The Russian power market new power to support the new economy

1
The Russian power market new power to support
the new economy
POWER 2006

• June 2006, Cannes

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• 215 GW installed capacity - 3 in the world
• Power consumption - 4 in the world and 1 in
  Europe
• Largest transmission system
• Largest centralized heat market in the world
• One of the largest retail markets 53 mln
  customers, large highly concentrated industrial
  demand for power and heat

Source IEA, 2004
3
Russian power the old perception

• Excess capacity after demand dived in the 90th
• Low tariffs
• State-owned
• Inefficient regulation
• Very slow reform
• Cheap assets

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• The Russian economy entering a new phase
• Demand for power how much capacity do we need
  to support economic growth?
• The reform who will finance the new capacity?
• Are the power rates sufficient to support
  investments in new capacity?

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Russia one of the most dynamic economies
Strong GDP growth
Falling interest rates
Appreciating rouble
Best performing in the world stock market
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Economic growth 2000 -2005

• Improving efficiency and increasing load factor
  for existing assets capitalizing what was left
  from the Soviet
• Exports of commodities and fuel

• Low capex to GDP ratio

• Low (2) growth in power demand

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Russia towards a new economy

• The domestic consumer market shows strong demand
  growth
• Low interest rates
• Huge cash inflows from oil and commodity exports
• High commodity prices
• Utilization rates of existing capacity reach
  their limits
• all major Russian industrial plan huge
  investments in new industrial capacity

Strong growth in capital investments anticipated
by all economists
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• The Russian economy entering a new phase
• Demand for power how much capacity do we need
  to support economic growth?
• The reform who will finance the new capacity?
• Are the power rates sufficient to support
  investments in new capacity?

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Power demand picking up sharply
Capex

• We have found a strong correlation between growth
  in power demand and growth in capital investments
• For capex/GDP to reach Latin America or China
  levels Power demand could grow 4-6 rather than
  officially forecasted 2

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Falling reserve margins - Peak loads approaching
1991 levels
Peak Loads
160.1
153.1
157
150
148.3
143.5
144.7
142
141.6
Thsd MW
139.1
138.6
136.5
135.3
133.5
134.1
133.4
130.3
125
Source RAO UES of Russia
100
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
11
180
Source RAO UES of Russia
2006 vs. 1990,
170
160
Brownouts in Moscow this winter 1 100 MW deficit
160
150
124
140
121
130
115
120
110
110
108
106
104
105
102
110
100
Udmurtia
Astrakhan
Tyumen
Moscow
Kuban
Dagestan
Vologda
Karelia
Belgorod
Leningrad
Kaliningrad
Demand
Grid
Peak load in 11 regions exceeded 1990
levels Reserve margins in falling below 7 in
several regions
Generating capacity in Moscow
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Demand for efficient capacity
Power
Fuel
Industrial
Industrial pay for electricity just 20-30 less
than their foreign competitors
Natural gas is 7 time cheaper in Russia than in
Europe

• Despite very low gas prices Russian industrials
  pay electricity rates comparable to their foreign
  competitors
• As gas prices increase to 60 per tcm
  energy-intensive industrials will pay for
  electricity same prices as in Europe
• At the same time huge stranded fuel reserves
  provide opportunities for monetization (5 bcm
  flare gas, 3 000 bcm stranded reserves)

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Residential and commercial

• Commercial demand per capita is 12 times lower
  than in the US

however a new office building or retail store
consumption per sqm is the same KWs as in US or
Europe
Residential demand per capita one of the lowest
in the world
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Official forecast for new capacity - 20 GW over
the next 5 years
Official forecasts - Demand for new capacity 20
GW in 5 years
22 GW have to be decommissioned over the next 5
years
Actual demand for new capacity according to our
estimate will be 2-4 times higher
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• The Russian economy entering a new phase
• Demand for power how much capacity do we need
  to support economic growth?
• The reform
• Are the power rates sufficient to support
  investments in new capacity?

