Critics of this tender, coming from the companies that were left out, point out that the price offered is not sustainable and that there is a risk of speculation. The winning companies and the Government reject the questions.

Electricity tender activates competition and opens debate on effects of low prices

(El Mercurio) Activates new investments for US$ 3 billion. It implies a 20% drop in electricity tariffs in five more years. Eighty-four bids were submitted, with the lowest price offered in Chile in a tender of this type (US$ 29 per MW/h in a specific block). And as never before, conventional and non-conventional energy (NCRE), large and small, foreign and domestic companies were measured as equals.

The big winners were non-conventional energies, especially wind energy, represented by companies such as Mainstream, Acciona and WPD. They are joined by Endesa . On the other hand, basic energy sources – dam hydroelectric, coal and gas – offered by companies such as Colbún, Aes Gener, Engie and Gas Natural Fenosa, were left out.

But with the most fiercely contested electric bidding in history over, the competition is still on the ropes.

Some of the companies that were not awarded contracts criticize the process: that the price offered is not sustainable; that there is a risk of speculation; that the systemic effect of the intermittency of renewables is not considered – nor paid for; that there are transmission restrictions that will prevent the cheapest energy from reaching the largest consumption centers; that natural gas was harmed.

The questions are not about all the companies that were not awarded contracts. Engie, a former Suez group, explains that since they are very active in the free customers market, they participated in the bidding process with the surplus and without the pressure of having to win a block. And GPG Chile (Gas Natural Fenosa), which narrowly missed out, says it will go ahead with a US$ 360 million investment plan.

On the other hand, the winners of the competition are happy and disdain the criticism, which they believe is due to the fact that the large electricity companies were used to having no competition.

“It was a good tender, we managed to lower prices and clean up the matrix,” says WPD Chile, a German electricity company that offered wind energy with 103 wind turbines, some in projects and others under construction, in Biobío and La Araucanía. “Chileans had become accustomed to high prices, but in the rest of Latin America and most OECD countries electricity tariffs are lower,” says Bart Doyle, general manager of Ireland’s Mainstream, which took 26% of the energy tendered.

How true are the questions about the process? Will the debate continue to shake up the electricity industry?

Hugh Rudnick, partner at Systep and academic at UC, considers that this tender was successful for many reasons, from the change in the bases, the anticipation of the calls for bids or the longer duration of the contracts, to external factors such as the dramatic reduction in the costs of wind and solar renewable technologies, as well as the approval of the transmission law, which reduced the risks for new generators. But he admits that the low price is not sustainable in the long term for new base-load power investments with liquefied natural gas or reservoir hydropower.

“Bell Tower Factor”: the risk of low-priced contracts

One of the most recurrent criticisms of the companies that did not win is that the low bid price is not sustainable, so there would be a risk of speculation. This is because unconventional plants take a short time to build -one year or less- companies that won the contracts could wait four years (until 2020) before deciding whether to invest or not and would only build new plants if construction costs are low. If prices are high, they would opt out of the contract, because the cost of this decision is very small, say industry insiders. In the case of Mainstream, they point out, breaching the contract would mean US$ 36 million out of a global investment of more than US$ 1 billion.

If the plants were not built, a new bidding process would have to be carried out, with higher tariffs. They cite the example of diesel-fired Central Campanario (then controlled by Southern Cross), which almost a decade ago was awarded a contract at low rates, but when fossil fuels rose it was unable to cope with the price shock and was on the verge of insolvency in 2011. But in the meantime, all the electric utilities had to contribute energy to the system to prevent it from collapsing.

“The risk of speculation always exists and it is likely that some bidders have speculated on higher NCRE investment cost reductions, which may not take place,” says expert Hugh Rudnick. “The authority could explore in the future other mechanisms to ensure supply and reduce the risks of non-compliance,” he adds.

But the National Energy Commission (CNE) responds that the bidding conditions include a series of audits related to the fulfillment of the construction milestones of the projects and that the guarantees for non-compliance increased three times in this process, so “the exit barrier is high”.

Directly alluded to in the criticism, Mainstream denies that such a risk exists because it argues that the prices quoted reflect the cost today – and not in the future – of unconventional technology such as wind, says Bart Doyle. He adds that even if they have a specific problem in any project, they have a geographically diversified portfolio of 2,000 MW (double the amount awarded to this company), which helps them to face contingencies.

