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How to calculate impact of oil price on the economy – energy tax, deficit, exchange rate, inflation

October 18th, 2009 Posted in Demand & Pricing, Energy Supply

Philippine Energy Pricing and Impact Analysis

By: Marcial T. Ocampo

Energy & Project Development Consultant

RATIONALE

The surging oil & gas energy prices in the world and domestic market, mainly driven by steep increase in the market price of the widely traded Dubai crude has resulted in serious consequences for the end consumer and the country – rising domestic fuel and electricity prices, surging food prices, higher transport fares and consequently higher inflation, depreciating peso, lower economic growth rate and greater risk of higher budget deficit.

BACKGROUND

To get a grasp on the magnitude of this “perfect storm” as mentioned very recently by former Budget Secretary Benjamin Diokno – a simultaneous confluence of high oil and energy prices, expensive and scarce food supplies, and high inflation – we need to make a short-term review of our country’s energy situation and prepare plans to manage this emerging threat to our economy.

a) Philippine Energy Mix

As of 2004, the Department of Energy (DOE) estimates the country’s primary energy mix as follows: domestic (1.21%) and imported (36.19%) oil and domestic natural gas accounted for 37.40% and 5.17% of total primary energy consumption, respectively.

b) Petroleum Product Consumption by Product Type

As of 2004 DOE Philippine Energy Plan (PEP), the breakdown of petroleum product consumption (domestic + imported) shows that diesel consumption (42,179 MB) is the predominant fuel but barely increasing in demand, while premium gasoline (19,074 MB) and regular gasoline (5,755 MB) showed slight increases in demand.  LPG use for heating/cooking and power is also on the rise (12,754 MB) while fuel oil is in constant decline (13,331 MB).  This suggests that our refineries have to retrofit for lighter crudes or invest in thermo-cracking of vacuum fuel oils to get more yields of lighter products.

Recent data from DOE shows a gradual reduction in petroleum product consumption, leveling off at around 103,219 MB in 2008 (MTO estimate).

c) Petroleum Product Consumption by Account Type (2007)

Recent data from the Philippine Institute of Petroleum (PIP) suggests that potential savings would be in the area of Premium Gas for retail accounts (private vehicles), diesel (both private retail and industrial), LPG (both retail and independent retailers to residential and commercial customers), avturbo (industrial accounts with corporate jets), fuel oil (industrial, power generation), and kerosene (retail for domestic lighting and cooking).

Likewise, recent data from DOE shows oil industry domestic and international demand in 2007 per product type shows the following share: CME bio-diesel at 39.85% and Regular Diesel at 0.41%; Gasolines at 0.87%, 16.82% and 4.22%  for mogas 95, mogas 93 and mogas 87 regular with a little sprinkling of bio-ethanol of 0.27%; fuel oil at 15.95%; and finally LPG at 11.01% for both cooking (10.07%) and power (0.95%) use.

d) Electric Energy Generation by Source:

By 2008 MTO estimates, oil-based generation accounts for 5,408 GWh (8.64%) while natural gas contributes 19,733 GWh (31.52%) for a total share of 40.16% of gross generation.  The other major sources of electric energy are coal (28.24%), geothermal (17.14%) and hydro (14.37%).  Non-conventional and renewable generation is a very small 0.10%.  However, with the commissioning of a number of renewable plants such as the Northwind farms in Bangui Bay in the Ilocos Region, this share will rise.

e) Electric Energy Consumption by Sector

Power consumption by account shows almost equal potential for electricity savings in the residential, commercial and industrial accounts, for a total consumption of 80.54% of gross generation.

The utilities own use and power/distribution losses are also significant at 6.70% and 12.76%, respectively, for a total power industry usage of 19.46% of total generation.

In prior years, such as in 2004, total industry and power losses were higher at 8.32% and 12.92% for a total power industry usage of 21.235 of total generation.

f) Electric Generation by Grid

By 2008 estimates, the Luzon Islands provide the largest opportunity for energy efficiency and conservations savings, as the area accounts for 73.69% of gross generation, followed by Mindanao at 13.41% and Visayas at 12.90%.

g) Electric Generation by Utility

The largest generator of power in the country is of course NPC/PSALM, almost controlling 70.03% of gross generation.  Following very closely are the Meralco IPPs at 24.18% of gross generation.  The dominant generator, therefore, that would have great impact in energy efficiency savings is still the NPC group.

METHODOLOGY

The Energy Pricing Consultant endeavored to interview Oil Industry experts on the precise calculation of domestic retail/pump price to validate his current procedure for building-up MOPS Singapore product prices to duty paid landed cost to pump price.  Recent information from our Oil Industry Expert reveal that Philippine oil companies are slapped premiums of 2.00 $/bbl and 4.00 $/bbl for crude oil and finished products, respectively, to be added to the posted FOB price, due to perceived risks.

Gasoline Pump Price Build-Up Example

As an example, the DPLC calculation for Mogas 95 (Unleaded 95 RON) is as follows (please refer to Write-Up worksheet, rows 240-277).  You may use this sheet as pump price calculator.

