The privatisation process was underpinned by very optimistic and unrealistic assumptions and promises by Nigerian Electricity Regulatory Commission (NERC), the Bureau of Public Enterprises (BPE) and policy makers. There were also several promises made to investors during the bid stage to incentivise them. Such unrealistic assumptions and incentives included…
In recent times, there have been strident calls for the privatisation of the power sector to be revisited or reversed. The latest to join the call is the Nigerian Senate, which debated the privatisation and seeming failure of the power sector, particularly the DISCOs.
This article chronicles the privatisation process and x-rays what, in our opinion, went wrong with the process. As a caveat, our article is not intended to create any controversy. There may likely be different views from the various actors of the privatisation process on what went wrong; For instance, Prof. Bart Nnaji, in a recent interview, was quoted to have said that the process was hijacked by vested interests.
Besides x-raying the failures of the privatisation process, we would attempt to proffer solutions on how to revisit this with a view to making the power sector work. Another caveat – the solutions proffered would hopefully guide the current discussions and/or stimulate a broader debate on how to address the shortcomings of the privatisation process.
Objectives of the Privatisation of PHCN Successor Companies
The privatisation of PHCN successor companies (GENCOs and DISCOs) was a key plank of the power sector reforms. The objectives of the privatisation were to promote efficiency, increase private sector funding of the power sector, increase power generation, and make the power sector more viable under private sector management.
The privatised Successor Companies and their method of privatisation are as follows:
|Type of Successor Company||Name of Successor Companies||Privatization Method|
|Four (4) Thermal GENCOs||Afam, Geregu, Sapele, Ughelli||Share sale to Core Investors.|
|Two (2) Hydro GENCOs||Kainji (inclusive of Jebba) and Shiroro||Concession to Core Investor.|
|Eleven (11) DISCOs||Abuja, Eko, Ikeja, Benin, Ibadan, Jos, Enugu, Port Harcourt, Kaduna, Kano, Yola Discos||60% share sale to Core Investors.|
Egbin GENCO is not part of the 18 PHCN successor companies and its privatisation had earlier been conducted by the Obasanjo administration, though not concluded then.
Summarising the Privatisation Process
The privatisation process initiated by the Obasanjo administration, was restarted in 2010 with the Bureau of Public Enterprise (BPE) midwifing the process under its statutory responsibility. The privatisation transaction involved the following stages:
1. Expression of Interest (EOI) stage – the BPE received 331 proposals from investors and pre-qualified 207 investor groups;
2. Request for Proposal (RfP) stage;
3. Bid Opening Stage – Technical and Financial;
4. Negotiations with Preferred Bidders;
5. Execution of Share Sale Agreement, payment and handover.
The privatisation transaction received much attention from national and international firms. Prior to the EOI stage, the BPE undertook international roadshows to Dubai, London, New York and Johannesburg. Contrary to the widely held opinion that international power firms did not participate in the privatisation process, there were actually a number of international power firms such as Aldwych, Globeleq, Actis, Metropolitan Electricity Authority of Thailand, TATA of India, AYDEM of Turkey, MERALCO of Philippines, Copperbelt of Zambia, and several other international power firms who participated, either as technical partners to Nigerian controlled consortiums or as actual investors.
There is no fail-safe switch to allow government step-in and take back ownership in the event of poor performance by DISCOs, without Nigeria paying a huge price financially. Force majeure provisions under the Performance Agreements are deliberately stacked against the Federal Government to prevent this occurrence.
During the privatisation process, bidders were provided the opportunity to conduct due diligence on the asset of interest. The BPE also opened multiple data rooms (virtual and physical) for bidders to also inspect documents and other information pertaining to the asset of interest. However, physical inspection of asset was limited due to the hostility by the Electricity Union Workers to the privatisation process.
Out of the 17 successor companies scheduled for privatisation, Afam Power Generation Company is the only PHCN successor company whose privatisation is yet to be completed. It remains with the Federal Government. The privatisation of Kaduna DISCO was re-advertised and concluded in 2014. Yola DISCO, privatised in 2013, is back within government control again.
Transparency of the Privatisation Process
A lot of commentators have argued that the privatisation process was flawed from the start, and was designed to sell the companies to cronies of the past administration. We disagree with this view. The privatisation process was generally acclaimed to have been very transparent and was keenly monitored by international bodies such as the World Bank and others. The technical committee of the National Council on Privatisation (NCP), which is an independent body of eminent professionals, was headed by Mr. Atedo Peterside. The privatisation process was guided by very clear rules stated in the Request for Proposals (RfP) approved by the National Council on Privatisation (NCP). The BPE and Technical Committee followed the RfP rules in arriving at Preferred Bidders.
What Went Wrong?
