Shanghai lights
At the end of 2002, a historic restructuring of China's power
industry took place. The State Power Corporation (SPC) was broken
up into several smaller companies and a new supervisory authority ?
the China Electricity Regulatory Commission (?CERC?) ? was formed.
The restructuring occurred during the term of the Ninth National
People's Congress and followed reorganizations of other major PRC
industries including telecommunications and oil that occurred
during this term.
Background to the reforms
Reform of the PRC power industry started in 1985 with the promulgation of the Provisional Regulations on Promoting Fund-Raising for Investment in the Power Sector and Implementing Different Power Prices. From 1949, the PRC power industry was run as a highly centralized and unified State monopoly. Designated central government departments under the State Council were responsible for policy making and administrative supervision, but also operated and managed the whole industry. Due to the inherent defects of this structure, the sector failed to attract sufficient investment, resulting in substantial power shortages.
Subsequent reform succeeded in resolving these shortages by encouraging local, corporate and foreign investment in power generating assets. Changes in policy led to increased access to the power grid and the new independent power producers were able to negotiate commercial tariffs for take-or-pay offtake arrangements on the basis of fixed asset-based returns.
However, inefficiencies and conflicts of interest continued to plague the power industry. The Ministry of Energy and its successor, the Ministry of Electric Power, were still both regulator and operator, and local investment in power generators led to local protectionism, thereby distorting inter-provincial power distribution. Lastly, an ineffective power pricing policy resulted in erratic pricing.
The Electric Power Law, effective from April 1, 1996, introduced the next round of reforms. In January 1997, SPC was established and took over the operating assets of the Ministry of Electric Power. The Ministry was abolished during the 1998 governmental reforms and its regulatory powers were transferred to the State Economic and Trade Commission (?SETC?), the State Development and Planning Commission (?SDPC?), the Ministry of Finance and SPC.
Further reform was introduced by the Opinion on Relevant Questions Concerning Intensifying Reform of the Power Industry System, as published by the State Council at the end of 1998. The Opinion provided for an experimental pricing scheme with the aim of enhancing market forces in the power sector. In the pilot areas, Zhejiang, Shandong, Jilin, Liaoning and Heilongjiang provinces and Shanghai municipality, the existing pricing structure was to be replaced with pricing according to price differentiation contracts. Around 10% of the available electricity in these areas was made available on a market-pooling basis.
Inefficiencies remained, however, and the PRC government issued the Several Questions on the Reform of the Power Industry System in 2000. Under the Several Questions, the State Council centralized all investment decisions involving State-owned power generating assets. Consequently, all asset restructuring in the power sector came to a halt. In addition, the local price liberalization experiments were limited to their existing scope. The State Council further established a power reform working group with the aim of drafting a reform plan. The members of the working group came from staff of the State Council, SETC, SDPC, and SPC.
The 2002 reforms
1. Blueprint for Reform
Despite the efforts of the 1997 reforms, the power industry was still hampered by lack of competition and a proper regulatory framework. These reforms left SPC in control of 46% of the national power generation capacity and 90% of the power grid. Although administratively separate from government, SPC continued to have a major influence over State policy. In addition, its effective monopoly over the power grid prevented power purchasing decisions from being made on economic merits only.
The power reform working group set out their recommendations in the Plan for the Structural Reform of the Power Industry (the ?Reform Plan?), approved by the State Council in April 2002. The Reform Plan forms the blueprint for the present power industry restructuring.
The overall objective set out in the Reform Plan is to improve efficiency through a greater reliance on the market, subject to government oversight. Further, it stipulates that the main tasks in the present phase of the reform are (i) separation of power production and transmission; (ii) deregulation and increased competition in power and transmission prices under government oversight; (iii) formulating and implementing of emission surcharges to encourage the use of clean energy; (iv) launching a pilot plan for direct purchase of power from power generators by major consumers; and (v) continuing reform of power management in rural areas.
