Report of the Saleh probe on power sector

Oct 18, 2009

THE report of investigations into the high cost of electricity in Uganda was finalized and handed over to Energy minister Eng. Hillary Onek on October 6, 2009 by the probe chief Gen. <b>Cyprian Musoke</b> extracted the salient sections of the report below

THE report of investigations into the high cost of electricity in Uganda was finalized and handed over to Energy minister Eng. Hillary Onek on October 6, 2009 by the probe chief Gen. Salim Saleh. It catalogued several irregularities in setting power tariffs, collection of energy bills, and flaws in the process of signing the concession to manage the distribution of power in Uganda.

Cyprian Musoke extracted the salient sections of the report below are the excerpts.

Findings and observations
Uganda has operated under strict tariff and power contract regime for a long time. This has not changed as the Government attaches great importance to the energy sector for its ultimate industrialisation and development.

Under the Electricity Act 1961, the tariffs were to be fixed by the (Uganda Electricity) Board in consultation with the council OR as may be agreed between the Board.

The Board was prohibited from entering into any contract to supply electricity from outside Uganda or providing a licensee for bulk supply of electricity from a licensee unless the Minister has first approved the terms of the contract. The same strict regime has been re-enacted by the Electricity Act, 1999.

The Committee observes that under the Electricity (Quality of service Code), 2003 made by Electricity Regulatory Authority (ERA) in November 2003, all agreements shall be subject to review and approval by the Authority, prior to the execution, to ascertain whether they conform to the law.

In both cases of Eskom and Umeme, there is no evidence to show that the procurement process went through any competitive process.

The bidding process was not competitive. Initially two companies had bided and then one of them withdrew leaving only one company to be considered.
The negotiations were then-carried out without a negotiation framework first being agreed upon by the Government side. In the result, the Government did not achieve the best result for the country.

The law requires that an application for a license must contain: a proposal for terms of supply and for fixing of tariffs, including total tariffs revenues; the structure of calculation of tariffs and information about existing and planned investments and the present and future quantity of electricity transmitted, distributed or sold.

The proposals shall be in accordance with the principles prescribed by the Authority.

Review of losses and costs

1. System losses and UMEME losses rebates

The Committee received several contradicting figures on the commercial and technical losses (both historical and current) from several sources in the industry.

Given that the losses are a significant component of the rebates given to Umeme by UETCL every month, the following points arising from these constitute sources of concern:

i) The original losses at unbundling and concession vary from a figure of 19% to 28% according to presentations to the Committee.

However, loss figures used to establish the concession terms in the contracts were fixed at 38%. Since each 1% loss is equivalent to an annual loss of US$3, 200,000 as advised by the Permanent Secretary ministry of Finance, this range of 10 percentage points (38-28) is equal to US$32m annually (USh64bn).

ERA submission to this Committee contradicts the Permanent secretary Ministry of energy by stating that each 1% loss is equivalent to USh10b annually. If this figure is used then a range of 10% would equal to UGX 100b annually (US $ 50 million).
In the latter case, government through ERA and UETCL rebates 99% of these losses to Umeme.

ii. ERA (the Chairman of the ERA Board) and the Managing Director of UEDCL (The Umeme supervisor) have documented the loss figures at concession to
having been between 27% and 30%. Other Information available to the

Committee indicates that at unbundling, the loss figures were between 22% and
28%. The impact of the inaccurate information can only have been to mislead policy makers to the introduction of budgeting for rebates, subsidies and marking up the tariff.

The Minister of energy in a separate to letter the Minister of Finance dated 17th November 2006 prior to the concession restructuring amendments, wrote:
“This is to therefore grant our final approval to the restructuring of the Umeme concession — subject to the review of the threshold for the Distribution Losses and the collection rate, currently set at 38% and 20% to a more acceptable level.
Current figures for loss reduction of 33% and collection rates of 10% could be considered as acceptable benchmarks.” A week later, all these positions were overruled by a group of what privatisation Unit

Chief (Mr. David Sebabi) referred to as “prominent persons’ during presentations to this Committee who raised the contractual loss figure to 38%. This led to the exacerbating of the contracted loss figure for which GoU has been compensating Umeme, viz, 99%.This translates into over USh370b since January 2005 to September 2009.

i) The Concession Support Agreement signed between Ministry of Finance and Umeme clearly required Umeme to provide ERA with an acceptable loss reduction action plan within sixty days from November 2006.
The objective of this was to ensure that the losses leading to the rebates were properly regulated. The Committee has not seen any evidence of any approval of such plan despite several documented requests by ERA.

ii) Information to the Committee indicates that Umeme accounts reflect increase in the lead time between reading meters and billing corresponding customers TO OVER 45 DAYS, contrary to the lead time agreed upon with ERA of seven working days to two to three months for approximately 40% of the meters in their billing System.
This is done to match the quarterly system of measuring losses set in the concession agreements by reflecting continuously lower energy billed.

