There goes another potential power sector investor.
Suez Energy, the French power firm which bagged the 600-MW Calaca coal-fired power plant in an auction in October 2007, has backed out of the deal, according to the Power Sector and Liabilities Management Corp. (PSALM) last January 25. In the process, the firm will forfeit its $14-million bid bond.
Emerald Energy Corp., the corporate vehicle of the French firm used to acquire the plant, said in a statement that it will “terminate its purchase of the asset due to the deterioration of the power plant since its bidding date” as well as due to other unresolved issues it claimed. There was already a hint of the firm not pursuing the deal when it failed to pay the upfront payment of 40% of the $787 million winning bid price by the payment deadline on November 9, 2008.
Why the sudden change of heart?
When Emerald cited “deteriorating plant conditions”, it was probably referring to the exclusive use of local Semirara coal in Unit 1 which Suez Energy senior vice president of business development for Southeast Asia and Africa Ramani Hariharan claimed was the main cause of “severe” deterioration.
Coal plants are normally designed with specific coal heating value to be used in mind. In this case, Calaca was designed to use blended coal (local plus imported) to compensate for the low heating value of Semirara coal. Why the PSALM operators shifted fully to local coal and why Suez didn’t notice of it remains unclear.
It is not also established that indeed, the shift to lower grade coal for about a year, assuming that it started right after the bidding, could have singlehandedly caused the “severe deterioration”. There’s probably more reasons for the retreat than the official line.
One, Suez seemed to have overbid for the asset. At $787 million bid, this was far higher than the highest bid of $280 million during the first aborted auction for Calaca. It is incomprehensible how the asset could have appreciated in value during the transition from the earlier to the later bidding in which Suez was declared the winner.
It is likely that Suez has not done its homework well.
Two, Calaca has been the scene of vigorous opposition to coal power plants in general in the Philippines. Being comprising of very old generating units, the claims of polluting the environment with fly ash, coal particles and airborne toxic mercury would be very hard to refute.
Three, there are more acceptable alternatives for investors and consumers to polluting coal plants. The government has resuscitated the nuclear option. The renewable energy bill has become a law which could give renewable energy sources like geothermal, wind and even hydro, the needed push.
Finally, the financial crisis has affected the growth in power demand, and Suez might have gazed at the future and didn’t like what it sees: It might not be able to dispatch sufficient power to make the investment profitable. The firm itself is likely affected by the financial crisis itself. For one, financing would be hard to come by for infrastructure projects.
The botched deal has a far reaching implication than a simple asset disposal failure. The failure means that PSALM has to miss its target of 70% asset disposal required for the interim open access (IOA) to kick in, which effectively derails the government’s program of full power industry deregulation. The IOA would have allowed bulk users with above 1 MW requirement to choose their power supplier.
It also freezes on its tracks the whole power assets privatization process since the government would have to re-think the valuation of the assets for disposal and the rules of the game.
For Calaca, PSALM would be hard-pressed to get a sale price neat the Suez bid. For the other assets, the base price would have to be deflated if a successful sale were to push through.
Lessons learned
There are a handful of lessons from this episode.
For the investor, he has to be extra careful during due diligence. The phrase “as is, where is” which describes an item for sale, is actually a euphemism for junk, to be honest about it. So you have to price the item accordingly.
PSALM will have to be more transparent in valuing the assets and it should never kowtow to the demands of politicians to inflate values. The assets that have been sold are nowhere near the crown jewels they are purported to be.
It should not expect high premium for the assets to be sold.
After just a few years, Ashmore Investment is looking at a graceful exit from Petron Corporation (PSE:PCOR). The Icelandic groups who partnered with the Lopez conglomerate--which is into all corners of the power industry—in acquiring geothermal developer Energy Development Corporation (PSE:EDC) made a quick exit from the winning consortium which bid way above the next bidder.
Aboitiz Power Corporation (PSE:AP) entered the geothermal business by acquiring the Tiwi-Makban assets but it has yet to show how to profit from its investment. There are more names that could be added to the list like YNN, and—gracious, me!—San Miguel?
So, is Suez agonizing over the loss of $14 million bond?
Unlikely.
It is more savvy than anyone thought. It is likely to be cutting losses at this early stage than drown in red ink later in the day.
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