1. Introduction. 2. Background. Agenda Item 10.3-Micro Eco Reform-Att A-Ann 4 MALAYSIA - ANNEX 4

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1 1. Introduction MALAYSIA - ANNEX 4 This Annex sets out our findings in relation to the current status of implementation of the IPP Principles in Malaysia. In relation to each Principle the current status of implementation is described. Where possible and appropriate, we have identified potential barriers or impediments to improved implementation of the Principles. These findings reflect research carried out in the period January April Background 2.1 Recent developments in the Malaysian electricity sector Electricity generation in Malaysia is dominated by three utilities: Tenaga Nasional Berhad ( ) in Peninsula Malaysia; Sabah Electricity Sdn Bhd ( SESB ) in the State of Sabah; and Sarawak Electricity Supply Corporation ( SESCO ) in the State of Sarawak. These utilities operate independently of one another in their separate jurisdictions. The grids in these three jurisdictions are currently not interconnected., a publicly listed company, has a monopoly over the transmission and distribution of electricity in Peninsular Malaysia. is responsible for electricity generation, transmission and distribution and retail supply in Peninsula Malaysia. was formed in 1990, following the corporatisation of the National Electricity Board in line with the implementation of the Government s privatisation policy. Since 1996, has been undergoing substantial internal restructuring with the formation of many subsidiary companies. Presently, Generation Sdn. Bhd. (a wholly owned subsidiary ) is entrusted with the function of the generation business and the transmission and distribution section taken over by Transmission Sdn. Bhd. and Distribution Sdn. Bhd. respectively. The other main electricity entities, SESB and SESCO, are involved in the generation, transmission and distribution activities in the East of Malaysia. SESB, formerly known as Lembaga Letrik Sabah, was privatised on 1 September 1998 and aims to ensure the reliability and security of the electricity supply system to consumers in Sabah and Labuan. SESCO is a State Statutory Body incorporated under the Sarawak Electricity Supply Corporation Ordinance, 1962 and is responsible for the generation, transmission and distribution of electricity in Sarawak. On 31 January 1996, Sarawak Enterprise Corporation Bhd. (formerly known as Dunlop Estate Bhd.), a public listed company, bought over 45% stake of the Corporation from Sarawak State 1 EWG20/10.3-Att A-Ann 4

2 Government. It will remain in its current status to cater for the generation, transmission, distribution and use of energy in the two states. 1 This report deals almost exclusively with, as there is a lack of information in respect of SESB and SESCO. It covers only except where SESB and SESCO are specifically mentioned, as not all the facts and assumptions about reforms referred to in this report apply to SESB and SESCO. Malaysia currently has approximately 11,800 MW of electric generation capacity and in 1997 it generated around 54.5 billion kwh of electricity. Despite Malaysia s economic downturn, projections indicate that Malaysia s demand for electricity is expected to continue to grow. For example, peak demand for electricity is expected to grow from 8,471 MW in 1998 to 14,095 MW in It is expected that the country s energy reserve margin will drop below the psychological barrier of 30% by The role of IPPs in Malaysia To keep pace with the goal of making Malaysia a developed nation by the year 2020 and meet the expected national demand for electricity, the Government has turned to the private sector to supplement the supply of the required generating capacity with the introduction of IPPs. Since an initial IPP round was held in 1992, a total of 155 IPP licences had been granted up until October Since 1993, 15 IPPs, including one mini-utility have been granted have licenses of which 11 are in Peninsular Malaysia and 4 in Sabah. In addition, there are also a number of licensed co-generators operating throughout Malaysia in specific areas. During the 7th Malaysia Plan period ( ), the country planned to commission more than 4,000 MW of electricity generation capacity, to bring the total to around 15,000 MW by However, the recent economic problems have caused delays for some of the projects. Most notable is the US$5.5B 2.4 GW Bakun hydroelectric project in Sarawak where the project rights have been relinquished to the government. There are presently five IPPs in Peninsula Malaysia. These are: Powertek Sdn. Bhd; Port Dixon Sdn. Bhd.; Genting Sanyen (Power) Sdn. Bhd.; Asia Pacific Research Centre, Electricity Sector Deregulation in the Asia Pacific Region, Tokyo, 1999, p 122. Id. p 25. Bank of America et. al. Operationalisation of Independent Grids System Operator, A Proposal for the Economic Planning Unit, October 1998, p 21. Energy Information Administration, Malaysia, U.S. EIA, May 1999, p 5. 2

