Monday, June 29, 2009

Comments and Recommendations to NEPRA on KESC petition.

From: Akhtar Ali, Chief Executive, Pro-Plan Associates, KarachiAkhtar Ali is a resident of Karachi and energy expert and consultant. This submission heavily draws from the work he has conducted for his forthcoming book, Pakistan Energy Developments “the road ahead”.
Comments on KESC’s tariff petition
NEPRA has not yet established bench-marks for the performance of the IPPs and DISCOs. In the absence of bench-marks, fuel pass-through, and guaranteed rate of return, there is not much incentive on the part of the utilities to improve their performance and reduce costs. Control of fuel costs exercised through bench-marks could alone help substantially in reducing or even eliminating the subsidies that GOP has to provide towards reducing tariff to politically acceptable level.

I was struck by the current petition of KESC in which it has petitioned higher fuel cost (heat rates) on account of high fuel consumption. It is all right to demand compensation for increase in fuel prices. As we shall see from the following table, fuel consumption in our utilities incl. KESC is already too high as compared to elsewhere. There is a very strong case for reducing fuel consumption and not for asking for more. Often most fuel inefficiencies, it has been found in score of studies, emanate out of bad technical management and poor maintenance practices. A mere improvement in house- keeping (cleaning and replacing filters, cleaning and washing of heat exchanger tubes, preventing leaks of gas, water, hot air, steam, de-dusting and washing of plant and lastly careful monitoring of operating parameters) of plants can improve fuel consumption efficiency significantly. If there is a more paying area of bench marking on utility performance, it is fuel consumption. And it is rather easy, compared to other factors. NEPRA instead of yielding to such demands should establish norms and bench-marks and then may allow a differentiated but well considered treatment to various entities differing in their objective or unique conditions. In fact a healthy competition among organizations can be created by announcing rewards for competittion.

Certainty improvements come gradually. But without financial incentives tied to it, and a firm action plan utility management, and the stick of the regulatory body, there improvements do not come about, As is the case not only with KESC, but other GENCO plants also. We have provided same targets for fuel consumption in the same table. Infact, plants are closed down elsewhere in the world, if these do not give the performance as given in the targets. These are not the optimum efficiencies, but the minimum ones. So perhaps everything else that KESC has petitioned may be reasonable, but higher fuel consumption should not be encouraged.

Fortunately high fuel consuming plants in KESC are smaller, only 10% of the total capacity. Normally, these are used for peak load purposes and are put on and off frequently and are simple cycle. Average heat rate of KESC plants is 11,122 Btu/KWh as per reference tariff, which is already 6% higher than Pakistan average of 10523 Btu. However KESC claims that actual consumption is more, of the order of 5%. If this plea is accepted, it would affect the tariff by Rs.0.1829 per unit. If the average heat rate is brought to 10,000 Btu per KWh, an improvement of 10% fuel cost saving would be of the order of Rs 0.40 per kwh.

The only time NEPRA can induce or enforce efficiency is at the time of tariff setting. Any relaxation granted should be tied to an action plan, should be time-bound, and automatically trigger penal tariff measures in case of non-achievements of agreed targets. Finally, a cash-strapped company goes down gradually and inexorably. It breeds demoralization and instability, which is anathema to efficiency improvement. A fair recovery of costs and RoI is a must along with a long term commitment of investors and management.

Long term recommendations

No body has a panacea to the problem of increasing energy cost. A commercial enterprise, public or private, cannot be expected to engage in welfare activities. Government can do it and is doing it. What government can do better is to help the utility in preventing ever increasing trend of electricity theft. No measure, except one-sided assessment of the extent of theft in distribution losses can be given, which cannot become a basis for financial awards and determinations.

One of the complicating reasons of KESC issue is that around the time the privatization was done, the new electricity regime started to take shape. Perhaps, it has reached a level of maturity only relatively recently; the unbundling of WAPDA, establishment of PEPCO and GENCOs and DISCOs as separate organizational and legal entities. The existing tariff agreement with KESC is about to complete its seven years terms and a new arrangement is to be brought about.