PUMP PRICE (RETAIL) BUILD-UP – DEREGULATED, June 2008

Cost Item

Unleaded

95 RON

Exchange Rate

= 43.71 $/bbl

43.7136

Dubai Benchmark Crude

$/bbl

= 140 = DUBAI

140.0000

Old Ratio

0

= 1.182 = old RATIO

1.182

New Ratio of Product MOPS to Dubai

1

= 1.161 = new RATIO

1.161

MOPS FOB Singapore

$/bbl

= 140 x 1.161 = 162.5130 = FOB + premium

162.5130

Premium

$/bbl

= $2 to $4 per bbl
FOB Singapore

$/bbl

= MOPS + Premium = FOB

162.5130

Freight

$/bbl

= 1.1049 = FRT

1.1049

Insurance

$/bbl

= (FOB + FRT) x 0.05 =  0.0818 = INS

0.0818

CIF

$/bbl

= FOB + FRT + INS = 163.6997 = CIF

163.6997

Wharfage

$/bbl

= 0.0823 = WFG

0.0823

BOE fee

$/bbl

= CIF x 0.10% = 0.1637 = BOE

0.1637

Ocean Loss

$/bbl

= CIF x 0.50% = 0.8185 = OCN

0.8185

Doc Stamp

$/bbl

= CIF x 0.15% = 0.2455 = DOC

0.2455

Demurrage

$/bbl

= Actual claim for delays = DMR

0.0000

Duties on Imported Oil

$/bbl

= CIF x 3% = 4.9110 = DUT

4.9110

Specific Tax on Imported Oil (new)

$/bbl

= 4.350 PhP/L x 158.9868 / 43.71 = 15.8210 = SPE

15.8210

Sub-total (SUB)

$/bbl

= CIF+WFG+BOE+OCN+DOC+DMR+DUT+SPE

185.7417

VAT on Imported Oil (new)

$/bbl

= SUB x 12% = 22.2890 = VAT on oil import

22.2890

Duty Paid Landed Cost

$/bbl

= SUB + VAT = 208.0307 = DPLC

208.0307

Duty Paid Landed Cost

P/liter

= 208.0307  x 43.71 / 158.9868 = 57.1983 = DPLC

57.1983

Specific Tax (old)

P/liter

none (pre 1997 while regulated)

3.47%

Oil Company Gross Margin

P/liter

= 1.9830 = OCGM

1.9830

CME Cost

P/liter

Depot Cost

P/liter

Dealers’ Margin

P/liter

= 1.2000 = DM

1.2000

Refillers’ Margin

P/liter

none (for LPG only, none for liquid fuels) = RM
Haulers’ Fee

P/liter

= 0.1140 (depends on distance, tariff table) = HF

0.1140

Transshipment

P/liter

= 0.2000  (barges from refinery to depot) = TS

0.2000

Sub-total other costs

P/liter

= OCGM + DM + RM + HF + TS = OC

3.4970

VAT on other costs (new)

P/liter

= OC x 12% = 0.4196= VAT on others

0.4196

Pump Price (Retail)

P/liter

= DPLC  + OC + VAT = 61.1149 = RETAIL

61.1149

% Oil Company Gross Margin

% of DPLC

= OCGM / DPLC = 1.9830 / 57.1983 = 3.47%

3.47%

Liters per barrel

158.987

Php / US$

43.7136

When monitoring prices, what is known is the source price (MOPS Singapore) and the pump price.  Hence, the oil company gross margin is determined by difference or backward calculation, and is expressed as % of DPLC:

OCGM = RETAIL – OC – VAT – DPLC in Pesos

% OCGM = OCGM / DPLC x 100, in % of DPLC

It is a cyclic calculation and is determined by goal seek so that it is varied until the actual retail price (from actual survey of pump stations, average for a given location) is obtained by a forward calculation.

To maintain viability without overcharging the customers, the oil company margin should be reasonable in the order of 2% to 5% of DPLC, and considering turnaround days of about 30 days (1 month), the oil company earns around 2% x 12  = 24% per year if there are 12 turnarounds.  Actual profitability is less considering this is the gross return in a year.  The gross margin supports all the capital and operating expenses of the company plus allowance for shareholders profit.

Diesel Pump Price Build-Up

The next table shows a comparison of oil company presentation to the DOE Secretary this July 4, 2007 and the calculation using the same set of data but using the procedure adopted by the Energy Pricing Consultant.

The presentation shows the average MOPS FOB and $4/bbl premium to be added to get the FOB Singapore. Freight and insurance are added to get CIF.  Then customs duty (none at present), specific tax (none for diesel) and miscellaneous charges (wharfage, BOE fee, ocean loss, doc stamps and demurrage) are added and applied with the VAT on imported oil to get the duty paid landed cost (DPLC) of diesel.  Then add the cost of CME, oil company margin, transshipment cost, depot cost, delivery cost and dealer’s margin and VAT on these other costs to get the pump or retail price of diesel.

Using either method yields a very close retail price and estimated margin/loss of around PhP 9.11 per liter in May 2008 and PhP 7.01 per liter in June 2008 for oil company computation and PhP 9.02 per liter in May 2008 and PhP 5.24 per liter in June 2008 using the Consultant’s method.

BIR’s Calculation Method per Revenue Directive on VAT Calculation

The above Consultant’s formula using his assumptions and that of Shell yields more or less the same pump price and under-recovery.  However, per advice by Dir. Monsada of DOE-OIMB, the BIR revenue directive provides for repetitious application of VAT imposts as the oil product changes hands from the source to its destination to the oil company to the gas station retailer.  This is because of the need to maintain the VAT chain in order to maintain its traceability for tax purposes.