3 Segari Energy Ventures Sdn. Bhd.; and YTL Power Generation. There are three further IPPs under construction in Malaysia. Further, the IPPs in Sabah comprises: ARL Tenaga Sdn. Bhd.; Serudong Power Sdn. Bhd.; Powertron Resources Sdn. Bhd.; Stratavest Sdn. Bhd.; and Sandakan Power Corporation Sdn. Bhd. As a result of the pressure for extra capacity in the early 90 s, IPPs were introduced into Malaysia in IPPs were to complement the national utility () in providing for the extra demand for electricity. Presently, under the Power Purchase Agreements (PPA), IPPs are only allowed to sell electricity to or SESB, as the case may be. There is some indication that the process for obtaining approvals for new independent power projects may be lacking in transparency to some extent. This appears to be the most significant difficulty facing new IPP projects in Malaysia. In light of the recent financial crisis, there may be difficulties in securing the necessary finance required by IPPs to undertake the projects. 3. Institutional and Regulatory Structures 3.1 Principle 1: Energy sector policies Energy sector policies formulated to create a stable framework for power sector development (a) Clear, published and consistent energy sector policies The principles addressed by the National Economic Recovery Plan (NERP) Privatisation Master Plan 1991 and Ministry of Energy Policies provide the broad policies guiding the energy sector. In the case of the Privatisation Master Plan 1991 a change of the Registry Act 1949 was proposed where was identified as a flagship candidate. One of the 7th Malaysia Plan s objectives is to establish an IGSO. Under the NERP, which was introduced in July 1998, foreign ownership in insurance companies was allowed to increase from 49% to 51%. However, this lift in restriction has not flowed to the energy sector. These are in line with the policies guiding the privatisation and corporatisation of the electricity sector. The enshrined objective of the Ministry of Energy, Communications and Multimedia s policies is to ascertain and ensure development, supply and service in the industries involved at the required levels in 3

4 line with the country's interest as well as to regulate and update the quality of energy, communications and multimedia services to ensure that they are effected according to fixed standards. The Ministry s National Energy Policy objectives (to-date) are: To ensure the provision of adequate, secure, and cost-effective energy supplies through developing indigenous energy resources both non-renewable and renewable energy resources using the least cost options and diversification of supply sources both from within and outside the country; To promote the efficient utilisation of energy and to discourage wasteful and non-productive patterns of energy consumption; and To minimise the negative impacts of energy production, transportation, conversion, utilisation and consumption on the environment. Policies regarding the electricity sector specifically are less clear and not as well published at this stage. This reflects the fact that ESI reform in Malaysia is very much in its infancy. In line with the broad policy objectives for the energy sector as a whole, the Government is taking steps to restructure the electricity supply industry (ESI) in order to introduce an equitable, transparent and competitive environment in the energy sector. It is planned that the restructuring process will be introduced in phases. Most participants in the industry sector are not aware of the precise nature and progress of the reforms other than those published by the local media. While draft legislation has been tabled and comments have been provided to the Government, it appears that few stakeholders know how these comments are being dealt with or even if they are being considered. A clear legislative timetable has not been set. (b) Environmental policy objectives Electricity industry participants in Malaysia consider that environmental policies are published and clearly stated. Environmental matters are governed under the Environmental Quality Act 1974 and the provides that industrial activities are required to obtain the approvals from the Director General, Department of Environment prior to project implementation. The Department of Electricity has formulated Energy Efficiency Regulations to promote and develop measures for energy efficiency. The Ministry has published guidelines on Energy Efficiency in Building. Co-generation is being used in industrial and commercial sectors to increase fuel efficiency. Existing open cycle gas turbine generating plants have been converted to combined cycle plants. 4

5 Further, IPPs are required to prepare an Environmental Impact Assessment report which identifies and, to the extent possible, quantifies all environmental impacts and permitting requirements associated with the project in accordance with the Environmental Quality Act 1974 and includes the activities prescribed under the Environmental Quality (Prescribed Activities) (Environmental Impact Assessment) Order, Electricity industry participants in Malaysia consider that environmental policies apply fairly to all sectors of the electricity industry, in the same way that they apply to all other industries within Malaysia. (c) Established legislative framework The current laws establishing the role of the government are: Central Electricity Board of the Federation of Malaya (Change of Name) Act 1965 (Act No 46 of 1965) Petroleum Mining Act 1966 (Act 95)-(Revised 1972) Petroleum and Electricity (Control of Supplies) Act 1974 (Act 128) Petroleum Development Act 1974 (Act 144) Electricity (Transfer of Electrical Installations) Act 1976 (Act A341) Lembaga Letrik Sabah Act 1983 (Act 278) Perbadanan Pembekalan Letrik Sarawak Act 1983 (Act 279) Petroleum (Safety Measures) Act 1984 (Act 302) Atomic Energy Licensing Act 1984 (Act 304) Electricity Supply Act 1990 (Act 447) Electricity Supply (Successor Company) Act 1990 (Act 448) Gas Supply Act 1993 (Act 501) It cannot be said that the relationship between Government and the electricity sector is currently comprehensively embodied in published laws and regulations. 5