A forensic investigation should examine the differences in time lag between meter reading and billing to establish the cross over in the quarterly reporting of energy billed and to ascertain the extent to which Umeme took advantage of quarterly reporting of energy billed to ERA to accrue benefit of the resultant actual loss for which they have been refunded for the last three years.

2. UMEME investment claim in distribution system

Information obtained by the Committee from Umeme, ERA and UEDCL has shown Significant variances in the level of investments immediately before the first concession amendment in June 2006 and November 2006, which had the effect of misleading policy on the concession amendments and increasing the return on investment component allowed to Umeme in the tariff as follows:
a) Umeme Investment levels as at November 2006.
Government was misled in 2006 into thinking that because of the then stated investment by Umeme of US$ lOm, the concessionaire’s high levels of investment would be in jeopardy, given the conditions existing at the time which 29 were as a result of the low generation capacity and the increased energy costs after the inclusion of emergency Diesel generation in the power generation mix. This led to the haste in restructuring the concession agreements in order to forestall Umeme’s walking out of the contract.

However, from submissions of ERA and UEDCL, the amount invested by Umeme at that time was actually US $ 4.9 million. To-date no verification of the extra US $.5.lm having been invested at that time has been submitted.
It is pertinent to ascertain officials who were responsible for this mis-reporting of investment levels which led G0U into succumbing to the threats by Umeme to abandon the concession and thereby committing to pay 99% of all commercial losses incurred by Umeme.

b) The problem of ascertaining Umeme investment levels was exacerbated by the removal of the Company Escrow account.

This account was set up in 2004/5 by the First concession agreement to receive Umeme’s first investment amount of US $5m, and was expected to be used for all subsequent investments.

It was a mechanism to track investment amounts for which Umeme was receiving a return on investment on the tariff.
Disbursements from this account in excess of US $500,000 were to be approved by ERA.

Because of the absence of the company escrow account and the attendant monitoring of disbursements by ERA, the integrity of the investment amounts is highly suspect.
C) Utilisation of US $llm IDA Materials
Government borrowed US $llm from IDA and on-lent it to UEDCL to procure materials to be installed by Umeme. Umeme inherited a World Bank loan of US $ 11 in the form of equipment and materials purchased for the sole purpose of reducing losses and hence buy down the tariff.
To-date these materials procured under this loan have not been fully accounted for as per Umeme submission to this Committee.
Although the full US $1m investment initially earned return on investment in the tariff, this was later rectified to earnings on lease payments in the tariff.
The Committee has not seen any evidence of the clawing back of return on investment that was paid in the tariffs prior to the rectification.
The verification system lacked the necessary integrity with the absence of the control/check system, thereby putting into question the return on investment and the lease payments parameters embedded in the tariff.
d) Sale of IDA Loan Materials to Consumers
Some of the IDA financed materials were used by Umeme in commercial schemes that were directly financed by Ugandan electricity consumers. Umeme in its submission indicates a figure of US $ 5.9m as coming out of the original US $1m value of the materials in question. The following are the Committee’s observations:
lThe lease fees for all UEDCL materials including IDA financed materials are embedded in the tariff paid by the customer.
lCustomers currently pay for transformers and other power connection materials in these commercial schemes which were already bought by Government.
lLease fees and return on investments in the tariff are what pay for these materials.
While consumers should not be made to pay twice for these materials (firstly on acquisition of the equipment and again through the tariff in these consumer schemes), it is important in any case to ascertain how the balance i.e. US $ 5lm was applied.

3. Return and investment allowed in tarrif
The Committee was not satisfied that return on investment allowances on asset investments not yet verified or allowed by ERA as per the relevant agreements were included in the tariff.
To earn a return, the investment in question should be verified. Otherwise this could be an unjust reward to the licensee thereby unnecessarily increasing the tariff.
Following the removal of the company escrow account referred to above, ERA has not irrefutably been able to verify all the claimed investments:

i) Quantify the impact of the claimed investment in the grid on losses.

ii) Project how much more investment is still needed in order to reduce the technical losses to acceptable levels comparable in the regional standards.

iii) Reflect what percentage of these investments was actually directed into reducing the distribution losses. The non system loss investments like furniture, office fixtures and fillings, painting of domestic dwellings and consultancies are investments not directly influencing distribution losses.

iv) As at the end of 2008, US $ 10,144,093 of disallowed investment was earning a return on investment in the tariff. To date consultants are still trying to verify these investments while consumers pay for them in the tariff.

