Is IPPA necessary?

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I was asked to speak in a “Mindanao Power Forum” hosted by the Institute of Electrical Engineers in Cagayan de Oro last month. It was a relatively well-attended forum with Congressman Edgardo Masongsong, Energy Regulatory Commission Executive Director Atty. Francis Juan, among others, in attendance.

The topic was about the issues surrounding the privatization of the Agus and Pulangi complexes and the Independent Power Producer Administrator (IPPA) issues. After all, PSALM was ready to bid out the IPPA contracts at that time (PSALM has announced that there are a total of 12 firms that are vying for the IPPA contract of the STEAG coal-fired plant few days after). And it was correct to discuss both the privatization of Agus and Pulangi and the IPPA since these two issues are intertwined.

It was, however, unfortunate that the Power Sector Assets and Liabilities Management Corp. or PSALM was not represented in the forum as it is the agency that can address the concerns raised about the IPPA. During the discussion, Dave Taule, formerly of CEPALCO, delivered an impassioned plea to scrap the plans to conduct a bidding for the IPPA of STEAG, as well as to recall the IPPA for Mt. Apo Geothermal, which was won by Filinvest Group through the FDC Misamis Power Corp. last September.

Despite the discussion on IPPAs, one key question remained unanswered: Is it necessary to sell the remaining energy output of the existing Mindanao power plants to a private IPPA, a broker, who will be allowed to make a margin?

My answer to this question is simple: No.

To understand my answer let me put in context what an IPPA is and its role in a market like Mindanao.

An IPPA is an entity chosen by PSALM, which administers, conserves and manages the contracted power output between an Independent Power Producer (IPP) and the NPC. The IPPA is a post EPIRA invention concocted to supposedly take away the market risk from National Power Corporation or NAPOCOR or PSALM by passing on the risks to the private sector. “Market risk” is present presumably because there is stiff competition and the government is not in a position to take on such risks. After all, the EPIRA’s thrust is for the privatization of government-owned power assets to promote competition among the power sector players.

But what competition are we referring to in Mindanao ? Competition only exists if there are sufficient buyers and sellers in the market and the government is simply ineffective in capturing market share. But is it? And for Mindanao, how can there be competition in a market that has power shortage? Even Davao is suffering from brownouts!

The power situation (or the lack of power supply) has been a perennial problem of the region. At present, the region is experiencing rotating brownouts due to the reduced capacity of Agus 6, low water inflow of Pulangi and the emergency shutdown of one of STEAG’s units. Agus and Pulangi supplies half of the power for Mindanao and both are about to be privatized.

It is unlikely that the power situation in Mindanao will improve any time soon. The power outlook for Mindanao, according to the National Grid Corporation, is usually in yellow alert, which means that the region does not have sufficient power reserves, making it non-compliant to the required reserve-level. So, there is no competition in the power sector in the region to speak of, as of this time. Of course we are all hoping that the ALSONS’ and Aboitiz’s plants will come in on time. Even then, by 2020 my view is we will be short again.

There is another reason why IPPAs are unnecessary: IPPAs increase generation charges unnecessarily.

Keep in mind that IPP generation costs are composed of administration, fixed and energy charges. The administration charge is just an added cost that increases the generation cost.

The Cagayan de Oro forum pointed out the case of the Mt. Apo geothermal power plants. As mentioned above, the said plants were privatized through an IPPA last year. As a result, the generation cost increased from P3 per kilowatt hour (kWh) to P5.37 per kWh, according to the Association of Mindanao Rural Electric Cooperatives or AMRECO.

The AMRECO said that the significant increase in the generation charges was due to the administration cost charged by the IPPA. If these figures are correct, the difference of P2.37/kwh is what we in finance call an “arbitrage” because the profit is made out of an extraordinary market condition. At that spread, one can already put up a coal-fired power plant!

The important question to ask is: why do we have to pay additional costs when the goal of ensuring stable power supply and promoting competition in the market are far from being achieved?

So, no, there is no need to enter into IPPA contracts for now. An IPPA may be helpful if the market conditions are such that the government cannot take a competitive position. In Mindanao, the government has a dominant position and can therefore smooth out the market prices for the benefit of the consumers. Instead of an IPP contract, it is essential for PSALM to secure the market first by stabilizing the power supply and bringing down the cost of power over the long term. This has immediately two advantages: a) it signals the market that the output of all the government plants have already been contracted out and therefore is no longer in play for any competition from new private sector investments in generation; b) it “locks in” the low price that the consumers are enjoying today and over the long-term. Everybody gains, nobody loses.

Just recently, Energy Secretary Jericho Petilla has said that he wants to ask PSALM to defer the bidding of the STEAG power plant, to be moved to next year until such time the power plants of Aboitiz and San Miguel are already in operation, to avoid power spikes in the meantime.

My suggestion is for the DOE to reconsider the plans of selling the remaining power output of the remaining Mindanao power plants to the private sector altogether, and instead, focus on securing the system by stabilizing power supply and bringing down the costs. And putting more renewable energy in the power supply mix for the region is the key to energy security in the region, and elsewhere in the country.

As I said in other articles, this suggestion will be a challenging one to energy planners if they continue to use the traditional “least cost” method. This method favors traditional power plants over renewable energy plants for several reasons. First, traditional power planners tend to compute the least cost of stand-alone plants. Second, renewable energy is deemed “expensive” by many if one is to use the least-cost method of computing for costs of energy generation. As I have always argued, this is wrong.

Studies have shown that renewable energy that contributes to a “fixed price” component into the system increases value to the economy. In fact, it can bring down over-all power cost. A study conducted by the late Shimon Awerbuch, a renowned adviser on electricity market, shows that adding renewable energy in an energy portfolio indeed reduces the over-all cost of energy. This was proven in the case of Mexico, where the cost of energy went down by US$00.038/kWh after increasing wind and geothermal power in the mix by 9 and 10 percent, respectively. This despite the fact that wind generation is US$0.05/kWh higher than gas.

Going back to my point, not only is it wrong to bid out the IPPA contracts for reasons I have already given, we have misplaced our priority as well. We should be focusing on bringing in new power generation to Mindanao and especially a balanced portfolio of conventional and renewable energy power plants. Only when we have attained long-term stability (as required by EPIRA) should we tinker around with privatization.

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