Andrii Herus, CEO of investment company Concorde Capital, ex-member of the National Commission for State Energy and Public Utilities Regulation, told Glavcom in his interview about what Ukraine enters the heating season with, about the zero-alternative dependence on the so-called DPR/LPR, and about the role Tsentrenerho plays in the almost absolute monopoly of Mr. Akhmetov. He worked for the NCEPUR for as long as 11 months, and quit in June 2015 at his own discretion without hiding the fact that he disagreed with the management’s position in many respects.
Today, only a lazy person does not discuss the critical situation in the sphere of energy supply. Let us check out what is going on step-by-step. First, on August 6, Ukraine resumed the electric power importation from the RF according to the contract made between Ukrinterenerho and Inter RAO (the Ministry of Fuel and Energy called this a forced measure). And yet after three weeks, on August 24, it stops purchasing the electric power from Russia again. How could this be explained? And do we need to import electric power from the Russian Federation?
We have no choice now, this is a forced importation. Our shortage of own operating facilities was around 3 thousand MW by the end of the last month, and it remained so in August. This happened for three reasons. First, decommissioning of nuclear and heat power plant units for repair. Second, absence of fuel in stock. Third, when it is hot outside, the electric power consumption increases because everybody uses cooling machinery. That is why we have no choice, we merely were forced to import the electric power from Russia.
What had changed since August 24 that caused the importation to be stopped?
First, a power unit of Zaporizhia Nuclear Power Plant had been recommissioned. Second, the ambient temperature had decreased and the electric power consumption had thus become lower. The present consumption is around 16 to 17 GW, and several weeks ago it was nearly 18 GW.
How much does the electric power purchased from Russia cost Ukraine? Ukrinterenerho is known only to sell the electric power imported from the RF in the domestic market via Enerhorynok SE, at the price of 0.9 Hryvnya/kWh.
We can buy electric power from Russia in three ways. First, it is downflow; having in mind that we have synchronised systems, downflows are limited. The price is around 91 kopecks/kWh. Second, it is an emergency supply. This is rather costly, around 1.7 Hryvnya. And third, it is ordinary importation.
The importation is effected as follows: RAO UES (the Russian energy company, the monopolist in the Russian market of energy generation and transmission, – Glavcom) sells electric power to Ukrinterenerho SE, and Ukrinterenerho SE then sells it to Enerhorynok SE. Ukrinterenerho SE does actually import the electric power. What is the import price? The contract wandered around the Internet, however it has not been officially published. As far as I know, changes were recently made to the contract and the import price was changed in it. But the official import price is still unknown today.
If we do understand the situation for the month to come, we could claim the ordinary importation. If we do not understand or have missed something, then we have to use downflows or the emergency supply. So, in July we had a situation that required both downflows and emergency supply. And we imported during the last five days of July, and the average import price turned to be around 1 Hryvnya and 50 kopecks. Russia was paid almost 150 million Hryvnias for the electric power importation.
When Volodymyr Demchyshyn, the Minister of Fuel and Energy, was setting up an objective to refuse to purchase electric power from Russia in the closest future, he admitted that the importation would be effected in the event of a force-majeure. What is the force-majeure? Supposedly, if hot weather comes back to the country in a week, will that be the said force-majeure?
Since one large power generating unit has been recommissioned, we can hold on high loading for some time. But, to my mind, it is highly probable that we will have to resume importation in November or December. A repair of another nuclear power unit has been scheduled for December.
Can the electric power importation from Russia be the cause of a new energy dependence on Russia? Is there an alternative way to go? How can we cover our back under the conditions, as you say, of the deficient energy system of Ukraine?
We are already dependent on Russia-DPR-LPR. And because of the crucial shortage of coal there is no alternative way for the short-term perspective. But, for the long-term perspective, we have to work to have our own electric power demand covered from our own coal extraction, other sources, including the mentioned nuclear power generation.
Moreover, if we sustain today’s policy, we could face a shortage of even grade D coal in the years to come. How is coal extracted? There is a mine, it is developed, and while you extract coal here you should develop another mine at the same time. If there is no investment in mines, the extraction of coal reduces. I think DTEK does not presently make specific investment in mines. And on the other hand, we have a tremendous trouble with state-owned mines. They do not have any funds to invest at all, and 11 mines were scheduled for closure. Therefore, we are in a big danger to face a shortage of not only grade A coal but grade D coal in the coming years.
