Developers raise water and power tariffs as costs soar

04 September 2008
Rising engineering, procurement and construction costs are forcing power project bidders to up their prices.

Since May this year, four major independent water and power projects (IWPPs) - in Abu Dhabi, Bahrain, Oman and Saudi Arabia - have received bids from international developers.

With the exception of the Salalah IWPP in Oman, where the value of the offers is not known, the power and water tariffs offered by bidders are higher than ever.

Saudi Arabia, the largest market for private utility projects in the Gulf, has experienced the fastest escalation in the prices that clients pay developers under power and water purchase agreements.

Between the Shouaiba IWPP in 2005 and this year’s Ras al-Zour IWPP, costs have gone up by more than 93 per cent.

A consortium of Malakoff and Tenaga Nasional, both of Malaysia, with the local Acwa Power Projects, submitted the only bid for the Shouaiba scheme.

The tariffs for the project were $0.01424 a kilowatt hour of electricity and $0.5707 a cubic metre of water.

By the time the massive Ras al-Zour IWPP was tendered at the start of this year, prices had almost doubled.

The contract has not yet been awarded, but a consortium led by Japan’s Sumitomo Corporation is the low bidder, having offered a tariff of $0.0276 a kWh of power and $1.1035 a cubic metre of water.

Regional problem

It is a similar story across the region. In Abu Dhabi, water tariffs bid by developers have risen by 62.3 per cent since 1998 and electricity prices have increased by 56.9 per cent over the same period.

“On the last award, which was Shuweihat 2, for the first time water costs exceeded $1 a cubic metre,” says Robert Bryniak, general manager of Abu Dhabi-based Golden Sands Management Consulting. "This is indicative of the state of the market, with costs going up.”

Abu Dhabi Water & Electricity Authority (Adwea) has attempted to curb the tariff rises by asking developers to match prices on previous projects.

Having awarded the Shuweihat 2 IWPP to Belgium’s Suez Energy International, Adwea is pressing ahead with its next project,
Shuweihat 3.

It has told Japan’s Marubeni Corporation, the second-ranked bidder on Shuweihat 2, that it will be awarded the Shuweihat 3 contract if it can meet Suez’s price on the previous scheme.

It is a tactic that Adwea has tried before. In late 2007, it approached the two highest-ranked bidders for the Fujairah 2 IWPP and asked them to agree to the winning price for Shuweihat 2.

But neither the UK’s International Power with Japan’s Marubeni Corporation, nor Belgium’s Suez Energy International, submitted offers, forcing Adwea to competitively tender the project.

Freezing prices

The continued rise of contracting costs makes it likely that Adwea’s latest attempt to freeze prices will meet a similar fate.

According to one leading adviser to Gulf governments on power and water projects, capital costs in Abu Dhabi have risen from $400,000 a MW in 2004-05 to $1m a MW today.

The details of the proposals that Marubeni has submitted to the authority are unknown, but it would be a surprise if they match Suez’s bid.

“It is very, very difficult,” says Bryniak. “I do not think they will be able to do that.”

In Bahrain, the rise in tariffs has been even more striking. The kingdom has witnessed a 75.1 per cent increase in power tariffs over the past four years.

The Al-Ezzal independent power project (IPP) drew a winning bid of $0.0213 a kWh from a team of Suez and Kuwait’s Gulf Inv-estment Corporation in 2004.

The same group was selected as the preferred bidder for the Addur IWPP in August this year, but its price had increased to $0.0373 a kWh. The water tariff was set at $0.9340 a cubic metre for all bidders.

Oman, in contrast, has not been subject to a consistent increase in tariffs.

In 1994, the Al-Manah IPP, the Middle East’s first such project, was awarded to a Suez-led consortium after direct negotiations with the group led to an agreement on a tariff of $0.0419 a kWh.

The high price is partly explained by the fact that the scheme was the first of its kind, meaning there was no benchmark for tariffs.

It also included the construction of a power grid, artificially inflating the price. But even by today’s standards, it was expensive.

Since then, prices have dipped and risen repeatedly, reaching their highest point in 2000 on the Salalah IPP. The winning bid for the project, which also included grid work, was $0.0383 a kWh.

As Oman Power & Water Procurement Company only releases tariff information for projects once they become operational, it remains unclear how high the three bids submitted in June were for its latest scheme, an IWPP at Salalah.

The anomaly of Oman, however, does not disguise the fact that there is a strong upward trend for tariffs in the Gulf region.

The impact of rising engineering, procurement and construction (EPC) costs on margins has been the single greatest contributor to rising tariffs, say the developers.

“Quite simply, it is just the skyrocketing price of EPC,” says one international developer based in the UAE.

“It is not just the cost of civil works, but also the price of equipment, such as transformers and gas turbines, is increasing.”

By raising their tariffs, developers claim to be doing no more than covering their additional costs.

“We don’t get any premium,” says the developer. “The profit return is almost the same as three or four years ago. Developers are making a 10-13 per cent cash-on-cash return.”

It is not only private power projects that are facing higher costs. State-dominated markets like Dubai and Kuwait are also feeling the effect of soaring EPC prices.

Dubai Electricity & Water Authority (Dewa) retendered the Hassyan Station P power and water project after it deemed the bids submitted by contractors in April this year were too high.

When new bids were submitted in July, the lowest put the capital cost of one MW of power at $1.4m and the cost of building one gallon a day (g/d) of desalination capacity at $8.40.

The power costs for the first phase of the Jebel Ali M station project, submitted in March 2007, were significantly lower, at $860,000 a MW, while a lower water tariff, of $8 a g/d, was also agreed.

According to another developer based in Abu Dhabi, long lead times on equipment for power and water plants have also made projects more costly. “Steam turbines and boilers are becoming long-lead items,” he says.

“Manufacturers cannot keep them in supply. Developers have to pre-invest and get prod-uction slots, so they put money down to secure equipment.”

Capital investment

Tariffs for oil-fired power plants are likely to be higher than for their gas-fired counterparts, which entail a lower capital investment. “It is a double whammy,” says the adviser.

“For an oil-fired plant, 1MW [of generation capacity] will cost $2m, compared with $1m in a combined-cycle gas-fired plant. The killer is that the efficiency of an oil-fired plant is lower.”

Saudi Arabia, in particular, will feel the impact of this. A royal decree issued in 2006 requires all coastal power plants to be oil-fired. But with gas in short supply, other countries in the Gulf have also resorted to using oil as feedstock.

While it is clear that tariffs have increased within individual countries, it is impossible to determine which government has to pay the most for its power and water, given the variety of other factors involved.

Varying taxation levels, for example, make it difficult to compare like with like. While Abu Dhabi does not tax developers, it imposes a fixed internal rate of return on projects.

Saudi Arabia, on the other hand, does levy a tax, but the internal rate of return is competitively bid.

To anyone who is not intimately involved in the deals themselves, how the individual markets compare remains guesswork.

“Unless you have all the documents - and nobody has - then you have no way of knowing,” says the adviser.

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