José Ignacio Escobar, general manager of Acciona Chile, assures that their knowledge of the market allowed them to make a competitive offer that reflects current costs.

But critics of these prices say that even if the plants were built, given the lower plant factor (percentage of use) of wind and solar plants, which operate only some hours of the day, they must have back-up base load power, what happens when that power becomes more expensive, and how do you fulfill contracts with that variability?

The CNE points out that a study prepared by the Ministry of Energy concluded that the national electricity systems today have sufficient resources to efficiently add 68% more renewable energies, where NCRE could represent more than 40% of the national matrix.

In this regard, the government’s analyses show that even under conservative assumptions and without incorporating improvements to operational management, it would be efficient to integrate wind and photovoltaic energy, representing 30% of the annual national electricity generation.

Mainstream adds that if there were a price problem in conventional energy, it would affect everyone, not just them.

Controversial “ancillary services

A topic of analysis in the electricity sector is the so-called “ancillary services”. In short, it is the cost to be paid for the input and output of the different types of energy entering the system. In the case of NCRE plants, their intermittency causes them to enter and leave the grid many times, which results in higher costs.

According to the large generators, there is no regulation governing this payment, which will become more frequent as more and more non-conventional energy sources, which are further away from the centers of consumption, begin to operate.

The CNE says it is in the midst of implementing a standard. “This process is being done with the participation of all actors in the sector and we hope to obtain the best regulation in the coming months, allowing us to prepare for this scenario,” adds the entity.

Another complication they see is that as by 2021 the Norte Grande Integrated System (SING) and the Central Integrated System (SIC) will already be interconnected, which will happen next year, there may be congestion in the transmission of solar and wind energy, which is generated intensively in the northern part of the country.

According to estimates by the companies that were left out of the process, one third of the day will be congested, and 50% of the so-called “sun-hours” -the time when solar energy is generated- will have this problem.

The CNE explains that the construction of the Cardones-Polpaico line by Interchile -which will reinforce the backbone transmission network and facilitate the transport of energy from the north to Santiago- will be operational in 2018 and will solve this difficulty.

Gas punishment

For the government itself, it was a matter of concern that, despite an express policy of betting on natural gas, no electricity company that uses this fuel has won any block.

This was due to the fact that the authority demanded that gas prices be indexed to international projections, which point to increases in the long term. However, industry executives point out that the authority chose forecasts above market estimates, which hurt gas.

In the case of GPG Chile, the electricity arm of CGE (Gas Natural Fenosa) and an active player in the gas business, they explain that they made “a very competitive proposal, which was left out of the most competitive bidding process in the history of the country by a slim margin”. Even so, they estimate that their Tierra Noble combined cycle (natural gas and steam) project “due to its technology, environmental advantages and price competitiveness, will be a contribution to the matrix”.

The company expects to continue growing in Chile and, with respect to changes in the regulatory processes, believes that there are several models to consider, but that what is relevant is that the country defines how it expects the energy matrix to grow. In this sense, it shows that Chile has made a commitment to NCRE and to increase the presence of natural gas.

Acciona: four companies had 95% of the market share

New entrants argue that prices have dropped because there is more competition today. “For decades the electricity sector was an oligopolistic market, with four groups controlling more than 95% of generation,” says Acciona’s José Ignacio Escobar, who refers to Endesa, AES Gener, Colbún and Suez. And he adds: “With the country’s bad strategic decisions in terms of dramatically increasing our dependence on fossil fuels, polluting and imported, we had as a result a permanent increase – well above the world average – of our electricity tariffs, reaching values above US$ 120 per MW/h”.

Escobar points out that the difficulty of the large electricity companies to enter this bidding process is explained by the fact that since they had contracts at very high prices, it was very likely that they would not be in a position to bid at low prices, since it means recognizing a 30 or 40% decrease in their income for the next 20 years.

Manuel Cruzat Valdés, an economist and one of the first voices to warn of market concentration in the sector, maintains that “what was missing was that the greater competition promoted by the Ministry of Energy and the more active jurisprudence of the FNE and the TDLC should be reflected in prices. This tender materialized both adjustments”.