69881 v2 The World Bank / PPIAF / MOIT Vietnam: Framework for Thermal BOT Tenders & Strategy for Gas Coordination and Harmonization with Market Roadmap Final Report Volume II: - Mechanisms for BOT Market Integration - BOT Tendering Framework 20 June 2009 The World Bank / PPIAF / MOIT Vietnam: Framework for Thermal BOT Tenders & Strategy for Gas Coordination and Harmonization with Market Roadmap Final Report 20 June 2009 PA Consulting Group Prepared for: The World Bank Level 4 PPIAF 369 Queen St Ministry of Industry & Auckland 1010 Trade New Zealand Tel: +64 9 306 8895 Prepared by: PA Consulting Group Fax: +64 9 306 8896 www.paconsulting.com Version: 1.0 The World Bank / PPIAF / MOIT 6/20/09 FOREWORD This Final Report represents the third and final under The World Bank PPIAF-financed Vietnam Framework for Thermal BOT Tenders & Strategy for Gas Coordination and Harmonization with Market Roadmap. It consists of two volumes: Volume 1 presents the executive summaries of assignment activities, and a detailed report on coordination of gas and power development planning. Volume 2 presents the detailed report on mechanisms for market integration and competitive tendering. The report was prepared by Mike Crosetti and John George of PA Consulting Group, Richard MacGeorge of Ridgway Capital Projects Ltd, and Bruce Cole, with additional comments and inputs from Nguyen Quang Hung of Vilaf-Hong Duc Law Firm, Luu Hoang Ha of LDV Lawyers, and Jim Bradley of Hunton & Williams. This report compiles the principal results of all project activities, which commenced in September 2007 and entailed several visits to Vietnam by the team over the course of the work. The consultants gratefully acknowledge the assistance of the counterpart team from the Ministry of Industry and Trade (MOIT), in particular Messrs. Pham Hung, Pham Manh Thang, Ho Dinh Tham and Mai Dinh Trung, as well as Mr. William Derbyshire, Resident Advisor to ERAV, and Ms. Beatriz Arizu and Mr. Richard Spencer of The World Bank. i The World Bank / PPIAF / MOIT 6/20/2009 ABBREVIATIONS & GLOSSARY ACAP Available Capacity, used in the context of a capacity assurance scheme ACCC Australian Competition and Consumer Commission ADB Asian Development Bank ASB Authorized State Body BNE Best New Entrant BOT Build-Operate-Transfer. Unless indicated otherwise, this report uses BOT to refer to thermal power generators in Vietnam operating under a BOT Contract. BT Build-Transfer BTO Build-Transfer-Operate BTU British thermal unit CAN Capacity add-on payment CCGT Combined Cycle Gas Turbine CDE Compania de Electricidad of the Dominican Republic CESPM Compania de Electricidad de San Pedro de Macoris of the Dominican Republic CfD Contract for Differences CGM Competitive Generation Market DOE Department of Energy DOI Department of Immigration DOLISA Department of Labor, War Invalids and Social Affairs ECA Energy Conversion Agreement EDF Electricite de France EGAT Electricity Generating Authority of Thailand EIA Environmental impact assessment EL Electricity Law EMA Energy Market Authority of Singapore EMS Energy Management System EPC Engineering, Procurement and Construction ERAV Electricity Regulatory Authority of Vietnam EVN Electricity of Vietnam FIDIC Fédération Internationale Des Ingénieurs-Conseils, International Federation of Consulting Engineers FRC Full retail competition FSA Fuel supply agreement FX Foreign Exchange GOV Government of Vietnam GPA Government Procurement Agreement GT Gas turbine GW Gigawatt IBWG Inter-Branch Working Group ICAP Installed Capacity, used in reference to capacity assurance schemes ICB International Competitive Bidding ii The World Bank / PPIAF / MOIT 6/20/2009 Abbreviations & Glossary… IFC International Finance Corporation IoE Institute of Energy IPP Independent Power Producer. Unless otherwise indicated, this report uses IPP to mean grid-connected generation that is not owned by EVN and is not a BOT. IPPA Independent Power Producer Administrator in the Philippines JBIC Japan Bank for International Cooperation kV Kilovolt kW Kilowatt kWh Kilowatt-hour LDC Load duration curve LFI Law on Foreign Investment LMP Locational marginal pricing LRMC Long-run marginal cost MCP Market clearing price MIGA Multilateral Investment Guarantee Agency MO Market Operator MOC Ministry of Construction MONRE Ministry of Natural Resources and Environment MOIT Ministry of Industry and Trade MPI Ministry of Planning and Investment MW Megawatts MWh Megawatt-hour NEMS National Electricity Market of Singapore NGO Non-governmental organization NPC National Power Corporation of Philippines NPV Net Present Value O&M Operations and Maintenance PC Power Company, an EVN unit that conducts distribution and retail PDC Price duration curve PJM Pennsylvania-Jersey-Maryland power system PLN Perusahaan Listrik Negara, the State Electricity Company of Indonesia PPA Power Purchase Agreement PPC Provincial People’s Committee PRG Partial Risk Guarantee PSALM Power Sector Assets and Liabilities Management Company of the Philippines PMP Power master plan PMP6 Sixth Power Master Plan RAP Resettlement Action Plan RFP Request for Proposal S&P Standard and Poor’s SB Single buyer SBV State Bank of Vietnam SGD Singapore dollar SO System Operator iii The World Bank / PPIAF / MOIT 6/20/2009 … SOE State-owned Enterprise SRMC Short run marginal cost TECO Tri Energy Company TEPCO Tokyo Electric Power Company TO Transmission operator UNCITRAL United Nations Commission on International Trade and Law USD United States dollar VC Vesting contract VfM Value for Money VND Vietnam dong VoLL Value of lost load WACC Weighted Average Cost of Capital WCM Wholesale Competitive Market WESM Wholesale Electricity Spot Market of the Philippines WTO World Trade Organisation Other words or phrases: BOT Contract: The contract between a BOT and GOV describing their mutual rights and obligations. The BOT Contract exists in addition to a PPA. In other countries, BOT Contracts may be referred to as “concession agreements� or “implementation agreements�. Master plan: The power sector plan stipulated under the Electricity Law, which as currently formulated identifies, among other things, defines the generation expansion plan, the ownership modality of new plants, and in the case of BOTs, whether they are competitively procured or unsolicited. Offtaker: the purchaser of bulk power under a PPA Project Contract: Another name for the BOT Contract. iv The World Bank / PPIAF / MOIT 6/20/2009 TABLE OF CONTENTS Foreword i Abbreviations & Glossary ii 1. Introduction 1-1 1.1 Background 1-1 1.2 Objectives of This Report 1-2 1.3 Relevant Institutional Roles 1-3 1.4 Evolution of Vietnam’s Power Market 1-4 2. The Challenge of BOT Integration into the Power Market 2-1 2.1 Government Objectives 2-1 2.2 Investor Objectives 2-2 2.3 Contracts to Secure BOT Revenue 2-2 2.4 Aligning Contracts with Markets 2-3 2.5 BOT Issues in Market Design 2-5 3. BOT Market Integration Options 3-1 3.1 High-Level Options 3-1 3.2 Option 1: Maintain Traditional PPAs 3-2 3.3 Option 2: Establish 1-Step Dynamic Contracting 3-6 3.4 Option 3: Establish 2-Step Dynamic Contracting 3-11 3.5 Assessment of Options 3-15 3.6 The Importance of Competitive Tendering 3-29 4. Framework for Competitive Tenders of BOT Projects 4-1 4.1 Current Organization of Vietnam’s Electricity Sector 4-2 4.2 Proposed Institutional Framework for BOT Procurement 4-14 4.3 The Identity of the BOT Counterparty 4-15 5. Proposed Process for Award of Thermal Generation BOTs 5-1 5.1 Overview 5-1 5.2 Project Identification & Designation 5-2 5.3 Creation of a Procurement Committee 5-4 5.4 Preparation of Bidding Procedures and Documents 5-5 5.5 Prequalification Proceedings 5-7 5.6 Bidding Proceedings 5-10 5.7 Opening and Evaluation of Proposals 5-13 5.8 Negotiation and Award 5-15 5.9 Monitoring of Thermal Generation BOT Procurement 5-15 6. Model Project Agreements 6-1 6.1 Principal Considerations 6-1 6.2 Project Contract 6-2 6.3 Power Purchase Agreement 6-8 6.4 Fuel Supply Agreement 6-10 v The World Bank / PPIAF / MOIT 6/20/2009 TABLE OF CONTENTS… 6.5 Market Integration within the Tender Framework 6-13 7. Risk Management 7-1 7.1 Risk Overview 7-1 7.2 Pre-Operating Risks 7-4 7.3 Operating Period Risks 7-7 Appendices APPENDIX A: Power Market Implementation Overview A-1 APPENDIX B: Contract Options B-1 APPENDIX C: IPP Integration Case Studies C-1 APPENDIX D: Modeling Results D-1 APPENDIX E: Thermal Generation BOT Experience in Vietnam E-1 APPENDIX F: Legal Framework for Thermal Generation BOT Procurement F-1 APPENDIX G: Draft Instruction for Thermal Generation BOT Development G-1 vi The World Bank / PPIAF / MOIT 6/20/2009 1. INTRODUCTION 1.1 BACKGROUND Vietnam is experiencing some of the fastest power demand growth in the world. To ensure future generation capacity needs are fulfilled, the Government of Vietnam is looking to the private sector to help provide the required investment. Simultaneously, the Government is introducing a power market. These developments are discussed in turn below. 1.1.1 The Need for Private Sector Investment Vietnam faces increasingly tight reserve margins due to rapid economic growth. Timely addition of new generating capacity is essential to ensure continued reliability of supply. While Electricity of Vietnam (EVN) and other state enterprises like PetroVietnam have been able to self-finance generation projects in the past, the scale of future capacity additions requires new sources of capital. Under the Sixth Power Master Plan (PMP6), the base case annual growth rate of energy production averages 16.0% per annum over the period of 2006 – 2010, declining to 11.0% over 2011 - 2015; 9.1% over 2016 - 2020 and 8.0% over 2021 - 2025. PMP6 estimates that over the period 2006 – 2025 approximately USD 114 billion in capital investment for new generation will be required to meet this demand. Installed capacity (including import capacity) will increase from some 9,700 MW in 2005, to 24,919 MW in 2010, and 53,619 MW in 2015. The Government of Vietnam (GOV) envisions an increasing role for independent power producers (IPPs) and build-operate-transfer (BOT) generation projects to fulfill these investment needs1. During the period 2011 – 2015, between 8,225 and 14,675 MW of new BOT capacity is expected to be commissioned2. 1.1.2 The Introduction of a Power Market The GOV is also introducing a power market in phases. Appendix A provides excerpts from Prime Minister Decision No. 26/2006/QD-TTg, which approved the power sector reform roadmap (the Roadmap Decision). These excerpts include an overview of each phase, including the timing, prerequisites for implementation, and key characteristics of 1 The distinction between these two types of projects is that BOTs are governed by the BOT Decree (Decree 78/2007/ND-CP) and are eligible for various Government guarantees and exemptions under that law. The BOT Decree also stipulates the processes by which these projects are developed and implemented. When a BOT is developed, the generator sells power to EVN under a power purchase agreement (PPA), but also enters into a BOT Contract with the GOV, which secures the generators rights to any Government guarantees and/or exemptions that have been agreed. IPPs on the other hand do not follow the BOT Decree, and consequently are secured only by a PPA. Many IPP projects are owned by other Vietnamese state-owned enterprises (SOEs) such as PetroVietnam and Vinacomin. In this report, “BOT� refers to a thermal power generator established on a BOT basis unless specified otherwise. 2 PSMP6 stipulates that 8,225 MW of new BOT capacity will be commissioned during this period, and that another 6,450 MW of capacity will be commissioned as either BOT or IPP capacity. Therefore, a range of estimates is indicated. Of the 8,225 MW that has been already defined clearly as BOT capacity, 5,350 MW has been designated for competitive bidding. 1-1 The World Bank / PPIAF / MOIT 6/20/2009 1. Introduction the market design for that phase. Appendix A also includes commentary on issues to be resolved for progression to the next phase. The principal stages are: • 2005 through 2008: A pilot internal market within EVN • 20093 through 2014: A complete Competitive Generation Market (CGM) • 2015 through 2016: A pilot Wholesale Competitive Market (WCM) • 2016 through 2022: The complete WCM • 2023 through 2024: A pilot market for Full Retail Competition (FRC) • 2024 and beyond: A complete FRC 1.2 OBJECTIVES OF THIS REPORT This assignment is concerned with BOTs, specifically: • How they can be most effectively integrated into the evolving power market • How they should be competitively tendered, and • More generally, how development of thermal power generation can be coordinated with gas development. This Volume 2 of the Final Report focuses on the first two items. In particular, this report aims to: • Develop and evaluate options for contracting BOTs and subsequently integrating them into the market. This framework will not apply to existing BOTs or those currently under development. MOIT must first adopt the framework before it is applied. • Describe and demonstrate the functionality of a model to assess the impact of BOT contracting options, particularly with respect to stranded costs • Prepare a conceptual framework for the competitive tendering of BOTs, consistent with the selected market integration mechanisms • Draft a Government Instruction that stipulates the guidelines, standards and general procedures to be applied for the implementation of the conceptual framework. This volume opens with a discussion of the market integration issues and options, since this is of fundamental importance. Once an approach has been adopted for market integration, the tendering framework can be developed accordingly. As discussed in Section 3.6, competitive tendering is required for the recommended market integration approach to function properly. However, the recommended market integration approach is not required to implement the recommended competitive tendering framework. 3 ERAV now estimates that this stage will commence a year later, in 2010. 1-2 The World Bank / PPIAF / MOIT 6/20/2009 1. Introduction 1.3 RELEVANT INSTITUTIONAL ROLES The BOT market integration and tendering framework will involve several different industry participants at various stages of the market implementation. The following entities are expected to be involved in the CGM: • The BOT, which generates power and sells it to the Single Buyer under some form of contract. • The Owner of the BOT is the firm(s) that owns the shares in the BOT company, i.e. the Owner funds the equity portion of the BOT costs. • Lenders who fund the debt portion of BOT costs. • Owners and Lenders are together referred to as Investors. • The Single Buyer (SB) is the sole purchaser all power produced by all generators (or their agents; see below regarding the BOT Wholesaler) participating in the market. To do so, it will contract with generators using CGM power purchase agreements (CGM PPAs). The SB aims to procure power at least cost. In turn, it will function as a power wholesaler. • A BOT Wholesaler would be the entity that purchases power from the BOT under its PPA and re-sells that power into the market. If the BOT is contracted with the SB rather than an intermediary, then the SB serves as the BOT Wholesaler in the CGM. However, it may be desirable to separate SB functions from management of the BOT’s power purchase agreement (BOT PPA). For example, the SB may face a conflict of interest in trying to procure power at least- cost but also trying to profitably manage the BOT’s PPA. This issue is discussed further below. • By virtue of its role as the sole buyer of bulk power, the Single Buyer is also the sole seller of bulk power to the Power Companies (PCs), which are the distribution/retail companies responsible for the power system 110 kV and below. There are 12 PCs in Vietnam, 11 of which are wholly-owned by Electricity of Vietnam (EVN) and 1 which is a joint-stock company in which EVN holds a majority share. • The Market Operator (MO) receives generator bids and processes them to arrive at market prices and schedules. It will also consolidate bulk power meter readings and use the information for settlements. • The System Operator (SO) will dispatch generation following the market schedules prepared by the MO to the extent possible while ensuring security of supply. This includes coordinating maintenance activities and contracting for ancillary services. • The Transmission Owner (TO) will develop and maintain the transmission network. • The Ministry of Industry and Trade (MOIT) is responsible for producing the power system master plan, which identifies new capacity requirements and how they will be met, for approval by the Prime Minister and for leading the procurement process for BOTs. 1-3 The World Bank / PPIAF / MOIT 6/20/2009 1. Introduction • The Electricity Regulatory Authority of Vietnam (ERAV) is the part of MOIT that performs regulatory functions, including licensing, development of market rules and supervision of market operations, and tariff formulation. Later as the market evolves into the WCM, the role of the Single Buyer will no longer exist. However, it may be necessary to retain a counterparty to BOT contracts, which as discussed later may take the form of traditional PPAs and/or contracts for differences (CfDs). In order to discharge its payment obligations to the BOTs, the counterparty will need to trade in the market, functioning as a power wholesaler. It may therefore be necessary for the BOT Wholesaler to continue operating in the WCM. As noted above, during the CGM the BOT Wholesaler may be separate from the SB. This separate entity would likely continue this function through subsequent phases of the market. On the other hand, if the SB functions as the BOT Wholesaler in the CGM, the SB entity is likely continue to exist in the WCM, retaining only the BOT Wholesaler function as it will lose its monopsony and monopoly status with the introduction of the WCM, i.e. it will continue its contractual relationship with the BOTs. In general, regardless of the phase of the market, the counterparty to the BOT’s PPA or CfD is referred to as the BOT Counterparty. There will be other WCM market participants who buy and sell power in the market (or buy and sell related financial contracts around the market). Such market participants include: • Generators who supply power to the wholesale market – both the spot market and the contracts market. • Power wholesalers, including the BOT Wholesaler, which purchase from generators and sell to wholesale buyers. • Wholesale buyers who buy on either the spot market or the contracts market who may be − certified users4, e.g., large industrial users, − retail utilities, or − aggregators (who act on behalf of several utilities and industrial users) There are numerous decisions yet to be made regarding restructuring of the Vietnamese power sector (particularly with respect to the future structure of EVN) as well as with details of the various stages of the market. While all the above roles are necessary, it remains unclear which entities will fulfill which roles. It is likely that some roles will be fulfilled by entities which have yet to be created. In particular, the identity of the BOT Counterpart is discussed further in this report. 1.4 EVOLUTION OF VIETNAM’S POWER MARKET The CGM design is well-advanced, but has not yet been formally adopted, nor have detailed rules been released. Nonetheless, key aspects of the design such as the use and form of capacity payments and the application of limits on prices that may be bid have been determined. The Roadmap Decision and discussions with MOIT and ERAV provide sufficient information to define and assess various options for BOT integration. This 4 Wholesale buyers from the spot market must undergo several financial and technical requirements to ensure they are physically reliable, their off-take can be measured and they do not place an undue financial burden on the market. 1-4 The World Bank / PPIAF / MOIT 6/20/2009 1. Introduction section describes the key elements of the CGM and WCM around which BOT integration mechanisms will be developed. 1.4.1 The Timing of BOT Commissioning and Market Implementation Exhibit 1.1 shows year-by-year the stages of market implementation per the Roadmap Decision with the timing of BOT commissioning per PMP6. Given that the CGM market design has not been formally adopted nor the rules finalized, the market infrastructure has not yet been procured, and that the Vinh Tan and Mong Duong projects have not yet completed negotiations, there is likely to be slippage of at least a couple years in this schedule in terms of both BOT commissioning and market evolution. Exhibit 1.1: Original Timetables for BOT Commissioning and Market Implementation Year New BOTs Commissioned Market Stage 2008 None EVN Pilot Market 2009 None CGM 2010 Sekaman 3 in Laos (248 MW hydro) CGM 2011 Mong Duong 2 Unit 1 (AES, 600 MW coal) (likely delayed) CGM Vinh Tan 1 Unit 1 (CSG, 600 MW coal) (likely delayed) 2012 Mong Duong 2 Unit 2 (AES, 600 MW coal) CGM Vinh Tan 1 Unit 2 (CSG, 600 MW coal) 2013 O Mon 2 (competitive tender, 750 MW CCGT) (likely delayed) CGM Nghi Son 2 Unit 2 (competitive tender, 600 MW coal) Vung Aung 2 Units 1&2 (competitive tender, 1200 MW coal) Vinh Tan 2 Unit 1 (competitive tender, 600 MW coal) Dong Nam bo 1 Unit 2 (IPP or BOT, 600 MW coal) Kien Giang 1 Unit 1 (IPP or BOT, 600 MW coal) 2014 Vinh Tan 2 Unit 2 (competitive tender, 600 MW coal) CGM Dong Nam bo 2 Unit 1 (IPP or BOT, 600 MW coal) Kien Giang 1 Unit 2 (IPP or BOT, 600 MW coal) CCGT in South (IPP or BOT, 750 MW) Se Kong 4 in Laos (475 MW hydro) 2015 CCGT in South (IPP or BOT, 1500 MW) Pilot WCM Vinh Tan 3 Unit 1 (competitive tender, 1000 MW) Dong Nam bo 2 Unit 2 (IPP or BOT, 600 MW coal) Kien Giang 2 Unit 1 (IPP or BOT, 600 MW coal) 2016 & Numerous BOTs, both on competitive tender and negotiated WCM onwards* basis. * The Roadmap Decision indicates that a pilot market for Full Retail Competition (FRC) will begin in 2023. However, for the purposes of BOT integration, the FRC is no different than the WCM. The Mong Duong 2 and Vinh Tan 1 projects are under development on a negotiated basis with AES and China Southern Grid respectively. Tendering for Nghi Son 2 Unit 2 started in 2008. These BOT projects use traditional PPAs involving the parties shown in Exhibit 1.2. 1-5 The World Bank / PPIAF / MOIT 6/20/2009 1. Introduction Under these BOT PPAs, the BOT is paid for capacity based on availability and variable costs such as fuel are passed through at cost. These are therefore contracts to provide capacity. They do not incentivize the BOT to seek dispatch, and do not accommodate the bidding that lies at the heart of a power market. 2013 was originally estimated to be the first year in which new competitively tendered BOT generation would be commissioned based on the market integration and tendering mechanisms discussed in this report, though 2014 or 2015 is now more likely. However, given the lead times necessary to competitively tender and construct large power stations, it is not certain whether the CGM market will be operational or proven by the time preparations for tendering of these plants will have commenced. Delays in CGM market implementation are likely, as CGM rules have not yet been finalized nor market infrastructure procured. Moreover, as noted in Appendix A, the Roadmap Decision lays out a number of preconditions regarding organizational structure, legal documentation, infrastructure and staff capabilities for the introduction of each stage of the market. Therefore, any BOT procurement that must be planned and initiated prior to operation of the CGM market must offer a traditional BOT PPA as the default contract instrument. Conversely, the BOT PPA must anticipate how the BOT will be treated in later stages of market evolution. The resulting PPA can accommodate conversion to a more “market- friendly� form following event-based milestones. This is discussed further in later sections of this report. Exhibit 1.2: The Traditional BOT Model as Currently Applied in Vietnam Availability NLDC Merit order declaration & information dispatch instructions Capacity pmt BOT EVN Variable pmt Bulk tariff PCs PCs Transmission PCs Money flows Power flows Information flows EVN and its subsidiaries 1.4.2 Implications of the Roadmap Decision for the CGM The Roadmap Decision stipulates that during the CGM stage: • EVN generation, transmission & distribution are re-organized into separate companies • A SB, MO, and SO (referred to as the “power system dispatch operator� in the Roadmap Decision) are set up under EVN 1-6 The World Bank / PPIAF / MOIT 6/20/2009 1. Introduction • Large, strategic EVN generation becomes independent state-owned companies. • Other EVN generation becomes joint-stock companies • IPPs and EVN generation sell power to the SB under PPAs. BOTs are not specifically mentioned in the Decision. • Generators participating in the market bid into the spot market within floors and caps set by ERAV These elements are shown in Exhibit 1.3. Exhibit 1.3: Elements of the CGM Defined in the Roadmap Decision SO Availability declaration & Dispatch dispatch instructions Information Bids Other Other IPPs & MO Generators Generators EVN Gens Dispatch information SB CGM PPA pmts Bulk tariff PCs PCs PCs Transmission 1.4.3 Further Guidance from MOIT/ERAV During the course of this study, discussions with MOIT/ERAV provided further insights regarding the structure and operation of the CGM as follows. Much of this information is presented in Consultancy for the Design of Vietnam Generation Competitive Market by Campbell Carr Ltd, and more recently by the PB Power under the assignment for Development of Market Rules for the Competitive Generation Market5: • The market will be structured as a gross pool for energy. The proposed Vietnam pool resembles that of the Philippines, which functions as a gross poll with net settlement: Market participation is mandatory in that it requires all dispatch to be the result of bidding into the market. Dispatch is based on a security-constrained dispatch algorithm. However, the spot price will be uniform throughout Vietnam. It is calculated ex-post from an 5 PB Power’s workshop materials presented on 3 April 2009 in Hanoi is used as the source for this discussion. 1-7 The World Bank / PPIAF / MOIT 6/20/2009 1. Introduction unconstrained bid-stack. Out-of-merit constrained-on plants are paid their bid price. Spot market bids are to be tightly capped, with the caps related to plant costs and plant types – peaking, cycling and base-load. The justification for the floor limit is the possibility that the SB, acting as BOT Wholesaler bidding down BOTs to lower prices for consumers. If a different wholesaler was used the reason for the bid floor goes away. (The prevailing design does not call for fuel-price indexing through the year. We presume fuel prices are domestic fuels and not necessarily subject to price adjustment as international prices change.) The settlement is net of contract volumes. Participants pay and are paid by the market only for deviations of the spot market volumes from contract volumes. Parties to the contracts settle the contract volumes bilaterally. (Net and gross settlement lead to mathematically identical payment outcomes; the difference is in the settlement procedure). Capacity is paid on availability (defined as the offering of that plant into the market by a valid bid)6and dispatch in the ex post unconstrained stack7. The Capacity Add-on (CAN) is calculated ex ante annually on the costs of a Best New Entrant (baseload) plant. In the prevailing design the payment is stratified across the day so there is no capacity payment at night and a different payment for other hours of the day and months of the year. The payment will be plant- or technology-specific in that plant are paid according to their presumed dispatch proportion. • IPPs and EVN thermal generators will be contracted under CGM PPAs that function as CfDs. Hydro is contracted differently, and is not discussed here. The CfD volume will be for the proportion of the year calculated in advance by market simulation based on an average hydrology, for a volume, say 90- 95%, of their capacity, according to whether they are baseload, cycling or peaking, and for a strike price equal to spot market price + capacity add-on. • BOT PPAs may be different from CGM PPAs used by IPPs and EVN plant. • There are multiple options for incorporating BOTs into this market structure. This report evaluates the most feasible of these options: The BOT participates in the market like any other generator, and receives capacity payments from the SB The SB serves as the BOT Counterparty under the traditional BOT PPA. 6 Available capacity can be measured either by the total capacity of offered plant or the capacity of that plant offered to the market in that dispatch hour. 7 Since CAN is paid on dispatch it is unclear if all plant whose SRMC is less than SMP+CAN will bid at their price floor in order to get dispatched. If this extends beyond their contract volume/period it is presumed they still get the SMP+CAN. 1-8 The World Bank / PPIAF / MOIT 6/20/2009 1. Introduction There had been some concern that the SB may be conflicted from managing BOT contracts, hence it may be appropriate to establish a separate BOT Wholesaler instead of the SB as BOT Counterparty under a traditional BOT PPA. This information is reflected in Exhibit 1.4. This understanding serves as the foundation for the BOT market integration options considered at the CGM stage. Exhibit 1.4: Additional Elements of the CGM Based on Discussions with MOIT/ERAV Availability Availability declaration & SO declaration & dispatch instructions dispatch instructions Information Net for dispatch settlement Other Other Bids IPPs & BOT MO Generators Generators EVN Gens BOT PPA BOT Capacity pmt Net bids settlement CGM contract BOT PPA SB pmts Variable pmt Bulk tariff PCs PCs PCs Transmission 1.4.4 The Nature of the WCM Most work to date has focused on the CGM. ERAV and others have not yet considered the form of the WCM. However, since the life of BOT projects will likely extend into the WCM, it is necessary to assess at least conceptually how BOTs can fit within that market structure as well. The Roadmap Decision stipulates that: • The Single Buyer loses its monopoly and monopsony status. Wholesalers are established. PCs and large consumers can buy directly from generators or wholesalers. • EVN continues to manage transmission, market operation and system operation. In addition, it is assumed here that (i) the fundamental structure of the WCM remains unchanged from the CGM (otherwise, why start with the CGM in that form?), (ii) the WCM is a less tightly regulated market (otherwise, why migrate from the CGM?), and (iii) simpler 1-9 The World Bank / PPIAF / MOIT 6/20/2009 1. Introduction designs are preferred to more complex designs. Therefore the following characteristics of the WCM are assumed: • The WCM continues as a gross pool market with net settlement. • Market power has been dealt with structurally so there are no longer bid limits, at least in the longer term. Consequently there should not be price caps below the value of lost load, as doing so would reduce incentives for development of new capacity. • There are no longer the same capacity payments in the WCM, since there is no longer a single entity to make them, and other than establishing a capacity market, there is no way to spread capacity payments among multiple buyers in an equitable manner. (If capacity payments are to be retained, a capacity market would be the preferred method of delivering them). • The WCM will be an energy-only market. Capacity payments greatly increase complexity. Most gross pool markets around the world have been established as energy-only markets though there are exceptions: a net pool such as NETA in the UK, a day-head gross pool with real-time true-up as for PJM etc, or a gross pool with cost-based bidding as for some South American countries. • As in the CGM market, there are multiple options for how BOTs could fit into the market. This report will evaluate these options: BOTs could be exposed to the market like any other generator (complete market exposure) BOTs could retain their traditional BOT PPA with a BOT Wholesaler (complete market insulation) The BOT PPA could convert to a CfD with a BOT Wholesaler This information is reflected in Exhibit 1.5. This understanding serves as the foundation for the BOT market integration options considered at the WCM stage. The red shading indicates the relationships investigated further in this study. It is assumed here the WCM has progressed from the market “infancy� of the CGM with its PPAs, tightly regulated bidding and complex capacity payment mechanism. The CGM is designed to give generators a reasonably secure income while limiting prices, but leaves little room for the entrepreneurial flare and risk-taking fostered by a real market. If policy makers are uncomfortable with the nature of a freer market and the corresponding risks, then there is little reason to advance from the CGM to the WCM. The analysis and recommendations of this assignment have been prepared to accommodate the possibility that the start and duration of both the CGM and WCM may vary from current plans. Therefore, it is assumed here that the WCM rules will be based on high-level market principles that foster a well-ordered competitive and vibrant industry largely free from detailed regulatory controls, i.e. that it will be characterized by light-handed regulation. For almost any BOT/PPA design a market environment can be constructed to accommodate the BOTs. However, when the market must also serve other players and it must promote an efficient industry, the range of alternatives narrows. No electricity market design is without its problems. 1-10 The World Bank / PPIAF / MOIT 6/20/2009 1. Introduction Exhibit 1.5: Assumed Configuration of the WCM Availability Availability declaration & SO declaration & dispatch instructions dispatch instructions Dispatch Information Bids Other Other IPPs & ex- BOT MO Generators Generators EVN Gens Load BOT could participate in information market like other generators, maintain BOT Wholesalers PPA with BOT Wholesaler, or convert to CfD with BOT CfD pmts Wholesaler PCs PCs MCP energy pmts PCs if dispatched & large consumers Transmission A standard gross pool with locational marginal pricing (LMP, or “nodal�) pricing8 and no bid/price caps maximizes efficiency and gives a clear and simple market for energy at all times. Vietnam has Singapore to follow as a model although may prefer the PJM day- ahead market. Along with the pool there needs to be a liquid contracts market where participants are able to ensure a secure income and a hedge against excess risk. The inclusion of rules such as cost-based bidding as envisioned in the CGM discourages an enterprising BOT from 8 Campbell Carr appears critical of nodal pricing in New Zealand but not in PJM or Singapore. Contrary to the basic thrust of their criticism, nodal pricing does not reduce competition in the wholesale market. Rather, if competition is hindered, it often results from bottlenecks in the transmission system. Nodal pricing highlights the effects of transmission bottlenecks in the same way as “constrained on� or “constrained off� payments do. Typically it is factors such as uncertain gas supply, the high cost and risk of an LNG terminal, environmental laws, local opposition to coal- fired stations or societal rejection of nuclear that may inhibit competition. Nonetheless in New Zealand in the last 2 to 3 years hundreds of wind turbines have been erected, a new CCGT plant has been commissioned and several hydro proposals have been put forward. The market has fared better under the strains of dry hydrologies than it did under the pre-market central planners. Nodal pricing does create regionalization of retailing (although most customers have several possible suppliers), but this in itself is not undesirable. 1-11 The World Bank / PPIAF / MOIT 6/20/2009 1. Introduction taking initiatives to increase its profitability. Capacity payments, if required, that are based on an established mechanism like PJM’s ICAP scheme provide an established methodology for both encouraging sufficient new entrants and providing a market-induced price for capacity, though at a price of greater complexity. 1-12 The World Bank / PPIAF / MOIT 6/20/2009 2. THE CHALLENGE OF BOT INTEGRATION INTO THE POWER MARKET Mechanisms for the integration of BOTs into the evolving power market must respond to the objectives of both Government and investors. This section describes those objectives and highlights some of the potential conflicts between them. It then goes on to describe the various types of contracts that may be used for BOTs and how those can be best aligned with markets. This discussion sets the stage for the identification and evaluation of market integration options in the following chapter. 2.1 GOVERNMENT OBJECTIVES GOV’s objectives for introducing the Roadmap Decision are to: • “Gradually and stably develop the competitive power market, gradually abolish the subsidization of the power sector and increase the right of choosing the power supplier from consumers; • Attract investment capital from different economy sectors nationally and internationally to participate in the power activities to reduce the investment on the State for the power sector • Improve the business effectiveness of the power sector, reduce the pressure of raising the electricity tariff; • Ensure power is supplied stably, reliably with increasing quality; • Ensure the power sector is developed stably.� In terms of BOT investments these objectives can be restated as to: • Attract international investment in generation at the lowest possible cost. There are two corollaries to this: o The GOV wishes to avoid or minimize stranded costs. o Competitive tendering should be used to the extent possible, since international experience has demonstrated that doing so results in the lowest project costs. • Minimize the guarantees, exemptions or commitments the Government must provide to secure that investment; • Nonetheless ensure that BOT projects are of the technical and financial quality to support reliable operation; and • Ensure a smooth (stable) transition from pre-market contracting obligations to post-market contracting. Some of these objectives may conflict. For example: • Minimizing Government guarantees, exemptions and commitments can result in higher project costs as investors seek to compensate for higher risks that result; 2-1 The World Bank / PPIAF / MOIT 6/20/2009 2. The Challenge of BOT Integration into the Power Market • Ensuring that projects are of sufficient technical and financial quality may entail higher costs; and • Ensuring a smooth transition from pre-market to post-market BOT contracting may require the Government to provide additional guarantees or accommodate higher project costs, e.g. to attract BOT investment in the first place, it may be necessary to maintain traditional PPAs for some time post-market, which could result in stranded costs. 2.2 INVESTOR OBJECTIVES Investor objectives are relatively more straightforward than Government objectives: • Owners seek to maximize equity returns commensurate with the risks they take. • Lenders seek return of the capital they lend to the BOT company with interest, with a level of risk commensurate with those interest earnings. In general, lenders will be more risk averse than owners, and will require greater security for their investment. Investors do not necessarily reject risk. Risk cannot be eliminated, but it can be understood, managed and appropriately compensated. For investors it is important that risks be explicit and well-understood so that they can determine the required returns. The introduction of a power market increases uncertainty about conditions and risks BOT investors will face. Consequently, to minimize that uncertainty, investors are likely to insist on: • The BOT must be contracted throughout its life. Establishing a framework that ex-ante stipulates conversion of the BOT to merchant operation at some point during its life would be unacceptable to investors in the absence of detail market rules and operating experience. However, merchant operation can be offered as a voluntary alternative. • A single BOT Counterparty for the life of the BOT. • This BOT Counterparty must have a revenue stream that will support its payment obligations, i.e. it must be creditworthy. • Since the creditworthiness of that counterparty is unproven (since it does not yet have any operating history in the market), Government guarantees for counterparty payment obligations, particularly since the Government is establishing the rules by which the counterparty will operate. 2.3 CONTRACTS TO SECURE BOT REVENUE The BOT will be party to a number of contracts, including the BOT Contract (between the GOV and the BOT), the PPA (between the BOT and the BOT Counterparty), and the Fuel Supply Agreement (FSA) (between the BOT and its fuel supplier) to name some of the principal ones. This section describes two alternative contracts under which a BOT can earn revenue from the BOT Counterparty: the traditional PPA and the CfD. Traditional PPAs are well-accepted and understood by the international power developers and lenders in the context of non-market regimes. A traditional PPA is typically constructed around a two-part payment: a fixed monthly amount for capacity based on 2-2 The World Bank / PPIAF / MOIT 6/20/2009 2. The Challenge of BOT Integration into the Power Market plant availability, and variable amount for energy that is based on pass-through of fuel and other variable costs. In its simplest form, the two-part PPA insulates the BOT from the market. It is a contract for generating capacity that pays for debt, equity returns and other fixed costs associated with the plant solely on the basis of plant availability, and pays the variable cost of generation only if it is dispatched. The BOT has little or no incentive to be dispatched since it recovers its returns to lenders and owners through the fixed capacity payment. There are many variations on the basic PPA structure that sculpt the capacity fee to meet the financing obligations, split the fee between capacity and dispatch with more emphasis on dispatch or varies the contracted capacity, reducing it over the life of the PPA. CfDs on the other hand are well-known in financial circles and to generation companies working in competitive spot markets. Under a CfD the buyer (power consumer) and seller (generator) agree on a strike price and volume of power such that if the price the buyer pays for power in the market is greater than the strike price, the seller pays the buyer the difference between the strike price and the market price for that volume. Conversely, if the market price is less than the strike price, the buyer pays the seller the difference between the strike price and the market price. It is not a contract for physical delivery of power, but rather a hedging instrument to eliminate the volatility in the prices that consumers pay to purchase power and that generators earn to produce power in a market. It is a purely financial contract, with no obligation for the seller to produce power or the buyer to consume power. Appendix B describes these types of contracts and their variants in further detail. These “revenue contracts� are distinct from the BOT Contract. Investors may require greater security or consideration than what can be offered by the counterparty to the PPA or CfD. Conversely, the Government may seek various commitments or obligations from the BOT such as the handover of assets at the end of the BOT period. In such cases the Government and BOT enter into a contract that documents the additional commitments between the BOT and the Government. These agreements are referred to as the Project Contract or BOT Contract in Vietnam, or in other counties as Implementation Agreements or Concession Agreements. Typically these agreements will extend government guarantees to cover counterparty payment obligations, grant tax exemptions, and/or ensure foreign exchange convertibility. Because sovereign guarantees are typically more secure than commercial guarantees, such agreements can enhance the attractiveness of the investment for owners and/or lenders. 2.4 ALIGNING CONTRACTS WITH MARKETS Traditional PPAs were introduced to facilitate private investment in generation into a sector dominated by a fully integrated utility that is publicly owned and centrally planned and dispatched. The new player had to protect itself from the risk that it might not be dispatched much and, if it were paid only on the basis of energy produced, would not be able to cover its short-run and long-run costs. The generator had little or no control over how and when it is run, and the design of the traditional PPA (i.e. fixed capacity costs paid based on availability, and fuel and other variable costs paid as pass-throughs) allowed the generator to be largely indifferent as to whether or not it is actually dispatched. In this environment the traditional PPA made sense. It is a stand-alone contract that has no reference to the prices and dispatch order or priority of other generation plant or the contractual terms of other contracts. The conditions for which PPAs were originally developed are likely to prevail in Vietnam for at least the next couple of years. Hence BOT 2-3 The World Bank / PPIAF / MOIT 6/20/2009 2. The Challenge of BOT Integration into the Power Market projects currently operating or under development such as Nghi Son utilize traditional PPAs. On the other hand, power markets, and gross pools in particular, make payment contingent upon physical dispatch without reference to the identity of other market participants. Financial contracts, such as CfDs, were created around the physical market for generators and consumers to hedge risks of spot price volatility and uncertain dispatch. Consequently, PPAs are ill-suited to markets. Specific difficulties that may arise include: • Consistent basis for payments. Traditional PPAs are “two-part� contracts, i.e. they provide for separate payments for fixed and variable costs based on the actual costs of that plant. These payments carry no relationship to the market price of energy or any market-based availability payment. A gross pool makes payment and charges buyers on the basis of a market price derived from the supply and demand for electricity. This price, which is paid to all generators9, is the incremental cost of energy. It is unrelated to the cost of production of all but the “marginal� plant10. The spot market makes energy-payments, which cover the fixed cost of the plant only to the extent the market price exceeds the marginal cost of production. Where there is a market-based availability payment it is (usually) either the result of a market for capacity or derived comparing the market price of energy and the LRMC of a “reference plant� (e.g., a base-load CCGT). Payments under a traditional PPA are mismatched with payments made under a market. • Market participation. Under a PPA, the BOT does not, of itself, participate in the market but sells its generating capacity to a specific entity. The BOT Counterparty (or some other entity contracted by the BOT Counterparty for this purpose) must offer the BOT capacity into the market in order for it to be dispatched11. If the PPA is for less than the full capacity of the plant, the BOT will want to trade that additional capacity12. This can cause some dispatch difficulties in the spot market. • Efficiency. Markets drive efficiency: productive efficiency (reduced cost of production), allocative efficiency (least cost dispatch scheduling) and dynamic efficiency (optimal on-going strategy for industry development). However, PPAs largely insulate generators from these competitive pressures by providing little inventive or reward from greater efficiency. Any efficiencies that are achieved 9 In a nodal-price market this should read “all generators at the same location�. 10 This assumes, as a first approximation, that in a competitive market generators offer at their marginal cost. In fact they often do not so it is more accurate to talk of the “marginal offer� rather than the “marginal cost�. 11 The entity that might offer the PPA capacity into the market could be the counterparty itself or a wholesaler who has acquired rights to so. The operations of the market do not depend on the identity of the entity. However, the economic incentives and money flow may be quite different for different entities. 12 In the Philippines both Sual and Pagbilao IPP plants have PPAs that cover less than their full capacity. Sual has 200 MW in addition to its 1,000 MW PPA and, after a proposed expansion Pagbilao will also have over 350 MW of “free� capacity. 2-4 The World Bank / PPIAF / MOIT 6/20/2009 2. The Challenge of BOT Integration into the Power Market accrue to the BOT owner and are not passed on to the consumer. In a market, the competitive pressures of the market on a generator exposed to the market sees much of the economic efficiency gain shared with the consumers. • Price and volume risk. Lenders and owners invested in BOTs operating under PPAs take into account the limited price and volume risk (market risk) these contracts offer. As a result, at least in theory, the cost of the BOT PPA will be lower than if they faced full market risk. BOT investors must be protected from (or at least compensated for) these risks if a market is introduced. Even then, in a market the full risks of the spot market can be mitigated by various contractual instruments, especially CfDs. CfDs on the other hand, were developed as hedging tools for power markets, and in that sense are “market-friendly�. However, they present other difficulties in the Vietnamese environment including: • Lack of familiarity. Few if any Vietnamese officials working in the power sector are familiar with CfDs and even fewer have actual experience developing or negotiating them. • Lack of a market at the outset. CfDs were developed to be used around markets as a hedging tool. They reference against a market price and default to the market price for variations in actual volumes from contract volumes. While it may be theoretically possible to develop pseudo-CfD contracts in the absence of a market that can later function as typical CfDs once a market is introduced, the novelty of the concept may not be readily accepted by investors. • Computational requirements. Unlike the PPA which deals in actual plant costs, under a CfD, in order to set the strike price data is required on projected utilisation as well as the normal technical and financial data that underlie a PPA. In the absence of an established market, this data while able to be estimated with simulation modeling, is uncertain. Consequently, the challenge in Vietnam is to develop contractual arrangements for BOTs that: • Provide sufficient comfort to investors • Are readily understood and accepted by GOV and other Vietnamese entities • Are flexible enough to adjust to the various stages of market development envisioned in the Roadmap so that efficiency is maximized and stranded costs minimized at each stage. Appendix C discusses how three other countries (Philippines, Singapore and Dominican Republic) have dealt with the challenges arising from the integration of legacy PPAs and the introduction of CfD “vesting contracts� into power markets. 2.5 BOT ISSUES IN MARKET DESIGN International investors will look for a recognized and accepted market design free from prejudicial gaming opportunities, capricious regulation and inequities. As noted in Chapter 1, the designs of the CGM and WCM have not yet been formally adopted or rules finalized. Consequently, scope remains to also adjust the markets design to more readily accommodate BOT contractual arrangements. Though BOT integration mechanisms that 2-5 The World Bank / PPIAF / MOIT 6/20/2009 2. The Challenge of BOT Integration into the Power Market can function effectively with a range of market designs will offer the most robust solution, there is no integration mechanism that can accommodate all potential markets. Some market design issues must be resolved at the outset. Some of the key market and industry issues for BOTs are identified below. This is a general discussion as the relevance of each issue may vary with the particular BOT integration approach taken. Recommendations are made regarding each of these issues later in this report in the context of recommended BOT integration mechanisms: • Dominance of EVN: There are still issues remaining with respect to the extent of EVN unbundling, in terms of both the functions to be separated and the number of independent companies to be created. New BOT owners and financiers will be concerned by any failure: − to create genuinely independent companies from EVN for: multiple generating companies, market operator, system operator, network ownership and Single Buyer, and, later, independent retailers and “wires� companies. − to ensure the existence of enough independent generating companies to mitigate abuse of market power. Alternatively, ensuring that these independent companies are contracted highly enough to be operating in a competitive subspace of the market. The corollary to this is the need to break the ongoing dominance of EVN in the generation market. • Contracts and contract trading: The availability of risk management contracts of various lengths to supplement a generator’s long-term contracting under their PPA is uncertain. Even in a mature market the availability of such contracts can be thin. There is a good case for the deliberate creation of contractual instruments that are readily tradable and with them a simple market-place in which they can be traded (e.g., an electronic bulletin-board). • Evolution of the Single Buyer: If the SB serves as the BOT Counterparty during the CGM, provisions will have to be made for a successor to serve as BOT Counterparty in the WCM (assuming the BOT will retain a BOT Counterparty in the WCM). The role of the SB will of course change as other buyers are admitted to the market. The new buyers will look to hedge their price risk and establish a contractual buying price. While they can do this with other than BOT generators, the SB, if over-contracted, will need to relinquish some of its contracts to the new wholesale buyers. This can be achieved either by: − dividing up the PPA into a number of smaller contracts so that the BOT has several independent contracts. While this is occurring the opportunity should be taken to convert the PPAs into CfDs, or − retaining the BOT Counterparty without the SB functions as only a wholesaler who “buys/owns� all the traditional PPAs and on-sells the obligations in the form of CfDs for the electricity buyers to hedge their price/volume risks. This exposes the BOT Counterparty to market risks for which it will need to be compensated. The solution will be driven in part by the required nature of the BOT Counterparty, as discussed in Section 4.3. Also, while it is preferable that the contracting with PCs occurs naturally, it may be necessary to use regulated transitional contracts (vesting contracts) between the SB and the PCs similar in nature to the CfD between the SB and the BOT in the WCM. This removes from the SB the risk of financial short-fall. Such contracts would have limited life, possibly of the order of 3 to 5 years. 2-6 The World Bank / PPIAF / MOIT 6/20/2009 2. The Challenge of BOT Integration into the Power Market • Nature of the Spot Market. The character of the spot market as a transparent, predicable, robust and competitive market in which to trade a generator’s capacity has not been fully determined. Although it is understood that a “gross pool� has been chosen as the basic foundation for the spot market, there are many possible variants on this theme. The CGM characteristics that will affect BOTs the most are: − the means by which the market determines dispatch and pricing and how dispatch and prices are related. − The existence of capacity payments and how they are determined. − Regulated offers that limit permissible offer price and/or quantity. • Pricing and dispatch. All gross pool markets use some form of “merit order�, either explicitly or implicitly, to determine dispatch and establish a Market Clearing Price (MCP) − “Dispatch-based pricing� (“nodal pricing� or LMP “Locational Marginal Pricing�13) is the only method that has fully sound economic justification. It has all plant dispatched when their price is below the market price and not dispatched when it is above the market price. The down-side is that each node of the grid has a different price which varies according to transmission losses and congestion. Such markets usually create a reference node or nodes for the clearing of contracts. Some markets (e.g., Singapore and Philippines) use nodal prices for generators and a single weighted average nodal price for buyers. − Alternative methods result in occasional “out of merit order dispatch� resulting from congestion management. So a plant is sometimes dispatched when its offer price is above the market price and others not dispatched when their offer is below the market price. This leads to compensation payments. Such payments raise two issues. Firstly they may occur frequently and often occur for the same generators. Secondly, they raise the issue about whether and how compensation payments are included in the calculation of returns on CfDs and other contractual instruments. • Capacity payments. These payments are used when the energy market does not give sufficient revenue to make generators profitable. This occurs for several reasons. − Prices in the market are constrained by regulation or market rules to limit volatility and reduce the wholesale cost of power. Of course, with the addition of the capacity payment the true average market price (including the capacity payment) is just as high or higher than if the energy price had not been constrained. − The regulator’s desired capacity reserve margin and mix of plant entering the industry (often driven by government policy) is of greater quantity than the market alone can justify. It does not allow the competitive market price to go high enough to provide generators with sufficient revenue to be sustainable 13 Initially, LMP was rejected as complicated but recently more markets are considering adopting it. LMP markets include, in the USA: New York, New England, PJM (Pennsylvania-New Jersey- Maryland); in Asia Pacific: Australia, New Zealand, Singapore and The Philippines as well as several in Central America and South America. 2-7 The World Bank / PPIAF / MOIT 6/20/2009 2. The Challenge of BOT Integration into the Power Market To cope with this some markets run an annual capacity auction. Other markets calculate the difference between the return needed for a target plant and the market revenue. Typically, the target plant is either a low running-cost standard base-load plant such as a CCGT or a low capital cost peaking plant such as a GT. The capacity payment may be projected ex-ante and added to the spot price or to otherwise available plant. Alternatively it may be calculated ex-post and used as a true-up of revenue to the generators. By whatever means, the capacity payment seldom results in an overall reduction in the wholesale buy-price even though it may reduce volatility. Such payments are, of course, desirable for BOT plant when it enters the spot market and will make the transition from a PPA to a CfD more attractive. However, double payment of capacity charges must be avoided. It can be either a market design solution, institutional design solution or a contract design solution. − Market design – claw back wrongful double payment. A robust mechanism for allocating funds with some form of declaration of ownership is required. − Institutional design – use a BOT Wholesaler. This settles unambiguously that the BOT Wholesaler is entitled to capacity payments but faces operational difficulties when plant capacity is greater than PPA capacity, i.e. includes capacity under the BOT’s control. − Contract design – do not have payments that duplicate the market payments. The easiest solution is the use of CfDs which automatically index to the market energy prices. PPAs give BOT owners no rights to market capacity payments. Ultimately, they must come to the same outcome, i.e. that when it is all settled only the legitimate contract payment is made. − The CGM will provide a capacity payment based on the LRMC of a reference plant called the “best new entrant� (BNE). By a stratification of hours and plant type, generators are paid spot price plus capacity add-on (CAN) when they are dispatched. The numbers are calculated to ensure all types of plant are compensated for their fixed costs over the course of the year. As noted previously, it is assumed this would be dismantled in the WCM and either not be replaced or be replaced by a scheme with a well-defined theoretical underpinning that removes unintended anomalies and inequities. • Regulated Offers by Generators. Regulated offers are valuable as a starting position for the CGM but can not survive in the medium to long term. All generators need to be given the opportunity to stay in business. While there is an understandable concern with market power, in the long term there needs to be a win-win outcome for both the Vietnam economy and the power generators. It is understood that: − In the short run there is a need to control EVN’s ability to exercise market power with its large and wide-ranging generation portfolio. Even if this continues, a “mature�, market-friendly approach under a thorough market monitoring scheme with heavy penalties for market manipulation is preferred to arbitrary price caps. This is the approach of a competition authority like the ACCC in Australia. − Regulated offers prevent market price volatility to a large degree. If the market clearing engine shadow price is used to set the price there is the possibility of the price exceeding the highest bid – as a result of congestion in the grid. This argues for a price cap rather than a bid cap. Alternatively, the CGM design also contemplates a cap on overall system marginal price. 2-8 The World Bank / PPIAF / MOIT 6/20/2009 2. The Challenge of BOT Integration into the Power Market − If set at or close to SRMC, the offers represent the inputs and outcomes of a competitive market. If there is opportunity for “cost� to be generously defined the generator would have scope for offering low so as to indicate that it desires to keep being dispatched. We affirm the proposal that the minimum bid be zero (or negative). The CGM design currently incorporates a floor of VND 1/MWh (essentially zero) for thermal power plants in general. − In order to compensate for low offers used to ensure its plant keeps generating at low demand times it is usual for plant to offer its capacity at above SRMC at peak demand times. • Operating reserves. The market design eventually anticipates co-optimized dispatch of energy and operating reserves. In this instance the dispatch bids become more complex. This will increase the possibility of conflicting dispatch for a PPA that only partially covers capacity. • Retail competition. The retail sector, network ownership, market functions and generation are accurately regulated to prevent conflict of interest and to promote competition. Some of the regulatory uncertainty is removed by having a timetable with specific milestones, e.g., Class 1 users (defined by MWh consumption per annum) are contestable by a specific date. As far as possible the exact nature of new features should be included in the timetable. However, to the extent that changes in the BOT operating environment are driven by events and not time, BOTs can be largely insulated from uncertainty about the speed of reforms. • Settlement Processes. In most markets, contracts are normally settled outside the spot market. However, there are strong advantages to settling the spot market, PPAs and CfDs in a single system. In this way contracts and spot trading can be settled so that the market is indifferent to the PPA design in the event PPAs are used. The same physical plant capacity supports both the PPA and market dispatch and availability. So care must be taken to ensure that there is no double payment (or indeed lack of eligible payment) for either energy dispatch or plant availability (market capacity payment). Additionally, in some instances there may be more plant capacity than is covered by the PPA with the excess capacity available to the BOT to trade. The market would of course need special rules to cover dispatch of the same plant (although not the same capacity) if it is owned by two or more entities. This can fit with the intent to have a “net settlement market� where the market only settles the quantities under and over the contract quantities. If the MO is to settle all contracts, as well as providing the contract quantities participants would need to inform the MO of their contact terms and prices. 