To implement these objectives, the Reform Plan proposed the break-up of SPC into several companies, and the establishment of a new power regulatory commission. The Reform Plan also sets out principles for further price reform.
Two elements of the Reform Plan were implemented in 2002 ? the break-up of SPC and the establishment of the CERC.
2. The Break-up of SPC
On December 29, 2002, SPC was officially broken up into 11 smaller companies. These include two grid operators, five power generating companies and four services companies to engage in power sector-related business activities. The structure and approach of the break-up follows the Reform Plan closely. At the time of writing this article, there still exists uncertainty as to the exact assets to be allocated to each company. The general outline of the restructuring is described below.
The two grid operators are the National Grid Company and the Southern Grid Company. The former is to manage the electricity grid in north and central China, while the latter will be in charge of the grid in the south of the country. Both have been allocated power generating facilities in their respective areas of control. The allocation of these assets should provide the grid companies with an additional source of income. At present, it appears that the National Grid Company will need to divest the power generating facilities in around two years time, presumably after it has gained sufficient financial strength.
The five power generators designated to acquire SPC generating assets are the China Huaneng Group, the China Datong Generation Group, the China Huadian Group, the China Longyuan Group and China Power International. To allow for the provision of capital, each group is structured around one or more PRC or Hong Kong listed companies. Each group has also been allocated a hydropower generating entity to act as a platform for further clean energy development. Each group company will own and operate power generating facilities throughout the PRC, but their individual capacity in each regional network may not exceed 20% of the existing power generating capacity in each region.
Lastly, four service companies were spun off from SPC. SPC previously had a total of around 2 million employees and the creation of these service companies mean that the grid and power generation companies are less burdened by excess service personnel and can focus on their core business. The service companies are also to receive a certain amount of power generating capacity, enabling them to diversify their income.
It is expected that the asset allocations to each entity will be finalized in the course of 2003.
3. Establishment of the CERC
At the same time as SPC was broken up, the CERC was established as a new ministerial authority to oversee the power industry. Although details on the scope and organization of this new authority were reported in the press in January of this year, it should be noted that details have yet to be officially confirmed by the State Council.
According to the reports, the CERC will consist of six main departments and a general office with a total staff of around 200. The six departments will separately deal with policy and regulatory matters, market supervision, power transmission supervision, power supply supervision, electricity pricing and finance (market inspection) and personnel. The establishment of advisory committees is also being considered, which, among other things, could include the establishment of a committee to deal with arbitration of disputes.
The CERC will take over most of the existing administrative responsibilities concerning the industry that were distributed after the abolition of the Ministry of Electric Power in 1998 to the SETC, the SDPC, SPC and the Ministry of Finance. The CERC is poised to become the power industry's main regulatory body with responsibility for, among other things, the promulgation and implementation of regulations, issue of licenses for power plants and the supervision of the inter-provincial and inter-regional power market and wholesale power transactions.
At present, the SDPC remains responsible for approval for investment in the power industry and the pricing of electricity and transmission fees. Industry sources suggest, however, that this arrangement could be temporary. After the CERC has put in place the necessary administrative structures, which include establishment of provincial and regional branches to undertake local supervision, the administrative responsibilities over investment and pricing will be transferred to the CERC.
The PRC government also is presently considering the creation of a new regulatory authority with responsibility for State-assets as part of a general overhaul of the management of State-owned assets. Investment decisions regarding most PRC power generating facilities and the grid ? which are still classified as State-owned assets ? could therefore be given to this new asset-management authority rather than to the CERC.
4. Pricing Reform
Details on pricing reform do not appear to have been reported in the press in recent months, despite the fact that pricing reform is one of the key elements in the Reform Plan.
The Reform Plan proposes a new pricing system that consists of grid prices, prices for power transmission and distribution, and prices for end-sales. To introduce a competitive element, grid prices are to be two-tiered with a basic capacity price and a floating price based on the quantity of electricity sold to the grid. The PRC government is apparently not yet ready to introduce full competition, and the basic capacity price should guarantee that each power generator will be able to fulfill its financial obligations with respect to repayment of loans and interest.
