National Energy Security Conference 2012: MESI Reform Initiatives

Presentation by YBhg Dato Abdul Razak Abdul Majid

28 February 2012

Table of Content
1 2

Introduction to MESI Reform Reform Initiatives

MESI Governance and Agency Roles Accounts Unbundling Ring Fencing of Single Buyer and System Operator

Fuel Mix Option and Supply Security

Stabilisation Mechanism Capacity Planning and Competitive Bidding Industry Structure

1 Introduction to MESI Reform

History of Changes in MESI Structure

Early 1990s Fully Regulated

Mid 1990s Multiple Generation Players

Present

Generation

TNBG & TNBH

IPPs

Energy Commission

TNB Generation Transmission Transmission

IPPs

SO
Distribution Distribution Transmission and Distribution by TNB

SB

Transmission

Vertically Integrated Dominated by National Utility- TNB

Franchised Retailers

Privately-owned IPPs allowed to participate in the generation sector

TNB Distribution Retail

Transmission and Distribution by TNB Privately-owned IPPs allowed in generation and franchised retailers in limited areas for distribution

Opinions on the Current MESI

Transparency

Industry players have requested more transparency in the dispatch process (source: PA study in 2008)

Current dispatch process is managed by System Operator within TNB

Efficiency

Stakeholders expressed desire to see higher efficiency in the industry (source: PA study in 2008)

Technical performance of TNBs supply chain has improved (source: M&E audit report 2008)

Tariff Setting Mechanism

a commonly agreed tariff setting mechanism to be established. Current method of Revenue Requirement calculation by TNB includes non regulated activities such as UNITEN campus and value of unutilized asset (source: M&E audit report 2008)

Fuel

Presently, there is no formal procedure of implementation of fuel pass-through; government extended billions of Ringgit as fuel subsidies

Customer Choice

TNB is sole supplier to majority of end-customers (except for small pockets of franchised areas)

Lagging Behind ASEAN Neighbours In Terms Of Transparency

Malaysia Thailand
Philippines

Example: A simple comparison of electricity bills

Info limited to units consumed

Tariffs by G/T/D

Fuel pass through factor

Additional info: system losses metering charges subsidies charges for environmental fund

x
Transparency

Lacks transparency across key functions performance by G/T/D capacity planning award of PPAs dispatching Adhoc tariff setting mechanism Limited incentives for promotion of RE supply (eg. tariffs for RE has no price escalation)

Transparency via:

accounting unbundling for

G/T/D published capacity planning competitive award of PPA ring fenced dispatch

Higher degree of transparency driven by implementation of a market based system with liberalization across G/T/D

Tariff Mechanism Renewable Energy (RE)

x x

Institutionalized clear tariff

? Market based tariff system

mechanisms (base & pass through)

Significant growth and incentives for RE supply

Slow growth in RE due to ?

lack of incentive

Source: Respective regulator websites

However it has highest tariff in region

Project Context and Background

June - Dec 2008 Khazanahs MESI Study Jan - Dec 2009 KeTTHA-Khazanah Study 4 December 2009 Presentation to Cabinet

Khazanah regularly carries out

reviews across industries in which it has interest 15 studies conducted so far

As Khazanah is NOT the natural

owner of MESI reform, outcome of MESI reform study was handed over to KeTTHA in early 2009

KeTTHA to; Seriously and urgently Form a cross-agency, cross

functional team to plan, track and manage delivery of reform recommendations reform MESI

Study carried out during second

half of 2008: To assess the key issues currently faced by the industry; and To put forth recommendations for reform Priority was on National objectives, followed by Khazanah and finally investee company

Led by KeTTHA and supported by

Khazanah, the study was further refined and amended to include the design of an implementation platform

1st Mar 2010: MESI PMO

kickstarted operations; DatoAbdul Razak Majid is CEO

9th Mar 2011: Incorporation of

Malaysia Programme Office for Power Electricity Reform Corporation (MyPOWER)

Extensive stakeholder
engagement (over 50 meetings with KeTTHA, EPU, ST, TNB, IPPs, amongst others)

Case to Reform MESI

Status quo
UNDERPERFORMING MESI

Key advantages of reform

Performance driven

Regionally competitive on cost and service

quality

High cost (i.e. PPAs, reserve margins) Lack transparency Fragmented governance

Increased transparency and efficiency Streamlined and credible governance

People first

UNSUSTAINABLE TARIFFS AND FUEL

Fuel supply risks (load shedding a real risk) Subsidized tariffs equivalent to ~10-15sen/kwh or RM8 to 12b

Long term supply security and quality Gradual transition of tariff to be sustainable
and reduce subsidy bill

Sustainable tariff support for the poor

Congruence in policies for Energy Efficiency and Conservation, Green Technologies and Innovation