The balance of US $ 67m claimed to have been invested by Umeme as at July 2009 did not go through this account and all efforts to reinstate the account have been opposed by Umeme. Clearly un-verified investments are embedded in the tariff and need to be investigated to ensure that funds meant for operation and maintenance of the grid are not being treated by Umeme as investment for which a return of investment cost is embedded in the tariff.

4. Analysis of UMEME’s investment

According to the concession agreements which were entered into on 17th May 2004 between UEDCL and Umeme Limited, Umeme had an obligation to invest a minimum capital of US$5 m in the initial period of 18 months, with a target of US$65 m within five years from take over.

Information provided to the Committee by Umeme Ltd indicated that they had invested a total amount of US $ 67.4 m in capital as at the end of July 2009, thereby surpassing their contractual target.

Some values of investments have as yet to be accepted by the regulatory authority as they lacked supporting documentation. The figures in Table 1 below indicate the status of the verification exercise by ERA. According to the communication sent to the Committee by Umeme, one third of the remittance from the shareholders was allocated to equity while two thirds was taken as unsecured shareholders’ loans.

Other investments in the network are a result of contributions from new customer connections to the distribution network and also from fully funded schemes. Umeme also utilised materials funded from World Bank which were inherited from UEB.

5. Consumer metres

The Committee was informed that a number of metres which were procured by Umeme in 2009 were rejected by the testing engineers within Umeme Itself. The Committee sought clarification on this issue from the National Bureau of Standards but has not at the time of publication of this report received a response.
These meters were reported to be calibrated to trip at higher speeds than the industrial benchmarks, hence measuring more energy consumed than what was actually used.

It is critical to ascertain the impact of this on the tariff charge to the consumer and the number of these meters that were imported and distributed in the system despite having been rejected as faulty by the Umeme engineers.

6. Infrastructure maintenance

Technical Losses

UEDCL in their submission said that Umeme neglected the maintenance of the distribution overhead power lines networks in all the regions in Uganda where they operate thus violating the requirement of augmenting the performance of the leased distribution assets”.

7. Fuel Consumption

It is recognised from the outset that for thermal plants, fuel is a pass through cost, i.e., only actual cost should have been allowed.

Diesel plants

The Committee is concerned about the following:
a) The Fuel Consumption Rate of Aggreko Kiira
It is necessary to validate how the fuel consumption rate was raised from 0.26 litres per kilowatt hour to 0.277 per kilowatt hour at the extension of the Kiira plant in January 2009 despite the written rejection of this increase by the Board and management of

ERA.

This increase causes a loss of 620.500 litres per month which at 24 hour generation is equal to US$ 452,344 per month for the rest of the extension period. For example, the additional cost for a twelve month extension of the Kiira Aggreko plant will translate into approximately US $ 6m.

ERA stated in its submission that M/S Aggreko as a licencee had been problematic and posed several challenges to the regulatory function especially in regard to Aggreko’s willingness to provide relevant information and data. It is impossible for ERA to regulate Aggreko.

UMEME’S proposals for reducing tarrifs

Umeme responded positively to the Committee’s request for proposals for lowering the tariff. In this regard, they presented the following proposals:
I) Flat rate tariff for domestic consumers;
ii) Bulk buying for commercial customers;
iii) Appointment of local Service Agents;
iv) Power factor correction; and
v) Distribution of prepaid meters.
vi) Flat Rate Tariff for Domestic Consumers
Umeme proposed changing the domestic tariff structure to a flat rate tariff regime as follows: Ush 10,000 for the first 5OkWh and Ush 24,000 for 51 — 75kWh. Thereafter, the standard rate would apply.

The benefits for this proposal include the following:
  • A simplicity of tariff that is easy to understand and budget for.

  • Elimination of tampering with meters.

  • Reduction of other costs, e.g., billing related losses.


  • ii) Bulk Buying for commercial consumers This would involve amalgamation of targeted groups of commercial customers into a larger single unit for the purposes of electricity metering and billing. It would also be possible to consider offering a deeper discount on off-peak power. Umeme is currently focusing on maize millers.

