Egypt forges ahead with IPP framework

Egypt forges ahead with IPP framework

Direct foreign investment in the country`s power sector is about to gather new speed

By Tim Hennagir

Contributing Editor

The energy sector in Egypt has improved tremendously in the past 15 years. Electrical power generation output now totals 113,000 MW annually, compared with 4,800 MW in 1980. The electricity sector now uses natural gas for power generation to save petroleum for other government projects such as refineries and exportation. Production of natural gas is now 4 trillion cubic feet per year, compared to 2 to 3 trillion cubic feet just a few years ago. In addition to capacity expansion, energy pricing reforms are ongoing. Low consumer prices for energy are gradually being adjusted to reflect real economic costs which make them closer to the international price and cost levels.

The Government of Egypt`s (GOE`s) efforts to improve the country`s power sector have prompted new measures to improve direct foreign investment in this infrastructure segment. In April 1996, a major consultancy contract was awarded to a joint services offering consisting of Chicago, USA-based Sargent & Lundy LLC; Arthur Andersen Global Energy Division, Atlanta, Ga., USA; and McDermott, Will & Emery of Washington, D.C., USA.

The project team will be instrumental in furthering Egypt`s acceptance of independent power producers (IPPs) and the build-own-operate-transfer (BOOT) principle. Once completed, the (US)$1.8 million, 18-month project will create the legal framework and other requirements for Egypt`s first private power solicitation.

This process furthers the Egyptian Electric Authority (EEA) of Cairo`s desire to further ownership and operation of power facilities by the private sector through competitive bid. Phase I of the project is reaching a final stage of completion and includes the following tasks:

– review of relevant laws to identify any constraints to BOOT power generation projects, recommendations on any modifications and development of rules and procedures for BOOT project approval and operations;

– development of tariff structure options and the financial model that will be used in bid evaluation;

– evaluation and allocation of BOOT project risk factors, including commercial risks such as exchange rates, force majeure risk and sovereign or government guarantees;

– preparation of documents for the power purchase agreement (PPA), fuel supply agreement, implementation agreement, and land lease agreement, as well as preparation of prequalification documents, short list selection and preparation of the draft request for proposal (RFP) and bid specifications; the second phase of the project covers finalizing the RFP and bid specifications, conducting the actual solicitation and evaluating the bid for Egypt`s first IPP; the third phase covers negotiating the contract with the selected project bidder.

“A number of years ago, before the joint services offering was put into place, our company submitted pre-qualification documents to EEA as a lead or primary contractor,” said Thomas J. Murray, Sargent & Lundy senior vice president and Egyptian BOOT project manager. “As our qualifications with EEA began to bear fruit, we were called in to negotiate the recent contract and provide technical support to EEA.”

BOOT basics

Essentially, there are three key services a primary contractor can offer an entity looking for investment or divestiture of electric utility infrastructure assets, Murray said. In Egypt, Sargent & Lundy leads the project team; Arthur Andersen supplies tax, financial and accounting support; and McDermott, Will & Emery provides legal and regulatory expertise to screen existing laws, as well as craft the verbiage of new laws permitting privatization.

A BOOT scheme in a country that doesn`t have the legal structure or the financial mindset to accept privatization naturally requires a complete screening of all laws dealing with privatization in any sector, whether its electrical, gas, oil or steel, Murray said. In his mind, the financial modeling side of the project required the expertise beyond what could be provided by Sargent & Lundy. Additional partners were needed–international entities in the field of private power with the credentials and reputation to generate and stand behind a financial model. “That`s Arthur Andersen`s role,” Murray said. “For Sargent & Lundy, our technical function is straightforward core services, since we are a mechanical, electrical, engineering company that provides services developing and designing power plants, whether they be nuclear or fossil-fired.”

Last July, more than 50 companies responded to Egypt`s original notice of a project. From that group, project team members Sargent & Lundy; Arthur Andersen; McDermott, Will & Emery; and EEA boiled the prospective players list down to 34 companies. It was this group that received request for pre-qualification (RFPQ) documentation.