2-9 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options 3. BOT MARKET INTEGRATION OPTIONS 3.1 HIGH-LEVEL OPTIONS 3.1.1 Overview of the Options There are many variants of the basic models of PPA and CfD and combinations of them. This chapter examines three core BOT contracting options in terms of how they can facilitate market integration, and discusses variations to improve them. • Option 1: Maintain Traditional PPAs: Under this option the BOT is contracted from the outset under a traditional PPA, which is retained for the life of the BOT. When the CGM and WCM markets are introduced the BOT’s capacity is offered into the market by the BOT Counterparty functioning as a BOT Wholesaler. • Option 2: Establish 1-Step Dynamic Contracting: The BOT is initially contracted under a traditional PPA, which continues through the CGM but then converts to a CfD upon introduction of the WCM. • Option 3: Establish 2-Step Dynamic Contracting: The BOT is initially contracted under a traditional PPA which converts to a CfD when the CGM is ready. The CfD is then re-defined when the WCM is introduced. Given the likely timing of BOT development under this framework and introduction of the CGM, it is highly unlikely that any BOT developed under this framework would actually be commissioned prior to introduction of the CGM. However, it is plausible that tendering for a BOT plant subject to this scheme could begin prior to introduction of the CGM, and bidders would want the certainty of a robust contracting framework that could accommodate the absence of the CGM in the unlikely event its introduction is greatly delayed or perhaps that the market is suspended when the plant is ready to commission. Exhibit 3.1 depicts these three options. Exhibit 3.1: Three Contracting Options for BOT Integration Option 1: Maintain Traditional PPA traditional PPAs Option 2: Establish 1-step Traditional PPA dynamic WCM CfD contracting Option 3: Traditional PPA Establish 2-step CGM CfD dynamic contracting WCM CfD Pre-market CGM WCM 3-1 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options The roles of the BOT and BOT Counterparty in the spot market will vary depending on the option applied. If the BOT holds a traditional PPA, the BOT Counterparty (as BOT Wholesaler) acts as a seller of power into the spot market, and the BOT is a non- participant. On the other hand, if the BOT holds a CfD, the BOT Counterparty will act as a buyer in the spot market with the CfD hedge, since it will presumably function as a wholesaler, and the BOT will participate in the spot market directly as a seller. MOIT, ERAV and other consultants (e.g. Campbell Carr and PB Power) have assumed that BOTs will operate under traditional PPAs during the CGM. Options 1 and 2 are therefore consistent with the prevailing thinking. Option 3 has been introduced to provide a more rigorous assessment to confirm this view. 3.1.2 Infeasibility of a CfD from the Outset Contracting a BOT using a CfD from the outset is not among the options considered. Under such an approach, the BOT would be tendered on the basis that it will be contracted with a CfD from the outset. There would be no change of contractual terms as the market evolves. This would facilitate integration directly into the CGM and WCM. However, potential investors want to see an integration framework that is robust enough to facilitate BOT contracting under any potential market evolution outcome. Given the uncertainty regarding the timing of the actual introduction of the market relative to the start of tendering for new thermal generation BOTs subject to this framework, the framework must allow for the possibility that tendering could begin before a market is operating. Alternatively, there is a possibility that the market could be suspended after it is introduced. To allay investor concerns, it is therefore necessary to develop a framework that does not rely exclusively on the existence of a market for settlement of payments per the contract. A CfD requires a market for settlement of payment, and hence is unlikely to be acceptable to investors as an exclusive contracting mechanism. A solution that provides for an alternative payment mechanism in the event the market is suspended or has not yet commenced in essence becomes a dynamic contracting option. Dynamic contracting is considered, and the option of applying CfDs from the outset is therefore not considered further. 3.2 OPTION 1: MAINTAIN TRADITIONAL PPAS A traditional PPA normally covers the entire capacity of the plant and all energy produced by that plant. The term of the PPA is similar to the life of the plant or somewhat less in the case of a BOT. As already indicated, payments under the PPA are not referenced to the market in any way. The BOT receives all its revenue from the contract irrespective of the state of the market. In effect the BOT Counterparty is buying the capacity of the BOT, paying for it on the basis of availability, and reimbursing the fuel and operating costs incurred when the plant operates. In a market environment, the BOT Counterparty may bid the plant into the spot market and write long-term or short-term contracts with other parties so as to maximize its revenue. In doing so, the BOT Counterparty takes on the role of a BOT Wholesaler, seeking to recover from the market as much revenue as possible to pay for the cost of the PPA and earn a margin for itself. Naturally the Wholesaler does not operate the plant; it is run by the BOT owner on the instructions of the SO. But the BOT Wholesaler will be responsible for bidding the plant into the market. (Naturally the PPA should stipulate that neither party frustrate the efforts of the other to fulfill these respective roles). 3-2 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options Whether there are one or more BOT Wholesalers depends principally upon the total amount of BOT capacity relative to the size of the market. The Roadmap Decision stipulates that none of the new generating companies created from EVN assets should represent more than 25% of installed system capacity, presumably to mitigate abuse of market power. This same standard would likely apply to the BOT Wholesaler, i.e. if BOTs represent more than 25% of the total system capacity, more than one BOT Wholesaler (and hence BOT Counterparty) should be created. However, PMP6 indicates that BOT capacity will not reach this threshold, so a single BOT Wholesaler is envisioned. There are three principal issues with maintaining traditional PPAs for the life of the BOT: • Whether during the CGM the SB can serve as the BOT Counterparty and BOT Wholesaler, or whether there should be a separate BOT Counterparty that functions as the BOT Wholesaler. • The potential for and impact of stranded costs, i.e. whether the cost of PPAs is more expensive than if one were able to buy from the market • A lack of incentives for operating efficiency Each of these is discussed in turn below. 3.2.1 The BOT Counterparty and Single Buyer in the CGM As noted earlier, there has been concern whether the SB may face a conflict of interest if it is also the BOT Counterparty. This concern seems to result from the view that the role of the SB is to minimize power purchase costs, but if it also functions as the BOT Counterparty it effectively takes on the role of a BOT Wholesaler and therefore will seek to maximize profits earned from trading the BOT into the market. Under the CGM the SB functions as the buyer of all bulk power produced by generators, including BOTs14, i.e. it is the monopsony bulk power purchaser. It on-sells this power to the PCs on a monopoly basis. The MO determines dispatch of all plants including BOTs based on the bids received. If the SB serves as the BOT Counterparty it will bid the BOT into the CGM for dispatch, and will receive the spot price (if dispatched) along with capacity add-on payments. The SB faces a number of decisions in determining how to bid: the operational parameter of the plant, the bidding behavior of competitors, fuel contracts, the variable costs of its plant compared to competitors, any contractual / BOT pressures to run or not (e.g., any difference in actual variable costs and contractual variable costs), the opportunity to be paid the capacity payment (CAN). Under this integration option the traditional PPA remains in place throughout the CGM market and beyond. If it serves as the BOT Counterparty, the SB is contractually obligated to pay the fixed and variable payments under the PPA. With a PPA covering all the volume of the BOT the SB has no ability to reduce its costs associated with its role as the BOT Counterparty. The cost of electricity for its plant is the same for any values of SMP and CAN. 14 The SB will purchase directly from BOTs if it is the BOT Counterparty. If instead there is a separate BOT Counterparty, the SB will purchase BOT production from that BOT Counterparty. 3-3 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options However, the SB will recover the cost of the BOT PPAs through the bulk supply tariffs to the PCs. Because the SB fully recovers PPA payments to the BOTs from the PCs, neither the SB nor the BOT will depend on producer surplus earned on their bids to be made whole. The SB has no reason to pursue predatory pricing. In contrast, other participants in the CGM will be contracted for less than 100% of their available capacity, and will rely on producer surplus to be made whole if their fixed costs are greater than CAN. The concern is that if the SB also serves as the BOT Counterparty it could suppress the market price received by other generators in the market by aggressive bidding. The degree to which the SB could cause such price suppression would depend upon how much of the capacity the SB bids is at the margin. The SB would need to have enough capacity on the margin to move the price down far enough and often enough to be material. Moreover, the other generators would need to be sufficiently exposed to the market (i.e. sufficiently uncontracted) for this to adversely affect them. The prevailing CGM market design mitigates this risk my placing a floor price on thermal generation bids based on a cost benchmark for operating overnight, which is either the incremental cost at minimum load or the amount saved by shutting down overnight. Even if price suppression occurred despite this bid floor, the effect would be temporary since the capacity payment will (should) compensate for it the next year, as it also should for other plant that is bidding low in order to get priority dispatch. Under-bidding will, of course, spark retaliation from competitors whose income is reduced by a smaller producer surplus, no dispatch and possibly no CAN payment. If it cannot be resolved in the market they should have recourse to object to the MO on grounds of anti-competitive behavior. Of course, generators with CfDs are not exposed to predatory pricing except for their uncontracted volume. The prevailing CGM design anticipates a high level of contracting. In conclusion, the role of the SB in the CGM is not a traditional single buyer role, but rather simply facilitates capacity payments and eliminates the need to establish more a complex multi-buyer market at the outset. Since the SB has little latitude to minimize power purchase costs, has limited ability to profit from the spot market, on-sells power on a full cost recovery, monopoly basis, and competes in a highly contracted market, it would have very little conflict of interest (or ability to exercise such a conflict of interest) in serving as the BOT Counterparty as well. Since the SB can serve as the BOT Counterparty without any conflict of interest, there is no reason to have a separate BOT Wholesaler in the CGM. A separate BOT Wholesaler would only add to costs ultimately borne by consumers, since it would presumably need to generate a margin over and above the BOT PPA payments through its trading activities. There is no need for a middleman between the BOT and SB. The prevailing market design work prepared by PB Power also recommends the SB as BOT Counterparty. Investors would also likely be more comfortable with the SB as BOT Counterparty rather than a separate BOT Wholesaler. The SB can still be the beneficiary of any Government guarantees on BOT payment obligations while playing a real business function in the sector, with associated revenue streams. Given the constrained role of the SB, investors will probably be more concerned with the independence of the MO and SO. However, given the investor requirement for a single counterparty through the life of the BOT (as discussed further in Section 4.3), it will be necessary for the SB to evolve into a BOT Wholesaler once the WCM is launched. Establishing a new BOT Wholesaler as a separate successor to the SB would require assignment of PPAs, which would be undesirable to investors and unnecessary given the potential for the SB to continue to serve as BOT Wholesaler. An alternative would be to divide the BOT Counterparty role among multiple buyers in the WCM. This is infeasible, however, since BOT investors 3-4 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options require a single credit-worthy counterparty that receives GOV guarantees and other credit enhancements. Therefore, under this “maintain traditional PPAs� option, during the CGM the SB serves as the BOT Counterparty and BOT Wholesaler that must bid the BOT into the market for dispatch, and recovers BOT costs through the bulk tariff with the PCs. Later, once the WCM is introduced the SB entity loses its SB functions but continues in the role of BOT Wholesaler, where it must recover BOT costs through bidding in the market. 3.2.2 The potential for and impact of stranded costs Stranded cost may be thought of as the difference between the amount a BOT would be paid under its contract and the amount that would have been paid to it if it were exposed entirely to the market. In the WCM, for example, there could be a potential mismatch between payment obligations to the BOT per the terms of the PPA and the revenue the BOT Wholesaler receives in the market. If the payment obligations to the BOT are less than the revenue the BOT Wholesaler receives in the market, there is no problem. The BOT Wholesaler remains solvent, and the BOT’s payment terms are fulfilled. No stranded costs occur (though whether consumers are better or worse off depends on whether the BOT Wholesaler shares any of its gains with them). On the other hand, if the payment obligations to the BOT are greater than the revenue the BOT Wholesaler receives in the market, the BOT Wholesaler will lose money. These losses can be loosely interpreted as the stranded costs associated with the BOT resulting from the introduction of the market. Markets are introduced on the basis that they will eventually lead to lower costs than a traditional monopoly vertically-integrated utility with BOTs. Consequently the risk that the BOT PPA will be “out of market� is significant. This likelihood adversely affects lenders’ assessment of the BOT Counterparty’s creditworthiness. Mechanisms such as the universal charge used in the Philippines are intended to help keep whole entities which incur stranded costs. Stranded costs do not financially compromise the BOT Counterparty (the SB) during the CGM, but are nonetheless a concern due to the impact on consumers. If the bulk supply tariffs to the PCs are set to recover the bulk power purchases costs of the SB, losses will not accrue in the SB if stranded costs occur during the CGM. Rather, these stranded costs would be passed on directly to the PCs and ultimately consumers. The proposed CGM market design utilizes a cost-based pool in which the SB contracts with generators using CGM CfDs with the price struck at energy plus capacity costs. These CfDs would cover only the duration of the CGM, perhaps renewable annually. CGM capacity payments (CAN) would be based on the LRMC of the Best New Entrant (BNE) plus a demand margin component. Assuming that as a result of the power master plan process, the size, location, fuel type and technology of the BOTs already represents optimal capacity expansion, and given that they are efficient new baseload plants, they are likely to be infra-marginal. The maximum stranded cost that would occur under such a design would be the relatively small portion of uncontracted BOT capacity costs less the producer surplus that would have accrued had they participated in the market as infra- marginal plants. This will be relatively small. Consequently, the risks of stranded costs in the CGM are minimal, but could be significant in the WCM. The only way to mitigate this risk in the WCM is to incentivise BOTs to accept some exposure to the market. Unfortunately, maintaining traditional PPAs throughout the life of the BOT provides no scope for such incentives. 3-5 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options 3.2.3 Incentives for operating efficiency The use of a BOT Wholesaler does not easily incentivise operating efficiency. The traditional PPA variable payment is usually set at SRMC using a pre-defined plant heat rate, and is not designed to provide any returns to investors. The BOT is insulated by the BOT Wholesaler from market pressures to drive down its SRMC. The BOT Wholesaler never has an incentive to bid below the BOT variable payment since it could potentially lose money on that sale. One potential solution would be to develop the BOT PPA such that some component of equity return is included in the variable payment, at least when the CGM starts. However, it is unlikely that investors would agree to a solution that makes full equity returns dependent on a mechanism that makes the BOT Wholesaler less likely to be competitive in the market15. Alternatively, given the risk this would entail, they would increase their required equity returns. The difficulty of incentivising operating efficiency improvements under a traditional PPA is one of the factors contributing to the likelihood of stranded costs when such contracts are maintained in a market through the use of a BOT Wholesaler. This is likely to be an increasing problem as the BOT plant ages and moves lower in the merit order. 3.3 OPTION 2: ESTABLISH 1-STEP DYNAMIC CONTRACTING 3.3.1 Overview of Dynamic Contracting “Dynamic contracting� refers to an approach in which the way a BOT is contracted changes over time depending on market evolution. It is hence “dynamic�. Under dynamic contracting, the BOT receives a contract that functions as a traditional PPA if the market is not operational, but then transitions to a CfD when certain trigger conditions associated with the introduction of the market are achieved. Trigger conditions could be some period of time (e.g. 1 year) after a market “goes live� on a full-scale basis. The dynamic contracting option must anticipate three stages of the market: pre-market, CGM and WCM. The “pre-market� stage is the period prior to the introduction of the CGM. Even though a “pre-market� stage is not mentioned in the Government’s Road Map, it is necessary to define as part of each option the contracting mechanism that will apply in the absence of a market for two reasons: • Although the Government’s power market road map stipulates specific dates for each stage of the market, there is likely to be slippage in this schedule. The start of a market is subject to various pre-conditions. For example, the schedule for introduction of the CGM has already slipped to 2010, and could slip further since the design has yet been formally adopted, the rules not yet finalized, and the procurement of market infrastructure has not yet begun. Though there is also likely to be slippage in the development and commissioning of BOTs relative to the Government’s power master plan, the integration mechanism must anticipate the possibility, however small, that future BOTs may be procured using the integration mechanism prior to introduction of the CGM. 15 Under a traditional PPA, the BOT’s SRMC is approximately its avoidable fuel cost, whereas the SRMC for the BOT Wholesaler is the variable fee specified in the PPA, which is determined by the contract heat rate and other fixed parameters. 3-6 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options • The Electricity Law stipulates that the Government must regulate the electricity market to ensure safety, stability, and efficiency. Conditions might arise where market operations are suspended. This occurred with EVN’s internal market in 2008 due to dry hydrology, and has also occurred internationally (e.g. California). A “fall-back� contract mechanism is required to provide investors comfort that they will still have contract cover if the market is suspended for any reason. The mechanism developed here would only apply to BOT projects procured after the mechanism has been formally adopted by the Government. It would not apply to existing BOTs or those under development. Given the lead times involved, this framework would apply to BOTs to be commissioned 2014 at the soonest. Consequently there are two forms of dynamic contracting considered: • 1-Step Conversion. The traditional PPA is retained from the pre-market stage through the CGM. Upon introduction of the WCM it converts to a CfD intended to cover both variable and fixed costs. During the CGM, the SB serves as the BOT Counterparty. • 2-Step Conversion. The traditional PPA is retained only until introduction of the CGM, at which time it converts to a CfD. As discussed in Section 1.4.4, it is assumed that the relatively tight caps and floors of the CGM are relaxed upon introduction to the WCM. This allows for greater latitude in how the WCM CfD can be constructed. Therefore, in the 2-Step Conversion, the CfD is re-configured once the WCM is introduced. An option under which the traditional PPA would apply only during the pre-market stage, and upon introduction of the CGM convert to a single CfD that could be retained through both the CGM and WCM is not explicitly considered. Such an option is possible as a special case of the 2-Step Conversion, since the prevailing CGM design provides for a market price that incorporates both capacity and energy components. However, a CfD that can work in both markets will be designed and bid around the more restrictive requirements of the CGM. Analysis later in this chapter indicates that such a CfD leads to less desirable outcomes than a CfD designed to take maximum advantage of the greater flexibility in the WCM16. The 1- and 2-Step Conversion options are defined further below along with consideration of five issues common to both options: • CfD volume • CfD strike price • Fuel price risk • Indexing of other parameters • The conversion trigger 16 Specifically, the CGM would not allow much scope for the introduction of collar CfDs, which are shown to lead to the best outcomes under the WCM. Conversely, the two-way CfDs that would likely apply in the CGM lead to suboptimal outcomes in the WCM. 3-7 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options Each of these is discussed in detail below. 3.3.2 The 1-Step Conversion Option In this option the traditional PPA is maintained through the CGM. Upon introduction of the WCM, the contract converts to a CfD designed to cover both fixed and variable costs of the BOT (assuming that the WCM is an energy-only market). The advantages of conversion to a CfD are that: • Recovery of the BOT’s fixed and variable costs is secured as it would be under the traditional PPA, provided that the BOT is available and bidding into the market. • The BOT is in the best position to manage plant availability and bidding. • The BOT is incentivised to continuously improve operating efficiency and maximize dispatch, thereby reducing unit costs, because it participates in the market and would be exposed to the market for any bidding and output exceeding the CfD volume. CfD volume. There are three ways in which the CfD volume could be determined: • It could be set based on operating history of the plant prior to introduction of the WCM (specifically, until the trigger point for the CfD conversion associated with the WCM). If the market has already started, or if prior to the market dispatch has been on SRMC merit order, historical plant utilization may provide a good indicator of future plant dispatch, at least in the near term. Three potential problems with this approach are that: (i) investors may be averse to preparing their BOT bids without knowing what the contractual CfD volume will be. However, if the strike price were set to ensure full fixed and variable cost recovery for a proven level of dispatch, this risk should be largely mitigated; (ii) the calculation of an evaluated price for each BOT bid will need to have an assumption of CfD volume at the time of tendering. However, MOIT could specify a volume for evaluation purposes only based on system simulation modeling; and (iii) the period of actual plant operations used to set the volume may be an unusual period, e.g. exceptionally high or low rainfall year, so that plant dispatch patterns and levels are exceptional. (Though this is a risk whenever CfD volumes are contracted, since they are always contracted ex-ante. The problem here may be the duration of the contract – the rest of the life of the BOT. Bidders may be averse to locking into a long-term CfD based on previous operating history over a limited period). • It could be proposed by the BOT developer at the time of BOT tendering. This approach could address concerns on the part of investors regarding uncertainty in the CfD volume by allowing them to specify it. The bid evaluation methodology can influence how bidders would respond to this. For example, the strike price could be set at a level necessary to recover the residual value of the PPA over the volume of the CfD proposed by the bidder. That would presumably incentivize bidders to bid as high a CfD volume as possible, since that would produce lower strike prices, which would be used in the calculation of the evaluated price. However, care must be taken since a higher volume and consequently lower strike price does not necessarily reduce the likelihood of stranded 3-8 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options costs. Depending on how volume is allocated, higher volume may result in greater coverage over low price (off-peak) periods during which even a reduced strike price may exceed MCP. In any case, at the time of bidding for the BOT the WCM market rules might not yet have been prepared, and investors may feel wary of committing to a CfD volume without knowing the rules of the market. Another issue is that CfD volumes typically vary by time of day, week, season and/or year (e.g. as the plant may change in the merit order as newer more efficient plant comes it). Bidders will likely want to “sculpt� the volumes to maximize coverage in periods that are likely to have low market prices. This could create stranded costs as well, as discussed in Sections 3.4 to 3.5. • It could be set by MOIT at the time of BOT tendering. Investors may be more averse to this option than the others, since the only basis would be MOIT’s own analysis. However, analysis in Section 3.5 indicates that this may be a promising approach if bidders are allowed flexibility with respect to other parameters, such as strike price. Using such an analysis, the contract volume for a thermal BOT would be influenced by the hydro resources. In a wet period hydro will take a lead role in dispatch. The hydro will displace some thermal capacity. In a dry season the thermal will run harder to compensate for the lack of water. There are two ways to respond to this. The first is to set the contract volumes at the requirements of thermal in an average period. The BOTs like other players will need to take the bad times with the good, using dry periods to hedge against wet periods. Alternatively, with collar CfD contracts, the volumes of the ceiling and floor could be adjusted to meet he differences in hydro dispatch. However, the process outlined below for setting CfD volumes suggests that volume should be struck for an average rainfall year. CfD strike price. Once the CfD volume has been established, the strike price could be set such that the net present value of future revenue under the CfD is equal to the net present value of the residual PPA. (“Residual� refers to the value of the PPA from that point going forward until the end of the BOT). Revenue streams (exclusive of any bidding outside the CfD volume, which would be conducted at the BOT’s own risk) would be discounted using the BOT’s weighted average cost of capital (WACC). This strike price would be indexed to fuel prices going forward (and possibly other parameters as discussed below). By establishing the strike price in this manner, any delays in market implementation can be readily accommodated without adversely affecting either party to the CfD. Fuel price risk. Under the traditional PPA the BOT bears no fuel price risk. This risk allocation could be preserved by indexing the strike price to fuel prices, as in Singapore. The Singaporean vesting contracts index their strike price every quarter with the forward price of oil. (Those generators utilize gas, the price of which is tagged to the price of oil in the fuel supply agreement). If the BOT buys fuel on the same forward market there is no fuel price risk but if it buys by other contracts or on the spot market the price may be 3-9 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options different. Since most fuels have official forward prices it is possible for the BOT to hedge its position by buying a forward contract at that price.17 Indexing other parameters. In addition to the contract volume and price of fuel, a number of other components come into the value of a CfD strike price where the strike price aims at providing a cover for fixed costs and an adequate return on capital: • The exchange rate affects the cost of plant and the value of repatriated funds • The WACC is influenced by several factors driving the underlying interest rate, e.g., the risk-free rate, the country risk, the industry risk etc. Singapore deals with each of these by revaluing the strike price every 2 years and indexing the components of the strike price every quarter18. A similar approach can be applied here. CfD conversion trigger. One of three types of conversion triggers could be applied: • Start of market. An obvious conversion trigger is the start of the market. While it is preferred that the conversion trigger should be close to market start it may be better to wait until the market settles down. • One year after market start. Some parameters of the CfD could benefit from some history of the market, e.g. if the CfD volume is to be set on the basis of historical dispatch. To reduce uncertainty it would be better to wait until the market develops some history. A reasonable compromise is to wait for 1 year. By then players will have developed their understanding of the market and have an established offering strategy. From one year’s data more reliable estimates can be made of market outcomes. (The Singapore vesting contracts started 1 year after market start for that reason.) • Internal PPA triggers. The BOT may wish to have more certainty about the conversion trigger. Internal metrics such as the value of outstanding debt could be used (e.g., remaining debt is no more than this figure). However, this approach may be difficult to apply in practice; it would certainly complicate bid evaluation. Consequently, the second option – a specific duration after market “go-live� – is proposed. In summary, under the 1-step conversion: • The CfD volume may be based on prior operating history of the plant, proposed by bidders at the time of tendering, or established by MOIT at the time of bidding. 17 The Singapore generators do not necessarily follow this practice but in failing to do so doing risk that their fuel bill will be out of line with their contract. 18 Singapore is finding a single strike price (for peak, off-peak and shoulder) for all generators so they use the value of a notional “best new entrant�. In contrast, this approach entails the valuation of each BOT separately based on the costs bid and contracted for that plant. 3-10 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options • The CfD strike price will be calculated to yield the net present value of the residual PPA. • The fuel price component of the CfD will be indexed quarterly. • Other parameters such as foreign exchange cost and WACC will be adjusted as well, perhaps every 1 to 2 years. • The conversion trigger should be set as a fixed period after market “go- live�, probably one year. 3.4 OPTION 3: ESTABLISH 2-STEP DYNAMIC CONTRACTING 3.4.1 The 2-Step Conversion Option Like the 1-step conversion, the 2-step conversion includes use of a traditional PPA during the pre-market phase (or initial year of operations), and a CfD to secure both capacity and variable costs during the WCM. All of the issues with the 1-step conversion pertain to the 2-step conversion as well. The 2-step conversion is distinguished by separate arrangements that would apply specifically during the CGM. Consequently, once the WCM has been introduced or has been firmly planned there is no longer a need for a 2- step conversion for new BOT contracts. (But the “fall back� of a traditional PPA structure that can be invoked in the event of market suspension should still be available). According to the prevailing CGM design, non-BOT generators will be contracted under CGM CfDs struck at the estimated “full market price� of MCP plus capacity add-on (CAN)19. These would be two-way CfDs covering less than 100% of available plant (perhaps 90% or 95%). The market would be around recovery of variable costs and sufficient producer surplus to make up for the fixed costs not covered by the CGM CfDs. Non-BOT generators would have CfDs covering these full costs for a volume commensurate with the portion of fixed costs covered by the capacity payments. Non- BOT generators are incentivized to bid into the market to recover any fixed costs not recovered through the CGM CfD capacity payments, and to ensure they do not get caught out when MCP is greater than the strike price of their CfD. The possibility of gaining profit from the market is highly restricted by bid caps and floors tightly defined around a plant’s SRMC so the participants are dependent on their CfD and capacity payment to cover full costs. With all the parameters defined tightly giving little scope for error and with the capacity payments struck annually in advance but with no indication of fuel price indexing within the year the BOT can not rely on making any profit on that part of their volume exposed to the market. A CGM-specific arrangement for BOTs would entail mirroring the same mechanisms. Indeed the proposed CGM design suggests that other new build have a similar but multiyear CfD. This sort of CfD, however, could leave BOTs out of the money compared to a traditional PPA. So as an alternative to being limited to the market defining the capacity payments (or whatever terms are ultimately decided for the CGM CfDs), it may 19 CAN is calculated based on the “Best New Entrant� (BNE). Since CAN will be recalculated every year, only multiyear CfDs need be struck at MCP + CAN. Annual CfDs can be based on only estimated MCP, since CAN will be set each year. It is expected that new generation will require multiyear CfDs to encourage investment. Details of this approach are provided in the Campbell Carr and PB Power reports. 3-11 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options be more effective to allow BOTs to propose at the time of tendering the capacity utilization for which they would be willing to forego the certainty of their PPA and to accept CGM’s market-driven capacity payments. Presumably this would be equivalent to some fraction of the equity portion of project financing. Providing this opportunity to the bidders will allow them to propose arrangements best suited to their risk tolerance and project financial structure. Rather than retaining the variable cost payment mechanisms of the traditional PPA, a CfD would be established for the sum of the variable cost component and the MWh capacity payment derived from the BOT’s bid at the time of tendering. This would allow the BOT full control over bidding its entire output into the CGM while securing recovery of its variable costs for the volume covered by the CfD. As discussed under the 1-step conversion approach there are three options by which the CfD volume can be set: based on historical plant operations up to that point, based on the volume proposed by the BOT during bidding, or as specified by MOIT at the time of bidding. If the first option, the historical plant output data should be adjusted by the same percentage of capacity that the BOT is withdrawing from the capacity payments. This allows the BOT to recover producer surplus on the portion of output not covered by the CfD, so as to compensate for the reduction in capacity payments. Indeed, as an efficient new baseload plant, any new BOT is likely to be infra-marginal and earn producer surplus. However, it will be difficult to exceed the combined market price plus capacity payment owing to the tightly constrained formulation of both of these payment components, although more efficient plant should both have a price and utilization advantage over other similar but less efficient older plant – at least initially. So for a BOT ‘s CCGT this could be achieved with plant utilization greater than that assumed for the benchmark new entrant used to define the capacity payment. Moreover, given the tight bid floors and caps that would be imposed during the CGM, the CGM is expected to exhibit less price volatility than the WCM. The CfD parameters (e.g. volume, floor, cap) that a BOT would seek or accept in the CGM would differ from those sought or accepted in the WCM. Applying the same CfD through both markets, though possible in principle, would likely lead to suboptimal outcomes. Consequently this option assumes that the BOT’s CfD changes from the CGM to WCM. In summary, under the 2-step conversion the same arrangements apply as for the 1-step conversion, except that during the CGM stage: • Capacity payments will be defined by an amount proposed by the BOT at the time of bidding, or as stipulated by MOIT at the time of bidding. • The BOT will have one CfD covering both the capacity payment and the energy dispatch at spot market price, or conceivably two CfDs; one covering the capacity payments and one covering the energy payments • Variable cost recovery will be secured through a fuel price-indexed CfD for a volume commensurate with the capacity payments, thereby allowing the BOT to earn producer surplus on quantities sold beyond the CfD volume. • The CfD strike price and volume would be re-set once entering the WCM following the arrangements described under the 1-step conversion, and capacity payments would stop. The BOTs CfD in the WCM could be structured as a collar rather than as a two-way CfD in which the cap and floor coincide. 3-12 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options Under these proposed arrangements, it may be that the winning bidder does not propose any reduction in capacity payments. Bidders should be allowed this option. In that event, capacity payments would continue as under the traditional PPA in effect during the pre- market stage, and a fuel price indexed CfD would be put in place with a strike price to cover variable costs and a volume set in the same manner as for the 1-step conversion. If the 2-step conversion is applied, then the calculation of the evaluated price can be designed to reward reduction in capacity payments. 3.4.2 Comparing the 1- and 2-Step Conversion Options The 2-Step Conversion tracks the evolution of the market better than the 1-Step Conversion. The benefit of better tracking is decreased likelihood of stranded costs during the CGM. However, the 2-Step Conversion is more complex. The decision of whether that complexity is an acceptable price to pay for the reduced risk of stranded costs should be assessed after the CGM rules have been finalized. In the meantime, a preliminary assessment is made below assuming a CGM market as described in Section 1.4. Exhibits 3.2 through 3.5 show the market structures that would result from the application of each option during the CGM and WCM. The structure shown in Exhibit 3.2 represents the prevailing CGM market design. Exhibit 3.2: CGM Market Structure under Option 1 (Traditional PPA) and Option 2 (1- Step Dynamic Contracting) Availability Availability declaration & SO declaration & dispatch instructions dispatch instructions Information Net for dispatch settlement Other Other Bids IPPs & BOT MO Generators Generators EVN Gens BOT PPA BOT Capacity pmt Settlement bids of bids CGM contract BOT PPA SB pmts Variable pmt Bulk tariff PCs PCs PCs Transmission 3-13 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options Exhibit 3.3: CGM Market Structure under Option 3 (2-Step Dynamic Contracting) Availability Availability declaration & SO declaration & dispatch instructions dispatch instructions Information for dispatch Net settlement Net Other settlement Bids Other IPPs & BOT MO Generators Generators Bids EVN Gens Net settlement CGM CfD pmts CGM CfD pmts SB Bulk tariff PCs PCs PCs Transmission Exhibit 3.4: WCM Market Structure under Option 1 (Traditional PPA) Availability Availability declaration & SO declaration & dispatch instructions dispatch instructions Dispatch Information Net settlement Net Bids Other Other settlement IPPs & ex- BOT MO Generators Generators BOT PPA EVN Gens BOT PPA energy Bids Load capacity pmts pmts information BOT Whlslr Wholesalers Net settlement CfD pmts PCs CfD pmts PCs PCs & large consumers Transmission 3-14 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options Exhibit 3.5: WCM Market Structure under Options 2 & 3 (Dynamic Contracting) Availability Availability declaration & SO declaration & dispatch instructions dispatch instructions Dispatch Information Net settlement Net settlement Bids Bids Other Other IPPs & ex- BOT MO Generators Generators EVN Gens Net settlement Load CfD information pmts BOT Whlslr Wholesalers Net settlement CfD pmts CfD pmts PCs PCs PCs & large consumers Transmission 3.5 ASSESSMENT OF OPTIONS Drawing from the Government and investor objectives described in Sections 2.1 and 2.2 respectively, the three options are assessed against the following criteria: • Whether the option allows for a single BOT Counterparty that can be the recipient of Government guarantees over the entire life of the BOT • The likelihood of minimizing stranded costs • The likelihood of minimizing costs to consumers20 • The ease of transition from one stage to the next As discussed above, all options have been designed to utilize a single BOT Counterparty over the entire life of the BOT. Therefore, the first criterion is met by all three options under consideration. 20 Minimizing cost to consumers is not necessarily the same as minimizing stranded costs, though the two may coincide. For example, a situation could arise in which a BOT is fully exposed to the market, i.e. there is no stranded cost, but because the market is tight and the BOT Counterparty is inadequately hedged, the BOT retains the windfall of high spot market prices to the detriment of consumers ultimately relying on the BOT Counterparty for supply. 3-15 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options To assess the second criteria, a model was developed to compare the revenues of the BOT and the BOT Counterparty under various contracting options. This contract cost calculator determines potential stranded costs resulting from each option by evaluating the net revenues that accrue to the BOT Counterparty. The model does not forecast stranded costs, but rather compares stranded costs on a relative basis between options under a given scenario of market price duration curve, BOT fixed and variable costs, CfD volume, etc. The option characterized by the lowest stranded costs relative to the other options over the broadest range of scenarios is preferred. The model also enables indirect assessment of the third criterion, impact on consumers. Revenues earned by the BOT are revenues forgone by the BOT Counterparty. There is no guarantee that gains earned by the BOT Counterparty will be made available to consumers, but at least they remain with a state-owned enterprise (SOE), and could possibly be passed on to consumers in terms of lower wholesale rates. On the other hand, if a BOT earns windfall revenues as a result of high market prices and is not party to a CfD that requires payment to the BOT Counterparty, then that money will remain with the BOT. The fourth criterion is considered in light of the second and third criteria. For example if a particular option is only slightly better than another in terms of minimization of potential stranded costs but is much more complicated to implement, it may be worthwhile to select the less complicated option. This criterion is therefore considered last. 3.5.1 The Contract Cost Calculator The flow of the contract cost calculator is shown in Exhibit 3.6. The model calculates the revenue accruing to the BOT and the BOT Counterparty over the period of a year by virtue of the contractual relationship between them and the operation of the market. It assumes that the plant does not affect the market price – it is a price-taker. This is a reasonable assumption for most new plant. The model calculates the revenues earned by the two parties under four different contracting options over three different stages of the market based on user-defined scenarios of BOT and market characteristics. The four contracting options are: • A traditional PPA between the BOT and the BOT Counterparty • A two-way CfD between the BOT and BOT Counterparty, with the volume allocated uniformly across all periods of the year (the “Uniform CfD� option) • A two-way CfD between the BOT and BOT Counterparty that first allocates volume to the peak period until all potentially available BOT production during that period is covered by the contract, then to the shoulder period and so on until the volume is exhausted (the “Top-Loaded CfD� option). • A collar CfD between the BOT and BOT Counterparty that establishes a floor price below which the BOT Counterparty pays the BOT the difference, and a cap price above with the BOT pays the BOT Counterparty the difference. Volume is allocated as with the Top-Loaded CfD. This is the “Collar� option. In all four of these options, the model calculates the revenues accruing to each party by virtue of the prevailing contract between them, plus the sale of power into the market by either the BOT (under the CfD options) or the BOT Counterparty (under the traditional 3-16 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options PPA option). These calculations are done for each option at each stage of the market, i.e. pre-market, CGM and WCM. Exhibit 3.6: Contract Cost Calculator Variable Cost Lifetime Price Duration Curve Build Cost Capacity Initial inputs to Capacity Pmt (in CGM) define scenarios WACC Availability Define BOT Define Market Characteristics Characteristics Volume Determine Dispatch Define CfD Calculate PPA Characteristics Payments Payments from BOT Counterparty to BOT under PPA option Calculate CfD Determine Payments Market Payments Payments between Payments to BOT BOT Counterparty Calculate under dynamic and BOT under contacting option or Stranded Costs dynamic contracting to BOT Counterparty option under PPA option Stranded costs are defined here as the amount paid to the BOT over and above the revenue it would earn in the market under merchant operation. It is assumed the BOT Counterparty is the source of all BOT revenue apart from any revenue the BOT earns by participating directly in the market. The net revenue of the BOT Counterparty is any revenue it earns in the market by virtue of trading the BOT’s capacity (i.e. when functioning as a BOT Wholesaler) less any contract costs it pays to the BOT. Therefore, the BOT Counterparty’s net revenue represents a stranded cost if the BOT Counterparty net revenue is a loss (negative). On the other hand, if the BOT Counterparty’s net revenue is a gain (positive), it means that the GOV (because the BOT Counterparty is a SOE), and possibly consumers, are getting a better deal than if the BOT were operating purely on a merchant basis. Each scenario is defined in terms of: • Characteristics of the BOT plant • Characteristics of the market (for those stages where a market exists) • Characteristics of the CfD (for those options that utilize a CfD) The BOT plant is defined in terms of its variable cost, fixed O&M costs, build costs, WACC, lifetime (the period of the Project Contract), capacity and availability. The analysis conducted here assumes a CCGT, though the parameter values can be changed to 3-17 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options represent a coal-fired plant. The values used in this analysis are given in Appendix D. Since the model covers the period of a single year, there is no consideration of fuel or foreign exchange rate escalation. Fuel costs and plant heat rate are implicit in the variable cost of the plant. Availability is defined as the 100% less percentage of time in the year the plant faces planned or forced outages. The CGM and WCM markets are characterized in terms of a price duration curve (PDC) for the year. In addition, for the CGM a capacity payment is specified as a percentage of full fixed cost recovery. The model represents the PDC as a four-segment step function. The four segments correspond to peak, high shoulder, low shoulder and base periods. Each of these segments is defined in terms of the market clearing price (MCP) for that period and the percentage of time in the year that MCP is in effect. Exhibit 3.7 shows an example of a load duration curve (LDC) and PDC for the Singapore market for 2005. The key observation is that prices show much greater variation than load. Prices in the highest 1 or 2% of the year may be orders of magnitude higher than the average price for the year, whereas annual peak load may be only 50% higher than average load. Peak prices must be at least sufficient to cover LRMC of peaking plant, typically open-cycle gas turbines (GT). During off-peak periods, MCP is typically set by the SRMC of the marginal plant. Because it would be highly speculative to forecast market prices for Vietnam given that market rules have not yet been finalized, this analysis defines PDC scenarios reflecting: • Whether the CGM or WCM is in effect • Whether there is over or under capacity in the system • The efficiency of plants in the generation mix relative to the BOT Economic theory suggests that the PDC for the CGM and WCM would be the same, i.e. based on the SRMC of the marginal plant during each period. However, the WCM and the CGM will be implemented during different periods of time, with different rules (e.g. existence of capacity payments and floors/caps), and with different load duration curves and different generation mixes. These differences will result in different PDCs. In addition, the scenarios developed for the WCM include a “volatility factor� that has been observed in fully competitive gross pool markets around the world. For example, analysis of the Singapore more indicates MCP in the range of 2 times to 40 times greater than the SRMC of the marginal unit during peak periods, with an average of 4 times greater. In shoulder periods, MCPs are 1 to 1.3 times greater than marginal plant SRMC. In base periods, differences between MCP and marginal plant SRMC are negligible. 3-18 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options Exhibit 3.7: LDC and PDC for Singapore, 2005 1000 6,000 Max $4,497.99 with 28 prices 900 above S$ 1,000 5,000 800 700 MCP, Singapore dollars / MWh 4,000 600 System Load, MW PDC 500 3,000 LDC 400 1.5% over S$ 200/MWh 2,000 300 CCGT SRMC = $64.82 Prices adjusted to same fuel price 24 half hours at $0 200 price = 0.14% of time 1,000 100 0 0 1 1461 2921 4381 5841 7301 8761 10221 11681 13141 14601 16061 Half-hourly periods of year Whether the future Vietnamese power system is over- or under- capacity depends upon actual demand growth and progress in adding new generation. Some deviation from plan one way or the other is likely. These deviations will manifest themselves principally in terms of the percentages of time that a particular class of plant is at the margin. The greater the under-capacity, the greater percentage of time peaking units will be at the margin. Over time, the generation mix will change as old plant is retired and new plant is added. In the absence of subsequent repowering, efficiency of the BOT is more or less fixed once the plant is constructed. However, over the 20+ year life of the BOT, the stock of other generation will change, with more efficient plant coming on line. It is likely that during that period marginal plant will be retired as new, more efficient plant is added. MCPs in the PDC will trend downwards (assuming of course everything else equal) while BOT costs remain constant. Based on the above considerations, the analysis applies the PDC scenarios shown in Exhibits 3.8 and 3.9 for the CGM and WCM respectively. The stack of generation against the LDCs for the CGM and WCM for the Tight and Slack Capacity Scenarios are shown in Exhibits 3.10 and 3.11 respectively. 3-19 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options Exhibit 3.8: PDC Scenarios for the CGM Competitive Generation Market (CGM) 21 Capacity Scenario Relative Marginal Efficiency Period Plant Tight Capacity Slack Capacity Scenario Assumed Price, % of Price, % of time 22 USD/MWh time USD/MWh 23 BOT Peak GT 186 18% 186 0% Relatively High Import 24 50 16% 50 1% Efficient Shoulder 25 Low CCGT 28.56 66% 28.56 94% Shoulder 26 Base Coal 20 0% 20 5% BOT Peak GT 186 18% 186 0% Relatively High Import 50 16% 50 1% Less Shoulder Efficient 27 Low CCGT 27.44 66% 27.44 94% Shoulder Base Coal 20 0% 20 5% 21 The “Tight Capacity� scenario assumes the base case plant mix for 2015 under PSMP6 together with the high demand forecast. The “Slack Capacity� scenario assumes the same plant mix, but the PSMP6 low demand forecast. 22 In the Tight Capacity scenarios there is load shedding. Many markets establish a fictitious generator priced at value of lost load (VoLL) to set the price during periods of load shedding. An alternative is to establish a price cap below VoLL. Here the price of the marginal peaking unit is assumed to set the MCP for peak periods regardless of whether load is shed. 23 Based on data from Singapore showing a GT SRMC of USD 186/MWh. 24 PSMP6 indicates that current imports from China are priced at 3.8 to 4 US cents/kWh. A real escalation equivalent to 20% is assumed here. 25 Assumes BOT is 2% more efficient than the CCGT operating as the low shoulder marginal plant. The BOT is assumed to have a variable cost of USD 28/MWh based on a gas price of USD 3.65/mmBTU (as stated in PSMP6) and heat rate of 7400 BTU/kWh plus USD 1/MWh variable O&M. 26 Assuming USD 30/t for delivered coal with a heating value of 5,500 kcal/kg, consistent with domestic coal assumptions under PSMP6. Plant efficiency assumed to be 37% with variable O&M of USD 5/MWh. 27 The CCGT serving as the low shoulder marginal plant is now 2% more efficient than the BOT. 3-20 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options Exhibit 3.9: PDC Scenarios for the WCM Wholesale Competitive Market (WCM) 28 Capacity Scenario Relative Marginal Efficiency Period Plant Tight Capacity Slack Capacity Scenario Assumed 29 Price % of time Price % of time 30 31 BOT Peak GT 744 22% 372 0% Relatively Efficient High Import 50 20% 50 0% Shoulder 32 Low CCGT 37.13 42% 28.56 30% Shoulder Base Coal 20 16% 20 70% BOT Peak GT 744 22% 372 0% Relatively Less High Import 50 20% 50 0% Efficient Shoulder 33 Low CCGT 35.67 42% 27.44 30% Shoulder Base Coal 20 16% 20 70% . 28 “Tight Capacity� scenario reflects base case 2025 generation mix and high load forecast from PSMP6. “Slack Capacity� scenario assumes the same generation mix along with the low demand forecast. 29 In the Tight Capacity scenarios there is load shedding. Many markets establish a fictitious generator priced at value of lost load (VoLL) to set the price during periods of load shedding. An alternative is to establish a price cap below VoLL. Here the price of the marginal peaking unit is assumed to set the MCP for peak periods regardless of whether load is shed. 30 Assumes volatility factor of 4. 31 Assumes volatility factor of 2. 32 Assumes volatility factor of 1.3. 33 Assumes volatility factor of 1.3. 3-21 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options Exhibit 3.10: Determining Time on Margin for the CGM CGM - Tight Capacity Scenario 33000 30,000 28000 25,000 23000 20,000 GT 18000 Imports CCGT MW Coal 15,000 Hydro 13000 LDC 10,000 8000 5,000 3000 0 -2000 1 1,461 2,921 4,381 5,841 7,301 8,761 10,221 11,681 13,141 14,601 16,061 Annual half-hourly period CGM - Slack Capacity Scenario 30,000 25,000 20,000 Imports CCGT MW 15,000 Coal Hydro & Ren Generation 10,000 5,000 0 1 1,461 2,921 4,381 5,841 7,301 8,761 10,221 11,681 13,141 14,601 16,061 Annual half-hourly period 3-22 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options Exhibit 3.11: Determining Time on Margin for the WCM WCM - Tight Capacity Scenario 70,000 60,000 50,000 GT Imports 40,000 CCGT MW Coal Hydro & Ren 30,000 LDC 20,000 10,000 0 1 1,461 2,921 4,381 5,841 7,301 8,761 10,221 11,681 13,141 14,601 16,061 Annual half-hourly period WCM - Slack Capacity Scenario 70,000 60,000 50,000 Imports 40,000 CCGT MW Coal Hydro & Ren 30,000 LDC 20,000 10,000 0 % 8.36% 16.71% 25.07% 33.43% 41.79% 50.14% 58.50% 66.86% 75.21% 83.57% 91.93% percent of time The model assumes that the BOT will be bid into the market at its SRMC, which is represented as the user-specified variable cost. The model starts with the peak period first, and dispatches the plant in that and other periods until either the plant reaches its maximum capacity factor, or its variable cost exceeds MCP for that period. For any given period in which BOT variable cost is less than or equal to the MCP, the BOT is dispatched up to the lesser of: its capacity multiplied by its availability over the period, or the 3-23 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options maximum plant output remaining. This algorithm is used to determine plant dispatch for the year, and consequently its annual capacity factor as well as plant revenue from the market. BOT annual dispatch (expressed by the capacity factor) is then applied to calculate PPA payments. The PPA variable payment is calculated as the annual capacity factor multiplied by (plant capacity x 8760) multiplied by variable cost (USD/MWh). It is assumed that the plant meets the minimum availability requirement to receive its full capacity payment under the PPA; this payment is calculated as the recovery of build costs at the WACC plus fixed O&M, estimated as a percentage of build cost. Two-way CfD characteristics (i.e. those for the Uniform and Top-Loaded CfD options) are represented by the strike price and user-specified volume. The user specifies separate volumes for the WCM and CGM. The strike price in the CGM is set equal to BOT variable cost (which is the same as PPA variable component). The strike price in the WCM is set as the sum of the BOT variable cost plus the recovery of PPA fixed cost (capacity payment) over the CfD volume. CfD settlements between the BOT and the BOT Counterparty are then calculated as follows: • For a “uniform CfD�, the contract volume is spread evenly over all periods in the year, i.e. the volume is expressed as a single capacity factor applied in each period. Settlement is made on the basis of the difference between time-weighted average MCP for the year and BOT variable cost for the volume specified. If BOT variable cost is higher than annual average MCP, then the BOT pays the difference to the BOT Counterparty; if it is lower, the BOT Counterparty instead pays the BOT the difference. • For a “top-loaded� CfD, the volume is first allocated to the peak period, next to the high shoulder period and so on until the entire contract volume is exhausted. Settlement is made on the basis of the CfD strike price and the annual average MCP weighted by the relative amount of energy (volume) allocated in each period. As noted above, stranded costs are manifested in the net revenue position of the BOT Counterparty. It is assumed that in the pre-market stage, the BOT Counterparty is able to recover all costs of the BOT PPA. There is no market at that stage, so there cannot be any stranded costs. Whether or not the BOT Counterparty is in fact allowed to recover those costs is a tariff design issue apart from the issue of how a BOT can be best integrated into the market. In the CGM and WCM, on the other hand, if the BOT Counterparty’s net revenue is positive, the BOT is receiving less than if it operated on a merchant basis, and hence there is no stranded cost. But if the BOT Counterparty’s net revenue is negative, it means that the BOT is receiving more revenue than it would if it were operating on a purely merchant basis. 3.5.2 Stranded Cost Outcomes Exhibit 3.12 shows the BOT Counterparty net revenue for each of the contract options at each stage of the market for each scenario. The capacity factor resulting from dispatch under each scenario and contract option is also given. The complete model runs corresponding to these results are given in Appendix D. These scenarios represent extreme market outcomes, they are nonetheless useful for gaining insight into how the contracts function under a wide range of conditions. 3-24 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options Exhibit 3.12: One-Year Stranded Costs under Various Scenarios CGM WCM Scenario (CGM CF/WCM CF) PPA Uniform two- PPA Uniform two- Top-Loaded way CfD way CfD two-way CfD 50% CF equiv. 50% CF equiv. 