Denied SMC-Meralco rate hike: End of an era for fixed-price PSAs?

By Myrna M. Velasco – November 1, 2022, 1:11 PM
from Manila Bulletin

Cheers and jeers had greeted the decision of the Energy Regulatory Commission (ERC) on the junked petition of the Manila Electric Company (Meralco) and the subsidiaries of the SMC Global Power Holdings Corporation of the San Miguel group for a P0.30 per kilowatt hour (kWh) rate hike on their power supply agreements (PSAs).

In some way, that served as a ‘stress test’ for lower cost fixed-price contracts; but on a more intense scrutiny, it has dethroned a business model that could protect consumers from wild price upswings.

The tariff adjustment application had been anchored on a ‘change in circumstance’ (CIC) provision of the SMC-Meralco supply contracts – largely punctuated by the persisting surge in global gas and coal prices due to the ‘weaponized energy commodity’ precept of Putin’s war with Ukraine; the Indonesian coal ban early this year; as well as the State-blazoned ‘gas restriction’ in the Malampaya field.

Shuffling regulatory toolboxes

How the ERC decided this controversial rate adjustment application somehow manifested divergence from the old playbook of rate-setting in the restructured power sector.

The majority bloc in the ERC led by Chairperson Monalisa C. Dimalanta argued that the dramatic surge in fuel prices – even if this came as financially painful onus to businesses; as well as the gas restriction declaration by a state-run entity cannot be invoked as a ‘change in circumstance’ in the PSAs give the ‘fixed price’ term of the agreed rates; hence, the rate hike plea had been junked.

Be that as it may, the drowned voices in that ERC ruling had been the dissenting opinion set forth by the two other Commissioners– Atty Alexis M. Lumbatan and Marko Romeo L. Fuentes – who similarly dissected facts, figures as well as data; and proffered strong points in justifying which turn of events or tenets shall constitute ‘change in circumstance’ that may then warrant adjustment, modification or termination of previously-approved power supply contracts.

The two Commissioners further indicated the affirmation given by the Regulatory Operations Service (ROS) of the ERC, which expressly stated that “granting the price adjustment remains to be the cheapest option” for the customers of Meralco. The subject-PSAs had been those with South Premiere Power Corporation (SPPC) for the 670-megawatt power capacity drawn from the Ilijan gas plant; and with San Miguel Energy Corporation (SMEC) for the 330MW supply injected from the Sual coal-fired power plant.

The ROS is the institutionalized division in the ERC that has been evaluating all the data, figures and calculations that will back decisions rendered by the Commission on tariff-setting, when it rules on PSAs and even on the application of capital expenditures (capex) of regulated power utilities.

Suffice it to say that in the dramatic turn of events in that ERC verdict, the battle lines had been drawn – one, there’s the minority opinion which focused on facts and figures; while the decision of the majority centered on the interpretations and conclusions of law.

On closer examination of the arguments: what does the ERC decision really entail for the ordinary Filipino consumers? And what signal does it give to investors on the future of ‘fixed price contracts’ — which by nature, are typically cheaper and easier to predict; compared to PSAs that will carry provisions of automatic price adjustments but could end up more expensive when reflected in the consumers’ monthly bills?

There is a common thread of assumptions offered by industry experts and market watchers in the deregulated Philippine power industry: that notwithstanding which generation company (GenCo) or distribution utility (DU) will be the battering ram of the advocacy groups: the ERC ruling heralds the end of an era for cheaper ‘fixed price’ contracts. From now on, they see GenCos and DUs chipping away from such contracts and for them to instead opt for PSAs that will subject consumers to endless cycle of pricing volatilities.