How can you evaluate the actions of the Government and the relevant ministry?
It looks like the Government and the relevant ministry live and act autonomously and separately. In this case, they cannot be evaluated in a positive way. For instance, as of August 30, Miner’s Day, only 50% of June wages were paid to the miners in Volyn.
Ukraine is not prepared for the heating season, is it?
Definitely not, not today.
For the beginning of the heating season, we need 3 million tonnes of coal in stock, but today we have 1.3 million tonnes. Out of those 3 million tonnes we need at least 1 million tonnes to be grade A coal. We face big troubles with grade A coal supply in view of the capacity of the ports and railway infrastructure. There are 3 or 4 railway lines which could be used to transport coal from the ATO zone, but they get damaged all the time due to ongoing hostilities.
At a meeting of the Anti-crisis Energy Head-Quarters several days ago, Valerii Voshchevskyi, Vice-Prime Minister, said that around 72 million tonnes of coal per day could be exported from the ATO zone. Is this a real figure?
Yes, theoretically. However, this plan was not even half-performed in August.
Prime Minister Arsenii Yatseniuk ordered to fill coal stocks of Ukraine’s electric power plants. On August 12, Mr. Demchyshyn claimed the Government had made its decision for the transit of coal through the territory of the RF. Will this fix the problem?
This will help, we will be able to export more. But we will equally face troubles since the problem is rather politically conditioned. Russia may at any moment shut such coal supply. And Ukraine would merely remain in an uncertain status bearing in mind that we import electric power from Russia as well.
Will coal transit from Donbas via the territory of Russia increase the price?
In principle, today this transport component has not already had its critical effect. At the so called DPR/LPR, the price may be rather low because nobody needs the coal except for Ukraine. And the freight surcharge will not be of a crucial effect. The problem is not the price itself. The problem is to actually organize the supply.
Mr. Demchyshyn said that the coal coming from Russia costs approximately 65 to 67 Dollars a tonne…
Today, grade A coal having calorific value 6,000 costs 54 Dollars (already at a Ukrainian port). Respectively, reshipment costs 7 more Dollars. Therefore, the price for coal is around 61 Dollars. This was the price at which Mercuria, a major trader, offered Russian coal to Ukraine.
There is an opinion that the transit via Russia is primarily profitable for DTEK Energy, owned by Rinat Akhmetov.
They have coal at Sverdlovantratsyt and Rovenkyantratsyt. These two enterprises are located close to the border with Russia in Luhansk Oblast. They have a way from there to Russia and then to Ukraine via Kharkiv Oblast. I think their main benefit will be their ability to sell their coal and receive money for it. At present, a really huge amount of coal, around 2 million tonnes, have been collected in stock there.
Is there another place where coal could be purchased? If yes, where is it?
Since time presses, coal should be bought wherever it is possible. Especially the grade A coal. [It should be brought] by sea from the SAR, by rail from Russia and the ATO zone.
Does Ukraine buy coal directly from the ATO zone now?
Yes, Ukraine did buy much directly. There is a list of the companies that may export that coal.
Are they re-registered within the controlled territory?
Yes. The SSU has the respective list. There is a list of the companies that have been allowed to be the recipients of this coal. Shipments may be interrupted for several days because of hostilities in specific areas or due to SSU inspections. The only problem is that the coal cannot be exported in the volumes mentioned by the Vice-Prime Minister.
As you said, coal should now be bought wherever it is possible. You may have followed the scandal that burst out around the South-African coal. There were rumours that coal was of a poor quality. Yet it burned. But the supply was stopped. What was the main problem?
The fact is that the coal has burnt since the warehouses are empty. But coal has some physico-chemical properties. For example, ash-content, sulphur, calorific value. The higher the calorific value, the more energy it emits. The main problem was the inconsistence of these parameters and the price.
According to the documentation, the basic calorific value of the South-African coal was 5,500 kcal/kg. Not so bad.
I think there were more troubles with the price.
What has to be done in the short-term perspective in order to outlive the winter without rotating outages and in the long-term perspective in order to secure ourselves against deficiency in the future?
We have to stop unleashing these public wars with market players. We have to set to a productive cooperation and build up a common action plan. If there is a political resolution for re-privatisation, it should be announced. Or a surcharge for once privatised assets. But this story has to be ended and a new life should be lived with the same rules for all.