Applying the strict BIR guidelines on VAT computation will further increase the pump price of petroleum products tremendously.  The following formulas are used by the BIR:

1)      FOB = MOPS FOB + Premium

2)      FRT = 1.91 $/bbl

3)      INS = (FOB + FRT) x 0.06%

4)      CIF = FOB + FRT + INS

5)      DUTY = CIF x 3%

6)      SPE = (PhP / L, none for diesel) x (42 x 3.7854 L/bbl) / (PhP / $)

7)      BOE = CIF x 0.10%

8)      OCN = CIF x 0.50%

9)      DS = CIF x 0.15%

10)  DMR = (actual demurrage, $/hr) x (hours delayed) / (total bbl)

11)   SUB1 vatable = CIF + DUTY + SPE + BOE + OCN + DS + DMR

12)   VAT1 = 12% x SUB1

13)   DPLC1 = SUB1 + VAT1

14)   WFG = DPLC1 x wharfage rate

15)   DPLC, $/bbl = DPLC1 + WFG

16)   DPLC, PhP/L = (DPLC, $/bbl) x (bbl / (42 x 3.7854 L)) x (PhP / $)

17)   CME = .20 PhP/L (biofuel CME)

18)   OCM = (DPLC + CME) x (2-5% gross margin)

19)  TC = 0.20 PhP/L (transshipment cost)

20)   DC = 0.10 PhP/L (depot cost)

21)   HF = 0.15 PhP/L (hauler’s fee)

22)   DM = 1.10 PhP/L (dealer’s margin)

23)   SUB2 vatable = DPLC + CME + OCM + TC + DC + HF + DM

24)   VAT2 = 12% x SUB2

25)    RETAIL or PUMP PRICE = SUB2 + VAT2

As shown above, the compounding effect of applying the VAT on previous duties, specific taxes and on previous VAT results in somewhat triple VAT application, as observed by the Director of DOE-OIMB.  Perhaps the BIR or the Legislature or Executive should look into this absurd or overly strict application of the VAT chain concept on petroleum products because of its compounding effect due to the many transactional businesses in the supply chain.

MAIN PRICE DRIVERS OF ENERGY

Main Price Drivers – Marker Crude and Exchange Rate

This energy pricing model is driven by the Asian marker Dubai Crude and the exchange rate (PhP/US$).  The country has no control on the international price of crude oil, but it has influence on the Peso to US$ exchange rate thru proper management of tax and other government revenues over expenditure in order minimize budget deficit and avoid depreciating the Peso.

Crude and Price Differential

This is followed by estimates of price differentials among various finished products relative to Dubai crude, representing the refining cost of crude to finished product.  Likewise, even our crude imports, have price differential relative to Dubai crude to reflect its quality (sulfur, gravity, distillation curve and yields, properties of components).

In prior years, the price differential basically reflected refining cost differentials, but because of the new and stringent fuel specifications to comply with the Clean Air Act not only in the Philippines but in Asia and the rest of the world, the high quality fuels and blending components are in very tight supply such as low sulfur diesel, kerosene and fuel oil and low aromatic gasoline components.  The scarcity of high quality components, blends and finished products has created a new price driver, aside from the usual OPEC supply limitation cartel and foreign exchange rate mechanisms.

There are talks by some members of the OECD to relax at this moment the stringent fuel standards in Europe in order to remove this scarcity mechanism from price determination.  In the Philippines, unlike in the cool and land-locked countries, a lower quality fuel may be tolerated because of the air breeze from the surrounding oceans, frequent typhoons and rainfall.  But in Europe and US, there may be resistance because of its tremendous effect on smog formation in areas where ambient air hardly moves.

During the meeting with DOE-OIMB staff, an issue was raised whether to use past MOPS to Dubai ratio (2000-2007) or to use very recent Jan 2008-Jun 2008 ratio, considering the pricing mechanism today has quite changed compared with the past.

The Energy Pricing Consultant believes that the new ratio would be the norm for quite some time considering the shortness of supply, plus the observation by most experts that the world has just passed the so called “Peak Oil” and irreversible changes have already occurred as far as supplies and pricing of petroleum oils.  Hence, the Consultant believes we should use the more current average ratio of 2008 for each product.

Price Differential (Finished Product / Dubai Crude Ratio) Ratio = MOPS / Dubai
98 Octane – Super Premium

1.161

95 Octane – Unleaded

1.137

93 Octane – Unleaded

1.134

87 Octane – Regular / Naphtha

1.013

Avgas

1.184

Kerosene

1.298

Avturbo

1.298

Low Sulfur Diesel

1.323

Regular Diesel

1.296

Low Sulfur Fuel Oil

0.799

Bunker C Fuel Oil

0.774

Lubricating Oils

2.123

LPG – Cooking

8.245

LPG – Power / Automotive

8.245

MOPS Singapore and Premium

Due to current volatility in the world market price for oil, a $2/bbl and $4/bbl premium is imposed by crude and finished product exporters, per recent advice by the Oil Expert.

Duty Paid Landed Cost (DPLC)

The FOB MOPS Singapore with a $4/bbl premium is then translated to Duty Paid Landed Cost (DPLC) by adding freight, insurance and other factors such as wharfage, BOE fee, ocean loss, doc stamps. (Our current pricing calculations have not yet included the $4/bbl premium on products and $2/bbl premium on crude oil imports.)

Then we add specific tax (currently on gasolines and naphtha and avturbo), customs duty and VAT on the imported oil to arrive at the DPLC.  Note that VAT is applied on both the customs duty and specific tax.

The FOB MOPS price of diesel is higher than that of gasoline products, at shown below, ranging from $25.00 to 44.55 per bbl, or in peso terms, around PhP 7.16 to 12.75 per liter.  Our current specific tax is lower than this amount at around PhP 4.35 per liter of gasoline.  If the specific tax is not adjusted upwards, it is highly probable that diesel at the pump price will be more expensive than the gasolines, unless countervailing specific taxes are raised to avoid this price reversal.  This is due to the fact that diesel is more expensive to produce and is in very short supply in the Asian Region.

Diesel – Mogas MOPS, $/bbl =

24.9999

28.5709

44.5458

P/liter =

7.1574

8.1797

12.7533

Current Specific Tax =

4.3500

4.3500

4.3500

Oil Company Margin and Pump Price/Retail Price

We then add the oil company margin (refining, distribution and marketing), transshipment, hauler’s fee, dealer’s margin to arrive at the pump price or retail price, or when appropriate, to the delivered price for direct accounts (non-gas station).