50% CF equiv. Slack Capacity – BOT Efficient (194,212) 864,822 (37,175,737) (44,710,739) (42,011,257) (80%/27%) Slack Capacity – BOT Less Efficient (1,358,311) (1,763,598) (37,573,091) (45,152,243) (42,805,964) (1%/0%) Tight Capacity – BOT Efficient 74,440,147 80,714,079 354,469,689 178,546,534 348,327,318 (80%/76%) Tight Capacity – BOT Less Efficient 73,713,137 78,868,593 353,019,349 177,740,789 347,859,218 (31%/76%) Exhibit 3.12 suggests the following: • Because of the capacity payments and high CfD volume in the CGM, even when the BOT is not dispatched only minimal stranded costs result. In terms of the likelihood of stranded costs, there is little difference between the maintaining a traditional PPA throughout the CGM and establishing a two-way CfD during the CGM. • In the WCM, the Top-Loaded CfD dominates the Uniform CfD for all scenarios. • In the WCM, maintaining a PPA results in lower stranded costs that a Top- Loaded CfD. Based on this alone, it would appear that the best course of action is to maintain a traditional PPA throughout the CGM and WCM. It stands to reason that any mechanism designed to keep the BOT whole with respect to its fixed costs while reimbursing variable costs will face the same likelihood of resulting in stranded costs as a PPA. 3.5.3 Incentivizing BOT Risk-Taking However, as the sale of the Masinloc power plant in Philippines demonstrates (described in Appendix C), BOT developers may have some appetite for merchant risk. A traditional PPA precludes BOT bidders from taking some of that risk in the pursuit of higher returns. An alternative strategy, then, is to allow bidders to specify how much of their fixed costs they wish to protect with the CfD. The top-loaded CfD described above is a two-way CfD, i.e. the BOT pays the BOT Counterparty the difference between the strike price and the MCP when MCP > strike price, and the BOT Counterparty pays the BOT the difference when MCP < strike price. Simply using the top-loaded CfD with a strike price incorporating partial fixed cost recovery would limit potential stranded costs, but would also deny the BOT potential higher returns for taking on the risk of less-than-full fixed cost recovery during the WCM. 3-25 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options A one-way CfD that would protect partial fixed cost recovery but allow the BOT to earn unlimited upside (i.e. a floor CfD) would appear to overcompensate the BOT for the limited risk it takes with partial fixed cost recovery. This would not result in the lowest cost to consumers. A mechanism is required that protects partial fixed cost recovery but allows the BOT upside returns commensurate with the risk it takes. A “collar� provides such a mechanism, incorporating a floor to the market price below which the BOT still earns its partial fixed cost recovery, and a cap which in effect limits the price the BOT earns from the market. The cap can be set commensurate with the floor, e.g. the lower the floor, the higher the cap. The collar may be defined by: • A floor price. It is proposed that the floor price be established as the sum of the BOT’s variable cost (USD/MWh) plus the portion of the fixed costs the BOT wishes to protect spread over the contract volume. • A cap price. A symmetrical collar would set the cap price the same amount above the full fixed cost recovery two-way strike price as the floor is below that strike price. However, depending on the risks involved, it may be appropriate to establish an asymmetrical collar. The contract cost calculator therefore incorporates a cap price multiplier to scale the difference between the cap price and the two-way strike price as a multiple of the difference between the floor price and the two-way strike price. A multiplier of 1.0 yields a symmetrical collar, which is assumed for this analysis. • Volume. To facilitate bid evaluation and subsequent negotiations, it is necessary to either fix the floor and cap prices and allow bidders to select the volume, or set the volume and let bidders set the floor price based on the portion of fixed cost recovery they are willing to put at risk. Either approach can be evaluated by calculating a single levelized price of power over the entire life of the BOT taking into account the planned transition between pre-market, CGM and WCM stages. Setting the prices provides some certainty to GOV regarding the potential impact on retail tariffs during the market, but given the huge uncertainty about the prices of other plants in the market (particularly at the WCM stage) this may not be very useful. On the other hand, setting the volume and allowing the bidders to specify the amount of fixed capacity cost recovery they are willing to put at risk is conceptually clear, and allows the strike prices to be set taking into account the specific costs of the plant. It is proposed, therefore, that MOIT set the volume at the time of bidding. • Volume allocation over time. The same top-loading as described for the two-way top-loaded CfD is proposed, for the same reasons. If a BOT selects full fixed cost protection, the collar reverts to the two-way, top-loaded CfD. Exhibit 3.13 depicts the difference between a collar CfD and a two-way CfD in which the floor coincides with the cap. 3-26 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options Exhibit 3.13: The Collar CfD and Two-Way CfD with Floor = Cap Two-way CfD with Floor = Cap Collar CfD cap strike strike price price price price y x floor strike price time Full cost recovery strike price, i.e. strike price time for two-way CfD that yields same payment market price security to BOT as traditional 2-part PPA. “x� CfD payments from seller to buyer represents the amount of fixed cost recovery the BOT is willing to put at risk. “y� may be CfD payments from buyer to seller determined as a function of “x�. If x = y, it is referred to here as a “symmetrical collar� Exhibit 3.14 shows the stranded costs resulting from the contract options discussed above for the two most extreme scenarios, Tight Capacity – BOT Relatively Efficient, and Slack Capacity – BOT Relatively Less Efficient, as well as a more likely PDC scenario indicative of “normal� conditions, i.e. expected BOT dispatch without a tight market. 3-27 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options Exhibit 3.14: Comparison of Contracting Options in the WCM as a Function of CfD Volume and Fixed Cost Protection Tight Capacity – BOT Relatively Efficient 400,000,000 Annual gain/loss to BOT Counterparty (USD) 350,000,000 Top-Loaded CfD (same as Collar w ith 100% fixed cost 300,000,000 protection) Uniform CfD 250,000,000 200,000,000 PPA 150,000,000 100,000,000 Collar (no fixed cost 50,000,000 protection) 0 Collar (70% fixed cost 0% 20% 40% 60% 80% 100% protection) -50,000,000 -100,000,000 CfD Volum e (expressed as cap factor) Slack Capacity – BOT Relatively Less Efficient 0 Annual gain/loss to BOT Counterparty (USD) 0% 20% 40% 60% 80% 100% Top-Loaded CfD (same as Collar w ith 100% fixed cost protection) -10,000,000 Uniform CfD -20,000,000 PPA -30,000,000 Collar (no fixed cost protection) -40,000,000 Collar (70% f ixed cost protection) -50,000,000 CfD Volum e (expressed as cap factor) Indicative “Normal� Conditions 20,000,000 Price, % of Annual gain/loss to BOT Counterparty (USD) USD/MWh time 15,000,000 Top-Loaded CfD (same as Collar w ith 100% fixed cost 10,000,000 protection) 372 2% Uniform CfD 5,000,000 50 12% 0 30 70% 0% 20% 40% 60% 80% 100% PPA -5,000,000 20 16% -10,000,000 Collar (no f ixed cost Plant CF 76% -15,000,000 protection) -20,000,000 Collar (70% fixed cost protection) -25,000,000 -30,000,000 CfD Volum e (expressed as cap factor) 3-28 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options The above analysis suggests that: • In tight market conditions with an efficient BOT, a collar, top-loaded CfD and PPA all prevent windfall returns to the BOT. • In slack market conditions with a relatively inefficient BOT, a collar with a significant portion of BOT fixed costs at risk, e.g. greater than 15%, should limit stranded costs better than a traditional PPA. • Under “normal� conditions (i.e. when the BOT is achieving its expected capacity factor, but the market is not tight), a collar limits stranded costs much better than a PPA for contract volumes on the order of its expected capacity factor. As noted previously, the collar is assessed only for the WCM, since the bid caps and floors of the CGM limit the extent that it can facilitate risk-taking by BOTs. 3.5.4 Recommended Contracting Option Based on the above assessment: • 1-step dynamic contracting is preferred • The MOIT should set the CfD volume at the time of bidding, based on the expected dispatch of the plant or less. • The CfD should be structured as a collar, with the BOT bidders specifying whether they want CfD cover in the WCM, and if so, the amount of fixed cost recovery they are willing to put at risk. • A symmetrical collar has been assumed. Market soundings should be used to determine the impacts of an asymmetrical formulation. A cap price multiplier greater than 1 may encourage a greater percentage of BOT fixed costs at risk, which further minimizes potential stranded costs but allows for higher electricity prices. This option is mathematically similar to an arrangement in which a traditional PPA would be maintained through the WCM, but at the time of WCM introduction the capacity covered by the PPA would reduce by an amount specified by the BOT at the time of bidding. The effect would be similar in that recovery of some portion of fixed costs in the WCM would depend on the market. However, such an option would be difficult to implement in practice since it entails the BOT and the BOT Counterparty having control over the bidding of a single plant. While solutions to this can be found, they are not as straightforward as implementing a market-friendly contract mechanism well-understood in power markets and by lenders. 3.6 THE IMPORTANCE OF COMPETITIVE TENDERING BOT projects may be contracted on the basis of direct appointment or competitive tendering. The BOT Decree allows for both. Of the three thermal generation BOT projects currently in process in Vietnam, two of them (Vinh Tanh 1 and Muong Dong 2) are being developed on the basis of direct appointment, whereas Nghi Son 2 is being competitively tendered. 3-29 The World Bank / PPIAF / MOIT 6/20/2009 3. BOT Market Integration Options A competitive tender naturally relies on competition between bidders to minimize the price of power produced. The winning bidder is the one with the lowest price (which may be adjusted for other technical or financial factors, or blended with such factors to yield an overall score). A properly designed and executed tender process is expected to result in the best possible price for the buyer. On the other hand, direct appointment can utilize upon some form of benchmarking to guide price negotiations. Ideally there is a similar project that was competitively procured to establish a baseline price. Negotiations would revolve around the factors that should make the project being negotiated more or less expensive than that baseline price. International experience has demonstrated the potential pitfalls of direct appointment (e.g. the Indonesian IPP program of the 1990s) and the benefits of a standardized competitive tendering (e.g. the Thai IPP and Small Power Producer (SPP) solicitations). Nonetheless, effective use of benchmarking for negotiations under direct appointment can in principle result in outcomes comparable to competitive tendering of thermal generation projects. However, the use of 1-step dynamic contracting introduces another parameter into negotiations: the amount of fixed cost recovery the developer is willing to put at risk upon the introduction of the WCM. Unfortunately, developer risk tolerance cannot be benchmarked like the parameters that go into calculation of a levelized power price, e.g. EPC costs or plant heat rates. The amount of fixed cost recovery a developer is willing to put at risk depends upon factors unique to that developer, including subjective factors such as perceptions of risk. Consequently, 1-step dynamic contracting must be employed through competitive tendering. The following chapters introduce a framework for tendering thermal generation BOT projects in Vietnam. 3-30 The World Bank / PPIAF / MOIT 6/20/2009 4. FRAMEWORK FOR COMPETITIVE TENDERS OF BOT PROJECTS The remaining chapters of this report set out a specific framework that contains guidelines, principles and general procedures for procuring thermal generation BOT projects in Vietnam (the “Framework�). The proposed arrangements balance existing legislation in Vietnam, the needs of international investors, and the market integration approach developed in the earlier chapters of the report. The Framework takes into account past experience with thermal generation BOT projects in Vietnam as discussed in Appendix E. Key legislation on the energy sector includes the Petroleum Law (1993) and its Implementing Decree (1996); and the Electricity Law (2004), followed by Decrees 105 and 106 (2005), which have to do with implementation of the Electricity Law. Key government decrees include Decree 55 (2003, establishing the functions, tasks, powers and organizational structure of the Ministry of Industry), Decree 45 (2001, on electricity operations and use), Decree 48 (2000, defining the policy and regulatory framework for the upstream oil and gas sectors). Relevant power sector regulation is described in Appendix F. The Framework includes a draft Ministerial Instruction (the “Instruction�) to be issued by the Minister of Industry and Trade (MOIT) to implement the BOT Decree and the associated Ministry of Planning and Investment (MPI) decree under development with respect to thermal generation BOT projects. The Instruction is also designed to be consistent with the principles of procurement that need to be met if thermal generation BOT projects are to receive financial support from international financial institutions such as the World Bank or the Asian Development Bank, for example through a partial risk guarantee (PRG). The Instruction is presented in Appendix G. The Framework and the Instruction aim to maximize competition, create a predictable setting for foreign private investors, streamline and standardize the thermal generation BOT tender process, and achieve bankable and efficient tender documents. While the Framework does not include draft model bidding documents, it contains guidelines and principles for the drafting of these documents. It also provides a standardized tender process for procuring future thermal generation BOT projects. To ensure that the Framework and the Instruction are based on standardized, internationally accepted approaches, the following international texts were used in drafting the Framework and associated documents: • UNIDO Guidelines for Infrastructure Development through Build Operate Transfer (BOT) Projects, 1996; • OECD Basic Elements of a Law on Project Agreements, 1999-2000; • UNCITRAL Model Legislative Provisions on Privately Financed Infrastructure Projects, 2003 (the “Model Legislative Provisions�).This has been used as a base document for developing the Instruction; • UNCITRAL Legislative Guide on Privately Financed Infrastructure Projects, 2000 (the “Legislative Guide�), which provide a basis for the Model Legislative Provisions. • UNCITRAL Model Law on Procurement of Goods, Works and Services, 1994 (the “Model Procurement Law�). 4-1 The World Bank / PPIAF / MOIT 6/20/2009 4. Framework for Competitive Tenders of BOT Projects The Framework also aims to integrate with prevailing legislation in Vietnam. Footnotes have been added to identify any conflicts between the Model Legislative Provisions, Legislative Guide or the Model Procurement Law. The Framework defers to international standards where such conflicts arise. Where legislation in Vietnam is silent on any matter, then the provisions of the relevant UNCITRAL documents are applied. The UNCITRAL documents are, however, not specific to thermal generation BOT projects, so the Consultant has added detail in this regard. This chapter starts with a description of how the electricity sector is currently organized in Vietnam, together with an explanation of the roles of each institution. This is followed with a discussion about the ideal division between the roles of the GOV regarding policy, planning, procurement, monitoring and off-take. Recommendations are made regarding the roles that each arm of the GOV should play within thermal generation BOT procurement and how these agencies should interact. 4.1 CURRENT ORGANIZATION OF VIETNAM’S ELECTRICITY SECTOR 4.1.1 Ministry of Industry and Trade - Policy, Planning, Procurement and Regulation The Ministry of Industry and Trade (MOIT) was established by the GOV in 2003 under Decree No. 55/2003/ND-CP to manage the state’s interests in the industrial sector, including energy. To carry out these functions, the MOIT is organized into thirteen units, as illustrated in Exhibit 4.1. The Department of Energy (DOE)34 is responsible for the five main functions of policy, planning, procurement, regulation and tariff setting. Each is discussed below insofar as they affect thermal generation BOT development. a. POLICY The DOE develops policy by reference to (i) Decree 48 of 2000, which defines the policy and regulatory arrangements for the upstream oil and gas sectors and (ii) Decree 45 of 2001, which sets out the rules regarding electricity operations and use. b. PLANNING i. Planning Process The Electricity Law provides for National Energy Development Plans. These are referred to as Masterplans, the last being approved in June 2007. The plan considers electricity developments for 2006 - 2015 and a less detailed projection for 2016 – 2025. The Masterplan is not a static document. On top of the five yearly revisions, the Electricity Law and Decision No. 258/2005/QD-TTg provides for adjustments to a list of approved projects to reflect supply / demand balance changes. The law and practice of masterplanning assigns the role and responsibility to MOIT, which then drafts TORs and contracts the Institute of Energy (IoE), which is a unit under EVN with the capacity, practical experience and tools (models) to conduct the planning exercise. As a basis for the masterplan, IoE prepares a primary energy balance and 34 Formerly this was the Energy and Petroleum Department (EOGD) 4-2 The World Bank / PPIAF / MOIT 6/20/2009 4. Framework for Competitive Tenders of BOT Projects Exhibit 4.1: Organizational Structure of MOIT forecast of domestic fuel availability, an electricity demand forecast, and least-cost generation expansion plan. The least-cost expansion plan is developed with a model called STRATEGIST, which is checked against results from WASP and PDPAT II. Each project in the least-cost expansion plan is then designated for development as a BOT (which may be designated as negotiated or competitively tendered), IPP or under EVN. This basis for this designation is not clear; this is discussed further below. The IoE subsequently submits Masterplans to the MOIT for review and its approval. The MOIT then recommends the Masterplan to the Prime Minister for approval. To minimise the risk that the IoE develops plans that favour EVN unduly, either conflict of interest mechanisms need to be developed and employed by the IoE, or the MOIT needs to build its own capacity to carry out the planning process. For example, IoE could be established as a State-owned entity separate from EVN. The MOIT / DOE is also responsible for approving electricity plans provided by provinces and cities through the Provincial People’s Committees. The Masterplan should represent 4-3 The World Bank / PPIAF / MOIT 6/20/2009 4. Framework for Competitive Tenders of BOT Projects the sum of the provincial plans and MOIT/ DOE is responsible for reconciling differences. Differences occur most often because; • the provincial plans are detailed whereas the Masterplan is less elaborate. For example, the Masterplan does not consider generation projects of under 30 MW, whereas a provincial plan might contemplate five 25 MW projects that are large in aggregate; and, • EVN uses its enterprise plan as a basis for developing the Masterplan. This is not necessarily the same as the sum of the provincial plans. Masterplans often require review and approval from other agencies including the Ministry of Planning and Investment (MPI) and the Prime Minister's office. MPI’s interest lies in whether the Masterplan is consistent with Vietnam’s overall social and economic objectives. ii. Project Lists MOIT is responsible for circulating a list of the projects specified in the Masterplan, calling for investment and managing implementation of those projects. Listed projects are designated for development by EVN or other domestic investors as IPPs or international investors as BOTs. There are two main differences between an IPP and a thermal generation BOT, as follows: • IPPs will have a particular PPA arrangement after the competitive market starts. Under current practices EVN signs PPAs with IPPs and “equitized� generation companies that terminate when the CGM market starts. ERAV is designing the market and associated rules with the assistance of international experts. As the market evolves to the next phases, those rules and codes will be adjusted as and if necessary. A model PPA for IPPs is being developed and this will provide for a certain contract term and standardized pricing arrangements. This model PPA will not apply to BOT projects; • IPPs do not have a BOT contract with the MOIT, which means they do not benefit from a government support package. BOT projects seem to place a greater burden on the GOV and a reaction from some quarters within the GOV is that IPP projects should be maximized to use up available local resources before looking for offshore investment. The current list contemplates that until 2010, projects not involving EVN will be developed either by joint venture or joint stock companies, or through “equitization�. Equitization is when EVN sells a non-controlling interest in its power stations. Under the Masterplan, the rate of projects being developed under the BOT model is expected to increase by 2011. Until then International investors must either wait for these projects to be tendered or build relationships with SOEs or equitized companies. International parties that build relationships with local companies might be in a better position to secure future thermal generation BOT contracts. While this might hinder competition because there is limited number of relevant local organisations with which to partner, no particular restrictions to these arrangements are recommended because to do so would potentially reduce competition. 4-4 The World Bank / PPIAF / MOIT 6/20/2009 4. Framework for Competitive Tenders of BOT Projects iii. Selection of Thermal Generation BOT Projects When selecting projects to be developed as thermal generation BOTs, the MOIT decides how projects will be implemented. At the same time issues such as the level of international ownership, tax incentives and government support will be determined. However, the Prime Minister reserves the authority to change this determination after the process is complete. There is a preference within MOIT for projects to be allocated to domestic entities first and for the remainder to be implemented under the BOT Framework. In part this is due to a view within some quarters of GOV that BOTs lock the GOV into inflexible long-term arrangements and this model should be used sparingly. Exhibit 4.2 below sets out the current list of projects that are being considered for development on a BOT basis between 2011 and 2015. Exhibit 4.2: PMP6 BOT Additions 2011-2015 Capacity Names of factories Fuel Competition Investors (MW) 2011 2012 2013 2014 2015 Mông Dương 2 Coal No AES/BOT 1,200 600 600 Vĩnh Tân 1 Coal No CSG/BOT 1,200 600 600 ðông Nam b 1 Coal Uncertain IPP/BOT 1,200 600 600 Nghi Sơn 2 Coal Yes BOT Bidding 1,200 600 600 Ô Môn 2 Gas Yes BOT Bidding 750 750 Vũng �ng 2 [Coal] Yes BOT Bidding 1,200 1,200 Vĩnh Tân 2 [Coal] Yes BOT Bidding 1,200 600 600 Kiên Giang 1 Coal Uncertain IPP/BOT 1,200 600 600 Mixed gas turbine in the South # 1 Gas Uncertain IPP/BOT 2,250 750 1,500 ðông Nam b 2 Coal Uncertain IPP/BOT 1,200 600 600 Vĩnh Tân 3 Coal Yes BOT Bidding 1,000 1,000 Kiên Giang 2 Coal Uncertain IPP/BOT 600 600 Total Potential BOT Projects 14,200 1,200 2,400 4,350 2,550 3,700 Total Projects 27,200 5,875 6,514 7,329 7,707 8,522 There is uncertainty about which thermal generation projects will be developed as BOTs and which BOT projects will be procured on a competitive basis. Five of the twelve projects listed as BOT prospects could yet be developed as IPPs (i.e. those designated as “IPP/BOT�). Of the 14,200 MW designated as possible BOTs, 7,750 MW or 55% can be considered as firm BOTs. Of the firm BOTs, 5,350 MW are expected to be tendered, including Nghi Sơn 2 - a 600 MW coal-fired project tendered with the assistance of the IFC in 2009. The remaining 2,400 MW comprises the Mông Dương 2 and Vĩnh Tân 1 projects, which have been allocated on a negotiated basis to AES and China Southern Grid respectively. There is uncertainty surrounding how and when it will be decided whether the ðông Nam b 1, Kiên Giang 1, CCGT in the southern part of Vietnam, ðông Nam b 2 and Kiên Giang 2 projects will be let as IPPs or BOTs. The Nghi Sơn 2, Mông Dương 2 and Vĩnh Tân 1 projects (and any others not in the Masterplan) are exempt from the BOT Decree. The Prime Minister must approve any future negotiated projects under the BOT Decree, but it is not clear how this process will work in practice. Ideally, this issue should be clarified in the Instruction, but MOIT has suggested that the Consultant not focus on such upstream issues. 4-5 The World Bank / PPIAF / MOIT 6/20/2009 4. Framework for Competitive Tenders of BOT Projects ERAV has expressed some interest in establishing a planning regime based on least cost planning principles and ensuring that the plan is managed independently by the MOIT, for the reasons noted above. A least cost planning code is currently under development. Normally, in a single buyer market the single buyer is responsible for expansion planning and procurement. However, given that the single buyer is intended to remain a unit of EVN, and given the role of government guarantees for BOTs, placing the planning and procurement functions with MOIT mitigates conflicts of interest for EVN and recognizes the Government’s key role in developing BOT projects. Nonetheless, investors would likely appreciate further clarity around how each project is designated as BOT or otherwise, and how it is determined whether a BOT project is tendered or negotiated. The absence of a transparent process for project designation may lead to investor wariness, particularly in light of the current international financial turmoil. This is discussed further in the following chapter. c. PROCUREMENT As Vietnam moves to a competitive generation market to promote operational efficiency, it is logical to have a competitive market for capacity increments so there is also capital efficiency. At present, this is achieved through a BOT Working Group as discussed below. The BOT Decree provides for Inter-Branch Working Groups (IBWGs) to be established to streamline procurement. In part this is in response to the crossover caused by the numerous GOV ministries and agencies being involved in the Phu My contract negotiations. The IBWGs are responsible for developing foreign investment criteria. They also assist with BOT negotiations and help resolve issues as they arise. This group is led by the MOIT as the authorized state body that would enter into project contracts with BOT project enterprises. The group also includes the Ministry of Justice, MPI, Ministry of Finance, State Bank of Vietnam, EVN, Vinacomin and PetroVietnam. This representation covers GOV interests in the energy sector, although the latter three companies invest in generation and conflicts of interest need to be avoided. The IBWG for generation has sixteen members, seven from the MOIT and the balance from the other organizations described above. Of these seven members, five are from the DOE, one is from the Department of Legal Affairs and one is from the Finance and Accounting Department. While in practice, the IBWG has been established as a permanent body, the BOT Decree provides that, subject to requirements of negotiations or the performance of projects, the authorized State body shall establish the IBWG for a BOT project, BTO project or BT project, comprising: (a) a representative of the head of the authorized State body as the head of the group; (b) representatives of central bodies and local bodies of the locality in which the proposed project will be performed or which is related to the project; and (c) a number of independent legal, technical or financial experts as decided by the authorized State body. The IBWG shall have the following duties: (a) To consider criteria for selection of investors for project contract negotiations in accordance with the provisions of articles 10, 11 and 12 of the BOT Decree; (b) To support the authorized State body in entering into project contract negotiations and performing the duties stipulated in the BOT Decree; 4-6 The World Bank / PPIAF / MOIT 6/20/2009 4. Framework for Competitive Tenders of BOT Projects (c) To take part in resolution of matters arising during implementation of the project; and, (d) To perform other duties upon the request of the authorized State body. The duration of operation of the IBWG shall be decided by the authorized State body subject to the requirements for implementation of the project. The budget for operation of the IBWG, including the budget for performance of the obligations of the authorised State body as agreed in the project contract, shall be funded by the State Budget on the basis of the estimated budget approved by the authority. The generation IBWG has established operating procedures, which are recorded as a decision by the Minister of Industry and Trade. This IBWG would benefit from a permanent secretariat to manage the day-to-day operations of the group. This is discussed further in Section 5.3. d. REGULATION The 2004 Electricity Law is the base legislation for electricity sector reform and the Roadmap Decree subsequently provided for the introduction of a power market. The law also provides for a regulator to be established. The Electricity Regulatory Authority of Vietnam (ERAV) has been established as a unit within the MOIT to fulfil this role. The primary function of ERAV is to regulate the electricity market to ensure: • Safe and stable supply; • Economical and effective usage; • Equality; and, • Transparency. Safe and stable supply is achieved by ensuring adequate levels of reliable generation, transmission and distribution. To this end, ERAV establishes rules for the competitive power market, regulates the relationship between suppliers and consumers, oversees electricity licensing and supervises investment implementation. It is logical, therefore, for ERAV to involve itself in supervising the implementation of thermal generation BOT projects. An alternative entity for certain supervisory functions could be the State Audit Office of Vietnam. To foster economical and effective usage of electricity, ERAV studies and implements electricity tariffs, pricing regimes and policies. A Prime Ministerial Decision 35 provides for ERAV to set the power generation pricing framework and bulk power sale price, approve power transmission and distribution fees and charges, and prepare and supervise implementation of national electricity development plans for consideration by MOIT. In practice, ERAV is the first step in the tariff setting process. It proposes retail tariffs to MOIT who recommends these to the Prime Minister for approval. It also proposes wholesale prices to the MOIT, which must be within “price brackets� set under the Electricity Law. Detailed regulations for this process have not been finished yet. Price 35 Decision No. 258/2005/QD-TTg 4-7 The World Bank / PPIAF / MOIT 6/20/2009 4. Framework for Competitive Tenders of BOT Projects brackets are helpful to provide guidance, but if the right conditions for competition for BOT contracts are in place then the market should be left to determine prices. The matters of equality and transparency are monitored through tariff compliance checks. ERAV also holds a dispute resolution role adjudicating over complaints and appeals made by power market participants. Exhibit 4.3 below illustrates the current organization structure of ERAV. Exhibit 4.3: Organizational Structure of ERAV The MOIT is the authority responsible for governing the issuance of the following; • Approval of the Investment Project Report Article 17.1 and Article 17.2 of Decree 78/2007/ND-CP • Electricity Operation Permit Law on Electricity 2003 & Decision 32/2006/QD-BCN • Approval of Environmental Impact Assessment Report Article 21.7, Article 22.1 of the Law on Environment Protection Schedule 1, Schedule 2 of Decree 80/2006/ND-CP • Registration of Undertaking to Comply with Environmental Standard Article 21.7, Article 22.1 of the Law on Environment Protection Schedule 1, Schedule 2 of Decree 80/2006/ND-CP • Obtaining approval of fundamental designs of Construction Works Article 5.6 of Decree 112/2006/ND-CP • Technical design of Construction Works Article 24 of Decree 78 • Obtaining the approval for the Project Article 12 of Decree 78 • Permit verifying satisfaction of all requirements for environmental protection Section III.9 of Circular 08/2006/TT-BTNMT of MONRE Article 21.7 of the Law on Environment Protection 4-8 The World Bank / PPIAF / MOIT 6/20/2009 4. Framework for Competitive Tenders of BOT Projects • Obtaining import permits Decree 12/2006 • Obtaining certificate of quality inspection of certain imported goods Directorate for Standard and Quality (STAMEQ) and other relevant ministries • Obtaining approval for sale of imported goods not fully used for the Works Article 70.2 of Decree 108/2006/ND-CP Section III.1 (a), Section III.1(c) of Circular 04/2007/TT-BTM 4.1.2 Major Electricity Sector Operators Since 1995, energy sector operations have been organized into three general companies, which are among the largest in Vietnam: PetroVietnam, Vinacomin (formerly Vinacoal) and Electricity of Vietnam. Each is discussed below. a. ELECTRICITY OF VIETNAM (EVN) EVN is the utility responsible for the development, management and operation of Vietnam’s electric power assets. EVN owns and operates existing state-owned power plants as wholly-owned or joint-stock subsidiaries. Subsidiaries of EVN also include eleven regional Power Companies (PCs), which are in charge of power transmission and distribution from 110 KV downwards. Other key entities under the EVN umbrella include four Power Transmission Companies (which have been combined under a single National Power Transmission Company), four Power Engineering Consulting Companies, the National Load Dispatch Center, and a number of equipment manufacturing companies. EVN's financial accounts are strictly separate from the GOV budget, and EVN receives no subsidy support for investment or its operations, with the exception of certain grants for a limited number of multipurpose hydropower project resettlements. EVN's generation and network development plans, and all major investment projects, must be approved by the GOV. The MOIT also is responsible for executing bidding and contracting procedures for IPPs and BOTs, although the PPAs for these projects are with EVN. b. PETROVIETNAM Petrovietnam (PVN)’s operations cover all aspects of the oil and gas industry including exploration, production, storage, processing and distribution. Additionally, PVN owns large IPPs such as the Ca Mau power plant, the largest gas-fired power plant in Vietnam, and is currently developing several other IPPs. This dual role of PVN as monopoly supplier of gas and a power generator in a soon-to-be competitive market brings with it a potential conflict of interest regarding priorities assigned to fuel supply and dispatch. c. VINACOMIN Vinacomin holds all of the GOV’s assets in the coal industry and has exclusive supply contracts supplying anthracite to thermal power plants. 4.3 million tons (22% of total Vinacomin sales) were sold for power generation in 2004. In addition, Vinacomin exported 7.5 million tons and sold 8.2 million tons to domestic users. Production is estimated to increase to 35 million tons in 2010. Vinacomin is also in the process of developing several IPPs, some in association with international developers such as AES. 4-9 The World Bank / PPIAF / MOIT 6/20/2009 4. Framework for Competitive Tenders of BOT Projects The Prime Minister is considering Vinacomin becoming the agent for all coal supplies in Vietnam, including imported coal. This raises some issues coal pricing because domestic coal is subsidized. If the cost of imported coal is passed through to wholesale tariffs, the short run marginal cost of power stations using that fuel will be such that they will be pushed further down the merit dispatch order than they should be. There is as of the date of this report no clear outcome of Vinacomin’s proposed role for all coal sales. 4.1.3 Other Major GOV Entities Involved in the Electricity Sector The Ministry of Planning and Investment, the Ministry of Finance, the Ministry of Natural Resources and Environment, the State Bank of Vietnam and the Provincial Peoples’ Committees (PPCs) are also involved in the electricity sector. a. THE MINISTRY OF PLANNING AND INVESTMENT The Ministry of Planning and Investment (MPI) is the GOV agency responsible for the preparation of Vietnam’s overall economic development plans. The MPI compiles and reviews recommendations to the Prime Minister for all projects using public funds or other resources. MPI is also responsible for overseeing foreign investment in Vietnam generally. Foreign investment is governed under the Investment Law and its related regulations, decrees and circulars. The four main types of foreign investments in Vietnam are: • Joint Ventures; • Business Cooperation (Contracts); • 100-Percent Foreign-Owned Enterprises; and, • Build-Operate-Transfer (BOT). Foreign investment in Vietnam in the past was regulated by the MPI through the Law on Foreign Investment (LFI) and related implementing regulations, decrees, and circulars. In November 2005 the National Assembly passed a common Investment Law drafted by the MPI with the intention of creating a more level playing field for investors. The new Investment Law, which became effective in July 2006, replaces the Law on Foreign Investment and the Law on Promotion of Domestic Investment. This Investment Law regulates investment guarantee measures, sectors, areas where investment is encouraged or where investment is conditional or prohibited, and the investment incentives that are commonly applied to both domestic and foreign investors. To support the new Investment Law, the Law on Enterprises has also been revised to apply to both foreign and domestic enterprises. The revised Law on Enterprises was also passed in November 2005 and entered into effect in July 2006. It regulates the establishment, forms and procedures, organization, management and dissolution of enterprises in all economic sectors. In May, 2008, MPI released the third draft of instructions regarding implementation of BOT projects under the BOT Decree. The MOIT Instruction for implementation of the BOT Decree for thermal generation BOT projects would be subject to the MPI Instructions, but detailed and specific to thermal generation projects. 4-10 The World Bank / PPIAF / MOIT 6/20/2009 4. Framework for Competitive Tenders of BOT Projects The MPI is the authority responsible for governing the issuance of the following: • Approval of the Investment Project Report Article 17.1 and Article 17.2 of Decree 78/2007/ND-CP • Obtaining Investment Certificate Article 17.1 and Article 17.2 of Decree 78 b. THE MINISTRY OF FINANCE In addition to its broad role overseeing the GOV’s finances, the Ministry of Finance (MOF) arranges GOV guarantees for export credits, and provides - through its Development Assistance Fund (DAF) - public sector loans to qualified users. Previous thermal generation BOT projects that have a GOV guarantee have those guarantees administered through the MOIT. The MOF plays a role in determining whether the MOIT and other ministries have the capacity to enter into those guarantees. In other countries the finance ministry is often the provider of governmental guarantees. In future, the MOF could be an appropriate instrument of GOV to provide guarantees to BOT project enterprises. The MOF is the authority responsible for governing the issuance of the following: • Tax Registration Decision 75/1998/Qð-TTg Section II.1 of Circular 10/2006/TT-BTC c. THE STATE BANK OF VIETNAM The State Bank of Vietnam (SBV) is a ministry-level body under the administration of the GOV. Its core roles include; • The promotion of monetary stability; • The formation of monetary policy; • The recommendation of economic policy to the GOV; • The supervision of financial institutions; and, • The management of Vietnam’s international reserves. The SBV has an important role to play in the development of thermal generation BOT projects because it must authorise the opening of onshore and offshore accounts, including foreign currency accounts. It is also responsible for ensuring that there is sufficient capacity in the financial system to enable the type of large monetary flows that are typical with major infrastructure projects, especially as principal and interest payment dates fall due. The SBV is the authority responsible for governing the issuance of the following: • Registration of foreign loans having terms of more than 1 year Decree 134/2005/ND-CP 4-11 The World Bank / PPIAF / MOIT 6/20/2009 4. Framework for Competitive Tenders of BOT Projects d. THE MINISTRY OF NATURAL RESOURCES AND ENVIRONMENT The Ministry of Natural Resources and Environment (MONRE) was created in 2002, with responsibility for state management of natural resources and the environment. Central to its role is the issuance, monitoring and evaluation of environmental permits and consents. Thermal generation BOT projects must comply with environmental legislation in Vietnam. These projects must also meet the environmental requirements of their financiers, particularly International Financial Institutions. Those requirements may in some cases impose a heavier burden on project enterprises than domestic requirements. MONRE are the authority responsible for governing the issuance of the following; • Approval of the Investment Project Report Article 17.1 and Article 17.2 of Decree 78/2007/ND-CP • Approval of Environmental Impact Assessment Report Article 21.7, Article 22.1 of the Law on Environment Protection Schedule 1, Schedule 2 of Decree 80/2006/ND-CP • Registration of Undertaking to Comply with Environmental Standard Article 21.7, Article 22.1 of the Law on Environment Protection Schedule 1, Schedule 2 of Decree 80/2006/ND-CP • Obtaining permits for collection, transportation, keeping, treatment or disposal of hazardous waste Decision 155/1999/QD-TTg Section I.3 of Circular 12/2006/TT-BTNMT e. PROVINCIAL PEOPLES’ COMMITTEES The Provincial People’s Committees (PPCs) oversee local government participation in certain functions that have been delegated by the GOV. PPCs are responsible for preparing and executing resettlement plans when necessary. PPCs are also involved in providing electricity plans to the MOIT/DOE. The PPC’s are the authority responsible for governing the issuance of the following; • Approval of the Investment Project Report Article 17.1 and Article 17.2 of Decree 78/2007/ND-CP • Approval and execution of the Land Lease Article 23.2 of Decree 78. • Certificate of Land Use Rights Article 41 Decree 181/2004 • Obtaining certificate of ownership of the Construction Works Article 4.1 of Decree 95/2005/ND-CT f. DEPARTMENT OF LABOUR, WAR INVALIDS AND SOCIAL AFFAIRS (DOLISA) The Department of Labour, War Invalids and Social Affairs’s (DOLISA) involvement in the procurement of BOT’s is primarily concerned with the issuance of employment permits for foreign national’s involved in the project. Additional involvement surrounds permits for such items that may pose a risk to those employed or involved with the project enterprise. 4-12 The World Bank / PPIAF / MOIT 6/20/2009 4. Framework for Competitive Tenders of BOT Projects The DOLISA are the authority responsible for governing the issuance of the following; • Work Permit for foreign employees of the Project Enterprise Article 4.5, Article 6.1, Article 6.2 of Decree 105/2003/ND-CP • Obtaining work permits for foreign experts of foreign contractor Decree 105/2003/ND-CP • Submission of bi-annual report on status of employment of foreign employees Section IV.1 (b) of Circular 04/2004/TT-BLDTBXH • Obtaining permit for items subject to strict occupational safety requirements Circular 23/2003/TT-BLDTBXH g. DEPARTMENT OF IMMIGRATION The Department of Immigration (DOI) plays a limited role in procurement of Thermal Generation BOT’s regarding the implementation of work permits issued by DOLISA. The DOI are the authority responsible for governing the issuance of the following; • Registration of entry/exit of foreign experts of foreign contractor Ordinance 24/2000/PL-UBTVQH10 h. MINISTRY OF CONSTRUCTION The Ministry of Construction’s (MOC) role in the procurement of thermal generation BOT’s concerns the state management of the construction of public services. The MOC are the authority responsible for governing the issuance of the following: • Obtaining construction permit for the Construction Works Article 9 of Decree 112/2006/ND-CP Circular 02/2007/TT-BXD • Construction consultancy permits Decision 87/2004/QD-TTg Circular 05/2004/TT-BXD • Construction contracting permit for foreign contractors Decision 87/2004/QD-TTg Circular 05/2004/TT-BXD • Submission by foreign contractor of progress report bi-annually Circular 05/2004/TT-BXD • Submission by foreign upon completion of the Construction Works Circular 05/2004/TT-BXD 4-13 The World Bank / PPIAF / MOIT 6/20/2009 4. Framework for Competitive Tenders of BOT Projects 4.2 PROPOSED INSTITUTIONAL FRAMEWORK FOR BOT PROCUREMENT The GOV acts in a range of different capacities with regard to thermal generation BOT projects. These are: Planning; Procuring; Contracting (BOT Contract); Monitoring; and, Offtake (Power Purchase Agreement). Each of these roles is a discrete activity that should be managed by separate GOV agencies, acting independently. In this Framework, these entities are referred to as the Planning Authority, the Procuring Authority, the Contracting Authority, the Monitoring Authority and the Offtake Authority. The Offtake Authority is the BOT Counterparty. The Instruction also distinguishes between these authorities when considering the various activities that make up the procurement process. The obvious choice of Planning Authority is MOIT because it is currently responsible for undertaking the planning function as discussed above in Section 4.1.1b. That said, measures should be taken to minimize conflicts of interest that could arise by having EVN units such as IoE prepare the master plan. And as discussed in the following section, it may be worthwhile to create greater transparency in the planning process, particularly in terms of how projects are designated as BOTs and how those projects are procured. A greater role for ERAV in the planning process could help achieve this. With respect to the Procuring Authority, this could also be MOIT’s role. However, as discussed in the following section, the BOT Decree provides for IBWGs and it would be appropriate for the thermal generation BOT IBWG to perform the role of Procuring Authority. The IBWG cannot contract with a project enterprise because it is not, in itself, a legal entity. However, it is appropriate as has been past practice for MOIT to perform the role of Contracting Authority for the BOT Contract on behalf of GOV. While the major activities relating to procurement would be the responsibility of the Procuring Authority and the Contracting Authority, it is necessary to ensure that each procurement complies with legislative requirements. To this end, an independent entity should monitor the development of those requirements and key stages of each procurement. That entity would be referred to as the Monitoring Authority. The most appropriate body to perform that role would be ERAV, as the national electricity regulator. There is however some resistance to the idea that ERAV, being related to MOIT, can monitor MOIT’s thermal generation procurements. If that view prevails in Vietnam, an alternative Monitoring Authority could be the State Audit Office of Vietnam, but it would need to have appropriate resources to carry out that function. The Offtake Authority is the counterparty to each PPA, referred to elsewhere in this report as the BOT Counterparty. As discussed in earlier sections of the report, during the CGM this will be a single buyer. The required characteristics of the SB are discussed in the following section. 4-14 The World Bank / PPIAF / MOIT 6/20/2009 4. Framework for Competitive Tenders of BOT Projects 4.3 THE IDENTITY OF THE BOT COUNTERPARTY BOTs will need to sell capacity and energy to a counterparty under a traditional PPA or into the market. From the GOV’s perspective, it would be ideal for BOT projects to rely on trading in the market for their revenue streams without any support from the GOV (provided there are mechanisms in place to limit market prices). From an investor’s perspective, however, BOT project enterprises need to contract with an identified and credit-worthy power purchaser throughout the life of the BOT. This is because: • The competitive generation market in Vietnam is in a transitional phase and has not developed to a point where lenders will allow a project enterprise to take market risk. Even if the BOT trades into the market, it will at a minimum require a hedge like a CfD to secure adequate prices for its output regardless of the direction of the market; • Lenders will insist that the project enterprise has a counterparty that they can look to for payment performance, regardless of whether the contract functions as a traditional PPA or CfD. This should be a single entity for the life of the BOT because of the effort and potential disruption involved in assigning PPAs to successors. Investors will give considerable weight to the certainty of a clear GOV vision regarding the identity of the BOT Counterparty; • No entity in Vietnam’s electricity sector will be seen by international commercial lenders as strong enough to meet its obligations without a performance guarantee from the GOV; • Moreover, Vietnam is not yet sufficiently strong in the eyes of most international commercial lenders for them to accept a sovereign guarantee without some form of credit enhancement. These include political risk guarantees attached to export credits that finance equipment supply or risk mitigation instruments such as partial risk guarantees offered by multilateral agencies like the World Bank. While private insurance markets can produce products that enhance sovereign risk, these are expensive because they are purely commercial instruments and they have limits regarding coverage that make the beneficiaries wary. So, credit enhancement products are most likely to come from international financial institutions, which would prefer that their support is linked to specific areas of non performance such as payment default from a project enterprise’s state owned revenue counterpart. While current arrangements are sufficient for the pre-market phase, the Offtake Authority should also have the following five characteristics to anticipate the transition to the CGM and WCM: • Ownership. In principle, the Offtake Authority could be public or privately owned. In practice, however, even if it were privately held the institution would still need GOV support. (For the time being, it is highly unlikely a Vietnamese private company could achieve an investment grade rating). It is unlikely the GOV would extend support to a private entity for transactions with another private entity. Moreover, the GOV controls most aspects of the market and can change legislation in a manner that could adversely affect a private Offtake Authority. Investors may prefer a counterparty owned by the Government to help ensure the GOV fully understands and appreciates the impact of Government regulations on that counterpart. A GOV owned or controlled entity is a logical conclusion; 4-15 The World Bank / PPIAF / MOIT 6/20/2009 4. Framework for Competitive Tenders of BOT Projects • Lifetime. As noted above, investors will be considerably more comfortable with a single BOT Counterparty over the lifetime of the BOT, as the beneficiary of a well- defined GOV support package and other credit enhancement as necessary. • Credit-worthiness. The Offtake Authority must be able to demonstrate to BOT investors that it will be able to meet its obligations, especially those of a financial nature. Standard and Poors’ (S&P) judges investment grade-rated businesses as being reasonably credit-worthy. In Vietnam, it is likely in the medium term that the Offtake Authority could achieve a BB rating if well structured and supported by the GOV. S&P states that issues from such an entity are considered speculative, that is less vulnerable to nonpayment than obligations from lower rated issuers. However, S&P believes the issuer faces major ongoing uncertainties or exposure to adverse business, financial, or economic conditions which could lead to the obligor's inadequate capacity to meet its financial commitment on the obligation. Lenders would expect the obligations of the Offtake Authority to achieve a BBB rating. This would mean the Offtake Authority should have a BBB rating or better. In S&P’s language, this would mean that the Offtake Authority “has adequate capacity to meet its financial commitments. However, adverse economic conditions or changing circumstances are more likely to lead to a weakened capacity of the obligor to meet its financial commitments�. To the extent that the Offtake Authority falls short from this definition (as judged by lenders) then GOV support or credit enhancement (as discussed above) would be needed to bolster the Offtake Authority’s payment obligations. Moreover, while the functions of the Offtake Authority may change as the market evolves, it will need to have a role at each stage that is judged by lenders to be commercially sound, i.e. the Offtake Authority should be a business with good prospects for solvency throughout the evolution of the market, notwithstanding the existence of Government support and other credit enhancements. Government support and credit enhancements serve as a “last resort� for ensuring payment to the BOT. A key aspect, then, will be regulatory assurance by ERAV that bulk tariffs paid by the PCs to the SB will be set to recover SB costs. However, as the SB transforms into solely a BOT Wholesaler in the WCM, the solvency of the BOT Counterparty will depend on its commercial success as a wholesaler. Further regulatory commitments may be necessary to address investor concerns about counterparty solvency during this stage of the market. One such mechanism could be the application of a universal wires charge to recover BOT Counterparty losses should they occur. Such a mechanism has been used in the Philippines to deal with stranded costs, though the proposed dynamic contracting mechanism stimulates BOTs to take greater risk, thereby minimizing the potential for stranded costs to arise in the first place. Finally, under the dynamic contracting option, the BOT will depend on both market and CfD settlements for revenue during later stages of the market. While the GOV support package and credit enhancements can help ensure that CfD payment obligations by the BOT Counterparty are met, it may be also necessary for the GOV to provide a broader guarantee for market settlement as well. This could perhaps be structured as the BOT Counterparty assuming the obligation for market settlement in the event such payments are not forthcoming. 4-16 The World Bank / PPIAF / MOIT 6/20/2009 4. Framework for Competitive Tenders of BOT Projects • Structural relationship to other power sector entities. To avoid conflicts of interest, the Offtake Authority should be separate from the following entities: o The Monitoring Authority, which is charged with designing and supervising the operation of the market. The Offtake Authority will be a participant in the market. o The Contracting Authority, which is the counterparty to the Project Contract, and therefore an agency of the GOV. In the interests of further commercialization of the sector, the Offtake Authority should be a company, not a Government agency. o The Planning Authority, since it will determine which projects will be developed as BOTs and hence which will receive Government support, a role best served by a GOV agency rather than an SOE. o The SO and MO, since these will determine and instruct dispatch. If the Offtake Authority were affiliated with these entities, there could be potential for biased dispatch for the Offtake Authority’s benefit. • Prevailing legislation. The Roadmap Decision stipulates that the single buyer, which will serve as the BOT Counterparty in the CGM, will be developed under EVN. By the time the full WCM has been established, it will become an independent company functioning as a normal wholesaler. There is no existing entity in Vietnam that meets all of these criteria. Consequently, the creation of a new entity is suggested. EVN has taken a step in this direction, having made plans to establish a power purchasing subsidiary. This also gives the opportunity to set up the entity’s constitution such that its purpose is clear and without conflict with other agencies in the energy sector. Establishing this new Offtake Authority will require assignment of the Phu My PPAs to the new entity, and ring-fencing from other EVN operations to achieve the conditions enumerated above. If the Offtake Authority were to be a new subsidiary of EVN, ring-fencing could be achieved by the Offtake Authority being a limited purpose entity, its assets not being permitted for offering as parent security and restrictions on asset transfers and inter- company advances. These measures are aimed to address concerns that: (a) a healthy subsidiary’s assets may be consolidated with those of its insolvent parent; and (b) the parent will have the ability to cause the subsidiary to file itself into bankruptcy, despite the fact that the subsidiary is not itself experiencing financial difficulty. Taken all together, a new, ring-fenced subsidiary of EVN is the most promising option for serving as the Offtake Authority. 4-17 The World Bank / PPIAF / MOIT 6/20/2009 5. PROPOSED PROCESS FOR AWARD OF THERMAL GENERATION BOTS 5.1 OVERVIEW International best practice suggests that competitive tendering should be the first choice procurement method. Experience around the world has consistently shown that competitive tendering results in the lowest cost projects. Direct negotiations and unsolicited proposals should be accommodated only on an exceptional basis. Moreover, if the recommended market integration mechanism is adopted, then competitive tendering is necessary for it to function properly. This chapter therefore proposes a process for award of thermal generation BOT projects that follows international standards for competitive bidding. The UNCITRAL Model Law on procurement and the UNCITRAL Project Agreement law draft provisions have been adopted as guiding documents. These have also been used as the basis for the Instruction that accompanies this Framework. The principal steps for the proposed process are shown in Exhibit 5.1. This chapter is structured to follow these steps. Exhibit 5.1: Proposed Process Leading to Award of BOT Projects Monitoring of Thermal Generation Procurement Throughout this chapter, square brackets […] are used to indicate parameters of the bid process such as number of days between events that can be adjusted based on GOV preferences. 5-1 The World Bank / PPIAF / MOIT 6/20/2009 5. Proposed Process for Award of Thermal Generation BOTs 5.2 PROJECT IDENTIFICATION & DESIGNATION Most potential BOT developers cover a worldwide market, focusing on the best opportunities long before tender notices are advertised. Consequently, they will allocate their development efforts based on a list of planned projects well into the future. At a minimum, such a list should enumerate for each project its expected commissioning date, plant size and technology, and a clear commitment that the project will be developed as a BOT, and if so, whether it will be awarded through direct negotiations or competitive tender. BOT developers and lenders will typically look to a project list resulting from a least-cost generation expansion plan as evidence that the project is needed. A project that is not part of a least-cost plan runs a greater risk of cancellation or delay. Such expansion plans are required for sound development of single buyer markets, but can also be prepared by the market or system operator in wholesale or retail competitive markets as an input to the investment plans of industry players. As noted in the previous chapter, the Institute of Energy uses the STRATEGIST program to model Vietnam’s electricity system expansion on a least-cost basis. IoE validates STRATEGIST results with the WASP36 and PDPAT II models. The optimal plan is evaluated in terms of minimizing discounted total costs. To do this, load forecasts, domestic fuel availability, characteristics of existing thermal and hydroelectric plant, hydrological conditions and the cost of the energy not served are calculated. Vietnam’s least-cost generation expansion planning follows international practice. BOT investors are likely comfortable with the rigor of the analysis and the “firmness� of the resulting plan. However, the process by which the resulting projects are designated for development by EVN, IPPs or BOTs is less clear. In the absence of clear guidelines for designation, potential BOT developers may be wary that BOT projects are either “residual� projects that were unwanted by domestic players, or that the BOT status of the project could be arbitrarily changed. Moreover, potential BOT developer concerns may be exacerbated by the potential for conflicts of interest for IoE, as a unit of EVN, to recommend designations in an unbiased manner. Designation of a development modality for plants in the least-cost plan would ideally take into account the following factors: • The availability of domestic capital and development capabilities. If either of these are insufficient to fulfill the expansion plan, foreign investment is likely required, and this will probably only come through BOTs. • Given the plan to introduce a market, the GOV must ensure that an adequate number of players participate so as to foster competition. Vietnam has a number of SOEs and joint stock companies active in generation, and hence should be able to achieve a competitive mix. • The prospects for synergies across the value-chain. For example, the Ca Mau power complex is planned to be an integrated fertilizer and power facility. There was a prima facie case for awarding development of the 2x750 MW CCGT to PetroVietnam, since it was developing all other aspects of the facility including the pipeline. A similar case could be made 36 International Atomic Energy Agency - Wien Automatic System Planning software 5-2 The World Bank / PPIAF / MOIT 6/20/2009 5. Proposed Process for Award of Thermal Generation BOTs for award of mine-mouth coal-fired plants to Vinacomin. Such awards presumably reduce development and transaction costs, and can promote timely project implementation.37 BOT investors likely accept that they may be the “last resort� for development of new generation. Nonetheless, transparency of the process by which projects are designated for BOT development can increase investor confidence, perhaps leading to broader competition and lower costs. One approach would be for MOIT to oversee the following steps in a transparent manner during the masterplanning process in addition to the preparation of the least-cost expansion plan: (i) Assess the availability of domestic capital to fund new generation. This analysis should take into account “top-down� macroeconomic considerations as well as a “bottom-up� survey of SOEs and joint stock companies interested in the generation business. MOIT must ensure that the information gathered from domestic companies represents a realistic assessment of future capital availability. (ii) As a first step, assign projects to domestic developers based on “natural fit�. For example, Vinacomin could be given preference for mine-mouth coal plants, Petrovietnam for gas-fired plants, etc. (assuming of course that potential conflicts of interest can be mitigated). (iii) If there is domestic capital availability excess to the “natural fit� projects, then review the un-assigned projects using “Value for Money� (VfM) criteria. The Government of the United Kingdom has developed the VfM framework38 to determine whether the use of private capital for any particular public infrastructure programme or project offers better value for money than state capital. Based on this type of analysis it is likely that some types of projects are likely to be better suited to BOT development. Generally, the assessment looks at which parties are best suited to cost-effectively manage the risks associated with any particular project. Exhibit 5.2 provides some guidance on assessing the bankability of potential thermal generation BOT projects. If a thermal generation project has the capacity to be financed using international sources of finance, has not been identified for development by domestic participants, and would be most effectively risk-managed by the international private sector, then it should be considered as a BOT candidate. 