Very optimistic assumptions by NERC and policy makers
The privatisation process was underpinned by very optimistic and unrealistic assumptions and promises by Nigerian Electricity Regulatory Commission (NERC), the Bureau of Public Enterprises (BPE) and policy makers. There were also several promises made to investors during the bid stage to incentivise them. Such unrealistic assumptions and incentives included:
• Very ambitious MYTO assumptions (technical and non-technical losses, available generation capacity, wholesale generation costs, understated distribution costs, etc.);
• MYTO tariffs assumed to be sufficient to raise enough revenues from DISCOs to fund the value chain;
• Well capitalised NBET (Bulk Trader) able to meet its PPA obligations to GENCOs;
• N100 billion transitional subsidy to DISCOs to prevent rate shock;
• Securitisation or credit enhancement/support arrangements in the early stages of the transition to build investor confidence in the sector;
• Financial viability of the DISCOs from day one;
• A stable transmission grid;
• A cocktail of incentives to further encourage national and international investors which never materialised.
An as example of the very optimistic assumptions that was used to sell the privatisation process, the table below shows government expectations that DISCOs would be able to pay 90 percent of their market invoices to NBET by 2015.
Fig 1: “An overview of the Power Sector Reforms in Nigeria”, a presentation by Prof. Barth Nnaji, May 2011.
In hindsight, the overly optimistic and quite unrealistic assumptions by all stakeholders was an indication that there was very little knowledge of a transitional power sector then. A combination of government failure to follow through on some of these assumptions and incentives, as well as investor exuberance, not patriotism, has now created a dangerous cocktail in the power sector.
Sacking of the main drivers of the privatisation process
Perhaps, the single biggest factor that undermined the privatisation process, in our view, may have been caused by the Federal Government with the abrupt removal of Professor Barth Nnaji as minister for Power and later, Ms. Bolanle Onagoruwa, as director general of the BPE, before the conclusion of the privatisation process. Prof. Barth Nnaji’s removal was probably the fastest sacking of a minister by the last administration. Both Prof. Nnaji and Ms. Bolanle Onagoruwa, known then for her strict, obey-the-rule disposition, were the key drivers of the power sector privatisation process, having been deeply involved in the policy formulation, planning and execution of the privatisation process.
The drawbacks to this evaluation methodology in terms of actual post-acquisition implementation are numerous as can now be seen today. First, is the simple fact that there are no straightforward means of measuring ATC&C loss reductions. It’s really based on a series of assumptions and is largely data driven.
Evaluation strategy used for DISCOs
The evaluation strategy used for DISCOs is based on Aggregate Technical, Commercial and Collection (ATC&C) loss reduction model. ATC&C is a concept in the power sector used as a measure of the efficiency and effectiveness of a distribution company. The ATC&C model was adopted from the New Delhi Power privatisation. According to CPCS Transcom, transaction advisers to the BPE, this “method of evaluation was chosen to maximise the benefit to Nigerian consumers and the efficiency of the energy sector”.
Using the ATC&C model, a fixed price (valuation) for each DISCO was set by the NERC. Bidders were not required to submit financial bids. Bids were evaluated based on the bidder’s proposal to reduce ATC&C losses over a five-year period. The bidder with the proposal for the highest reduction in ATC&C losses for a DISCO was effectively declared the preferred bidder for that DISCO.
The drawbacks to this evaluation methodology in terms of actual post-acquisition implementation are numerous as can now be seen today. First, is the simple fact that there are no straightforward means of measuring ATC&C loss reductions. It’s really based on a series of assumptions and is largely data driven. Three years after the conclusion of the privatisation process, actual ATC&C loss levels for DISCOs and verifiable loss reduction achieved to date are still speculative!
Secondly, the ATC&C loss reduction methodology is built around the Multi Year Tariff Order (MYTO). MYTO stipulates the annual investment requirement, allowable operational expenditure, approved rate of return on equity and other allowable expenses for each DISCO. The ATC&C loss reduction proposals made by preferred bidders did not correlate to the investment allowances under MYTO. Bidders who understood the correlation of MYTO investment requirement and ATC&C loss reduction were conservative in their bids, but sadly lost. That was the irony of the privatisation process.
Perhaps, a better evaluation strategy for DISCOs would have been for bidders to propose minimum actual financial investments, which they would make annually in DISCOs over a five-year period as the agreed performance target.
NERC and policy makers not prepared for a privatised power sector
Post-privatisation, it is obvious that NERC and policy makers in the power sector were not operationally ready for the smooth take-off of the privatised power sector. NERC’s unpreparedness was apparent from its order invoking an unplanned interim rules period (IRP) and further regulatory flip-flops, in terms of the MYTO tariff setting process subsequent to and after the declaration of the Transitional Electricity Market (TEM) in February 2015. Flip-flops from policy makers on issues such as the provision of transitional subsidies to DISCOs, partial risk guarantees (PRG) approval to successor GENCOs, NBET capitalisation and non-activation of the PPAs, etc, also worsened the take-off of the privatised electricity sector.
But the core investors in DISCOs were also not prepared to take on the challenges of the power sector, which they clearly under-estimated during the bidding stage.
Too Much Leverage?
Ijeoma Nwogwugwu, in an article published on March 25th, 2013 in ThisDay newspapers, writes as follows:
“But it is not just the bidders’ capacity to raise funds to pay for the acquisitions that we should worry about. We and particularly the BPE should concern ourselves with the degree of leveraging in the course of acquisition. Anyone with some knowledge of privatisation transactions would readily acknowledge that the main reason some of them failed after the government assets might have been sold was because the transactions were over-leveraged. In instances where an investor has to borrow up to 80 percent and more from the banks, and at high rates of interest, to takeover and inject working capital into a company, more often than not, that investor is biting more than he can chew.”
