Minutes of Follow-up Meeting on Interim Economic Analysis

Nam Theun 2 Hydroelectric Project
Minutes of Meeting on Interim Economic Analysis
Bangkok—November 5, 2004

The World Bank hosted a follow-up meeting on the interim economic analysis of the proposed Nam Theun 2 (NT2) Hydroelectric Project on November 5, 2004 in Bangkok, in keeping with a commitment made at an international stakeholders workshop held in Bangkok on August 31 to hold a fuller discussion of the paper after interested parties based in Thailand had had sufficient time to review it.  In the event, some 50 representatives from government, civil society, academe, media, development agencies, and the private sector attended the meeting, which was hosted by World Bank Country Director Ian Porter.  The main author of the analysis, Mr. Mark Segal, was present to respond directly to questions raised by participants, as well as Dr. Robert Vernstrom, author of the related ‘least-cost analysis’ for the proposed project; Mr. Xaypaseuth Phomsoupha, head of the Lao National Committee for Energy (LNCE) secretariat; and Mr. Bernard Tribollet, chief executive officer of the Nam Theun 2 Power Company (NTPC).

As Mr. Segal had already presented the paper at the Bangkok workshop, it was agreed that no formal presentation or summary of the paper’s conclusions would be made at the follow-up meeting, in order to leave as much time as possible for discussion.  Participants thus proceeded directly to discuss a number of issues, including the load forecast for Thai power demand, the viability of renewable energy sources, the social and environmental costs, the risk of cost overruns, the distribution of benefits from NT2, and the assessment of hydrological and related risks. 

1. Load Forecast for Power Demand and Renewable Energy Alternatives in Thailand.  The discussion of the load forecast for Thai power demand was prompted by a question from a participant who wished to know whether Khun Witoon Permpongsacharoen, who had presented much lower economic growth and power demand forecasts at the Bangkok workshop, had been invited to the follow-up discussion, and whether Mr. Segal had responded to Khun Witoon’s statements at the workshop.  World Bank Country Director Ian Porter replied that Khun Witoon had indeed been invited but declined to participate in the follow-up discussion; and Mr. Segal noted that as Khun Witoon had not replied to his request for a copy of the presentation, he was unable to examine the data on which the presentation was based and to provide a detailed response. 

Insofar as there is always a range of uncertainty about forecasts, however, Mr. Segal said ranges of estimates can be developed based on reasonable assumptions about population growth, productivity change, imports, investment, and other key outcomes that determine economic growth and electricity demand.  To assume that GDP growth rates and electricity demand should be the same is somewhat arbitrary, especially when Thailand has one of the world’s most comprehensive and sophisticated electricity demand forecasting systems, operating outside of the Electricity Generating Authority of Thailand (EGAT)—and this surely deserves some respect.  While all forecasts are uncertain, they can be tested for a range of outcomes, as the interim economic analysis for NT2 does.  Given that the proposed project would meet about 6% of the incremental requirement based on the 2002 demand forecast and EGAT Power Development Plan (PDP), the margin for variation in demand and supply is wide.  Moreover, the estimates used in the interim economic analysis are quite conservative—though not as conservative as Khun Witoon’s—based on 2002 forecasts, which 2004 electricity demand already exceeded.

Khun Witoon had also argued that one could develop up to 10,000 MW of renewable energy in the next 10 years, Mr. Segal recalled.  Be that as it may, most of these technologies cost quite a bit more; even in the case of good wind energy, at $0.06 per KW hour, biomass does not come cheap.  This is probably why EGAT has been mandated to develop only 5% of future energy needs from renewable sources.  Room should be made for the alternative energy sources, including renewables, if only for reasons of diversification, but it is important to bear in mind that Thailand is already at the edge of where it should be in terms of gas and other alternatives (70% and rising to 80%), and that the cost of developing renewables is passed on to consumers.  In considering the economic analysis for NT2, there is no point in superimposing alternatives known to be less than economic.