In the long-term perspective, one ought to remember that energy supply is not a race boat but a huge liner. Today’s decisions will have consequences in the following year. And if no decisions are made or they are wrong, the situation cannot then be quickly corrected. So, readiness for the following winter commences straight at the end of the previous one. Today’s situation has been created with our own actions or omissions, nothing unexpected has happened over the half-year.
And, of course, an understandable and weighted strategy is required for developing the industry that would be fulfilled both by present and by subsequent officials.
That is to say, the monopolism of Akhmetov in the energy market should not be fought, should it?
Abusing the monopolistic condition in any branch should be fought, and this struggle should be sincere, apolitical, and should conform to the applicable laws.
As for DTEK, we have a legal framework according to which monopolism is a situation where a market player has more than 33% of electric power generation. DTEK has about 25%. But another thing is important: DTEK sells electric power not at its own prices but at the tariffs set with the decisions of the NCEPUR (National Commission for State Energy and Public Utilities Regulation – Glavcom). Thus, abusing monopolistic condition is only possible when the NCEPUR gives green light to such abusing. But the NCEPUR has not allowed that; irrespective of inflation, the heat generation tariffs have not grown up for the 6 months of 2015, they have fallen down by 5%, but in August the tariff of Ukrenerho grew by more than 100%.
What about heat generation?
As for heat generation, DTEK’s share in it has grown from 68% to 74% over the last year. Why has it grown? There are other companies, there is the state-owned company Tsentrenerho, which, to be frank, is managed ineffectively. Its generation has almost halved because of the absence of coal in stock. And if its generation shrinks, then someone else should have it increased – that is why DTEK’s generation is increasing. Or DTEK also has to reduce its generation by two times, then we will have no electricity. Therefore, this war is a vicious circle. We have to increase the generation with Tsentrenerho and Enerhoatom, then DTEK’s share will automatically decrease. This is what we should do in place of the war: we have to input independent professional management in Tsentrenerho, or better to involve a strategic investor via privatisation.
Ukraine has even more concentrated markets, for example, of hen-eggs, caramel, alcohol, tobaccos, iron ore, steel, oil refining, manufacture of electric transformers, etc.; these are free markets with no regulators. But, for some reason, for example, the NBU as the regulator in the banking industry does not declare a public war on Privatbank. One has to separate politics and professional, high-quality operation of a regulator.
I agree that the situation with energy supply is close to monopolism. Therefore, DTEK needs to be closely controlled. Their position before April 2015 was quite aggressive. But with the fiasco of the Fortress operation, I think, they understood they would not be able to force up resolutions beneficial for them. And, I think, they are already prepared to accept and uphold new rules of the game.
Coal market is another issue. And if monopolism has been proved there, the way to fight a monopolist in the civilised world was devised a long time ago: an investigation by an anti-monopoly committee, large fines, a forced split of the monopolist, a forced sale of a part of its assets; however, this has to be a public and transparent process.
Let’s talk about your work in the National Commission that carries out state regulation in the energy and public utilities sectors. To start with, how and why did you join the Commission?
I had heard that such Commission was forming, that there should be a new composition. At the beginning of September I happened to have a talk with Volodymyr Demchyshyn regarding a different issue. And he told me about the idea. I replied that I would think and decide whether I would be ready or not. I discussed that issue and considered the idea of joining the Commission. And the next day I gave my consent and submitted my CV. And then at some point Demchyshyn was at the Presidential Administration, where the issue was being discussed regarding the nominations to the NCEPUR, and he mentioned my name.
And why was he interested in your nomination in the first place?
There was a tendency that investment bankers became engaged in civil service because they operate in different industries and can quickly understand different areas. This is the first factor. And the second one is that from September 2013 to June 2014, I lived and studied in London. And during the Ukrainian Revolution we organised pickets in front of Akhmetov’s flat and his SCM office in London. Me and Andy Hunder, who is now the head of the American Chamber of Commerce, were among their organisers. I understand that this was evidence that there was a certain position, so probably he wouldn’t sell himself out to Akhmetov. Then, as I understand, my candidacy was discussed with Borys Lozhkin, the Head of the Presidential Administration of Ukraine. And then, I had a conversation at the Presidential Administration. The process began in early August and it ended on August 27 with the appointment by presidential decree.
Did you have a conversation with Lozhkin at the Presidential Administration?
Yes, I did.