In early December, pre-qualification submissions were in hand and responses were received from all 34 companies, which formed 19 consortium from the original list of 50 companies. By year`s end, the screening process was scheduled to be completed for this group, according to Murray. “I don`t think I`d use the term short list to describe the end result of this process,” he said. “It was more of a determination of who responded to the pre-qualification document stipulatories and who fell a little short of the response that was dictated to be presented.” EEA`s determination of an actual bidders list was expected by mid-December, and the actual presentation of a formal RFP was anticipated sometime in early January.

Egypt`s first BOOT bid solicitation will be for a 2 x 325 MW thermal plant with dual firing of natural gas and oil. The site for the project has not been finalized. Options are available for Sargent & Lundy to provide similar work for a 4 x 34 MW IPP pumped-storage project in Mount Atagq and a 100 MW IPP wind farm in the Zafarona, Red Sea area. The BOOT project developer will be required to design, finance, construct, own and operate the BOOT plant for an extended number of years. The developer or developers will sell the generated electric power to EEA in accordance with a PPA and eventually transfer the ownership of the plant to EEA at the end of a specified period.

The actual Egyptian RFP will contain at a minimum four agreements–the PPA, the implementation agreement (IA), a fuel supply agreement and a land lease. According to George Knapp, McDermott, Will & Emery partner, it was not necessarily material to the GOE whether or not the project risk would in turn be allocated by the potential project developer to an insurance provider, a construction contractor or some other source. However, a key first task was to evaluate energy and investment laws in Egypt to determine what changes were needed to facilitate development of privately owned power plants. Based upon recommendations made last June by Knapp and a project team led by Roger Wagner, another McDermott, Will & Emery partner, Egypt`s energy sector Law 12 was modified by Law 100, which encourages the private sector to BOOT power generation plants and sell electrical energy to EEA.

RFP analysis

“We decided to team with Sargent & Lundy and Arthur Andersen on this project because we thought we brought some unique skills to both the team and to the Government of Egypt,” Knapp said. “A broad frame of reference is valuable to foreign governments as they parse through RFP issues that arise. You get into very complex issues, such as evaluative criteria and weighting factors that are included in the draft agreements and the RFP. One of the key questions that I`ve been asked by people throughout the government is how what we were proposing or intending to do compares with other countries.”

Team members at Arthur Andersen and McDermott, Will & Emery thought it was most useful to have a comprehensive allocation of risk, so there was some logic to the contractual agreements. In this regard, the IA accomplishes two tasks–first, it grants the concession, which is required under Egyptian law, and second, it provides certain rights and obligations similar to those found elsewhere internationally, Knapp added. However, with this project, an exception existed; many items clearly were unnecessary because they were provided for under Egyptian law. Additionally, the fuel supplier will be different than the power purchaser, with the IA being signed by the Ministry of Finance and the PPA being signed by EEA as purchaser. The fuel supply agreement will be signed by the Egyptian General Petroleum Corp.

According to Murray, the key milestone to be reached during the overall project timeline will be the actual release of the RFP, which represents a culmination of all investigative efforts germane to transforming Egypt`s electric sector. “I think when the bids are received, this will confirm the viability and potential of the Egyptian private power marketplace,” he said. “Right now, we have an established market that includes 19 consortium comprised of an international, `golden circle` of players having bid on this project. The market interest is extremely high on a number of different fronts. As a country arena, Egypt has professed its openness to privatization. There are no pratfalls or deep wells you might fall into and not be able to extricate yourself. There`s a real intent on the ministries` part to move ahead with a project having real laws and stipulations.”

Egyptian energy sector update

Egypt has a rapidly expanding economy that is based on the availability of reliable and low-cost electric power. The generation and transmission of electric power is the responsibility of the Egyptian Electrical Authority (EEA), which was established under Law 12 in 1976. At the time, EEA was granted exclusive right to produce, transmit and distribute electrical power throughout Egypt. In 1983, the distribution companies were removed from EEA and placed under the direct jurisdiction of the Ministry of Electricity and Energy (MOEE).