A participant questioned the need to analyse the load forecast for Thailand at all, noting that energy demand is reviewed not by EGAT alone but by a multi-party committee.  By way of a slide showing that electricity demand since 1998 had matched the committee’s load forecasts year-on-year, the participant also asserted that the forecasts were reasonable (although another participant later said the match was too accurate and ‘not reflected in nature’).   He also noted that insofar as the Power Purchase Agreement (PPA) had already been signed for EGAT to purchase the power from NT2 in Lao PDR, the risks of overestimating the load forecasts—the cost of which he said was low compared to the cost of maintaining low reserve margins—had been assumed.  When examining alternative energy sources, consultants often use estimates from industry based on previous costs, whereas PPAs actually give more definite estimates of  risk based on commercial agreements.  He also pointed out that the cost of overruns would be borne by developers, not by Thailand.

The participant added that EGAT’s current PDP included a great deal of unspecified new generation capacity; if NT2 were not to fill some of this capacity, alternatives would have to generate power for 25 years from 2009 at comparable cost.  Gas, fuel, even nuclear energy might fit the bill, but not renewables, because they are already being used to the maximum extent possible—for instance, there is hardly any paddy husk left for such use. He also questioned the analysis of combined-cycle gas turbines (CCGT) as an alternative source, suggesting that the cost used in the interim economic analysis should be the cost of imported gas (LNG, etc.), rather than domestic gas, which is not plentiful in Thailand.  The participant added that industry disliked volatile power prices, because volatility has an economic cost—consumers don’t like it, adding a political cost—and that NT2 had the advantage of stable costs.

Mr. Segal said he agreed with most of these comments, and clarified that CCGT was not the only alternative examined—it was examined together with other alternatives, and emerged as the most competitive to NT2 power in terms of price.  Although NT2 power would account for only a small part of the pool of energy supply for EGAT, it would be competitively priced and provide price stability over 25 years for EGAT. 

Questioned regarding the Proscreen assumptions—as opposed to the variables fixed in the PPA—that supported this analysis, Mr. Segal specified that at least for CCGT and coal plants, the assumptions were not loose estimates but based on numbers from recently signed contracts.  He mentioned that natural gas prices were being re-examined exactly with these concerns in mind; however, it is also true that above some level of natural gas costs, electricity generation from coal could become the economic alternative to NT2.  In that case, long-term thermal energy costs for Thailand would be capped by the costs of the most economic option, ‘but all this would happen gradually at the margin, because there will not be a slew of coal plants coming all at once.’  Mr. Segal added that the gas prices in the next draft of the economic analysis for NT2 would also be affected by an upward revision of forecasted oil prices, which the World Bank had recently produced in light of current and perceived conditions on world oil markets.

2. Integration of Social, Environmental, and Other Costs.  Noting that the interim economic analysis covered demand very well, one participant asked about the economic and social costs of the proposed project, and whether NT2 could be shown to be the least-cost alternative.  Mr. Segal acknowledged that there was a great number of social and environmental aspects fleshed out in the voluminous due-diligence work for the project, and noted that these were being integrated into a cost analysis by Mr. Benoît Laplante, consultant to the World Bank.  Such an analysis was necessarily complicated, and constrained by a range of uncertainties regarding some of the social and environmental consequences, but again, a reasonable range of estimates could be developed by scoping out the costs indicated in the environmental and social assessments for the project.  Once this work was completed, the estimates in the current economic analysis would be revised, Mr. Segal said.  In the meantime, the interim economic analysis used the $100 million in social and environmental expenditures to which NTPC was committed in the Concession Agreement.

Several participants also asked about the economic impact on downstream hydropower projects—in particular, the Theun Hinboun Dam.  Mr. Segal said that NT2 commissioning would indeed diminish energy production downstream, and that this had been factored into the interim economic analysis for NT2, as well as in the economic analysis for Theun Hinboun, which had anticipated NT2; production at Theun Hinboun was accordingly expected to decrease after a number of years.  Mr. Xaypaseuth confirmed this, adding that Theun Hinboun is currently selling more power than planned for this point in time because NT2 had been expected to be producing by now.