For direct accounts, the delivered price is equal to DPLC + oil company margin + transshipment + hauler’s fee as there are no margins for middlemen (station owner and refiller).

At the current Dubai price of around $120-130 per bbl and actual pump prices of around PhP 50/L for diesel and PhP 58 for gasolines, the oil companies are experiencing under-recoveries in the order of PhP 6-9 per liter.  These were estimated thru backward calculations by the Pricing Consultant by comparing supply price at Singapore and domestic pump price.  Currently, the oil company margin is negative PhP 6.00 per liter, and considering a normal PhP 3.00 per liter margin to maintain sustainable operations and to earn reasonable profit, the over all under-recovery is therefore PhP 9.00 per liter.

Hence, thru government suggestions, weekly adjustments of P1.00-1.50 per liter are being made to hopefully liquidate these under-recoveries, especially in diesel (it is sold at a lower price than gasoline, yet it is more expensive to import incremental supplies).

A healthy balance has to be found since recovering all losses immediately will cause a tremendous price increase in pump prices (around 30% increase very recently in Taiwan, China, Malaysia, Indonesia and Thailand, causing massive protests as well as hoarding of products and long queues in anticipation of future increases).  The Philippines avoided this structural adjustment difficulty by letting oil prices adjust on a weekly basis, albeit lower than actual crude/oil product increases.

Since prices at these levels may not be sustained by the world economy, sooner or later it will gradually decrease, hence eventually, the downward trend of crude oil and product prices will intersect with the upward adjustments in pump price, and subsequently attain equilibrium and economic balance.

Since the spiral effect of oil price increases on transport fares and basic commodities is immediate, but rather slow to adjust when oil prices decrease, sometimes the price adjustments being permanent, our country is able to avoid this permanent inflation brought about by transient oil price movements.

While this is good for the public at large, the small oil company players are having difficulty in weathering this storm.  By and large, they cope with these price increases by only securing quantities that their collections could afford, hence, resulting in gradual decrease in inventory replenishments.  If prolonged and no sufficient price relief is found, due to lack of capital or credit, eventually operating costs at low volume sales will result in temporary to permanent business closures, as margins could not support operating expenses.

Crude Oil DPLC

This is followed by estimates also of crude oil DPLC as it enters the storage tanks of the crude oil refinery, which is similar for finished petroleum products.

Imported Coal and Domestic Coal Prices

Next is imported coal landed cost build-up which may be tied up to Dubai and other marker crudes and other finished products like gas oil and fuel oil, or more recently, the Barlow-Jonker and Japan Power Utilities Coal Indexes.  Somehow, the value of coal follows that of oil on a per Btu basis. There are reasons other than the escalating price of oil, e.g. tightness in supply and abnormally high demand from high growth countries, e.g. China and India, as well as those converting from fuel oil to coal for power generation, e.g. Indonesia, which lead to the currently exorbitant price of coal. The local Semirara coal likewise tracks the imported coal shipments of NPC with a 2% discount on the heating value equivalent as dictated by the supply contract.

Geothermal Electricity and Steam Prices

Geothermal steam is likewise escalated using factors such as exchange rate, US CPI, RP CPI and RP WPI.  There are moves to link it to coal, one of its closest competitors, but as of this moment, the EDC (no more PNOC-EDC as of now, only EDC) does not link geothermal prices to coal.  Chevron also has not shifted to coal indexed pricing because GRSC is not yet in effect.

Natural Gas Price

Natural gas price is indexed to Peso to US$ exchange rate, US CPI, Oman and Dubai crudes, and gas oil and fuel oil product prices.  Each gas user has its own unique weights for each index according to its supply contract.  Malampaya is indexed on a basket of CPI, crude oils and oil products per GSPA contract (43%-53% US CPI, 7.5% Dubai Crude, 7.5% Oman Crude, 7.5%-15% fuel oil, 7.5%-10% gas oil or diesel, and 17% others), and further corrected for corrected for gross and net calorific value for 2 of the 3 gas contracts.

Summary of Energy Price Increases

The table below shows the summary impact of varying Dubai Crude, together with the Exchange Rate on the various energy fuels and resources, allowing time to escalate the CPIs and other indexes for coal, geothermal and natural gas:

