The least cost option

In its official website, the Energy Regulatory Commission (ERC) describes itself as a world-class and independent electric power industry regulator that equitably promotes and protects the interests of consumers and other stakeholders, to enable the delivery of long-term benefits that contribute to sustained economic growth and an improved quality of life.

The ERC is also one of the administrative agencies to which the powers and duties of the defunct Public Service Commission were transferred to.

Republic Act 11659 which amended the Public Service Act provided that the state recognizes the role of the private sector as one of the main engines for national growth and development, thus, it is the state’s policy to encourage private enterprise and expand the base of investment in the country, with the goal of providing efficiency, reliable and affordable basic services to all.

It explained that these policies are fulfilled by ensuring effective regulation of public services and providing reasonable rate of return to public services, among others.

One of the functions transferred to the ERC from the PSC is the power to fix and determine fair and reasonable rates and charges which shall be imposed by any public service when the public interest so requires. The law provides that when the public interest requires, the administrative agency concerned shall set rates that allow recovery of prudent and efficiency costs and a reasonable rate of return to enable the public service to operate viably and efficiently, while at the same time ensuring a reasonable price of the commodity or service.

We also have the Electric Power Industry Reform Act of 2001 or EPIRA, which provides that it is the policy of the state to ensure the affordability of electric power supply, to ensure transparent and reasonable prices of electricity in a regime of free and fair competition, to enhance the inflow of private capital and broaden the ownership base of the different energy sectors including power generation, transmission and distribution, to ensure fair and non-discriminatory treatment of public and private sector entities, and to establish a strong and purely independent regulatory body to ensure consumer protection and enhance the competitive operation of the electricity market, among others.

Under EPIRA, power generation companies are not considered as public utilities and therefore are not required to secure a national franchise. Prices charged by a generation company for the supply of electricity shall not be subject to regulation by the ERC but the retail rates charged by distribution utilities (DUs) such as Meralco are subject to ERC regulation based on the principle of full recovery of prudent and reasonable economic costs incurred.

The EPIRA created the ERC, which is tasked with promoting competition, encouraging market development, ensuring customer choice, and penalizing abuse of market power.

In setting the rates of DUs, EPIRA provides that the rates to be set by the ERC must be such as to allow the recovery of just and reasonable costs and a reasonable return on rate base to enable the entity to operate viably.

In purchasing electricity from its suppliers, Meralco was required by the Department of Energy and ERC to conduct competitive public biddings for its power supply agreements (PSA) to ensure fair, reasonable, transparent, and cost-effective generation charge for consumers, whose legality was upheld by the Supreme Court in 2019.

A PSA is a bilateral agreement between a generation company and a distribution utility for the purchase and supply of electricity, However, it is subject to review and approval by the ERC pursuant to EPIRA again based on the law’s mandate on the ERC to ensure that retail rates charged by DUs such as Meralco are based on the principle of full recovery of prudent and reasonable economic costs incurred by the generation company and the distribution utility.

Among the generation companies that entered into PSAs with Meralco for the supply of power are two companies owned by San Miguel Corp. – South Premiere Power Corp. (SPPC) and San Miguel Energy Corp. (SMEC) which administer the Ilijan and Sual power plants, respectively.

A number of generation companies, including SPPC and SMEC, entered into fixed-rate agreements, or those which do not allow passing on regular generation cost fluctuations to consumers, to ensure that Meralco and its customers will be getting the best prices possible.

This was the pre-pandemic and pre-Russia-Ukraine conflict era.

SMC tried its best to absorb the higher costs of producing power, even though the changes were brought by extraordinary circumstances. It said that the Sual and Ilijan plants’ combined losses from 2021 to date already amounted to P15 billion amid skyrocketing global coal prices and unilateral natural gas supply restrictions from Malampaya.

Immediately, SMC could have unilaterally terminated its PSAs with Meralco due to “change in circumstances or CIC. Under Section 11.4 of the PSA, “the power supplier is entitled to unilaterally terminate the PSAs”, if the parties fail to reach a mutually satisfactory resolution within 60 days” on a host of occurrences. These include: if “the ERC denies, in whole or in part, the joint motion for price increase”; “no order is issued by the ERC granting the joint motion for price adjustment within 16 months from receipt of the notice of change in circumstance”, and third, the “total amount of unreimbursed CIC claims exceeds two percent of the contract price applied to the minimum energy off-take for one contract year”– otherwise referred to in the contract as “threshold level 1”.

But to save these fixed-rate PSAs which are favorable to consumers in the long run and since the company can only absorb so much losses, SMC and Meralco filed a joint petition for a temporary rate hike on its PSAs that will provide temporary and partial cost recovery relief but only for the losses it incurred from January to May this year to be amortized over six months. SMC chose to just absorb the more than P10 billion in losses in 2020.

Meralco wants these PSAs, which supply more than 1,200 megawatts base load and mid-merit capacities, preserved because entering into new PSAs or buying from the electricity spot market will be much more expensive for its customers.

Unfortunately, the ERC failed to look at the whole picture and only looked at the short-term, six-month impact of the increase in rates. The ERC forgot its mandate of protecting consumers from higher power prices in the long-term.

With the ERC denial of the petition, the termination of the SMCGP-Meralco PSAs is now inevitable.

There are those who say that terminating the PSAs will expose SMC to penalties by the ERC which is not true because again, these agreements are private bilateral contracts which allow for termination due to change in circumstances beyond the contemplation of the parties.

We are sure that Meralco and SMC Global Power are not the only ones seeking relief from major changes in circumstances. Other DUs including electric cooperatives bearing the brunt of pass-on charges from their own power generation companies, will have to, or have already, renegotiated their contracts because of surging prices.

ERC is mandated to protect the interest not only of electricity consumers but equally that of other stakeholders in the industry, such as DUs and their power suppliers. ERC seems to have forgotten that if it does not allow Meralco/SMC to temporarily raise its rates, SMC will unilaterally terminate these PSAs, forcing Meralco to source more expensive power. Even Meralco has said that preserving the PSAs is its least-cost option.

Without the PSAs with SMC, Meralco customers can expect higher electricity rates, even much higher than the increase being proposed to ERC by Meralco and SMC.

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