37 However, a separate issue is the potential conflict of interest for monopoly suppliers of primary fuel like PetroVietnam and Vinacomin to also participate downstream in a competitive power market. Strong regulation will be required to ensure that these firms do not abuse their monopoly fuel supply status to the benefit of their power generation activities. 38 HM Treasury, Government of the United Kingdom, Value for Money Assessment Guidance, November 2006. The document can be found on the website www.hm-treasury.gov.uk. There is a diversity of views about the suitability of the traditional VfM methodology to developing countries. An example of an alternative view is a paper by Vives, Paris, Benavides et al., Financial Structuring of Infrastructure Projects in Public-Private Partnerships: An Application to Water Projects, Inter- American Development Bank, September 2006. 5-3 The World Bank / PPIAF / MOIT 6/20/2009 5. Proposed Process for Award of Thermal Generation BOTs Exhibit 5.2: Considerations for Seeking International Private Finance through BOTs Once the MOIT has determined that a particular project will be developed on a BOT basis, it should then consider conducting a market sounding to assess key issues or questions from potential developers and lenders that it can address during project preparation. A market sounding should also help MOIT determine investor appetite for the project, and to confirm its principal assumptions or options about how the project may be structured to be brought to market most successfully. Market soundings may be conducted through one- on-one interviews with firms, or as is more commonly the case, through events to which numerous industry players are invited. Market soundings may be conducted repeatedly at various stages of project preparation. For example, an initial market sounding could be used to highlight issues to be addressed in the feasibility study, while a subsequent market sounding could confirm the structure of the project prior to finalization of the bid documents and draft project agreements. 5.3 CREATION OF A PROCUREMENT COMMITTEE A single entity should be responsible for preparing and carrying out each procurement. As discussed in Section 4.2, the BOT generation IBWG is the appropriate body to perform this role as the Procuring Authority. While the composition and obligations of the IBWG are clear, its authority is not. In particular, the following issues needs to be addressed: • The IBWG has 16 members that have permanent roles in their respective organizations. The additional load that would fall on these personnel should 5-4 The World Bank / PPIAF / MOIT 6/20/2009 5. Proposed Process for Award of Thermal Generation BOTs they be required to carry out all of the procurement functions is too great without further support. It is advisable for the IBWG to establish a permanent secretariat with staff and office facilities that can manage day to day procurement operations. The secretariat would have a head that would act as the secretariat’s principal point of contact with the IBWG. The secretariat should have the funding and ability to appoint technical, financial and legal advisors. • The appointment of an ERAV representative onto the procurement committee as an observer should be considered to ensure an adequate and efficient flow of information between the Procuring Authority and the Monitoring Authority. • There are members on the IBWG that have potential conflicts of interest, including EVN, Petrovietnam and Vinacomin. However, each of these organizations also has valuable skills that can benefit the IBWG. Conflicts could managed through a number of measures, such as: Each member of the IBWG signing a confidentiality agreement with the IBWG and their employer that requires them not to either (a) disclose any matter before the IBWG without express permission from the IBWG Chairperson; or (b) disclose matters to their employers expressly identified by the IBWG as being confidential. The same restrictions would apply to information in the employer’s domain; The Chairperson of the IBWG having the discretion to exclude IBWG members for agenda items that involve that member’s employer; If conflicts cannot be managed, it might be necessary to impose tighter restrictions or for certain members to be removed from the IBWG, calling on them when their particular skills are required. Care should be taken about these steps though, because members come from relevant arms of government and each assesses whether bidders’ proposals can meet the GOV’s requirements. The structure of the IBWG is otherwise appropriate and has requisite skills, other than the international legal and project financing skills needed to assess the financing proposals made by bidders. These skills can be obtained by appointing consultants, but capacity building in this area would also have merit, possibly at the time that model documents are being drafted. 5.4 PREPARATION OF BIDDING PROCEDURES AND DOCUMENTS The BOT Decree (along with the MPI Instructions, once formally adopted) sets the scene for thermal generation BOT procurement, but more detail is needed. This Framework together with the draft Ministerial Instruction presented in Appendix G provide the necessary guidance for implementation. Exhibit 5.3 provides an overview of the hierarchy 5-5 The World Bank / PPIAF / MOIT 6/20/2009 5. Proposed Process for Award of Thermal Generation BOTs of governing legislation and bid documents. It is anticipated that model bidding documents and model project agreements would be developed at a later stage.39 Exhibit 5.3: Pre-Procurement Phases and Components Developed under Developed under this Assignment other activities Phase One Phase Two Thermal Thermal Generation Model Tender Model Project BOT Decree Generation BOT Documents Agreements BOT Circular Framework Invitation to Project PPA Prequalify Contract Issue of Direct Fuel Supply Prequalification Prequalification Proceedings Criteria Agreement Agreement Prequalification Payment Documents Guarantee Invitation Letter Instruction to Bidders Legend Bid Existing Package Bidding Forms To be developed – This Framework To be developed – Future Minimum Technical Development depends on Fuel Supplier Specification Included in Bidding Package The Instruction is based on the Model Legislative Provisions, the Model Law on Procurement and to a lesser extent, the Government Procurement Agreement (GPA) of the World Trade Organization, which are internationally accepted and standardized documents. It is designed to be consistent with the principles of procurement that need to be met if thermal generation BOT projects are to receive financial support from international financial institutions such as the World Bank or the Asian Development Bank. For example, for World Bank support to be available to a BOT project, the project sponsors should be selected by ICB or limited international bidding. Otherwise the project company must procure its goods, works and services using ICB or limited international bidding. 39 These models could be based on the Nghi Son 2 and/or O Mon 2 documents as and when they are developed and become available. 5-6 The World Bank / PPIAF / MOIT 6/20/2009 5. Proposed Process for Award of Thermal Generation BOTs As the Procuring Authority, the IBWG, through its Secretariat, should take responsibility for preparing the common set of model bidding documents for all future thermal generation BOT projects. Certain aspects will necessarily need to be tailored for each project and the model bidding documents should be capable of improvement over time as lessons are learned and model procurement procedures are improved. The GOV will achieve the best possible outcomes if it develops model bidding documents and procedures for awarding project contracts before starting any procurement. Bidding documents provided to candidates should contain all the information they need to be responsive. Article 10 of the BOT Decree provides a basis for this by requiring that tender invitation documents shall comprise: a) Instructions for bidders; b) Minimum technical, commercial and financial requirements of the project; criteria for assessment; preferential conditions; taxation and other conditions; c) Proposal for the project; d) Draft project contract, including the items set out in Article 15; and, e) Other relevant documents as determined by the MOIT as the authorized state body. Under the BOT Decree, the list of “other related documents� is not specified. However, this list should include the model agreements identified above and is discussed further in Section 6 and provided for in Article 2.3.2 of the Instruction. 5.5 PREQUALIFICATION PROCEEDINGS Prequalification is designed to filter out all candidates other than those with the financial strength and track record to undertake the candidate project. As neither the Electricity Law nor the BOT Decree provides detailed mechanisms for pre-qualifying bidders, these are specified in the Instructions. Prequalification has several advantages. If only qualified firms or consortia are selected for bidding then they are more likely to commit time, money and resources to their proposals. The buyer also obtains an insight into the level of interest in the project, which is critical given the unique environment in which GOV is seeking to develop new projects; few countries have sought traditional BOT projects while embarking on the introduction of a power market. Any conflicts with advisors and others can be exposed early. Low price or “wild card� bids from unqualified bidders can be excluded too. Finally, less time is needed to evaluate prequalification documents of many interested parties, than detailed proposals made by those parties. Prequalification also has some disadvantages. Prequalification places a limit on competition and the process can be abused if the buyer has a mind to pick winners and losers at this early stage. It can be a subjective process that might exclude deserving bidders under more objective criteria. Collusion risk amongst bidders can also increase if there are only a few prequalified bidders. These disadvantages can be addressed by not setting the prequalification criteria too high and employing quantitative criteria. These considerations need careful attention when the model prequalification document is drafted. 5-7 The World Bank / PPIAF / MOIT 6/20/2009 5. Proposed Process for Award of Thermal Generation BOTs The advantages of prequalification and general acceptance of this approach in international procurement will outweigh the disadvantages if they are managed appropriately. For this reason, mandatory prequalification is recommended for all major projects. i. Mandatory Prequalification A prequalification process should be mandatory for all thermal generation BOT projects. The prequalification proceedings should include advertising the invitation to register expressions of interest, prequalification criteria, a minimum period for preparation of prequalification applications and notification to the applicants of the result of the prequalification. This will help ensure that the proceedings are fair and transparent. Article 2.2.3(i) of the Instruction provides for mandatory prequalification. ii. Pre-qualification Criteria To qualify for the selection proceedings, candidates must meet objective and justifiable criteria that the Procuring Authority considers appropriate for the development of the thermal generation BOT project. The criteria shall include adequate professional and technical qualifications, sufficient financial capacity to undertake the project and the appropriate management and organizational capability. More details on these criteria are outlined in Article 2.2.1 of the Instruction. iii. Participation of Consortia Consortia are better able to meet particular challenges of larger thermal generation BOT projects because they can manage the broad range of skills required to build and operate such a facility. They are also in a better position to share the financing burden and risks of large-scale thermal generation projects. The conditions for consortia participation in selection proceedings are defined in Article 2.2.2 of the Instruction iv. Invitation to Register Expressions of Interest The IBWG as the Procuring Authority should solicit applications to register expressions of interest by publishing an invitation in Cong Bao. At the same time, the invitation to register expressions of interest should also be published in other print or electronic publications having a wide international circulation. The Procuring Authority should provide a set of prequalification documents to each candidate that requests them in accordance with the invitation to register expressions of interest and the payment of a fee. The fee should reflect only the cost to the Procuring Authority of printing the prequalification documents and providing them to candidates. Candidates, including consortia, that are interested in pre-qualifying for the relevant project should be allowed up to [45] days from when the invitation to register expressions of interest has been published. The minimum requirements of the invitation to register expressions of interest are set forth in the Instruction. These requirements include a description of the Thermal Generation 5-8 The World Bank / PPIAF / MOIT 6/20/2009 5. Proposed Process for Award of Thermal Generation BOTs BOT Facility, Information to be included in an Expression of Interest and instructions for the submission of Expressions of Interest. Article 2.2.3 of the Instruction sets out the detailed requirements regarding registrations of expressions of interest. v. Prequalification Documents Candidates responding to the invitation to register expressions of interest should be provided with prequalification documents based on model documents to be developed. The scope of these documents is defined in Article 2.2.4 of the Instruction and should include instructions for preparing and submitting prequalification and an Information Memorandum including description of the Thermal Generation BOT Facility and summary of the terms and conditions of Project Agreements. vi. Selection of Prequalified Bidders40 While it is common for all prequalified bidders to be permitted to bid, BOT projects are complex and a shortlist of no more than [five] bidders could be set. Care should be taken regarding the rules for limiting bidders in this respect to avoid imposing undue limits on competition. The evaluation of even [five] detailed proposals will require considerable time, expense and resource on the part of the Procuring Authority. Bidders will also commit more time and expense to preparing proposals if a field of competition is well defined. The Procuring Authority is also likely to be able to set a higher technical standard for bidders to meet. The Procuring Authority should determine the shortlist based on the qualifications of each bidder that has submitted an application for pre-qualification. In making that decision, the Procuring Authority should apply only the criteria that are set forth in the prequalification documents. Other conditions relating to this selection process are outlined in Article 2.2.5 of the Instruction. vii. Post Qualification The Procuring Authority may require a bidder that has been prequalified to demonstrate again its qualifications in accordance with the same criteria used to prequalify that bidder. The Procuring Authority should promptly notify each bidder of the requirement to meet qualifications and whether or not the bidder has done so to the satisfaction of the Procuring Authority. The Procuring Authority should disqualify any bidder that fails to demonstrate its qualifications when requested to do so. Article 2.3.10 of the Instruction deals with post qualification. 40 The Inception Report considered using the World Bank’s “Prequalification Document for Procurement of Works and User’s Guide (August 2006 Revision)� as a base prequalification document. The Consultant has since reviewed other benchmarks and concluded that the UNCITRAL documents referenced in this framework provide more complete precedents. 5-9 The World Bank / PPIAF / MOIT 6/20/2009 5. Proposed Process for Award of Thermal Generation BOTs 5.6 BIDDING PROCEEDINGS i. Methods of Procurement There are a number of procurement methods, including open competitive tendering, restrictive competitive tendering, a two-stage procedure and non-competitive arrangements. The Instruction is based on open competitive tendering as a first choice for procuring new thermal generation BOT facilities. This approach is the most transparent, competitive and objective selection process. Two-stage tendering is appropriate when it is not possible to provide sufficient detail regarding the project concerned for candidates to make firm proposals. Typically two- stage tendering is used when unique characteristics of a project require innovative approaches from bidders. Thermal generation BOT projects will be either coal-fired or gas-fired. While these projects are complex, they are not so challenging or novel that the Procuring Authority cannot adequately specify the minimum technical requirements at the outset. For this reason, two-stage tendering as an option does not form part of the procurement procedures set out in this Framework or the Instruction. Regarding non-competitive arrangements, these are discouraged other than in exceptional circumstances, such as when there is an urgent need to provide new capacity, in certain cases where unsolicited proposals are received and in certain cases where competitive bidding fails. These circumstances are detailed in Articles 2.4 and 2.5 of the Instruction. The Contracting Authority is also exposed to the possibility of several prequalified bidders deciding not to submit a proposal. Under these circumstances, the actual number of bidders could be too few to promote adequate competition. This issue needs careful consideration when designing prequalification criteria. ii. Content of the Request for Proposals The bidding documents for procuring thermal generation BOT projects in Vietnam should be based on pre-determined models but customized for the needs of each individual project. Typically, the bidding documents would include the following: • Request for Proposals (RFP); • Draft Project Contract; • Draft PPA; • Draft Fuel Supply Agreement; • Other draft project agreements; • Minimum technical requirements of the Thermal Generation BOT Facility; • A grid code; and, • Other project information including feasibility studies, interconnection studies, environmental and social impact studies and so forth. Regarding the RFP specifically, it should include: 5-10 The World Bank / PPIAF / MOIT 6/20/2009 5. Proposed Process for Award of Thermal Generation BOTs • An invitation letter; • Instructions to Bidders; and, • Bidding Forms including a financial template. Article 2.3.2 of the Instruction addresses the content of RFP in more detail and provides for a model RFP to be attached to the Instruction in future. iii. Bid Securities Each bidder, upon submitting a proposal shall provide a bid security in a form and amount specified in the Instruction and further detailed in the RFP. Bid securities provide a financial guarantee in support of each bidder’s obligation to sign a project contract if it is successful in its bid. Article 2.3.3 of the Instruction specifies the requirements for bid securities. iv. Clarifications and modifications Before the Bidding Date At any time before the deadline for submission of proposals, the Procuring Authority may modify the bidding documents by issuing an addendum. The addendum should be communicated promptly to all bidders and should be binding on them. A bidder may request a clarification regarding the bid documents from the Procuring Authority. The Procuring Authority should respond to any request for clarification within a reasonable time before the deadline for the submission of proposals. The Procuring Authority should respond within a reasonable time to enable the bidder to make a timely submission of its proposal. Conditions for modifications and clarifications to the bid documents are set forth in Article 2.3.4 of the Instruction. v. Preparation and Submission of Firm Bids The Procuring Authority shall set the place, date and time for the submission of proposals. Proposals should be submitted as two separate parts: a technical proposal and a financial proposal (Technical Proposal and Financial Proposal respectively). The technical proposal should include a covering letter, the form of bid security, a proposal opening form, the qualifications of the bidder, a project milestone schedule, technical data, the bidder’s organizational and staffing plan and the bidder’s transfer plan. The requirements for each of these will need to be specified in the model RFP. The financial proposal should include a covering letter, deviations to the project agreements (other than for deviations on conditions that have been stated in the RFP as non-negotiable), project financial data based on a financial template and a financing plan. The Procuring Authority may, prior to the deadline for the submission of proposals, extend the deadline if (i) a clarification or modification has been made to bid documents providing reasonable time for bidders to take into account these changes in their proposals or (ii) it is not possible for a bidder to submit their proposals by the deadline owing to any circumstance beyond their control. 5-11 The World Bank / PPIAF / MOIT 6/20/2009 5. Proposed Process for Award of Thermal Generation BOTs A full proposal, comprising written technical and financial bids each of which is to be marked as such and contained in individual sealed envelopes, shall be signed and submitted in one parcel. Alternatively, a proposal may be submitted in any another form as specified in the RFP. The model RFP when it is drafted should give consideration to the use of e-procurement to enhance the procurement process.41 All proposals should be receipted. Any proposals received by the Procuring Authority after the deadline for submissions of proposals should not be opened and should be returned to the bidder concerned. Specifications relating to the preparation and submission of bids are provided for in 2.3.5 of the Instruction. vi. Period of effectiveness of proposals: modification and withdrawal of proposals Each proposal should constitute a firm offer and should remain valid and open for acceptance for a period of [12 months] following the proposal submission deadline. During this period, the proposed tariff shall remain valid and no bidder should be permitted to modify or withdraw its proposal. Any proposal that specifies a validity period that is shorter than [12 months] should be viewed as non-responsive and rejected. Recognition is needed that certain costs are outside the control of and are not able to be reasonably managed by each bidder. The RFP should provide for a formulaic adjustment to be applied to the tariff effective as of the date on which the project contract is executed. Eligible costs that affect the tariff include the cost impacts of foreign exchange and interest rates. Article 2.3.6 of the Instruction deals with these requirements in more detail. vii. Alternative Proposals A prospective bidder may be able to offer a solution to the implementation of a thermal generation BOT project that is better than the option described in the bidding documents. Certain conditions would need to be satisfied to permit an alternative proposal. These conditions are provided for in Article 2.3.7 of the Instruction. Bidders should be able to present alternative proposals if they will reduce costs, shorten the development schedule or allow better implementation or operation of the project. If a bidder submits an alternative proposal, it must also provide a proposal that complies with the terms and conditions of the bidding documents. If the proposal intended to be compliant is incomplete or if it is not substantially responsive, it should be rejected together with any alternative proposals that are made. 41 e-procurement replicates paper-based procurement methods using electronic media such as the Internet. Under the Multilateral Development Banks Procurement Harmonization Process, technical advice and support is provided to the respective member countries for developing their electronic government procurement strategies and solutions (refer to www.mdb-egp.org) 5-12 The World Bank / PPIAF / MOIT 6/20/2009 5. Proposed Process for Award of Thermal Generation BOTs Insofar as possible, alternative proposals must respond to the same criteria as compliant proposals and information in the form and detail required of compliant proposals must also be provided. If an alternative proposal does not meet this criterion, it should be rejected. However, any compliant proposal that is responsive should be considered. Article 2.3.7 of the Instruction sets forth the requirements for submitting an alternative proposal. viii. Evaluation Procedure and Criteria The evaluation process should have three stages: • First Stage: Responsiveness. Each proposal should be reviewed for completeness and substantial responsiveness according to a test to be specified in the model RFP; • Second Stage: Technical Evaluation. For those proposals that pass the First Stage, Technical Proposals should be evaluated to establish whether they meet the requirements of the RFP, particularly regarding compliance with the minimum technical specification; and, • Third Stage: Financial Evaluation. The Financial Proposals of those proposals that pass the Second Stage should be opened publicly and evaluated. An evaluated price should be calculated based primarily on price, and secondarily on non-price, non- technical matters. These would include deviations to project agreements42 and the quality of the financing plan. The bidder that has the lowest evaluated price should be invited to negotiate the project contract. Article 2.3.8 of the Instruction provides a further description regarding the evaluation procedure. 5.7 OPENING AND EVALUATION OF PROPOSALS For all proposals properly lodged with the Procuring Authority, the envelopes containing the technical proposals and their corresponding bid securities will be opened at offices of the [Contracting Authority or the Procuring Authority] immediately following the deadline for submission of proposals. Bidders choosing to attend the opening should sign a register of attendance. When the proposals are opened, the Procuring Authority shall examine the proposals and record Bidders names, any withdrawals, the presence or absence of bid securities, whether the documents have properly signed and complete such other details as the Procuring Authority may consider as appropriate for the review of the responsiveness of proposals (First Stage of the Evaluation Process). The Procuring Authority shall prepare minutes regarding the opening of the proposals. For proposals that pass the First Stage of the Evaluation Process, the Technical Proposal shall be opened and evaluated in accordance with the criteria set out for the Technical Evaluation which will be contained in the RFP (Second Stage of the Evaluation Process). Any proposal that does not meet the minimum technical specification shall be returned to 42 The definition of material deviations should be established when the model RFP is drafted. Deviations may be considered or allowed for certain specifications, but generally on the basis of how such a deviation would benefit the Government. 5-13 The World Bank / PPIAF / MOIT 6/20/2009 5. Proposed Process for Award of Thermal Generation BOTs the Bidder concerned along with the Financial Proposal that has not been opened. (Language to be included relating to proposals meeting specific technical thresholds). Financial proposals should not be opened and should be held securely by the Procuring Authority pending their opening at the start of Stage Three evaluation. Following the completion of the Second Stage of the Evaluation Process, the proposals that meet the threshold set for passing the Second Stage43 shall have their Financial Proposals opened and evaluated in accordance with criteria set out for the Financial Evaluation which will be contained in the RFP. On the examination, evaluation and comparison of proposals, the Procuring Authority may ask bidders for clarifications to assist in the examination, evaluation and comparison of proposals. No change in a matter of substance in the proposal, including changes in price and changes aimed at making an unresponsive proposal responsive, should be sought, offered or permitted. The Procuring Authority should correct purely arithmetical errors that are discovered during the examination of proposals. The Procuring Authority should give prompt notice of any such correction to the bidder that submitted the proposal. The bidder should then confirm its acceptance of those corrections and its failure to do so should render its proposal unresponsive. The Procuring Authority shall evaluate and compare the proposals that have been accepted in order to ascertain the successful bidder in accordance with the procedures and criteria set forth in the RFP. No criterion shall be used that has not been set forth in the RFP. The successful bidder shall have the lowest evaluated price following the financial evaluation. When evaluating the financial proposals, monetary amounts expressed in two or more currencies should be converted to the same currency at the rate specified in the RFP. If the bidder submitting the successful proposal is requested to demonstrate again its qualifications but fails to do so, the Procuring Authority should reject that proposal and should then select the next best evaluated proposal. The Procuring Authority should reserve the right to reject all remaining proposals. Information relating to the examination, clarification, evaluation and comparison of proposals shall not be disclosed to bidders or to any other person not involved officially in the examination, evaluation or comparison of proposals or in the decision on a proposal should be accepted, except as otherwise expressly provided. Article 2.3.9 of the Instruction further describes the procedure for opening and evaluating proposals. 43 The threshold requires careful consideration. If set too low, then wild card low bidders are favoured. If too high, then there may be insufficient bidders qualifying to have their financial proposals opened. 5-14 The World Bank / PPIAF / MOIT 6/20/2009 5. Proposed Process for Award of Thermal Generation BOTs 5.8 NEGOTIATION AND AWARD The Instruction provides that the Procuring Authority shall rank all responsive proposals on the basis of the evaluation criteria and invite the bidder who has attained the lowest evaluated price for final negotiation of the project contract. There are a number of negotiation strategies that could be adopted by the Procuring Authority. These include no negotiation, simultaneous negotiations, and consecutive negotiations. The complexity of thermal generation BOT projects makes negotiation a practical necessity and some scope for negotiations before the award of the project contract is therefore likely. Simultaneous negotiations are resource hungry and require making tradeoffs that can be difficult to quantify. An alternative is to select consecutive negotiations (one bidder after another in order of rank), but reserve the right to move to simultaneous negotiations if this would help the Contracting Authority’s position. Having started negotiations, if it becomes apparent to the Procuring Authority that the negotiations with the bidder invited will not result in a Project Contract, the Procuring Authority shall inform the bidder of its intention to terminate the negotiations and give the bidder time to formulate its best and final offer. If this final offer is not considered acceptable by the Procuring Authority then negotiations will terminate with the bidder. The Procuring Authority shall then invite other bidders for negotiations in the order of their ranking until it agrees a project contract or rejects all remaining proposals. Conditions relating to the negotiation of the project contract are further defined in Article 2.3.11 of the Instruction. 5.9 MONITORING OF THERMAL GENERATION BOT PROCUREMENT Independent oversight and monitoring of each procurement are needed to ensure that procurement procedures are followed properly and bidders are being treated fairly, and to promote confidence in the procurement process generally. A “Monitoring Authority� that is entirely separate to the Contracting Authority and the Procuring Authority should play that role. In Section 4.2, it is suggested that this role is undertaken by ERAV or, possibly, the State Audit Office of Vietnam. The Monitoring Authority should have specific operating procedures that enable it to review the procurement process either at key stages or on a continuous basis to ensure probity, including: • Development and revisions to the thermal generation BOT procurement framework; • Project selection; • Bidding documents; • Pre-qualification; • Management of communications with bidders; • Submission of bids; 5-15 The World Bank / PPIAF / MOIT 6/20/2009 5. Proposed Process for Award of Thermal Generation BOTs • Opening and evaluation of bids; • Negotiations; and, • Contract award. The Monitoring Authority would also be a source for bidders to seek review of the procurement process if they assert that the Contracting Authority or Procuring Authority have not acted in accordance with the procurement proceedings. The WTO’s Government Procurement Agreement (GPA) sets out challenge procedures in its Article XX that are appropriate. The GPA contemplates initial consultations, followed by independent review, publicity of the review procedure for transparency and time limits for submission of challenges. These procedures are further described in Article 2.6.4 of the Instruction. 5-16 The World Bank / PPIAF / MOIT 6/20/2009 6. MODEL PROJECT AGREEMENTS 6.1 PRINCIPAL CONSIDERATIONS The GOV will improve its chances of achieving its targeted outcomes and timetable if model agreements are developed before procurement starts. These agreements should be for those contracts that the project enterprise will sign with the GOV and the BOT Counterparty. These agreements include the model project contract, power purchase agreement and others such as land lease and fuel supply agreements. These are referred to in general as the GOV Project Agreements. This section sets out principles and guidelines for the preparation of the principal GOV Project Agreements. Governments often allow developers to draft BOT and other agreements because they lack internal resources or funding to appoint experienced legal advisors. Developer friendly agreements result from this practice. Governments are also left many forms of agreements that cannot easily be compared. Consequently, the GOV should control documentation by developing the GOV Project Agreements itself. As noted in Section 5.6, the GOV may wish to conduct a market sounding to help determine key aspects of the project structure and agreements. The GOV Project Agreements should be developed comprehensively, limiting the need for bidders to make substantial drafting changes. These agreements should balance the reasonable needs of the GOV while being fair to private investors and their debt providers. The development of model project agreements before a procurement starts has certain other considerations, including: • Risks should be allocated in a manner acceptable to government, whilst remaining equitable to investors and prospective lenders; • The chances of each project having terms that are consistent with the GOV’s policies on thermal generation being increased; • The reduction of the very high legal costs involved in drafting agreements, including delays involved in preparing and negotiating agreements project by project; • Facilitating the financing of BOT projects and reducing the time needed for financial closing. The familiarity of the lenders with the risk allocation embodied in model project agreements enhances lenders’ understanding of the project structure, which reduces the time and cost of lenders’ due diligence; • Increasing the familiarity and understanding of GOV agencies with project agreements and thus facilitating administrative approvals, control and supervision of the thermal generation BOT project; and, • Ensure a higher legal quality of the project agreements which will make thermal generation BOT projects more attractive to developers and their lenders, which helps the implementation of projects and reduces future disputes. Some provisions of the model agreements should be standard and non-negotiable, while others are project-specific and could be open to negotiation or deviation. Model agreements must strike a careful balance between the need to promote and protect the interests of Vietnam and the need to offer commercially attractive projects to developers. 6-1 The World Bank / PPIAF / MOIT 6/20/2009 6. Model Project Agreements Model provisions where common to several GOV Project Agreements should use the same language so that there is a single interpretation of these provisions and no scope for conflict between them. 6.2 PROJECT CONTRACT 6.2.1 General Principles For most infrastructure and utility projects that are procured by a government and developed and financed by the private sector, the concession agreement, or Project Contract as it is called in Vietnam, is a cornerstone document. The Project Contract is the principal legal mechanism by which the MOIT controls the complex issues surrounding the implementation and operation of large scale thermal generation BOT projects. A model Project Contract should be divided into several sections, as follows: • A section that deals with the basic operative provisions of the agreement that are applicable to all thermal generation BOT projects (this is referred to as the “Project Contract Body�); • A section that contains schedules to the Project Contract, which sets out the detailed aspects that are specific to the project concerned. Certain of these might be pre-prepared, such as a schedule dealing with gas supply issues for gas fired projects and another schedule dealing with coal supply issues, as applicable. Each of these would then be tailored to each specific project (These are referred to as the “Project Contract Schedules�); • A section that contains documents with other relevant information (this is referred to as Project Contract Information Schedules). The Project Contract Body should be drafted in a functional manner, meaning that it is set out in the same order as the project will develop, from executing the agreement, to construction, operation and then transfer. This approach makes the Project Contract easier for non-lawyers to follow. Provisions that apply to all phases of the project can be dealt with in a separate section. These include matters such as environmental protection, insurances, change in law, force majeure and termination. The model Project Contract must be balanced so that both parties are treated fairly. Insofar as possible the agreement should use internationally recognised contract principles. It is hard for project developers and their lenders to argue with internationally accepted contract conditions that are commonly used in their home countries. International principles worth noting are the United Nations Convention on Contracts for the International Sale of Goods, UNIDROIT’s Principles of International Commercial Contracts and the FIDIC MDB Harmonised Construction Contract, the latter of which can be used to identify key principles for construction rather than prescribing the form of contract that must be used by developers. The model Project Contract must be bankable. In Vietnam the local capital market is not yet sufficiently developed for all thermal generation BOT projects to be financed 6-2 The World Bank / PPIAF / MOIT 6/20/2009 6. Model Project Agreements domestically. This means that international commercial banks and other financial institutions will necessarily play a role in thermal generation BOTs. The model Project Contract must therefore be attractive to international lenders by including lender provisions such as adequate security arrangements, the opening of offshore accounts, step-in rights and insurance requirements. 6.2.2 Key Provisions of the Decree and Draft Ministerial Instruction Article 15 of the BOT Decree sets out the elements that must be included in a Project Contract. Article 10(2)(c) of the BOT Decree requires that a draft Project Contract form part of the tender invitation documents, but it does not require that it be based on a particular model. The Instruction suggests in its Article 3.1.1 that the Project Contract follow a specified form that is adapted only as necessary for each project. The Instruction also specifies in its Article 3.1.2 contents that are additional to the BOT Decree requirements. The BOT Decree is silent on a number of usual contents in a BOT contract, so the the Instruction addresses this. Amongst other things it includes standarized provisions for ownership of assets, land tenure, financing and lender security interests, change in control, transfer and dispute resolution. Five major areas that are usually heavily negotiated require special attention. These include (i) Compensation on termination, (ii) Change in law, (iii) Force majeure (iv) Governing law, and (v) Government support package. Each of these is dealt with in more detail below. a. COMPENSATION ON TERMINATION The parties to the Project Contract should appoint an independent appraiser to calculate the compensation on termination, usually referred to as the buyout provision. As terminations can strain relations between the parties, this approach is commendable. The method for calculating compensation on termination is usually based on combining: • A discounted cash flow valuation based on the estimated present value of the Project Enterprise’s expected cash flows over the remainder of the Project Contract’s term; • A terminal value based on the project assets depreciated replacement cost; • The Project Enterprise’s outstanding loans and any accrued interest and financing fees; and • Termination costs of one or both parties. A typical buyout formula provides for (a) debt, plus (b) the net present value of the equity cash flows that the project enterprise’s shareholders expected to receive, plus (c) termination costs. Each component is adjusted to reflect the reason for termination. The highest payment is made for Contracting Authority default and a lower payment is made for Project Enterprise default. Terminations caused by natural force majeure events do not normally involve compensation payments because insurances usually cover such events. Further detail on this subject is provided in Section 6.2.2c below. No payment is usually made for natural expiry of a thermal generation BOT contract. Investors intend at the outset to recover their costs of capital by the end of the term and not claim any material residual value. However, a nominal value may be paid by the Contracting Authority as consideration for the transfer. 6-3 The World Bank / PPIAF / MOIT 6/20/2009 6. Model Project Agreements Article 4.3.1 of the Instruction provides for compensation on termination based on these principles. b. CHANGE IN LAW If the cost of the Project Enterprise’s performance of the Project Contract substantially increases or the value that the Project Enterprise receives for its performance substantially diminishes compared with the amounts originally foreseen because of a change in law, the Project Enterprise should be compensated. Compensation should equal the increased costs or reduced revenues. Failure to agree on the level of compensation should be resolved through the dispute resolution process contained in Article 5 of the Instruction. Article 3.3.9 of the Instruction provides for compensation on termination based on these principles. c. FORCE MAJEURE The Instruction does not contain specific language for force majeure. Force majeure is often much negotiated between parties, but should be based on an international convention such as Article 1148 of the French Code Civil. The force majeure provision should be drafted carefully when the model Project Contract is established and should contain the following principles: • Nature of force majeure – this should include severe and unusual natural disasters, war (whether declared or not) in Vietnam, epidemics, rebellion, blockades or embargos under international law, import or export restrictions or industry wide strikes in Vietnam; • Suspension of performance due to force majeure – either party shoud be entitled to suspend performance if it is impeded from doing so due to an event beyond its control, which it could not reasonably foresee when it enterered into the Project Contract and which it could not overcome; • Exceptions to force majeure applicable to the Contracting Authority – the Contracting Authority should not be entitled to claim force mejeure in certain cases. These include expropriation, imposition of import or export restrictions, the imposition of blockades or embargos, national or industry wide strikes, war and civil disturbance, force majeure under another GOV Project Agreement or a change in law; • Period of suspension of obligations and duty to mitigate – A party should only be entitled to claim force majeure for as long as the event is continuing or the party is affected by the event. The affected party should be obliged to mitigate the effects of the force mejeure to the extent possible; • Revised timetables – The party claiming force majeure should be enitled to have any relevant time period specified in the Project Contract extended for a period equal to the period during which the party was affected by the force majeure event; • Damage or destruction due to force majeure – if the Thermal Generation BOT Facility is damaged or destroyed, the Project Enterprise should be obliged to restore the facility. If the force majeure event causes damage that could not reasonably be 6-4 The World Bank / PPIAF / MOIT 6/20/2009 6. Model Project Agreements insured, where the proceeds are less than an agreed percentage44 of the total cost of repairing the damage or the facility is declared a total loss, then the Project Enterprise should not be obliged to restore the facility if its economic return will be affected materially. In that case the parties should reach an alternative agreement, with failure to reach agreement being subject to the dispute resolution procedure; • Termination due to force majeure – Subject to the reasonable requirements of the Project Enterprise’s lenders, if a force majeure event affects a party for more than a specified period45, then the parties should agree the terms on which the Project Contract continues to be performed or terminated. If the parties do not agree those terms within a further period46, then either party may seek termination of the Project Contract. That termination may be subject to the dispute resolution procedure set out in Article 5 of the Instruction. d. GOVERNING LAW Governing law deals with the jurisdiction whose law will be applied in the event of a dispute relating to an agreement. Previous thermal generation BOT contracts in Vietnam have selected the laws of Singapore as governing law. This is unusual because the usual choices of a non-domestic governing law for international agreements are either English law or New York law. Of these two laws, the majority of agreements are based on English Law. The Instruction proposes that the governing law of the Project Contract (and other GOV Project Agreements) is English Law. As the Project Enterprise’s other agreements are also likely to be governed by English law, this approach would reduce overall legal costs. An alternative arrangement, although considerably less appealing to project investors and lenders, is the use of the laws of Vietnam with those laws being interpreted and governed by English Law. Sample language for such a provision could be: “The Project Enterprise shall carry out its operations in accordance with this Agreement the Investment License and the Laws of Viet Nam. The issues relating to interpretation, Performance, breach, damages and settlement of disputes under this Agreement shall be governed by the laws of England (without regard to conflicts of law rules).� Nonetheless, it is recognized that the existing thermal generation BOTs have been concluded using Singapore Law. While use of English Law can provide additional benefits as noted above, a decision to continue to rely on Singapore Law would not fundamentally compromise the Framework. e. GOVERNMENT SUPPORT PACKAGE Each thermal generation BOT project will be exposed to external risks that do not normally concern domestic investors. These can be categorized as “country risks�, which relate to political and economic risks. 44 Usually this is 70% 45 Usually this is 90 days, subject to additional cure periods sought by lenders 46 Usually this is twelve months from when a party gives notice of force majeure to the other party 6-5 The World Bank / PPIAF / MOIT 6/20/2009 6. Model Project Agreements Political risks include war, expropriation and currency conversion/ transfer abroad. Political risks can extend to additional events such as breach of contract by governmental parties and denial of justice. Economic risks, as measured by the credit rating agency Standard and Poor’s (S&P), include assessments of: income and economic structure; economic growth prospects; fiscal flexibility; general government debt burden; off-budget and contingent liabilities; monetary flexibility; external liquidity and external debt burden. Vietnam is rated as BB by S&P. This means that the agency considers that debt issues from Vietnam “face major ongoing uncertainties or exposure to adverse business, financial, or economic conditions which could lead to the obligor’s inadequate capacity to meet its financial commitment on the obligation.� A BB credit rating is not strong enough for international commercial lenders to lend to a thermal generation BOT project without some form of credit enhancement. For so long as the GOV does not carry an investment grade rating, it needs to support governmental entities that have contracts with the Project Enterprise. Where international commercial lenders are involved, additional support is likely to be required through risk mitigation instruments such as those available from an export credit agency or a multi-national development bank. Exhibit 6.1 shows the different credit ratings for a number of countries. The column with tick marks shows the number of projects where the World Bank, for example, has provided a risk mitigation instrument such as a partial risk guarantee. Exhibit 6.1: Summary of Credit Ratings & PRG Recipients Rating WB RMI Countries AAA+ Man, Liechtenstein, Luxembourg, Netherlands, Norway, Spain, Sweden, Swiss Confederation, United Kingdom, AAA Australia AAA- AA+ Belgium, New Zealand AA Hong Kong, Japan, Bermuda, Abu Dhabi, Andorra, Slovenia AA- Taiwan, Kuwait, Portugal, Qatar, Saudi Arabia A+ Iceland, Italy A China, Korea, Bahrain, Botswana, Cyprus, Estonia, Hellenic Republic, Lithuania, Malta, Oman, Slovak Republic, A- Malaysia, Bahamas, Czech Republic, Israel, Poland, Trinidad and Tobago BBB+ Thailand, Bulgaria, Hungary, Latvia, Russian Federation, South Africa, Barbados BBB Croatia, Kazakhstan, Tunisia, United Mexican States BBB- India, Romania, Montserrat BB+ Egypt, Macedonia, Montenegro, Morocco, Brazil, Colombia, El Salvador, Peru BB Vietnam, Jordan, Costa Rica, Guatemala, Panama BB- Indonesia, Philippines, Nigeria, Serbia, Turkey, Ukraine, Cook Islands, Venezuela Cambodia, Mongolia, Pakistan, Papua New Guinea, Sri Lanka, Georgia, Ghana, Kenya, Senegal, Argentina, B+ Dominican Republic, Uruguay. Fiji Islands, Seychelles, Benin, Burkina Faso, Cameroon, Madagascar, Mali, Mozambique, Belize, Jamaica, B Paraguay, Suriname, B- Lebanon, Bolivia, Grenada CCC+ CCC Ecuador CCC- CC+ CC CC- The Phu My projects provide insight into the guarantee package that is likely to be accepted by international commercial lenders. First, the guarantees covered foreign exchange convertibility, availability and transfer from Vietnam. Secondly, they covered the payment performance of all government contractual counterparties. 6-6 The World Bank / PPIAF / MOIT 6/20/2009 6. Model Project Agreements For Phu My 3, the investor and the project enterprise had certain rights guaranteed by the GOV. The GOV committed not to nationalize or expropriate the project enterprise’s assets. The government also agreed the negotiated tax package would not change and the project enterprise would not be affected by value added tax. Financiers tend to base their credit decisions empirically, that is, on what has gone before. For future thermal generation BOT projects, they will prefer a guarantee package similar to the Phu My cases. However, the GOV should aim to reduce support in phases as a general rule, but especially to reflect ongoing market reform. Notwithstanding these reforms however, the GOV controls the electricity sector and will do so for some time yet. This control comes through the Government’s policy making and regulation, as well as the through the state-owned operating entities that dominate the sector. Thermal generation BOT projects are most likely to have power purchase counterparts that are GOV controlled too, so a GOV support package will be needed for some time to come. Suggestions for reducing government support for future thermal generation BOT projects include: 1. Restricting guarantees to the power purchaser / counterparty payment obligations only (including MOIT obligations under the Project Contract); 2. Removing GOV coverage of the obligations of GOV controlled entities because their failure should become a governmental force majeure under the PPA. If a Project Enterprise fails to perform because of a supplier’s non-performance, this is not usually a force majeure event (often referred to as a natural force majeure event). However, if the supplier is publicly owned, this should become a governmental force majeure event. The distinction is important because a natural force majeure event suspends the parties obligations to each other while the event exists. No payments are made from one party to the other. However, with a governmental force majeure event, the power purchaser is obliged to continue making capacity payments; 3. Removing separate cover for currency conversion and transfer, investor agreed rights, expropriation and tax arrangements. This cover should be included in the PPA as it is with other similar financings. These issues would be treated as governmental force majeure events; 4. Documenting the planned reforms and agreeing that the guarantee will be amended to reflect the reforms; 5. Making the guarantee contingent upon credit events such as the power purchaser/ counterparty achieving a suitable credit rating, at which time the guarantee would terminate; 6. Restricting the guarantee to termination payments, which would depend on dispute resolution. Items 1, 2, 3 and 5 are achievable and consistent with the international market. Item 4 is unlikely to be workable because it is effectively an “agreement to agree�, which can have limited value and depends on careful drafting of documents. 6-7 The World Bank / PPIAF / MOIT 6/20/2009 6. Model Project Agreements Item 6 is very unlikely to be bankable. From a reasonable lender’s perspective, it is possible that (i) a governmental force majeure event could occur which (ii) results in a payment obligation by the purchaser/counterparty that; (iii) might not be made, leading to (iv) termination proceedings that depend on; (v) protracted dispute resolution, and the; (vi) the Project Enterprise not having sufficient funds to meet its debt service obligations and (vii) lenders being faced with default and subsequently; (viii) enforcing imperfect security that may not lead to recovery of their outstanding debt. This potential outcome would not be acceptable to Lenders at the outset. Consequently, a governmental support package based on Items 1, 2, 3 and 5 above should be developed as part of the model RFP. 6.3 POWER PURCHASE AGREEMENT The parties to the Power Purchase Agreement (PPA) are the BOT project enterprise and the BOT Counterparty as the Offtake Authority. During the CGM, the BOT Counterparty will be the Single Buyer. Under the “dynamic contracting� option described earlier in this report, the PPA should initially relate to the sale and purchase of capacity and energy from the thermal generation BOT facility (i.e. function as a traditional PPA) until a trigger point at which the PPA payment obligation is converted to a CfD. When this milestone is reached, the BOT becomes responsible for bidding of its output into the market. Dynamic contracting and trigger points were discussed previously in Chapter 3. A variant of the PPA is the energy conversion agreement (ECA). While traditional PPAs insulate the BOT from fuel price risk, ECA’s are typically used in cases where the BOT never even owns the fuel that it’s plant runs on. For example, ECAs are often used for geothermal power plants. However, given than ECAs require the same treatment for market integration and tendering as PPAs, the distinction is not important for the purposes of this discussion. If fuel supply considerations indicated use of an ECA would be more appropriate, it could be accommodated by this same framework. The PPA should provide for division of the PPA term into a preliminary period, a construction period and an operational period. The commercial terms of the operational period provide the basis for price evaluation of bids. The evaluation of price should be based on a levelized tariff calculation using a discount rate determined during the development of the model RFP. This calculation is discussed further in Section 6.5. Consideration should be given to a mechanism to discourage “front-ending� of capacity charges. One mechanism used successfully elsewhere is to impose a percentage limit to the proportion of revenues (in present value terms) that may be received by the Project Enterprise within a specified number of years from commissioning. This is noted in Article 2.38 of the Instruction. 6.3.1 Preliminary Period During the preliminary period the project enterprise should be obliged to close its loans and provide equity for the unconditional financing of the project. A preliminary obligations bond should also be posted by the project enterprise which may be called by the Offtake Authority if the project enterprise does not proceed to the construction phase upon fulfilment of the preliminary obligations or it fails to use its best endeavours to fulfil its preliminary obligations. If either party does not fulfill its preliminary obligations, the PPA should be capable of termination without liability to the non-defaulting party. 