Month

0

2

5

7

10

13

Year

2008.00

2008.17

2008.42

2008.58

2008.83

2009.08

Dubai Crude

87.37

98.90

119.11

134.83

162.38

195.56

Exchange Rate

40.94

41.71

42.90

43.71

44.96

46.24

Crude Price Scenario

70$

100$

$120

$130

$160

$200

Petroleum Products
Premium Plus Gasoline – 98 RON PhP/L

38.66

43.51

52.20

59.12

71.54

86.91

Premium Gasoline – 95 RON PhP/L

38.03

42.77

51.29

58.07

70.23

85.30

Unleaded Gasoline – 93 RON PhP/L

37.40

42.06

50.42

57.08

69.03

83.83

Regular Gasoline – 87 RON PhP/L

33.97

38.11

45.54

51.46

62.07

75.21

Avgas PhP/L

39.30

44.25

53.12

60.17

72.84

88.53

Kerosene PhP/L

36.81

42.15

51.73

59.36

73.05

90.00

Avturbo PhP/L

40.92

46.25

55.81

63.41

77.06

93.97

Diesel – Low Sulfur PhP/L

37.69

43.17

52.99

60.81

74.84

92.22

Diesel – Regular PhP/L

36.97

42.33

51.96

59.62

73.37

90.39

Fuel Oil – Low Sulfur (LSFO) PhP/L

21.86

25.11

30.96

35.61

43.96

54.29

Fuel Oil – High Sulfur (BFO3) PhP/L

21.19

24.34

30.01

34.51

42.60

52.61

Lubes PhP/L

80.54

89.29

104.98

117.45

139.81

167.49

LPG – PhP / L (automotive) PhP/L

21.26

24.27

29.67

33.98

41.69

51.25

LPG – PhP / kg (cooking) PhP/kg

38.03

43.42

53.09

60.78

74.58

91.67

LPG – PhP / 11 kg (cooking) PhP/11 kg

418.33

477.60

583.94

668.56

820.40

1,008.42

Crude Oil $/bbl

97.77

110.66

133.25

150.83

181.62

218.72

Coal
Imported Coal

70%

74.44

79.16

87.38

93.75

104.85

118.15

Local Coal

30%

63.93

67.97

75.00

80.44

89.95

101.34

Average Coal $/MT

71.29

75.80

83.67

89.76

100.38

113.11

Geothermal
Geothermal Electricity PhP/kWh

2.1842

2.2129

2.2510

2.2769

2.3165

2.3570

Geothermal Steam PhP/kWh

1.4020

1.4204

1.4449

1.4615

1.4869

1.5129

Natural Gas $/GJ
Gas 1 Sta. Rita

11.0929

11.4345

11.9725

12.3493

12.9431

13.5731

Gas 2 SanLorenzo

11.2285

11.5742

12.1189

12.5003

13.1013

13.7390

Gas 3 Ilijan

9.6246

9.8906

10.3096

10.6029

11.0647

11.5545

Electricity Prices

All the prices for oil products, coal, geothermal steam and natural gas with escalation and linkage of Peso exchange rate, US CPI, RP CPI/WPI, crude and product prices are then fed into a power plant model to predict electricity prices.  The power plant model is based on the Results of Operation (ROP) report of NPC and other major IPP power plants.
The ROP report presents the income statement for a power generating plant and calculation of RORB as follows:

Revenues:
Basic charge
Universal charge
Purchase Power adjustment

Less:

Variable Expenses:

Fuel Costs (petroleum fuels, geothermal steam, coal, natural gas)
Lube Oil Costs
Other Variable O&M Costs
Pumping Costs (negative cost for those contributing to Caliraya Pumped
Hydro Storage, cost for Caliraya plant)

Fixed Expenses / Overhead:
Steam Field Maintenance (geothermal)
Plant Allocation
Regional Allocation (old NPC)
Head Office Allocation
Fixed O&M : Other Power Supply
Amortization of EP under Capital Lease
Amortization of Deferred Forex

Gross Generation Margin

Less:

Transmission Cost (transferred to TransCo):
Depreciation
Other OPEX

Net Generation Margin

Less:

Interest Expense (debt)

Net Operating Income (NOI) after Financial Charges

Add:

Interest Income – Plant
– HO Alloc.
Other Income – Plant
– HO Alloc.

Less:

Other Expense – Plant
– HO Alloc.

Net Income / (Loss)

Rate Base Determination:

Electric Plant-in-Service (EPS)
Less: Accumulated Depreciation
Net Plant-in-Service
Add: General Plant & Equipment (net of Acc. Depn.)
Materials, Supplies & Equipment Inventory
Construction Work-in-Progress
Cash Working Capital
Total Rate Base

Return on Rate Base (RORB in %) = Net Generation Margin / Total Rate Base

The impact analysis just covers fuel and other energy inputs cost recovery and its impact on total operating cost (variable & fixed), without due regard to other financial charges/income and profitability as determined by RORB.  Some of the plants analyzed already have negative RORB while some have positive RORB, and the average for energy source type, grid and national NPC could be determined.

The above energy prices will then be used as index to the fuel cost of each power plant, resulting in adjustments of the plant operating costs (variable fuel/lube costs, other variable costs, fixed costs).  The other non-fuel costs are assumed to be unchanged in this exercise, or if it changes, have minimal effect on final operating cost increases.  Since predicting the timing is difficult, it is best left to present the results in absolute PhP per kWh sales, rather than showing % change over a time frame that is not definite.