6 The amendments to the new electricity legislation have not been passed and it is generally not known the progress of those amendments. The legislation which is presently being reviewed and amended is the Electricity Act. Drafts of the Electricity Bill 2000 and the Energy Commission Bill 1999 have both been circulated for comment and are presently being amended. Further details of the proposed reforms are set out in the diagram in Appendix A. In order to establish a more independent environment for the regulatory agency and the ESI, the Energy Commission, IGSO and power pooling system will be established under the draft Electricity Bill and Energy Commission Bill. The Energy Commission will replace the Department of Electricity to regulate the ESI. The Energy Commission will replace the Department of Electricity. (d) Regulatory bodies Independence from government Most regulatory agencies fall under the jurisdiction of government ministries and have the dual mandate of both regulating and promoting the industries under their purview. Presently, the Minister of Energy, Communications and Multimedia has primary responsibility under the Electricity Supply Act 1990 for the regulation of the ESI, which includes issuing and renewing licences, the regulation of prices and performance standards and the management of safety standards. Under the Electricity Supply Act 1990, the regulator of the ESI is the Director General of Electricity. The Minister of Energy, Communications and Multimedia appoints the Director-General. The Regulator's principal responsibilities include: The issue of licences and ensuring the financial viability of licensees; Promotion of competition in the industry; and promotion of consumer interest by: ensuring continuous supply of electricity at reasonable prices; protection and safety of the public and property; Tariff review in consultation with MOETP & Economic Planning Unit. The Economic Planning Unit (which is within the Prime Minister s Department) is responsible for: 6

7 formulating privatisation policy; formulating energy policy; and selecting IPPs. It appears that, in practice, the Director-General is probably not entirely independent of direct Government control. In particular, the appointment of the Director-General comes under the discretionary power of the Minister. It is generally considered that the Regulator takes the policies and development initiatives provided by the Economic Planning Unit into consideration. A new set of legal and regulating frameworks is currently being prepared to pave the way for the establishment of an independent Energy Commission, a power pool system and the independent grid system operator. It has been proposed that in the year 2000, a single buyer model, with the independent market operator as the buyer, be implemented in the first phase. The draft Electricity Bill and Energy Commission Bill provide for the establishment of the Energy Commission and empower it to supervise and regulate the energy sector with the IGSO. The objectives of the Energy Commission are proposed to be: to promote competitive market conduct; to prevent misuse of monopoly power; and to ensure that consumers benefit from competition and efficiency. The functions of the Energy Commission include the issue of licences, the administration of regulated charges, and monitoring compliance. There are no mechanisms under the proposed new legislation by which the Regulator will be kept free from interference by the Government. For example, under the draft Electricity Bill, the Minister may direct the Energy Commission to make certain regulations (provided those Ministerial directions are consistent with the national policy objectives and the Act). The proposed draft electricity legislation also provides that the electricity market will be operated by an independent market operator and its powers are stated under the draft legislation. A board will be set up to manage or supervise the independent market operator. Rules and conduct of the board are also provided. Independence from industry 7

8 The Director-General appears to be fairly independent from and other electricity industry participants, although the utilities may make recommendations to the Regulator and the Director-General. (e) Internal consistency among regulatory structures As at October 1998, the system planning, including forecasting, planning and the approval of new generation projects was the responsibility of the Inter Agency Planning Group, consisting of members of: the Electricity Supply Department; the Environment Planning Unit; the Ministry of Finance; the Ministry of Telecommunications and Multi-Media; the utilities; the Ministry of International Trade and Industry; and other related authorities. 5 The Federal Government approves policies affecting IPPs. The provincial governments do not make decisions about IPPs. These processes appear to be internally consistent. See further comments in section 3.3(b) below. (f) Transparency of regulations Although there is no legislative mechanism for ensuring that the regulation-making process is clear and transparent, it appears that, as a matter of practice, the process for making regulations is relatively clear and transparent. The Government has previously held discussion forums with industry players to get their feedback on a proposed bill, for example the Multimedia Convergence Act. However, it is not clear whether all regulations are subject to review by an independent party. (g) Equal regulatory treatment of utilities and the business sector 5 Bank of America et. al. Op Cit. p 20. 8

9 All licences in the electricity industry are subject to the Malaysian Grid Code, including IPPs. In addition, the Regulator can exercise certain discretionary powers of exemption so subjectivity may occur. One difference between public electricity utilities and private sector IPPs is that has access to alternative fuel supplies due to its security of supply obligations - IPPs do not have such clear guaranteed access and have to secure their own fuel requirements/arrangements. See further the discussion in section 3.2(c) below. (h) Conclusions One of the main difficulties faced by Malaysia in the implementation of Principle 1 is that the energy policies are less than transparent. Shifting polices as a result of political and economic uncertainty with the implementation of the Privatisation Master Plan, 7th Malaysia Plan and NERP, may cause delays or uncertainties within the government. Further, policies established by EPU may not be transparent or clearly published or made available to other ministries/departments. Policy inconsistencies exist between sectors, as policy objectives are not clearly stated. This causes a lack of transparency and policy coordination between sectors. In Malaysia there is also a lack of separation between the government s various roles as regulator, policy-maker and industry participant (as majority shareholder in the utilities) and a lack of policy coordination and guidelines in policy-making between different levels of government and departments. Further difficulties, relevant to Principle 1, faced by IPPs include: a lack of transparency between different government sectors and different departments; a lack of independent review framework for regulation-making; and a difficulty in balancing the social service component of supplying electricity and the need to protect consumers interests with commercial interest of IPPs Energy sector policies formulated to facilitate competition (a) Current status of policies for power sector reform and restructuring In the past, the electricity industry was managed by the National Electricity Board, which was responsible for generating, channelling and selling. Recently, the Government has allowed IPPs in Malaysia, including foreign-led consortia, to generate electricity and sell it to. The Malaysian electricity industry is presently undergoing a process of reform to restructure the electricity industry in order to introduce an equitable, transparent and competitive environment. The restructure will be implemented in phases, commencing with Peninsular Malaysia 9