6-8 The World Bank / PPIAF / MOIT 6/20/2009 6. Model Project Agreements 6.3.2 Construction Period During the construction period the project enterprise should be obliged to finance, design, procure, construct and commission the thermal generation BOT facility to meet its minimum technical specification as provided in a schedule of the PPA. The specification in that schedule should not be lower than the minimum technical specification set out in the RFP. If the thermal generation BOT facility does not achieve a scheduled operation date for a unit, then liquidated damages should become payable by the project enterprise for the period between the scheduled operation date and the actual operation date. These scheduled dates would be adjusted for extensions of time permitted for force majeure events or delays not caused by the project enterprise. The PPA should deal with the obligations of the Offtake Authority to provide specified transmission line and interconnection works to the site. The PPA should also deal with the which party is responsible for the financing and operation and maintenance of the interconnection between the nearest substation and the thermal generation BOT facility's connection point. If the project enterprise is to be responsible for these things then the PPA can address the consequent cost impacts by either a) providing a separate tariff element or b) advising bidders that these costs should be provided in their base tariff calculation. If the Offtake Authority or its nominee is to provide these transmission and/or interconnection facilities then its failure to provide them should lead to capacity payments becoming payable from the project enterprise’s scheduled operation date. 6.3.3 Operational Period During the operational period the project enterprise should be obliged to operate and maintain the thermal generation BOT facility and achieve availability targets and output standards specified in the PPA. Liquidated damages should be payable by the project enterprise and offset from capacity and energy charges (as the case may be) if performance testing shows that the thermal generation BOT facility cannot achieve specified net dependable capacity. Capacity payments should be reduced when the project enterprise does not meet target levels of availability. The Offtake Authority should have the exclusive right to purchase capacity and electrical energy from the thermal generation BOT facility throughout the operational period. An exception to this arrangement would be when the competitive generation market commences and PPA is converted to a CfD. During the operational period the Offtake Authority should be obliged to make payments to the project enterprise according to the capacity charges, energy charges, start-up allowances and any incentive performance payments that might be stated in the PPA. The payment obligations of the parties should be credit enhanced. In the case of the project enterprise, this means support by letters of credit from banks of a reasonable credit standing. Usually this means the issuing bank must have a S&P credit rating of not less than A-. In the case of the Offtake Authority’s payment obligations, however, the GOV Support Package specified in Section 6.2.2e would be provided. Change in Law provisions to indemnify the project enterprise from the effects of changes in law, including changes in taxes payable or any incentive package provided by the GOV, 6-9 The World Bank / PPIAF / MOIT 6/20/2009 6. Model Project Agreements subject to such effects exceeding a threshold value in any year, should be set out in the PPA. Limitation of liability for any economic or consequential loss suffered by the other party and provision of certain indemnities by each party to the other with respect to persons and property should also be specified. An obligation of the project enterprise to maintain insurances of a percentage47 of the capital value of the thermal generation BOT facility in respect of terrorist risks, with undertakings regarding the application of the proceeds of such insurance should also be provided. The PPA should provide for early termination, with buy-out and transfer of the thermal generation BOT facility at the Offtake Authority’s option in relation to certain events relating to the Offtake Authority’s right to terminate. These events should be consistent with the termination provisions of the project contract, which is discussed in Section 6.2.2a. The Offtake Authority should also have an option to buy-out and cause a transfer of the thermal generation BOT facility for a nominal amount at the end of the operational period with transfer being effected in accordance with an agreed transfer plan. 6.4 FUEL SUPPLY AGREEMENT The following sets out drafting notes for the Fuel Supply Agreement (FSA). As either gas or coal could be used to fire thermal generation BOTs, issues common to both fuel types are discussed first and fuel specific issues are then addressed. The parties to the FSA are the BOT Project Enterprise and a Fuel Supplier, which may be either: • Vinacomin or other parties for coal-fired BOT projects; or • Petrovietnam for gas-fired BOT projects. The FSA relates to the supply of fuel to a BOT facility and could provide for, amongst others: • Obligation of the Project Enterprise to purchase its fuel under the FSA for a minimum number of years after the commercial operation date of the last unit, after which it may exercise an option to enter into agreements with third parties for the supply of all or part of the Facility’s fuel needs. This provision will depend on the planned reforms regarding single sellers, as reviewed in Volume 1 of this report; • Term of the FSA being co-terminus with the PPA, subject to early termination either at the election of the Project Enterprise after a certain number of years to reflect market reforms or pursuant to other provisions of the FSA; • Obligation of the Project Enterprise to pay the Fuel Supplier for fuel supplied at prices computed in accordance with the pricing mechanism of the FSA, such mechanism being tied to a market based benchmark index; 47 Usually this is up to 15% 6-10 The World Bank / PPIAF / MOIT 6/20/2009 6. Model Project Agreements • The Project Enterprise must nominate its requirements for any week on a date in that week agreed between the Parties; • Obligation of the Fuel Supplier to supply fuel to the Project Enterprise on the nominated date with the proviso that neither Party will be in breach of their obligations to supply or take the fuel if the fuel is supplied or taken within 7 days of that date. Fuel not supplied constitutes shortfall; • Right of the Project Enterprise to reject fuel that falls short of minimum quality specification, with rejected fuel constituting shortfall; • the Fuel Supplier having liability to the Project Enterprise for any shortfall, payable as liquidated damages by reference to capacity charge under the PPA unless an event of shortfall continues for more than a certain number of days, in which case the shortfall shall be treated as an event of governmental force majeure under the PPA (unless the Fuel Supplier is not Vietcomin, Petrovietnam or another GOV controlled Fuel Supplier); • An option allowing the Project Enterprise to purchase its fuel from others with the prior agreement of the Offtake Authority in the event of the Fuel Supplier default or force majeure; • A requirement that the Project Enterprise provides a connection point at which title passes to receive fuel from the Fuel Supplier’s connecting facility, at the boundary of the Project Site48; • A requirement that the Project Enterprise provides fuel storage facilities for at least a certain tonnage of fuel, being equivalent to approximately an agreed number of days49 continuous operation at full load, and maintains no less than a certain tonnage of fuel at site at all times; • A requirement that the Project Enterprise gives advance notification to the Fuel Supplier of its fuel requirements and a firm notice of [3] months and [4] weeks for its fuel requirements in any month and any week respectively, subject to the Project Enterprise’s right to revise its nomination at any time up to [45] days prior to such a week; • An obligation of the Project Enterprise to pay liquidated damages in the event that it fails to take fuel; • A right of the Fuel Supplier to interrupt the supply of fuel in the case of payment default, physical force majeure and hazardous operations by the Project Enterprise; • Liquidated damages being payable by the Fuel Supplier to the Project Enterprise if by reason of the Fuel Supplier default the Facility does not achieve a commercial operation date on or before their corresponding scheduled commercial operation dates, as adjusted for permitted extensions of time. 48 Connecting flange from the pipeline in the case of gas supply and coal handling delivery point in the case of coal. 49 Such period also being accepted practice for privately financed projects that often have larger storage facilities at the insistence of lenders. 6-11 The World Bank / PPIAF / MOIT 6/20/2009 6. Model Project Agreements 6.4.1 Gas Supply Issues Security of gas supply will concern investors of gas-fired generation BOT projects. There is much interest in the gas supply for the O Mon complex, which is expected to receive gas from Block B in the Malay-Thochu basin. The O Mon complex is to be developed in four phases, three of which as EVN projects and O Mon 2 as a BOT. O Mon 1 and 3 are expected to be online before gas is available and will be fired on fuel oil until gas supply is established in 2010. O Mon 2 is less likely to bear this uncertainty as it is to be financed commercially. For O Mon 2 and other gas fired BOT projects it is possible to shift the fuel supply risk to the power purchaser through PPA force majeure provisions or entering into an energy conversion agreements. More pragmatically, gas interruption risk could also be dealt with by requiring that certain Combined Cycle Gas Turbine (CCGT) plants have a duel firing capability, although there are cost implications associated with this optionality. Uncertainty about gas supply in Vietnam means that dual-fuel operation of certain CCGT based BOT plant is worth considering. Duel fuel capability brings the benefits of optionality but this needs to be traded off against the extra capital costs associated with a duel fired plant. CCGT plant can burn natural gas, fuel oil, synthesis gas or other fuels. Plant needs to be designed so that it can be fired on the lowest specification of fuel to be used. For example, a diesel / gas-fired duel fuel facility would be designed to burn diesel and should inherently be able to run gas. The cost of a diesel / gas facility would be more expensive that a gas-fired combined cycle facility, but the increased cost lies more in the fuel cost should diesel be needed and is more subject to fuel price volatility. That volatility is driven by crude prices, whereas contracted gas volumes could have an agreed price per unit energy, though gas prices could also be indexed to other international petroleum prices as in Singapore. An alternative to duel firing on fuel oil could be development of a coal-based syngas operation. Under this arrangement, coal can be crushed into slurry and pumped with oxygen into a gasifier. The attractions of this alternative are that Vietnam does have substantial coal reserves, although these are in the North of the country while gas is found in the South. Basing CCGT plant in the South near to its primary fuel is logical, but the cost of developing the coal distribution infrastructure to plant that might not use coal in sufficient quantities might be prohibitively expensive. These issues need to be considered as part of a full cost-benefit analysis. More important than shifting risk is the management of that risk. Chevron is the operator of the Malay-Thochu basin, but agreement has not yet been reached with Petrovietnam and the GOV on issues such as pricing, the volume of gas to be delivered, pipeline ownership structure and other matters. The Asian Development Bank is providing technical assistance to the GOV on the development of a 381 km pipeline on a public- private basis. If Petrovietnam is to be the gas supplier for gas-fired thermal generation BOT projects, it should bear the consequences for its failure to supply. That failure should be moneterized so that the project enterprise’s losses are covered. Petrovietnam should enter into countervailing agreements with its suppliers so that it is compensated for gas interruptions. If Petrovietnam is obliged to make a payment to a project enterprise and fails to do so, that failure should be a governmental force majeure event under the PPA, 6-12 The World Bank / PPIAF / MOIT 6/20/2009 6. Model Project Agreements requiring a payment from the power purchaser to the project enterprise. Petrovietnam should indemnify the power purchaser. 6.4.2 Coal Supply Issues If Vinacomin is to be the sole supplier of coal, clarity is needed on how coal will be priced. Imported coal is more expensive then domestic coal because it is not subsidized. It is possible that EVN will negotiate energy payments based on domestic prices, which would be financially unsustainable for projects that rely on imported coal. Coal pricing will also have an impact on the merit order dispatch for domestic IPPs which appear to be cheaper on short-run marginal cost basis. The externalities of coal consumption need to be considered in pricing too. Pricing can be established in the PPA using coal price and transportation indices. 6.5 MARKET INTEGRATION WITHIN THE TENDER FRAMEWORK The Framework can incorporate the market integration mechanism through the nature of the PPA and through the tendering and tender evaluation processes as follows: • The PPA will be formulated as a traditional PPA that converts to a CfD collar upon an event-based trigger, e.g. one year after the start of the WCM. • The PPA could be structured so that either the conversion occurs purely upon achievement of the trigger event, or that once the trigger event occurs conversion is at the discretion of the BOT Counterparty. This might be advantageous to the BOT Counterparty if the market is particularly tight when the trigger occurs and the BOT has stipulated little or no fixed cost at risk. • The CfD volume will be specified by MOIT at the time of bidding based on its own analysis of the expected dispatch of the BOT. It may be advantageous to establish a volume somewhat below expected dispatch, since it appears that lower-than-expected dispatch provides better protection across both slack and tight capacity markets, as discussed in Chapter 3. • Bids will be evaluated at least in part on the basis of a levelized price to be calculated using assumptions and formulas explicitly stated in the bid documents. • Key assumptions to be specified for evaluation purposes only include: The discount rate for calculating the levelized price The commercial operation date and the date at which the collar CfD comes into effect. Plant capacity factor prior to conversion to the CfD • Other parameters that would be binding upon bidders include: The CfD volume 6-13 The World Bank / PPIAF / MOIT 6/20/2009 6. Model Project Agreements The volume will be top-loaded. The volume available for any dispatch period will be determined as (plant capacity x availability) over the duration of the period. That amount will be allocated to the period corresponding to the most expensive period in the previous year, then to the next most expensive period and so forth until the total contract volume is exhausted50. The volume will be reallocated in this way every subsequent year. The indexing formulae for floor and cap prices, including the cap price multiplier. The formulae by which floor and cap prices are initially set based on the PPA fixed and variable payments plus the bidder’s specification of the portion of fixed costs it is willing to put at risk for calculation of the floor price. • At the time of bidding, the bidder can elect to forego CfD coverage when the trigger event occurs and simply go to merchant operation. This would be an irrevocable election, as it would be part of the bid evaluation. • If the bidder seeks CfD coverage, it must be for the specified volume, and the bidder will specify the percentage of PPA fixed costs that should be used to calculate the floor price. (If the bidder wants 100% of fixed costs to be covered by the CfD, then the collar reverts to a two-way CfD). • The evaluated price, P , is a levelized price calculated as follows: T N 1 1 ∑ (1 + d ) i ( FCi + VCi ) + ∑ (V • FPi ) i =T +1(1 + d ) i P= i =1 N 1 ∑ (1 + d )i Ei i =1 Where T = the last year of the traditional PPA d = the discount rate FCi = fixed costs in year i VCi = variable costs in year i, a function of heat rate, variable O&M, assumed fuel costs, etc. N = the BOT lifetime V = the CfD volume FPi = the collar floor price in year i, which is a function of the portion of FCi the bidder seeks to protect and VCi Ei = the energy produced in year i at the busbar Calculating the evaluated price in this manner rewards bidders who elect to forego CfD coverage entirely, or otherwise minimize fixed cost recovery in the collar floor price. Arguably, a tender conducted in this manner can never result in stranded costs, since the 50 Alternatively, a similar allocation could be done instead by load. Prices are often much more volatile than load, sometimes behaving randomly. If load were used, hydro contribution could be netted out to most accurately identify when thermal generation was in greatest demand. 6-14 The World Bank / PPIAF / MOIT 6/20/2009 6. Model Project Agreements arrangements are themselves the outcome of a competitive process that allows bidders to elect merchant operation. 6-15 The World Bank / PPIAF / MOIT 6/20/2009 7. RISK MANAGEMENT 7.1 RISK OVERVIEW The generally accepted principal of risk allocation is that risks should be allocated to the party that is best able to control the risk or influence its outcome. It is necessary that risks are identified, quantified, mitigated and allocated so that no individual risk threatens the development, construction or operation of the project or prevents the generation of sufficient revenue for Operations and Maintenance (O&M), debt servicing and return on equity. Lenders to a project enterprise will be the more risk averse and seek to pass on most of the risks to the project enterprise’s shareholders, who in turn will seek to mitigate through contractual provisions, guarantees, and insurance, but will of necessity carry the residual risk. The impact of risks on the GOV in the context of thermal generation BOT projects is separately marked out in the following risk matrices. Risks can be categorized in many different ways but the general categories of risk for a thermal generation BOT project are divided into pre-operating and operating-period risks. In terms of subject-specific categorization, the following are among the principal risks51 that are required to be addressed: • Site Risk§ • Technology Risk • Completion Risk • Construction Risk • Operating Risk • Fuel Supply Risk+ • Market Risk/Off take/Dispatch Risk+ • Payment Risk+ • Regulatory Risk+ • Environmental and Social Risks§ • Force Majeure Risk – Government Liability+ • Legal Risk Completion Risk is perhaps the single most important risk faced by the project enterprise. This is the risk associated with failure to complete the project at all; construction delay and/or cost overruns; failure of the plant to perform to technical specifications resulting in shortfalls in contracted capacity, output and efficiency, shortfall in expected resources, force majeure related delays, supervening illegality, and similar events. The primary protection against most of these events is usually for the project enterprise to have a fixed cost, fixed time turnkey engineering, procurement and construction contract (EPC Contract). 51 Those risks identified with a plus (+) indicate risks that, depending on the exact nature of the industry and market, are influenced by governments, while risks identified with a section sign (§) are risks that could lie with the developer and/or the government. 7-1 The World Bank / PPIAF / MOIT 6/20/2009 7. Risk Management Further mitigation measures would include performance bonds and/or guarantees from third parties covering the performance of the EPC contractor, project enterprise shareholders’ support packages, adequate levels of commercial and political risk insurance and adequate liquidated damage provisions in the project agreements. Market and operating risks include a decrease in demand for electrical capacity and energy, fuel shortages, forced outages and reduced performance due to technical problems, economic risks such as inflation, management inefficiencies and similar risks affecting the project after completion and attainment of commercial operation. These are usually addressed through long term supply and off-take contracts on a take or pay basis. The project enterprise can also reduce some commercial operational risks through efficient operation and a strong O&M program, usually by contracting a competent operator. Regarding technology risks, such as obsolescence or the risks incident upon using licensed technology, the project enterprise may require a performance guarantee from the technology owner or licensor. Financial risk such as the Offtake Authority’s creditworthiness, variability of currency exchange rates, foreign currency availability and inadequate retail tariffs can be addressed by a combination of guarantees, credit enhancement, treasury instruments (subject to their availability as to volume and tenor), suitable tariff indexation and limited pass-through mechanisms in PPAs. Political risk can include several different kinds of risks including regulatory risk (changes in law, particularly relating to taxation, customs, foreign exchange, ownership and environment), expropriation/confiscation/nationalization, delay or unavailability of governmental consents, acts of the State such as war, devaluation of currency and similar risks. Change of law provisions are common in project agreements, particularly any project contract entered into with a host government. Also common are undertakings from the government that licenses and permits will be granted in a timely manner, the tax and customs regime will be fixed and settled for the duration of the project, with all necessary exemptions and waivers in place. Third party risk mitigation instruments are also commonplace in sub-investment grade countries. Legal risk may be defined as the inability to enforce security arrangements, absence of adequate intellectual property protection, inability or difficulty in enforcing foreign judgments, absence of a choice of law, lack of acceptable arbitration arrangements and others. Mitigation measures for these risks may not be readily available (other than denial of justice cover). Consequently, contractual risk allocation becomes critical, particularly from the viewpoint of lenders’ and project investors’. The project enterprise’s finance agreements are usually referred to as credit agreements. Irrespective of the law governing the project agreements, credit agreements are almost invariably governed by widely recognized legal systems. The choice of law is usually the laws of England or the State of New York to provide comfort to lenders. Contracts will contain undertakings from the government and its agencies to abide by the rulings of courts and arbitral tribunals and for the waiver of some procedural rights, as well as rights to contest awards. Regarding the enforcement of foreign judgments in Vietnam, the country is a signatory to the 1958 New York Convention, having ratified the convention on 12 September 1995. 7-2 The World Bank / PPIAF / MOIT 6/20/2009 7. Risk Management Vietnam’s ratification is not unconditional however and the following two reservations apply: 1. Awards will be recognized and enforced only if made in the territory of another Contracting State 2. The Convention applies only to differences arising out of legal relationships, whether contractual or not, which are considered as commercial under the national law of the state making such declaration. Environmental and social concerns, the latter particularly in the context of land acquisition and resettlement of displaced persons, are receiving increased attention. Multilateral financing sources require detailed safeguard measures as a condition of providing funds or credit enhancement; host country legal requirements, if not complied with, may give rise to litigation, public interest challenges, penalties and fines, and at the extreme, cancellation or closure of the project. Host governments and lenders now require environmental impact assessments (EIA) and resettlement action plans (RAP) to be prepared to their standards, and a costed plan for mitigation of the measures identified in the EIA and RAP, with the costs to be absorbed by the project enterprise. Force majeure risk may be mitigated by excusing the affected party from contract performance during the period of force majeure event. In extreme cases, if the force majeure event makes further performance of the project impossible, termination rights without prejudice to the parties need to be spelt out in the project agreements. Nonetheless, there may be an adverse financial impact on one or other parties, which may be capable of mitigation by insurance. For force majeure events that impede a project’s operation for a limited period of time, will usually be provided by contract that the project enterprise will be entitled to receive its capacity payment from the Offtake Authority. This is described in more detail in Section 6.2.2c. The risk matrices below analyze some of the common risks, and highlight the implications of these risks and the mitigation measures for the GOV. 7-3 The World Bank / PPIAF / MOIT 6/20/2009 7. Risk Management 7.2 PRE-OPERATING RISKS RISK MANAGEMENT IMPLICATION FOR GOVERNMENT OF VIETNAM TYPE OF RISK EVENT MECHANISM (GOV) • Regulatory • Change-in-law and • Liability for losses due to regulatory changes Sovereign / Changes Extension of Time • Possible extension of commercial operation Political (Change in Law) clauses in Project date and Project Contract term Contract, PPA, EPC • Possible commencement of capacity payments Contract to Project enterprise. (Also applicable for Operation Phase ) • Government guarantee • Liability for claims under guarantee, structured in accordance with Section 6.2.2e • Further support for GOV • Most likely that instruments provided by public through provision of risk bodies that require GOV counter-guarantee mitigation instruments. • Expropriation, • GOV guarantee • GOV liable under guarantee for compensating Frustration, investor’s losses Nationalization or Cancellation • Further support for GOV • Most likely that instruments provided by public of Concession through provision of risk bodies that require GOV counter-guarantee mitigation instruments. • Default, termination and • GOV contractually liable for compensating disposal of assets investor’s losses (e.g. buy-out) clauses in GOV Project Agreements • Inadequate • Transparent, • Recognition of international arbitration for GOV Contract independent dispute Project Agreements and enforcement under the Enforcement resolution procedures New York Convention • Sound legal, regulatory & • Framework development to increase investor institutional framework confidence • Economic • Foreign exchange • No direct impact Problems adjustment formulas in • Foreign currency adjustments may affect (e.g. high EPC Contract central bank and macroeconomy indirectly. inflation, • Higher EPC Contract reduces profitability of currency Project Enterprise hence less tax receipts. realignments) • Hedging of EPC costs • No effect. with financial instruments • Ensure adequacy of • Framework deficiencies to be remedied to macroeconomic reduce investor risk and encourage lower prices framework and fundamentals • Maximize local • No effect, other than indirect economic benefits contribution in and need to enforce the project enterprise’s construction work compliance with its local content obligations • Non payment by • GOV guarantee • GOV liable under guarantee for compensating Government • Further support for GOV investor’s losses counterparty through provision of risk • Most likely that instruments provided by public (e.g. under Fuel mitigation instruments bodies that require GOV counter-guarantee Supply Agreement or PPA) • Other • Leads to a payment • As above. Governmental obligation under the PPA, Force Majeure supported by GOV Risks eg delay guarantee or denial of permits 7-4 The World Bank / PPIAF / MOIT 6/20/2009 7. Risk Management RISK MANAGEMENT IMPLICATION FOR GOVERNMENT OF VIETNAM TYPE OF RISK EVENT MECHANISM (GOV) • Natural Force • Force Majeure clauses in • GOV’s contractual obligations suspended for Completion Risk Majeure (e.g. Project Contract, PPA, period of force majeure event major flood, EPC Contract and O&M • Terminate if event is major. See further details earthquake, fire) agreements including in Section 6.2.2c provision for extension of time; transfer risk of physical damage to EPC contractor and if appropriate, under FSA. • Insure against insurable • No effect natural Force Majeure events • Unforeseen • Thorough site • If GOV is responsible, it must bear high front- Conditions investigations and project end cost of investigations and studies feasibility studies • Arrange stand-by • No effect finance, emergency equity and/or insurance • Transfer risk to EPC • Indemnified against unforeseen conditions contractors through fixed price & fixed date contracts with liquidated damages • Transfer risk to Offtake • Indemnified against unforeseen conditions Authority through PPA tariff adjustment and extension of time clauses in PPA • Transfer risk to GOV • GOV tax or royalty receipts reduced if unfore- through adjustments in seen conditions encountered taxes or incentive package for higher EPC Contract costs • Cost and Time • Contractual remedies: • Indemnified from late completion by liquidated Overrun on EPC damages in PPA Contract - Fixed price/date EPC Contract - Back-to-back liquidated damages in project agreements • Contingency finance • No effect measures: - emergency equity - stand-by finance • Environmental • Good quality EIA, • If GOV responsible for reports, high front-end and Social Resettlement Action outlays. Impacts Plans and Management • Better understanding of environmental and Plans resettlement impacts/risks • Environmental and • No effect resettlement obligations and constraints specified in Project Agreements • Necessary approvals • Resettlement costs to be borne, unless obtained for resettlement reimbursed by the Project Enterprise. Possible action plan. If possible, extension of completion period. contractual requirement for government to hand over lands clear of all encumbrances. • Necessary environmental • Possible extension of commercial operation clearance obtained. date and Project Contract term, GOV liable to provide clearance within specified time. 7-5 The World Bank / PPIAF / MOIT 6/20/2009 7. Risk Management RISK MANAGEMENT IMPLICATION FOR GOVERNMENT OF VIETNAM TYPE OF RISK EVENT MECHANISM (GOV) • Performance of • Warranties and • Indemnified from late completion by liquidated Plant and performance damages in damages in Project Agreements. Equipment Project Agreements – • Termination of Project Contract Project Enterprise to • No financial effect, but impact on pass on to EPC masterplanning, need for new capacity Contractor through increments and impact on merit dispatch Turnkey Contract order. • Inadequate • Standby finance. Project • Support for Offtake Authority’s obligations supply of fuel for Enterprise may need to requires discussion. testing. buy fuel from elsewhere if possible. • Fuel Supplier pays penalties + quality price adjustments equal to Project Enterprise’s extra cost including any penalties payable under the PPA. • Fuel Supplier’s failure to pay becomes a GOV force majeure event under the PPA. • Project Enterprise relieved of its PPA’s obligation while GOV force majeure event continues. 7-6 The World Bank / PPIAF / MOIT 6/20/2009 7. Risk Management 7.3 OPERATING PERIOD RISKS RISK MANAGEMENT TYPE OF RISK EVENT IMPLICATION FOR GOVERNMENT MECHANISM • Increase in fuel • Long term FSA entered • Wholesale power prices increase, possible Fuel Related prices above into by Project Enterprise above price thresholds set under the Risks original with fuel supplier. Fuel Electricity Law, which would need to be estimates. price escalates in line waived. with preset indices, but so does fuel price component of Energy Payment. • Fuel Supplier • Consideration given to • As above fails to deliver net benefits of dual-fuel fuel capability during RFP development and setting the minimum technical specification • Additional fuel • None unless there is • None required owing some provision from to heat rate liquidated damages degradation payable by the Operator exceeding or perhaps EPC original estimates. • Additional fuel • Fuel Supplier pays • Support for Offtake Authority’s obligations required owing penalties + quality price requires discussion to failure of fuel adjustments equal to to meet calorific Project Enterprise’s extra value cost (including any specification. penalties payable under the PPA) or lost revenue. • Fuel Supplier’s failure to pay becomes a GOV force majeure event under the PPA. • Project Enterprise relieved of its PPA’s obligation while GOV force majeure event continues. • Transport and • Risk passed on to fuel • None Delivery of Fuel supplier in the FSA. • Fuel availability • Risk passed on to fuel • Government guarantee of fuel supplier’s risk supplier in FSA. obligations under FSA and Offtake Authority • Standby finance, as obligation under PPA. Project Enterprise may need to buy fuel from elsewhere. • Natural Force • Natural Force Majeure • GOV’s contractual obligations suspended for Operating Majeure (major clauses in Project period of Force Majeure event Risk flood, earthquake, Contract, PPA, Fuel • Terminate if event is major in accordance fire, etc.) Supply and O&M with Section 6.2.2c agreements. 7-7 The World Bank / PPIAF / MOIT 6/20/2009 7. Risk Management RISK MANAGEMENT TYPE OF RISK EVENT IMPLICATION FOR GOVERNMENT MECHANISM • Insure against insurable • No effect natural Force Majeure events • Interruptions due • • 52 Employ an experienced No effect to O&M and reputable O&M Contractor default operator • Liquidated damages • No effect remedies • Lenders step-in–rights in • No effect chronic cases • Include design • No effect safeguards to reduce plant and transmission line outages • O&M agreement to • No effect specify high maintenance standards and clear penalties and bonuses. • Insure against O&M • No effect contractor default • Reduced • Two-part tariff structure • Higher electricity prices may involve political Market Risk Demand to secure fixed costs repercussions such as debt service. • Conflict over • A well structured grid • No effect dispatch code to control system operation and dispatch • Assurance of • Structure project and • No effect Commercial Risk adequate debt financing plan to achieve service coverage acceptable debt service coverage ratios • Maintenance of debt • No effect service reserve accounts or standby letters of credit • Insolvency of • Default, termination and • Termination of Project Contract and PPA Project Co disposal of assets • Consequences of having to either find clauses in Project alternative capacity and energy or demand Agreements side management • Mechanisms for smooth ownership transition, e.g. through sale or buy-out • Lenders’ Step-in Rights • GOV’s interests served by lender intervention in maintaining project operation • GOV’s own step-in rights may need to be sub-ordinate to lender rights in a direct agreement • Collateral Arrangements • Government may novate O&M Agreement to nominee • Inability of Offtake • Sell to creditworthy • Ensure conducive commercial and regulatory Authority to make Offtake Authority environment. payment • Allow economic tariff-setting that recovers full costs of production • GOV guarantee of • Required to indemnify Project Enterprise. Offtake Authority against Offtake Authority payment default in payment obligations accordance with Government Guarantee as described in Section 6.2.2e 52 “No effect� here refers to the absence of any financial or other obligation. If plant fails to operate, there will of course be the effect of non-availability of power; financial mitigation in the form of liquidated or other damages may not fully compensate for broader economic impact. 7-8 The World Bank / PPIAF / MOIT 6/20/2009 7. Risk Management RISK MANAGEMENT TYPE OF RISK EVENT IMPLICATION FOR GOVERNMENT MECHANISM • Risk mitigation • GOV is liable under any counter-guarantee instruments to secure project enterprise’s debt service obligations • Availability of • Analysis of economic • No effect. Foreign Exchange foreign exchange indicators including ability Rate & for foreign debt to generate foreign Convertibility Risk service and exchange to match repatriation of payment obligations. profits • GOV’s guarantee of • Required to indemnify Project Enterprise. • Availability of currency convertibility against Offtake Authority payment default in foreign exchange and foreign exchange accordance with Government Guarantee as for foreign debt availability. described in Section 6.2.2e service and • Risk mitigation • GOV is liable under any counter-guarantee repatriation of instruments to secure profits Project Enterprise’s debt service obligations • Maximize local • No effect, other than indirect economic contribution in benefits and need to enforce the Project construction work Enterprise’s compliance with its local content obligations • Provide incentives in • GOV to ensure availability of foreign RFP for bidders to exchange for PPA payments develop financing plans • Careful planning of foreign exchange risk that match currencies of management is required during project construction feasibility study and RFP development. expenditures to • Encouragement of local capital market currencies of finance and development to provide treasury instruments to the extent unmatched. • Provide incentives for Project Enterprise to refinance after completion, maximising local currency financing where cost effective and possibly providing for equitable adjustment to capacity payments. • To the extent that the above measures cannot be employed, match PPA payment currencies to financing package • Environmental • EIA, Environmental • If GOV does studies: high front-end outlays. Environmental impact on river Monitoring Plan and • Environmental management and monitoring and Social Risks and surrounding Environmental Manage- environment ment Plan to development agency standards (Safeguards) • Negative media • Implementation of project • Management of environmental and social and NGO to development agency programs coverage standards • Lightning strikes • Protection design • No effect Transmission • Liquidated damages for • No effect Line Security interruptions • Operation and • A well structured grid • No effect Maintenance of code to control system Line interconnection, operation and dispatch 7-9 The World Bank / PPIAF / MOIT 6/20/2009 APPENDIX A: POWER MARKET IMPLEMENTATION OVERVIEW A.1 THE ROADMAP The Law on Electricity, No. 28-2004-QH11, provides the legal foundation for the introduction of a power market in Vietnam. The implementation of that market is defined by The Roadmap for the Establishment and Development of the Power Market in Vietnam (Decision of the Prime Minister No. 26/2006/QD-TTg) dated January 26, 2006, which states that the competitive market will be developed in three phases. Specifically, the Roadmap stipulates the following stages: • Step 1 – Phase 1: Pilot market within EVN (2005 - 2008) • Step 2 – Phase 1: Completed competitive generation power market (CGM) (2009 – 2014)53 • Step 1 – Phase 2: Pilot Competitive Wholesale Power Market (WCM) (2015 – 2016) • Step 2 – Phase 2: Completed Competitive Wholesale Market (WCM) (2016 - 2022) • Step 1 – Phase 3: Pilot Competitive Retail Market (FRC) (2022-2024) • Step 2 – Phase 3: Complete Competitive Retail Market (2024) Each phase is discussed in turn below. A.2 THE COMPETITIVE GENERATION MARKET (CGM) A.2.1 Description Step 1- Phase 1: Pilot competitive generation power market (from 2005 to 2008). • Organize the competitive generation market among the generators owned by EVN to test the competition in generation following the single buyer model. The generators, transmission companies and distribution companies owned by EVN will be re-organized into the business independent accounting companies. • The Independent Power Plants (IPPs) which are not owned by EVN will keep selling to EVN following the signed long term power purchase agreement (PPA). • At the end of the pilot step, the big generators with an important role in the power system currently owned by EVN should be re-organized into independent generators as independent state owned companies; the remaining generators should be changed into independent generators as joint-stock companies to prepare for the complete competitive generation market. • The Ministry of Industry & Trade is to issue the rules to regulate the market activities as well as to provide instruction to implement these rules. 53 ERAV has indicated that the introduction of the CGM is now expected to occur in 2010. A-1 The World Bank / PPIAF / MOIT 6/20/2009 A: Power Market Implementation Overview Step 2 - Phase 1: Completed competitive generation power market (from 2009 to 2014). • Migrate to the completed competitive generation market once the preconditions required for this step are met. • IPPs are now allowed to bid to begin the completed competitive generation market (following the single buyer model); the generators will sell into the market through the CGM PPAs and bid into the spot market, with bids bounded by the floors and caps defined by ERAV for each generator. A.2.2 Preconditions for the CGM The Roadmap Decision has the following preconditions (among others) for the CGM: a. FOR THE PILOT MARKET: Organization structure • The generators owned by EVN are separated into the independent accounting units; • The market operator and the single buyer entity are established under EVN. b. FOR THE COMPLETED COMPETITIVE GENERATION MARKET: Organization structure The generators owned by EVN are separated into independent generators (i.e. without sharing economic benefits with the single buyer, Transmission Company and the market operator) as state-owned enterprises or joint stock companies. The total installed capacity should not be higher than 25% of the system installed capacity; Legislative and regulatory foundation • The power sector restructuring proposal has been approved by the Prime Minister; • The completed competitive generation market design proposal has been approved by Ministry of Industry & Trade; • The rules and regulations for the power market have been added, modified or newly established to be suitable with the completed competitive generation market structure; • Ministry of Industry & Trade has issued the rules and regulations for operation of the competitive market, including: Grid codes; Regulations on supervision procedures of the project implementation in the list of the planned projects; Regulation on the issuing, modifying and addition procedures as well as supervision of the power activities license implementation procedures; Regulations on the procedures and orders to select the investors to develop new generation project under the least cost resource planning; Regulations on registering to enter the competitive generation market; Regulations on monopoly control and anti-competition in the power market; Regulations on dealing with the breach, disputes, complaints in the power market; A-2 The World Bank / PPIAF / MOIT 6/20/2009 A: Power Market Implementation Overview • ERAV has issued the rules and regulations on the establishment, procedures for establishing, evaluation and approval of the retail tariff, generation tariff frame, wholesale tariff frame, transmission fee, distribution fee, market operation fee, regulation fee, ancillary service fee and other related fee; regulations on the PPA template; Regulations on supervision of the trading activities in the power market, review the implementation of the tariff, tariff frame and types of defined fees; • ERAV has issue the rules and regulations on dealing with the stranded cost of the long term PPAs when the IPPs enter the market; Electricity system infrastructure • The SCADA/EMS and the remote metering system have been established completely for the generators in the power system to meet the activities of the completed competitive generation market; • The information systems used for market management and operation have been installed properly; • The equipment used to supervise the market transactions at ERAV has been completely installed; • The reserve margin for generation capacity should be higher than 20% of the system installed capacity; • The installed capacity of a generating company should not be higher than 25% of the system installed capacity. Capability of the stakeholders The independent generators should be staffed with capable and qualified personnel to meet the activities of the competitive generation market. A.2.3 Expected CGM Market Design The proposed CGM market design has evolved substantially since the inception of this assignment. As of writing the established broad parameters of this market are: Industry structure and organizations • The industry is dominated by EVN, the government-owned power company that controls most of the generation, the transmission system, dispatch and the distribution of power to PCs. The Roadmap requires that these functions be unbundled into several independent entities. This is in order to remove concerns of market power and conflict of interest. We understand this is occurring and assume it will be completed by 2010, the new target date for CGM introduction. • There will be a Single Buyer (SB) that will contract for new capacity and off-take from the spot market. The Roadmap suggests this entity will be formed from within EVN. • There is counterparty to the PPA who possibly may not be the SB (though this report recommends that BOT Counterparty should be the SB). A-3 The World Bank / PPIAF / MOIT 6/20/2009 A: Power Market Implementation Overview • There are both Independent Power Producers (IPPs) as well as Build – Operate – Transfer (BOTs) generators. Market structure • There will be an hourly spot market. The spot market is a mandatory “gross pool�. This means that all power will be dispatched through the spot market. Dispatch priority will be determined by the offers of generators into the spot market. Any generator seeking priority dispatch must offer to the market accordingly. • The market will be a “cost-based� pool. This means that all offers into the pool will be regulated by a predetermined measure of a generator’s cost. The Roadmap says that there will be two components of each generator – presumably an upper and lower bound. • The spot market price will be determined as the cost of the marginal MW of generation as offered into the pool. Most probably it will be the “shadow price� of the system balancing equation. • There will probably be a market capacity payment for available capacity, or an alternative mechanism to ensure merchant plant is viable. • Vietnam is considering following the lead of the Philippines in having a “gross pool / net settlement� market where participants pay or are paid only for the difference between their declared contract quantities and their spot market quantities. The arrangement they have for the declared quantities are commercially confidential. These arrangements may be a power purchase agreement or any of a variety of forms of CfD, which would be settled directly between the parties. In fact participants may decide not to declare their contract quantities and for them the market becomes a regular gross pool. • EVN is to soon have a new energy management system (EMS) that will handle the requirements of the market. Contracting and PPAs • The BOTs have been and will be contracted with PPAs (broadly defined; this could include contracts such as CfDs). • The PPAs with local IPPs terminate at the commencement of the CGM. They may either be replaced by new PPAs or operate in the market as merchant plant (i.e., relying solely on spot market and any bilateral contracts that they may be able to negotiate with the SB). A.2.4 Progressing from the CGM The CGM “market� has limited scope for competition under cost-based bidding. It has tightly defined limits on offers in the market to avoid market power abuse and price volatility. The resulting structure is almost the same as a regulated Short Run Marginal Cost (SRMC) merit-order dispatch. Only a small upward relaxation of the offer price limits would allow for genuine competitiveness. Although in a tight supply market relaxing the offer limits may allow for the exercise of market power, particularly if accompanied by a low level of contracting. A-4 The World Bank / PPIAF / MOIT 6/20/2009 A: Power Market Implementation Overview We anticipate that the CGM is a framework for introducing competitive behavior in future phases of the Roadmap. As such it needs to have as many elements as possible in common with the likely shape of the WCM and then the FRC. It is however unrealistic to have all the mechanisms of the WCM spot market in place in the CGM and for the WCM to commence overnight using those mechanisms as discussed further below. The ownership and rights of use of the distribution network will be an important hurdle to cross and likely to meet some resistance as competition widens beyond wholesale competition. For successful competition among retailers the distribution network(s) ought not to be owned by one of the competing retailers. The key elements for smooth progression are: • Design of the pool so that pricing restrictions can be relaxed without disruption of the market and significant impact on participant operations. • Design of current BOT contracts so that they do not require renegotiation for effective participation in the WCM, including trading arrangements that will not require these contracts to be radically altered to facilitate more open competition. Preferably this means that the shape of market trading and the market rules (as opposed to the identity of the trading parties) do not change when the WCM is introduced. • Design of Single Buyer arrangements so that there can be an easy and minimal risk transition to multiple buyers. • Establishment of the BOT Counterparty so that the arrangement can continue uninterrupted, i.e. without assignment to a new counterparty. A.3 THE WHOLESALE COMPETITIVE MARKET (WCM) A.3.1 Description The details of the WCM have not been specified. We can, however, get some guidance from the Roadmap which states: Step 1- Phase 2: Pilot WCM (from 2015 to 2016) • Operate the Pilot Competitive Wholesale power market once the preconditions required for this step are met. • Some distribution companies and large customers are selected to establish the Pilot Competitive Wholesale power market. Some new wholesalers are allowed to be established to enhance competition in the wholesale business. The current transmission companies are integrated into a single national transmission company under EVN; the distribution companies, system operators and market operators remain managed by EVN. Step 2 – Phase 2: Completed WCM (from 2017 to 2022) • Operate the Completed Competitive Wholesale power market once the preconditions required for this step are met. • The distribution companies owned by EVN are allowed to change into the independent companies (SOEs or joint stock companies) to directly purchase A-5 The World Bank / PPIAF / MOIT 6/20/2009 A: Power Market Implementation Overview from the generators and conversely, the generators also compete to sell to these companies. The wholesalers also compete to sell to the distribution companies and large customers. A.3.2 Expected WCM Market Design The anticipated broad parameters of the WCM are: Industry structure and organizations • The industry will have no dominant generator. Each generating company will have less than 25% of total capacity as required by the PM Decision 26/2006/OD-TTg. In addition, there will be a sufficient number and size of IPPs and BOTs operating in the market to minimize market power potential. (It is questionable, however, when a 20% capacity margin can be achieved.) • The transmission ownership, system operator and market operator will be fully independent of generation. • The Single Buyer for power from the wholesale market will be replaced by large consumers, aggregators (for small utilities) and retailers as buyers from the market. SB may continue in one of these roles (as recommended in this report). • It is likely that generators will begin to buy out retailers to create several large vertically integrated power companies. Market structure • There will be a mandatory gross pool spot market possibly clearing each 5 minutes. The market would have much wider bid limitations than the CGM, indeed at most having a market price cap. • The spot market price may have locational marginal prices for generators and a uniform regional price for buyers (as with Singapore). Almost certainly it will be derived from the “shadow price� of the system balance equation. • If a capacity payment is still required it would be preferable to have arrangements from the CGM continue without major modification54. Otherwise it may be desirable to use a “commodity-based� mechanism like ICAP/ACAP. This can be combined with the new build contracting. Although it is also possible to use a mechanism whereby contracts cover the capacity component of the price and make a separate component redundant. There is a variant of ICAP that uses only contracts. • The SB will be replaced by large consumer and retailers. These will be part of the settlement system and will buy directly from the wholesale market. There may be limited demand-side bidding but it is doubtful that it will be significant. Interruptible load may become a major source of spinning reserve. 54 If the bid caps are loosened the spot price may go beyond the LRMC of a Best New Entrant CCGT. In this case the Market Rules will have to decide whether to cap the price at this LRMC value. A-6 The World Bank / PPIAF / MOIT 6/20/2009 A: Power Market Implementation Overview Contracting and PPAs • Contracting for new build will continue with the SB or counterpart remaining in place. With the introduction of wholesalers on the buy-side the SB would likely have too much contract volume. It will probably wish to on-sell contracts or even negotiate on behalf of wholesale buyers. This process may combine capacity assurance to form capacity payments mechanisms. • Traditional PPAs may form the base long-term contracts. Almost inevitably, in other country’s experience, they will be supplemented by new short-term contracts for differences with most new contracts negotiated bilaterally. It is likely that generalized contracts will be formed that can be traded between participants. A.3.3 Progressing from WCM The WCM represents the current state of maturity of many of the world’s wholesale power markets. There will be challenges to the market. The almost universal challenges that need to be addressed are: • Ensuring sufficient capacity to cover load plus reserve capacity • Facing price volatility • Promoting demand-side participation. • Ensuring appropriate contract structures • Designing a market that is tailored to the country while being in essence an accepted and understood design • Ensuring appropriate capacity payments and pricing Capacity assurance Building enough new capacity will be a challenge despite the detail of and commitment to the Master Plan. We know of no market regulator that is unconcerned by this challenge. It may not be because the tendering for new capacity has failed but because of inevitable time delays in negotiating and procuring equipment. (This source of delay is already occurring and is leading to more frequent updating of the Plan.) If the anticipated demand growth is realized in all developing countries there may be a shortage of machinery; thus increasing project lead time and increasing the cost of building. Price Volatility If there is a capacity short-fall, and if fuel prices keep increasing, there will be pressure from the market to see high prices at times of peak demand, especially to justify the cost of peaking plant. There will be opposing pressure from consumers and politicians to “rein the market in�. It is important to set up the market so that its structure and outcomes are entirely defensible to all sides under pressure. Otherwise the pressure may lead to “knee-jerk� changes that only make things worse. In addition, the international investment community A-7 The World Bank / PPIAF / MOIT 6/20/2009 A: Power Market Implementation Overview may be uncertain about the safety of its investment and be frightened off investing by what appears to be a capricious regulator and an unfriendly government. Although regulators, consumers and politicians do not like price volatility, it appears to be a feature of electricity markets driven by the requirement to meet instantaneously uncertain demand with uncertain supply (if we take account of forced outages) in real time. What many people forget in this situation is that the contracts held by market participants are there to manage such risks and stabilize the actual price (say 90% contract and 10% spot) for most of the power produced and sold. Contract structures In answer to the need for contractual risk management the market will seek to be covered by contract. While some of these may be residual PPAs, more likely the call will be for a portfolio of contracts that enables it to manage long-term through to short-term risk – managing quantity risks as well as price risks. IPPs/BOTs that are trading in the market may find the old PPAs too restrictive – in the market environment the greater flexibility of CfD (contracts for differences) are preferable. We discuss this in Chapter 2. Demand side participation Markets in commodities normally clear by the active interaction of both the supply side and the demand-side. Many electricity markets currently see little or no participation by the demand-side. It will probably not occur until metering and real-time price/usage feed-back technology becomes cheap and accessible. Since we are looking out to 2022 – 15 years away – this technology will be widely available by them – it is already available but is too expensive for its benefits. Two forms of demand-side interaction are possible • Demand bidding into the wholesale market to give a genuine role for the demand side in the clearing of the market. Currently most pool markets clear in real-time with a vertical (inelastic) demand curve – the SO makes a demand estimates for each hour. To date demand bidding is the domain of the large user because the system operator needs to be able to verify that the demand bidder can and does cut load according to its bid. This is proactive participation in the wholesale market. • Real-time reaction to actual prices. With a given price decided ex ante by the market for the next dispatch interval (hour), a user is able, at best, to see the price it is paying and consume accordingly. As the dispatch interval get smaller – already down to 5 minutes in Australia - so demand reaction will influence the price. Most users like a known tariff – it is a risk-management device retail for customers – they are happy to have a retailer acting between them and the market - buying all the time and averaging the wholesale price over months or years. Market design Gross pool markets that are similar to that proposed for Vietnam are working well throughout the world. Inevitably there is pressure to modify the market. The primary additional functionality, besides demand participation is a co-optimised reserves/energy market in which the two products are scheduled optimally. A-8 The World Bank / PPIAF / MOIT 6/20/2009 A: Power Market Implementation Overview A more sophisticated design option is to move to a New York /PJM type market which has a day-ahead market as well as real-time market. It allows easier demand participation since demand can bid freely on equal terms with supply in the day-ahead market. The real-time market is much like any gross pool but with restricted set of plant supplying the market. Both supply and demand are able to arbitrage between the day-ahead price and the real-time price. They supplement this with a capacity market. This form of market is very complex from a system standpoint and needs well-trained market strategists in both the supply and demand sides. Capacity payments and pricing When capacity payments are introduced the rationale for the mechanism used is likely to come under close scrutiny from the market participants. If the mechanism is inequitable, inefficient or impractical generators will seek to “game� the arrangement which will force change or conflict. A similar but less difficult argument may be raised about the equity of pricing. It is interesting that markets that initially wanted a “simple� one-price pricing mechanism are moving to “locational marginal pricing�. Despite its (claimed) greater complexity it is favored because of it inherent equity and efficiency. A.4 FULL RETAIL COMPETITION (FRC) A.4.1 Description Step 1 - Phase 3: Pilot competitive retail market (from 2022 to 2024). • Operate the Pilot competitive retail market once the preconditions required for this step are met. • Some distribution network areas with appropriate size are selected to implement the pilot period. Basing on the consuming level defined by ERAV, customers are allowed to choose the power supplier for their demand (the retailers). The retailing function of the selected distribution companies will be separated from distribution network operation and management functions; the retailers will compete to sell to each customer and purchase from the wholesalers. Step 2 – Phase 3: Completed competitive retail market (from 2024) • Basing on the consuming level defined by ERAV, customers are allowed to choose the power supplier for their demand (the retailers) or directly purchase from the market. • The organizations, individuals who can meet the requirements of the power activities are allowed to establish the new retailers to compete in retailing. These retailers have the right to purchase from the generators or the market to retail to the end users. A.4.2 Changes from the WCM With the WCM in place and with a successful history of operations, the wholesale market would be left to mature with modifications to the market being part of the maturing process. No significant changes to the spot market are required to introduce retail competition. A-9 The World Bank / PPIAF / MOIT 6/20/2009 A: Power Market Implementation Overview The impact on contracts is. • The counterpart to PPAs may change to accommodate the fragmentation of buy- side institutions. Ideally contracts are between retailers and generators. There is no inherent reason against the counterpart remaining as a contract aggregator. It would then seek to write a series of CfD contracts of a shorter duration that backs the PPA. • If not already occurring: o Retailers will, if allowed, amalgamate into larger, stronger units. Many overheads do not escalate with size. So large companies can offer lower rates through economies of scale. o With retailers working on fine margins the generator/retailer is able to avoid high spot prices by ensuring they generate at least their retail volume and passing through at a transfer price that averages the spot price volatility. Both the retail and generator benefit from such a “natural hedge�. A-10 The World Bank / PPIAF / MOIT 6/20/2009 APPENDIX B: CONTRACT OPTIONS This appendix describes PPAs and CfDs, and their variants, in further detail. B.1 POWER PURCHASE AGREEMENTS B.1.1 Basic Structure As depicted in Exhibit B.1, the structure of a Power Purchase Agreement in its common and conceptually simplest form has • A fixed capacity fee for availability each hour. This payment is made to the IPP/BOT whether or not the plant is operating as long as it is available (with an allowance for maintenance down time). o Some governments like the GOV, “guarantees� payment reimbursement of the investor’s fixed costs and return on equity. It is often in an international currency and is literally government-guaranteed. o The fixed fee is usually specified per kW of available capacity per annum or per month whether the plant is or is not dispatched. o Often the PPA covers the whole plant capacity and when it does not, the assumption is that the additional capacity will be contracted out. • A variable dispatch payment that covers the variable cost of production: fuel cost and variable operations and maintenance. o A complication is the reimbursement of fuel costs because of their variability. o To overcome this, sometimes the PPA holder is not responsible for fuel. This form of PPA is called an energy conversion agreement (ECA). This variant avoids adjusting the variable payment for variations in fuels cost. Exhibit B.1: Structure of a Two-Part PPA Two part PPA Fixed Capacity Fee $/kW PPA payment Variable Dispatch Payment $/MWh B-1 The World Bank / PPIAF / MOIT 6/20/2009 B: Contract Options B.1.2 PPA Variants Alternative forms to the basic structure are: • The fixed capacity availability fee is specified per MWh. This involves a conversion of available capacity that depends on an assumed utilisation factor. So $350/kW year is $44.39 per MWh at 90% utilisation. • The capacity availability fee does not cover all of the overheads; in particular it does not cover all of the equity component. In order for this to be bankable the fee must at least cover debt financing and fixed costs. For it to be viable for the BOT there must be scope or the BOT to earn additional revenue. • The plant capacity is greater than the PPA capacity giving the BOT/IPP scope for earning additional profit from trading this capacity in the contracts market and the spot market. PPAs in this form do not sit naturally in a gross pool competitive market. This is because they were designed for a central planning paradigm rather than a market paradigm. Specific issues include the following: • The capacity fee is paid (and averaged across all production) even if the plant does not run. The operation of the plant can create perverse outcomes. An excess of generation capacity receives an excess of fixed capacity fee, which, when spread over the MWh load, results in a high energy cost/MWh. The more capacity introduced this way the more capacity fees to be covered by less load. This form of contract works best in an under-resourced market where the plant is heavily utilized. • The PPA puts all the risk on the issuing party other than the risk of payment default. Even default may be covered by a government guarantee so that this may be a low risk in a country that is looking to attract investors in the future. • There is limited incentive or obligation to seek economic efficiencies (largely confined to reducing operating costs below the variable dispatch fee, although there could be scope for driving down the items behind fixed fee). A generous variable operating fee –perhaps by loading more of the total fee towards the operating fee will be a strong incentive for the BOT to make its plant available for dispatch. This incentive is at the heart of a competitive market. • A PPA that leaves spare capacity for the IPP/BOT creates complexity to trading in a competitive market. It creates a situation not normally encountered in the spot market – that is, the capacity of the plant is jointly controlled by separate parties that may have conflicting dispatch/pricing objectives. For example, if the plant is bid into the market for some or all its PPA capacity according to its authorized cost curve: What price is the IPP/BOT allowed to start bidding its capacity into the market? Who is responsible for ensuring the plant is committed, dispatched and operating at its minimum running or above? B-2 The World Bank / PPIAF / MOIT 6/20/2009 B: Contract Options Now consider that the PPA has decided to offer only half its capacity at a realistic price (the rest at a very high price); what is now the cost at which the IPP/BOT may now bid its discretionary capacity? If the plant is scheduled for spinning reserve how is the energy dispatch apportioned (both for the plants running in anticipation of providing reserve and when called on to meet a contingency)? However, accommodating a PPA with spare capacity available to the IPP/BOT to trade into the market incentivizes the IPP/BOT to look for productive efficiencies in the plant. B.1.3 Producer Surplus and PPA Capacity Fee A BOT Wholesaler can be used to maintain a traditional PPA in a market. The BOT Wholesaler has the obligation to pay the BOT per the terms of the two-part PPA, but in turn offers the BOT capacity into the spot market. If the BOT Wholesaler bids successfully, i.e. makes a bid resulting in dispatch of the BOT, it earns a price that can be dissected into its cost component and an additional component. The additional component comes from being more efficient than the price setting generator – this is the “producer surplus� and corresponds to a payment for capacity. Both Case A and Case B in Exhibits B.2 and B.3 can occur where the producer surplus is greater or less than the PPAs capacity fee. Exhibit B.2: Case A: PPA and Spot Market Payment - Revenue Shortfall PPA Spot market trade Fixed Capacity Fee Producer Surplus Goes PPA towards payment Spot Variable Dispatch Generator SRMC market Payment payment = B-3 The World Bank / PPIAF / MOIT 6/20/2009 B: Contract Options Exhibit B.3: Case B: PPA and Spot Market Payment – Revenue Excess Spot market trade PPA Fixed Capacity Producer Surplus Fee Goes PPA towards Spot payment Variable Dispatch market Generator SRMC payment Payment = B.2 MARKET-BASED AND RISK MANAGEMENT CONTRACTS (CFDS) B.2.1 What is a CfD? An alternative to a two part PPA (capacity and energy) is an energy-only contract. This can be in the form of a bilateral energy contracts for supply of energy at a particular time and place. This form of bilateral “supply� contract is somewhat illusionary. What happens in reality is that generators inject a quantity of electricity into the grid at their locations as directed by the system operator. At the same time consumers withdraw energy from the grid at their location(s) as they wish. This is occurring simultaneously by a number of generators and a number of consumers. It is meaningless to ascribe the power withdrawn by any consumer to any particular generator. Indeed it may be that the contracted generator is not even generating because its offer was too high for the market to accept but the consumer is still withdrawing at the contracted rate. There is no physical reality associated with such a contract55. The energy-only contract in a gross pool market is usually, in fact, a financial contract which can be described as a contract for differences (CfD). A contract for differences takes the following form and rationale: • Generator A is generating electricity and Utility B is retailing electricity. • Both are operating in a gross pool wholesale market. As usual, prices are volatile. They both want price certainty for a given quantity. For example, Utility B wants a fixed schedule of quantities and prices for certain hours of the day in order to service a large industrial customer. 