ENERGY INEFFICIENT ECONOMY

Attract industries that competes based on subsidized energy

Efficient use of Energy Flexibility to support Renewable Energy in

a sustainable manner

Align with new economic model

Addressing the Components of MESI

IPP 9 Renegotiate/ extension

New IPPs

Governance/ Policy

Separate agency roles for policy, planning, 1 enforcement and operations, with robust processes Enforce accounting unbundling of TNBs G/T/D 2 operations Ring-fence Single Buyer and System Operations** 3 within TNB for greater transparency, strengthening supervision of regulator

PETRONAS Market price for marginal gas 2

G T D

Accounting unbundling

SB ring-fenced 3 SO ring-fenced Govt

1

Tariff

Separate G/T/D tariff formulas with automatic 4 adjustments for fuel pass through, allowable rates of returns and efficiency gains Maintain policy-driven end user tariff, with selective 5 subsidization Establish a stabilization fund as temporary buffer 6 between G/T/D and end-user tariff

Pass-through 6 Stabilization fund

Fuel

5 Selective subsidization and stabilization End user

7 Ensure economic dispatch, with marginal (or unused) gas to be bought/sold at market price, and gradual phase out of subsidies* Address security of fuel supply, with a transparent plan, including guarantee on committed volume to power sector and options to secure additional supply of gas

Market structure

Secure new capacity via transparent international 8 competitive bidding processes

9 Evaluate broader options for PPA renegotiations

2 Reform Packages

MESI Governance and Agency Roles

Fragmented Governance and the Lack of Transparency Over Industry Performance Further Jeopardizes the Industrys Sustainability
Influencer Decision-making New investments Generation New investment T&D Tariff setting Fuel policy Liberalization Tax and incentives

Incumbent utility Single buyer of IPP generation Full control over system dispatch Access to end users

Capacity required

Formulates energy policy Approves and develops

recommendation on capacity expansion for cabinet approval Formulates privatization policy PPA awards Gas subsidies

Approves end user tariff Coordinates implementation of energy Minister KTAK chairs JPPPET* Implement and enforce electricity supply
Energy Commission policy

**

Policies

Advisor to KTAK Monitors TNB's performance Windfall taxes for IPPs Bakun project

law (e.g., Grid code)

JPPPET*

Chaired by KTAK Minister, includes

EPU, MoF, MITI, MIDA, ST, MTDCA***, TNB, SESB, PETRONAS Discusses tariff review, plant-up programme and service standards

**

PETRONAS on gas supply

Conclusion from Detailed Lab on Industry Governance and Agency Roles

Governance area Focus area Completed between Jan 16th 20th
Overall focus areas and key policy aspects that will be handled by single entity Initial organisation structure & how entity would interact with other agencies/ departments

1 Single Entity
for Energy Policy Energy Policy

2 Policy

development process

Process flow for policy development, impact assessment, and consultation with clear roles and responsibilities for each step along with timelines
Additional key data items needed to be tracked for energy policy development

3 Tariff
Electricity Policy

Timeline for implementation of FCPT and IBR, with proposed governance structure Initial options for operationalising mechanism for stabilising tariffs

decoupling & oversight

4 Capacity
forecast

Diagnostic of current process for capacity planning and high-level transition plan of some functions to ST Chapter outline, frequency of publication and key items to include in Statement of Opportunity

Rules

5 Rule

High-level stock-take of rules Process flow for rules development Details of of capabilities and skill sets needed to execute rule making process

making

Regulation

6 ST Functional
Assessment

High level diagnostic of current regulatory capabilities against upcoming IBR requirements

Accounts Unbundling End User Tariff

Accounts Unbundling End User Tariff

G/T/D tariffs or Incentive Based Regulation (IBR RIGs)
Promote an efficient and economically sustainable MESI via performance based tariffs (includes cost pass through)

Base Tariff related

Regulatory Accounting Unbundling (RIGs)

Supports setting of G/T/D tariffs Data for base tariff Pass through formula calculation

Ring Fencing of SB and SO

Promotes operational transparency, efficiency and competition especially with implementation of passthrough and intl. competitive bidding process

Agency Roles

Enhance industry governance; focus on economic regulation (i.e. tariff setting by ST)

Fuel related

Fuel Mix Policy

Weighted average cost of fuel consumed for periodic adjustment

Salient Components of Incentive Based Regulation (IBR) Separation of TNBs business entities and accounts - Managed Market Model Imbalance cost pass-through mechanism

Threshold for regulator approval for imbalance cost passthrough

Incentive mechanism Determination of reasonable return to licensee Fix tariff determination process and decision (regulatory period) Stakeholders /consumers consultation for every tariff review Regulatory accounts and reporting