10 and, later, Sabah and Sarawak. A report on the 17th ASEAN Ministers on Energy meeting sheds some light as to the proposed implementation of the energy reforms and provides that: Phase I entails the introduction of generation wholesale competition in Peninsular Malaysia and the establishment of a market pool operator, called the Independent Grid System Operator in the year In this phase, there will only be one principal purchaser of bulk electricity from wholesalers. Phase 2 will see a progression towards multiple buyers participating in the industry by the year The subsequent phases will involve the restructuring of the industry in Sabah and Sarawak and our vision of the establishment of the ASEAN Power Pool beyond the year 2005, in line with ASEAN Vision Advisers have been selected by the Government and are advising the Government in relation to legal matters, commercial matters and financial matters surrounding the proposed reforms. Plans for a wholesale electricity market have been considered and are presently being discussed and refined and legislation to implement the reforms is being considered and further developed. In general, there appears to be some confusion in Malaysia about the progress of the reform process. The Electricity Supply Act 1990 and the Gas Supply Act 1993 are also presently being reviewed with the emphasis to promote competition and prevent the abuse of monopoly or market power in the energy sector. A new Electricity Act will replace the existing Electricity Supply Act The objectives of the proposed new Act will be as follows: To provide the necessary climate for a secure, sufficient, reliable and cost-effective supply of electricity to propel the nation's economic growth and development; To ensure the safe use of electricity and supply to customers at reasonable prices; To ensure negative impacts of electricity supply and usage on the environment are minimised by promoting efficient utilisation of electrical energy and development of new and renewable sources of energy; and To establish a licensing and regulatory framework for the electricity supply industry which promotes competition and prevents the misuse of monopoly or market power. 6 The 17th ASEAN Ministers on Energy Meeting held on 3rd July 1999, Bangkok, Thailand - The Economic Crises and Energy Reforms in Malaysia. 10

11 As part of the move towards restructuring the ESI, the Mid-Term Review of The Seventh Malaysian Plan states that: In an effort to create a competitive Electricity Supply Industry and promote its efficiency an Independent Grid System Operator ( IGSO ) will be operationalised by the year The structure and functions of the IGSO are designed to ensure the economic dispatch of electricity while maintaining system integrity. The IGSO will focus on least - cost dispatch, planning which will ultimately be developed into power pooling, trading and settlement as well as systems operation planning and long-term generation. With this, it is expected that a more competitive tariff will be put in place for the benefit of electricity consumers. 7 A new set of legal and regulatory frameworks is currently being prepared to pave the way for the establishment of: an independent Energy Commission; a power pool system; and an independent market operator. It is envisaged that the Electricity Commission will regulate the energy industry, monitor fair pricing rates for the consumer and facilitate a more open, efficient and transparent electricity industry. The role of the commission would include establishing a formula for the calculation of electricity tariff. It has been proposed that in the year 2000, a single buyer model, with the independent market operator as the buyer, be implemented in the first phase. This will eventually evolve into a multi-buyer system when the market is more mature. 8 (b) Separation between generation and transmission functions Currently, owns, controls and operates generation, transmission, distribution and retail activities in its jurisdiction. Prior to 1999, was divided into sectors internally, being generation, transmission, distribution and supply. At present, Generation Sdn. Bhd. (a wholly owned subsidiary of ) is a separate entity, whilst Load Dispatch, Transmission and Distribution are separate units within one corporate entity. There are no ring-fencing arrangements in place between the transmission and generation entities. In addition, 7 8 Mid-Term Review of the Seventh Malaysian Plan ( ), p 325. Asia Pacific Research Centre, Electricity Sector Deregulation in the Asia Pacific Region, Tokyo, December 1999 (work in progress), p

