Pakistan_Energy_Sector_(1).pdf

IQC 391 – I – 11 – 00003

AID – 391 – 14 – 00001

PAKISTAN’S ENERGY SECTOR

Data Collection, Review and Preparation of International Tender document for the Diamer Bhasha Dam Project

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Disclaimer:

This Project is made possible by the support of the American people through the United

States Agency for International Development (USAID). The opinion expressed herein are those of the author(s) and do not necessarily reflect the views of USAID, A. A. Associates or

Techno-Consult International.

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Data Collection, Review and Preparation of

International Tender Document for the Diamer Basha Dam Project

PAKISTAN’S ENERGY SECTOR

OVERVIEW AND INSIGHTS

Prepared by : Huzefa Mazahir Ali

Revised by : -

Approved by : Azher uddin Khan

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Data Collection, Review and Preparation of

International Tender Document for the Diamer Basha Dam Project

PAKISTAN’S ENERGY SECTOR

OVERVIEW AND INSIGHTS

Table of Content

Key Abbreviations

1.0 ASSIGNMENT BACKGROUND

1.1 SCOPE OF INVESTMENT SPECIALIST

1.2 SCOPE OF THIS REPORT

1.3 METHODOLOGY

2.0 SUMMARY OF FINDINGS (EXECUTIVE SUMMARY)

2.1 CURRENT STATE

2.2 CIRCULAR DEBT ISSUE

2.2.1 Other Key Challenges

2.3 POWER SECTOR REFORMS

2.4 IMPORTANCE OF REFORMS FOR FINANCING OF DIAMER BHASHA DAM PROJECT:

3.0 POWER SECTOR – HISTORICAL DEVELOPMENT AND CURRENT STATE

3.1 INSTALLED CAPACITY

3.2 PEAK DEMAND AND CONSUMPTION PATTERN

3.3 CIRCULAR DEBT ISSUE

3.4 ENERGY MIX

3.5 PROJECTED DEMAND AND SUPPLY SCENARIO

3.6 CURRENT DEVELOPMENTS

3.6.1 Hydropower development

3.6.2 Electricity and Energy Imports

3.6.3 Coal Power Development

3.7 POWER POLICIES

4.0 POWER SECTOR REFORMS

4.1 GENERATION

4.1.1 Supply management

4.1.2 Demand management

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4.2 TRANSMISSION

4.3 DISTRIBUTION

4.4 TARIFF RATIONALIZATION

4.5 COMMITMENT TO REFORMS

4.6 POWER SECTOR REFORMS AND IMPLICATIONS OF FINANCING FOR DIAMER BHASHA DAM PROJECT

4.6.1 Financial Viability of the Power Sector

4.6.2 Government of Pakistan’s fiscal resources

4.6.3 Conclusion

5.0 BIBLIOGRAPHY

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Key Abbreviations

WAPDA Water and Power Development Authority

KESC Karachi Electric Supply Company

GENCO Generation Companies

NTDC National Transmission & Despatch Company

IPP Independent Power Producers

AEDB Alternative Energy Development Board

PEPCO Pakistan Electric Power Company

NEPRA National Electric Power Regulatory Authority

DISCO

HESCO

QESCO

LESCO

Distribution Companies

Hyderabad Electric Supply Company

Quetta Electric Supply Company

Lahore Electric Supply Company

RPPs Rental Power Plants

GoP Government of Pakistan

PPS Pakistan Power Sector

DBDP Diamer Bhasha Dam Project

BOOT Build operate own transfer

CPPA Central Power Purchase Authority

MoWP Ministry of Water and Power

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1.0 ASSIGNMENT BACKGROUND

Diamer Bhasha Dam Project (DBDP) is a very important project for Pakistan. When completed it would have a gross storage capacity of 8.1 million acre-feet (MAF), live storage of approximately 6.4 MAF and installed power generation capacity of 4,500 megawatts (MW), yielding about 19,000 gigawatt hours (GWh) annually.

The United States Agency for International Development (USAID) is supporting the

Government of Pakistan (GOP) in developing the project and more particularly in attracting financing for the project. USAID has currently engaged an advisory consortium to carry out preliminary environmental, technical and financial studies.

The purpose of this exercise is to undertake a rapid data review of the existing work done and advise on any potential issues which may need to be addressed prior to launching this project.

1.1 Scope of Investment Specialist

The advisory consortium’s scope of work has been divided into environmental, technical and financial aspects. With regards to financial aspects, the

Consultants/Investment Specialist has four deliverables which are as under:

1. Power Sector Overview

2. Energy sector financial claims on GOP

3. Diamer Bhasha Dam Project financing

4. Terms of Reference for appointment of financial consultants

1.2 Scope of this report

This report is a second deliverable as part of the ongoing assignment and is intended to assist USAID by providing a thorough analysis of power sector of Pakistan and the contemplated reforms crtical for improving the viability of the power sector. The scope of this report is as under:

Discussion of the past and current power sector (supply, demand, tariffs, expansion, etc.)