The current practice of a separate treatment of KESC should be abandoned. This system has worked because in the absence of cheap hydro resources, KESC had cheap natural gas to have a tariff that is comparable with the rest of the country. Iranian gas deal has shown that natural gas is not cheap any more. In five years time we will be importing Iranian gas that will be at-least twice as expensive as the current local gas prices and almost approaching the price of oil. There will be even more significant issues of equitable allocation of electricity investments, which may and will be made according to the rules of economic issues. Separate treatment of KESC would create a lot of problems in future. I would like to make the following recommendations

  1. Accounting separation of generation and distribution functions of KESC, within the scope of one company, irrespective of whether it remains in private sector or its privatization is reversed.
  2. Acquisition of transmission assets of KESC by NTDC.
  3. Treatment of generation assets of KESC as an IPP, applying the standard regulation and financial rules.
  4. Treatment of destruction functions as are DISCOs treated.
  5. Direct purchase of electricity by KESC from Kannup, PASMIC and other IPPs be done away with. It should come via CPPA/NTDC with their standard pricing framework.
  6. All other generations’ capacities installed by KESC must be treated as independent IPPs.
  7. Similarly all distribution investment should be treated as DISCOs are treated.
  8. As a corollary to the afore-mentioned, two tariff rates are to be there for KESC; one for generation and another for distribution.
  9. Generation investments in Karachi should be open to all third parties and should not remain the exclusive domain of KESC. In its current and expected future financial condition, it may not be able to make generation investments, any way.
  10. Ministry of Water & Power, PPIB and other agencies relevant to power sector, should plan for power requirements of Karachi, in an integrated fashion and should not depend or relegate Karachi’s power planning to a private agency which is beset by many problems and is expected to remain in doldrums.

Reversing privatization of KESC : A Pandora’s box

KESC is under severe criticism by the people and the representatives of Karachi due to frequent and long spells of power break-down in the city. Karachi is the business hub of Pakistan, and load-shedding in this city particularly is more hurtful than lesser areas. There is load-shedding throughout Pakistan due to general power shortages, although blackouts are also due to poor maintenance, heavily-loaded and weak distribution systems. Comparative data on blackouts are not available to see if Karachi is as badly suffering as any other place or is it suffering more due to KESC performance. The demand for reversing the privatization of KESC is getting stronger. Reportedly, KESC is under notice from the highest quarter in the country to improve its performance.

Privatization of KESC, as a bundled entity is an anachronism. It is not a recommended practice these days, among the electricity planners to bundle generation, transmission and distribution together. For this accepted principle, the earst-while WAPDA has been broken down into generation, transmission and distribution entities. Generation largely is and going to be in private IPP sector, especially thermal one. Transmission is under a separate company NTDC and there are eight government owned distribution companies. What is true for else where in Pakistan, should also be true for Karachi. There is a long list of reasons for keeping the three electricity sectors i.e. transmission, distribution and generation separate and independent entities, the main ones being the ability to monitor technical and economic performance. Being together, there is a no clue to various interconnected issues; it is all mixed up. And that is what is happening perhaps with KESC. There is a lot of incentive with a private party not to make the required expenditure and investments for improving quality of service and availability, because the current regulatory system does not penalize the service provider for poor quality of service or lack of availability.

There are many complicating reasons of very high distribution losses, a considerable portion of which is theft of electricity by consumers, rich and poor, weak and powerful. Kundas are flagrantly abundant. The issue is strewn in labyrinth of local power structure business and trade circles. It is difficult for a private party to have a handle on such problems. Infact it was difficult prior to privatization also. Lacking professionalism in Pakistan’s private sector, the task of separating technical losses from theft become very difficult and the compensation issue compounded.

KESC had been privatized as almost a bankrupt and insolvable company. Not many parties were really willing to take over it. The company was sold to a fluid if not shady ownership. Shares are changing hands, new parties coming in, and old ones being fed-up.

In a lot of parts of Europe and elsewhere, electricity distribution still is in public sector and mostly owned at-least in part by local or provincial governments. An outright de-privatization of KESC many not be feasible or even advisable. There would be complicated legal issues. A negotiated settlement may be reached with KESC on the following lines. Distribution may be taken away form KESC, while generation facilities be left with the KESC owners, to function as other IPPs are working. There is a clear-cut financial formula to govern generation IPPs. Distribution assets and management may be given in public sector as elsewhere in Pakistan, and handled in uniformity with other distribution companies. A more workable arrangement would be as follows. Distribution management could be taken from KESC management while assets may remain with them with the standard return-on-assets formula of 12%, for which KESC is to be compensated annually. Electricity purchasing and selling can be in public sector. It is also high time for NEPRA to modernize its working and rules, factoring in performance based payment and other improvement schemes as have been practiced in the region (India) with exemplary improvements in utility performance. Bench mark studies are conducted almost every where by regulating agencies comparing the performance of the regulated companies. Same should be done here.

Utilities are used to stable environments, unlike manufacturing which often face chaotic and highly variable market conditions and operating environments. Uncertainties regarding the future handling of KESC issue would further deteriorate the performance of the company. The owners, who were already, shy if not averse, to making investments would be further discouraged. A definite policy announcement either in favour of status-quo, or an alternative plan such as proposed in this brief, must be made by both provincial and federal governments.