The power transmission and distribution prices will still be set by the government, as the power grid companies will continue to hold a monopoly position in the specific area where they operate. Nevertheless, among other things, the Reform Plan calls for cost control and incentive mechanisms in determining these prices to provide for relatively rational pricing.
Given that the break-up of SPC and the creation of the CERC essentially follow the Reform Plan, it seems likely that pricing reform will eventually follow the same plan. Apparently, the 1998 experiments with price liberalization and accompanying pricing mechanisms, while yielding good results in Zhejiang, were not regarded as successful enough to be rolled out nation-wide.
Foreign Investment in the power sector
1. 2002 Changes to the Investment Climate
In March 2002, the State Council approved and the SDCP, SETC and the Ministry of Foreign Trade and Economic Cooperation (MOFTEC)subsequently issued a new Catalog For Guiding Foreign Investment In Industry. For the power sector, the provisions of the new Catalog were essentially the same as those set out in the earlier 1997 version. Foreign investment in the power grid is still prohibited, but remains encouraged in the construction and operation of fossil-fuel power plants with a single generating capacity of at least 300MW. Foreign investment in plants using conventional coal burning techniques with a single generating capacity of less than 300 MW still is restricted, with the sole exception of those linked to a small power grid. As part of the PRC policy of developing different energy sources, however, the new Catalog classifies foreign investment in natural gas power stations as encouraged, regardless of their generating capacity.
Of greater importance is the PRC government's new, overall policy with respect to the role of foreign investment in State-owned enterprises, as introduced by Jiang Zemin's speech during the 16th Communist Party congress. As part of this policy, the Provisional Regulations on the Use of Foreign Investment in State-owned Enterprise Re-organization was promulgated last year and became effective on January 1, 2003. These Regulations provide the legal framework for the sale of major shares in State-owned enterprises to foreign investors in all industry sectors open for foreign investment.
This new policy seems to have superseded the freeze on transactions involving State-owned power generating assets imposed in 2002. For example, as part of a sale involving stakes in five State-owned enterprises in accordance with this new policy, the Shenzhen government put up for sale and subsequently sold 25% of its stake in the Shenzhen Energy Group to foreign investors. The buyer in this case was Hong Kong-listed Huaneng Power International, which completed the deal at the end of January 2003.
It is likely that similar privatizations by other local governments will be available in the coming year, thereby creating at least theoretical opportunities for foreign investors into the PRC power market.
2. Specific Impact of the 2002 Reform
The Reform Plan does not specifically refer to foreign investment in the PRC power sector. However, the plan will have a profound impact on existing foreign capital in this sector.
The allocation of SPC assets to the newly established companies will include State investment assets in Sino-foreign joint ventures. In some cases, the foreign party will be presented with a new partner and in such instances, new contractual documentation may need to be drawn up, or the restructuring may even trigger buy-out or exit possibilities for the foreign party.
In addition, foreign investors who have teamed up with a local SPC subsidiary to establish a power generating joint venture may find themselves confronted with a new business challenge. These local partners were formerly often managing both the power generating facilities and the electricity grid ? they were therefore both partner and sole off-taker. After the management of the grid is spun off to separate companies, these joint ventures are left with a new entity as the sole customer of the power plant, which fundamentally changes the dynamics and the interests surrounding the joint venture. For instance, the new grid companies might have less incentive to observe the existing commercial arrangements, thereby eroding the financial position of the joint ventures.
Furthermore, the price reforms announced in the Reform Plan appear to be of major significance. Sources close to the CERC have indicated that all guaranteed-price purchase arrangements will need to be renegotiated to facilitate the introduction of the two-tier market pricing mechanism and the later market pooling of electricity.
