OPINION PIECE: RENEWAL OF THE BULK ELECTRICITY PURCHASE AND RESALE LICENCE ISSUED TO THE NIGERIAN BULK ELECTRICITY TRADING PLC

The Nigerian Electricity Regulatory Commission (NERC) recently put out a memo requesting for stakeholder input regarding the renewal of the bulk electricity purchase and resale licence issued to the Nigerian Bulk Electricity Trading (NBET) Plc, particularly as it relates to:

• Perception of NBET’s fulfilment of its mandate following the grant of its 10 year license on 15th November, 2011.
• Comments on progress that has been made towards achieving a more competitive, contract-based electricity market since the issuance of NBET’s licence in 2011.
• Comments on the proposed commencement of partial activation of contracts for phased bilateral contracting for power between generation companies (GenCos) and distribution companies (DisCos).
• Comments on the novation of the rights and obligations of NBET following the declaration of a substantially competitive market as enshrined in the Electric Power Sector Reform Act (‘EPSRA’ or ‘the Act’) (2005).
• Comments on NBET’s role in a substantially/fully competitive market with due consideration of pending legacy issues.

This report will briefly assess the viability and readiness of the market to transition to the anticipated wholesale competition stage and the role of NBET across the various market stages.

The market stages in the development of the Nigerian power market are enshrined in two key documents. The first being the EPSRA which also encapsulates features that will typify the various market stages.

These stages are broadly categorised in the Act as

(1)??Competition during the pre-privatisation stage under Section 25 of the EPSRA; and

(2)??Competition during the post-privatisation stage under Section 26 of the EPSRA.

The Act by virtue of its provisions in Section 25(a) anticipates that during the pre-privatisation stage, the trading licensee (NBET) holding a bulk purchase and resale licence or an interim licence will engage in the purchase and resale of electrical power and ancillary services from Independent Power Producers (IPPs) and from the successor generation companies in accordance with its licence.

However, following the declaration by the Minister that a more competitive market is to be initiated as anticipated in Section 24(2) of the Act, the trading licensee (i.e., NBET) is to cease from entering into any further contracts for the purchase of electrical power or ancillary services and it is to begin the process of novating its existing rights and obligations to purchase electrical power and ancillary services to other licensees in accordance with its license based on the provisions of Section 26(1)(a)of the Act.

The declaration by the Minister as envisaged in the Act, is however subject to the Minister taking into consideration the attainment of certain conditions precedent/determining factors captured in Section 24(1)(2) including:

a)?????The degree of privatisation that has occurred.

b)?????The existence of a sufficiently large number of potential competitive entities, to avoid the likelihood of an abuse of market power; and

c)?????The existence of other preconditions, including the necessary metering and information technology infrastructures, required for the operation of a more competitive electricity market.

The Act however failed to expand on the parameters for competition during the post-privatisation stage and there is a lack of clarity regarding what period within the various market stages qualifies as the ‘more competitive market’ to be declared by the Minister. Nevertheless, based on the current provisions in the Act pertaining to the considerations for the Minister’s declaration, is it safe to say that the market is in fact ready for wholesale competition?

The Market Rules on the other hand makes provision for three (3) stages regarding the pathway to a competitive market which are:

(i)?????????????????The Pre-Transition Stage.

(ii)???????????????The Transition Stage; and

(iii)?????????????The Medium Term Stage

Various schools of thought have been postulated to the effect that based on the conditions/features of each market stage as detailed in the Market Rules, there is a need to accommodate other stages in the market staging framework. This is however outside the scope of this piece.

If the Market Rules were to be strictly interpreted, the expectation would have been that the trading licensee (NBET) referenced in Sections 25 and 26 of the Act ought to have novated its contractual rights to other licensees as anticipated in the Act during or on conclusion of the Pre-Transition stage because the Market Rules in its provision in Rule 6.3.1 anticipates that all electricity trading arrangements during the Transitional Stage will be consummated through contracts. Hence, it can be inferred that by this provision, the Rules anticipate a more competitive market or at the very least, a substantially competitive market considering the proposed contracting framework during the Transitional stage of the market which is the stage the market is currently operating. This depicts what can be termed as structural inconsistencies between the Act and the Market Rules.

Before delving into the assessment of the market readiness for wholesale competition, it is important to point out that NBET currently operates as a Single-Buyer in the Nigerian Electricity Supply Industry (NESI). This model of market structuring is commonly found in developing countries across Africa and Asia and it often represents the first step towards liberalisation. In the Nigerian context, NBET as the trading licensee purchases power from the GenCos via Power Purchase Agreements for resale to the DisCos via Vesting Contracts. There are ongoing issues regarding the contractual framework and operability across the value chain such as the inconsistencies in regulatory pricing and cost recovery, which are outside the scope of this piece.?

NBET via its incorporation was established with the specific purpose of carrying out, under licence from NERC, the bulk purchase and resale function anticipated under the Act. Notably, NBET is backed by credit enhancement from the Federal Government and was established as a government-owned transitional entity to carry out contract management and bulk trading on behalf of the DisCos and GenCos until such time as the industry has developed the accounting, settlement, and governance systems required for successful bilateral trading. Has the industry developed and is it sufficiently equipped to progress into bilateral trading without NBET?