    Recommendations Forensic investigation

    The Forensic investigation should examine the following:

    1. Why ministry of Finance/Privatization Unit officials while negotiating the amendments to the 2006 concession agreements in Washington removed Umeme loss and collection targets and contractually committed government of Uganda to compensate 99% of any distribution losses incurred by Umeme, which weakened Umeme’s incentives for operational efficiency and critically diluted the effectiveness of regulation by Uganda Electricity Regulatory Authority?
    2. Why advice to the officials from ministry of finance/Privatisation unit on the restructuring of the distribution concession by ERA was ignored during these negotiations?
    3. Why the negotiation team contractually bound Government into this concession agreement without any reasonable exit clauses.
    4. Why the inclusion of Mutundwe Aggreko (which is zero tariffs) raised the bulk supply tariff and why this went unnoticed for more than a year despite protestations by ERA to ministry of Finance. Did Aggreko or anybody benefit from Aggreko Mutundwe programme during the eleven months before commissioning?
    5. Establish the real base line distribution system losses as at concession in 2004 during the hand over from UEDCL to Umeme?
    6. What was the actual verified investment level as September 2006?
    7. The source of the information responsible for any mis-reporting of investment levels.
    8. Where are the excess funds arising out of this anomaly and how were they treated in the books of accounts of UETCL and Umeme?
    9. The differences in time lag between meter reading and billing to establish the cross over in the quarterly reporting of energy billed and to ascertain the extent to which Umeme took advantage of quarterly reporting of energy billed to ERA accrue benefit of the resultant actual loss for which they have been rebated for the last three years.
    10. The meter reading statistics since 2006 as opposed to the billing statistics of the same period in order to identify exactly how much was deferred across the quarterly system loss factor method for settling losses.

    11. The reasons leading to the raising, by the ‘prominent persons” of the contracted system losses from the Ministerial capping of 33% to 38% in 2006.

    12.Why despite the Government/IDA loan of US $ 11 m which was on-lent to UEDCL to procure loss reduction materials to be installed by Umeme, there has been no visible impact in the Umeme reported system losses.
    13.These materials were procured by UEDCL to complete network refurbishment progressively between 2005 and 2007 after the commencement of the Umeme concession and all these materials progressively arrived and were all handed over to Umeme.

    14.The level of investments in the grid since 2004.
    Given the inconsistencies and variances in the submissions concerning the investments in the Grid by Umeme and the fact that the return on these investments is embedded in the tariff, the forensic investigation should ascertain the following:
    a) Why the company escrow account originally envisaged by the first concession agreement as a mechanism to track any new investment financing by Umeme and enable the independent monitoring of any disbursements to the grid from these funds by ERA from a bank point was closed.
    b) Why, despite several requests from the regulator to have this account reopened, the distributor, Umeme refused.
    C) If Umeme is earning a return on investment on the US$ urn IDA loan to GoU.

    15. Establish the income tax reporting of Umeme over the years.
    16. Return on Investment Allowed in the Tariff
    The investigation should ascertain the real levels of investment and the following should be undertaken thereafter:
    a) Reflect the true return on investment in the tariff based on audited investments per year.
    b) Make adjustments for refund of already allotted returns paid within the tariff over the period of the concession based on unverified investments.

    17. Meters
    The investigation should ascertain the number of meters that were imported and distributed into the system, and which had been reported to have been faulty by the Umeme engineers, the effect of this on the billing of the particular consumer saddled with these faulty meters and the impact of this on the tariffs to the Ugandan Consumer.
  • Did Umeme distribute to customers’ meters that its engineers had believed faulty in part being calibrated to trip at higher speeds than the industrial benchmarks?

  • Did Umeme alert the public that faulty meters had been installed?

  • Was there any recall scheme announced for these faulty meters.


  • 18. Fuel and Diesel Consumed by Aggreko The Committee raises the following concerns that need to be investigated.
    How were Aggreko Kiira and Aggreko Mutundwe consumption rate altered from 0.26 litres per kWh to 0.279 litres per kWh at the extension of the Kiira plant in July 2009 despite the written rejection of the increase by the Board and management of ERA?
  • Who pays from what source for the difference?

  • How accurate are the transport costs of diesel for the Aggreko plants?

  • How are these costs reflected in the invoicing and tariff compared to the logistics costs of diesel by companies selling to the public?

  • Inconsistencies in fuel consumption and costs.

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