This approach is considered consistent with the general policy opposing fixed guaranteed returns for foreign-invested projects, which were reiterated last year in The Notice of the State Council Office Regarding the Proper Handling of Several Problems of Existing Projects With Foreign Party Fixed Return Guarantees. The Notice still specifically excludes power purchase agreements from the scope of its application by noting that these will be dealt with in line with the overall restructuring of the power industry. For other projects, however, the Notice imposes an obligation to restructure all foreign investment arrangements in which the foreign party enjoys a guaranteed-return on its investment. In addition, local implementation of the Notice suggests that take-or-pay offtake arrangements may also be caught by this new policy as they are deemed to be ?disguised fixed return? arrangements.
Other than informal comments made by the CERC and SDPC officials, no exact details have emerged on the restructuring of pricing arrangements in the power industry or the impact such changes will have on existing power purchase contracts. However, as indicated by the Notice, a restructuring seems not unlikely. This would have significant legal implications. For example, guaranteed fixed returns on investment for power projects approved before 1994 are arguably supported by PRC law. If renegotiated, the foreign investor would be entitled to proper compensation. The amount of compensation undoubtedly will be the subject of heated negotiations between the power generators and the local power bureaux. Furthermore, despite argument that these can be classified as ?disguised fixed return? arrangements, PRC law fully supports the conclusion of take-or-pay offtake arrangements. Consequently, the restructuring of these arrangements should also take into account the legitimate interests of the power generators, in the form of compensation or perhaps as an alternative power supply arrangement within the two-tier market pricing mechanism.
Conclusion
With the 2002 reforms, the PRC government has taken a significant step toward a more market-oriented power sector. The break-up of SPC and the creation of the CERC should provide the basis for further liberalization, in which foreign investment could play an appropriate role. However, until the pricing reforms are clarified, the reforms seem to increase uncertainty over investment in the power sector. If not appropriately addressed, this could reduce rather than increase investment in the construction of new power-generating capacity, leading to further shortages of electricity supply in the PRC. However, once the 2002 reforms are properly implemented, foreign investors should be able to operate in a more reliable and transparent investment climate. As the demand for power in the PRC continues to grow, the power industry in the PRC still offers prospects. In the short to medium term, however, potential returns from PRC power projects remain constrained due to the lower return hurdles required by PRC domestic investors, which still possess considerable liquidity.
Back to contents
Background to the reforms
Reform of the PRC power industry started in 1985 with the promulgation of the Provisional Regulations on Promoting Fund-Raising for Investment in the Power Sector and Implementing Different Power Prices. From 1949, the PRC power industry was run as a highly centralized and unified State monopoly. Designated central government departments under the State Council were responsible for policy making and administrative supervision, but also operated and managed the whole industry. Due to the inherent defects of this structure, the sector failed to attract sufficient investment, resulting in substantial power shortages.
Subsequent reform succeeded in resolving these shortages by encouraging local, corporate and foreign investment in power generating assets. Changes in policy led to increased access to the power grid and the new independent power producers were able to negotiate commercial tariffs for take-or-pay offtake arrangements on the basis of fixed asset-based returns.
However, inefficiencies and conflicts of interest continued to plague the power industry. The Ministry of Energy and its successor, the Ministry of Electric Power, were still both regulator and operator, and local investment in power generators led to local protectionism, thereby distorting inter-provincial power distribution. Lastly, an ineffective power pricing policy resulted in erratic pricing.
The Electric Power Law, effective from April 1, 1996, introduced the next round of reforms. In January 1997, SPC was established and took over the operating assets of the Ministry of Electric Power. The Ministry was abolished during the 1998 governmental reforms and its regulatory powers were transferred to the State Economic and Trade Commission (?SETC?), the State Development and Planning Commission (?SDPC?), the Ministry of Finance and SPC.
Further reform was introduced by the Opinion on Relevant Questions Concerning Intensifying Reform of the Power Industry System, as published by the State Council at the end of 1998. The Opinion provided for an experimental pricing scheme with the aim of enhancing market forces in the power sector. In the pilot areas, Zhejiang, Shandong, Jilin, Liaoning and Heilongjiang provinces and Shanghai municipality, the existing pricing structure was to be replaced with pricing according to price differentiation contracts. Around 10% of the available electricity in these areas was made available on a market-pooling basis.