55 There are special cases where a physical relationship is implied. For example, in the case of a CHP (combined heat and power) establishment - a generator attached to the consumer’s manufacturing plant may be contracted to supply in order to synchronise the two processes. B-4 The World Bank / PPIAF / MOIT 6/20/2009 B: Contract Options • They enter into a Contract for Differences56. Utility B buys from the spot market. Generator B supplies power to the market. If Utility B has to pay more for its electricity on the spot market than some agreed contract price (called the “strike price�) and for some agreed volume then Generator A agrees to reimburse Utility B for the difference between the market price and the strike price for that volume so that Utility B buys the contract volume at the contract price. Utility B need not have consumed the contract volume and Generator A need not have generated the contract volume. Still the reimbursement is for the whole contract volume and no more. If Utility B pays less for its electricity on the spot market than the “strike price� for the agreed volume. Utility B agrees to reimburse Generator A the difference between the market price and the strike price for the contract volume Effectively Utility B is hedging its buying price and Generator B is hedging its selling price at the strike price. If Generator A finds that the market price is less than its SRMC it may choose not to generate but in effect to “buy� its contract commitment from the market. It does that by not generating and allowing other generators to do so instead. The key reason the CfD is “market-friendly� is that it is referenced to the market price and settled primarily in the buying and selling in the market. • Only price differences are settled between the contract parties. If the market price and the contract strike price coincide there is no transaction between the contract parties. • Under and over consumption and production (compared to the contract quantity) fall out naturally with no need for special arrangements. • However, in its simplest form it also insulates the parties from the market for the contract quantity. B.2.2 Variations of CfDs Seen in this light it is possible to construct contracts with quite sophisticated terms by time of day, week or year, and other trigger conditions like temperature. They need not be reciprocal under all circumstances. For example, we can use: • Two-way contracts that has electricity traded at a fixed price irrespective of the spot market price (as above). • One-way contracts that define a maximum price that Utility B has to pay but no minimum: Generator A agrees to reimburse Utility B for the difference 56 CfD’s are well-known in the financial world. They are used in trading currencies, stocks and shares and many physical commodities. B-5 The World Bank / PPIAF / MOIT 6/20/2009 B: Contract Options between the market price and the strike price if B has to pay more for its electricity than the agreed strike price. • One-way contracts that define a minimum price that Generator A has to be paid but no maximum: Utility B agrees to reimburse Generator A for the difference between the market price and the strike price if A has to sell its electricity for less than the agreed strike price. • Collar contracts where the maximum price for Utility B to pay is greater than the minimum price that Generator A is to receive. These are used within a gross pool configuration with energy-only prices to hedge the participant’s risk. We would expect to see participants holding a portfolio of contracts that hedge the various risks they face. Such a portfolio gives revenue certainty and risk management options far wider and more versatile than traditional two-part PPAs. Indeed we would expect to see in a market environment that the counterparty to IPP/BOTs will trade out of their rigid PPA contracts using CfDs. Therefore, a CfD will normally be specified in terms of: • Type of CfD (e.g., two-way, floor, cap) • Period, i.e. the time period during which the quantity (volume) and strike price apply • Quantity (MWh) • Strike Price B.2.3 Settling CfDs Settling CfDs is normally done in two parts. • The market pays or charges the parties their market revenues and costs. • The individual parties settle their differences directly. Naturally, the market settlement system may offer to settle the differences so that each party sees only their net position. A net settlement gross pool is also done in two parts (but different. • The contract volume is settled outside the market (but possibly by the MO) • The excess/deficit volume(s) are settled by the spot market at the spot price. In Exhibit B.4, Genco A has been overpaid by the market and Utility B has been overcharged. Generator A has to pay Utility B so that they both are made whole. B-6 The World Bank / PPIAF / MOIT 6/20/2009 B: Contract Options Exhibit B.4: Settling a Two-way CfD Spot market Genco A Utility B price price price CfD payment CfD strike price Genco A Utility B agrees to agrees to pay receive B.3 EVALUATION OF CONTRACT OPTIONS We have assumed in Exhibit B.5 below that the PPA is a traditional two-part contract. We also assumed that the CfD would be a two-way energy-only CfD with a strike price covering the variable cost of generation and the fixed cost, cost of finance and equity at a realistic long-term utilisation rate. The table evaluates traditional PPAs and CfDs. Exhibit B.5: Comparison of PPAs and CfDs Criterion PPA CfD Economic Long term two-part PPAs with no All CfDs encourage market efficiency efficiency spare capacity: Limited by allowing the generator to either generate or “buy� from the market, No connection with spot market whichever is the cheaper. This both promotes productive efficiency and Contract terms “cost� based rather allocative efficiency. than market based. Short term CfD: Very good Limited ability to alter terms as circumstances change for 20-25 Medium – long term CfD: Good years. Referenced to spot market Capacity fee distorts price signalling. Short –medium term revised to match PPAs with spare capacity for IPP/BOT market prices that can be offered into market: Good Long-term generally have some ability 1. Attachment to market. to renegotiate 2. Prospect for efficiency gains Two-way CfD open to market prices for because IPP/BOT has incentive to volume deviations from contract: increase the margin between SRMC and the market price. On-way CfD: Open to market prices for all volume Generous variable operating fee will B-7 The World Bank / PPIAF / MOIT 6/20/2009 B: Contract Options encourage BOT to make its plant available for dispatch. Efficiencies achieved through trading around the PPA rather than in the PPA itself. Equity Low: Medium: Probably terms more favourable than BOTs may have terms more favourable for local IPPs and merchant plant. than for local IPPs and merchant plant, Long term conditions locked in and but during CGM terms may not differ difficult to renegotiate. much from CfD contracts negotiated bilaterally between SB and any of the existing IPPs Effectiveness Medium: Medium – high: PPAs are well known to lenders so will CfDs are not the normal form of be widely accepted for reliable contract in developing countries revenue flow. although well-known instrument in financial circles. Will not encourage and may even hinder the development of a genuinely Well-suited to fitting into and providing competitive market. risk-management support in a competitive market. Transparent Medium: Medium: Detailed negotiations will probably not Detailed negotiations will probably not be disclosed. be disclosed. Market offers may be publicized. Market offers may be publicized Practical High: Medium: PPA contract terms well-established CfD terms for BOT will need to be for BOTs. written although there are models to follow like Singapore vesting contracts Low – medium : and Philippine bilateral contracts – may take longer to negotiate initially. Needs special market rules to accommodate partial capacity under High: PPA. No special rules needed in spot market. B.3.1 Numerical comparison of PPA and CfD A series of cases are given in the following tables: • Exhibit B.6 shows the most common situation where the market price is greater than the contract price for CfD and the PPA and CfDs cost the same. B-8 The World Bank / PPIAF / MOIT 6/20/2009 B: Contract Options • Exhibit B.7 shows another common occurrence when the market price is less than the contract strike price. Here there is no production and the contract types in general give different outcomes. The PPA yields only the capacity fee while the return on the CfD depends on the difference between the two prices. • Exhibit B.8 shows two effects. The first is the settlement of the two-way CfD has the opposite cash-flow direction for the “difference�. The second effect shows how the Floor CfD settles differently when the MCE is above the strike price. In that case the floor CfD has no settlement because the difference payments only occur below the floor price. • Exhibit B.9 illustrates how the BOT can get additional revenue from trading capacity above the PPA contract quantity. Exhibit B.6: PPA v CfD - MCP > SRMC Market Market PPA Contract Clearing Price $/MWh 40.00 Volume MWh 200.00 Prop. of cap. under PPA 100% Generator BOT/IPP Capacity fee $/MWh 15.00 Capacity MWh 200.00 Variable fee $/MWh 34.00 Cleared vol. MWh 200.00 SRMC $/MWh 33.00 Two way CfD LRMC $/MWh 48.00 Volume MWh 200.00 Strike price $/MWh 49.00 Buyer Volume MWh 200.00 Floor CfD Volume MWh 200.00 Strike price $/MWh 49.00 Generator BOT/IPP PPA 2-way CfD Floor CfD PPA capacity Revenue Market energy 8,000 8,000 CfD settlement 1,800 1,800 PPA cap. fee 3,000 PPA var. fee 6,800 Total 9,800 9,800 9,800 Cost Production cost -6,600 -6,600 -6,600 Profit Sub-total 3,200 3,200 3,200 B-9 The World Bank / PPIAF / MOIT 6/20/2009 B: Contract Options Exhibit B.7: PPA v CfD - MCP < SRMC Market Market PPA Contract Clearing Price $/MWh 30.00 Volume MWh 200.00 Prop. of cap. under PPA 100% Generator BOT/IPP Capacity fee $/MWh 15.00 Capacity MWh 200.00 Variable fee $/MWh 34.00 Cleared vol. MWh - SRMC $/MWh 33.00 Two way CfD LRMC $/MWh 48.00 Volume MWh 200.00 Strike price $/MWh 49.00 Buyer Volume MWh 200.00 Floor CfD Volume MWh 200.00 Strike price $/MWh 49.00 Generator BOT/IPP PPA 2-way CfD Floor CfD PPA capacity Revenue Market energy 0 0 CfD settlement 3,800 3,800 PPA cap. fee 3,000 PPA var. fee 0 Total 3,000 3,800 3,800 Cost Production cost 0 0 0 Profit Sub-total 3,000 3,800 3,800 Exhibit B.8: PPA v CfD - MCP > CfD Strike Price Market Market PPA Contract Clearing Price $/MWh 60.00 Volume MWh 200.00 Prop. of cap. under PPA 100% Generator BOT/IPP Capacity fee $/MWh 15.00 Capacity MWh 200.00 Variable fee $/MWh 34.00 Cleared vol. MWh 200.00 SRMC $/MWh 33.00 Two way CfD LRMC $/MWh 48.00 Volume MWh 200.00 Strike price $/MWh 49.00 Buyer Volume MWh 200.00 Floor CfD Volume MWh 200.00 Strike price $/MWh 49.00 Generator BOT/IPP PPA 2-way CfD Floor CfD PPA capacity Revenue Market energy 12,000 12,000 CfD settlement -2,200 0 PPA cap. fee 3,000 PPA var. fee 6,800 Total 9,800 9,800 12,000 Cost Production cost -6,600 -6,600 -6,600 Profit Sub-total 3,200 3,200 5,400 B-10 The World Bank / PPIAF / MOIT 6/20/2009 B: Contract Options Exhibit B.9: Plant capacity in addition to PPA Capacity Market Market PPA Contract Clearing Price $/MWh 40.00 Volume MWh 200.00 Prop. of cap. under PPA 67% Generator BOT/IPP Capacity fee $/MWh 15.00 Capacity MWh 300.00 Variable fee $/MWh 34.00 Cleared vol. MWh 300.00 SRMC $/MWh 33.00 Two way CfD LRMC $/MWh 48.00 Volume MWh 200.00 Strike price $/MWh 49.00 Buyer Volume MWh 200.00 Floor CfD Volume MWh 200.00 Strike price $/MWh 49.00 Generator BOT/IPP PPA 2-way CfD Floor CfD PPA capacity Revenue Market energy 8,000 8,000 CfD settlement 1,800 1,800 PPA cap. fee 3,000 PPA var. fee 6,800 Total 9,800 9,800 9,800 Cost Production cost -6,600 -6,600 -6,600 Profit Sub-total 3,200 3,200 3,200 Non PPA Revenue Market energy 4,000 4,000 4,000 capacity CfD settlement 0 0 PPA cap. fee 0 PPA var. fee 0 Total 4,000 4,000 4,000 Cost Production cost -3,300 -3,300 -3,300 Profit Sub-total 700 700 700 B.3.2 Conclusions Two basic forms of contract are possible: • Traditional PPAs are well-accepted and understood by the international generation and funding institutions in the context of non-market regimes. They can be specified with a wide variety of terms that allow for variations in fees and capacity available under the contract. In their simplest form the two-part PPA insulates the BOT from the market. By allowing the BOT scope to trade part of its capacity separate from the PPA it is exposed to the market. Similarly the weighting of fees towards the variable operating fee will encourage the BOT to seek to have the plant dispatched wherever economic. The complication with this is that the joint “ownership� of (or rights over) the plant capacity presents new challenges for offering the plant capacity into the market. • Contracts for Differences are well-known in financial circles and to generation companies working in competitive spot markets. Most bilateral energy-only contracts can be thought of as a CfD. In addition there are numerous ways a CfD can be specified in terms of one-way and two-way contracts, quantities/prices by time of day/week/year. In most instances a CfD with similar price/quantities to a CfD will settle to similar outcomes (the main exception is when the generator does not dispatch to cover the contract). B-11 The World Bank / PPIAF / MOIT 6/20/2009 APPENDIX C: IPP INTEGRATION CASE STUDIES In this appendix we describe briefly the approaches that can be taken in transitioning to a competitive market and setting up and indexing CfDs. We will discuss as case studies The Philippines, Singapore, and the Dominican Republic. C.1 THE PHILIPPINES Until recently the Philippines government, through the National Power Corporation (NPC), owned and operated about 3000 MW of capacity. In addition there were plant, in total of over 5000 MW capacity, owned by IPPs with PPA’s to NPC. These have now been transferred to the Power Sector Assets & Liabilities Management Corporation (PSALM) for the purpose of privatising them. The IPPs have different contractual arrangements with NPC. Many have Build Operate Transfer (BOT) agreements for the first 20 years or so and then they revert to the Philippines government. This capacity is dominated by over 2,000 MW of coal fired plant and 1,200 MW of natural gas fired plant formally owned partly or wholly by Mirant. PPAs written in the early 1990’s are somewhat more generous than later ones paying lucrative capacity fees. Fuel costs are borne by NPC. Some other IPPs are contracted privately. These are principally owned and operated by First Generation which has about 2,000 MW of capacity in 5 major power stations. They have PPAs with Meralco, an affiliate company under the First Holdings group of companies. The sector is being privatized to pay back a huge debt held by NPC – the state corporation that controlled transmission, dispatch, 90% of the generation and the distribution of power to the utilities. A competitive market has also been introduced. A couple years ago the Philippines commenced a competitive wholesale market (WESM), which is run as a gross pool. Philippines has attempted to integrate traditional PPAs and ECAs 57 with the spot market. Initially some of the more onerous ECA were compulsorily renegotiated. The large ones tended to be left alone. There was concern that the international investors would be discouraged if too much forced renegotiation occurred. When the WESM (wholesale market) started operations the ECA were given four IPPAs (IPP Administrators) the task of trading for maximum profit the energy covered by the different ECAs either by energy contract (e.g., CfDs) or through the spot market. The IPPAs are then responsible to pay the IPP. Since independent, private sector institutions have yet to be procured, the IPPAs are teams from within PSALM. They are performing the task of offering this energy into the spot market. Regrettably, for a chain of reasons the experience has been sullied by the IPPAs being charged with abuse of market power. The concept was good but was poorly implemented. 57 ECA is an energy conversion agreements where the government supplies the fuel to the IPP at no cost to the IPP C-1 The World Bank / PPIAF / MOIT 6/20/2009 C: IPP Integration Case Studies Some former NPC thermal generation has been sold in Philippines. Once the sale of the Calaca and Masinloc closes, some 39% of the generation assets (by capacity) held by PSALM will have been sold. The Masinloc case is a good example about the difficulty in financing generation assets during the advent of a power market. Masinloc is a 600 MW coal-fired power plant. It was first offered for sale prior the start of WESM. A consortium led by YNN won the tender in 2004, but could not close financing, and PSALM was left owning the plant. Uncertainty about the nature and operation of WESM presented unacceptable risks to lenders. In 2007, after WESM had already started operating, Masinloc was again offered for sale. Seven bidders participated, and the bid was won by AES Corp. for a price of some USD 930 million. Financing was provided by IFC, ADB and others, including an international commercial bank, ING. Though Masinloc currently holds some bilateral energy contracts with distributors which will expire over the next several years, AES does not aim to fully contract the plant, but will likely seek at least a significant portion of dispatch on a merchant basis. A number of factors contributed to the successful sale of Masinloc on the second attempt: • AES’ willingness to structure financing as 60:40 debt to equity. There is contract coverage for at least the debt portion of the financing, though many of these contracts will expire before the debt is retired. • The involvement of multilateral banks like IFC and ADB, which perhaps were keen to help ensure the success of the Philippines privatization program • An actual operating track record for WESM • The relatively young age and strategic location of the Masinloc asset. The plant began operations in 1998, and is located on the Luzon grid, not far from the principal load center of Manila. The plant is likely to remain near the top of the merit order for thermal plant, especially after AES’ plan rehabilitation of the plant. The Masinloc experience demonstrates the importance of: • Taking into account factors besides evaluated price in selection. AES’ willingness to take a larger than typical equity share in the project contributed to the financial close of the project. • Demonstrating operation of the market as opposed to a plan for it. • Offering assets that are attractive based on fundamentals like location and technology. • Attracting reputable developers with a proven track record. C.2 SINGAPORE The Singapore spot market is possibly, along with New Zealand, the purest gross pool spot market anywhere in the world. We chose it for comment because of: • the successful implementation of a gross pool market in Asia, C-2 The World Bank / PPIAF / MOIT 6/20/2009 C: IPP Integration Case Studies • the use of compulsory CfDs as “vesting contracts� (VC) • the broad acceptance of the CfD vesting contracts as bankable sources of revenue • The methodology for indexing the VC CfDs. However, there were no IPPs with PPAs at market start. Instead there were three SOE companies of similar size and constitution and two or three small players associated with industrial plant. Singapore had no serious “legacy� problems. The stranded cost of the 3 SOEs will be handled implicitly in the sale process that has just commenced. It is likely however, that given the huge interest in these companies, the assets will realise high valuations. The rationale for the vesting contracts is to curb market power. The EMA (Electricity Market Authority) was concerned about market power abuse by the big three so imposed (vested) on them and offered to other generators some energy-only “vesting contracts’. Two IPPs who had not started building plant but had been given a license before market start were eager to also be involved and have been allowed to share in the vesting contracts. Even though not intended to do so, these VCs have provided very significant income support to the generation companies. The vesting contracts are in form, if not in purpose, similar to an energy-only contract for differences (CfD) that any two participants might negotiate. They are a bit special in the way they are indexed for a number of parameters: fuel cost, interest rates and the USD exchange rates. On a two year basis the “strike price� is recalculated from scratch being set to the LRMC of a best new entrant CCGT. Quarterly it is adjusted to meet changing fuel cost based on the forward price of oil. Every 2 years the overhead component is recalculated and the volume of VCs (in MW) is recalculated to ensure market power is controlled. Currently, the volume is 55% of average load after having started at 65%. They are allocated to companies according to their (non-peaking) generating capacity. A different volume is allocated at peak, off-peak and shoulder periods. Singapore has opened most of its retail load to a free retail market. Consequently, the generators have voluntarily vertically integrated by buying up most of the independent utilities/retailers. With both the imposed vesting contracts and a retail hedge they have both significant protection from volatility in the spot market and little incentive to exercise market power (because very little of their generation is exposed to the spot market. C.3 DOMINICAN REPUBLIC In Dominican Republic there were a lot of contracts before the new spot market. Basically those contracts were administrated by the government authority (Corporación Dominicana de Energía). It has successfully renegotiated many of its PPAs. Generators with PPAs establish the level of stranded cost when the return from the PPA is significantly higher than the return expected from dealing in the spot market as a merchant plant. These PPAs were renegotiated as market based contracts. The main relevant commercial relationships of the electric system are the following: C-3 The World Bank / PPIAF / MOIT 6/20/2009 C: IPP Integration Case Studies • There is a spot market based on a competitive dispatch by variable production costs where the generators sell energy that is not contracted. In this market all the hydro energy is dispatched. The hourly energy price is a nodal price. • There are forward contracts between the generators and the CDE (Corporación Dominicana de Energía) and between the CDE and distribution companies. The contracts, with the exception of the CESPM, include minimum guaranteed operation clauses (approximately 70% of the maximum possible production). The distribution companies pay the CDE exactly the minimum cost it, in turn, pays to the IPP. Therefore for CDE the contracts are economically neutral. • The contracts are exclusively financial contracts (CfDs), thus the dispatching of all the plants – with or without contracts – is based on the operational (variable) costs. Generator’s deviations from their contractual obligations are negotiated in the spot market. • There is remuneration of capacity based in the firm power concept based on availability over the previous 10 years. The unit remuneration corresponds to the capital annuity of a peaking power station. After deregulation, some old contracts changed to a market environment after an agreement (the so called "Madrid Agreements"). Under the Madrid Agreements the old contracts work as financial contracts (economic dispatch merit order and support of the spot market to adjust contractual positions) and prices of capacity and energy were set similar to their new values (lower than old IPP). To satisfy this agreement and to keep the initial financial terms of the old contracts, they found different solutions like: • extension of the contract period or • some cash to recompense for stranded cost, On the other hand, there were some old contracts which have not reached agreement, so they continue as old PPA. Basically Corporación Dominicana de Energía is the agent who trades their production (losing money of course). C-4 The World Bank / PPIAF / MOIT 6/20/2009 APPENDIX D: MODELING RESULTS This appendix provides the model runs for the following scenarios: • Slack capacity – BOT relatively efficient • Slack capacity – BOT relatively less efficient • Tight capacity – BOT relatively efficient • Tight capacity – BOT relatively less efficient D-1 The World Bank / PPIAF / MOIT 6/20/2009 Contract Cost Calculator for CfD and PPA Scenario: Slack Capacity - BOT Relatively Efficient Assumptions Market BOT Generator Capacity MW 300.00 Period PDC for CGM PDC for WCM Life of BOT years 23 (Marginal plant) Price On margin Price On margin % debt percent 60% Peak 186.00 0% 372.00 0% Interest rate percent 8% High Shoulder 50.00 1% 50.00 0% Equity return percent 20% Low Shoulder 28.56 94% 28.56 30% WACC percent 13% Base 20.00 5% 20.00 70% Capital cost $/kW 800 Total 28.35 100% 22.57 100% Annual fixed O&M % of cap cost 2% Variable costs $/MWh 28 Max. capacity factor percent 80% Availability percent 90% Max capacity factor =< Availability? OK PPA Contract Capacity fee $/kW-yr 125.24 Capital cost recovered at WACC plus fixed O&M PPA capacity factor as % of max percent 90% Effective PPA capacity factor percent 72% Capacity fee - energy basis $/MWh 19.86 Capacity fee spread over annual energy produced Variable fee $/MWh 28.00 BOT variable costs Two-way CfD CGM volume as cap factor equivalent percent 95% Strike price CGM $/MWh 28.00 Set at BOT variable costs WCM volume as cap factor equivalent percent 65% Strike price WCM $/MWh 50.00 Capacity fee spread over CfD volume plus variable costs Collar WCM volume as cap factor equivalent percent 65% Portion of fixed costs to be protected percent 80% in WCM only Floor price $/MWh 45.60 (Capacity fee x percent protected) spread over CfD volume plus variable costs Cap price multiplier 1.00 multiply by difference between floor price and two-way strike price to get cap price Cap price $/MWh 54.39 Merchant operation in CGM Capacity payment % of cap fee 95% Mrkt clearing price when BOT dispatched $/MWh 28.80 Average over periods during which BOT is dispatched BOT capacity factor percent 80% Based on dispatch whenever BOT variable costs < MCP, adjusted for availability Merchant operation in WCM Mrkt clearing price when BOT dispatched $/MWh 28.56 BOT capacity factor percent 27% Based on dispatch whenever BOT variable costs < MCP, adjusted for availability BOT BOT Holds PPA BOT Holds: Uniform CfD Top-Load CfD Collar Pre-market CGM WCM CGM WCM WCM WCM Market energy 60,551,643 20,265,034 20,265,034 20,265,034 Market capacity fee 35,694,436 Subtotal from Market (BOT Merchant) 96,246,079 20,265,034 20,265,034 20,265,034 CfD settlement (864,822) 46,852,033 45,164,857 37,650,239 PPA capacity fee 37,573,091 37,573,091 37,573,091 PPA variable fee 52,980,480 58,867,200 19,867,680 Subtotal from Counterparty 90,553,571 96,440,291 57,440,771 (864,822) 46,852,033 45,164,857 37,650,239 Total Revenue 90,553,571 96,440,291 57,440,771 95,381,257 67,117,067 65,429,891 57,915,272 BOT revenue less variable costs (= capacity payments + producer surplus) 36,514,057 47,249,387 45,562,211 38,047,592 Is BOT making sufficient money to cover fixed costs? No Yes Yes Yes BOT Counterparty PPA Uniform CfD Top-Load CfD Collar Pre-market CGM WCM CGM WCM WCM WCM Revenue from market for capacity 37,573,091 35,694,436 Revenue from market for energy 52,980,480 60,551,643 20,265,034 Subtotal market revenue 90,553,571 96,246,079 20,265,034 0 0 0 0 Cost (paid to BOT) 90,553,571 96,440,291 57,440,771 (864,822) 46,852,033 45,164,857 37,650,239 BOT Counterpart Net Revenue 0 (194,212) (37,175,737) 864,822 (46,852,033) (45,164,857) (37,650,239) Assumptions 1. BOT is dispatched in market only when its bid is less than the cost of the marginal plant 2. BOT bids into CGM and WCM at its variable cost 3. BOT is dispatched up to its max capacity factor for the year, but dispatch cannot exceed its availability during any individual period 4. In pre-market stage, BOT Counterparty recovers all costs of BOT PPA from consumers 5. "Uniform CfD" spreads volume evenly over all periods in year 6. "Top-Loaded" CfD allocates volume first to peak period, next to shoulder period and so forth until volume is exhausted. Contract Cost Calculator for CfD and PPA Scenario: Slack Capacity - BOT Relatively Less Efficient Assumptions Market BOT Generator Capacity MW 300.00 Period PDC for CGM PDC for WCM Life of BOT years 23 (Marginal plant) Price On margin Price On margin % debt percent 60% Peak 186.00 0% 372.00 0% Interest rate percent 8% High Shoulder 50.00 1% 50.00 0% Equity return percent 20% Low Shoulder 27.44 94% 27.44 30% WACC percent 13% Base 20.00 5% 20.00 70% Capital cost $/kW 800 Total 27.29 100% 22.23 100% Annual fixed O&M % of cap cost 2% Variable costs $/MWh 28 Max. capacity factor percent 80% Availability percent 90% Max capacity factor =< Availability? OK PPA Contract Capacity fee $/kW-yr 125.24 Capital cost recovered at WACC plus fixed O&M PPA capacity factor as % of max percent 90% Effective PPA capacity factor percent 72% Capacity fee - energy basis $/MWh 19.86 Capacity fee spread over annual energy produced Variable fee $/MWh 28.00 BOT variable costs Two-way CfD CGM volume as cap factor equivalent percent 95% Strike price CGM $/MWh 28.00 Set at BOT variable costs WCM volume as cap factor equivalent percent 60% Strike price WCM $/MWh 51.83 Capacity fee spread over CfD volume plus variable costs Collar WCM volume as cap factor equivalent percent 60% Portion of fixed costs to be protected percent 80% in WCM only Floor price $/MWh 47.06 (Capacity fee x percent protected) spread over CfD volume plus variable costs Cap price multiplier 1.00 multiply by difference between floor price and two-way strike price to get cap price Cap price $/MWh 56.59 Merchant operation in CGM Capacity payment % of cap fee 95% Mrkt clearing price when BOT dispatched $/MWh 50.00 Average over periods during which BOT is dispatched BOT capacity factor percent 1% Based on dispatch whenever BOT variable costs < MCP, adjusted for availability Merchant operation in WCM Mrkt clearing price when BOT dispatched $/MWh - BOT capacity factor percent 0% Based on dispatch whenever BOT variable costs < MCP, adjusted for availability BOT BOT Holds PPA BOT Holds: Uniform CfD Top-Load CfD Collar Pre-market CGM WCM CGM WCM WCM WCM Market energy 1,182,600 0 0 0 Market capacity fee 35,694,436 Subtotal from Market (BOT Merchant) 36,877,036 0 0 0 CfD settlement 1,763,598 46,668,073 44,908,364 37,393,746 PPA capacity fee 37,573,091 37,573,091 37,573,091 PPA variable fee 52,980,480 662,256 0 Subtotal from Counterparty 90,553,571 38,235,347 37,573,091 1,763,598 46,668,073 44,908,364 37,393,746 Total Revenue 90,553,571 38,235,347 37,573,091 38,640,634 46,668,073 44,908,364 37,393,746 BOT revenue less variable costs (= capacity payments + producer surplus) 37,978,378 46,668,073 44,908,364 37,393,746 Is BOT making sufficient money to cover fixed costs? Yes Yes Yes No BOT Counterparty PPA Uniform CfD Top-Load CfD Collar Pre-market CGM WCM CGM WCM WCM WCM Revenue from market for capacity 37,573,091 35,694,436 Revenue from market for energy 52,980,480 1,182,600 0 Subtotal market revenue 90,553,571 36,877,036 0 0 0 0 0 Cost (paid to BOT) 90,553,571 38,235,347 37,573,091 1,763,598 46,668,073 44,908,364 37,393,746 BOT Counterpart Net Revenue 0 (1,358,311) (37,573,091) (1,763,598) (46,668,073) (44,908,364) (37,393,746) Assumptions 1. BOT is dispatched in market only when its bid is less than the cost of the marginal plant 2. BOT bids into CGM and WCM at its variable cost 3. BOT is dispatched up to its max capacity factor for the year, but dispatch cannot exceed its availability during any individual period 4. In pre-market stage, BOT Counterparty recovers all costs of BOT PPA from consumers 5. "Uniform CfD" spreads volume evenly over all periods in year 6. "Top-Loaded" CfD allocates volume first to peak period, next to shoulder period and so forth until volume is exhausted. Contract Cost Calculator for CfD and PPA Scenario: Tight Capacity - BOT Relatively Efficient Assumptions Market BOT Generator Capacity MW 300.00 Period PDC for CGM PDC for WCM Life of BOT years 23 (Marginal plant) Price On margin Price On margin % debt percent 60% Peak 186.00 18% 744.00 22% Interest rate percent 8% High Shoulder 50.00 16% 50.00 20% Equity return percent 20% Low Shoulder 28.56 66% 37.13 42% WACC percent 13% Base 20.00 0% 20.00 16% Capital cost $/kW 800 Total 60.33 100% 192.47 100% Annual fixed O&M % of cap cost 2% Variable costs $/MWh 28 Max. capacity factor percent 80% Availability percent 90% Max capacity factor =< Availability? OK PPA Contract Capacity fee $/kW-yr 125.24 Capital cost recovered at WACC plus fixed O&M PPA capacity factor as % of max percent 90% Effective PPA capacity factor percent 72% Capacity fee - energy basis $/MWh 19.86 Capacity fee spread over annual energy produced Variable fee $/MWh 28.00 BOT variable costs Two-way CfD CGM volume as cap factor equivalent percent 95% Strike price CGM $/MWh 28.00 Set at BOT variable costs WCM volume as cap factor equivalent percent 65% Strike price WCM $/MWh 50.00 Capacity fee spread over CfD volume plus variable costs Collar WCM volume as cap factor equivalent percent 65% Portion of fixed costs to be protected percent 80% in WCM only Floor price $/MWh 45.60 (Capacity fee x percent protected) spread over CfD volume plus variable costs Cap price multiplier 1.00 multiply by difference between floor price and two-way strike price to get cap price Cap price $/MWh 54.39 Merchant operation in CGM Capacity payment % of cap fee 95% Mrkt clearing price when BOT dispatched $/MWh 64.30 Average over periods during which BOT is dispatched BOT capacity factor percent 80% Based on dispatch whenever BOT variable costs < MCP, adjusted for availability Merchant operation in WCM Mrkt clearing price when BOT dispatched $/MWh 225.33 BOT capacity factor percent 76% Based on dispatch whenever BOT variable costs < MCP, adjusted for availability BOT BOT Holds PPA BOT Holds: Uniform CfD Top-Load CfD Collar Pre-market CGM WCM CGM WCM WCM WCM Market energy 135,186,002 447,672,284 447,672,284 447,672,284 Market capacity fee 35,694,436 Subtotal from Market (BOT Merchant) 170,880,438 447,672,284 447,672,284 447,672,284 CfD settlement (80,714,079) (243,382,421) (351,926,364) (352,779,850) PPA capacity fee 37,573,091 37,573,091 37,573,091 PPA variable fee 52,980,480 58,867,200 55,629,504 Subtotal from Counterparty 90,553,571 96,440,291 93,202,595 (80,714,079) (243,382,421) (351,926,364) (352,779,850) Total Revenue 90,553,571 96,440,291 93,202,595 90,166,359 204,289,863 95,745,920 94,892,434 BOT revenue less variable costs (= capacity payments + producer surplus) 31,299,159 148,660,359 40,116,416 39,262,930 Is BOT making sufficient money to cover fixed costs? No Yes Yes Yes BOT Counterparty PPA Uniform CfD Top-Load CfD Collar Pre-market CGM WCM CGM WCM WCM WCM Revenue from market for capacity 37,573,091 35,694,436 Revenue from market for energy 52,980,480 135,186,002 447,672,284 Subtotal market revenue 90,553,571 170,880,438 447,672,284 0 0 0 0 Cost (paid to BOT) 90,553,571 96,440,291 93,202,595 (80,714,079) (243,382,421) (351,926,364) (352,779,850) BOT Counterpart Net Revenue 0 74,440,147 354,469,689 80,714,079 243,382,421 351,926,364 352,779,850 Assumptions 1. BOT is dispatched in market only when its bid is less than the cost of the marginal plant 2. BOT bids into CGM and WCM at its variable cost 3. BOT is dispatched up to its max capacity factor for the year, but dispatch cannot exceed its availability during any individual period 4. In pre-market stage, BOT Counterparty recovers all costs of BOT PPA from consumers 5. "Uniform CfD" spreads volume evenly over all periods in year 6. "Top-Loaded" CfD allocates volume first to peak period, next to shoulder period and so forth until volume is exhausted. Contract Cost Calculator for CfD and PPA Scenario: Tight Capacity - BOT Relatively Less Efficient Assumptions Market BOT Generator Capacity MW 300.00 Period PDC for CGM PDC for WCM Life of BOT years 23 (Marginal plant) Price On margin Price On margin % debt percent 60% Peak 186.00 18% 744.00 22% Interest rate percent 8% High Shoulder 50.00 16% 50.00 20% Equity return percent 20% Low Shoulder 27.44 66% 35.67 42% WACC percent 13% Base 20.00 0% 20.00 16% Capital cost $/kW 800 Total 59.59 100% 191.86 100% Annual fixed O&M % of cap cost 2% Variable costs $/MWh 28 Max. capacity factor percent 80% Availability percent 90% Max capacity factor =< Availability? OK PPA Contract Capacity fee $/kW-yr 125.24 Capital cost recovered at WACC plus fixed O&M PPA capacity factor as % of max percent 90% Effective PPA capacity factor percent 72% Capacity fee - energy basis $/MWh 19.86 Capacity fee spread over annual energy produced Variable fee $/MWh 28.00 BOT variable costs Two-way CfD CGM volume as cap factor equivalent percent 95% Strike price CGM $/MWh 28.00 Set at BOT variable costs WCM volume as cap factor equivalent percent 65% Strike price WCM $/MWh 50.00 Capacity fee spread over CfD volume plus variable costs Collar WCM volume as cap factor equivalent percent 65% Portion of fixed costs to be protected percent 80% in WCM only Floor price $/MWh 45.60 (Capacity fee x percent protected) spread over CfD volume plus variable costs Cap price multiplier 1.00 multiply by difference between floor price and two-way strike price to get cap price Cap price $/MWh 54.39 Merchant operation in CGM Capacity payment % of cap fee 95% Mrkt clearing price when BOT dispatched $/MWh 122.00 Average over periods during which BOT is dispatched BOT capacity factor percent 31% Based on dispatch whenever BOT variable costs < MCP, adjusted for availability Merchant operation in WCM Mrkt clearing price when BOT dispatched $/MWh 224.60 BOT capacity factor percent 76% Based on dispatch whenever BOT variable costs < MCP, adjusted for availability BOT BOT Holds PPA BOT Holds: Uniform CfD Top-Load CfD Collar Pre-market CGM WCM CGM WCM WCM WCM Market energy 98,108,496 446,221,943 446,221,943 446,221,943 Market capacity fee 35,694,436 Subtotal from Market (BOT Merchant) 133,802,932 446,221,943 446,221,943 446,221,943 CfD settlement (78,868,593) (242,334,953) (350,882,732) (351,736,218) PPA capacity fee 37,573,091 37,573,091 37,573,091 PPA variable fee 52,980,480 22,516,704 55,629,504 Subtotal from Counterparty 90,553,571 60,089,795 93,202,595 (78,868,593) (242,334,953) (350,882,732) (351,736,218) Total Revenue 90,553,571 60,089,795 93,202,595 54,934,339 203,886,990 95,339,211 94,485,725 BOT revenue less variable costs (= capacity payments + producer surplus) 32,417,635 148,257,486 39,709,707 38,856,221 Is BOT making sufficient money to cover fixed costs? No Yes Yes Yes BOT Counterparty PPA Uniform CfD Top-Load CfD Collar Pre-market CGM WCM CGM WCM WCM WCM Revenue from market for capacity 37,573,091 35,694,436 Revenue from market for energy 52,980,480 98,108,496 446,221,943 Subtotal market revenue 90,553,571 133,802,932 446,221,943 0 0 0 0 Cost (paid to BOT) 90,553,571 60,089,795 93,202,595 (78,868,593) (242,334,953) (350,882,732) (351,736,218) BOT Counterpart Net Revenue 0 73,713,137 353,019,349 78,868,593 242,334,953 350,882,732 351,736,218 Assumptions 1. BOT is dispatched in market only when its bid is less than the cost of the marginal plant 2. BOT bids into CGM and WCM at its variable cost 3. BOT is dispatched up to its max capacity factor for the year, but dispatch cannot exceed its availability during any individual period 4. In pre-market stage, BOT Counterparty recovers all costs of BOT PPA from consumers 5. "Uniform CfD" spreads volume evenly over all periods in year 6. "Top-Loaded" CfD allocates volume first to peak period, next to shoulder period and so forth until volume is exhausted. APPENDIX E: THERMAL GENERATION BOT EXPERIENCE IN VIETNAM E.1 INTRODUCTION The successful financings of Phu My 2-2 and Phu My 3 thermal generation BOT projects in 2002-03 were widely seen as catalysts for foreign investment in Vietnam’s electricity sector. Yet five years on and with electricity growth averaging approximately 15% per annum, these two projects remain the only BOT projects to have reached financial close. Despite the lack of progress, there remains strong interest from international power developers for investment in Vietnam. The Phu My projects have provided the GOV with helpful experience about international competitive tendering of BOT projects. This section discusses the features of these two thermal generation BOT projects and lessons learnt. The main difference between the two projects is that Phu My 2-2 was awarded after an international competitive tender. Phu My 3 was awarded after direct negotiations. E.2 PHU MY 2-2 The 715 MW Phu My 2-2 gas power plant was developed in 2002. It was the first private BOT project in Vietnam. Electricité de France (EDF) leads the project consortium, which also includes Sumitomo and Tokyo Electric Power Company (TEPCO). Certain GOV entities are key project counterparties. Gas for the project is sourced from the Nam Con Son offshore gas field by Petrovietnam. Electricity is supplied to EVN under a twenty year PPA. Procured through International Competitive Bidding (ICB), USD 480 million of limited recourse finance was raised for the project. The World Bank provided a USD 75 million loan and its first Partial Risk Guarantee (PRG) in Vietnam to protect lenders from certain residual risks. E.3 PHU MY 3 The second thermal generation BOT developed in Vietnam was the Phu My 3 project. The project was commissioned in 2004. It is governed by a twenty-three year BOT contract between the MOIT and Phu My 3 BOT Power Project Enterprise Ltd. The company is owned equally by BP Holdings, SembCorp Utilities and a Japanese consortium. The consortium comprises Kyushu Electric Power Co and Nissho Iwai Corp (Sojitz Corporation). The Phu My 3 Power project enterprise has a twenty-year PPA with the GOV to sell capacity and electricity to EVN. The agreement has a traditional capacity charge/energy payment tariff. PetroVietnam supplies gas from the Nam Con Son Basin under a twenty-year gas sales agreement. At full load, the 716.8 MW plant consumes approx. 3 million cubic metres per day of gas. It provides between 8 to 10 percent of the country’s electricity. The project cost of USD 386 million was financed with 75% debt and 25% equity. Debt providers included the Japan Bank for International Cooperation (JBIC), the Asian Development Bank (ADB) and commercial banks. E-1 The World Bank / PPIAF / MOIT 6/20/2009 E: Thermal Generation BOT Experience in Vietnam In 2003, MIGA issued a USD 75 million guarantee in favour of the project’s lenders and a USD 43 million investment guarantee to SembCorp Utilities. The fifteen-year policy provided cover for currency transfer restriction, expropriation and breach of contract. In 2004, MIGA also issued a guarantee of USD 15 million to Crédit Lyonnais for interest rate swap agreements provided to the project. E.4 FEATURES OF THE PHU MY CONTRACTS The Phu My projects had a number of comparable features. These serve as a basis for future thermal generation BOTs. The principal features are described below: E.4.1 Government Support Package The GOV support for the Phu My projects involved guarantees that cover: • Foreign exchange convertibility, availability and foreign exchange remittance outside Vietnam; • All payment obligations of GOV project counterparts including EVN and PetroVietnam; • Foreign exchange regimes covered: (a) Opening of offshore bank accounts; (b) Conversion; (c) Remittance; and, (d) Availability of foreign exchange. Tax incentives detailed in the Phu My 2-2 BOT contract provided for exemptions or reductions for a range of taxes. These included: Corporate Income Tax, Profit Remittance Tax, Interest Withholding Tax, Tax on Technology Transfer and Tax on Imports. For Phu My 3, the contracts guaranteed there would be no nationalization of any property, assets or rights of investors or the project company. The GOV guaranteed that tax liabilities and exemptions would not change from those prevailing at the time that the project contract was executed. The GOV also committed that VAT would not adversely impact on investors or the project company. Internationally, these guarantees are not usually provided by governments but are included in PPAs. Both project contracts provided for compensation to the respective project enterprises for changes in law leading to increased costs or reduced revenues. Failure to agree the compensation leads to termination where it would be more usual for the dispute to be referred to the dispute resolution process first. The force majeure provisions of the Phu My 3 BOT contract provided for GOV buyout of the project assets in the case of an unremedied natural force majeure event. The usual approach to managing this risk is for the project enterprise to insure against those events. Standard international practice regarding force majeure is discussed in more detail in Section 6.2.2c. E.4.2 Tender Framework At the time of the Phu My 2-2 development gas supply infrastructure was less developed, the legal system was less clear and the GOV required that tender documents provide flexible terms in the hope that GOV could keep options in reserve. Earlier transactions were based on negotiated deals. Taking a relatively unstructured approach afforded developers an opportunity to negotiate better terms then would have been available with a structured approach. The process that was followed for both Phu My projects involved investors being selected as follows: E-2 The World Bank / PPIAF / MOIT 6/20/2009 E: Thermal Generation BOT Experience in Vietnam MOIT as an Authorised State Body (ASB) prequalified bidders and followed a seven step process: • Preparation of Tender Invitation Document; • Tender Invitation; • Receipt and Retention of Tenders; • Tender Opening; • Assessment of Tenders; • Submission of tendering results for approval, and; • Announcement of successful tenderer and contract negotiation. Despite a clearly defined tendering procedure, the GOV adopted a one-envelope bidding procedure for Phu My 2-2 rather than a more usual two-envelope system approach. There is still a school of thought within GOV that a one envelope system is appropriate. Single Envelope tenders are simple but not appropriate for complex infrastructure projects. In the earlier cases, project proposals were circulated in their entirety around GOV for review. The approach in Vietnam has shortcomings because information is not secure, there is no single decision making point, opportunities for collusion and corruption are significant and a quantitative, methodical evaluation cannot take place. Contract negotiations for the Phu My 2-2 project were lengthy. Considerable time was taken in resolving pre-bid issues. Prices for equipment changed significantly since bid price submission and bid bonds expired before negotiations were completed. Many GOV ministries and agencies were involved in both Phu My project contract negotiations. To streamline the negotiation process, the GOV has now introduced “inter- branch working groups� (IBWG). These are responsible for developing foreign investment criteria. They also assist with BOT negotiations and help resolve issues as they arise. While this is a more workable structure, there may be some concern as to conflicts of interest between members of the IBWG and bidders, particularly if a state entity represented in the IBWG is a participant in the tender. E.5 LESSONS LEARNED The Phu My 2-2 experience provides insight into several things. These include the need for a clearly defined and transparent tender process, a reasonable timeline, proper execution and timely decision making by the Government Lessons learned from the Phu My 2-2 project led to the following advice for Phu My 3: • Pre-qualify potential bidders; • Provide a clear and specific RFP; • Provide complete draft project agreements with terms that are acceptable to GOV; • Conduct several rounds of bidder consultations on draft transaction documents and project agreements; E-3 The World Bank / PPIAF / MOIT 6/20/2009 E: Thermal Generation BOT Experience in Vietnam • Provide tender clarifications during bid process; • Use the two-envelope system (1st envelope contains technical, commercial and legal requirements, 2nd envelope contains bid price); • Clarify any exceptions to terms of draft project agreements such as remedies in case of default and levels of liquidated damages, and; • Conduct negotiations based only on the remaining few and limited open items. Despite the recommendations following Phu My 2-2, Phu My 3 was not competitively tendered. Additionally, the GOV support package favoured the BOT company by being more comprehensive than Phu My 2-2 and covering investor agreed rights. If anything, the GOV support package should have been weaker because the country’s credit rating was unchanged from when Phu My 2-2 was done. Phu My 3 had Phu My 2-2 as a precedent, which should have provided the lenders and investors with more comfort. CASE STUDY Comparison between Pahuta Power Project (Indonesia) and Tri Energy’s Combined Cycle Power Plant (Thailand) The importance of ICB can be demonstrated through the comparison of CalEnergy’s Patuha Power project in Indonesia and the Tri Energy power facility in the Ratchburi Province in Thailand. The Patuha Power Project was a 400 MW negotiated plant that was terminated in 1998 following the cancellation of contracts and the inability to withstand the pressures of the Asian financial crisis. Tri Energy’s 700 MW combined cycle power facility in Thailand was procured in 1996 using ICB. The successful bidder was the consortium comprising Texaco, Black and Veatch and BANPU Gas Power Limited who formed Tri Energy Company (TECO) and successfully commissioned the plant in 2000. In comparing these two projects, one of the principal differences was the use of different procurement methods. Direct negotiation with a sole tenderer, as used on CalEnergy’s Patuha Project, results in a lack of competitive tension. In this example, fewer parties competed for this contract which meant there was less incentive for the bids to be competitive and provided a significant bidding advantage to CalEnergy. However, following an investigation by the Ministry of Finance in the post Suharto era58, the CalEnergy bid was accused of lacking legitimacy due to corruption. Consequently, contracts with PLN (Persero), the Indonesian national utility and offtaker, were cancelled and the project was terminated. If the project had been competitively tendered, it would have been more likely to be free of corruption and in operation today. An open bidding process fosters competition usually with positive results for both Governments and the end-users. This process was the procurement method used for the power project in the Ratchburi Province in Thailand which was awarded to the Tri Energy consortium. Competition, predictability, transparency, and risk reduction were key attributes of this procurement process and these factors were influential in ensuring the successful and cost effective completion of this project. 58 http://www.eca-watch.org/problems/corruption/bosshard5_indon_nov2000.html E-4 The World Bank / PPIAF / MOIT 6/20/2009 E: Thermal Generation BOT Experience in Vietnam Competition The IPP Program In Thailand during the mid-1990s, which included the TECO project, fostered significant levels of competition. The first phase of this program led off with a highly competitive public tender, attracting 88 bids from 50 participants who offered 39,000MWs of firm, base load power plants. As a result of this program, the Electricity Generating Authority of Thailand (EGAT) selected seven winning bidders to supply over 6,000 MWs of power with commercial operating dates from 1999 to 2003. Overall, this tender program resulted in the submission of competitive proposals and the procurement process was fully controlled by EGAT. Predictability The use of standardized tender and evaluation processes including model bidding documentation are central to ensuring a predictable procurement process. Potential bidders are encouraged to submit more accurate and competitive proposals, as additional margins for risk are generally not required. For the IPP Program in Thailand, EGAT used a standardized tender process that included providing model documentation to all prequalified bidders and applying a standardized evaluation criteria to all proposals received. As a result, the tender process was more predictable and offered less of a risk for those submitting proposals. Bidders had more assurance in the bid processes and were able to submit more competitive tenders. Additionally, the costs associated with having to draft customized documents for individual projects is high and the submissions are also less comparable. Model project documentation can reduce the expense and time associated with the tendering process resulting in greater numbers of bidders and more competitive proposals. As submissions using standardized documentation, continuity between tenders is maintained across keys aspects of the project. When projects are negotiated on a direct basis, key documentation is usually drafted by the developer and as such, is more developer friendly. As a result, power purchasers have to do more work to achieve a better balance in documentation and often they do not have the resources and skills to achieve that balance. For the Patuha project, it is likely that the absence of model documentation resulted in a higher tariff. Prior to the project’s termination, CalEnergy negotiated a tariff of 7.25 US c per kWh59. In contrast, the TECO tariff is set at 3.5 US c per kWh, 52% lower than Patuha 60. Even though the two projects have significant foundational and regional differences, CalEnergy’s US 7.25 c per kWh was still 24% above the international IPP wholesale average of US 5.5 c per kWh. However, the Patuha project was geothermal project, with fundamentally different characteristics and risks, hence cost comparisons between the two projects are difficult. Transparency Direct negotiation also has the propensity for increased levels of corruption. As it is an individualized process, direct negotiation lacks the transparency and accountability 59 www.cfa.institute.com/cfaprogram/ 60 http://findarticles.com/p/articles/mi_qa3715/is_199902/ai_n8852036 E-5 The World Bank / PPIAF / MOIT 6/20/2009 E: Thermal Generation BOT Experience in Vietnam to other bidders who would otherwise have the motivation to bring suspected corruption to light. Alternatively, all bidders are scrutinizing the proceedings of ICB and corrupt activities would be more evident. The ICB procurement approach is designed to encourage participation by many tenderers which increases the level of accountability. The involvement of many parties leads to more requests for openness and for the procurement process to be made public. The procurement process involving TECO consisted of public disclosures, pre bid conferences, bidder meetings, bids being opened in public, and procedure reviews at the end of the process. By contrast, CalEnergy’s direct negotiation for the Patuha project required none of the above, resulting in a far lower level of accountability. Risk Reduction Potential risks in the procurement process are significantly reduced by employing ICB. ICB requires clear policy to be incorporated though the project planning and selection process resulting in procurement documents that are consistent with policy and bankable. For the Patuha project, failure to produce documents that were bankable was, in part, attributable to the direct negotiation method employed. A lack of pressure from either side to create policy and documentation that was clear and bankable resulted in negotiations that were unable to reach financial close. By comparison, TECO’s negotiations with EGAT and the use of model documents that had been proven to be bankable gave both parties a greater assurance of financial close. Even though CalEnergy’s Patuha and Tri Energy projects are based in different environments, the consequences of employing differing procurement methods are clear. ICB provided EGAT and TECO with a clear, transparent and competitive process that reached financial close and the project is operational today. On the other hand, Patuha, followed a path of direct negotiation that did not foster best practice or provide a bid that would benefit the people of Indonesia. The project was terminated and the ensuing arbitration was expensive for the country. E.6 CONCLUSIONS AND RECOMMENDATIONS Phu My 2-2 and Phu My 3 are both gas fired projects that buy gas from PVN and supply capacity and energy to EVN. GOV entities have key interfaces with each project. in addition to gas-fired plant, some future thermal generation plant will, be coal-fired. It is unclear whether Vinacomin shall be the sole supplier of coal to those facilities (including imported coal) or whether project developers will be able to make their own arrangements. Even so, GOV interfaces will continue to be crucial to projects despite competition being introduced to the generation market. Phu My 2-2 was competitively tendered whereas Phu My 3 was not. Of the two projects, Phu My 3 had a more developer friendly GOV guarantee package. It is possible this was because of the lack of competition. E-6 The World Bank / PPIAF / MOIT 6/20/2009 E: Thermal Generation BOT Experience in Vietnam The Phu My 2-2 tender documents were reportedly left vague so that the GOV could keep the possibility of negotiating better terms. This strategy had shortcomings because bidders were experienced in using gaps to extract an advantage and caused delays. Phu My 2-2 was tendered using a single envelope system with entire proposals being circulated around the GOV. This has two problems. First, the scope for information leakage and its associated problems is high. Secondly, there were delays and conflicts in the absence of a single decision making body. The Phu My 2-2 experience suggests that well defined RFPs are needed, evaluation should be as quantitative as possible and negotiations should be limited to a few open issues. Otherwise, the scope for projects to differ widely from what the GOV anticipates is great and projects will take longer than necessary to implement. Overall, the lessons learned from Phu My 2-2 still suggest that RFPs need to set out the GOV’s position very clearly. This includes providing detailed model agreements for at least the BOT Contract, PPA, Fuel Supply (subject to fuel being supplied by a GOV entity) and Land Lease. Prequalified bidders should be engaged early in the tendering process through pre-bid meetings and other means to allow information exchange and clarifications. A two envelope system should be employed and be evaluated by a single bid committee. Bidders should be permitted to propose deviations to agreements, but they should know they risk quantifiable penalties for doing so. Negotiations should then proceed with the preferred bidder on a limited number of open items. E-7 The World Bank / PPIAF / MOIT 6/20/2009 APPENDIX F: LEGAL FRAMEWORK FOR THERMAL GENERATION BOT PROCUREMENT The major statutes that relate to thermal generation BOT procurement are the Electricity Law61 and the BOT Decree62. This appendix summarizes the key points of both. Legislation that governs the establishment of institutions is then discussed in Chapter 4. F.1 THE LAW ON ELECTRICITY The Electricity Law provides the legal structure for: • Electricity development planning and investment; • Electricity markets; • The rights and obligations of organizations and individuals engaged in electricity related activities; and, • Electricity works. The implementation of several articles of the Electricity Law is described in Decree 10563. The decree regulates: • The development of large power plants of ‘particular significance. (Nuclear power plants and hydro-electric power plants which are designated by the Prime Minister); • The parties responsible for investment in the construction of power stations; • Electricity sale and purchase contracts; • The quality of electricity supplied; • Payment of electricity charges; • Electricity pricing; • Electricity activity licenses; and, • Electrical safety. Fair competition in electricity development is mandated under law. The State holds the monopoly for electricity transmission, national system regulation, construction and operation of large power plants of socio-economic, defence or security significance. The Electricity Law expressly encourages foreign organizations and individuals to participate in 61 Law on Electricity, No. 28-2004-QH11 62 Decree No.78/2007/ND-CP of May 11, 2007 on Investment in the Form of Build-Operate- Transfer, Build-Transfer-Operate or Build-Transfer Contracts 63 Decree No. 105/2005/ND-CP F-1 The World Bank / PPIAF / MOIT 6/20/2009 F: Legal Framework for Thermal Generation BOT Procurement electricity activities in Vietnam and to enter into joint ventures with domestic organizations and individuals. Project investors must comply with strict legal provisions on investment, construction and environmental protection. At the feasibility stage of a project, it is important to identify the relevant laws and regulations, obligations, risks, mitigating measures, regulatory agencies and approvals required, and the consequential costs and time involved in complying with the requirements of the laws. Projects that require the assistance of multilateral or bilateral development agencies for funding or credit enhancement may need to comply with the safeguard requirements set by these agencies, particularly relating to resettlement and environment. Projects that do not rely on funding by these agencies may be subject to lower standards although international commercial banks generally subscribe to the Equator Principles, which provide comparable safeguards. Regional banks are less likely to adhere to international standards regarding social and environmental matters, which might give the appearance of finance from these institutions being more cost effective. If Vietnamese legal requirements are not harmonized with the safeguard policies of multilateral or bilateral development agencies, some other mechanism may need to be put in place to achieve a level playing field. The use of land for electricity works is regulated by the Electricity Law, in conjunction with the Land Law64, including land use planning, notification, compensation, site clearance and resettlement. At various stages of a project, the Provincial People’s Committees (PPCs) are responsible for preparing and executing resettlement plans. Difficulties with co-ordination, timely action and provision of funds by either the PPC or the investor may result in delays and disputes. In principal, the land clearance process is the responsibility of the relevant State body with support from the investor. However, in practice, this mechanism does not function efficiently for many reasons, but principally those arising from the indemnification procedure in the relevant laws. Although the philosophy of the BOT Decree places responsibility for development activities on the investor, the assurance of the Contracting Authority that land will be made available with all the requisite substantive and formal requirements completed should be added to encourage investors. The law provides that the State shall regulate the operation of the electricity markets to ensure the sustainable development of the electric systems, including competitive electricity generation, wholesaling and retailing markets. Further, the 2006 Roadmap for the Establishment and Development of the Power Market in Vietnam65 states the competitive market will be developed in three phases. The first phase (2005-2014) is to set up an internal pilot market for EVN-owned power plants and develop and test market rules. The second phase (2015-2022) is the development of a single buyer-based competitive generation market with participation of non-EVN power plants. The third phase (after 2022) envisages a competitive retail market where customers can select their retail distributors. As a result, the term for any BOT contract for power generation may extend through to Phase 3. Accordingly, BOT contract design needs to adjust for the market as it develops. 