Discussion of proposed reforms within the overall energy sector (generation, transmission, distribution, tariffs, etc.)

Significance of reforms with regards to attracting financing for Diamer Bhasha

Dam

1.3 Methodology

In preparing this report, greater reliance has been placed on secondary data sources, including Business Monitor International (BMI). Information about power sector reforms was collected by studying the various power policies of the Government of

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Pakistan and in particular National Power Policy of 2013 and Power Policy of 2002.

Furthermore, discussions were held with some industry practitioners (lawyers and bankers) who are cognizant of the problems faced by the investors to get their views on reforms that they view as critical for arranging financing for Diamer Bhasha Dam

Project. Other key sources/reports consulted were NEPRA’s State of the Industry report and Pakistan Energy Yearbook for the year 2012.

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2.0 SUMMARY OF FINDINGS (EXECUTIVE SUMMARY)

2.1 Current State

Energy shortfall has been increasing in Pakistan for the past several years and demand continues to outstrip production of gas and electricity in the country.

Pakistan faced a record shortfall of both power, and natural gas in FY12 according to

State of the Industry report, 2012. Despite several measures taken by the government, prolonged and frequent power cuts not only affected production activities, but also disrupted daily life. It is estimated that the current supply-demand gap in Pakistan stands at around 4500MW to 5000MW.

As of FY12, the total installed capacity of the country was 23,538 MW, of which thermal plants provide 16,035MW (68.12%), followed by hydro-power contributing

6,716 MW (28.53%) and nuclear plants 787MW (3.34%). Despite having a number of potential sites for building dams for water storage and low cost power generation, power production was dominated by thermal power plants running on oil and natural gas. 44% of total generation is thermal, based on expensive Residual Fuel Oil

(RFO), High Speed Diesel (HSD) and mixed sources

The increase in oil prices internationally has significantly increased the cost of producing electricity in Pakistan as the energy mix continues to be dominated by thermal plants. Persistent devaluation of the Pakistani rupee on account of trade imbalances has further contributed to the cost of electricity generation in local currency terms. The inflationary impact of this has adversely impacted the manufacturing sector in Pakistan, in turn also impacting the country’s export sector.

2.2 Circular Debt issue

The most important challenge being faced by the power sector is the Circular Debt issue. It is caused by non-payment/delayed payment of bills by National

Transmission and Distribution Company to IPPs and GENCOs, who subsequently delay payments to their suppliers (Oil Marketing and Gas Distribution companies), who are then unable to make payments to Refineries and Energy & Petroleum exploration companies. This eventually delays debt servicing by IPPs, which when eventually settled, costs the public utility even more on account of penal charges accruing on delayed payments. Circular debt results in under-utilization of existing capacity and has deterred investment in the sector despite the attractive returns on offer.

2.2.1 Other Key Challenges

The inability of utilities to invest in more efficient transmission and distribution also results in greater operating inefficiencies. The ageing transmission and distribution systems results in line losses of up to 25% against developed country benchmarks of

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6-7%. Despite a significant increase in energy demand, supply remains a problem due to limited exploration of natural gas and oil; slow progress on development of

Thar coal fields (one of the largest lignite reserves in the world); meager investments in port infrastructure for energy imports, and insufficient fiscal resources to maintain

Pakistan’s generation capacity at optimal levels. On the demand side, subsidized energy has reduced incentives for conservation, and has encouraged inefficient consumption.

In addition to circular debt, the other key issues, including supply and demand side factors contributing to the electricity shortfall are as under:

► High fiscal and current account deficits which result in reduced ability on the part of government to pay the electricity subsidy and import more fuel for power generation respectively

► Natural gas shortages with competing demands from residential, CNG pumps and industrial segments resulting in underutilization of existing power generation capacity

► Reduced reservoir capacity of some of the larger hydropower projects over time due to silting with consequent impact on electricity generation.

► Demand growth is also somewhat inefficient due to factors such as use of inefficient consumer electronics and electric bulbs, backup power generation at relatively higher marginal cost and cultural factors leading to underutilization of available daylight.

2.3 Power Sector Reforms

Conservative estimates indicate a reduction in overall GDP growth of Pakistan of upto 2% per annum due to electricity shortfall in the country. Furthermore, its ancillary problems contribute towards a high fiscal deficit.

The new government that has come to power in 2013 has identified the energy sector as a key area of focus and has made some progress on its energy sector initiatives. The government is also under pressure from its key lender (International

Monetary Fund) to undertake the much delayed sector reforms before it can qualify to receive more loans. In this regard the government has already displayed its seriousness by repaying almost PKR 500 Billion in circular debt dues which resulted in utilization of upto 1700 MW of idle capacity as well as increasing the tariff. A new energy policy has also been announced which contains several initiatives to prevent a recurring build-up of circular debt as well as increasing the supply of electricity.

