Thursday, August 03, 2006

Why electricity costs continue to increase

By Neil Mugas, Reporter

Monday, July 31, 2006
The Manila Times

THE Philippines has one of the highest electricity rates in Southeast Asia, having posted a national average of P6.80 per kilowatt hour (kWh) at the end of last year. That figure was higher than the P5.59/kWh the year before, and all indications point to the latest rates further moving up for the rest of the year, given the rising cost of fuel, and the increasing demand for power.

(Data from the Department of Energy show that the Philippines has the highest electricity rates in the 10-member Association of Southeast Asian Nations after Cambodia. Throughout Asia it has the highest electricity rates after Cambodia and Japan.)

Come September, Filipino consumers face another rate increase, with the recent approval by the Energy Regulatory Commission (ERC) of the petition of the National Power Corp. (Napocor) to jack up its rates in order to recover additional generation and foreign-exchange costs.

When that happens, Napocor will once again have to bite the bullet, an experience not alien to the firm in the face of increasing flak. Heretofore, Napocor has been pilloried for its long-term contracts with the IPPs, most of which carry take-or-pay provisions. Such riders—described as onerous by observers—require Napocor to pay for
production costs, regardless of whether it uses less power than the contracted level. In other words, the costs for unused power. And these costs are invariably passed on to the distribution utilities, like Meralco, and to the groaning consumer.

Even the Department of Energy—in its status report on the Electric Power Industry Reform Act (Epira), which aims to lower electricity rates—concedes that the IPP contracts and the take-or-pay provisions they carry account for the soaring power prices.

But Urbano C. Mendiola, manager for Napocor's Power Economics Department, maintains that to blame Napocor and its IPPs alone would be unfair, since the firm "only collects what it must."

Napocor collects two types of generation costs, including a basic charge to which it factors in the revenues it has to earn under the Return-on-Rate Base (RORB) system. Its RORB rates are at present pegged at 8 percent by the ERC, a quasi-judicial body that acts on all petitions for rate increases. It computes the basic generation costs per grid, reflecting the verifying cost of production in each grid. These rates also carry rooms for profit margins for Napocor.

The state power firm makes cost-recoveries for the change in purchase power it buys from its IPPs under the Generation Rate Adjustment Mechanism (GRAM). These cost-recoveries are normally collected every quarter and represent the deferred accounting adjustment charges for changes in fuel and generation rates or
purchased power from its IPPs.

Napocor also recovers fluctuations in foreign exchange under its Incremental Currency Exchange Rate Adjustment (ICERA), as a move to avoid losses. The ICERA covers the change in disbursement for debt-service payments due to changes in the foreign- exchange rate and also covers the change in disbursement due to the change in foreign
related operating expenses.

ERC role

Both the GRAM and ICERA charges are subject to the approval of the Energy Regulatory Commission and are normally resolved within 45 days. Otherwise, they take effect as petitioned by Napocor if the commission fails to act on such petitions.

"Records, however, show that Napocor's actual IPP costs are allowed in full due to limitations in the recoverable rate as well as the existence of contracts yet to be approved by the energy commission for inclusion in the tariff," says Mendiola.

Peter Lee U, dean of the School of Economics at the University of the Asia and the Pacific, tends to give Napocor an out for the power rate increases.

"While the take-or-pay provision contributes to the increase in rates," there are also factors beyond Napocor's control including skyrocketing fuel prices, he says.

Lee says one reason generation rates go sky high is the cost of power generation. This will depend on the feedstock its power plants use to produce electricity.

Of Napocor's total energy mix, about 29.56 percent runs on costly coal; another 24.75 percent is fueled by geothermal energy. About 20.69 percent runs on hydroelectric power. Napocor limited its use of oil energy-based plants to only 9 percent at the end of 2005.

The power firm's fuel costs are reflected in both its basic generation and GRAM charges.

And contrary to what most electricity consumers believe, it is not only the Napocor which calls the shots on the consumer's monthly billing.

Transmission costs

Before Epira's implementation, Napocor was charging its customers, mostly bulk users such as distribution utilities (DUs) and electric cooperatives (ECs) for transmission service for the delivery of electricity from the plants to substations and to grids for public use.

The law's passage, however, transferred these functions to the National Transmission Corp. (Transco), a government-owned and -controlled corporation (GOCC) which now operates the country's electrical highways and collects power delivery rates.

Although generation cost accounts for the largest increase in the monthly billing, power delivery rates which DUs and ECs pass on to us from Transco also spell a difference in the power bills.

Subject to the energy commission's approval, Transco's delivery rates are pegged at its maximum allowable revenue (MAR) for each regulatory "reset" covering five years. Transmission projects such as interconnection between grids and upgrading of major electrical thoroughfares are all computed to be included in the delivery rates.

Although Transco justifies this, the energy commission's decision allowing it to recover higher revenues for the next five years raises the possibility of higher delivery rates and higher monthly bills.