Source: Suruhanjaya Tenaga

Ring Fencing of Single Buyer and System Operator

Objectives of a Ring-Fenced Single Buyer (SB) and System Operator (SO)

TNB
PETRONAS G T D
SO ring-fenced reporting Special Committee SB ring-fenced

IPPs

End user

Objective:
Single Buyer: Strengthening the planning process, increasing transparency of scheduling and dispatch, power purchase settlements Establishment of arms-length relationships for power purchase agreements Clear separation of functions between SO and SB

System Operator: to increase transparency of dispatch to enable compliance audits by regulators to increase stakeholder confidence that even with an automated tariff-pass through mechanism dispatch will be at optimum cost to system

Fuel Mix Option and Supply Security

Gearing for Energy Uncertainties

Malaysias energy
requirements are set to increase as the economy advances towards benchmarks seen in advanced economies

The path of the

expected transition will put significant pressure on the energy policies

The path depends on

many factors which can be modeled through defined energy scenarios

Fuel Security What Do We Mean By Energy Security

Four dimensions of energy security

Availability: resources and infrastructure Accessibility: barriers and constraints (fuel and supplier diversity) Affordability: cost to users, and risk to the economy (reliance) Acceptability: environmental, social objectives

Availability

Affordability

Acceptability

Accessibility

Source: Frontier Economics

Examples of Energy Security

Understanding current gas supply issues using the four dimensions of energy security
Availability of reserves not the immediate problem (adequate gas reserves domestically and potential for LNG imports) Availability of infrastructure first aspect of the problem:
Gas current infrastructure limits gas supplies from domestic fields and LNG terminal not yet completed Electricity availability of alternative generation has helped to manage gas supply issues reserve oil-fired generation capacity has ensured continuity of electricity supply

Availability

Greater availability of infrastructure can address the gas supply issue:

Infrastructure for gas supply (incl LNG); or Alternate generation

Affordability is the second aspect of the problem:

Unavailability of gas means that generators have to rely on more costly oil This results in an increase in the cost of electricity currently TNB faces this because cost increase is not passed through to customers

Affordability

Alternative ways of addressing issue have different impacts on affordability (eg LNG may be higher cost than occasional reliance on oil) Diversity of domestic supply unlikely, itself, to address issue

Accessibility

Gas supply issue is about physical infrastructure rather than political, economic or technological risks

Acceptability

Gas supply issue not directly related to questions of acceptability

Source: Frontier Economics

Fuel Mix Study For The Power Sector Frontiers fuel mix study for the power sector
Modelling inputs Fuel inputs
Gas (including LNG) Coal
Oil , Nuclear, Hydro, Renewables, will all be included in generation options

Electricity market modelling

Modelling outputs Fuel mix

Investment and operation of generation by fuel type

Emissions Generator data

Generation options Generation costs Generation characteristics

WHIRLYGIG modelling (present 2030)

Total emissions from electricity generation

Costs
Total cost, average cost and marginal cost of electricity generation

Demand projections

Energy security metrics

Policy constraints
Changes in metrics

outputs provide information to trade-off dimensions of energy security

Source: Frontier Economics

Electricity Modelling

Source: WHIRLYGIG, Frontier Economics

Example: Fuel Diversity Index (HHI)

100% 100% 100% 100% 90% 90% 90% 90% 80% 80% 80% 80% 70% 70% 70% 70% 60% 60% 60% 60%

HHI of electricity HHI of electricity HHI of electricity

Malaysia Malaysia Malaysia Malaysia Australia

Australia Australia Australia China China China China India

HHI of electricity

50% 50% 50% 50% 40% 40% 40% 40% 30% 30% 30% 30%

India India India Indonesia Indonesia Indonesia Indonesia Japan

Japan Japan Japan Singapore Singapore Singapore Singapore South Korea

20% 20% 20% 20% 10% 10% 10% 10% 0% 0% 0% 1986 1991 1996 2001 2006 1981 0%

South Korea Thailand Thailand Thailand Thailand Vietnam Vietnam Vietnam Vietnam 2016 2021 2026 2016 2016 2021 2021 2026 2026 2016 2021 2026

South South Korea Korea

1981 1981 1986 1986 1991 1991 1996 1996 2001 2001 2006 2006 1981 1986 1991 1996 2001 2006

Source: Frontier Economics

Pricing Drivers and Mechanism

1
Reflect value of gas to MESI Maximize long run value of gas Sustainability of supply

Gas price mechanism

Optimize dispatch/capacity mix over time to minimize overall cost

Subject to fuel mix constraints

Tariffs and Stabilization

Gas volume profile

End-user tariffs that is competitive vs. Thailand Industry revenues that reflect efficient costs Output based subsidy management

Fuel mix

Diversify fuel mix and source to match benchmark HHI scores Pursue lowest cost diversification strategy