A participant asked for clarifications related to the capital cost, adding that since cost overruns were likely, it would surely be helpful to look at regional experience.  What impact would 10% to 20% overruns have?  Mr. Segal and Dr. Vernstrom explained the underlying assumptions regarding the relationship between the extent of cost overrun or under-run and the probability of its occurrence.  Some work had been done at the World Bank indicating that for power generation projects, there was both a general or system-generated bias towards underestimating or overestimating the costs, and a further deviation between estimated and actual costs even after the general bias had been assumed.  In undertaking the economic analysis for NT2, it was decided after much deliberation that only the second kind of bias would be assumed, since NT2 is a private-sector project, with tremendous commercial discipline on the contractors to meet their commitments.  Because it has been under study for years, the risks are well-known and distributed among the contractors, who have built in their own ‘cushions’.  Moreover, it is not a complex project in terms of physical construction, and the financial model provides for contingencies.  The probability distribution used for NT2 reflects only the second source of bias.  Because the distribution is symmetrical about the mean-cost estimate, there is a 25% probability of 30% overrun or under-run for NT2 capital cost.

 Mr. Tribollet said it was overly cautious, noting that 30% deviation from estimated costs applied to projects led by public utilities, whereas NT2 is led by a private-sector developer. 

3. Distribution of Benefits.  Responding to a participant who asked how the revenues from NT2 would be distributed, Mr. Segal pointed to the graph on page 16 of the interim economic analysis, which shows that for the first 13 years, most of the profit would go to repaying debt, since commercial lenders would have to be repaid over the first 13 years from project commissioning date.  That is why the proportion of project cash flow available for dividends is lower during and higher after the debt service period.  Over the 25-year period after dam commissioning, the Government of Lao PDR would receive $1.7 billion of undiscounted revenue in taxes, royalties and dividends (net present value shown on graph 10 of the interim economic analysis).

As for management of the revenues to benefit Laos, Mr. Porter affirmed that the major rationale for World Bank-ADB support to the proposed project was the benefits it could bring to Lao PDR in the form of additional revenues—although some benefits were anticipated for Thailand too, in the form of additional power.  He said the Bank thus needed to have confidence that the Lao government would manage the revenues well; strengthening financial management to ensure that the benefits would go towards development expenditures and conservation was the focus of discussions between the World Bank-ADB and the government.

4. Assessment of Hydrological and Related Risks.  Responding to questions regarding hydrological risk, the cutting of trees in the reservoir, sedimentation, rainfall and other related issues, Mr. Segal said that to cope with such risks, dam designers study the historical record to ensure that the amount of capacity they are installing and selling is going to be manageable in terms of hydrological variations.  Based on careful and extensive modeling, a sophisticated distribution of hydrological risk has been agreed for NT2.

Mr. Segal noted experts have concluded that sedimentation risk is lowered by the forest management measures in the protected area that would be created by the project, and for which the project is providing significant resources.

Asserting that forests in Lao were more degraded than anyone had allowed, and that the hydrological regime was subject to ‘acts of God’ variations (e.g., seven-year drought, once-in-10,000-year flood) which insurance policies would not cover, one participant suggested that the World Bank should insist on a clause that the Lao government would not be subject to penalties in such extreme eventualities.  Messrs Xaypaseuth and Tribollet explained that based on studies of hydrological data for Laos over the last 50 years and for the Nakai Plateau over the last 20—showing variations of 15% to 30%—the dam and reservoir have been designed to hold up to five times the normal volume, and to store water in years of heavy rainfall to be used for reserve power when rainfall is low.  Mr. Tribollet also pointed out that the risks are borne exclusively by the developer, and that the Lao government would not be subject to any liabilities in this regard.

As there were no further questions, Mr. Porter thanked participants for their contributions to the discussion, and reiterated the World Bank’s commitment to engage with interested stakeholders in an open and well-informed process.