A year later, in a modification of Law 12, Law 36 eliminated EEA`s exclusivity in power generation. In 1991, by Law 203, the electric distribution companies (EDCs) were moved from the MOEE and placed under the holding company for construction and electrical power distribution, under jurisdiction of the Ministry of Public Enterprises. In June 1996, Law 12 was again modified by Law 100 to encourage the private sector to build, own, operate and transfer electric power generation plants and sell the electrical energy to EEA.

Currently, EEA owns and operates more than 13,000 MW of nameplate generating capacity and provides electrical energy to approximately 44 industrial and commercial entities and the eight EDCs. More than 95 percent of the country`s population has access to electricity with more than 12 million customers served by reliable generation, transmission and distribution systems. The rate of growth for the Egyptian electricity demand has exceeded 6.5 percent annually over the last 10 years and is projected to be approximately 5 to 6 percent over the next 15 years.

Meeting this increasing demand and maintaining system reliability will require the addition of more than 13,000 MW of new generating capacity during the next 15 years. EEA has determined the most appropriate approach to meet the need for additional generation capacity is a combination of EEA and private sector generation. This is consistent with the Government of Egypt`s (GOE`s) structural adjustment program, which is committed to a more market-based economy.

In the future, GOE and EEA have plans to expand the transmission system to interconnect with neighboring countries, eventually interconnecting with European power grids to the north. For example, there are several long-term as well as ambitious project proposals to link Africa to Asia and Europe through the Sinai Peninsula. The Ministers of Electricity from Turkey, Syria, Iraq, Jordan and Egypt meet quarterly to discuss electrical links. Transmission lines would be erected from Taba, Egypt, to Amman, Jordan, then over to Damascus and Aleppo in Syria. According to government and other press reports, this newly developed electrical grid would bypass the Israeli Port of Eilat until the peace process with Syria achieves a satisfactory and conclusive result.

Last August, a related technical committee further discussed electricity grid connection issues between Syria, Egypt, Iraq, Jordan and Turkey by concluding a series of three-day meetings in Damascus. The parties involved initialed a draft agreement, which was forwarded to the appropriate electricity ministers during a meeting in November. Among the topics included in this draft agreement are investment, power exchange, tariffs, general grid information and technical and operational regulations.

Future plans call for increasing the energy generated from windmills and solar energy sources to 5 percent of all energy sources in Egypt by the year 2005. Interest in solar photovoltaics is high, especially in the northern coast of Egypt from Alexandria to Salloum in the west. In this region, the sun shines continuously 300 days a year, and there are many isolated villas and tourist complexes needing power.

In November, Rolls-Royce Plc. announced that its Edinburgh-based subsidiary, Peebles Electric, had won an ? 8 million GBP (about US$3.2 million) contract to supply power generation equipment to Societe El Nasr D`Engrais et D` Industries Chimiques, a state-owned fertilizer and chemical company. The order includes equipment for a 17.7 MW combined heat and power scheme at the Talkah II urea plant in northern Egypt. Rolls-Royce companies Allen Power Engineering and Reyroole will also supply equipment. Shipment to the site will begin later this year with start-up in mid-1998.

Windpower velocities in the Red Sea coastal areas are ideal for energy generation from renewable resources. Two grants from Germany and Denmark have been used to finance wind farms in Zafarona near Hurgada on the Red Sea, which will begin operating by the year 1997. In addition, wind generators may prove to be the optimal way to provide electricity to remote villages and farms. The capacity of wind farms, including Zafarona, is almost 20,000 MW. Expansion of conventional hydropower generation has been introduced by Swedish sources; included in this effort is a pre-implementation study of a hydroelectric pumped storage project in the Galala mountain area.

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