September 6, 2008
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Home / Issue Archive / 2008 / March #3 / Impact of RAO UES Split Rivals Lenin's 1920s "Electrifikatzia"

№ 3 (March 2008)

Impact of RAO UES Split Rivals Lenin's 1920s "Electrifikatzia"

On June 1 of this year, the 16-year-old electric energy giant RAO UES Russia will disappear. Its legal and functional split is complete, and its property will soon be divided. As part of the process, dozens of generating, transmitting and distribution companies were created, some of which have already become private

By Alexei Didevich

The business is attracting major investors, mostly European companies (E.On, Enel, Fortum, RWE and others). New industrial facilities are being built. The changes are so significant that they remind experts and the media of GOELRO, a plan that led to the major success of the Soviet Union’s electrification program in 1920-1931.

Reforms in the Russian energy sector were badly needed in the mid-1980s. In the 1990s, with the general economic crisis in post-Soviet countries, they were even more necessary; electricity consumption dropped and there was no capacity renovation. In terms of specific fuel consumption, average equipment efficiency, and operating capacities, Russian power plants started to lag behind their analogues in industrial countries. These factors, as well as a high accident rate, prompted major changes in the electric energy industry.

Reforms started in 2003, with the pilot restructuring of three AO-Energo companies (electricity and heat generation and distribution joint-stock companies located in different regions). By 2007, the companies with the target structure were almost finished. Projects to reform 70 of 71 AO-Energos were approved, six heating wholesale generating companies (OGK) were created, the structures of 14 regional generating companies (TGK) were completed, and AO-Energos were reorganized into 55 supergrid companies (of the 56 under the initial plan).

The past year saw extensive sale of distribution companies. Tenders had variable success, which some attributed to an unlawful agreement among potential customers, asset-related risks, or the variable appeal of companies. Thanks to a number of successful tenders, RAO UES gleaned the considerable sum of 13 billion rubles. I witnessed, in summer 2007, a distribution company in Povolzhye going for a price several times the initial one. Over 40 bids, each of them $1 million more than the last, were placed before the lot was sold.

Even so, the most attractive power distribution assets are up for sale this year. Specifically, in May 2008, the energy holding plans to offer shares of its three biggest distribution businesses in Moscow, St. Petersburg and Tyumen.
During the reform, the industry structure changed drastically: the functions of natural monopolies, such as power transmission and dispatcher management, were separated from those potentially subject to competition, such as generation and distribution, repair and service companies. Vertically integrated companies gave way to those dedicated to specific operations. The generation, distribution and service companies are being privatised and will compete. At the same time, the state is tightening its control over natural monopolies.

After the self-dissolution of RAO UES, the Federal Agency for Energy (Rosenergo) under Dmitry Akhanov (a former colleague of the Holding’s manager Anatoly Chubais) will spearhead further reform in the industry and help create a new management system. Rosenergo will probably assume many coordinating functions, such as technical regulation and communication with energy market players, forecasting, planning and energy market security control. According to Akhanov, his agency will primarily focus on security as well as the coordination of operation centers accountable for uninterrupted power supply to consumers.

On September 1, 2006, new regulations for wholesale and retail energy markets came into play. The wholesale power market switched to regulated agreements between consumers and generating companies, and a spot market (the “tomorrow market”) was launched. Following a decision of the Russian government, by 2011 the regulated agreement system will gradually switch to free (unregulated) agreements. The new rules envisage gradual retail price liberalisation accompanying wholesale market liberalisation. Power prices for private consumers will remain regulated until 2014.

According to the plan, on July 1, 2008, the sector will start gradually implementing the Regulated Asset Base (RAB) tariffication, a long-term tariff regulation strategy. Anatoly Chubais, the man behind the energy reform, says that this will ensure fixed profitability of the capital investment of distribution companies. Initially, the new principle will be introduced in four to five companies, and in January 2009, up to 20-25 companies will follow. Analysts predict that a new system of tariffication will attract major investments in power grids while preserving state control over grid companies.

“We actually have a trillion rubles of private investments, 600 bn of which are already credited to energy companies’ accounts,” said Anatoly Chubais in a New Year’s Eve interview with the Ekho Moskvy radio station. “If energy sector doesn’t get this money, it could lead to a catastrophe,” he added. He also insisted that the energy sector is a slow-response area, and the results of the reform will play out for years to come. In RAO UES’ investment program, industry modernization and capacity building requirements will exceed 3.38 trillion rubles. As of now, less than a third of the amount required for “GOELRO-2” has been raised.

After the completion of structural reform, the state will own an over-75 percent share of the Federal Grid Company and the System Operator, over 50 percent of HydroOGK and Inter RAO UES (the company in charge of RAO UES’ foreign assets), and an approximately 52-percent stake in MRSK Holding (an organization that unites interregional distribution grid companies) and Energy Systems of the East.

“It is very important that power transmission is separated from power generation,” says Evgeny Yasin, Research Director of the State University, Higher School of Economics. He explains that the main objective of RAO UES’ recent reform is to build a market in which prices are determined by competition rather than by tariff management and cross-subsidies, which had previously undermined effective management and the industry’s investment appeal.

A competitive market is exactly what the new power generation structure aims to create. However, the assets of generation companies are mostly in the hands of state companies and corporations like Gazprom, or other companies that want inexpensive electric power. This poses risk to other players in the market. So, the rise of electricity prices seems inevitable, particularly if you account for increasing gas prices, gas making up more than 60 percent of the fuel used for power generation.

The Ministry of Industry and Energy of the Russian Federation (Minpromenergo) and RAO UES have developed a general plan for erecting energy facilities through 2020. The plan will be updated every three years to coordinate investment projects in the grids sector and the generation sector over the huge expanse of Russia. This is quite a task for the state. Second-most important in energy sector management is the Market Council, a self-regulating organization that will include representatives from all generation companies and major power consumers. The council will oversee the infrastructure of the energy sector, namely grid companies and the System Operator, the dispatcher of Russia’s unified energy system.

The Unified Energy System (UES) doesn’t cover the entirety of Russia: only the European part, Siberia and the territories beyond Lake Baikal. There are other Unified Energy Systems, in Sakhalin, Kamchatka, and the Magadan region, and a Unified Energy System of the Far East spreading from Yakutia to the Pacific.
Speaking of Yakutia, Russian Federation Prime Minister Dmitry Medvedev recently took part in the launch of the third unit of the Svetlinskaya Power Plant (formerly Vilyuyskaya GES-3) near the Yakut city of Mirny. In his short speech, he said that the unit will ensure an inexpensive and constant power supply to the diamond and oil-and-gas industries of Yakutia, and in the long run will decrease the cost of fossil fuel extraction. “Most importantly, it will allow us to approach burning social issues in the North and in the entire country,” he said. Svetlinskaya Power Plant is the third hydropower plant on the Vulyuy River. It is the first and the only hydropower plant in a permafrost region. Its construction started in 1979, was held up in the mid-1980s, and was resumed after Alrosa, a local diamond company, became the power plant’s main shareholder in 1999. The first unit of the Svetlinskaya Power Plant was launched in September 2004. This story is worth mentioning because it seems typical; there are a lot of construction projects in Russia abandoned for reasons little to do with permafrost.

Nevertheless, the new energy companies are optimistic. “The end of RAO UES Russia is not the end of the world,” reassures Sergei Kozhemyako, TGK-11 General Director and the Siberian Energy Association’s President. He thinks that under the new conditions, there will be enough players in the market for the industry to stay competitive.

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