Inefficiencies remained, however, and the PRC government issued the Several Questions on the Reform of the Power Industry System in 2000. Under the Several Questions, the State Council centralized all investment decisions involving State-owned power generating assets. Consequently, all asset restructuring in the power sector came to a halt. In addition, the local price liberalization experiments were limited to their existing scope. The State Council further established a power reform working group with the aim of drafting a reform plan. The members of the working group came from staff of the State Council, SETC, SDPC, and SPC.
The 2002 reforms
1. Blueprint for Reform
Despite the efforts of the 1997 reforms, the power industry was still hampered by lack of competition and a proper regulatory framework. These reforms left SPC in control of 46% of the national power generation capacity and 90% of the power grid. Although administratively separate from government, SPC continued to have a major influence over State policy. In addition, its effective monopoly over the power grid prevented power purchasing decisions from being made on economic merits only.
The power reform working group set out their recommendations in the Plan for the Structural Reform of the Power Industry (the ?Reform Plan?), approved by the State Council in April 2002. The Reform Plan forms the blueprint for the present power industry restructuring.
The overall objective set out in the Reform Plan is to improve efficiency through a greater reliance on the market, subject to government oversight. Further, it stipulates that the main tasks in the present phase of the reform are (i) separation of power production and transmission; (ii) deregulation and increased competition in power and transmission prices under government oversight; (iii) formulating and implementing of emission surcharges to encourage the use of clean energy; (iv) launching a pilot plan for direct purchase of power from power generators by major consumers; and (v) continuing reform of power management in rural areas.
To implement these objectives, the Reform Plan proposed the break-up of SPC into several companies, and the establishment of a new power regulatory commission. The Reform Plan also sets out principles for further price reform.
Two elements of the Reform Plan were implemented in 2002 ? the break-up of SPC and the establishment of the CERC.
2. The Break-up of SPC
On December 29, 2002, SPC was officially broken up into 11 smaller companies. These include two grid operators, five power generating companies and four services companies to engage in power sector-related business activities. The structure and approach of the break-up follows the Reform Plan closely. At the time of writing this article, there still exists uncertainty as to the exact assets to be allocated to each company. The general outline of the restructuring is described below.
The two grid operators are the National Grid Company and the Southern Grid Company. The former is to manage the electricity grid in north and central China, while the latter will be in charge of the grid in the south of the country. Both have been allocated power generating facilities in their respective areas of control. The allocation of these assets should provide the grid companies with an additional source of income. At present, it appears that the National Grid Company will need to divest the power generating facilities in around two years time, presumably after it has gained sufficient financial strength.
The five power generators designated to acquire SPC generating assets are the China Huaneng Group, the China Datong Generation Group, the China Huadian Group, the China Longyuan Group and China Power International. To allow for the provision of capital, each group is structured around one or more PRC or Hong Kong listed companies. Each group has also been allocated a hydropower generating entity to act as a platform for further clean energy development. Each group company will own and operate power generating facilities throughout the PRC, but their individual capacity in each regional network may not exceed 20% of the existing power generating capacity in each region.
Lastly, four service companies were spun off from SPC. SPC previously had a total of around 2 million employees and the creation of these service companies mean that the grid and power generation companies are less burdened by excess service personnel and can focus on their core business. The service companies are also to receive a certain amount of power generating capacity, enabling them to diversify their income.
It is expected that the asset allocations to each entity will be finalized in the course of 2003.
3. Establishment of the CERC
At the same time as SPC was broken up, the CERC was established as a new ministerial authority to oversee the power industry. Although details on the scope and organization of this new authority were reported in the press in January of this year, it should be noted that details have yet to be officially confirmed by the State Council.
According to the reports, the CERC will consist of six main departments and a general office with a total staff of around 200. The six departments will separately deal with policy and regulatory matters, market supervision, power transmission supervision, power supply supervision, electricity pricing and finance (market inspection) and personnel. The establishment of advisory committees is also being considered, which, among other things, could include the establishment of a committee to deal with arbitration of disputes.