Tipping the scales

In the joint motion for a six-month rate hike prayed for with the ERC, the SMC-Meralco tandem invoked Article 11, Section 11.3 of the PSA to support bid for price adjustment – primarily citing the ‘Malampaya gas restriction notice’ issued by state-run National Power Corporation (NPC) for the Ilijan plant; the extraordinary circumstances triggered by the Russia-Ukraine war and the Indonesian coal ban which precipitated coal prices to skyrocket to as high as $440 per metric ton from a calculated average of $60-$65 per MT when the supply contracts were signed in 2019 – and these supervening events had been claimed as ‘change in circumstance’ or CIC under the PSAs underwritten by the parties and had also been subsequently approved by the ERC.

Under the PSAs, CIC has been defined as: “any law coming into effect after the signing of (the) agreement, including the adoption or enactment, or any change or repeal with respect to the imposition of taxes, duties, levies, fees, charges or similar impositions, and the right to remit or convert currencies…”

In the Dimalanta-led ruling rendered by the Commission, it was expressly stipulated that: “the Commission finds that the notices of gas restriction issued by NPC cannot qualify as law, or an amendment, modification, repeal or withdrawal of any law, or an application, enforcement, interpretation or implementation of any law,” adding that “such notices of gas restrictions remain to be such, mere notifications on the state of gas availability from Malampaya.”

Nevertheless, in the dissenting opinion of Commissioners Lumbatan and Fuentes, they countered the assertion of the majority in the Commission, as they stated that: “the notice of natural gas restriction is interpreted to be one as law, being an order, directive or regulation as issued by NPC, a governmental instrumentality,” stressing that “when NPC unilaterally reduced the gas allocation to Ilijan, it reduced its capacity and thus injected volatility in the WESM (Wholesale Electricity Spot Market).”

It was further opined that “SPPC, including its affiliates, have no spare uncontracted capacity and thus was constrained to buy the deficient capacity from WESM, which is already undergoing massive volatility.”

They also primarily cited data and facts independently calculated by the ROS of the ERC which palpably showed to be in keeping with Meralco’s own calculations in the rate hike petition – that the magnitude of costs to be passed on to the consumers could be at a more escalated rate of P12.6 billion to P25.8 billion compared to just P5.2 billion had the rate hike been approved approved.

It was likewise highlighted in the application that the scale of losses incurred by the power supplier had already been breaching the thresholds prescribed in the contract – hence, such could be invoked as a ground for the termination of the PSA.

The three-Commissioner majority, however, disputed such assumption, as they reckoned that: “while it may appear that the parties have absolute option to terminate the PSA by mutual agreement, the Commission reminds applicants that, in contrast to ordinary commercial contracts, PSAs are contracts imbued with public interest,” adding that the long-standing principle is: “public welfare is superior to private right.”

Conversely, in the dissenting opinion of the two other Commissioners, they averred that on a more comprehensive perusal of the CIC definition, such shall also “capture changes or variations that are abrupt and extraordinary.”

The two Commissioners also took reference on the testimony of Atty Jose Ronald Valles, first vice president and head of Regulatory Affairs of Meralco, during the August 30, 2022 ERC hearing, in which he laid down that: the triggering event/s constituting CIC shall be the ones “outside the reasonable control of the parties.”

Valles also told the Commission that “we would not have anticipated that there will be Ukraine war in 2019; we would not have anticipated that there will be gas restriction in 2019 or Indonesian coal ban,” noting further that had those disruptive factors been known to Meralco at that time, even the reserve price for the competitive selection process (CSP) on the PSAs should have been adjusted upwards and the bidders would have definitely submitted higher-cost price bids.

Depending on which side of the argument you’re leaning on: this is the trick or treat to Filipino consumers in this Halloween season: for now, it’s apparent that consumers can enjoy the short-term euphoria of a suppressed rate hike.

But when the Krakens are out: Filipino ratepayers will certainly need to brace for a crashing impact on their future electric bills especially in a market fraught with a recurring horror story of tight supply dilemmas – because certainly, there will be longer term pain of more expensive rates spawned by volatilities triggered by the whip of geopolitical events and other disruptive factors shattering domestic and global energy markets.