Month

0

2

5

7

10

13

Year

2008.00

2008.17

2008.42

2008.58

2008.83

2009.08

Dubai Crude

87.37

98.90

119.11

134.83

162.38

195.56

Exchange Rate

40.94

41.71

42.90

43.71

44.96

46.24

Crude Price Scenario

70$

100$

$120

$130

$160

$200

Operating Costs (Variable + Fixed)
Luzon Grid

4.4286

4.5221

4.6783

4.7949

4.9917

5.2192

Hydro

4.4776

4.4776

4.4776

4.4776

4.4776

4.4776

Oil Thermal

0.0000

0.0000

0.0000

0.0000

0.0000

0.0000

Oil-Based Diesels

15.5932

16.3767

17.7826

18.9016

20.9097

23.3967

Oil-Based GTs

14.6196

15.6256

17.4310

18.8678

21.4464

24.6400

Geothermal

2.6279

2.6396

2.6552

2.6657

2.6819

2.6985

Coal Thermal

2.9728

3.0579

3.2063

3.3212

3.5216

3.7618

Natural Gas

5.6519

5.7509

5.9065

6.0153

6.1866

6.3679

Visayas Grid

3.4827

3.5928

3.7847

3.9349

4.2002

4.5231

Hydro

4.2672

4.2672

4.2672

4.2672

4.2672

4.2672

Oil Thermal

0.0000

0.0000

0.0000

0.0000

0.0000

0.0000

Oil-Based Diesels

8.6720

9.5289

11.0665

12.2902

14.4863

17.2063

Oil-Based GTs

23.8745

26.3114

30.6845

34.1650

40.4109

48.1468

Geothermal

2.6175

2.6286

2.6435

2.6536

2.6690

2.6848

Coal Thermal

5.5546

5.8089

6.2520

6.5948

7.1931

7.9104

Natural Gas

0.0000

0.0000

0.0000

0.0000

0.0000

0.0000

Mindanao Grid

2.4710

2.5797

2.7749

2.9302

3.2089

3.5541

Hydro

0.4330

0.4330

0.4330

0.4330

0.4330

0.4330

Oil Thermal

0.0000

0.0000

0.0000

0.0000

0.0000

0.0000

Oil-Based Diesels

8.7686

9.5203

10.8692

11.9428

13.8695

16.2557

Oil-Based GTs

0.0000

0.0000

0.0000

0.0000

0.0000

0.0000

Geothermal

2.6760

2.6760

2.6760

2.6760

2.6760

2.6760

Coal Thermal

3.5315

3.5315

3.5315

3.5315

3.5315

3.5315

Natural Gas

0.0000

0.0000

0.0000

0.0000

0.0000

0.0000

Total Philippines

4.0812

4.1782

4.3428

4.4676

4.6815

4.9333

Hydro

2.1775

2.1775

2.1775

2.1775

2.1775

2.1775

Oil Thermal

0.0000

0.0000

0.0000

0.0000

0.0000

0.0000

Oil-Based Diesels

10.5295

11.3094

12.7089

13.8227

15.8215

18.2971

Oil-Based GTs

14.8691

15.9137

17.7883

19.2802

21.9576

25.2737

Geothermal

2.6277

2.6382

2.6522

2.6617

2.6762

2.6911

Coal Thermal

3.1036

3.1878

3.3345

3.4480

3.6460

3.8835

Natural Gas

5.6519

5.7509

5.9065

6.0153

6.1866

6.3679

The discrepancy in between natural gas-fired power plants and coal-fired thermal plants is big because it does not reflect as yet the true price of coal, which as earlier discussed closely follows the trend in oil price and other factors such as tightness in supply and abnormally high demand from high growth countries and conversions from fuel oil to coal for power generation.

The change between two adjacent periods in the above operating costs (variable fuel + other variable O&M + fixed costs) is the impact on fuel/energy cost increases, and may be translated into approximate increase in NPC’s effective generation rate.  Please note that NPC’s un-bundled effective rate consists of the basic generation rate + adjustments in costs (GRAM, FPCA, ICERA) + Universal Charge (franchise and benefits to host community).  The following table is an approximate estimate of NPC’s tariff.

Month

0

2

5

7

10

13

Year

2008.00

2008.17

2008.42

2008.58

2008.83

2009.08

Dubai Crude

87.37

98.90

119.11

134.83

162.38

195.56

Exchange Rate

40.94

41.71

42.90

43.71

44.96

46.24

Crude Price Scenario

70$

100$

$120

$130

$160

$200

NPC Effective Rate
Luzon Grid

3.8755

3.9689

4.1251

4.2418

4.4385

4.6660

Visayas Grid

2.8193

2.9295

3.1214

3.2715

3.5368

3.8597

Mindanao Grid

2.5523

2.6610

2.8562

3.0115

3.2902

3.6354

Total Philippines (ave)

3.6035

3.7005

3.8651

3.9900

4.2038

4.4557

TransCo Charges
Luzon Grid

2.5417

2.5417

2.5417

2.5417

2.5417

2.5417

Visayas Grid

0.5221

0.5221

0.5221

0.5221

0.5221

0.5221

Mindanao Grid

2.8788

2.8788

2.8788

2.8788

2.8788

2.8788

Total Philippines (ave)

2.4072

2.4072

2.4072

2.4072

2.4072

2.4072

NPC & TransCo Charges
Luzon Grid

6.4172

6.5106

6.6669

6.7835

6.9803

7.2077

Visayas Grid

3.3414

3.4516

3.6435

3.7936

4.0589

4.3819

Mindanao Grid

5.4311

5.5398

5.7349

5.8902

6.1690

6.5141

Total Philippines (ave)

6.0108

6.1077

6.2724

6.3972

6.6111

6.8629

Care must be exercised, however, in coming up with a projection of the NPC tariff using only oil and other energy price projections as basis. There are many other factors, which will influence the future tariff of NPC, including coal price, privatization of NPC power plants, whether Steam Sales Agreement (SSA) or GRSC will prevail in geothermal steam pricing, and commencement of WESM for ancillary services, which, if unsuccessful, will force NPC to remain as default supplier of ancillary services.

IMPACT OF RISING ENERGY PRICES TO THE ECONOMY

Input/Output Economic Model
Finally, all the energy (fuel and electricity) prices are fed into the input/output economic model to predict its impact on the national economy.

Energy Pricing Impact Analysis

The output of the above economic analysis includes the determination of the impact of the crude oil price increase and its parallel impact on prices of oil products, imported and local coals, geothermal electricity and steam, natural gas and electricity (using the energy pricing model) and its consequent effect on economic variables such as:

1)      Inflation or CPI of specific industry groups

2)      Weighted CPI according to the GDP contribution of each sector to arrive at average inflation rate (RP CPI)

3)      Tax revenues are calculated from volumes or generations given the price structure of each fuel and electricity tariff

4)      By adding the tax revenues with the other gov’t revenues from fees, permits, licenses, services, corporate and individual income taxes, VAT on other items, real estate taxes, etc, we arrive at the gov’t total revenue or incomes

5)      We aggregate gov’t expenditure for education, health, safety & security, salaries, operating costs, capital and infrastructure projects and debt repayment.

6)      We then compare total gov’t revenues and expenditures to arrive at either a surplus or a (deficit)

7)      We analyze whether the (deficit) will have great impact on the exchange rate, interest rate, inflation, credit rating and GDP or economic growth.

REDUCING ENERGY (OIL & ELECTRICITY) PRICES

We then make recommendations where to cut fuel costs via tax adjustments and identifying significant opportunities for reducing energy and fuel consumption.  Oil prices may be reduced by carefully analyzing the cost build-up of oil products:

1)      The customs duty or tariff may be reduced from 3% to 2% to 1% to 0% based on the trigger crude oil price (Executive Order No. 691 and DOE Department Circular No. DC-2008-01-0001).