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The reform passed the point of no return

• Unbundling
• took place in 2005 today 24 competing
  generating companies
• Deregulation
• Wholesale market
• Spot market infrastructure in place
• 2006-2007 the regulated market to be replaced
  by indexed vesting contracts which gradually
  expire
• A full fledged nodal spot market and a capacity
  market to be established in 2006-2007
• Retail market
• Deregulation 2006-2007 all customers (including
  residential) get the right to switch suppliers
• Transmission and distribution
• Changing in regulatory model from cost plus to
  return on RAB is in process
• Privatization 4-6 generating companies to be
  privatized in 2006-2007 though new share placement

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100 deregulated wholesale market bilateral
contracts spot market and capacity auctions
Developing new market
100 regulated wholesale market
Regulated sector not less than 70 of the market
Regulated vesting contracts
100 regulated retail market
100 retail deregulation
Regulated
Regulated Market
Target market model
Transition
Deregulated
June 1 2006 ?.
Up to 30 of the wholesale market
Oct 20 2005
Regulated market transformed into regulated
bilateral contracts a full fledged spot market
established
Balancing market launched
Nov 1 2003
Balancing market
Deregulated market segment laucnhed in Europe
Urals Zone
Jan 1 2006
Derivative market
May 1 2005
2007 ?.
Deregulated market segment launched in Siberia "
Gradual deregulation regulated contracts start
expiring
All unbundled generators start selling power
though the wholesale market Power and capacity
traded in the wholesale market increased 3 times
.
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Large industrials natural long-term offtakers
for new power projects

• Industrial demand dominates industrial and
  transportation is responsible for 70. Vs 28 in
  the US.
• 200 industrials are responsible for around 25
  of total demand
• .

In TWh
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• The Russian economy entering a new phase
• Demand for power how much capacity do we need
  to support economic growth?
• The reform who will finance the new capacity?
• Are the power rates sufficient to support
  investments in new capacity?

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Spark spread are already moderated by
international standards
Baseload spark spread /MWh
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Europe and Urals
Siberia and Far East
Fuel prices

• Grid density sufficient for a functioning spot
  market
• Simple-cycle gas fired plants to remain on the
  margin and to set market prices for the next
  decade
• The gap between gas and coal prices to low to
  promote wide scale constriction of coal fired
  plants

• Grid density insufficient for a full fledged spot
  market
• Huge stranded fuel reserves (hydro, coal, gas)
• New power plants to monetize stranded fuel
  reserves providing power to energy intensive
  industrials and possible export to China

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Whats going to drive power prices in the next 5
years

• Strong demand from industrials and real estate
  developers, low reserve margins, security of
  supply concerns
• Market liberalization and privatization seen as a
  way to support investments in new capacity
• Market model a spot market with a nodal pricing
  model bilateral contracts
• Simple cycle gas fired plants will be setting
  prices in the market for at least 5-7 years
• Coal plants to be minor players in European part
  of Russia for 10-15 years
• Gas prices will grow from their current 40-50
  per tcm to 60-80 pushing power prices higher
  but not enough to encourage construction of new
  coal plants

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Simple indexing will bring spark spread for a
CCGT to at least 20 in 4 years
Low reserve margins should drive prices even
higher
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What capacity will be constructed?
old power plant cost as benchmark

• Repowering CHPs the most attractive option
• New CHPs close to the loads and new industrial
  plants
• Repowering condensing gas fired plants and more
  peak capacity the next step to support market
  integrity
• Coal - unlikely in European/ Urals parts of
  Russia New Hydro and coal plants possible in
  Siberia and Far east to support new energy
  intensive projects or exports to China

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Conclusions

• Russia is entering a new stage of economic
  development
• Power is a big constraint for economic growth
• The power sector reform (market liberalization
  and privatization) is seen by the Government as a
  solution
• Power prices (spark spreads) are already
  sufficient to support investments in power
  projects and should double over the next 3-4 years

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MIKHAIL SLOBODIN Director General of
IES-Holding 115035, Moscow, Russia, 71
Sadovnicheskaya st., bldg. 5 Phone 7 (495)
980-5900, 740-0000 Fax 7 (495)
980-5908 ies_at_ies-holding.com http//www.ies-holdin
g.com