BILATERAL POWER CONTRACTS IN ELECTRICITY MARKETS

Apr 17, 2023

INTRODUCTION

Three Electricity Distribution Companies (DisCos) in Nigeria; Eko Electricity Distribution Company (EKDC), Ikeja Electricity Distribution Company (IKDC), and Abuja Electricity Distribution Company (AEDC), have recently been Instructed by the Nigerian Electricity Regulatory Commission (NERC), regarding the implementation of bilateral contracts with Generation Companies (GenCos).[i] NERC's directive has been confirmed by EKDC and AEDC, who stated that they were preparing to start full implementation of bilateral contracts by 2023, as directed by the regulator.[ii] After the Partial Activation exercise, which was overseen by NERC and the Nigerian Bulk Electricity Trading Plc (NBET) with the goal that at least 5000 MW of power was generated, paid for in full, and successfully delivered to consumers daily with effect from July 1, 2022, failed, the bilateral power contract was signed.[iii] It is expected that bilateral contracts will thus be implemented in the electricity sector of Nigeria before the end of the current year.

BILATERAL POWER CONTRACTS

In order to generate and supply power to the final consumer, multiple market actors interact in a manner that is determined by the existing electric market structure.[iv] Throughout different geographic areas, market structures can vary. Market structures in the United States differ by state, whereas in Europe they differ by nation. African electricity markets are mostly single buyer model/government owned.[v] The functions of the several value chain activities — generation, wholesale markets, system operations, transmission, distribution, and retail supply—must first be understood in order to comprehend electricity market structures.^[vi]

Generation involves the creation of electricity, usually by large, centralized power plants. Generation can be owned by vertically integrated utilities, power authorities, and independent power producers (also called generation companies or Gencos.[vii]). Wholesale markets are where power is bought and sold to entities that resell power to end users or simply between traders that buy and sell power among other wholesale participants.[viii] These markets can depend on bilateral contracts (private contracts between two parties), or on organized markets, run by a central authority. Transmission is the high-voltage network that transports power from the point of generation to the distribution companies (DisCos); distribution is the low-voltage network that moves power from the transmission system to the consumer while retail supply is the provision of electricity supply to end-use customers.[ix] In many cases retail supply is provided by the distribution company as a service bundled into distribution services.

A bilateral power contract is a written contract between two parties, in which each side makes a performance pledge. In other words, in exchange for payment, one side undertakes to supply the other party with power.^[x]

Reviewing the instruction from Nigeria’s electricity regulator, it appears the regulator intends to move the Nigerian electricity market into the full Transitional Market Phase and/or a Medium Term Market phase.[xi] This is because the bilateral relationships initiated by NERC between generating companies and distribution companies/end users, will foster competition and liberalization of the electricity supply industry.[xii] The Transitional Electricity Market (TEM) is the intermediary step between an integrated total utility and a fully competitive market structure with more varied market players, and is structured to bring competition to the market.[xiii] A multiple buyer model will take effect after TEM is in place, which allows qualifying customers and distribution companies to purchase electricity bilaterally with the bulk trader (NBET, in the case of Nigeria) in addition to purchasing power from generation companies and Independent Power Producers to the extent allowable, being a major feature of the Medium Term Market Phase.[xiv]

This transition will serve as a yardstick to other African countries looking to unbundle their respective electricity sectors, as most African countries operate a government-owned electricity market.

CONSIDERATIONS

For a bilateral power contract to be fully effective, coupled with the appropriate market structure, there are factors that need to be considered and/ or be put in place for a seamless transaction, including but not limited to[xv]:

Framework Development: A mechanism for the conversion of vesting contracts into bilateral agreements between GenCos and DisCos must be addressed. The process for such migration or procurement is a crucial factor that needs to be managed within such framework.
Credit Worthiness: Credibility of the off-takers/ DisCos is a significant factor. In order to fulfill payment responsibilities under the bilateral contract, eligible clients, sub-franchisees, and other trading entities must be creditworthy; otherwise, the market's illiquidity problems would persist.
Tariff Structure: There should be a tariff structure to regulate bilateral contracts. For instance, in Nigeria, within the Multi-year Tariff Order (MYTO) 2015 (January 1, 2015, to December 31, 2024), NERC is required to recognize any bilateral rates that are agreed upon when a DisCo chooses to purchase electricity from a GenCo or an Independent Power Producer (IPP), provided that the procurement process is conducted prudently, even when the agreed prices are higher than the MYTO benchmark price for generation.
Licensing: In Nigeria, despite the privatization in 2013, NBET has continued to operate as the sole bulk trader, purchasing large quantities of power from GenCos to resell to the DisCos. NERC will need to create a structure for awarding further trading licenses to interested entities in light of the objective to boost bilateral trading and subsequently phase down NBET, based on existing provisions as It relates to market progression.

CONCLUSION

While the electricity market may benefit from bilateral agreements, major concerns that may undermine the success of the bilateral system being promoted will include the indebtedness and precarious financial standing of majority of the DisCos, the alleged absence of a detailed plan that outlines how DisCos will pay for energy purchased, among other key factors. Outside these factors being considered and addressed, no meaningful progress will be achieved, despite the laudable initiative of a bilateral power model.

[i] Emmanuel Onyeuche, Nigeria: Non-buoyancy of DisCos Pose Serious Challenge in the Implementation of Bilateral Power Contracts (Electricity Hub 12 April 2023) < https://theelectricityhub.com/non-buoyancy-of-discos-pose-serious-challenge-in-the-implementation-of-bilateral-power-contracts/ > accessed 14 April 2023.

[ii] Ibid

[iii] Ibid

[iv] African Electricity Markets in 2022: Top 5 Focus Areas. Available at https://africa-energy-portal.org/blogs/african-electricity-markets-2022-top-5-focus-areas#:~:text=Electricity%20Tariffs%20%E2%80%93%20African%20electricity%20markets,essential%20commodity%20just%20like%20petrol

[v] Ibid

[vi] Electric Market Structures. Available at https://energyknowledgebase.com/topics/electric-market-structure.asp#:~:text=An%20electric%20market%20structure%20describes,market%20structures%20vary%20by%20country.

[vii] Ibid

[viii] Ibid

[ix] Ibid

[x] Bilateral Contracts for Power. Available at https://pubs.naruc.org/pub.cfm?id=537AE1C0-2354-D714-5186-C32920D9AEA7

[xi] This Day; NERC-Ordered Bilateral Contracts. Available at https://www.thisdaylive.com/index.php/2023/04/11/discos-illiquidity-others-may-constrain-implementation-of-nerc-ordered-bilateral-contracts-with-gencos/

[xii] Ibid