These include inter alia:

► Tariff rationalization – i.e. curtailing the electricity subsidy being offered by the

GOP

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► Improvement of the energy mix through promotion of low cost generation, utilizing indigenous hydro and coal sources

► Promotion of energy conservation measures ► Improvement in efficiency of existing generation plants and investment to upgrade ageing transmission lines ► Reducing the footprint of the government through privatizations which is expected to bring about improvement in management and thus performance of privatized entities

► Undertaking sector reforms through strengthening of the regulatory framework and improving the institutional capacity of the regulator (NEPRA’s)

2.4 Importance of reforms for financing of Diamer Bhasha dam project:

As per the indicative financing plan prepared by WAPDA, the financing of Diamer

Bhasha dam is contemplated to be arranged primarily through borrowing. Given the issues identified above, it is imperative that power sector’s viability is improved by resolving the circular debt issue and taking measures to ensure that its recurrent build up is addressed to make the sector attractive for investors. Further, improvement in Pakistan’s macroeconomic indicators and fiscal deficit would also be key to ensuring that financing for Diamer Bhasha dam is arranged.

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3.0 POWER SECTOR – HISTORICAL DEVELOPMENT AND CURRENT STATE

The main institution entrusted to manage the power sector since 1959 was Water and Power Development Authority (WAPDA). While WAPDA still controls hydropower development, thermal generation, transmission and distribution have been transferred to Pakistan Electric Power Company (PEPCO) whereas Karachi

Electric Supply Corporation (KESC) handles this function in the metropolitan city of

Karachi. Presently, the Central Power Purchase Agency (CPPA) at PEPCO coordinates payments between four generation companies (GENCOs), a National Transmission and Dispatch Company (NTDC) and ten distribution companies (DISCOs).

Government of Pakistan, cognizant of its limited fiscal resources actively encouraged participation by the private sector. But the generation mix has not been actively managed. Under the 1994 Power Policy, a large number of independent power producers (IPPs) entered the market, adding generation capacity that was based primarily on furnace oil. This trend continued over the past decade as additional incentives were provided to the power sector under the 2002 policy.

Historically, the country’s power generation mix was sustainable and low cost. The ratio of hydel to thermal generation was 67% in (1985). However, this has now completely reversed as thermal generation accounts for ~ 68% of the capacity. Due to lack of political consensus on building dams, no major hydropower projects were initiated. When the policy of adding thermal power plants to the system was initiated in the 90s the tariff differential between Hydel and Thermal projects was not as significant as it is today due to the lower oil prices prevalent then. However, the oil price boom in 2007-08 changed this balance. The energy mix that resulted from this policy and the inability of successive governments to transfer all of the increase in the resulting energy costs to consumers has led to major fiscal imbalances and increased government borrowings.

As per the provisions of power policy IPPs are guaranteed minimum capacity payments (regardless of whether plant is actually dispatched) which are sufficient to cover debt servicing, return on equity and other fixed costs. If plant is actually utilized the fuel costs and other variable costs for the power plant are also paid.

However, due to acute balance of payment position it is not feasible to a) keep importing furnace oil and b) keep generating electricity on relatively high tariff differentials. As a result, the offtake from IPPs are limited, as much as possible, to the capacity payments, resulting in sub-optimal utilization of the installed capacities.

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3.1 Installed Capacity

In Pakistan, the major sources of electricity generation are hydel and thermal

(Residual Fuel Oil, Diesel and natural gas based fuels). Nuclear power contributes around 3.3% of the total installed capacity.1 Pakistan had an installed generation capacity of 23,536 MW at the end of FY 2012. However, the available capacity remained less than 14,000 MW (up from FY 2011 level or circa 12,000 MW) due to shortage of gas and lack of funds for RFO and HSD. Break-up of available capacity is as under:

Installed Capacity by type in MW - State of Industry Report 2012

Energy Type

Power Co. 2008 2009 2010 2011 2012

Thermal PEPCO 4,899 4,900 4,885 4,720 4,720

KESC 1,756 1,846 1,946 1,821 2,381

IPPs 6,035 6,218 7,322 8,577 8,560

Rental 286 286 172 453 50

CPPs/SPPs 239 239 272 324 324

Hydro WAPDA 6,444 6,444 6,444 6,516 6,587

IPPS 111 111 111 129 129

Nuclear 462 462 462 787 787

Total 20,232 20,506 21,614 23,327 23,538

Most of the capacity addition which has taken place in the past 5 years has been brought about due to coming on stream of various IPPs. These IPPs, while more efficient than the older plants, still have a higher tariff than the national average.

Four of these IPPs are gas based and have relatively low operating costs. However, due to gas shortages these have not been able to operate at capacity.

Decline in capacity of Rental Power Plants (RPPs) was also witnessed in the last 2 years as supply from these power plants has been excluded from the system. Tariff of RPPs is the highest amongst all electricity sources.