Transco was allowed to recover as much as P35.61 billion in revenues for 2006. In 2007, it will have a maximum revenue of P37.3 billion while in the succeeding year, it will collect P38.6 billion. In 2009 Transco will have a MAR of about P39.71 billion and in 2010 it will collect P47 billion.

These revenues, which will be used to fund capital projects, such as interconnection and upgrading projects, will be raised by increasing the power delivery rates. Transco wants to double its total network in circuit kilometers to 40,000 in 10 years.

September auction

Alan T. Ortiz, Transco president, argues that increases in its revenues will allow improvements in its network and help attract investors in its impending auction in September.

Transco, one of the most profitable energy companies in the Philippines with a net income of more than P16 billion last year, is being privatized through a 25-year operation and maintenance concession.

Ortiz admits that the higher maximum allowable revenue to be enjoyed by the winning concessionaire will result in higher delivery rates, but he stressed that these higher rates "are crucial to raising the needed revenues to be used for more capital projects."

Distribution rates, collected by bulk power buyers such as DUs and ECs also affect Philippine electricity rates.

Private DUs such as the Manila Electric Co. (Meralco), Visayas Electric Cooperative and the Davao Light and Power Corp. and EC's collect distribution, supply and metering costs from electricity end users for the delivery of power, accounting for a sizable chunk in the monthly bill.

DUs and ECs pass on a blended generation rate, which represents a mixture of their purchased power from Napocor and from their own IPPs. They also pass on the cost of transmission. Utilities compute their rates by using the RORB method, which allows a certain DU to earn up to a maximum of 12 percent.

Ranulfo Ocampo, executive director of the Philippine Electric Power Operators Association, however, explains that most utilities' revenues are justified as reflected by the rulings of the energy commission.

"The commission allows public utilities to earn a return up to a maximum of 12 percent based on capital prudently invested by the utility and are found to be used and useful in the service (rate base) and working capital," Ocampo said.


Electric cooperatives, on the other hand, do not use the RORB method, since they are nonprofit and do not earn any return on the invested capital. Instead, cooperatives use the case-flow method, which enables them to charge rates that would allow them to pay off their operating expenses and debt servicing, plus 5 percent on those operating expenses that go to a reinvestment fund.

Electricity end-users may not be aware, but they are indeed paying more than what they consume.

Hidden in a consumer's monthly billing are a barrage of subsidies collected by DUs, ECs and the national government used either to energize rural communities in far-flung barangays or to subsidize less affluent sectors of society.

Utilities, for example, provide lifeline rates or subsidized rates given to marginalized or low-income groups of the captive market. Meralco gives discounts to lifeline users who consume less than 100 kWh a month. These lifeline rate users are subsidized by customers with a monthly consumption of more than those of lifeline users.

Before Epira's implementation, a barrage of cross-subsidies also led to the distortion of rates customers pay, effectively hiding the true cost of power they consume.

Transco was then collecting the intragrid (within one grid), and inter-grid (from certain grid to another) subsidies while utilities were collecting interclass subsidies. Interclass subsidies underwrote residences, general service, government hospitals and street lights, among other things. These subsidies worked in such a
way that better-paying sectors subsidized the others.

While all intragrid and intergrid subsidies had been removed at the end of 2005 in compliance with the Epira's provision, not all interclass subsidies were removed, since the energy commission allowed only half of the remaining interclass subsidy to be removed in November 2005. Full removal of these interclass subsidies is scheduled for November 2006.

Last year, the full removal of the Transco's intragrid subsidy in Luzon and the 50 percent of remaining interclass subsidy collected by Meralco led to the reduction of rates by as much as P0.15 per kWh. Lifeline users are exempted from the cross-subsidy removal for a period of 10 years unless extended by law.

Balancing act

In the 1990s the Philippines' greatest headache was to deliver additional power capacity at all cost due to the expected surge in demand, thus justifying the entry of IPPs in the country.

Big-ticket IPPs including Mirant, CalEnergy, and Korean Power entered into the Philippines while local power producers also answered the call for additional power.

In this decade, however, the greatest predicament was how to lower electricity rates. At the forefront of this conflict is the energy commission, which is mandated by the Epira to screen, hear, dismiss or approve all power hike petitions in the generation, transmission and distribution sectors.

A quasi-judicial body, the commission is now burdened with the greatest challenge of keeping electricity rates low for the public's welfare while maintaining a certain level of profit for companies in the power sector.

Its greatest challenge came when the Supreme Court overturned its decision allowing Meralco to collect a P0.17 per kWh increase in its rates, leading to the P30-billion refund the company is still implementing.

Despite the shortage of its manpower, players in the energy sector believe that the regulator remains a crucial component in carrying out the reforms in the power sector.

Napocor's Mendiola said the energy commission "has been effective in hearing our petitions lodged before it and has been diligent in making the public aware of these petitions.

"The Napocor believes that the commission is abiding by its mandate of ensuring fair and objective decision-making that protects the interest of both the utilities being regulated and the end-consumers," Mendiola said.


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