12 private independent power producers and local distribution companies also operate within the industry. In line with the liberalisation of the energy market, is undergoing an internal restructuring process. With the restructuring process at its early stages, precisely how separation between the various sectors of the electricity industry in Malaysia will be achieved is not yet clear. There is no doubt that the proposed reform process will implement some separation between generation and transmission. (c) Complementary development of transmission grids There is continuous development of the transmission and distribution grids. At present, the transmission grid is considered to be adequate but bottlenecks do exist. It is considered that there should be additional projects to ease these bottlenecks. The Mid-Term Review of The Seventh Malaysian Plan reports that: To ensure uninterrupted electricity transmission, began to reinforce the National Grid in 1996 by upgrading the transmission lines to 500kV. To ensure better security and reliability of electricity supply and reduce the high reserve margin, SESB constructed the 275kV/132kV East Coast Grid transmission line connecting all the load centres along the East Coast of Sabah. As for Sarawak, SESCO extended the circuit length of the 275kV-transmission line from 569 kilometres in 1995 to 765 kilometres in There is no policy for private sector development of transmission assets. It is understood that the development of the transmission and distribution grids is undertaken by the Government through who then carry out the work themselves or sub-contract such work to the private sector. (d) Autonomy, accountability and commercial operation of public utilities Parts of have been corporatised and divided into separate entities, whilst other parts of it have been divided according to function, but remain within the main body of. It is anticipated that further disaggregation of will occur to form separate business entities, all of which will be corporatised. Each of s divisions and the separate entities formed from it are subject to performance targets that are revised each year. 9 Mid-Term Review of the Seventh Malaysian Plan ( ), p

13 It is understood that Generation has been corporatised, as has the remaining entity to enable that entity to be floated. It is also understood that all entities are subject to normal, commercial performance targets. It is understood that the same considerations apply to SESB and SESCO. (e) Competitive market in generation and supply At present there is no effective competition in either generation or supply. While a number of IPPs supply to the utilities, there is no effective competition between them., SESB and SESCO, as vertically integrated entities, are the sole suppliers to customers and consumers within their jurisdictions. As part of the proposed restructure of the electricity industry in Malaysia, plans to introduce a competitive power pool to encourage competition in the electricity generation sector are presently being considered. A team of advisers is working on this project. The idea of retail competition is also being considered, although plans to introduce the idea are not as well advanced at this stage. (f) Cross-border interconnection There is no interconnection among the 3 utilities as historically and geographically, each utility is responsible for supplying electricity within its own geographic region, namely: - Peninsular Malaysia; SESB - Sabah and Labuan; SESCO - Sarawak. Malaysia currently has two interconnections. The interconnections are between Peninsula Malaysia and Singapore and Peninsula Malaysia and Thailand. The Peninsula Malaysia to Singapore interconnection is between and Singapore Power ( SP ) and is an interconnection from Plentong in Southern Peninsula Malaysia to the Senoko Power Station in Singapore via an overhead line and submarine cable. The Peninsula Malaysia to Thailand interconnection is between and the Electricity Generator Authority of Thailand ( EGAT ). The interconnection is between Chuping in Northern Peninsula Malaysia and Sadao in Southern Thailand via an overhead line. 13

14 Stage 2 of the interconnection between Peninsula Malaysia and Thailand is currently being completed. It will allow for a larger volume of power exchange between EGAT and and is expected to be completed early in the Year In Malaysia, there is a trust fund into which all generators contribute 1% of their turnover. This trust fund has been established to pay for electrification of remote regions of Malaysia. The Ministry of Energy administers it and and all IPPs contribute to it. Further, it is envisioned that would buy power from the Bakun Hydroelectric power project in Sabah (which is yet to be commissioned) and transmit it to the Peninsular through the world s longest underwater cable. (g) Conclusions Major issues faced by Malaysia in implementing this aspect of Principle 1 include the following: Some PPAs are financed on a long-term basis with fixed revenue streams. The continuation of these contracts presents a major obstacle to introduction of a competitive generation market. The existing PPAs could be bought-out or renegotiated or inter-traders between IPPs and the pool established; the main question would be whether the IPPs financiers would be willing to renegotiate/re-finance the PPAs to take market and revenue risks (price and volume risks). To foster greater competition in ESI, would have to restructure its control and ownership over transmission, distribution and retail activities. Presently, has a monopoly over the transmission and distribution grids. 3.2 Principle 2: Commercial viability of electricity utilities (a) Commercial wholesale tariffs The PPA is the basis on which prices are determined for electricity generated by IPPs. The typical PPA will provide some degree of assurance to IPPs that the amounts payable will be sufficient to: cover fuel and operating costs (both fixed and variable); cover debt service; and 10 Asia Pacific Energy Research Centre, Feasibility Study of a Regional Power Interconnection Network in the APEC Region, Tokyo, December 1999, p

