MYTO v Power Purchase Agreements: Resolving the inconsistencies in pricing and cost recovery
There is currently an apparent dichotomy between the operation of the Multi Year Tariff Order (MYTO) governing the tariffs of the distribution companies (Discos) and other market participants in terms of the expected charges to be paid for energy and capacity as provided by the Nigerian Bulk Electricity Trader (NBET) alongside the terms and provisions of the Power Purchase Agreements (PPA’s) guiding the contractual relationship between NBET and the Generation Companies (Gencos) in terms of the charges to be paid to the Gencos by NBET for energy and capacity as supplied to the Discos.
To understand the nature of the disparities, it is important to first understand the dynamics of the market in terms of the sale and purchase of energy across the value chain.
Power is generated by the Gencos based on gas supplied by the Gas producers and transporters to the Gencos (except hydro and coal fired plants). The Gas Producers and Transporters enter into a Gas Sale Agreement (GSA) and Gas Transportation Agreement (GTA) with the Gencos.
The Gencos supply power generated to NBET as the licensed trader in accordance with S.68(2) of the Electric Power Sector Reform Act (2005) (EPSRA) which allows the Nigerian Electricity Regulatory Commission (NERC) to issue temporary bulk purchase and resale licence, giving the licensee the ability to purchase electrical power and ancillary services from independent power producers and successor generation companies for the purpose of re-sales to one or more other licensees or to an eligible customer.
The purchase of electrical power from the Gencos by NBET is governed by Power Purchase Agreements, the terms of which must be approved by NERC during negotiations amongst parties.
NBET sells purchased power from the Gencos to the Discos and the relationship between NBET and the Discos is governed by Vesting Contracts with back-to-back provisions that mirror terms contained in the PPA’s particularly with regard to Take-or-Pay Payments, Capacity Payments, Start-Up Charges, Payment on Default, Transmission Loss Factor, etc.
Discos distribute and sell electrical power to customers. The tariffs for the power purchased and sold by the Discos are based on the provisions of the MYTO and the attendant model in force at the time capturing the expected charges to be paid for energy and capacity provided by NBET and the allowed tariffs to be charged to customers by the Discos. The MYTO is also approved by NERC.
Apart from energy and capacity payments charged by NBET to the Discos, the Market Operator (MO) also issues settlement statements every month to the Discos capturing the charges for administrative charges and ancillary services payable to the operators within the electricity supply industry such as NBET, MO, NERC, TSP, etc.
The MO bases its invoicing on the charges as contained in the MYTO whilst NBET charges for capacity and energy based on the terms as agreed in the PPA’s (except for non-active PPA generators whose charges are in line with Section 8(a)(iv) of the Supplementary Order on the Transitional Electricity Market which mandates Gencos without effective PPA’s to be paid for delivered energy and delivered capacity by NBET. Delivered capacity being the capacity equivalent of the energy delivered at the Genco’s busbar).
Discos on the other hand charge customers for energy (fixed cost element has been abolished from Disco tariffs) based on prices stipulated in the MYTO which captures their allowable costs and revenues.
Currently, NBET issues invoices to the Discos based on the contractual terms of the PPA’s which are at variance with the terms of the MYTO which prescribes the Discos tariffs. This implies that the energy costs being charged by NBET based on PPA’s cannot be recovered through the tariffs charged to customers by Discos due to a mismatch of cost elements.
The reason for the disparity is based on the mismatch of the adjustment mechanism of the varying indices and indexations in the PPA’s and MYTO with regard to inflation, fuel price, foreign exchange, etc. which affect energy and capacity prices. Based on the terms of the PPA’s, changes in particular indices require monthly or ad-hoc adjustments to be made to the base tariffs. Although Discos signed Vesting Contracts which feed in costs from the PPA’s, the sporadic changes in PPA indices contradicts with the MYTO which only allows for bi-annual reviews (minor review) to account for changes in market indices.
There is a clear market gap that needs to be closed up especially in light of the fact that the PPA’s regulating NBET’s prices and the MYTO regulating Discos tariffs were duly reviewed and approved by NERC. This disparity further worsens the liquidity crisis that pervades the industry and stagnates the transition to a fully functional electricity market.
Recommendations
Without prejudice to the sanctity of the agreements, all related agreements in the electricity sector must be reviewed to eliminate any and all disparities across mutually dependent contractual terms and framework. If PPA determined prices are allowed to feed through the value chain all the way to customers, there is a high likelihood that customers will revolt against the subsequent frequent retail tariff changes in the same way Discos are revolting against the ad-hoc variations in the PPA indices, especially when it results to an increase in wholesale tariffs.
In the interim, it advisable for NBET and the MO to use the MYTO prices in order to respect the sanctity of the MYTO while NBET engages with the relevant stakeholders and policy makers to explore the creation of a stabilisation fund that will absorb the shortfalls that will accrue pending when the MYTO bi-annual review takes place to pay back the fund. Alternatively, NBET needs to be sufficiently capitalized to enable it cover the shortfall pending when the adjustment mechanisms kicks in to facilitate recovery from the market.
Another suggestion is for the sector to operate on a willing buyer-willing seller arrangement (bilateral market) with a regulated cap on the prices governing the relationship between parties. EPSRA and the market rules anticipate and provide for such an arrangement subject to the electricity supply industry developing to a point where a more competitive market has been established as determined by the Commission. It is however arguable as to whether the market has developed to accommodate bilateral trading arrangements especially considering the current liquidity challenges plaguing the industry.
Whilst contracts have to be honoured, the MYTO Order(s) and industry regulations also remain sacrosanct. Therefore, it is the duty of the regulator to align the PPA’s with the MYTO. NERC ought to adjust the MYTO Model and Disco retail tariffs to be consistent with the contracts. An approach needs to be found that both honours these contracts and allows Discos recover the true costs from their customers.
The lingering regulatory uncertainties and contractual risks will unfortunately continue to deter investments in the Nigerian power sector unless urgent and pragmatic steps are taken by government and the industry regulator to address wholly the identified gaps in the current regulatory framework.
IVIE EHANMO
Ivie Ehanmo is a Senior Legal and Regulatory Consultant for Energy Markets and Rates Consultants (EMRC) (Formerly Mercados EMI).