IN the negotiations between independent power producers (IPPs) and the government or Tenaga Nasional Bhd on the supply of electricity, the advantage is always with the government because it is a buyer's market.

Tenaga, which the government controls through Khazanah Nasional Bhd, is the only buyer for all the power supplied by the IPPs. But that advantage has not translated to better fortunes for Tenaga, which has always contended that it has been getting the short end of the stick in its dealings with the IPPs.

The owners of the first-generation IPPs enjoy a return on equity (ROE) of 20% to 40%. In contrast, the returns for Tenaga's shareholders have been miserable.

Tenaga has maintained that while it is the off-taker and principal entity conducting negotiations with the IPPs, the final authority on the matter is the Economic Planning Unit (EPU), which facilitates public-private sector partnerships.

After a lapse of five years, the government is once again building power plants in peninsular Malaysia to meet the expected demand of 4,000mw beyond 2016.

This time around, the awards were done through a competitive bidding process conducted by the Energy Commission (EC), which governs the industry.

This is a marked departure from the past when the EPU used to award IPP licences to private companies. After obtaining the licence, the private companies — normally owned by well-connected individuals — would go on to negotiate a power-purchase agreement (PPA) with Tenaga.

However, while competitive bidding has levelled the playing field in terms of getting multiple propositions to build power plants, questions still remain on the selection of the winners and whether too much has been given away.

This particularly applies to the extension of concessions to two first-generations IPPs — namely Genting Sanyen Power, which is to be owned by 1Malaysia Development Bhd (1MDB), and Malakoff Bhd's Segari Power Ventures.

There were some minor issues over EC awarding Tenaga the contract to build and operate a new 1,071mw gas-powered generation plant in Prai.

Tenaga beat a field of local and foreign consortiums to come out on top with an offer of 34.7 sen per kilowatt hour (KwH). It will be installing turbines with an efficiency of 60%, which when commissioned, will make the Prai plant one of the most cost-efficient.

(The rates are based on a gas price of RM42.24 per mmbtu, compared with the subsidised rate of RM13.70 per mmbtu now)

A point of contention is that the machines to be used by Tenaga are relatively new to the industry. However, that is the risk Tenaga will have to take.

One issue that came up in the Prai power plant bidding process was the razor-thin difference — only 0.01 sen — in the proposals submitted by Tenaga and a consortium led by the 1MDB-owned Powertek Bhd.

In a competitive tender process, such an occurence is rare. But the EC has clarified that although Powertek's proposal was the lowest, it did not meet some specifications, thus making Tenaga the lowest-cost producer.

However, the extension of the concession for the Genting Sanyen and Segari power plants at rates of 35.3 sen and 36.3 sen per kWh respectively raises more questions.

The rates are higher than those of the new plants built by Tenaga.

If the old power plants cannot match the rates of new plants, shouldn't they be removed from the system when the concession ends? After all, the owners have earned more than their keep.

Wouldn't it be better to build new power plants that are more efficient and use less gas to generate the same amount of electricity?

Incidentally, Segari and Genting Sanyen are the only two first-generation IPPs where the PPA allows for an annual escalation in the variable and fixed operating cost. According to the EC, that feature is removed in the new concession.

But apart from that, what are the other elements in the PPA that have been taken out in the new concession?

The Genting Sanyen and Segari power plants will incur capital expenditure to improve the old machines.

Should the power plants recover the cost incurred before the entire 10 years, does Tenaga still have to pay the IPPs capacity payments? If the IPPs derive cost savings from refinancing their capital requirement in the future, does Tenaga get to share any upside?

In the first-generation PPA, a common complaint was that Tenaga was still paying for the capital expenditure incurred by the IPP, or what is termed capacity payment, even after the financing taken to build the power plant had long been settled.

Some IPPs refinanced their debt on better terms as the risk decreased, partly because Tenaga was a reliable paymaster. But Tenaga did not get to share the upside.

What is even more perplexing is that in August, two months before Genting Sanyen got the renewal of the concession, 1MDB proposed to buy out the 720mw gas-fired power plant from the present owners for RM2.3 billion.

The purchase came as a surprise because Genting Sanyen only has another three years of the concession left, which would not give 1MDB much upside to ride on future cash flows of its existing concession.

The purchase translates to about RM3.2 million per megawatt, which is almost the replacement cost of building a new power plant. This means that if 1MDB had indeed wanted to build a new power plant of the same capacity, it would have cost about the same.

However, the new power plant would have more efficient machines — as high as 60% — that would enable it to generate electricity at less than 35 sen per kWh.

So why did 1MDB see the need to purchase Genting Sanyen's power plant, and that too at a premium?

On hindsight, the move paid off as Genting Sanyen got a 10-year extension, which should leave some room for the government-initiated investment arm to ride its future earnings.

But what would have happened had Genting Sanyen not been awarded the concession? 1MDB would have been left holding a power generation plant that was not efficient compared with the newer machines and a big debt.

Also, considering that 1MDB is able to pay Genting Sanyen an attractive price and still make a decent return from the extended concession, does this mean Tenaga and the EC have given away too much?

It applies not only to Genting Sanyen but also to Segari, where the rates are higher.

The EC's rationale for extending the concessions of Genting Sanyen and Segari is that these IPPs came back with proposals that involve the least cost to the system and that there was minimal completion risk.

But considering that Malaysian companies have successfully built power plants locally and overseas since the 1990s, the question of completion risk should not arise.

So it all boils down to the least-cost component, but not much has been revealed on how Genting Sanyen and Segari came up tops.

This piece of information should be made transparent to shed any doubts that Tenaga is finally getting a better deal over the IPPs.

M Shanmugam is deputy editor-in-chief at The Edge. This story first appeared in The Edge weekly edition of Oct 22-28, 2012.