64 Law on Land, No. 13-2003-QH11 65 Decision of the Prime Minister No. 26/2006/QD-TTg F-2 The World Bank / PPIAF / MOIT 6/20/2009 F: Legal Framework for Thermal Generation BOT Procurement The law states the national electric system regulating units (the System Operator, SO) and electricity market transaction administering units (the Market Operator, MO) may be established as part of electricity market development. The Market Operator is mandated to regulate and coordinate activities of electricity trading transactions and support services on the electricity markets. The transaction regulations relate to market price determination, as well as support service provision and charges. The law does not provide further descriptions on price determination and service provision. However, a generator should be protected from market risk for so long as it does not trade in the market. To the extent that the generator does participate in the market, price risk can be managed through a contract for differences (CfD) and possibly through change in law provisions. The Electricity Law deals with the sale, purchase and supply of electricity under termed contracts. This section includes the preparation of tender documents, negotiation and entering into contracts for power generation and purchase. Several provisions have an impact on contract pricing including the requirements of termed contracts for sale and purchase of electricity, e.g. parties, purpose, service standard and quality, rights and obligations of the parties, electricity price, payment obligations, contract termination, liability for breach etc, payment of price according to electricity price tables already approved by state bodies with no distinction between wholesale and retail, electricity measurement, power quality in terms of frequencies, contractual output and length of supply and cessation or reduction of supply of electricity. In BOT contracts, provision should be made for changes to laws which may have an impact on the sale of electricity by the power generators, provided that this increases their costs or reduces their revenues compared to what they would have enjoyed under their PPAs The GOV is mandated to set electricity price brackets and schedules within which the seller and buyer determine the price. A BOT contract needs to provide for changes to these brackets and schedules, to ensure continued compliance with the law, while not putting the developer in an adverse position, through appropriate change of law provisions or tariff adjustment provisions. One way of achieving this is to give, by statutory provision, overriding status to the price terms in a BOT contract, so long as the GOV is a contracting party. Electricity operation licenses are necessary to undertake electricity activities, including the generation, transmission and wholesaling of electricity. Appendix H of the draft Instruction sets out an indicative list of the approvals, permits and consents that are necessary for the construction and operation of thermal generation BOT projects. Lenders will require that all those licenses that need to be in place before the financial closing of a project have been obtained as a condition precedent to that closing. However, not all consents can be obtained by financial closing and, while lenders accept that this is the case, they will require that the project enterprise obtains consents at the earliest opportunity. Failure to do so could lead to an event of default. This is important in the context of the support that the GOV is required to give to the project enterprise, because if its lack of support indirectly causes a default, a governmental force majeure event could be caused. This would have implications for any risk mitigation guarantees that have been provided to the GOV by IFIs. Applicants are required to have feasible projects, schemes or dossiers to support the licence applications, and appropriately skilled administrators or managers for the specified activity. Decree 105 details the qualifications required by organizations and individuals involved in electricity generation. An electricity generation license will include the specifications of the installed capacity and operational processes, the energy source, F-3 The World Bank / PPIAF / MOIT 6/20/2009 F: Legal Framework for Thermal Generation BOT Procurement personnel training and safety requirements. The term of a generation licence shall not exceed 50 years. In addition, the Electricity Law provides for the regulation of electricity activities including; • The operation of competitive markets for granting, modifying, supplementing and withdrawing electricity activity licenses; • Prescribing generation and wholesale pricing schedules; • Determining capacity and output percentages through termed contract and spot dealing; and, • Settling complaints and disputes on electricity markets. F.2 THE BOT DECREE The BOT Decree was enacted in 2007, superseding two earlier decrees66,67. The BOT Decree provides the framework for BOT contracts across all sectors and does not contain specific provisions for the power sector. Supplementary legislation in the form of an order, regulation or circular would be required for this purpose. This framework provides for this legislation in the form of a draft Ministerial Instruction contained in another appendix of this report. The BOT Decree refers to the Law on Investment68, the Law on Construction69 and the Law on Enterprises70. However, in developing a conducive environment for BOT projects, there is a need for legislation which specifies the methods and procedures for procuring thermal generation BOT power plants. However, the Law on Tendering does not contain terms that apply to the selection of BOT projects. In part, this is because the Law on Tendering is designed for traditional government procurements rather then the procurement of service concessions. An appropriate model for the procurement of concessions like thermal generation BOTs should be instead be based on an international precedent. The Model Law on Procurement is recommended for this reason and relevant sections of the law have been incorporated in the Instruction.71 66 66 Decrees No. 02-1999-ND-CP and No. 62-1998-ND-CP 67 Decree No. 62/1998/ND-CP of August 15, 1998 Issuing the Regulations on Investments under the Form of BOT, BTO and BT Contracts Applicable to Foreign Investment in Vietnam 68 Law on Investment 59-2005-QH11 69 Law on Construction 11-2003-QH11 70 Law on Enterprises 60-2005-QH11 71 This Law regulates tendering activities for the select contractors for provision of consultancy services, for procurement of goods, and for construction and installation, for tender packages belonging investment and development projects financed by the State as to thirty (30) per cent or more, comprising new construction and investment projects, or upgrading and expansion of construction projects in which investment has already been made. F-4 The World Bank / PPIAF / MOIT 6/20/2009 F: Legal Framework for Thermal Generation BOT Procurement The BOT Decree provides for the establishment of IBWG comprised of representatives from state agencies. This group is responsible for deciding the criteria for selecting BOT counterparts and to assist with contract negotiations. The composition of the IBWG may give rise to a conflict of interest if, for example, a state agency were to be a bidder, or prospective bidder for a BOT. Neither the Electricity Law nor the BOT Decree provides detailed mechanisms for the prequalification of bidders. The Law on Tendering includes prequalification procedures but this law does not appear to apply to contracts for power projects. Nonetheless, a prequalification process is considered necessary for BOT tenders because it is internationally accepted practice. The appropriate mechanisms are described in the Instruction. There are three significant articles contained in the BOT Decree. Article 10 provides that state agencies shall organize domestic or international public bidding for projects, depending on the size of the project. The Instruction anticipates that international competitive bidding will be carried out for all thermal generation BOT projects. This is because all of these projects will be sizeable and will involve international investors. Certain exceptions to the public bidding requirements of the BOT Decree arise with regard to cases defined in Articles 11 and 12. Additionally, Articles 12 and 13 provide for direct negotiations and unsolicited bids. Direct negotiations may be held if, a pre-qualification exercise results in only one investor meeting the pre-qualification requirement, or the project needs to be executed to meet urgent demand, or in any other case as determined by the Prime Minister. Unsolicited bids are to be evaluated once comments have been obtained from relevant state agencies. The Instruction adds some precision to these requirements by requiring that projects are procured competitively except in very limited circumstances. The BOT Decree leaves scope for discussion as to the basis on which a particular project is chosen for competitive bidding. However, it is understood that relevant GOV agencies have decided upon the projects listed to be bid out competitively. There is the possibility for the list to be modified within the next three years. However, the manner in which projects are selected should be based on least-cost expansion principles as a first step. The manner in which those projects are procured should be the second step. A test needs to be established to identify those projects that will be developed by the public sector and those that will be developed privately. There should not necessarily be a distinction between domestic private investment (IPPs) and international private investment (BOTs). The BOT Decree requires a project proposal to be included in the RFP. The reason for this requirement is unclear as is the definition of a project proposal. In relation to the power sector, this may be a condition to provide a feasibility study ahead of negotiations, in a competitive BOT tendering environment. This issue may require further clarification in the legislation. The BOT Decree provides that state agencies shall invite domestic or international contractors (the Electricity Law specifically encourages joint ventures of domestic and foreign contractors)] to complete and submit project proposals and bidding dossiers to enable the selection of investors for project contracts. The BOT Decree does not provide details on how the bids are to be evaluated but these details are specified in the draft Instruction. It is foreseen that additional arrangements may need to be negotiated with project contracts. These would include: F-5 The World Bank / PPIAF / MOIT 6/20/2009 F: Legal Framework for Thermal Generation BOT Procurement • Land Tenure Agreements; • Fuel Supply Agreement • Power Purchase Agreement; • Borrowing of capital; and, • Asset pledge or mortgage. These arrangements would have to comply with the requirements and timeframes of the applicable specific laws such as the Land Law and Investment Law. While the Electricity Law and Decree 105 provide for licensing of electricity activities, there are many other consents required by national and local government. It is in the best interest of both parties for all consents to be obtained as efficiently as possible. While the risk and responsibility of obtaining consent should rest with the developer, the GOV can provide valuable assistance by listing the necessary consents and when they are required. An indicative list of consents that may be required at different stages of a thermal generation BOT power project is annexed as Appendix H in the Instruction. The Decision on Promulgating Regulations on Management of Investment and Construction of Independent Power Projects72 would apply to BOT projects by the definition contained in the Decision, but it is understood that the practice is and preference would be for this decision to apply to IPPS, and a separate self-contained legislative instrument put in place for generation BOT projects. Currently, it is further understood by the Consultant that in the absence of a particularised legal instrument applicable to BOTs, the provisions of the Decision are being used as benchmarks. F.3 INVESTMENT LAW The Investment Law came into effect in 2006 and aims to integrate the pre-existing principles for domestic and foreign invested companies. The law has made progress in unifying the systems, however regulatory burdens still exist for different types of investors. Foreign parties investing less than VND 300 billion must complete the investment registration process and obtain an Investment Certificate. Projects involving more than VND 300 billion must submit investment files for evaluation to the GOV. An additional assessment is applied to investment projects on the Conditional List of Restricted Sectors but electricity projects are not on the list. The maximum investment term for foreign invested projects is 50 years. This can be increased to 70 years in exceptional circumstances. F.4 CONCLUSIONS AND RECOMMENDATIONS The Electricity Law supported by Decree 105, and the applicable provisions of the BOT Decree are the principal statutes that would set the legal framework for thermal generation BOT projects. On the face of it, Decision No. 50 on IPPs could be considered to apply to 72 Decision No. 50-2002-QD-BCN - Promulgating Regulations on Management of Investment and Construction of Independent Power Projects F-6 The World Bank / PPIAF / MOIT 6/20/2009 F: Legal Framework for Thermal Generation BOT Procurement BOT projects but in reality it is aimed purely at IPP projects. There is not specific legislation aimed at thermal generation BOT projects, but the Instruction is designed to meet this purpose. While the Law on Tendering might apply to BOT projects, it is understood that this law is not intended for application to BOT projects. However, in preparing a model framework for the tendering of thermal generation BOT projects, it would be appropriate to harmonize the relevant provisions of the model framework with the existing law as far as possible but more importantly, with international best practice. Electricity project investors are required to strictly comply with legal provisions on investment, construction and environmental protection. It is therefore important to identify at an early stage the applicable laws and regulations, and the obligations contained therein, consequent risk to the project, mitigation measures, regulatory agencies and approvals required, as well as the costs involved in mitigation and compliance. A particular issue to bear in mind would be the necessity to harmonize Vietnamese and other applicable international standards on environmental protection, resettlement and other social safeguard requirements. This is particularly relevant in order to provide a level playing field for obtaining project finance. The Electricity Law, BOT Decree and Land Law have various requirements, the satisfaction of what needs to be determined by different agencies. Unless these requirements are harmonized, projects will take longer and cost more than they otherwise could. Most importantly, the Contracting Authority needs to ensure that land will be made available with all the requisite substantive and formal requirements completed to encourage investors. The GOV is mandated to fix the price brackets and electricity price tables for the electricity markets, within which the seller and buyer may mutually determine the price of electricity. This raises the possibility of an amendment to the price brackets and tables which could adversely affect the agreed tariff in a BOT project. Appropriate provision in legislation and the bidding documents should be made to isolate the agreed tariff and tariff adjustment mechanisms from these price brackets and tables. While the Electricity Law and Decree 105 provide for licensing of electricity activities, there are many other consents required by national and local government. It is in the best interest of both parties for all consents to be obtained as efficiently as possible. While the risk and responsibility of obtaining consent should rest with the developer, the GOV can provide valuable assistance by listing the necessary consents and when they are required. F-7 The World Bank / PPIAF / MOIT 6/20/2009 APPENDIX G: DRAFT INSTRUCTION FOR THERMAL GENERATION BOT DEVELOPMENT This appendix presents the draft Ministerial Instruction for Thermal Generation BOT Development. This instruction would be subject to the BOT Decree and the MPI Instructions that is currently under preparation for implementation of BOT projects in general. G-1 The World Bank / PPIAF / MOIT 6/20/2009 DRAFT MOIT Instructions for Implementing Thermal Generation BOT Projects PA Consulting Group Level 4 Prepared by: 369 Queen St Auckland 1010 New Zealand Tel: +64 9 306 8895 Fax: +64 9 306 8896 www.paconsulting.com Version: 1.0 FOREWORD The purpose of these draft Instructions for Implementing Thermal Generation BOT Projects (“Instructions�), to be issued by the Minister of Industry and Trade, is to set out suggested guidelines and procedures for procuring thermal generation BOT projects in Vietnam. The Instructions accompany and supplement a Framework for Competitive Tenders of Thermal Generation BOT Projects (Framework). The main objective of the Framework is to guide the implementation of existing legislation, specifically the BOT Decree and the MPI Circular currently under development for BOT implementation in general, for thermal generation BOT projects in the Vietnamese power sector. These Instructions balance existing legislation in Vietnam and the needs of investors by meeting relevant international standards. In doing so the Instructions aim to maximize competition, create a predictable setting for foreign private investors, streamline and standardize the thermal generation BOT bidding process, and achieve bankable and efficient bidding documents. The Instructions do not include draft model bidding documents. They contain guidelines and principles for the drafting of these documents instead. They also provide a standardized bid process for procuring future thermal generation BOT projects. To ensure that the Instructions are based on standardized documents that are internationally acceptable, the UNCITRAL Model Legislative Provisions on Privately Financed Infrastructure Projects (2004) has been used as a base document. The Model Legislative Provisions refer to the UNCITRAL Legislative Guide on Privately Financed Infrastructure Projects (Legislative Guide) and the UNCITRAL Model Law on Procurement of Goods, Works and Services (Model Procurement Law). The Legislative Guide and Model Procurement Law and also the Government Procurement Agreement of the World Trade Organisation have been considered in drafting these Instructions. The Instructions aim to integrate with legislation prevailing in Vietnam. Footnotes have been added to identify conflicts between the Model Legislative Provisions, Legislative Guide or the Model Procurement Law. The Framework defers to international standards where such conflicts arise. Where legislation in Vietnam is silent on any matter, then the provisions of the model UNCITRAL documents are applied. The model UNCITRAL documents are, however, not specific to thermal generation BOT projects, so the Consultant has added detail in this regard. These Instructions are designed to be consistent with the principles of procurement that need to be met if thermal generation BOT projects are to receive financial support from international financial institutions such as the World Bank or the Asian Development Bank. i 6/20/2009 TABLE OF CONTENTS Foreword 1. General provisions 1.1 Preamble 1.2 Definitions 1.3 Eligible Thermal Generation BOT Projects 1.4 Contracting Authority 1.5 Procuring Authority 1.6 Monitoring Authority 2. Selection of the Project Enterprise 2.1 Rules Governing the Selection Proceedings 2.2 Pre-qualification of Candidates 2.3 Procedures for Requesting Proposals 2.4 Negotiation of Project Contracts without competitive Bidding procedures 2.5 Unsolicited proposals 2.6 Miscellaneous provisions 3. Contents and Implementation of the Project Contract 3.1 Contents and Implementation of the Project Contract 3.2 Governing Law 3.3 Organization of the Project Enterprise 4. Duration, extension and termination of the Project Contract 4.1 Duration and extension of the Project Contract 4.2 Termination of the Project Contract 4.3 Arrangements Upon Termination or Expiry of the Project Contract 5. Settlement of Disputes 5.1 Disputes between the Contracting Authority and the Project Enterprise 5.2 Disputes Involving the Thermal Generation BOT Facility’s Power Purchaser 5.3 Other Disputes APPENDICES APPENDIX A: Model Invitation to Register Expressions of Interest APPENDIX B: Model Pre-qualification document APPENDIX C: Model Request for Proposals APPENDIX D: Model BOT Contract APPENDIX E: Model Power Purchase Agreement APPENDIX F: Model Fuel Supply Agreement APPENDIX G: Guarantee Agreement APPENDIX H: List of Approvals, Permits and Consents ii 6/20/2009 1. GENERAL PROVISIONS 1.1 PREAMBLE Pursuant to Decree No. 55/2003/ND-CP of the Government dated May 28, 2003 on functions, duties, powers and organizational structure of the Ministry of Industry and Trade; Pursuant to the Electricity Law 28/2004/QH-11 of the Government dated 3 December 2004 on electricity development planning and investment and other matters. Pursuant to the Law on Enterprises 60-2005-QH11 dated 29 November 2005. Pursuant to Decree 78/2007/ND-CP of the Government dated 11 May 2007 on investment in the form of Build-Operate-Transfer, Build-Transfer-Operate or Build –Transfer Contracts. Pursuant to Circular [ /2007/TT – BKH] of the Government dated [ ] 2008 regarding instructions on implementation of Decree 78/2007/ND-CP dated May 11, 2007 on Investments under BOT, BTO and BT agreements. The Ministry of Industry and Trade (“Ministry�) provides the following Ministerial Instructions for competitive tenders of thermal generation BOT projects. The Ministry considers it desirable to establish a favorable legislative framework to promote and facilitate the implementation of thermal generation BOT projects by enhancing transparency, fairness and long-term sustainability and removing undesirable restrictions on private sector participation in the development and operation of those projects; The Ministry considers it desirable to further develop the general principles of transparency, economy and fairness in the award of BOT contracts for certain thermal generation projects through the establishment of specific procedures for the award of such projects; [Other objectives that the GOV might wish to state]; 1.2 DEFINITIONS For the purposes of these Instructions: “Bidder� or “Bidders� means persons, including groups thereof, that have been pre- qualified in accordance with Article 2.2 hereof; “Bidding Documents� means the Request for Proposals, draft Project Contract, draft Power Purchase Agreement, draft Fuel Supply Agreement, other draft Project Agreements, minimum technical requirements of the facility, a grid code and other project information including feasibility studies, interconnection studies, environmental and social impact studies and so forth; 1-3 6/20/2009 “BOT Decree� means Law No. 78/2007/NDCP of the Government dated 11 May 2007 on investment in the form of Build-Operate-Transfer, Build-Transfer-Operate or Build – Transfer Contracts; “Candidate’ or “Candidates� means persons, including consortia formed in accordance with Article 2.2.2, that have registered expressions of interest in accordance with Article 2.2.3; “Contracting Authority� means the competent state agency that has the power to enter into a Project Contract for the implementation of a Thermal Generation BOT Project under the provisions of Article 1(5) of the BOT Decree; “Directly Negotiated Proposal� means any Thermal Generation BOT Project that is negotiated or awarded subject to Article 11 of the BOT Decree and in accordance with Article 2.4 hereof; “Fuel Supply Agreement� means the agreement substantially in the form set out in Appendix F hereto between the Project Enterprise and either Vinacomin or other parties for coal fired Thermal Generation BOT projects or PetroVietnam for gas fired Thermal Generation BOT projects; “Inter-branch Working Group� means the Inter-branch Working Group for generation established in accordance with Article 6 of the BOT Decree by the Ministry of Industry and Trade; “Invitation to Register Expressions of Interest� means an invitation to register expressions of interest advertised by the Procuring Authority in accordance with Article 2.2.3; “Monitoring Authority� means the entity appointed to monitor the procurement of Thermal Generation BOT Projects in accordance with Article 1.6 hereof; “MPI Circular� means Circular [ /2007/TT – BKH] of the Government dated [ ] 2008 regarding instructions on implementation of Decree 78/2007/ND-CP dated May 11, 2007 on Investments under BOT, BTO and BT agreements. “Offtake Authority� means the entity nominated by the Minister of Industry and Trade to enter into a PPA with a Project Enterprise; “Power Purchase Agreement� means the agreement substantially in the form set out in Appendix E hereto between the Project Enterprise and the Offtake Authority, an entity owned or controlled by the Socialist Republic of Vietnam relating to part or all of the capacity and electrical output of the Thermal Generation BOT Facility; “Project Agreements� means the Project Contract, Power Purchase Agreement, Fuel Supply Agreement and other agreements where the counterparty to each agreement is an entity owned or controlled by the Socialist Republic of Vietnam; “Procuring Authority� means the entity described in Article 1.5 hereof; “Project Contract� means the mutually binding agreement between the Contracting Authority and the Project Enterprise that sets forth the terms and conditions for the implementation of a Thermal Generation BOT Project, as contemplated in Chapter IV of the BOT Decree; 1-4 6/20/2009 “Project Enterprise� means the person that carries out a Thermal Generation BOT Project under a Project Contract entered into with the Contracting Authority as provided under Article 1(10) of the BOT Decree; “Thermal Generation BOT Facility� means physical facilities and systems that directly or indirectly provide electrical capacity and electricity generation services to the general public as contemplated in Article 3(e) of the BOT Decree; “Thermal Generation BOT Project� means the design, construction, development and operation of new Thermal Generation BOT Facilities or the rehabilitation, modernization, expansion or operation of existing thermal generation facilities as contemplated in Article 1(7) of the BOT Decree; “Unsolicited Proposal� means any proposal relating to the implementation of a Thermal Generation BOT Project that submitted in accordance with Article 12 of the BOT Decree and in accordance with Article 2.5 hereof; [other definitions that the GOV might wish to include] 1.3 ELIGIBLE THERMAL GENERATION BOT PROJECTS1 1.3.1 Planning Agency and Planning Sub-Agent (i) The MOIT is responsible for planning the electricity system of Vietnam and it shall be designated as the Planning Agency. (ii) The MOIT shall delegate certain responsibilities to another organization to assist in the planning process (“Planning Sub Agent�). The Institute of Energy is currently the MOIT’s Planning Sub Agent but the Planning Agency may nominated any other entity (including itself) to perform this function, provided it is qualified to do so. 1.3.2 Least Cost Expansion Planning (i) The Planning Sub Agent shall use an internationally acceptable system planning tool such as the IAEA WASP2 program to model Vietnam’s electricity system expansion on a least cost basis for the MOIT. The program shall serves two main purposes: (a) to help the Planning Sub Agent determine the chronological development of the generation system for up to [thirty] years and (b), to reach a decision as to the most suitable fuel/technology in the long term. (ii) The optimal plan shall be evaluated in terms of minimizing discounted total costs. To do so, load forecasts, characteristics of existing thermal and hydroelectric plant, hydrological conditions, the cost of the energy not served and other factors determined by the Planning Agency shall be calculated. 1 Once a project has been announced as a competitive procurement, that project should not be re-categorized as one that can be procured on a negotiated basis. 2 International Atomic Energy Agency - Wien Automatic System Planning software 1-5 6/20/2009 (iii) Having determined which projects should be developed and in what order, the Planning Agency shall decide which of those projects shall be developed publicly and which shall be developed privately. To reduce the vulnerability of privately developed projects not being successfully implemented, the Planning Agency shall consider parallel public and private expansion plans. (iv) Having identified those projects to be developed by the private sector3, projects shall then be shortlisted for IPP or BOT development. Selection criteria shall include their suitability for limited recourse project financing and competitive bidding. 1.3.3 Selection of Thermal Generation BOT Projects (i) The Planning Agency shall take into account the ability of a project to attract private finance when determining which thermal generation projects shall be procured privately. The following factors shall be considered : • The project not being unduly exposed to market risk; • The project being base load; • The generation technology using gas or coal; • The project not being located in an area that is sensitive to the GOV; • The project being located close to load centres and where there is demonstrable growth; • The project having a capital cost of at least USD 200 million to justify financing costs; • Transmission and fuel issues being manageable; • Realistic time allowance for procurement, project development and construction. (ii) In determining which projects are to be developed as IPPs and which as Thermal Generation BOT Projects, the Planning Agency shall decide whether (a) the domestic market will have first priority until domestic financing capacity is reached or (b) projects that are best suited to financing on a BOT basis will be selected first and the rest shall be allocated to domestic developers. Alternatively, the Planning Agency may take a hybrid approach whereby projects that are attractive BOT candidates are allocated between BOTs and a GOV nominee4, with the balance being undertaken by domestic developers. 3 This includes publicly owned commercial organizations in Vietnam, such as SOEs excluding EVN. 4 Such as EVN 1-6 6/20/2009 1.3.4 Suitability for Competitive Bidding The Planning Agency shall recommend that projects selected to be developed as a Thermal Generation BOT project shall be awarded by competitive means as a first preference and in accordance with these Instructions. 1.4 CONTRACTING AUTHORITY The Ministry of Industry and Trade shall be the Contracting Authority. The role of the Contracting Authority shall be to: • Identify projects to be developed as Thermal Generation BOT Projects; • Promote selected projects to prospective Candidates; • Provide prospective Candidates and other interested parties with information regarding planned Thermal Generation BOT Projects; • Make available to Candidates and other interested parties all laws and regulations of general application to Thermal Generation BOT Projects; • Specify and confirm investment incentives for Thermal Generation BOT Projects, in accordance with the laws of Vietnam; • Stipulate licenses, approvals and permits required under the Project Contract and other Project Agreements; • Procure Thermal Generation BOT Projects in accordance with the procurement procedures specified in these Instructions; • Lead negotiations of the Project Contract with the selected Bidder; • Co-ordinate negotiations of other Project Agreements with the respective Government counterparties thereto; • Engage, manage and co-ordinate specialized financial, legal and technical advisers in the evaluation of proposals made by Bidders and in the negotiation of Project Agreements; • Sign the Project Contract on behalf of the Socialist Republic of Vietnam; and, • Administer the Project Contract during its term. 1.5 PROCURING AUTHORITY The Contracting Authority shall delegate certain responsibilities for procuring Thermal Generation BOT Projects to the Inter-branch Working Group (Procuring Authority). The 1-7 6/20/2009 Procuring Authority shall carry out the functions provided within these Instructions, in accordance with rules of operation to be determined5. 1.6 MONITORING AUTHORITY A monitoring authority shall be engaged as a body that is independent of the procurement process to review the procurement proceedings for all Thermal Generation BOT Projects (Monitoring Authority). The Electricity Regulatory Authority of Vietnam shall be the Monitoring Authority. The Monitoring Authority shall advise the Minister of Industry and Trade with respect to Thermal Generation BOT Project procurement policies. The Monitoring Authority shall set procedures and rules governing procurement of those projects and monitor each procurement in accordance the laws of Vietnam. The Monitoring Authority shall recruit and manage independent assessors and advisors as necessary and it shall hear and settle disputes as provided in these Instructions. In particular, the Monitoring Authority shall review procurement proceedings to ensure probity at all of the following key stages or, in its sole discretion, on a continuous basis. Key stages shall include: • Development of and revisions to the thermal generation BOT procurement framework; • Project selection; • Development of model bidding documents and project agreements; • Pre-qualification; • Management of communications with Bidders; • Submission of bids; • Opening and evaluation of bids; and, • Negotiations and contract award. 5 The Inter-branch Working Group currently operates under rules provided in a Ministerial Decision, which require review to determine whether the rules need amending so that the Inter-branch Working Group can operate as the Procuring Authority as contemplated in these Instructions. 1-8 6/20/2009 2. SELECTION OF THE PROJECT ENTERPRISE 2.1 RULES GOVERNING THE SELECTION PROCEEDINGS The selection of the Project Enterprise for each Thermal Generation BOT Project shall be conducted in accordance with Articles 2.1 through to 2.6. 2.2 PRE-QUALIFICATION OF CANDIDATES 2.2.1 Pre-qualification Criteria In order to qualify for the selection proceedings, Candidates must meet objectively justifiable criteria that the Procuring Authority considers appropriate in the particular proceedings, as stated in the pre-qualification documents. These criteria shall include at least the following: (i) Adequate professional and technical qualifications, human resources, equipment and other physical facilities as necessary to carry out all the phases of the project, including design, construction, operation and maintenance. (ii) Sufficient ability to manage the financial aspects of the project and capability to sustain its financing requirements; and, (iii) Appropriate managerial and organizational capability, reliability and experience, including previous experience in operating similar thermal generation facilities. The model pre-qualification document provided as Appendix B defines the minimum pre- qualification criteria that must be met by Candidates. 2.2.2 Participation of Consortia (i) The Procuring Authority, when first inviting the participation of Candidates in the selection proceedings, shall allow them to form bidding consortia. The information required from members of bidding consortia to demonstrate their qualifications in accordance with Article 2.2 shall relate to the consortium as a whole. (ii) Should a Candidate be a consortium it shall identify a lead member who shall undertake to maintain not less than a percentage (as prescribed by the Procuring Authority) of the required equity for the prospective Project Enterprise for a period of not less [5] years from the commissioning of the Thermal Generation BOT Facility. (iii) The lead member of a consortium may not withdraw from that consortium unless the consortium as a whole does not submit a proposal. (iv) Members of a consortium, other than the lead member, may withdraw from the consortium, provided the remaining consortium is qualified in accordance with Article 2.3.10. 2-9 6/20/2009 (v) A consortium may add further members provided the new consortium is qualified in accordance with Article 2.3.10. (vi) Unless otherwise authorized by the Procuring Authority and stated in the pre- qualification documents, each member of a consortium may participate, either directly or indirectly, in only one consortium at the same time. A violation of this rule shall cause the disqualification of the consortium and of the individual members6. (vii) When considering the qualifications of bidding consortia, the Procuring Authority shall consider the individual capabilities of each of the consortium members and assess whether the combined qualifications of the consortium members are adequate to meet the needs of all phases of the project. 2.2.3 Invitation to Register Expressions of Interest (i) The Procuring Authority7 shall engage in pre-qualification proceedings with a view to identifying Candidates that are suitably qualified to implement the Thermal Generation BOT Project concerned. Pre-qualification is mandatory for Thermal Generation BOT Projects estimated to require a capital investment exceeding VND 300 billion8. (ii) The Procuring Authority shall solicit applications to pre-qualify by publishing an Invitation to Register Expressions of Interest in Cong Bao, the official gazette of the Government of Vietnam. At the same time, the Invitation to Register Expressions of Interest shall be published in other print or electronic publications, in a language customarily used in international trade including a newspaper with wide international circulation or in a relevant trade publication or technical or professional journal of wide international circulation.9 A sample advertisement is contained in Appendix A. The minimum content of the advertisement would include: (a) The name and address of the Procuring Authority; (b) The nature and capacity of the Thermal Generation BOT Facility, the location of the site if known and reference to the procurement being conducted in accordance with the BOT Decree and these Instructions; (c) When the Thermal Generation BOT Facility is expected to be commissioned; (d) The criteria and procedures to be used for evaluating the qualifications of Candidates; 6 While this is a standard provision in the UNCITRAL model legislative provisions, it does not encourage full competition. In particular, as suitably qualified domestic investors are limited in Vietnam, this limitation could unduly restrict the number of bidders. However, it does open the possibility of a strong domestic bidder simply “shopping around� bidders for the best terms. The restriction also reduces the chances of bidding giving the appearance of competition. It is suggested that this provision be retained as provided but discussed during the Workshop. 7 The Contracting Authority need not be the procuring entity. This could be the inter-branch working group or a subset thereof. A decision on this is needed, bearing in mind the conflicts of interest that some working group members might have. 8 This monetary limit is imported from Article 32(1)(a) of the Law on Procurement. It amounts to just USD 20 million and as thermal generation BOTs will have much higher levels of investment, then this could be amended such that all projects must pre-qualify. 9 This paragraph is largely imported from the UNCITRAL Model Procurement Law. 2-10 6/20/2009 (e) A declaration, that may not later be altered, that Candidates may participate in the procurement proceedings regardless of nationality, or a declaration that participation is limited on the basis of nationality (such as a restriction to domestic candidates only); (f) The price, if any, charged by the Procuring Authority for the pre- qualification documents; (g) The currency and means of payment for the pre-qualification documents; (h) The means of obtaining the pre-qualification documents and the place from which they may be obtained; (i) The language or languages in which the pre-qualification documents are available; (j) The place and deadline for the submission of Registrations of Expressions of Interest; and, (iii) Parties interested in registering expressions of interest to pre-qualify for the Thermal Generation BOT Project concerned shall be allowed [45 days] from the date on which an Invitation to Register Expressions of Interest has been published in which to register their interest. 2.2.4 Pre-qualification Documents The Procuring Authority shall provide a set of pre-qualification documents to each party that registers an expression of interest to pre-qualify for the Thermal Generation BOT Project in accordance with Article 2.2.3 and that pays the price, if any, charged for those documents. The price that the Procuring Authority may charge for the pre-qualification documents shall reflect only the cost of printing them and providing them to the registered parties. (i) The Pre-qualification documents shall be based on the model pre-qualification documents set out in Appendix B and shall include as a minimum 10: (a) Instructions for preparing and submitting pre-qualification applications which shall include; • Any documentary evidence or other information that must be submitted by Candidates to demonstrate their qualifications. Those qualifications should include the financial capability of the Candidate; the experience and track record of the Candidate the management structures and operational capabilities of the Candidate and any particular legal requirements; • The criteria and procedures to be used for evaluating the qualifications of Candidates in accordance with Article 2.2.1; 10 Correlate with BOT Decree and the Law on Procurement. 2-11 6/20/2009 • Any other requirements that may be established by the Procuring Authority in conformity with these Instructions regarding the preparation and submission of applications to pre-qualify and to the pre-qualification proceedings; • The manner and place for the submission of applications to pre-qualify and the deadline for the submission, expressed as a specific date and time and allowing sufficient time for Bidders to prepare and submit their applications, taking into account the reasonable needs of the Procuring Authority; • [Whether the Procuring Authority intends to request only a limited number of pre-qualified Bidders to submit proposals upon completion of the pre-qualification proceedings in accordance with [Article 2.2.5(iii)], and, if applicable, the manner in which this selection will be carried out;11] • Whether the Procuring Authority intends to require the successful Bidder to establish an independent legal entity established and incorporated under the laws of Vietnam in accordance with Article 3.312. (b) An information memorandum, which shall include: • A description of the Thermal Generation BOT Facility; • An indication of other essential elements of the Thermal Generation BOT Project, such as the services to be delivered by the Project Enterprise, the financial arrangements sought by the Contracting Authority (for example, the obligations of the Socialist Republic of Vietnam to guarantee the payment performance of the Offtake Authority; • A summary of the principal required terms and conditions of the Project Contract and other Project Agreements to be entered into as a result of the procurement proceedings; • Where already known, a summary of the main required terms of the Project Contract to be entered into; • Where already known, a summary of the main required terms of the [Power Purchase Agreement13] and other Project Agreements14 to be entered into. 11 Refer also Article 2.2.5(ii). This provides for the Procuring Authority to select a subset of pre-qualified bidders if, for example, it believes that there will be a very large number of proposals that would be difficult to evaluate. While there are some advantages in taking this approach, the provision could be abused if the procuring authority wishes to “pick winners�. Our suggestion would be that Article 2.2.5 (ii) be deleted. 12 The RFP will need to indicate which of the different ways in which project assets can be held is to be used, noting that the structure will need to accommodate the reasonable needs of lenders who will need to perfect their security. 13 This term is general here and encompasses contractual instruments such as Contracts for Differences. 14 This could be defined to cover the PPA, fuel supply agreement, land lease, water supply and other agreements that the GOV controls. 2-12 6/20/2009 2.2.5 Selection of Bidders (i) The Procuring Authority shall make a decision with respect to the qualifications of each Candidate that has submitted an application for pre-qualification. In reaching that decision, the Procuring Authority shall apply only the criteria that are set forth in the pre-qualification documents. (ii) Subject to [Article 2.2.5(iii)], all pre-qualified Candidates shall become Bidders and be invited by the Procuring Authority to submit proposals in accordance with Article 2.3. (iii) [Notwithstanding paragraph (i), the Procuring Authority may, provided that it has made an appropriate statement in the pre-qualification documents to that effect, reserve the right to request proposals upon completion of the pre-qualification proceedings only from a limited number of Bidders that best meet the pre- qualification criteria. For this purpose, the Procuring Authority shall rate the Candidates that meet the pre-qualification criteria on the basis of the criteria applied to assess their qualifications and draw up the list of Bidders that will be invited to submit proposals upon completion of the pre-qualification proceedings. In drawing up the list, the Procuring Authority shall apply only the manner of rating that is set forth in the pre-qualification documents. For the avoidance of doubt, the manner of rating shall be made on a non-discretionary pass-fail basis.]15 (iv) The Procuring Authority shall promptly notify each Candidate submitting an application to pre-qualify whether or not it has been pre-qualified and shall make available to any member of the general public, upon request, the names of all Bidders that have been pre-qualified. Only Bidders that have been pre-qualified are entitled to participate further in the procurement proceedings. (v) The Procuring Authority shall upon request communicate to Candidates that have not been pre-qualified the grounds therefore, but the Procuring Authority is not required to specify the evidence or give the reasons for its finding that those grounds were present. (vi) [Notwithstanding paragraph (iii), all Bidders] shall thereafter be invited by the Procuring Authority to purchase a bid package and submit proposals. 2.3 PROCEDURES FOR REQUESTING PROPOSALS 2.3.1 Provision of Bidding Documents (i) The Procuring Authority shall provide a set of the Bidding Documents to each Bidder that pays the price, if any, charged for those documents. (ii) A Procuring Authority shall provide a set of the Bidding Documents to each that pays the price, if any, charged for those documents. The price that the Procuring Authority may charge for the Bidding Documents shall reflect only the cost of printing them and providing them to Bidders. 15 Need to consider here a failed bidding rule so that if less than [2] prospective bidders pre-qualify, then the bidding is declared a failure. This would circumvent a constructed exclusive negotiation arrangement under Article 11 of the BOT Decree. 2-13 6/20/2009 2.3.2 Content of the Request for Proposals Each Request for Proposals shall be substantially in the form set out in Appendix C and shall include: (i) An Invitation Letter (ii) Instructions to Bidders, which shall include:16 • The name and address of the Procuring Authority; • The language or languages in which proposals are to be prepared; • The manner, place and deadline for the submission of proposals; • If the Procuring Authority reserves the right to reject all proposals, a statement to that effect should be made; • Whether the Procuring Authority is receptive to receiving alternative proposals as to various possible ways of meeting its needs; • If Bidders are permitted to submit proposals for only part of the Thermal Generation BOT Facility, including a description of the portion or portions for which proposals may be submitted17; • The currency or currencies in which the components of the proposed tariff may be formulated or expressed and either the exchange rate that will be used for the conversion of proposal prices into Vietnamese Dong or a statement that the rate for Vietnamese Dong published by a specified financial institution prevailing on a specified date will be used; • The manner in which the proposed tariff and its components is to be formulated or expressed, including a statement as to whether the proposed tariff is to cover elements other than the cost of the services, such as contributions toward services that might be required for the Offtake Authority or its nominee to connect to the Thermal Generation BOT Facility; • If alternatives to the characteristics of the services, contractual terms and conditions or other requirements set out in the Bidding Documents are permitted, a statement to that effect and a description of the manner in which alternative proposals are to be evaluated and compared; • The name, functional title and address of one or more officers or employees of the Procuring Authority who are authorized to communicate directly with and to receive communications directly from Bidders in connection with the procurement proceedings, without the intervention of an intermediary18; 16 One of the major shortcomings of competitive tenders for infrastructure projects is that the debt providers are not present at the time that bids are made. To reduce the risk of project agreements being reopened during lender due diligence, it is suggested the MOIT require that proponents employ a suitable financial advisor (meeting criteria set out in the Instructions to Bidders) that certifies the bankability of the finance plan underpinning the bidders financial proposal. The advisor should also certify that the project agreements (including any amendments proposed by the bidder) are bankable in its opinion. 17 For example, it is possible that a thermal plant having capacity of between 600 and 660 MW is required. Proposals might be sought for 660 MW, but proposals within that range might also be permitted. This could expand the range of potential technologies and vendors, and therefore enhance competition, but mechanisms must be defined in advance to ensure consistent evaluation across the bids received. 18 This could be the head of the proposed Secretariat for the Inter-Branch Working Group. 2-14 6/20/2009 • The means by which Bidders may seek clarifications of the Bidding Documents, the deadline by which a request for clarification shall be received by the Procuring Authority and a statement as to whether the Procuring Authority intends to convene a meeting of Bidders. • References to the laws and regulations directly pertinent to the procurement proceedings, provided, however, that the omission of any such reference shall not constitute grounds for review of the procurement process or give rise to liability on the part of the Procuring Authority or the Contracting Authority; • Notice of the right to seek review of an unlawful act or decision of, or procedure followed by, the Procuring Authority in relation to the procurement proceedings and the manner in which this is to be referred to the Monitoring Authority; • Any formalities that will be required once a Bidder’s proposal has been accepted for a Project Contract to enter into force, including, where applicable, the execution of a the Project Contract, approval by the Contracting Authority and other higher authority, together with the estimated period of time following dispatch of the notice of acceptance that will be required to obtain the approval; and, • Any other requirements established by the Procuring Authority in conformity with these Instructions and any other relevant procurement regulations relating to the preparation and submission of Bidder’s proposals and to other aspects of the procurement proceedings. (iii) Bidding Forms, including a financial template; (iv) Minimum technical specifications, schedule and performance requirements including but not limited to the site preferences, land tenure responsibilities and when the Thermal Generation BOT Facility is to be commercially operational. (v) Project Agreements including the terms, conditions and form of the draft Project Contract and other draft Project Agreements, to the extent that they are already known to the Procuring Authority; (vi) The criteria for evaluating proposals, the thresholds, if any, set by the Procuring Authority for identifying non-responsive proposals and the scoring method to be applied to each stage of the evaluation. 2.3.3 Bid securities (i) The Request For Proposals shall set forth the requirements with respect to the issuer and the nature, form, amount and other principal terms and conditions of the required bid security. (ii) A Bidder shall not forfeit any bid security that it may have been required to provide, other than in cases of: 2-15 6/20/2009 • Withdrawal or modification of a proposal after the deadline for submission of proposals and, if so stipulated in the Request For Proposals, before that deadline; • Failure to enter into final negotiations with the Contracting Authority pursuant to Article 2.3.11(ii); • Failure to submit its best and final offer within the time limit prescribed by the Contracting Authority pursuant to Article 2.3.11(ii); • Failure to sign the Project Contract, if required by the Contracting Authority to do so, after the proposal has been accepted; • Failure to provide required security for the fulfilment of the Project Contract after the proposal has been accepted or to comply with any other condition prior to signing the Project Contract specified in the Request For Proposals. 2.3.4 Clarifications and Modifications (i) The Procuring Authority may, whether on its own initiative or as a result of a request for clarification by a Bidder, review and, as appropriate, revise any element of the Bidding Documents as set forth in Article 2.3.2. The Procuring Authority shall indicate in the record of the selection proceedings to be kept pursuant to Article 2.6.3 the justification for any revision to the Bidding Documents. Any such deletion, modification or addition shall be communicated to the Bidders in the same manner as the Request For Proposals at a reasonable time prior to the deadline for submission of proposals. (ii) A Bidder may request a clarification regarding the Bidding Documents from the Procuring Authority. The Procuring Authority shall respond to any request by a Bidder for clarification of the Bidding Documents that is received by the Procuring Authority within a reasonable time prior to the deadline for the submission of proposals. The Procuring Authority shall respond within a reasonable time so as to enable the Bidders to make a timely submission of its bid and shall, without identifying the source of the request, communicate the clarification to all Bidders to which the Procuring Authority has provided the Bidding Documents. (iii) At any time before the deadline for submission of proposals, the Procuring Authority may, for any reason, whether on its own initiative or as a result of a request for clarification by a Bidder, modify the Bidding Documents by issuing an addendum. The addendum shall be communicated promptly to all Bidders to which the Procuring Authority has provided the Bidding Documents and shall be binding on those Bidders. (iv) If the Procuring Authority convenes a meeting of Bidders, it shall prepare minutes of the meeting containing the requests submitted at the meeting for clarification of the Bidding Documents, and its responses to those requests, without identifying the sources of the requests. The minutes shall be provided promptly to all Bidders to which the Procuring Authority provided the Bidding Documents, so as to enable those Bidders to take the minutes into account in preparing their proposals. (v) If the Procuring Authority issues a clarification or modification of the Bidding Documents, or if a meeting of Bidders is held, it shall, prior to the deadline for the submission of proposals, extend the deadline if necessary to afford Bidders 2-16 6/20/2009 reasonable time to take the clarification or modification, or the minutes of the meeting, into account in their proposals. (vi) The Procuring Authority may, in its absolute discretion, prior to the deadline for the submission of proposals, extend the deadline if it is not possible for one or more Bidders to submit their proposals by the deadline owing to any circumstance beyond their control. (vii) Notice of any extension of the deadline shall be given promptly to each Bidder to that the Procuring Authority provided in accordance with the Request For Proposals. 