The CERC will take over most of the existing administrative responsibilities concerning the industry that were distributed after the abolition of the Ministry of Electric Power in 1998 to the SETC, the SDPC, SPC and the Ministry of Finance. The CERC is poised to become the power industry's main regulatory body with responsibility for, among other things, the promulgation and implementation of regulations, issue of licenses for power plants and the supervision of the inter-provincial and inter-regional power market and wholesale power transactions.
At present, the SDPC remains responsible for approval for investment in the power industry and the pricing of electricity and transmission fees. Industry sources suggest, however, that this arrangement could be temporary. After the CERC has put in place the necessary administrative structures, which include establishment of provincial and regional branches to undertake local supervision, the administrative responsibilities over investment and pricing will be transferred to the CERC.
The PRC government also is presently considering the creation of a new regulatory authority with responsibility for State-assets as part of a general overhaul of the management of State-owned assets. Investment decisions regarding most PRC power generating facilities and the grid ? which are still classified as State-owned assets ? could therefore be given to this new asset-management authority rather than to the CERC.
4. Pricing Reform
Details on pricing reform do not appear to have been reported in the press in recent months, despite the fact that pricing reform is one of the key elements in the Reform Plan.
The Reform Plan proposes a new pricing system that consists of grid prices, prices for power transmission and distribution, and prices for end-sales. To introduce a competitive element, grid prices are to be two-tiered with a basic capacity price and a floating price based on the quantity of electricity sold to the grid. The PRC government is apparently not yet ready to introduce full competition, and the basic capacity price should guarantee that each power generator will be able to fulfill its financial obligations with respect to repayment of loans and interest.
The power transmission and distribution prices will still be set by the government, as the power grid companies will continue to hold a monopoly position in the specific area where they operate. Nevertheless, among other things, the Reform Plan calls for cost control and incentive mechanisms in determining these prices to provide for relatively rational pricing.
Given that the break-up of SPC and the creation of the CERC essentially follow the Reform Plan, it seems likely that pricing reform will eventually follow the same plan. Apparently, the 1998 experiments with price liberalization and accompanying pricing mechanisms, while yielding good results in Zhejiang, were not regarded as successful enough to be rolled out nation-wide.
Foreign Investment in the power sector
1. 2002 Changes to the Investment Climate
In March 2002, the State Council approved and the SDCP, SETC and the Ministry of Foreign Trade and Economic Cooperation (MOFTEC)subsequently issued a new Catalog For Guiding Foreign Investment In Industry. For the power sector, the provisions of the new Catalog were essentially the same as those set out in the earlier 1997 version. Foreign investment in the power grid is still prohibited, but remains encouraged in the construction and operation of fossil-fuel power plants with a single generating capacity of at least 300MW. Foreign investment in plants using conventional coal burning techniques with a single generating capacity of less than 300 MW still is restricted, with the sole exception of those linked to a small power grid. As part of the PRC policy of developing different energy sources, however, the new Catalog classifies foreign investment in natural gas power stations as encouraged, regardless of their generating capacity.
Of greater importance is the PRC government's new, overall policy with respect to the role of foreign investment in State-owned enterprises, as introduced by Jiang Zemin's speech during the 16th Communist Party congress. As part of this policy, the Provisional Regulations on the Use of Foreign Investment in State-owned Enterprise Re-organization was promulgated last year and became effective on January 1, 2003. These Regulations provide the legal framework for the sale of major shares in State-owned enterprises to foreign investors in all industry sectors open for foreign investment.
This new policy seems to have superseded the freeze on transactions involving State-owned power generating assets imposed in 2002. For example, as part of a sale involving stakes in five State-owned enterprises in accordance with this new policy, the Shenzhen government put up for sale and subsequently sold 25% of its stake in the Shenzhen Energy Group to foreign investors. The buyer in this case was Hong Kong-listed Huaneng Power International, which completed the deal at the end of January 2003.