The current government has been encouraging private sector investment in small hydropower projects by offering 17%, US$ linked, baseline Return on Equity and other incentives. However, this has not yielded substantial results so far. One of the key reasons for this is that the financial health of distribution companies (DISCOs) that can offtake power from these projects is unattractive to lenders. Besides, the financial and administrative autonomy enjoyed by DISCOs (other than KESC) is also

State of Industry Report – 2012

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3.2 Peak Demand and Consumption Pattern

Peak demand has increased substantially in recent years. In FY12 the gap between supply and demand remained between 4000-5000 MW for the year with an observed peak demand supply gap of 6,325 MW2. Demand typically peaks annually with the onset of the summer season as consumption by all sectors witness an increase. In winters the demand for electricity declines. However, due to lower reservoir levels in dams as well as gas shortages due to higher consumption for heating, electricity output also declines which results in persistence of this gap.

3.3 Circular Debt Issue

The inter-corporate circular debt remains one of the most fundamental issue impacting the energy sector. Circular debt arises due to lower collections against electricity sales by DISCOs than the cost of electricity supplied by CPPA/NTDC. This prevents CPPA/NTDC from being able to make scheduled payments to GENCOs and

IPPs resulting in shortage of working capital at their end. These entities correspondingly delay payments to fuel suppliers (PSO, SSGC, SNGPL) who are then forced to make delayed payments to Refineries, OGDC/PPL (gas fields) etc. Due to delays in payments and corresponding working capital constraints the available capacity is not fully utilized.

The major reason for the build-up of circular debt is the tariff differential subsidy paid to consumers. NEPRA did not allow any revisions in tariff of power generation and distribution companies from 2003 till 2007. In February 2007, NEPRA allowed some upward revision but the government-notified tariffs remained lower than those determined by NEPRA. Generation cost of energy increased prominently during the oil rally when oil prices touched USD 147 per barrel. The government, for socio-political reasons, decided to keep the end-user tariff unchanged, widening the gap between generation cost and end-user tariff, and with the government unable to make timely subsidy payments, circular debt became large enough to cripple the operations of the whole oil and energy chain.

The circular debt issue has not only resulted in underutilization of capacity but also has deterred investment in the sector. Investors are concerned about the impact on their equity returns, while lenders, particularly international lenders, view the sector with caution and look to the government for making structural reforms to address these issues.

State of the Industry report, 2012 by NEPRA

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Although, the government is now increasing the tariff on a more frequent basis to adjust the impact of change in fuel prices, there still remains a significant difference.

Other reasons for circular debt include: (i) non-payment by the provincial governments and AJK; (ii) over-billing and low collection of the bills especially in

HESCO, PESCO and QESCO; (iii) disallowing any expenditure by the regulator; and (iv) distribution losses.

The current government assumed power in June 2013 and matters on top of its priority list was to grant relief from electricity loadshedding to industrial and residential consumers. The most viable short-term solution was to bring on stream the under-utilized capacity by settlement of circular debt and providing the much needed working capital to the energy supply chain. Hence, the government cleared the unpaid bills of the public and private power companies and their fuel suppliers to the tune of Rs480bn through cash payment of over Rs322bn just before the close of fiscal year 2013, and made a non-cash settlement of above Rs138bn in the first few weeks of financial year 2014. This resulted in addition of upto 1700 MW of capacity in the system.

However, in less than six months the Circular Debt again increased to PKR 216 Billion

(as reported by Dawn newspaper).3

3.4 Energy mix

In 2012 the energy mix worsened, leading to further increase in power purchase costs for the DISCOs. Curtailment of natural gas, necessitating usage of expensive furnace oil, and overall decline in the share of hydel generation in the total generation resulted in a sustained higher cost input for the DISCOs.

Average costs of units delivered to DISCOs (2011-2012)

Particulars HYDRO Coal HSD RFO Gas Nuclear Import Mixed Wind

GWH 28,643 66 1,474 30,662 23,431 4,413 296 730 6

% share 31.93 0.07 1.64 34.18 26.12 4.92 0.33 0.81 0.01

Cost (Mn Rs) 4,660 206 27,848 488,617 99,340 4,978 2,662 9,331 51

Cost (Rs/KWh)

0.16 3.12 18.89 15.94 4.24 1.13 8.99 12.78 9.12 http://www.dawn.com/news/1062035/power-sectors-circular-debt-piles-up-again

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Source: State of Industry Report

Average costs of units delivered to DISCOs (2010-2011)

Particulars HYDRO Coal HSD RFO Gas Nuclear Import Mixed Wind

GWH 31,958 66 422 31,253 22,998 2,930 269 585 2

% share 35.32 0.07 0.47 34.54 25.42 3.24 0.30 0.65 0.002

Cost (Mn Rs) 8,661 195 6,242 375,634 78,848 2,900 1,244 6,558 19

Cost (Rs/KWh)

0.27 2.95 14.79 12.01 3.42 0.98 4.62 11.21 9.5

Source: State of Industry Report

As can be seen above, the generation cost of furnace oil based power plants increased from PKR 12 per KW/h in 2011 to PKR 16 per KW/h during 2012. Hydro costs remained the cheapest at less than PKR 0.20 per KW/h. This increase in electricity costs has impacted the competitiveness of Pakistan’s industries.