2)      The specific tax on certain oil products (4.35 and 3.67 PhP/L for gasoline and avturbo, respectively) and excise tax on coal (10.00 PhP/MT) may likewise be reduced.

3)      The VAT rate of 12% may also be reduced to 10%. VAT is applied on the sum of CIF + wharfage + BOE + ocean loss + doc stamps + demurrage + customs duty + specific tax.  Exempting the customs duty and specific tax from VAT may also be considered.

4)      The oil company margin may be tempered by requesting the oil company to add a margin in the range of 2% to 5% of DPLC or as may be necessary to maintain viable operation for that given product.  For instance, the difficult LPG business needs a higher margin to cover its labor intensive operations, or the small volume business need higher margins to defray higher unit costs.  Presently, however, the oil companies have under recoveries of around P6 to P9 per liter for diesel and other products, so much so that the current weekly adjustments of P1.50 per week will require around a month to meet break-even and earn a profit.

5)      Other cost items that may be reviewed and this includes the dealer’s margin, refiller’s margin, transshipment and hauler’s fee.  Off-hand, these costs items have already grown and the business entities performing these functions likewise need upward tariff adjustments to maintain their viability.

6)      Since the operating costs are a function of volume thruput, the need for the oil companies to operate joint product shipping and depot operations is now indeed urgent.  Savings in joint depot arise from common security, reduced manpower, power and fuel consumption, larger tanker size and lower pilferage and loss allowance – benefits that will lower costs and translate to lower pump prices.

On the other hand, we could also reduce electricity costs as follows:

1)      Promote energy conservation (government, industry, commerce, agriculture, residential, rural)

2)      Enhance energy efficiency (use more efficient lighting, processes, machineries, methods – these are only variations of energy conservation) and together with energy conservation will minimize dispatch of expensive peaking plants and result in lower average electricity tariff.

3)      Minimize take-or-pay payments – review IPP contracts, see if capital has already been recovered, only recover residual amounts and spread further over longer period of time to reduce current payments (This is a sensitive issue which involves constitutional provisions/guarantees on the sanctity of contracts.  May not be feasible because of legal constraints.)

4)      Review geothermal and natural gas pricing as these are indexed to coal and oil and other factors.  In the case of natural gas from SPEX, its price is rising with oil prices, and after deducting capital and O&M cost recovery, the balance is shared 60% government as royalty and 40% as developer share. Hence, whether it likes it or not, the government receives increasing royalty as the natural gas price goes up with oil. The royalty portion is the balance from the escalated natural gas price less the capital and O&M cost recoveries.  Since the price rises faster than the costs, the balance royalty naturally becomes larger every year.  Thus the 40% share grows without effort on its part, and it is recommended that a cap be applied by imposing an adjustable windfall tax to peg the developer share to end December 2007 levels as it could not be done retroactively. Furthermore, it is recommend that other than just putting a cap, and to be fair, reduce the royalty to an extent that the levy on oil and coal will be comparable to this to equalize taxes among these fuels.  Again, its impact on budget requirements has to be carefully looked into.

5)      Optimize generation dispatch of 70-80% of major power plant capacity nationwide by each grid, the balance of 20-30% shall be optimized by the WESM exchange to reflect final optimization given instantaneous changes in demand and supply.  Such optimization model shall consider take-or-pay arrangements, variable O&M costs, efficiency of plant, cost of fuel, plant capacity, capacity factor, other factors such as availability and reliability, and TransCo transmission constraints. If TransCo will not eliminate all grid constraints, dispatch of plants will always be constrained to the detriment of not being able to dispatch the more efficient or appropriate power plant.

6)      Review TransCo wheeling charges.  Previously, the average RORB of NPC power plants, IPPs, TransCo and NPC-SPUG were calculated as one company.  With the sale of some NPC plants and privatization of TransCo, the monitoring of their individual profitability will now be done separately. The privatized TransCo, even with the Concessionaire, will remain regulated with ERC monitoring its profitability.  However, the synergy arising from the previous single entity has been lost and maintaining individual RORB profitability may result in overall higher wheeling charges if previous operations were unprofitable.  On the other hand, allowing TransCo not to be weighted down by the inefficient NPC and NPC-SPUG operations will allow TransCo to improve its operations and reduce wheeling charges without sacrificing profitability.

7)      Review Distribution Utility charges, cost inputs and other pass thru charges, systems loss allowances (technical, non-technical, pilferage, plant own use) and identify areas of cost reduction without impairing the viability of the DU.  Currently, there are suggestions to exempt the systems loss from VAT.

8)      The DOE/ERC/DENR shall collaborate to ensure that only the “best entrant” technology  that provides the least cost option for providing the incremental power for the given location, with due consideration to environmental costs and policies, are processed expeditiously to address looming power shortages based on sound demand/supply forecast, in order to avoid costly rotating brownouts.  Please note that no electricity is the “most expensive electricity” as users will resort to expensive on-site diesel generators or incur actual production losses due to spoiled raw materials, idle man-hours, idle machineries, and opportunity losses.

IMPACT OF REDUCING TAXES AND ROYALTIES

Careful study must be conducted when reducing the tax and royalty revenues of the government from energy taxation.  While the end consumer may get relief from high energy prices, a significant reduction in tax and royalty revenues would have tremendous impact on government’s ability to address food security, targeted assistance to the poor, reduce budget deficit and interest rates, and consequently higher exchange rate and inflation rate. The VAT was supposed to be good only for a few years or two. However, it is now believed to be increasingly being relied upon as main source of tax revenues.