It is likely that similar privatizations by other local governments will be available in the coming year, thereby creating at least theoretical opportunities for foreign investors into the PRC power market.
2. Specific Impact of the 2002 Reform
The Reform Plan does not specifically refer to foreign investment in the PRC power sector. However, the plan will have a profound impact on existing foreign capital in this sector.
The allocation of SPC assets to the newly established companies will include State investment assets in Sino-foreign joint ventures. In some cases, the foreign party will be presented with a new partner and in such instances, new contractual documentation may need to be drawn up, or the restructuring may even trigger buy-out or exit possibilities for the foreign party.
In addition, foreign investors who have teamed up with a local SPC subsidiary to establish a power generating joint venture may find themselves confronted with a new business challenge. These local partners were formerly often managing both the power generating facilities and the electricity grid ? they were therefore both partner and sole off-taker. After the management of the grid is spun off to separate companies, these joint ventures are left with a new entity as the sole customer of the power plant, which fundamentally changes the dynamics and the interests surrounding the joint venture. For instance, the new grid companies might have less incentive to observe the existing commercial arrangements, thereby eroding the financial position of the joint ventures.
Furthermore, the price reforms announced in the Reform Plan appear to be of major significance. Sources close to the CERC have indicated that all guaranteed-price purchase arrangements will need to be renegotiated to facilitate the introduction of the two-tier market pricing mechanism and the later market pooling of electricity.
This approach is considered consistent with the general policy opposing fixed guaranteed returns for foreign-invested projects, which were reiterated last year in The Notice of the State Council Office Regarding the Proper Handling of Several Problems of Existing Projects With Foreign Party Fixed Return Guarantees. The Notice still specifically excludes power purchase agreements from the scope of its application by noting that these will be dealt with in line with the overall restructuring of the power industry. For other projects, however, the Notice imposes an obligation to restructure all foreign investment arrangements in which the foreign party enjoys a guaranteed-return on its investment. In addition, local implementation of the Notice suggests that take-or-pay offtake arrangements may also be caught by this new policy as they are deemed to be ?disguised fixed return? arrangements.
Other than informal comments made by the CERC and SDPC officials, no exact details have emerged on the restructuring of pricing arrangements in the power industry or the impact such changes will have on existing power purchase contracts. However, as indicated by the Notice, a restructuring seems not unlikely. This would have significant legal implications. For example, guaranteed fixed returns on investment for power projects approved before 1994 are arguably supported by PRC law. If renegotiated, the foreign investor would be entitled to proper compensation. The amount of compensation undoubtedly will be the subject of heated negotiations between the power generators and the local power bureaux. Furthermore, despite argument that these can be classified as ?disguised fixed return? arrangements, PRC law fully supports the conclusion of take-or-pay offtake arrangements. Consequently, the restructuring of these arrangements should also take into account the legitimate interests of the power generators, in the form of compensation or perhaps as an alternative power supply arrangement within the two-tier market pricing mechanism.
Conclusion
With the 2002 reforms, the PRC government has taken a significant step toward a more market-oriented power sector. The break-up of SPC and the creation of the CERC should provide the basis for further liberalization, in which foreign investment could play an appropriate role. However, until the pricing reforms are clarified, the reforms seem to increase uncertainty over investment in the power sector. If not appropriately addressed, this could reduce rather than increase investment in the construction of new power-generating capacity, leading to further shortages of electricity supply in the PRC. However, once the 2002 reforms are properly implemented, foreign investors should be able to operate in a more reliable and transparent investment climate. As the demand for power in the PRC continues to grow, the power industry in the PRC still offers prospects. In the short to medium term, however, potential returns from PRC power projects remain constrained due to the lower return hurdles required by PRC domestic investors, which still possess considerable liquidity.
Back to contents
Request a Demo
Interested in IJGlobal? Request a demo to discuss a trial with a member of our team. Talk to the team to explore the value of our asset and transaction databases, our market-leading news, league tables and much more.