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3.5 Projected demand and supply scenario

The State of the Industry Report 2012 issued by NEPRA forecasts the country to enjoy surplus electricity by 2015, as depicted in the table below:

Projected Power Demand & Supply in Pakistan. Source: State of the Industry Report 2012, NEPRA

These projections include substantial new capacity addition through renewable energy. However, due to delays in commissioning of power plants historically, among other things, NEPRA’s forecast may be optimistic.

The table below presents Pakistan’s total electricity generation (current and forecasts) according to Business Monitor International (BMI), an independent research agency. The data indicates that Pakistan’s energy availability is expected to grow at very low rates and it is unlikely that the demand – supply gap would be bridged in the medium term.

Pakistan’s total electricity generation

2011 2012 2013e 2014e 2015e 2016e

Total Generation, TWh

92.07 96.98 99.67 103.19 106.59 110.95

Total Generation, Growth % y-o-y 4.37 5.34 2.77 3.53 3.30 4.08

Total Generation, KWh per capita 522.62 541.32 547.23 557.40 566.56 580.34

BMI provides the following key reasons that underpin its electricity generation forecasts.

“On the supply side, Pakistan's power generation is forecasted to grow to 99.7 terawatt hours (TWh) in 2013, up 2.8% from the previous year, although this will fall

BMI (Business Monitor International) – Industry forecast 2013

2013 2014 2015

Planned Generation (MW) 24,212 MW 25,081 MW 34,223 MW

Projected Demand (MW) 27,092 MW 29,032 MW 31,299 MW

Surplus/Deficit (MW) -2,827 MW -4,250 MW 2,481 MW

-10,000 -5,000

5,000

10,000 15,000 20,000 25,000 30,000 35,000 40,000

Power Demand & Supply Projections

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Page 18 of 33 AAA-TCI short of the growing demand within the country. While it was previously expected that gas generation is to be at the forefront to drive Pakistan's growing generation, the political and operational setbacks have toned down the forecasts. It is now believed that primary gains will be from renewables generation, expecting the sub-sector to contribute almost 44% of the increase in electricity generated.

During 2013-2022, Pakistan's overall power generation is expected to grow by an annual average of 3.88% to reach 141.8TWh. Driving this growth is an yearly average of 5.9% rise in hydroelectric capacity, accompanied by a 4.3% increase in gas-fired generation.

Although growth in coal-fired generation is likely to see a slow start during the forecasted period, it is expected to accelerate, given the growing keenness by the local governments to take advantage of locally available coal mines, and average around 3.86% for the 10 year period ahead.

In comparison, oil generation is likely to experience a much slower growth rate, given the relatively high cost of fuel and greater level of pollution emitted, leading us to forecast this segment to expand at a mere average rate of 0.46% per annum.5

Developments spurred by the new government have been positive, although the extensive involvement of several local and foreign parties means that quick changes will be unlikely.

Indeed, the additional requirements laid down by the IMF will bring further challenges and test the government's resolve to implement reforms.”

3.6 Current developments

The National Energy Policy 2013-18 issued by Pakistan's Ministry of Water and Power in 2013 aims to reduce the country's dependence on expensive thermal fuel generation and improve the power transmission and distribution system.

Hydropower development, along with induction of coal fired power plants (as well as conversion of existing plants to coal), would be the cornerstone of the country’s power sector policy. Following are some of the key developments taking place in this regard:

3.6.1 Hydropower development

Pakistan has huge hydroelectric potential of an estimated 42GW, but currently has only 7.5GWh of installed capacity. The government's 25-year energy security plan envisages an increase in hydro-electric capacity of up to 26.2GW between 2005 and

2030. There are various projects under consideration, including mega projects like

Diamer-Bhasha dam and Dasu dam, which are expected to have a capacity of

4.5GWh and 7.4 GWh respectively on completion.

However, construction of various dams continues to be slow due to increasing environmental concerns, cost escalation and financing issues. Environmental disagreements continue to be a source of tension with neighbours like India as both

BMI – Industry Forecast

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The building of Neelum Jhelum project is a prime example, where the project’s costs are estimated to have escalated four times to PKR321bn (US$3bn). While the government has so far secured additional funding from Saudi Arabia (US$100mn) and OPEC Fund for International Development (US$50mn), the project still suffers from a shortfall of US$475mn of foreign funding. While loans have been agreed upon, cash flows have not been as smooth as many foreign governments such as

China and Abu Dhabi are keen to seek resolution on other outstanding issues.6

France's international development agency, AFD, is considering funding the Munda multi-purpose dam project in the Mohmand Agency of Pakistan's Federally

Administered Tribal Areas, according to AFD's country director, Nicolas Fomage. The dam is expected to produce 740MW of electricity. Additionally, it will be capable of storing 300mn cubic metres of flood water from the Swat River, with the project estimated to generate benefits worth PKR20.2bn (US$222.2mn) annually.

A 720 MW Karot Hydropower project envisaged to be setup on the Jhelum river near

Karot Village, which would be 74km upstream of Mangla dam. The plant is expected to deliver a net annual energy of 3,401Gwh having a plant factor of 54.5%. The project is being implements on BOOT basis for a period of 30 years, with its sponsors being China Three Gorges International Corporation (CTGI).