In my opinion, the market is not mature enough to operate a bilateral trading framework, although some may argue that various market structures towards the transition to a market with multiple service providers are already in place under the auspice of the Eligible Customer/’Willing-Buyer/’Willing-Seller’ framework, albeit still at its infancy in terms of actual implementation in the market.

Although it is anticipated that the market will progress and deploy wholesale and retail competition models in future, however, several pre-conditions must be fulfilled including- (i) active contracts, credit-worthy off-takers who are able to contract for additional capacity with sufficient payment securities in place, cost-reflective market-based tariffs, balancing market, Independent System Operator, adequate generation to meet demand all year and avoidance of the abuse of market power, adequate transmission capacity, fully liquid market, etc.

Currently, the biggest limiting factor hindering the market evolution process is the lack of active contracts in the market which is a pre-requisite for bilateral trading in the medium-term market. The Market Rules and the Electric Power Sector Reform Act (2005) do not envisage a market with partially activated contracts, rather the expectation is for all contracts to be fully activated and fully operational. These inactive contracts are in existence due to capacity shortage challenges and the attendant infrastructure to wheel additional contracted capacity, network challenges, regulatory inconsistencies, liquidity issues, lack of effective payment security and guarantees to backstop payments in the respective Power Purchase Agreements (PPA’s), lack of payment discipline resulting in payment defaults, thus depicting contractual misalignment across the industry value chain.

The proposed contract activation for phased bilateral contracting is therefore a step in the right direction. Nevertheless, the elements for effective bilateral contracting, albeit via a phased approach need to be in place. A bilateral contract is simply a written agreement whereby the seller agrees to provide power to the buyer for a payment. It allows generators to sell electricity directly to distributors and large consumers. For a market to effectively transition to a bilateral trading arrangement, several essential elements are required including:

·????????Sufficient power generating capacity to meet demand

·????????Diversity in fuel supply markets to facilitate competition among generators

·????????Developed Power Transmission system

·????????Third Party Access

·????????Developed Domestic Capital Markets

·????????Independent System Operator

·????????Adequate balancing mechanisms and settlement system

·????????Effective Governance System

·????????Sufficient legal infrastructure for dispute resolution

·????????Effective contractual default triggers, etc.

?In my opinion, the pre-conditions as anticipated in Section 24(1)(2) of the Act alongside the pre-conditions for the Medium-Term Market as foreseen by the Market Rules have been substantially unmet.

In terms of the novation process by NBET, currently in the Act, there are no clearly defined metrics regarding the Key Performance Indicators (KPI’s) for market development that will result in the eventual winding down of NBET. The specific circumstances guiding the novation process ought to be defined. Prior to novation however, consideration should be given to limitation issues that may occur when novating a contract in terms of statutory rules of limitation amongst other factors for consideration. Other alternatives may also be considered. In Pakistan for example, rather than adopt the proposed process of novation of existing contracts in the Nigerian power sector, Pakistan has proposed the creation of Special Purpose Supplier (SPS) to take over on a transitory basis the agent and demand aggregation functions of the Central Power Purchasing Agency (CPPA-G), to act as purchaser on behalf of?DisCos for pre-existing PPAs/Energy Purchase Agreements (EPAs) until such contracts are assigned to the DisCos to become direct bilateral contracts as it is believed that assignment/novation of existing contracts is a hectic exercise involving long negotiations with IPPs on the terms and conditions of the assignment/novation. Thus, the existing contracts will be parked with the SPS with the same terms and conditions that exist in the PPAs/EPAs/contracts of the IPPs.

While the above indications regarding the current state of the market support the case for the renewal of NBET’s contract, it is important that a structure is put in place to position the market for an effective transition at the anticipated future date to avoid endless contract renewals by the bulk trader.

Recommendations for consideration include:

• Resolution of statutory inconsistencies
• Alignment of Pricing and Cost Recovery framework
• Contract activation
• Appropriate contractual structuring of NBET as a transitory vehicle until market readiness for bilateral trading
• Strengthening DisCos creditworthiness and readiness as market participants
• Drafting of Transitional Rules for implementation of the various stages
• Effective load management (demand response, interruptible load, and in extreme cases, load shedding) must be in place alongside adequate metering and network infrastructure
• Information Technology Infrastructure for transparency, data institutionalization, metering planning and forecasting, efficiency in power plant dispatch and improving processes and structures as prerequisites for effective bilateral trading
• Creation of an Independent System Operator
• Open access to transmission services; formalize transmission service rights and obligations

·????????Measures for market payment culture- credit cover mechanisms and payment system, etc.

Ultimately, it boils down to the existence of transparency, open access to information and predictability and accountability of all participants and service providers. The legal framework will need to be amended to factor appropriate licensing frameworks akin to what operates in more advanced climes like the United Kingdom, by decoupling segments of the value chain to facilitate future opening of the market towards forms of competition at the anticipated future date.