital (WACC) for the provision of accommodation in the residential aged care sector;
Advise on how the WACC may vary under different reform scenarios; and
Demonstrate how the WACC may be used as a component of a ‘building block’ model to determine an appropriate allowance for the return on capital and return of capital (depreciation) for providers of aged care accommodation services.

How did we complete the economic modelling and analysis?

We followed standard commercial and regulatory practice in estimating the WACC with reference to data from suitable comparator businesses. We noted that there were no perfect set of comparator firms which provide only accommodation services in the residential aged care sector.

For this reason, we regarded to two sets of comparators:

Aged care providers – which provide accommodation, but also other services in the residential aged care sector; and
Residential real estate investment trusts – which provide accommodation, but in sectors extending beyond residential aged care.

The WACC was computed as the aggregation of a number of parameters. We set out a set of current WACC parameter estimates and explained how those parameter estimates would be re-estimated on an annual basis.

We also developed a ‘building block’ model that determined the total annual revenue that would be required to ensure that the accommodation provider is able to pay an appropriate return on, and of, capital to its investors each year.

What were the results?

In addition to the full report which can be dowloaded below, Frontier Economics’ Professor Stephen Gray and Dinesh Kumareswaran were asked to give expert evidence to The Royal Commission into Aged Care Quality and Safety (established in 2018).

DOWNLOAD FULL REPORT