Another addition is the 84MW New Bong Escape Hydro Power located on Jhelum

River, some 7.5km downstream of Mangla Dam in Azad Kashmir. This project is expected to deliver an annual energy of 470 Gwh to the national grid. This project has materialized in 2013. The project was sponsored by Laraib Energy Limited, a subsidiary of The Hub Power Company Limited (HUBCO).

Another significant hydropower project at an advance stage is the 150 MW Patrind

Hydropower Project located on Kunhar River, near village Patrind in AJK. The project will deliver net annual energy of 632.62 GWh to the grid. The project is sponsored by

Star Hydro Company Limtied.

Along with medium sized hydropower projects NEPRA has approved tariff for small

RoR (Run of the River) hydropower projects during this fiscal year. Riali-II

Hydropower Project to be located at Muzaffarabad in AJK, with an installed capacity of 4.8MW, this project will deliver an estimated net annual energy of 28.629GWh.

Another RoR is 2.4MW Ghanool Hydropower Project which a smaller RoR project. It is envisaged to be located at Ghanool Katha on Balakot-Naran Road, district

6 BMI – Industry view

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Mansehra, KP province. Likewise 4.8MW Sahiwal Project Hyrdopower project being sponsored by Chenab Energy Limited is also a RoR project to be located at Lower Bari

Doab Canal, District Sahiwal.

The Energy Department, Government of Sindh (EDGoS) is also looking at developing various run-of-the river power projects and is in the finalization stages of developer selection and agreement on a circa 5MW hydropower project at Rohri Canal RD15.

EDGoS also plans to develop a number of additional hydropower projects along its canal network once their first project achieves successful financial close.

Other small hydropower projects with an average capacity 110 MW under REDSIP program are being implemented by AEDB through Provincial Government which are at various stage of completion.

3.6.2 Electricity and Energy Imports

Iran began negotiations with Pakistan in November 2012 on an agreement that would see Iran export 1,000MW of electricity. Both sides aimed to seal the agreement by September 2013. Mr. Mjid Namjou, Iran’s Minister of Energy, has further expressed keenness to build another power plant on Iran's border, so that his country could boost the total amount of energy available for export by another

2,000 megawatts (MW). Pakistan's neighbor has further pledged to complete the gas pipeline by 2014, a move which could alleviate the fuel shortages faced by certain states.

The two countries are looking at alternative forms of payment given Pakistan's weak fiscal balances and the international sanctions on Iran. These include the former paying for electricity with wheat, rice and steel, as well as payment to an Iranian construction firm operating in Pakistan. Progress on the Iran-Pakistan pipeline project remains stalled, mainly due to financing constraints on account of international sanctions against Iran due to its nuclear program. .

Progress of talks between India and Pakistan regarding the sale of electricity and petrol remains slow due to reluctance shown by Pakistani officials in the past.

Negotiations have been further stalled as India too faced its own power outages and other politically sensitive issues such as water become impediments to its progress.

While several suggestions have been raised during the talks, including building a pipeline directly to Lahore for oil imports as well as laying of transmission lines for electricity, the Pakistan government remains wary of issues such as security and dependability of supply from India.

3.6.3 Coal Power Development

Government’s coal power development strategy has two components a) develop indigenous resources, which is expected to have a large lead time, and b) set up

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i. Conversion of existing plants owned by GENCOs to coal. The Muzaffargarh plant, Jamshoro plant and Guddu plant have been set aside for this purpose.

ii. Gadani power park project – This is the flagship project of the current government and calls for installation of upto 10 coal fired power projects with an installed capacity of 6,000 MWh. The project would be based on better imported coal from Indonesia, South Africa or Australia. Due to large coal requirements (about 20 million tons per year) a special purpose jetty would have to be installed for economical coal transport.

iii. Accelerated development of Thar Coal reserves. A key development in this respect has taken place recently. An MoU has been signed between Sindh

Engro Coal Mining Company (SECMC) – a joint venture between Engro

Powergen Limited and Government of Sindh – with interest to invest equity by leading business groups in the country including Atlas, Liberty and

Sapphire for setting up the country’s first Thar coal-based power plant with an investment of $800 million7.

3.7 Power policies

Power Policies - a brief History

Historically, power generation was the sole responsibility of the Government of

Pakistan. To accelerate development of power plants, utilizing private capital as much as possible was considered to be most effective way of raising capital, thus enabling the government to continue utilizing its development funds on other infrastructure and social sector programs. The government announced various incentives for encouraging private sector investment over the years through various policies.

A summary of the key features of various power policies issued by the GoP in past are as under:

Power Policy 1994 Key features

► Investors are free to propose the location and opt for the technology and fuel.

► Investors could propose projects based on hydro, or other renewable and/or non-conventional sources of energy. The power will be purchased by WAPDA / KESC under the long-term contracts covering the concession period.

http://tribune.com.pk/story/647976/mou-inked-leading-groups-tie-up-to-set-up-thar-coal-power-plant/

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► Up-front Bulk Power Tariff

► Thermal projects will be implemented on Built-Own-Operate (BOO) model

► Availability of draft security agreements.

