RAB-equation for power engineering: investment plus for tariff minus

The main difference between the English RAB-regulation technique (Eng. for "Regulatory Asset Base") and the "Costs plus" system is in that now the tariff for the transmission of electricity which includes investment costs is approved by the tariff body every year. This is why investors cannot plan their revenues and costs for several years ahead. The new mechanism plans the establishment of the grid payments for three years initially and for five years in the future. 

The most important thing is that the RAB-tariff, as well as actual company's spending, includes the return of invested resources and a certain interest rate for the investor. Not only the proprietor of the grid can act as an investor here, this can be any lender, a bank for instance, or a nongovernmental pension fund to which the grid company will make payments toward the capital and interest, much like a mortgage, for 30-35 years (the so called "energy sector mortgage"). 

Moreover, Dmitri Tyukhtin, the Press Secretary of OAO "IDGC of the Urals", told RusBusinessNews that according to the new requirements the grid companies continuing to work on approved tariffs will have to reduce operating costs by 1-2% per year. If the savings exceed this figure the company will be able to do what it likes with the saved money during five years. Investing it in the modernization of infrastructure, for instance. The current "Costs plus" system the tariff authority "penalises" the energy companies for these savings, reducing the tariff by the amount of money saved. 

The transition to RAB-regulation will enable the company to take the savings through the reduction of operation costs during the first five years and in later years the consumer will benefit as in five years the regulatory body will reduce the tariff by the amount of savings made by the company. In Great Britain, for instance, thanks to this type of incentive in 15 years the costs of grid companies have been reduced to less than a half of what they used to be and the tariff for the transmission of electricity has been reduced by 52% in comparable prices.

Another advantage for consumers is the improved quality of services provided by grid companies. The new way of establishing tariffs stipulates a direct dependency of companies' revenues on the reliability of electricity supply and the quality of customer service. If a company fails to comply with the quality standards it will be penalized.

Ideally, the use of the RAB-regulation should enable getting several roubles of investment for each rouble in the tariff. This means that with a comparatively low tariff increase (or even a decrease) the grid company will have an opportunity to attract very considerable money for the development. Ideally that is. 

OAO Permenergo, a branch of IDGC of the Urals, is pioneering the system in the Urals region (the new mechanism has been approved in the federal legislation in the middle of 2008). Starting 2011 OAO Chelyabenergo, Sverdlovenergo, Tyumenenergo will switch to RAB-regulation. A staged transfer of mains grid companies to RAB-tariffs is planned for 2010-2012. Return on investment for FGC EES is going to amount to 11% for the next three years and the pay back time for the invested capital is 35 years. 

For each additional rouble of investment in the tariff the grid companies are planning to get two roubles of investment. As far as the Urals region is concerned this scenario is fairly realistic since the investors are looking, amongst all else, at the need of the territory in new capacities and the scale of investment programmes with which the Urals Federal District never had any problems.

Regional governmental structures and regulatory authorities wholeheartedly support the transition of the Urals grid companies to the new method of calculation. Yelena Ilyina, the Press Secretary of the Ministry for Energy and Housing & Utilities of the Sverdlovsk Oblast, told RusBusinessNews that by 2012 all electric grid facilities of the Mid Urals and other regions must transfer to RAB-regulation by law. 

"The Ministry jointly with the Regional Energy Committee (REC) will be approving production programmes of companies funded in accordance with the RAB-method. The transition to the new tariff calculation will give a momentum for the development of many spheres of the economy as the influx of investment into the energy sector will mean the injection of big money into the regional economy", says Yelena Ilyina. Consumers, in her opinion, will get the most important result which is a reliable power supply and predictable tariffs. 

The Sverdlovsk Oblast REC also has big hopes for the new mechanism. According to Nadezhda Zaporozhets, the First Deputy Chairperson of the Committee, there is another advantage in the new method for the regulators, that is the annual reduction of the grid company operation costs. She is convinced that "the presence of the investment incentive and the interest of power engineers in the reduction of operation costs would eliminate the "guzzling" of the investment". 

Alas, the practice is not as easy as the theory. The introduction of the RAB-system in Russian regions is fraught with serious difficulties. The new method calculations include the return on investment in the amount not exceeding 12% (11% for FGC as stipulated before) while banks today issue loans with 15-18% of annual interest. No sane grid company will take out loans for the investment with 18% interest rate when the guaranteed return is only 12%. The RAB-regulation method is effective when the bank interest is below 9% because taking the profit tax into account the investor will only get 10% net profit on the investment into the energy sector. 

Secondly, the new system is designed for serious growth of industrial production and consequently, energy consumption, while the Urals enterprises are forced to tighten their belts due to the economic crisis. The 15% "undersale" of electricity by Permenergo has caused the loss of 1.5 billion roubles of own capital at the planned revenue of 20 billion roubles. This money which was not received could have been reinvested. By the way, this is exactly why IDGC in 2009 had slowed down the transition of its branches to RAB-regulation. 

Energy companies consider these hardships temporary. Grid companies say that as soon as the situation with the economy in Russia changes, borrowing will become cheaper, production will grow and all the cogs of the new mechanism will start turning. And some time later the end consumers will be able to appreciate the advantages of the European method.

Several experts, however, are not convinced that even in better economic conditions the grid companies will be able to manage balancing their own interests and interests of consumers. After the start up of the new mechanism the tariffs for electricity transportation for enterprises will not be reduced and, on the contrary, will increase. According to analysts' estimates the growth will amount to 25-30% in the first year. 

IDGC of the Urals representatives, however, claim that new tariffs will not be to much of a burden for the consumers as the grid takes only about 20% in the total amount and the lion's share of the bill is the generation. Moreover, at the initial stage of RAB-regulation the state will be restraining the growth of tariffs by "spreading" the energy sector's revenues for several years during one long term period (the so called "smoothing" mechanism). Starting in 2011 the investment component will be excluded from the payment for connection to the grid which will enable the Urals enterprises to save on the connection. 

By the way, we have to be very careful when saying that after three-five years of regulation consumers will get better tariffs. Paradoxical as it may be the reason is the same as when we talk about their growth. In the conditions of the lack of capacities the Urals market is not insured against the deficit of electricity in the nearest future which means that the price of generation will grow. This is why the reduction of the grid component will be rendered almost meaningless. 

The grid companies, however, will get a solid argument in the conflict with businesses regarding the tariffs growing year in year out, which is all too well known If now they have to fight for every kopeck every year then RAB-regulation will make the life of power engineers much easier. So far it is difficult to say whether it is going to make the life of consumers easier. The same goes to the future of the Urals energy sector which is, at first glance, quite promising. However, if we stick to the laws of mathematics, the investment plus multiplied by the tariff minus is unlikely ever to give a plus as a result...