15 provide a return on equity investment. As at October 1998, the Department of Electricity Supply regulated transmission tariffs, based on s costs. The current tariffs include cross-subsidies between both regions, reflecting the current uniform geographic tariff policy and customers. An emphasis on cost reflective pricing has resulted in the unwinding of some cross-subsidies. The move toward cost reflective pricing will be continued in the competitive market. 11 (b) Fuel supply market IPPs negotiate their own fuel purchase agreements. There is a pass-through element in relation to fuel inputs in the PPAs. There appear to be a number of limitations on competition in the fuel supply market in Malaysia. In particular, there is a difference in policy in relation to access to fuels. Take-or-pay levels are higher for and sales tax is not payable by. Further, the Government has capped the price of gas at RMG 40/mmbtu in an attempt to reduce the impact of fluctuations of fuel prices in electricity tariffs. (c) Access issues and treatment under tax regime Access to sites and system operation procedures are readily available to all industry participants on a commercial basis. Such access is given without any problems and on a fair basis. Powertek is always consulted on system operation matters and there is close co-operation between it and. Company and tax laws apply equally to both and the IPPs. This is especially true of those IPPs that are listed in Malaysia, such as Powertek. (d) Foreign ownership and control The policy of foreign ownership in Malaysia is set out in the Foreign Investment Committee Guidelines. Generally, foreign firms are limited to a 30 per cent equity share. In general terms, it is unlikely that an IPP would be owned by foreign entities to any extent greater than 30%. Foreign ownership restrictions could be imposed by licensing conditions that the Government would put in place and therefore, foreign ownership restrictions will occur indirectly. However in practice it appears that there are no such restrictions. The initial five IPPs were allowed to have up to 25% foreign ownership under their PPAs. All have obtained finance from local sources. 11 Bank of America et. al. Operationalisation of Independent Grids System Operator, A Proposal for the Economic Planning Unit, October 1998, p

16 The Government recognises the strategic role of private investment in the development of the economy. It is generally considered that some parts of the Malaysian economy may be sensitive to a relaxation of foreign investment and control thresholds. However, in order to further promote and encourage foreign direct investment, the Government may relax the 30 per cent limit imposed on foreign ownership and the requirement to enter into joint ventures with local partners. (e) Conclusions One of the main difficulties encountered in Malaysia with respect to the implementation of Principle 2 is that, presently the tariffs received by IPPs are calculated in accordance with the formulae provided in PPAs. The tariff structures may have to be renegotiated to allow for competitive bidding. 3.3 Principle 3: Regulatory framework and process for IPP approvals (a) Consistent regulations and approval processes The EPU (in consultation with the Ministry of Finance (major shareholder) and Ministry of Energy, Communications and Multimedia) formulates privatisation policy and energy policy, and evaluates, selects and approves the IPPs. Upon EPU approving the IPPs, the Ministry of Energy will issue a license to the selected IPPs. The onus is on the IPPs to obtain the other approvals required under the PPA from relevant departments. The approvals required may vary from project to project. In addition to the approvals required for the establishment of the corporate entity, the common ones include: approval of environmental assessment impact report; building approval; and approval for operation of certain machineries. It is generally considered that the regulation and approval processes between the different levels of government outlined above are consistent as they operate together in the approval process. It is considered that there is no duplication of approval processes within Malaysia for IPPs. There is one agency only, a neutral body which co-ordinates the approval process and issues approvals. This is the Economic Planning Unit (EPU) within Prime Minister s Department. Apart from the EPU, there is no central co-ordinating agency where all or some of the necessary approvals are granted or facilitated. 16

17 (b) Clear, published and transparent approvals process There are no published guidelines as to the permits required for a power project. However the required permits/authorities are readily known by parties to prospective IPPs. We understand that consideration has been given to incorporating in tender processes mechanisms for granting pre-approvals of projects put out to bid, but that this has not been implemented yet. (c) Conclusions There are no significant difficulties with the implementation of this principle. 4. Tender/Bid Processes and Evaluation Criteria 4.1 Principles 4, 5, 6, 7 and 8: Tender/bid processes and evaluation criteria (a) Tendering approach and evaluation Allocation of the initial five IPP licences was not done by tender. Due to the urgency of the situation it was felt that the open tender process was not the best option. Instead, a number of parties that had expressed interest were asked to submit their proposals, direct negotiation took place and the IPPs were established. In general terms, requests for tender are now put out to the private sector to participate in a bidding process for new IPPs. generally informs the Government (through the Economic Planning Unit) of the status of the system and the requirement for new capacity. The Government then issues requests for proposals. In general terms, the process for tendering is not transparent at present. The Government is making efforts to ensure that tenders are carried out on competitive basis. For example, the acquisition of the Kapar power station was carried out on an open tender basis. (This tender was widely published in local newspapers and available in s newsroom.) Full documentation, including proposed terms and conditions of the power purchase agreement, are provided to prospective bidders. Evaluation criteria are also provided to prospective bidders. It is not known whether there is a pre-qualification process. 17