2.3.5 Preparation and Submission of Proposals (iii) The Procuring Authority shall set the place, date and time for the submission of proposals. (iv) Proposals should be submitted as two separate parts: a technical proposal and a financial proposal (Technical Proposal and Financial Proposal respectively) (v) A full proposal, comprising written Technical Proposal and Financial Proposal each of which is to be marked as such and contained in individual sealed envelopes, shall be signed and submitted in one parcel. (vi) The Technical Proposal should include a covering letter, the form of bid security, a proposal opening form, the qualifications of the Bidder, a project milestone schedule, technical data, the Bidder’s organizational and staffing plan and the Bidder’s transfer plan. The requirements for each of these are specified in the Request For Proposals. (vii) The Financial Proposal should include a covering letter, deviations to the Project Contract and Project Agreements (other than for deviations on conditions that have been stated in the Request for Proposals as non-negotiable or mandatory), project financial data based on a financial template and a financing plan. (viii) A proposal may be submitted in any another form as specified in the Request For Proposals. The Request For Proposals when drafted shall give consideration to the use of e-procurement to enhance the procurement process.19 (ix) The Procuring Authority shall, on request, provide to the Bidder a receipt showing the date and time when its proposal was received. (x) Any proposals received by the Procuring Authority after the deadline for submissions of proposals should not be opened and should be returned to the Bidder concerned. 19 e-procurement replicates paper-based procurement methods using electronic media such as the Internet. Under the Multilateral Development Banks Procurement Harmonization Process, technical advice and support is provided to the respective member countries for developing their electronic government procurement strategies and solutions (refer www.mdb-egp.org) 2-17 6/20/2009 2.3.6 Period of effectiveness of proposals: modification and withdrawal of proposals (i) Each proposal should constitute a firm offer and should remain valid and open for acceptance for a period of [12 months] following the proposal submission deadline. (ii) During this period, the proposed tariff shall remain valid and no Bidder should be permitted to modify or withdraw its proposal. (iii) Any proposal that specifies a validity period that is shorter than [12 months] should be viewed as non-responsive and rejected. (iv) Each Request For Proposals shall recognise that certain costs are outside the control of and are not able to be reasonably managed by each Bidder. The Request For Proposals shall provide for a formulaic adjustment to be applied to the tariff effective as of the date on which the Project Contract is executed. The model Request For Proposal shall set out those costs that are eligible for adjustment. 2.3.7 Alternative Proposals (i) A Bidder may be able to offer a solution to the implementation of a Thermal Generation BOT project that is better that that described in the Bidding Documents. If so, it shall be permitted to provide an alternative proposal if certain conditions, as listed in the Request for Proposal, are satisfied. (ii) Bidders should be able to present alternative proposals if they will reduce costs, shorten the development schedule or allow better implementation or operation of the Thermal Generation BOT Project. If it prepares an alternative proposal, the Bidder shall explain how the alternative benefits the Offtake Authority and/or Contracting Authority relative to the specifications or requirements of the Bidding Documents. (iii) If a Bidder proposes an alternative proposal, it must also provide a proposal that complies with the terms and conditions of the Bidding Documents. If that compliant proposal is incomplete or if it is not substantially responsive, it should be rejected together with any alternative proposals that are made. (iv) Insofar as possible, alternative proposals shall respond to the same criteria as compliant proposals and information in the form and detail required of compliant proposals must also be provided. If an alternative proposal does not meet this criterion, it shall be rejected. However, any compliant proposal that is responsive shall be considered. 2.3.8 Evaluation Criteria (i) The evaluation process shall have three stages: • First Stage – Responsiveness. Each proposal shall be reviewed for completeness and substantial responsiveness according to a test to be specified in the model Request For Proposal; 2-18 6/20/2009 • Second Stage – Technical Evaluation. For those proposals that pass the First Stage, Technical Proposals shall be evaluated to establish whether they meet the requirements of the Request For Proposal, particularly regarding compliance with the minimum technical specification and in accordance with paragraph (ii); and, • Third Stage – Financial Evaluation. The Financial Proposals are those proposals that pass the Second Stage shall be opened publicly and evaluated. A score shall be calculated based on price20, deviations to project agreements21 and the quality of the financing plan, in accordance with paragraph (iii)22. The Bidder that has the lowest evaluated price shall be invited to negotiate the Project Contract. (ii) The criteria for the Second Stage - Technical evaluation shall include the following: • Technical soundness; • Compliance with environmental standards; • Operational feasibility; and • Quality of services and measures to ensure their continuity. (iii) The criteria for the Third Stage - Financial Evaluation shall include: • The present value of the proposed tariff over the term of the Power Purchase Agreement, and the corresponding levelized tariff; • The costs for design and construction activities, annual operation and maintenance costs, present value of capital costs and operating and maintenance costs shall be provided in financial template provided as part of the Bidding Documents;23; • The extent of financial support expected from the [Ministry of Finance] regarding the payment performance of the Offtake Authority; • The soundness of the proposed financial arrangements; • The extent of acceptance of the negotiable contractual terms proposed by the Contracting Authority in the Bidding Documents; and, • [Reference may be needed in Framework about issues such as technology transfer and localization etc - the social and economic development potential offered by the proposals24] 20 The evaluation of price should be based on a levelized tariff calculation using a discount rate determined during the development of the model RFP. Consideration should be given to a mechanism to discourage “front-ending� of capacity charges. One mechanism used successfully elsewhere is to impose a percentage limit to the proportion of revenues (in present value terms) that may be received by the Project Enterprise within a specified number of years from commissioning. 21 The definition of material deviations should be established when the model RFP is drafted. 22 The Procuring Authority must anticipate, and to the extent possible define, mechanisms and formulae for adjusting evaluated price to account for deviations and quality of the financing plan at the time the RFP is developed. Such adjustments should be limited in scope or potential impact, and wherever possible be based on quantitative rather than qualitative considerations. In addition, greater rigor or a higher threshold for pre-qualification can help minimize the need for subsequent price adjustments during proposal evaluation. 23 The bidding forms contained in the RFP should include a section with financial data that contains a financial template in spreadsheet form developed by the Procuring Authority. Each bidder will have its own financial model that will not be disclosed to the Procuring Authority. However, the financial template will need to be completed, and will be used as the basis for price evaluation. 2-19 6/20/2009 2.3.9 Opening and Evaluation of Proposals (i) For all proposals properly lodged with the Procuring Authority, the envelopes containing the technical proposals and their corresponding bid securities shall be opened at offices of the [Contracting Authority or Procuring Authority] immediately following the deadline for submission of proposals. Bidders choosing to attend the opening should sign a register of attendance. (ii) When the proposals are opened, the Procuring Authority shall examine the proposal and record Bidders names, any withdrawals, the presence or absence of bid securities, whether the documents have properly signed and complete such other details as the Procuring Authority may consider as appropriate for the review of the responsiveness of proposals in accordance with Article 2.3.8. The Procuring Authority shall prepare minutes regarding the opening of proposals. (iii) For the proposals that pass the First Stage of the Evaluation Process, the Technical Proposal shall be opened and evaluated in accordance with the criteria set out in Article 2.3.8 (ii) and requirements contained in the Request For Proposals. Any proposal that does not meet the minimum technical specification shall be returned to the Bidder concerned along with the Financial Proposal that has not been opened. (iv) Financial proposals should not be opened and shall be held securely by the Procuring Authority pending their opening at the start of Stage Three of the Evaluation Process. (v) Following the completion of the Second Stage of the Evaluation Process, the proposals that meet the [minimum technical specification] shall have their Financial Proposals opened and evaluated in accordance with Article 2.3.8(iii) and the requirements contained in the Request for Proposals. (vi) On the examination, evaluation and comparison of proposals, the Procuring Authority may ask Bidders for clarifications to assist in the examination, evaluation and comparison of proposals. No change in a matter of substance in the proposal, including changes in price and changes aimed at making an unresponsive proposal responsive, shall be sought, offered or permitted. (vii) The Procuring Authority shall correct purely arithmetical errors that are discovered during the examination of proposals. The Procuring Authority shall give prompt notice of any such correction to the Bidder that submitted the proposal. The Bidder should then confirm its acceptance of those corrections and its failure to do so shall render its proposal unresponsive. (viii) The Procuring Authority shall evaluate and compare the proposals that have been accepted in order to ascertain the successful Bidder in accordance with the procedures and criteria set forth in the Request for Proposals. No criterion shall be used that has not been set forth in the Request For Proposals. (ix) The successful Bidder shall have the lowest evaluated price following the financial evaluation. When evaluating the financial proposals, monetary amounts expressed in two or more currencies shall be converted to the same currency at the rate specified in the Request for Proposals. 2-20 6/20/2009 (x) If the Bidder submitting the successful proposal is requested to demonstrate again its qualifications but fails to do so, the Procuring Authority shall reject that proposal and should then select the next best evaluated proposals. The Procuring Authority shall reserve the right to reject all remaining proposals. (xi) Information relating to the examination, clarification, evaluation and comparison of proposals shall not be disclosed to bidders or to any other person not involved officially in the examination, evaluation or comparison of proposals or in the decision on a proposal should be accepted, except as otherwise expressly provided. 2.3.10 Further Demonstration of Fulfillment of Qualification Criteria The Procuring Authority may require any Bidder that has been pre-qualified to demonstrate again its qualifications in accordance with the same criteria used for pre- qualification. The Procuring Authority shall disqualify any Bidder that fails to demonstrate again its qualifications if requested to do so. Each Bidder shall be required to notify the Procuring Authority of any material adverse change in its financial capability. 2.3.11 Final Negotiations (i) The Procuring Authority shall rank all responsive proposals on the basis of the evaluation criteria and invite for final negotiation of the Project Contract the Bidder that has attained the lowest evaluated price in the Financial Evaluation in accordance with Article 2.3.8(iii). Final negotiations shall not concern those contractual terms, if any, that were stated as non-negotiable in the Bidding Documents. (ii) If it becomes apparent that the negotiations with the Bidder invited to negotiate will not result in a Project Contract, the [Contracting or Procuring] Authority shall inform the Bidder of its intention to terminate the negotiations and give the Bidder reasonable time to formulate its best and final offer. If the [Contracting or Procuring Authority] does not find that proposal acceptable, it shall terminate the negotiations with the Bidder concerned. The [Contracting or Procuring Authority] shall then invite for negotiations the other Bidders in the order of their rank until it arrives at a Project Contract or rejects all remaining proposals. The [Contracting or Procuring Authority] shall not resume negotiations with a Bidder with which negotiations have been terminated pursuant to this paragraph. 2.4 NEGOTIATION OF PROJECT CONTRACTS WITHOUT COMPETITIVE BIDDING PROCEDURES 2.4.1 Circumstances Authorizing Award Without Competitive Procedures Subject to approval by Minister of Industry and Trade, the Contracting Authority is authorized to negotiate a Project Contract without using the procedure set forth in Articles 2.1 to 2.3.11 in the following cases: 2-21 6/20/2009 (i) When there is an urgent need for ensuring continuity in the provision of the service and engaging in the procedures set forth in Articles to 2.1 to 2.3.11 would be impractical, provided that the circumstances giving rise to the urgency were neither foreseeable by the Contracting Authority nor the result of dilatory conduct on its part; (ii) In cases of unsolicited proposals falling under Article 2.5.4; (iii) When an invitation to the pre-qualification proceedings or a Request For Proposals has been issued but no applications or proposals were submitted or all proposals failed to meet the evaluation criteria set forth in the Request For Proposals and if, in the judgment of the Contracting Authority, issuing a new invitation to the pre- qualification proceedings and a new Request For Proposals would be unlikely to result in an award of a Project Contract within a required time frame; and, (iv) In other cases where the Prime Minister authorizes the Contracting Authority to exempt Thermal Generation BOT Project from competitive procedures for compelling reasons that are in the public interest. 2.4.2 Procedures for Negotiation of a Project Contract without Competitive Bidding Procedures25 Where a Project Contract is negotiated without using the procedures set forth in Articles 2.1 to 2.3.11, the Procuring Authority shall: (i) Publish a notice of its intention to commence negotiations in respect of a Project Contract in accordance with the provisions of any relevant laws on procurement proceedings for Thermal Generation BOT Projects that govern the publication of notices; (ii) Engage in negotiations with as many persons as the Procuring Authority judges capable of carrying out the Thermal Generation BOT Project as circumstances permit; (i) Establish evaluation criteria against which proposals shall be evaluated and ranked.26 2.5 UNSOLICITED PROPOSALS 2.5.1 Admissibility of Unsolicited Proposals As an exception to Articles 2.1 to 2.3.11, the Contracting Authority is authorized to consider unsolicited proposals pursuant to the procedures set forth in Articles 2.5.2 to 2.5.4, provided that such proposals do not relate to a Thermal Generation BOT Project for which selection procedures have been initiated or announced. 25 Once a project has been announced as a competitive procurement, that project should not be re-categorized as one that can be procured on a negotiated basis. 26 Detailed procedures are not proposed here because the focus is on competitive procurement. 2-22 6/20/2009 2.5.2 Procedures for Determining the Admissibility of Unsolicited Proposals (i) Following receipt and preliminary examination of an unsolicited proposal, the Procuring Authority shall promptly inform the proponent whether or not the Thermal Generation BOT Project is considered to be potentially in the public interest. (ii) If the Thermal Generation BOT Project is considered to be potentially in the public interest under paragraph (i), the Procuring Authority shall invite the proponent to submit as much information on the proposed project as is feasible at this stage to allow the Procuring Authority to make a proper evaluation of the proponent’s qualifications and the technical and economic feasibility of the project and to determine whether the project is likely to be successfully implemented in the manner proposed in terms acceptable to the Procuring Authority. For this purpose, the proponent shall submit a technical and economic feasibility study, an environmental impact study and satisfactory information regarding the concept or technology contemplated in the proposal. (iii) In considering an unsolicited proposal, the Procuring Authority shall respect the intellectual property, trade secrets or other exclusive rights contained in, arising from or referred to in the proposal. Therefore, the Procuring Authority shall not make use of information provided by or on behalf of the proponent in connection with its unsolicited proposal other than for the evaluation of that proposal, except with the consent of the proponent. Except as otherwise agreed by the parties, the Procuring Authority shall, if the proposal is rejected, return to the proponent the original and any copies of documents that the proponent submitted and prepared throughout the procedure. 2.5.3 Unsolicited Proposals That Do Not Involve Intellectual Property, Trade Secrets or Other Exclusive Rights (i) Except in the circumstances set forth in Article 2.4.1, the Contracting Authority shall, if it decides to implement the project, initiate a selection procedure in accordance with Articles 2.2 and 2.3 if the Contracting Authority considers that: • The envisaged output of the project can be achieved without the use of intellectual property, trade secrets or other exclusive rights owned or possessed by the proponent; and • The proposed concept or technology is not truly unique or new. (ii) The proponent shall be invited to participate in the selection proceedings initiated by the Procuring Authority pursuant to paragraph (i) and may be given an incentive or a similar benefit in a manner described by the Procuring Authority in the Request For Proposals in consideration for the development and submission of the proposal. 2-23 6/20/2009 2.5.4 Unsolicited Proposals Involving Intellectual Property, Trade Secrets or Other Exclusive Rights (i) If the Contracting Authority determines that the conditions of Article 2.5.3, paragraph (i) are not met, it shall not be required to carry out a selection procedure pursuant to Articles 2.2 and 2.3. However, the Contracting Authority may still seek to obtain elements of comparison for the unsolicited proposal in accordance with the provisions set out in paragraphs (ii) to (iv) of this Article. (ii) Where the Contracting Authority intends to obtain elements of comparison for the unsolicited proposal, the Procuring Authority shall publish a description of the essential output elements of the proposal with an invitation for other interested parties to submit proposals within [a reasonable period]. (iii) If no proposals in response to an invitation issued pursuant to paragraph (ii) of this Article are received within [a reasonable period] the Procuring Authority may engage in negotiations with the original proponent. (iv) If the Procuring Authority receives proposals in response to an invitation issued pursuant to paragraph (ii), the Procuring Authority shall invite the proponents to negotiations in accordance with the provisions set forth in Article 2.4.2. In the event that the Procuring Authority receives a sufficiently large number of proposals, which appear prima facie to meet its needs, the Procuring Authority shall request the submission of proposals pursuant to Article 2.3, subject to any incentive or other benefit that may be given to the person who submitted the unsolicited proposal in accordance with Article 2.5.3, paragraph (ii). 2.6 MISCELLANEOUS PROVISIONS 2.6.1 Confidentiality The Procuring Authority shall treat proposals in such a manner as to avoid the disclosure of their content to competing Bidders. Any discussions, communications and negotiations between the Procuring Authority and a Bidder pursuant to Articles 2.3.11, 2.4.1, 2.4.2 or 2.5.4, paragraphs (iii) and (iv), shall be confidential. Unless required by law or by a court order or permitted by the Request For Proposals, no party to the negotiations shall disclose to any other person any technical, price or other information in relation to discussions, communications and negotiations pursuant to the aforementioned provisions without the consent of the other party. 2.6.2 Notice of Contract Award Except for Project Contracts awarded pursuant to Article 2.4.1 (iii), the Procuring Authority shall cause a notice of the contract award to be published in accordance with the provisions of any relevant laws on procurement proceedings for Thermal Generation BOT Projects that govern the publication of notices. The notice shall identify the Project Enterprise and include a summary of the essential terms of the Project Contract. 2-24 6/20/2009 2.6.3 Record of Selection and Award Proceedings The Procuring Authority shall keep an appropriate record of information pertaining to the selection and award proceedings in accordance with these Instructions. 2.6.4 Review Procedures A Bidder that claims to have suffered, or that may suffer, loss or injury due to a breach of a duty imposed on the Contracting Authority by the law may seek review of the Contracting Authority’s acts or failures to act in accordance with the provisions of these Instructions. The review procedure27 to be followed by the Monitoring Authority, Procuring Authority, Candidates and Bidders are as follows: (i) Consultations 1. In the event of a complaint by a Candidate or Bidder (Complainant) regarding the procurement of a Thermal Generation BOT Project, they may direct that complaint to the Monitoring Authority. 2. The Monitoring Authority shall encourage the Complainant to seek resolution of its complaint in consultation with the Procuring Authority. The Procuring Authority and the Complainant (each Party) shall promptly attempt to resolve the complaint through good-faith consultation with one another. 3. The Procuring Authority shall accord impartial and timely consideration to any complaint made by a Complainant, in a manner that is not prejudicial to obtaining corrective measures under the challenge system. (ii) Challenge 1. If, despite good-faith consultations, the Complainant and the Procuring Authority do not resolve a dispute within [10] business days after notice of a complaint is given by the Complainant to the Procuring Authority, the challenge procedure set forth in this Article shall apply. 2. Each Party shall provide non-discriminatory, timely, transparent and effective procedures enabling Complainants to challenge alleged breaches of the procurement proceedings in which they have, or have had, an interest. 3. Each Party shall provide its challenge procedures in writing and make them generally available. 4. Each Party shall ensure that documentation relating to all aspects of the process concerning procurements covered by these Instructions shall be retained for three years. 27 This Instructions provides for the type of challenge procedure set forth by the Government Procurement Agreement of the World Trade Organisation, Article XX dated 15 April 1994. 2-25 6/20/2009 5. A Complainant may be required to initiate a challenge procedure and notify the Procuring Authority within specified time-limits from the time when the basis of the complaint is known or reasonably should have been known, but in no case within a period less than [10] business days. 6. Challenges shall be heard by the Monitoring Authority. The Monitoring Authority shall either be subject to judicial review or shall have procedures that provide that: a) participants can be heard before an opinion is given or a decision is reached; b) participants can be represented and accompanied; c) participants shall have access to all proceedings; d) proceedings can take place in public; e) opinions or decisions are given in writing with a statement describing the basis for the opinions or decisions; f) witnesses can be presented; and, g) documents are disclosed to the review body. 7. Challenge procedures shall provide for: a) rapid interim measures to correct breaches of the procurement proceedings in question and to preserve commercial opportunities. Such action may result in suspension of the procurement process. However, procedures may provide that overriding adverse consequences for the interests concerned, including the public interest, may be taken into account in deciding whether such measures should be applied. In such circumstances, just cause for not acting shall be provided in writing; b) an assessment and a possibility for a decision on the justification of the challenge; c) correction of the breach of the procurement proceedings in question or compensation for the loss or damages suffered, which may be limited to costs for bid preparation or protest. 8. With a view to the preservation of the commercial and other interests involved, the challenge procedure shall normally be completed in a timely fashion. 2-26 6/20/2009 3. CONTENTS AND IMPLEMENTATION OF THE PROJECT CONTRACT 3.1 CONTENTS AND IMPLEMENTATION OF THE PROJECT CONTRACT 3.1.1 Model Project Contract Each Project Contract shall be based on a model Project Contract, a form of which is contained in Appendix D. The model Project Contract may only be altered to meet the specific requirements of a candidate Thermal Generation BOT Project. 3.1.2 Contents of Project Contracts In addition to the contents of the Project Contract specified in Article 15(1) of the BOT Decree, the Project Contract shall provide for such matters as the parties consider appropriate, such as: (i) The nature and scope of works to be performed and services to be provided by the Project Enterprise; (ii) The conditions for provision of those services and the extent of exclusivity, if any, of the Project Enterprise’s rights under the Project Contract; (iii) A comprehensive list of all the licenses and permits which the Project Enterprise may require and the assistance that the Contracting Authority may provide to the Project Enterprise in obtaining those licenses and permits to the extent necessary for the implementation of the Thermal Generation BOT Project, including but not limited to those licenses set out in Appendix H; (iv) Any requirements relating to the establishment and minimum capital of a legal entity incorporated in accordance with Article 3.3 (v) The ownership of assets related to the Thermal Generation BOT Project and the obligations of the parties, as appropriate, concerning the acquisition of the Thermal Generation BOT project site and any necessary easements, in accordance with Articles 3.3.1 to 3.3.3; (vi) The remuneration of the Project Enterprise, whether consisting of tariffs or fees for the use of the facility or the provision of services; the methods and formulas for the establishment or adjustment of any such tariffs or fees; and payments, if any, that may be made by the Contracting Authority or other public authority; (vii) Procedures for the review and approval of engineering designs, construction plans and specifications by the Contracting Authority, and the procedures for testing and final inspection, approval and acceptance of the Thermal Generation BOT Facility; (viii) The extent of the Project Enterprise’s obligations to ensure, as appropriate, the modification of the service so as to meet the actual demand for the service, its continuity and its provision under essentially the same conditions for all users; 3-27 6/20/2009 (ix) The Contracting Authority’s or other public authority’s right to monitor the works to be performed and services to be provided by the Project Enterprise and the conditions and extent to which the Contracting Authority may order variations in respect of the works and conditions of service or take such other reasonable actions as they may find appropriate to ensure that the Thermal Generation BOT Facility is properly operated and the services are provided in accordance with the applicable legal and contractual requirements; (x) The extent of the Project Enterprise’s obligation to provide the Contracting Authority, as appropriate, with reports and other information on its activities; (xi) Mechanisms to deal with additional costs and other consequences that might result from any order issued by the Contracting Authority or another public authority in connection with subparagraphs (viii) and (ix) above, including any compensation to which the Project Enterprise might be entitled; (xii) Any rights of the Contracting Authority to review and approve major contracts to be entered into by the Project Enterprise, in particular with the Project Enterprise’s own shareholders or other affiliated persons; (xiii) Guarantees of performance to be provided and insurance policies to be maintained by the Project Enterprise in connection with the implementation of the Thermal Generation BOT Project; (xiv) Remedies available in the event of default of either party; (xv) The extent to which either party may be exempt from liability for failure or delay in complying with any obligation under the Project Contract owing to circumstances beyond its reasonable control; (xvi) The duration of the Project Contract and the rights and obligations of the parties upon its expiry or termination; (xvii) The manner for calculating compensation pursuant to Article 4.3.1; (xviii) The governing law and the mechanisms for the settlement of disputes that may arise between the Contracting Authority and the Project Enterprise; (xix) The rights and obligations of the parties with respect to confidential information. 3.2 GOVERNING LAW The Project Contact shall be governed by the laws of [England28]. 28 Singapore law has been used for the Phu My thermal generation BOT projects, and may wish to be retained here as well, though English law is more widely used globally. 3-28 6/20/2009 3.3 ORGANIZATION OF THE PROJECT ENTERPRISE The Contracting Authority may require that the successful Bidder establish a legal entity incorporated under the laws of the Socialist Republic of Vietnam, provided that a statement to that effect was made in the pre-qualification documents or in the Request For Proposals, as appropriate. Any requirement relating to the minimum capital of such a legal entity and the procedures for obtaining the approval of the Contracting Authority to its statute and by-laws and significant changes therein shall be set forth in the Project Contract consistent with the terms of the Request For Proposals. 3.3.1 Ownership of Assets The Project Contract shall specify, as appropriate, which assets are or shall be public property and which assets are or shall be the private property of the Project Enterprise. Customarily, all of the Project Enterprises Assets that are necessary for the operation and maintenance of the Thermal Generation BOT Facility shall be transferred to the Contracting Authority when the Project Contract terminates. For clarity, the Project Contract shall in particular identify which assets belong to the following categories: (i) The assets that the Project Enterprise is required to return or transfer to the Contracting Authority or to another entity indicated by the Contracting Authority in accordance with the terms of the Project Contract; (ii) Assets, if any, that the Contracting Authority, at its option, may purchase from the Project Enterprise; and (iii) Assets, if any, that the Project Enterprise may retain or dispose of upon expiry or termination of the Project Contract. 3.3.2 Acquisition of Rights Related to the Project Site29 (iii) The Contracting Authority or other public authority under the terms of the law and the Project Contract shall make available to the Project Enterprise or, as appropriate, shall assist the Project Enterprise in obtaining such rights related to the Thermal Generation BOT Project site, including title thereto, as may be necessary for the implementation of the Thermal Generation BOT Project. (iv) (ii) Any compulsory acquisition of land that may be required for the implementation of the Thermal Generation BOT Project shall be carried out in accordance with [TBD].30 29 This requires further discussion. It would be preferable for the government to identify project sites and to acquire the necessary rights to those sites before an RFP is issued. 30 An indication is needed to determine the provisions of Vietnamese laws that govern compulsory acquisition of private property by public authorities for reasons of public interest. 3-29 6/20/2009 3.3.3 Easements (i) The Project Enterprise shall have the right to enter upon, transit through or do work or fix installations upon property of third parties, as appropriate and required for the implementation of the project in accordance with [the GOV to indicate the provisions of its laws that govern easements and other similar rights enjoyed by public utility companies and infrastructure operators under its laws]31. (ii) (ii) Any easements that may be required for the implementation of the project shall be created in accordance with [ law ].32 3.3.4 Financial Arrangements (i) The Project Enterprise shall have the right to charge, receive or collect tariffs or fees for the use of the facility or its services in accordance with the Project Contract, which shall provide for methods and formulas for the establishment and adjustment of those tariffs or fees in accordance with the rules established by Electricity Regulatory Authority of Vietnam. (ii) The Contracting Authority shall have the power to agree to make direct payments to the Project Enterprise as a substitute for payments due but unpaid by the Offtake Authority as a result of its failure to perform under the Power Purchase Agreement. The terms of that Authority shall be specified in a guarantee agreement, the form of which is set out in Appendix G. (iii) The Contracting Authority shall have the power to enter into direct agreements with the secured lenders to the Project Enterprise. The purpose of a direct agreement is to provide rights to lenders that may permit the prevention of termination of key Project Agreements executed between the Project Enterprise and other parties without those lenders having the opportunity to consider whether to preserve the contracts by “stepping in� and curing the underlying termination event where the Project Enterprise has failed or elected not to do so. 31 If the Thermal Generation BOT Facility is to be coal-fired then easements regarding offsite wharf, coal handling, water intake and discharge facilities must be exclusively for the benefit of the Project Enterprise. Furthermore, if the Project Enterprise is to be responsible for constructing transmission facilities from the plant to an agreed interconnection point, then the Project Enterprise will need to be granted easements in this respect. 32 An indication is needed to determine the provisions of Vietnamese laws that govern the creation of easements for reasons of public interest 3-30 6/20/2009 3.3.5 Security interests (i) Subject to any restriction that may be contained in the Project Contract, the Project Enterprise has the right to create security interests over any of its assets, rights or interests, including those relating to the infrastructure project, as required to secure any financing needed for the Thermal Generation BOT Project, including, in particular, the following: • Security over movable or immovable property owned by or subject to easements or other rights in favour of the Project Enterprise or its interests in project assets; • A pledge of the proceeds of, and receivables owed to the Project Enterprise for, the use of the facility or the services it provides. (ii) The shareholders of the Project Enterprise shall have the right to pledge or create any other security interest in their shares in the Project Enterprise. (iii) No security under paragraph (i) may be created over public property or other property, assets or rights needed for the provision of a public service, where the creation of such security is prohibited by the law of the Socialist Republic of Vietnam. 3.3.6 Assignment of the Project Contract Except as otherwise provided in Article 3.3.5, the rights and obligations of the Project Enterprise under the Project Contract may not be assigned to third parties without the consent of the Contracting Authority. The Project Contract shall set forth the conditions under which the Contracting Authority shall give its consent to an assignment of the rights and obligations of the Project Enterprise under the Project Contract, including the acceptance by the new Project Enterprise of all obligations thereunder and evidence of the new Project Enterprise’s technical and financial capability as necessary for providing the service. Assignments following the terms of the Project Contract, including the form of financing direct agreement, shall be excepted from the requirements of this Article. 3.3.7 Transfer of Controlling Interest in the Project Enterprise Except as otherwise provided in the Project Contract, a controlling interest in the Project Enterprise may not be transferred to third parties without the consent of the Contracting Authority. The Project Contract shall set forth the conditions under which consent of the Contracting Authority shall be given. 3.3.8 Operation of the Thermal Generation BOT Facility (i) The Project Contract shall set forth, as appropriate, the extent of the Project Enterprise’s obligations to ensure: 3-31 6/20/2009 • [The modification of the service so as to meet the demand for the service; - relates to PPA?] • [The continuity of the service; - relates to PPA?] • [The provision of the service under essentially the same conditions for all users; - relates to PPA?] • The non-discriminatory access, as appropriate, of other service providers to any public infrastructure network operated by the Project Enterprise. (ii) The Project Enterprise shall have the right to issue and enforce rules governing the use of the facility, subject to the approval of the contracting authority or a regulatory body. 3.3.9 Compensation for Specific Changes in Legislation The Project Contract or Power Purchase Agreement shall set forth the extent to which the Project Enterprise is entitled to compensation in the event that the cost of the Project Enterprise’s performance of the Project Contract or Power Purchase Agreement, as the case may be, has substantially increased or that the value that the Project Enterprise receives for such performance has substantially diminished, as compared with the costs and the value of performance originally foreseen, as a result of changes in legislation, regulations, the grid code and incentives specifically granted to the Project Enterprise including the interpretation or manner of enforcement thereof specifically applicable to the Thermal Generation BOT Facility or the services it provides. 3.3.10 Revision of the Project Contract (i) Without prejudice to Article 3.3.9, the Project Contract or Power Purchase Agreement as appropriate shall further set forth the extent to which the Project Enterprise is entitled to a revision of the Project Contract with a view to providing compensation in the event that the cost of the Project Enterprise’s performance of the Project Contract has substantially increased or that the value that the Project Enterprise receives for such performance has substantially diminished, as compared with the costs and the value of performance originally foreseen, as a result of: • Changes in economic or financial conditions; or • Changes in legislation or regulations not specifically applicable to the Thermal Generation BOT Facility or the services it provides; provided that the economic, financial, legislative or regulatory changes: − Occur after the conclusion of the contract; − Are beyond the control of the Project Enterprise; and − Are of such a nature that the Project Enterprise could not reasonably be expected to have taken them into account at the time the Project Contract was negotiated or to have avoided or overcome their consequences. (ii) The Project Contract or the Power Purchase Agreement as appropriate shall establish procedures for revising the terms of the Project Contract or the Power 3-32 6/20/2009 Purchase Agreement as the case may be, following the occurrence of any such changes. 3.3.11 Takeover of a Thermal Generation BOT Project by the Contracting Authority Under the circumstances set forth in the Project Contract, the Contracting Authority has the right to temporarily take over the operation of the Thermal Generation BOT Facility for the purpose of ensuring the effective and uninterrupted delivery of the service in the event of serious failure by the Project Enterprise to perform its obligations and to rectify the breach within a reasonable period of time after having been given notice by the Contracting Authority to do so. 3.3.12 Substitution of the Project Enterprise The Contracting Authority may agree with the entities extending financing for a Thermal Generation BOT Project and the Project Enterprise to provide for the substitution of the Project Enterprise by a new entity or person appointed to perform under the existing Project Contract upon serious breach by the Project Enterprise or other events that could otherwise justify the termination of the Project Contract including a breach of the Project Enterprise’s financing agreements (as declared by the counterparties to those agreements) or other similar circumstances as specified in the Project Contract. 3-33 6/20/2009 4. DURATION, EXTENSION AND TERMINATION OF THE PROJECT CONTRACT 4.1 DURATION AND EXTENSION OF THE PROJECT CONTRACT 4.1.1 Duration and extension of the Project Contract The duration of the Project Contract shall be set forth in the Project Contract. The Contracting Authority may not agree to extend its duration except as a result of the following circumstances: • Delay in completion or interruption of operation due to circumstances beyond the reasonable control of either party; • Project suspension brought about by acts of the Contracting Authority or other public authorities; • Increase in costs arising from requirements of the Contracting Authority not originally foreseen in the Project Contract, if the Project Enterprise would not be able to recover such costs without such extension; or • Other circumstances, as specified by the [Ministry of Industry and Trade]. 4.2 TERMINATION OF THE PROJECT CONTRACT 4.2.1 Termination of the Project Contract by the Contracting Authority The Contracting Authority may terminate the Project Contract: • In the event that it can no longer be reasonably expected that the Project Enterprise will be able or willing to perform its obligations, owing to insolvency, serious breach or otherwise; • For compelling reasons of public interest, subject to payment of compensation to the Project Enterprise, the terms of the compensation to be as agreed in the Project Contract; • Other circumstances, as specified by the [Ministry of Industry and Trade]. 4.2.2 Termination of the Project Contract by the Project Enterprise The Project Enterprise may not terminate the Project Contract except under the following circumstances: • In the event of serious breach by the Contracting Authority or other public authority of its obligations in connection with the Project Contract; • If the conditions for a revision of the Project Contract under Article 3.3.10 (i), are met, but the parties have failed to agree on a revision of the Project Contract; or 4-34 6/20/2009 • If the cost of the Project Enterprise’s performance of the Project Contract has substantially increased or the value that the Project Enterprise receives for such performance has substantially diminished as a result of acts or omissions of the Contracting Authority or other public authorities, for instance, pursuant to Article 3.1, subparagraphs (viii) and (ix), and the parties have failed to agree on a revision of the Project Contract. 4.2.3 Termination of the Project Contract by Either Party Either party shall have the right to terminate the Project Contract in the event that the performance of its obligations is rendered impossible by circumstances beyond either party’s reasonable control. The parties shall also have the right to terminate the Project Contract by mutual consent. 4.3 ARRANGEMENTS UPON TERMINATION OR EXPIRY OF THE PROJECT CONTRACT 4.3.1 Compensation Upon Termination of the Project Contract The Project Contract shall stipulate how compensation due to either party is calculated in the event of termination of the Project Contract, providing, where appropriate, for compensation for the fair value of works performed under the Project Contract, costs incurred or losses sustained by either party, including, as appropriate, lost profits. (i) The Project Contract shall provide for the appointment of an independent appraiser to calculate compensation. (ii) If the Contracting Authority terminates the Project Contract due to a breach of the Project Contract by the Project Enterprise, the Contracting Authority shall have the right but not the obligation to acquire the Thermal Generation BOT Facility for an amount equivalent to the outstanding senior secured debt. (iii) If the Project Enterprise terminates the Project Contract due to a breach of the Project Contract by the Contracting Authority, the Contracting Authority shall be obliged to acquire the Thermal Generation BOT Facility for an amount equivalent to (a) the outstanding senior secured debt plus (b) the net present value of the equity cash flows the Project Enterprise’s shareholders expected to receive plus (c) termination costs. (iv) Terminations caused by natural force majeure events shall not require the Contracting Authority to acquire the Thermal Generation BOT Facility33. (v) Other than as provided in Article 4.3.2, no payments shall be made for natural expiry of the BOT Contract. 33 Natural force majeure events are insurable and the Project Enterprise should be able to restore the Thermal Generation BOT Facility or receive compensation for its loss through its insurances. 4-35 6/20/2009 4.3.2 Wind-up and Transfer Measures The Project Contract shall provide, as appropriate, for: • Mechanisms and procedures for the transfer of assets to the Contracting Authority; • The compensation to which the Project Enterprise may be entitled in respect of assets transferred to the Contracting Authority or to a new Project Enterprise or purchased by the Contracting Authority; • The transfer of technology required for the operation of the Thermal Generation BOT Facility; • The training of the Contracting Authority’s personnel or of a successor Project Enterprise in the operation and maintenance of the Thermal Generation BOT Facility; • The provision, by the Project Enterprise, of continuing support services and resources, including the supply of spare parts, if required, for a reasonable period after the transfer of the Thermal Generation BOT Facility to the Contracting Authority or to a successor Project Enterprise. 4-36 6/20/2009 5. SETTLEMENT OF DISPUTES 5.1 DISPUTES BETWEEN THE CONTRACTING AUTHORITY AND THE PROJECT ENTERPRISE Any disputes between the Contracting Authority and the Project Enterprise shall be settled through the dispute settlement mechanisms agreed by the parties in the Project Contract. 5.2 DISPUTES INVOLVING THE THERMAL GENERATION BOT FACILITY’S POWER PURCHASER The Contracting Authority may require the Project Enterprise to establish simplified and efficient mechanisms for handling claims submitted by parties that have a Power Purchase Agreement with the Project Enterprise. 5.3 OTHER DISPUTES (i) The Project Enterprise and its shareholders shall be free to choose the appropriate mechanisms for settling disputes among themselves. (ii) The Project Enterprise shall be free to agree on the appropriate mechanisms for settling disputes between itself and its lenders, contractors, suppliers and other business partners. 5-37 6/20/2009 APPENDIX A: MODEL INVITATION TO REGISTER EXPRESSIONS OF INTEREST MINISTRY OF INDUSTRY & TRADE GOVERNMENT OF THE SOCIALIST REPUBLIC OF VIETNAM INTERNATIONAL COMPETITIVE BIDDING PROCESS FOR THE IMPLEMENTATION OF [NAME OF PROJECT – [Number of Units]x[Capacity of Units] MW [COAL/ GAS]- FIRED THERMAL GENERATION BUILD OPERATER TRANSFER (BOT) POWER PROJECT AT [LOCATION] IN THE SOCIALIST REPUBLIC OF VIETNAM INVITATION TO REGISTER EXPRESSIONS OF INTEREST Hanoi, [dd Month YYY] The Government of the Socialist Republic of Vietnam (the “Government�), through the Ministry of Industry & Trade (the “MOIT�) intends to select a project sponsor (the “Project Sponsor�)] to develop the [Name of Project – [Number of Units]x[Capacity of Units] MW [Coal/ Gas]-Fired Thermal Generation facility (the “Project�). The Project is located at [Location] in [Region] Vietnam, [Name of Province] Province. The Project will be implemented on a Build, Operate and Transfer (“BOT�) basis pursuant to a [twenty (20)] year BOT Project Contract and Power Purchase Agreement. The Project Sponsor will be selected through an international competitive bidding process from a pool of applicants who have previous international experience in implementing power generation projects and who demonstrate through their pre-qualification applications that they meet all of the criteria set forth in the pre-qualification documents. The selected Project Sponsor will be required to arrange the necessary financing and to execute the key documents for the Project. MOIT invites interested candidates who have a proven track record in implementing relevant power generation projects to register their interest to participate in this process. Expressions of Interest (EOIs) must be submitted to MOIT during normal business hours at the address below at or before 34 12:00 Hours Vietnam Standard Time on or before [DD MMMM, YYYY ] and must include the following: (i) a letter in the official letterhead of the interested candidate, signed by a duly authorized representative of the interested candidate indicating the interest of the candidate to participate in the international competitive bidding process for the Project; and (ii) a brief introduction on the candidate, which should include the following information: - Legal status, ownership and organizational structure of the candidate. - Financial statement for the last year. - Candidate profiles in similar or relevant fields to the Project during the last 10 years. - Postal address and details of contact person. All interested candidates who have submitted their EOIs as defined above, can obtain as of [DD 35 MMMM, YYYY ] copies of: (i) the pre-qualification documents; and (ii) an information memorandum, which describes in greater detail the Project and the structure of the proposed transaction upon payment of a non-refundable fee of US$ [10,000] by an international or local bank draft made payable to MOIT. 34 Being [45] days following the date of this advertisement. 35 The working day following the date of the advertisement. 5-38 6/20/2009 Copies of the above may be either collected from the offices of the [Deputy Director General of 36 Energy & Petroleum Department and Chairman of IPPs Management Board] at the address noted below or downloaded from the following internet website address: www.moit.gov.vn, www.devbusiness.com or www.dgmarket.com. To: [Name] Deputy Director General of Energy & Petroleum Dept and Chairman of IPPs Management Board Ministry of Industry and Trade Socialist Republic of Vietnam MOIT Offices Building 54 Hai Ba Trung, Hanoi, Vietnam. Tel: +84-4-[XXXXXXX] (hand phone [XX XXXXXXXX]) Fax: +84-4-[XXXXXXX] Emai: [name]@moit.gov.vn 36 This addressee could be the Director of the Procuring Authority 5-39 6/20/2009 APPENDIX B: MODEL PRE-QUALIFICATION DOCUMENT [To be drafted by others in future] 5-40 6/20/2009 APPENDIX C: MODEL REQUEST FOR PROPOSALS [To be drafted by others in future - to include an Invitation letter, instructions to Bidders, Bidding Forms including a financial template, Minimum technical specifications, Draft Project Agreements and Evaluation Criteria] 5-41 6/20/2009 APPENDIX D: MODEL PROJECT CONTRACT [To be drafted by others in future] 5-42 6/20/2009 APPENDIX E: MODEL POWER PURCHASE AGREEMENT [To be drafted by others in future] 5-43 6/20/2009 APPENDIX F: MODEL FUEL SUPPLY AGREEMENT [To be drafted by others in future] 5-44 6/20/2009 APPENDIX G: GUARANTEE AGREEMENT [To be drafted by others in future] 5-45 6/20/2009 APPENDIX H: LIST OF APPROVALS, PERMITS AND CONSENTS List of Approvals, Permits and Similar Requirements in Relation to a BOT Power Project (provided by Vilaf – Hong Duc Law Firm) Abbreviations: DOC Department of Construction DOLISA Department of Labour, War Invalids & Social Affairs DONRE Department of Natural Resources and Environment DOSTE Department of Science, Technology & Environment (now, Department of Natural Resources and Environment – DONRE ) DPI Department of Planning and Investment FIE Foreign Invested Enterprises GDPT General Department of Post & Telecommunication (now Ministry of Post & Telecommunication) GOV Government of Vietnam IZMB Industrial Zone (IZ), Export Processing Zone (EPZ), High-tech Zone (HTZ) and Economic Zone (EZ) Management Board MOARD Ministry of Agriculture and Rural Development MOC Ministry of Construction MOF Ministry of Finance MOI Ministry of Interior MOIT Ministry of Industry and Trade MOLISA Ministry of Labour, War Invalids and Social Affairs MONRE Ministry of Natural Resources and Environment MOP Ministry of Police/Interior MOSTE Ministry of Science, Technology & Environment (now, Ministry of Science and Technology) MPI/DPI Ministry/Department of Planning and Investment MPT Ministry of Posts and Telecommunications NA National Assembly of Vietnam PC People’s Committee PD Police Department PM Prime Minister of the Government SBV State Bank of Vietnam SCONA Standing Committee of the National Assembly 5-46 6/20/2009 No. Description Legal Basis Competent Note Authority 1. Approval of the Article 17.1 and Article 17.2 MPI, MOIT, Investment of Decree 78/2007/ND-CP MONRE and Project Report dated 11 May 2007 of the provincial PC GOV on BOT, BTO and BT contracts (“Decree 78�). 2. Obtaining Article 17.1 and Article 17.2 MPI The Investment Investment of Decree 78. Certificate also Certificate serves as the incorporation document of the BOT Enterprise 3. Electricity Law on Electricity 2003 & MOIT This Permit is to be Operation Permit Decision 32/2006/QD-BCN obtained after completion of the plant and prior to commercial operation 4. Approval of Article 21.7, Article 22.1 of MONRE or MOIT If the project is Environmental the Law on Environment (depending on the located in a licensed Impact Protection dated 29 capacity of the industrial park, the Assessment November 2005 thermo-power Approval of EIA Report/Registrati (“Environment Law�) and plant). Report is not on of Schedule 1, Schedule 2 of required. Undertaking to Decree 80/2006/ND-CP of Comply with the GOV dated 9 August Environmental 2006 implementing Standard Environment Law. 5. Approval and Article 23.2 of Decree 78. PC execution of the Land Lease 6. Registration of Decree 134/2005/ND-CP of SBV A foreign loan to foreign loans the Government dated 1 financed the project having terms of November 2005 on must be registered more than 1 year management of foreign within 30 days after borrowings execution and prior to any drawdown. 7. Certificate of Article 41 Decree 181/2004 PC Land Use Rights of the GOV dated 29 October 2004 implementing the Land Law 2003 5-47 6/20/2009 No. Description Legal Basis Competent Note Authority 8. Work Permit for Article 4.5, Article 6.1, Article DOLISA foreign 6.2 of Decree 105/2003/ND- employees of the CP of GOV dated 17 Project September 2003 Enterprise implementing the Labour Code on foreign people working in Vietnam 9. Tax Registration Decision 75/1998/Qð-TTg of Department of PM dated 4 April 1998 on Taxation taxpayers’ codes. Section II.1 of Circular 10/2006/TT-BTC of MOF dated 14 February 2006 implementing Decision 75/1998/QD-TTg on taxpayers’ codes 10. Obtaining permit Circular 23/2003/TT- DOLISA for use of BLDTBXH of MOLISA dated machinery, 3 November 2003 on equipment, registration and verification materials and of equipment subject to substances occupational safety which are requirements subject to strict occupational safety requirements (eg. boilers, pressure vessels, overhead cranes, etc.) 11. Obtaining Article 4.1 of Decree PC or DOC (if certificate of 95/2005/ND-CT of GOV authorized by PC) ownership of the dated 15 July 2005 on Construction certificate of ownership of Works the construction works 12. Obtaining Decision 155/1999/QD-TTg of DONRE permits for PM dated 16 July 1999 issuing collection, regulations of hazardous waste. transportation, keeping, Section I.3 of Circular 12/2006/TT-BTNMT of MONRE treatment or dated 26 December 2006 on disposal of conditions for transportation, hazardous waste keeping, treatment or disposal (if applicable) of hazardous waste. 5-48 6/20/2009 No. Description Legal Basis Competent Note Authority 13. Registration of Ordinance 24/2000/PL- Department of entry/exit of UBTVQH10 of SCONA Immigration – foreign experts dated 28 April 2000 on Ministry of Police of foreign entry/exit of foreign people in contractor Vietnam 14. Obtaining work Decree 105/2003/ND-CP of DOLISA permits for GOV dated 17 September foreign experts 2003 implementing the of foreign Labour Code on foreign contractor people working in Vietnam 15. Obtaining import Decree 12/2006 of the GOV permits (only dated 23 January 2006 required for certain goods which are included in a list of imports requiring an import permit from MOT or specialized ministries) 16. Obtaining Directorate for Standard and certificate of Quality (STAMEQ) and other quality relevant ministries (e.g., inspection of Department of Construction certain imported Material – Ministry of goods (If goods Construction) fall in the required list, such as special kind of cement, steel, cable, etc.) 17. Obtaining Decree 35/2003/Nð-CP of Department of Fire approval for GOV dated 4 April 2003 Fighting and import of fire implementing the Law on Prevention – fighting and Fire Fighting. Ministry of Police protection systems (if applicable) Circular 04/2004/TT-BCA dated 31 March 2004 implementing Decree 35/2003/Nð-CP 5-49 6/20/2009 No. Description Legal Basis Competent Note Authority 18. Obtaining Permit Decree 24/2004/Nð-CP of MPT is the for utilization of GOV dated 14 January 2004 competent frequency and implementing the Ordinance authority for the frequency of Posts and issuance of the wireless Telecommunications on permit for equipment (if frequency utilization of applicable) frequency and frequency wireless equipment. The agency for receiving the application documents for utilization of frequency is the Frequency Department. The agency for receiving the application documents for utilization of frequency wireless equipment may vary as follows: In case the utilization of the equipment requires the network set-up license: (v) MPT (vi) Regional Department of Post and Telecommu nication; In case the utilization of equipment does not require the network set-up: (i) Frequency Department; (ii) Regional Frequency Control Agency. 5-50 6/20/2009 No. Description Legal Basis Competent Note Authority 19. Agreement of Article 16 of Decree Police Department design and 35/2003/ND-CP of GOV of Fire Fighting equipment for dated 4 April 2003 and Prevention – fire prevention implementing the Law on Ministry of Police if and Fire Fighting. the projects to be extinguishing approved by the Prime Minister or if the projects, the Circular 04/2004/TT-BCA of design require MOP dated 31/3/04 guiding special standards Decree 35/2003/ND-CP. for fire fighting and prevention. The Fire Fighting and Prevention Agency of Provincial Police: the other cases. 20. Obtaining Article 5.6 of Decree MOIT, or DOI approval of 112/2006/ND-CP of the fundamental Government dated 29 designs of September 2006 amending Construction Decree 16/2005/ND-CP. Works 21. Technical design Article 24 of Decree 78 MOIT of Construction Works 22. Obtaining Article 9 of Decree DOC construction 112/2006/ND-CP amending permit for the Decree 16/2005/ND-CP Construction Works Circular 02/2007/TT-BXD of MOC dated 14 February 2007 on formulation, evaluation, approval of investment projects for construction works; work permits and management of construction works. 5-51 6/20/2009 No. Description Legal Basis Competent Note Authority 23. Obtaining the Article 12 of Decree 78 MOIT or PM (if the approval for the Project falls Project outside the master plan approved by the PM) 24. Obtaining permit Section III.9 of Circular MOIT verifying that all 08/2006/TT-BTNMT of requirements for MONRE dated 8 September environmental 2006 regarding strategy protection have environment, environment been satisfied impact assessment and (conditions environment protection checked include undertakings. gas and noise emission and waste water discharge) Article 21.7 of the Law on Environment Protection dated 12 December 2005 25. Obtaining Decision 87/2004/QD-TTg MOC (projects construction of PM dated 19 May 2004 under Group A) consultancy issuing regulations of permit or contractors in construction DOC (projects construction sector in Vietnam. under Group B & contracting C) permit for foreign contractors Circular 05/2004/TT-BXD of MOC dated 15 September 2004 on the issuance of contractor permit for foreign contractors in construction sector in Vietnam. 26. Submission of Section IV.1(b) of Circular DOLISA bi-annual report 04/2004/TT-BLDTBXH of on status of MOLISA dated 10 March employment of 2004 on foreign people foreign working in Vietnam. employees 27. Obtaining Article 70.2 of Decree If the imported approval for sale 108/2006/ND-CP dated 22 goods have been of imported September 2006 levied the import goods which implementing the Investment tax, no approval is were not fully Law. required. used for the Works 5-52 6/20/2009 No. Description Legal Basis Competent Note Authority Section III.1(a), Section If the imported III.1(c) of Circular goods have been 04/2007/TT-BTM of MOT exempted from the dated 04 April 2007 import tax, implementing Decree application 108/2006/ND-CP dated 22 documents is September 2006 on import- required to submit export of FIEs to the Custom Office. 28. Submission by Circular 05/2004/TT-BXD of MOC (for the foreign MOC dated 15 September projects under contractor of 2004 guiding the procedure Group A and inter- progress report and management on issuing provincial projects) bi-annually and contractor license for foreign upon completion contractors in the field of of the construction in Vietnam Construction DOC (for the Works project under Group B & C) 5-53 6/20/2009