► Assurance for convertibility of Rupees and availability of foreign exchange to cover necessary expenses of the projects. PSEDF could provide up to 40% of the capital costs of the project.

► Reform of Section 13 of 1947 Foreign Exchange Regulation Act.

► Exemption from Income Tax in Pakistan for foreign lenders

Hydo Power Policy 1995 Key Features

► Transmission Line to be identified by GoP and constructed and maintained by private sector sponsor.

► Ensuring coverage of Grid Station above 220 KV and Transmission Line.

► Agreement of up to 30 years.

► Selection of Sponsors through International Competitive Bidding. Transmission Company to be paid service charge in $/month/km.

► Availability of PSEDF up to 40% of the project capital cost.

► Income tax and custom duties to be exempt

► Run-of-river hydel projects (preferably) up to 300 MW on BOOT basis

► Negotiated tariff introduced. Private Sector Energy Development Fund could provide up to 30% of the capital costs of the project.

► Income tax and custom duties to be exempt

► No sales tax to be paid

► In case of any hindrance by WAPDA, ninety-five (95%) percent of the energy that could be generated by the hydropower plant based on average historic hydrology for the month to be paid (to the IPP) by WAPDA

Power Policy 1998 Key Features

► Bids to be invited after preparation of feasibility studies

► Hydel projects on (BOOT) mode and thermal projects on a Build-Own-Operate (BOO) basis.

► GoP to guarantee the terms of executed agreements, including payment terms.

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► Implementation of projects through both solicited and unsolicited proposals.

Permission to issue shares at discounted rate and corporate bonds. Uniform tax facilities for private sector instruments.

► 90% First Year Allowance (FYA), for hydel and indigenous coal base projects the cost of plant, machinery and equipment.

► Hydel projects to be transferred to the province at the end of concession period.

► GoP will bear the hydrological Risk

Power Policy 2002 Key Features

► Policy covers private, public-private and public sector projects; Invitation of bids on tariff through Competitive Bidding

► Investors to be encouraged to exploit indigenous resources including hydel, coal, gas and renewable resources through active involvement of the local engineering, design and manufacturing capabilities.

► 5% Customs duty on the import of plant and equipment

► Levy of income tax on oil-fired power projects to enhance share of Renewable Energy Sources, hydel and fuels other than oil-based fuels,.

► For projects above 50 MW One – Window support to be provided at the Federal level. For projects below and upto 50 MW One Window support to be provided at the respective Provincial/AJK level.

► Ministry of Water and Power (through PPIB) to remain the focal point at Federal level.

► Develop raw sites whose feasibility studies are not available, unsolicited bids would be welcomed.

► Two-part tariff structure consisting of fixed capacity and variable energy component is recommended with the proviso that fixed capacity payment for Hydel projects would fall between 60% to 66% of the total tariff;

► Hydrological Risk to be borne by power purchaser (WAPDA/NTDC/KESC).

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4.0 POWER SECTOR REFORMS

The electric power sector in Pakistan is operated by the Water and Power

Development Authority (WAPDA) and the Karachi Electricity Supply Corporation

(KESC), with additional generation contributed by independent power producers

(IPPs). WAPDA is responsible for supplying power to all of Pakistan, with the exception of Karachi, which is supplied power by KESC. Currently, at least 15 IPPs operate in Pakistan under a build-own-operate transfer (BOOT) basis. The National

Electric Power Regulatory Authority (NEPRA) regulates the power sector in Pakistan, which includes power generation, transmission and distribution. NEPRA is also responsible for determining electricity rates.

The Pakistani government continues to seek to reform its state-owned power companies in the hope of improving efficiency in this sector and at the same time raising funds to reduce its deficits. KESC was the first electric utility to be privatized.

It is an integrated utility – the only one in Pakistan, and currently is listed on all three of Pakistan's stock exchanges. The company controls the power transmission network in the southern city of Karachi. WAPDA has been separated into three generation companies, eight distribution companies and a transmission entity to improve the likelihood of privatisation.

In 1992, the Strategic Plan for restructuring the Pakistan Power Sector (PPS) was approved by the government. As a part of the restructuring process, WAPDA's functions in the power sector were to be restructured into 14 public limited companies under the corporate law. Progress includes the creation of Pakistan

Electric Power Company (PEPCO) as a private limited management company owned by the government to steer, manage and oversee the reform program. The 14 sub-companies have been formed, with four thermal generators, one national transmission company and nine regional distribution entities.

In a bid to accelerate structural reforms in the power sector, the government established an entity to oversee transmission and consolidate procurement of power from GENCOs, hydro-electric plants as well as independent power producers on behalf of the distribution companies. The board of directors for the holding company, known as the Central Power Purchase Authority (CPPA), consists of representatives from the government, private generation companies, distribution companies and end-users. It was created to replace Pakistan's main utility PEPCO, which was scheduled to be dissolved by the end of 2011, for an interim three-month period. The CPPA does not interfere in the operational independence and financial autonomy of private generation companies. However, the organization often appeals to the National Electric Power Regulatory Authority to raise rates based on its costs of purchase as well as transmission losses.