18 As a condition precedent, completion bonds are required as part of the tendering process. The size of the bid security is not known. We understand that plant divestment bonds are required. (b) Conclusions There do not appear to be any significant difficulties in relation to the approach for tendering in Malaysia, according to participants in the industry. 5. Power Purchase Agreements (PPAs) and Associated Tariff Structures 5.1 Principle 9: Retail tariffs (a) Nature and structure of retail tariffs current tariffs are currently structured as follows: A B C D E F G Domestic Tariff; Low Voltage Commercial Tariff; Medium Voltage General Commercial Tariff, Medium Voltage Peak/Off Peak Commercial Tariff; Low Voltage Commercial Tariff; Medium Voltage General Industrial Tariff, Medium Voltage Peak/Off Peak Industrial Tariff, High Voltage Peak/Off Peak Industrial Tariff; Low Voltage Mining Tariff, Medium Voltage Peak/Off Peak Mining Tariff; and Public & Street Lighting Tariff, Neon Light & Floodlight Tariff. s approach on the new tariff structure is to take into consideration the true cost of supplying electricity to each category of customer and to strike equilibrium between the competitive and social needs. Thus some retail tariffs are subsidised. The Department of Electricity Supply regulates transmission tariffs, based on s costs. The current tariffs include cross-subsidies between both regions, reflecting the current uniform geographic tariff policy, and customers. An emphasis on cost reflective pricing has resulted in the unwinding of some cross-subsidies. The move toward cost reflective pricing would be continued in the competitive market. (b) Conclusions If tariffs were adjusted to introduce cost reflective pricing, this would probably result in political ramifications that are likely to be undesirable. This poses a significant barrier to the introduction of cost 18

19 reflective pricing and is likely to be the greatest difficulty in achieving that objective in Malaysia at the present time. 5.2 Principle 10: Transition to competitive markets (a) PPA tariff structures that promote competition The early PPAs do not contain any mechanisms that allow for a transition to a competitive market structure. However the more recent contracts may provide a clause which leads to termination of the contract in the event of restructuring with a pre-agreed method of calculating termination cost. For example the PPA between and Teknologi Tenaga Perlis Consortium Sdn. Bhd. (signed in May 1998) contains a provision which provides for renegotiation of the terms following any restructuring of the electricity generation industry. If industry restructuring occurs, there is a need for the terms of the PPAs to be re-negotiated. However, to-date no formal negotiations have taken place. Due to the fact that many of the PPAs were negotiated and put into place well before restructuring of the industry was envisaged, their terms and conditions mean that the IPPs behind them can avoid participating in a centrally managed wholesale electricity market. This means that if it is determined that a mandatory wholesale electricity market is the best option for Malaysia (ie. one into which all generators are required to dispatch their electricity), a mechanism will need to be put into place so that an entity stands between the IPP and the Pool, such as a trader entity. It is more likely, however, that it will be decided that some kind of net pool or two-way bidding process should be implemented. Even then, it may be necessary for the Government to place an entity between the IPP and the arrangements put into place to ensure that the Government can uphold the terms and conditions of the PPA. (b) Conclusions The main difficulty associated with PPAs containing mechanisms allowing for a transition to a more competitive market structure is the fact that many of the PPAs were entered into before the current reform process was envisaged. This means that it could not adequately be catered for in those PPAs unless the parties thereto are willing to re-negotiate the terms of the PPA. More recent PPAs do cater for the transition and provide for discussions to be held to determine the best way forward in light of the reforms. However, even in these cases, it is very difficult to predict how these discussions will evolve and what will result from them. 19

20 The calculation of tariffs and arbitration rules are expressly provided in the PPAs. To have a competitive ESI, existing long term PPAs may have to be renegotiated or bought out. Alternatively traders could be established which act as an interposed entity between the pool and the IPPs. These issues will need to be resolved before a competitive market can evolve. 5.3 Principle 11: Allocation of risks (a) Allocation of risks under PPAs Risks are allocated as a result of the negotiations between the IPP and the off-taker. As the terms of PPAs are confidential, it is difficult to ascertain exactly how risks have been allocated in specific cases. Some indications are Generally, PPA s require the power station to deliver power except where force majeure events exist, such as unavailability of fuel. While there are differences between projects, generally, IPPs take risk on construction, design, operation and maintenance, change of law (to some extent), supply of fuel, political risk, regulatory risk and foreign exchange (to the extent that construction materials are imported and also with respect to overseas debt repayment). The utilities may take risk on fuel price (pass through item), market risk, off-taker risk, regulatory risk, and force majeure risk. The risks associated with force majeure events are generally borne by the utility. (b) Conclusions It is considered to a minor extent to be difficult to negotiate with the Government in a manner which results in the Government bearing risk, even where the Government is the party best able to manage this risk, due to the greater influence and bargaining power that the Government is considered to hold. In many cases, where the proponent of an IPP is very enthusiastic about proceeding with the project, it is possible that some risks which may be more appropriately borne by the Government may need to be accepted by the proponent for the sake of succeeding with the approval process and progressing the project. 6. Financing and its Implications 20