While preferred bidders were able to pay the steep acquisition prices for the GENCO and DISCO asset/shares, most core investors today lack the financial capability to operate the asset. It is instructive to note that there was very limited participation by foreign financial institutions during the acquisition stage. The bulk of the acquisition financing was obtained from local commercial banks.
We must also state that the privatisation process has not been a complete failure, as there have been immeasurable gains such as the creation of NBET, increased generation capacity from pre-privatisation levels, government’s commitment to making investments in the TCN, new practices in DISCOs, increased private sector investment across the value chain, etc.
It is pertinent to state that in other to make PHCN successor companies (DISCOs and GENCOs) viable for investment, these companies were sold without any liabilities. The Nigerian Electricity Liabilities Management Company (NELMCO) was incorporated to warehouse liabilities in the power sector pre-privatisation. Thus any liabilities of DISCOs now are solely those liabilities and debts incurred post-privatisation. The liabilities do not and should not include the loans borrowed by the core investors to finance their acquisition of the shares. This clarification is important, as the acquisition debts of core investors are being erroneously recognised as part of the DISCOs’ liabilities.
Absence of Core Investors’ equity financing
A lack of cost reflective electricity tariff is the main issue affecting the core investors’ and DISCOs’ ability to raise financing, particularly debt financing. However, the ATC&C loss reduction proposals by preferred bidders were based on MYTO 1.0 tariffs. Since the completion of privatisation and handover of the successor companies in November 2014, electricity tariffs have been increased at least three times. This is in addition to a N213 billion intervention by the CBN, out of which seven (7) DISCOs received N54.1 billion. As a demonstration of the financial incapability of most core investors, part of the N213 billion provided by the CBN was for DISCOs to post their letters of credit (L/C) to NBET. Posting of DISCOs’ L/C is a key condition for the activation of the vesting contracts.
In general, there is an absence of significant equity investments in DISCOs. BPE’s restriction that core investors can’t sell more than five percent of their equity in DISCOs after their acquisition may have constrained capital raising to expensive commercial debts only. Sadly, commercial debts aren’t also forthcoming either. Investors have largely depended on market revenues for their operations and capital investments.
Ineffective government representation on boards of privatised companies
Several commentators have highlighted the ineffectiveness of government’s representatives on the Boards of DISCOs as one of the failures of the privatisation process. As an example of this ineffectiveness, it is quite unfortunate that since 2013, no DISCO is yet to conclude customer enumeration exercise, nor has any DISCO produced its audited financials! Yet there have been no sanctions from the BPE. In truth, it is arguable that if the BPE, as a 40 percent shareholder in DISCOs can actually apply any sanctions under these circumstances per the terms of the Performance Agreements and Shareholders’ Agreement.
BPE’s ability to monitor the terms of the performance agreements, independently, determines the ATC&C loss levels achieved by DISCOs, enforces sound corporate governance practices in DISCOs, ensures that DISCOs produce their audited accounts timely, carry out customer enumeration exercises, and their other obligations under the Performance Agreements are crucial to the success of the privatisation process. BPE’s lack of bite/ enforcement of sanctions is a hindrance to the power sector.
Operational and Regulatory Issues Beyond Discos’ & Gencos’ Control
The operational issues affecting the power sector which are beyond DISCOs and GENCOs, are clearly documented. For instance, the level of generation is affected by gas availability, which is in turn affected by any restiveness in the Niger Delta and acts of deliberate sabotage by vandals. Also, both DISCOs and GENCOs are exposed to transmission risks. Lastly, regulatory uncertainties and significant political interference in the regulatory process are beyond the control of DISCOs and GENCOs. Unfortunately, many operators have taken advantage of regulatory uncertainties and interference to perpetuate “bad behaviour” to the detriment of the entire sector.
Should the Power Sector Privatisation Be Reversed?
Answering this question is quite pertinent as several influential persons have called for the reversal of the privatisation process. We share the views by H.E Babatunde Fashola (SAN) that reversal of the power sector privatisation is not an option. We must also state that the privatisation process has not been a complete failure, as there have been immeasurable gains such as the creation of NBET, increased generation capacity from pre-privatisation levels, government’s commitment to making investments in the TCN, new practices in DISCOs, increased private sector investment across the value chain, etc.
Despite the shortcomings of the power sector, reversing the privatisation transaction would be expensive. There is no fail-safe switch to allow government step-in and take back ownership in the event of poor performance by DISCOs, without Nigeria paying a huge price financially. Force majeure provisions under the Performance Agreements are deliberately stacked against the Federal Government to prevent this occurrence. These provisions were inserted to protect and assure investors of the sanctity of contracts and discourage government from moving against investors. Unfortunately, it’s worked against the Federal Government.
Does this mean that the Federal Government has no recourse against recalcitrant DISCOs and their core investors? Of course not. There are openings which the FG can explore to achieve this purpose. Our next article would highlight some of these openings.