At the old price of $70/bbl, the monthly energy tax revenue of the government is around PhP 9,883 million, and will increase to PhP 12,962 million at current $130/bbl Dubai crude.  At $200/bbl Dubai crude, the energy tax revenue would be around PhP 17,086 million per month.  The price increase in the petroleum fuels, coal, geothermal steam and natural gas has also an added effect of increasing VAT on NPC power billings.

The energy pricing model has the capability to estimate energy tax and royalty revenues for each set of tax and royalty assumptions.  The user is advised to use this facility in order to predict energy tax revenues for a given scenario being studied.

The following table shows the projected energy tax revenues of the government assuming all tax measures are in place, i.e. with 3% customs duty, specific taxes of gasolines and avturbo, excise tax on local coal, VAT on oil and coal, wharfage (PPA), BOE fee, Doc Stamps, Geothermal Income Taxes and Royalty, Natural Gas Royalty to National Government and LGU, Franchise & Benefits to Host Community (Universal Charge), DOE 1-94 (PhP 0.01/kWh), VAT on NPC Power Bill (70% vatable on non-renewable generation), VAT on TransCo Power Bill (70% vatable on non-renewable generation).

Month

0

2

5

7

10

13

Year

2008.00

2008.17

2008.42

2008.58

2008.83

2009.08

Dubai Crude

87.37

98.90

119.11

134.83

162.38

195.56

Exchange Rate

40.94

41.71

42.90

43.71

44.96

46.24

Crude Price Scenario

70$

100$

$120

$130

$160

$200

TAX REVENUES AND PAYMENTS
Customs Duty (Tariff) – 3% ad valorem

1,171

1,348

1,666

1,920

2,378

2,947

Crude Oil

673

769

938

1,071

1,306

1,594

Petroleum Products

440

516

656

770

980

1,247

Coal Imports

58

63

72

79

91

106

Local Coal

0

0

0

0

0

0

Specific Tax on Oil and Excise Tax on Coal

810

826

850

866

892

918

Specific Tax on Oil (Imported)

807

822

846

862

888

914

Excise Tax on Coal (Imported)

0

0

0

0

0

0

Excise Tax on Coal (Local)

3

4

4

4

4

4

VAT on Oil and Coal

2,458

2,840

3,539

4,106

5,144

6,461

Crude Oil (none)

0

0

0

0

0

0

Petroleum Products (imported oil)

2,169

2,525

3,179

3,709

4,682

5,917

Petroleum Products (other charges)

167

179

201

218

249

288

Coal (Imported)

0

0

0

0

0

0

Coal (Local)

122

136

160

179

214

257

Wharfage (PPA), BOE fee, Doc Stamp

138

154

182

205

245

295

Wharfage (PPA)

40

41

42

43

44

46

BOE fee

39

45

56

65

80

100

Doc Stamp

59

68

84

97

121

150

Income Tax from Geothermal & Natural Gas

869

906

964

1,006

1,074

1,150

Geothermal – Income Tax

368

372

377

380

384

390

Natural Gas – Income Tax

455

485

533

568

626

690

Natural Gas – Branch Remittance

46

49

54

58

64

70

Royalty from Geothermal & Natural Gas

1,977

2,039

2,135

2,205

2,318

2,443

Geothermal Government Share

1,211

1,222

1,238

1,248

1,263

1,280

Natural Gas Government Share

460

490

539

574

633

697

LGU Share of Natural Gas Royalty

306

326

359

383

422

465

Franchise & Benefits to Host Community (UC)

101

102

103

104

105

106

Luzon Grid

75

76

77

77

78

79

Visayas Grid

10

10

10

10

10

10

Mindanao Grid

16

17

17

17

17

17

Other Island Grids, NPC-SPUG

0

0

0

0

0

0

DOE 1-94 (P0.01/kWh)

42

42

43

43

44

44

Luzon Grid

31

31

31

31

32

32

Visayas Grid

5

6

6

6

6

6

Mindanao Grid

6

6

6

6

6

6

Other Island Grids, NPC-SPUG

0

0

0

0

0

0

VAT in NPC Power Bill

1,277

1,319

1,389

1,441

1,530

1,633

Luzon Grid

1,157

1,192

1,252

1,296

1,369

1,454

Visayas Grid

53

55

60

63

69

76

Mindanao Grid

68

71

78

83

92

103

Other Island Grids, NPC-SPUG

0

0

0

0

0

0

VAT in TransCo Wheeling Charges

1,039

1,046

1,058

1,065

1,077

1,089

Luzon Grid

755

760

767

772

780

788

Visayas Grid

115

116

117

118

120

121

Mindanao Grid

169

171

173

175

177

180

Other Island Grids, NPC-SPUG

0

0

0

0

0

0

Total Gov’t Tax Revenues from Energy

9,883

10,622

11,929

12,962

14,806

17,086

The following sensitivity cases may be analyzed in future runs:

1) Customs duty of 3%, 2%, 1% and 0% according to Dubai Crude Price trigger level.

2) Specific taxes on gasolines (with and without)

3) Excise tax on local coal (PhP 10/mt, 0)

4) VAT on oil and local coal (12%, 10%, 5%, 0%)

5) Peg developers royalty share on geothermal and natural gas to Dec 2007 levels (even if 40% share is increasing due to escalation and lower O&M and CAPEX recovery).

6) A run on reduced royalties, not just capped royalties, should also be made.

7) Adjust Universal Charge

8) Adjust DOE 1-94

9) Adjust vatable portion of NPC and TransCo Power Bills

Marcial T. Ocampo

Energy Consultant (DOE, WB)

Res (63-2)-931-3713, Fax (63-2)-932-5530, Cel (63-915)-606-7949

Sun (63-922)-866-9598, Email: mars_ocampo@yahoo.com

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