21 6.1 Principle 12: Regulatory, taxation and foreign exchange regimes (a) Transparency of taxation regime The taxation system in Malaysia is very clear. All income of companies and individuals accrued in, derived from or remitted to Malaysia is liable to tax. However, income remitted to Malaysia by resident companies, non-resident companies (other than companies carrying on the business of banking, insurance, air and sea transportation) and non-resident individuals is exempted from tax. Apart from income tax, there are other direct taxes such as real property gains tax, and indirect taxes such as sales tax, service tax, excise duty and import duty. Agreements for the Avoidance of Double Taxation provide for the avoidance of incidence of double taxation on income such as business profits, dividends, interest and royalties that are derived in one country and remitted to another country. (b) Conversion of local currency to foreign currency The processes in place in Malaysia for conversion of local currency to foreign currency are efficient and reliable. (c) Availability and transferability of foreign exchange The central bank of Malaysia, known as Bank Negara Malaysia (BNM), is the monetary authority in Malaysia. It has wide powers to supervise and control the activities of commercial banks and all other financial institutions and also to regulate the financial industry. BNM is also the exchange control authority, regulating the foreign exchange. The restrictions are regulated under the Exchange Control Act A 1988 report indicates that there are no foreign exchange controls that would impede trade. 12 However, it is unclear what effect the National Economic Recovery Plan (which provides a comprehensive framework for economic recovery plan for Malaysia in light of the recent Asian financial crisis) has had on the Government s foreign exchange policy. Most foreign transactions including repatriation of capital and remittance of profits are permitted, but some restrictions apply. There are two categories of funds - those funds in Malaysia prior to 15 February 1999, and those that come in on and after this date. The new measure is in the form of levy. The original capital brought in before 15 February 1999 may be repatriated subject to a graduated levy that is based on the duration of investment. For capital repatriated within a period of up to seven months from the date of entry into Malaysia (since the announcement on 1 September 1998), the levy is 12 Power of Asia, Malaysia/Finance. 21

22 30%. For the period exceeding seven months and up to nine months the levy is 20%, for the period exceeding nine months and up to 12 months the levy is 10%, and after 12 months no levy is imposed. No levy will be imposed on the repatriation of profits made within the 12 month holding period. All profits made after this 12-month holding period will be subjected to a repatriation levy of 10%. Dividend and are not subjected to any levy. For funds brought in on and after 15 February 1999, the principal is allowed to be repatriated without any levy. However, profits will be subjected to a levy of 30% if repatriated within a period of up to 12 months from the date when profits are made. The levy is reduced to 10% if the profit is repatriated after 12 months from the date profits are made. It is important to note that Malaysia maintains a flexible, substantially open foreign exchange regime. However, as part of the Government efforts under the National Economic Recovery Plan, the Malaysian Ringgit is fixed to the US Dollar. 13 As at 2 September 1998, the exchange rate for the Malaysian Ringgit will be quoted at RM3.80 against the US dollar for foreign currency transactions. (d) Financial information on power purchasers and other parties As listed companies are subject to financial disclosure obligations, IPPs that are listed will need to comply with the disclosure requirements of the KLSE, Securities Commission Guidelines and Companies Act and Powertek, being listed companies, may have had to make public announcements upon approval of their tender/bids. As a general rule, financial disclosure is to be made in all companies annual reports listed or unlisted. (e) Conclusions The graduated levy imposed on repatriated capital within 12 months would not be likely to deter most IPPs from making investments in Malaysia. However, the 10 per cent levy of profits repatriated after the 12 month holding period is a potential deterrent to foreign investment. It is unlikely that the present exchange rate protection would remain in the long term as this would be contrary to the Government s long term vision of making Malaysia a fully liberalised, developed and industrialised environment (Vision 2020). It was a short term measure to prevent the stock market from crashing further in , and causing the Malaysian dollar to crumble against the US dollar, which in turn would have sent interest rates spiralling upwards and caused inflation rates to rise. It is expected that once the stock market picks up and the Malaysian dollar can hold its own against the US dollar the 13 Energy Information Administration, Malaysia, US. EIA, May

23 exchange rate would be altered from fixed to flexible, thereby encouraging foreign investment. 6.2 Principle 13: Security over project assets (a) Legal framework for creating security over project assets Given that Malaysia is a common law jurisdiction, the legal framework for creating security under project assets in favour of lenders is essentially the same as in other common law jurisdictions ie. mortgages, charges, registered security and assets, assignments, etc are applicable. Power Project Agreements (PPA) are subject to common law, legislation and contractual terms between the parties. Therefore, any security arrangements are also subject to the same. There is no distinction made between domestic and foreign companies regarding creation of security arrangements. The rights of a party to an IPP project are essentially embedded in the contractual arrangements between the parties. In most PPAs, there are step-in rights that are not restricted by the legal framework. 刪除 : and these (b) Conclusions As the legal framework for creating and enforcing securities over project assets appears to be clear and reasonable (and is considered to be such by industry participants), there does not seem to be any significant difficulties in relation to this Principle. 6.3 Principle 14: Bankability of IPPs (a) Project structure providing determined income stream The existing PPAs are confidential documents. While some information has become generally available, the precise terms of the PPAs remain undisclosed. We understand that the income stream of the IPP is protected by the terms of the PPAs as follows: Term We understand that the PPAs are long-term agreements, but have been unable to ascertain the precise term of the agreements. Responsibilities during construction We understand that the responsibilities for progress and completion within the agreed time frame rest with the proponent of the IPP. 23