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2013 was a historic year for Pakistan as it was the first time that a democratically elected government transferred power to another. One of the cornerstones of

Pakistan Muslim League – Nawaz (PML-N)’s election campaign was its pledge to deal with the dire energy situation in the country. PML-N’s leadership is generally considered business friendly and consists of businessmen with interest in various economic sectors of the country. This is also evident from the steps that the government has taken since coming into the office e.g. retirement of circular debt, attempts to establish closer business relationships with China to attract investment in the sector and India for possible purchase of electricity, announcement of new energy policies and privatization plans etc.

The new government is also under pressure from other stakeholders to undertake reforms. IMF has made reformation of the energy sector a top priority condition in return for providing another loan for balance of payment support. While some of the key initiatives suggested include more short to medium term measures i.e. market based pricing and removal of subsidy on electricity, higher load shedding in areas where recoverability of power bills is low, retirement of circular debt etc. to optimize generation capacity they are inevitably tied to a long term sector reforms agenda.

Furthermore, in the last few years, due to sluggish economic growth and erosion in fiscal space, the government practically has no other alternative to pushing through with much needed reforms.

It is in this backdrop, that the Government of Pakistan announced ‘National Power

Policy, 2013-2018’. The policy sets out ambitious goals to cater for the present and future energy needs of the country and addresses the key challenges of the sector.

The policy’s vision is to develop an efficient and consumer centric power generation, transmission, and distribution system that is sustainable and affordable. The policy sets various goals to be achieved by 2017 which can broadly be classified as under:

Build capacity that meets the energy needs (reduce supply-demand gap to zero).

Create a culture of energy of conservation and responsibility (through demand management)

Ensure generation of efficient, cheap, affordable and indigenous resource-based electricity

Minimize pilferage and adulteration in fuel supply.

Create efficient and modern transmission and distribution networks to minimize financial losses across the system (reduce supply losses from 25% to 16% and increase collections).

Improve governance and align all related federal and provisional departments (Improve decision making time in the sector).

The government has indicated that it wants to limit its role to policy making in future and let the market forces take the lead. Its intention is to transform NEPRA (the

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The contemplated reforms8 to achieve the stated goals, as indicated in National

Power Policy of 2013, are categorized as under:

4.1 Generation

The government aims to increase generation by working on short and long term solutions. In the short to medium term the focus would be on establishing coal powered thermal plants operating on imported coal with an eventual switch to a blend of imported and indigenous coal (Thar coal) in the long run. Another key area of focus would be hydel power generation with the government targeting non reservoir based run of the river plants and small/mid-scale dams in the medium term while also undertaking construction of reservoir based hydropower projects such as

Diamer Bhasha and Dasu in the long run.

The key anticipated steps/reforms to improve generation and reduce the supply-demand gap are as under:

4.1.1 Supply management

Short term measures:

► In the short-run, bring idle capacity online. The current government has retired circular debt of Rs. 503bn which resulted in utilization of upto 1,700 MW of idle capacity.

Furthermore, the government also seeks to reduce the accumulation of circular debt in future through various measures including the removal of subsidy

► Set maximum delay limits for settling payables of Gencos and IPPs to make sure generation capacity does not sit idle

► Instead of the current indiscriminate load shedding, target areas where thefts are high/collections are low

Medium to long term approach ► Move towards a more sustainable and low cost energy base. This would include providing appropriate incentives for investing in energy projects with a renewable (hydel, wind, solar, bagasse etc) or indigenous (thar coal) fuel source. Government is targeting the following measures in this respect:

Introduce a coal power corridor with capacity to generate 6000-7000 MW in near future

Proliferate mining across the country and expedite coal project at Thar blocks Push towards building medium and long-term hydel capacity – six projects totalling 388 MW are expected to be completed by February 2015 and in the long run various large dams such as Dasu, Diamer Bhasha and Bunji etc are targeted

National Power Policy, 2013

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Other policy measures

► Facilitate investors and reduce the time lag in project implementation by assigning “key client managers or relationship managers” at the Ministry of Water and Power (MoWP) who will act as ‘one window operation’ for investors in the power

► Develop infrastructure and provide incentives to attract greater private sector investments by setting up energy cities and corridors and sponsoring PPP for coal and run of the river projects.

► Deregulate the sector and shift to a market based model where GENCOs/IPPs are able to sell power directly to bulk consumers (public or private alike) through wheeling based approaches. This would provide allow investors to set up IPPs without the fear of getting embroiled in the circular debt issue. It would also move power generation near the load centers which would reduce the high transmission and distribution losses.

► Redirect supply of natural gas from GENCOs to more efficient IPPs

4.1.2 Demand management

The contemplated reforms under consideration to improve demand efficiency include:

► Set energy conservation and product labelling standards and ban import of non-efficient consumer electronics – a conservation program (based on energy saver lighting) is already underway with a saving potential of 1000MW.

► Give local…