Current Situation of Gas Supply and Pricing to Power Sector

Conflicting interests between gas supplier and power sector

Implications for ESI dynamics Pressure to increase gas price PETRONAS has weak incentive to maintain or increase domestic gas supply to Peninsular Malaysia Power sector incentivised to use gas for extensive baseload generation Result is gas shortage, system security risk and reliance on costly oil/distillate What is an appropriate adjustment? Higher gas price provides incentive to increase supply. There will be a risk of excess supply if demand falls with increasing prices In long run, higher gas price should encourage power sector to shift baseload generation toward coal (reducing demand for gas)

PETRONAS opportunity cost (MFO or LNG equivalent)

What should be the gas price for power sector

?
Power sector willingness to pay (alternative generation e.g. Coal) Current gas price = RM13.70 mmbtu

Stabilisation Mechanism

A Stabilisation Fund is a Mechanism That Can Be Used to Manage Impact of Electricity Tariff Increase to End Users
Concept Description
Basic Concept Stabilization fund Transparent mechanism to manage the gap between Market pricing End user pricing Mechanism to move subsidy delivery from fuel input subsides to end-user cash subsidies Spain: FADE - Funding of tariff deficit US Maryland: Stabilization and tariff transition plan

Examples
Hong Kong: Stabilization fund managed by utility

Process

Remarks: Currently MESI already has a stabilization concept (i.e. costsharing, PETRONAS fixed gas price) however process is inefficient and promotes wastages due to nontransparent, ad-hoc and sends incorrect pricing signals

1.
Funding Process 2.

Move to market pricing for fuel

Amounts from Consolidated / Trust accounts transferred into Stabilisation Fund Stab. Funds channeled directly to targeted consumers on a 6 month or 12 month basis

3.

A Conceptual Example for Use of Stabilisation Fund

1 Required revenues 1 MESI required revenues likely to be volatile 2 End-user effective tariffs (TNB tariff less

2 Collected
revenues

subsidy from stabilisation fund) needs to account for ability of consumers to adapt and government subsidy/incentive policy

3 System deficits/ 4 surpluses arise when

Size of stabilisation facility Time (years)

revenues collected are below/above system costs Stabilisation mechanism required to shock absorb transition and volatility, with temporary deficits being recovered from future surpluses

Capacity Planning and Competitive Bidding

Competitive Bidding

Capacity Required

Status

Completed Coal Plant 1,000 MW

1,000 MW Tanjung Bin

In Progress Gas Plant 4,500 MW

MyPOWER is working with Suruhanjaya Tenaga to secure the capacity required

Industry Structure

Industry Structure for MESI and Drivers for Change

Industry / Transformation Objectives
Key Drivers for Change
Government financial constraints i.e. needs to reduce subsidy via market pricing of commodities Fuel pass-though mechanism

System security and reliability Economic viability reflective of market prices

Enhanced public trust and transparency in supply processes (i.e. Competitive capacity plant-up, rulebased tariff setting and billing, published customer service level)
Motivation for private sector investment

Environmentally sustainable

Enhanced efficient planning and asset management by industry

Improved management of fuel supply security Preparation for regional integration

Environmental compliance / CO2 emissions

Different Paths and Timeframes

Argentina 1992 8 California 1997 3 Norway 1993 4 Alberta 1996 5 Argentina 2000 California, Norway, Alberta Australia 2001 England/Wales 1998

High

Medium
Degree of Generation Competition

Australia 1997 4

England/Wales
Spain 1999

New Zealand 1999

Low

Portugal,Japan 1999

4 2

England/Wales 1990

Starting Base

None None
X Years taken for transition

New Zealand 1997

Low

Medium

High

Degree of Retail Market Competition

Different Models Experimented Elsewhere

Current ESI
TNB Gen. IPP INT. RE Generation

Enhanced Single Buyer

Generation

TNBG

IPP

Int.

RE

Transmission

TNB EGAT Transmission Transmission TNB Distribution Direct customers End users

Regulator

Transmission

TNB Transmission SB SO

Regulator

Distribution

Distribution Retail End users

TNB Distribution

Direct

End users

Partial Competition (PC) Model

IPP Int. SPP SO

Competitive Bilateral Contract Model (CBC)

IPPs Int. SPP Negotiated Regulator Regulated tariff

Full Competition (FC) Model

Hydro Gencos Negotiated

Generation Transmission

Genco

Negotiated

Generation Transmission

Genco

TNB Transmission

ISO Pool
Transmission Distribution R1 R2 R3

System operator
Regulator Regulated tariff R4

Distribution TNB Distco Retail

New Distco 30% Direct

Regulated tariff

NewCo Transmission

Regulator

Distribution Retail Direct

Distco SB
R1 R2 R3 R4

End users

End users

End users

End users

Regulated tariff

End users

Thank You