Energy shortfall could not be more evident in Pakistan, and adding more power generation units is one of Pakistan’s biggest needs. The most economical and time efficient solution is coal-based generation despite its environmental costs. Both the PML-N and PTI agree on this issue and the proposed solutions. However, even after one and a half year since the new government came to power, there hasn’t been any conclusion on the modalities of coal power generation.
The incompetence of the regulatory authorities and political rifts are to be blamed for the lingering issue. The government is eyeing 13,000 MW of imported coal based power plants with half at the port and other half close to the load centers. These mega projects would not cost anything less than $18-20 billion and local entrepreneurs do not have the muscle to provide 20 percent equity individually. They can put in small equity with international partners putting in the rest. Needless to say, arranging for 80 percent of the debt portion is not a task that domestic banks can achieve.
In its early days, the government tried to secure financing from the West – both multilaterals (WB, ADB etc) and bilateral (US and others) arrangements. But those efforts remained in vein as no one was extending the finances owing to environmental concerns. Consequently, all the efforts were concentrated on China – and whether one likes it or not, Chinese are the only ones showing interest in Pakistan’s coal power infrastructure.
In June last year, Nepra came up with an upfront tariff of roughly around Rs6.50 per unit. But it didn’t get a single application as the returns were deemed so low that investors were not willing to put in the money given the risk associated with circular debt and the overall country risk. Beggars cannot be choosers –authorities had to bend over to accommodate the wishes of the Chinese and had to revise the tariff structure upwards through the government’s petition.
The new tariff announced in June 2014 is of Rs8.36 per unit, where Rs4.56 per unit is the cost of coal (which is pass through) assuming international coal prices at $110 per metric ton and the rest is operational, capital recovery and other costs.
There are two components of the fuel part. One is its price, and the other is the allowed efficiency. In case of furnace oil plants, the assumption was that 200 grams of oil is used to make 1KWH of electricity. Similar calculations are to be done for coal to compute the weight of coal required to produce 1KWH.
However, the math is not that simple for coal, as coal quality varies from region to region. For example one kilogram coal coming from Indonesia is 50 percent more efficient than that extracted from Thar. Hence, one has to take the calorific value for determination of tariff by considering the usable energy in any form of coal. The higher quality coal has higher price and vice versa.
The revised tariff determined by Nepra this year is based on the assumption of reasonably high calorific value of coal (6000 K cal per Kg) with the exception of Thar coal projects, which have a different tariff structure.
Everybody wants the best, but do not necessarily have the capacity for it. In last year’s tariff, Nepra had assumed very high plant efficiency (42%), which according to one industry source, can only be boasted by 7-8 plants in world.
Other sources such as Asad Umar, former Engro boss and the PTI MNA, claims that plants of 42 percent efficiency have in fact been set up in Bangladesh — albeit media reports suggest the Bangladesh Matarbari 2X600 MW Ultra Super Critical Coal Fired Power Plant has been set up at a cost of $3.8 million per megawatt. (See Asad Umar’s interview in Brief Recording section)
A similar plant was recently installed in Germany bearing the cost of Euros 5 million per MW. The Germans are conscious about efficiency and are critical about carbon emissions and money is not that big a concern for them. The same is the case with Japan, which recently installed a comparable plant at a cost $4-4.5 million per MW. In the US, NRG is in the process of setting up a coal power plant in Texas, which is highly innovative and has zero carbon emission. But that is costing them $8 million per MW.
So yes, Pakistan can also have a plant with high efficiency of 42 percent and optimal plant factor with super critical technology. But can Pakistan really afford to spend $5 million per MW? No. This is why; Pakistan is confined to Chinese technology and companies to have plants costing $1.5 million per MW. It’s a choice, Pakistan will have to make given the ground realities.
Then again, as Asad Umar points out in today’s interview with BR Research, how come Nepra has lowered the efficiency and yet managed to increase the cost of capital at the same time, when in fact lower efficiency should result in lower cost of capital.
Sources say that the reason why Nepra has increased the cost of capital is because the capital cost assumed by Nepra last year was even lower than the Chinese own cost i.e. even Chinese firms cannot commence on those rates in China as the hard cost was $1.2-1.3 million per MW in China, whereas here Nepra had assumed it at $0.9 million per MW in last year’s tariffs. One may wonder how a project could been feasible in Pakistan at $0.9 million per MW.
Additionally, Nepra changed the methodology of internal rate of return computation in its revised tariff structure. In the previous case, it had a return on equity of 17 percent and then there was a separate head of ‘return on equity during construction’ which is to be compensated later and on these there was a withholding tax of 7.5 percent.
This time, Nepra has clubbed all of these three elements in one and that is why it’s showing an ROE of 27.2 percent instead of 17 percent previously. However, by deducting the return during construction and adjusting for WHT, the actual IRR comes down to 15.7 percent, according to sources.
Asad Umar’s petition recognizes this fact. But his core argument is that eight years back when so many investors showed interest at the rate of 15 percent then why can we not have a better negotiation today, and therefore we should be offering rates at or lower than 15 percent.
The investors, however, seem to have a different perspective. Investors say that today’s situation is worse than what it was eight years ago. The foremost reason for higher returns demanded is that receivables of power producers are usually too high owing to circular debt and the investor ought to incorporate the excessive short term financing cost to run operations with delayed payment. To this, Asad Umar makes a valid point: why should we lock in power tariffs for 25 years plus, for a problem that stems from bad governance and that can be resolved relatively much earlier.
This column will follow up on how the issue progresses. In the meanwhile below is a proposal that can possibly be considered by both the sides.
Keep in mind that Pakistan doesn’t have strong negotiation power today. Yet as Asad says, it is not prudent to pay higher tariffs for 25 years plus due to a problem that can be solved in the shorter term. Given this predicament, one option is to have higher tariffs in the first five or ten years, then decrease it in the subsequent years. The other option is to allow higher tariffs for the first 1000-1500 megawatts to kick start the whole coal fired power era, and then give lower tariffs to the subsequent projects. The latter option had also been under consideration for the Thar coal project. Either way, it is best we reach a consensus sooner than later and get the projects rolling, before we regret tomorrow.
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