What did he ask you? Was it an interview or a meeting just to get acquainted?
He asked my opinion, what I knew about the energy sector, and what problems and inefficiencies were in the energy sector. We talked about the key market participants, whether I was ready to defend and withstand all the difficulties and all the pressure that there might be.
Basically, we came to the conclusion that the main task was to develop really transparent rules of the game, the same for everyone, in order to be able to create a market that would be understandable, interesting and attractive not only for the existing oligarchs who work there, but also for other investors who could adopt such rules, come to work and even form competition for the existing participants in the energy sector today. Such task was acceptable to me, it was interesting. And so, we shook hands.
Clarification: what are your relations with Demchyshyn? How often have you been meeting?
Prior to the appointment I spoke infrequently with Demchyshyn. Due to the fact that we worked in the investment bank, possibly several times. And with respect to absolutely apolitical topics. There was a project for restructuring bonds. I was on the other side. There was some e-mail correspondence, ordinary work issues.
Why did you finally left the commission? Did you fail to develop transparent rules of the game? Did you fail to withstand the pressure mentioned by Lozhkin?
Let’s be frank, there are no transparent rules of the game as of today, therefore, it was a failure. On the other hand, we understand that it was too hard to do within 10 months under existing conditions. There was a difficult winter, permanent political interests and conflicts. Very often we had to put out fires and resolve pressing issues. Rate decisions were very difficult.
Not only you, but also Yulia Kovaliv left the Commission.
In the Ministry of Economy there is a good team (in June, Yulia Kovaliv was appointed first Deputy Minister of Economic Development and Trade, says “Glavcom”). In the civil service, especially such as Commission, which passes rate decisions, the work is interesting when you realise that you can implement some correct global things and some of your own professional ambitions. If you do not have the confidence that you’re doing the right things, that the selected path is correct, then it would be better to leave and do something else.
There is information that you had a conflict with a young director of the NCEPUR Dmytro Vovk.
Any different points of view can be called a conflict. Obviously, if six members of the commission are working and discussing some issues, there may be different points of view and opinions. I think this is rather a plus, not a minus. Have any situations occurred when we looked differently at certain issues? Sometimes.
Evaluate him as a manager.
He feels confident with figures and he is able to count quickly. But, of course, at 25 everyone lacks experience, even more life experience. This is an objective reality.
And I would not give any personal characteristics.
Is Vovk impacted by oligarch Kostiantyn Hryhoryshyn? In his interview, the ex-Minister of Energy Ivan Plachkov hinted that Hryhoryshyn is the patron of Vovk, and that he is interested in the transfer to electricity import from Russia.
I have never met Hryhoryshyn while working in the commission. I would like to see there is no such impact. Since the Commission should be equidistant from both Akhmetov and Hryhoryshyn. If there is any impact, it will be traced by work. The main thing is the decisions that will be taken by the Commission.
For example, the rate decisions. Equal treatment of all licensees: representatives of gas, electricity, water and heat supply industries. If there are any preferences, all the secrets will sooner or later become apparent.
Another issue related to the operation of the commission is a so-called transformer scandal.” Tell us how a new Investment program of Ukrenergo was approved, which, among other things, proposed to allocate more than 4 billion hryvnias for the purchase of 37 transformers for Ukrainian regional power companies in the interests of Hryhoryshyn.
It was a high-profile issue. Since, on the one hand, the Ministry and the regulator say that these purchases are necessary and allocate appropriate funds, and on the other hand, recently South-Western Energy System has canceled two tenders for procurement of transformers in the amount of nearly UAH 200 million with the wording ‘because of the lack of need for these goods.’ Accordingly, if Ukrenergo itself says that there is no need for such products, and they have already been included in the investment program and in the rate, so it means something is wrong. Where do the funds disappear? Of course, the purchase of transformers in reasonable quantities and at fair prices is required.
Every year the Commission adopts investment programs for regional power companies, regional gas companies and public utilities enterprises. How does it work? What is the scope of such programs? What is counted as gross expenditures of such enterprises? How is their implementation monitored?
The rate of an enterprise depends on the expenditures it requires to serve a network of lines, plus investment in replacement of the existing equipment or in development, purchase, mounting, installation of new equipment. The relevant documents are be submitted to the Commission. The Commission checks and approves the size of such investment program and approves the limit value for each of the individual components. There is a relevant agency that analyses the prices in the market and what prices are offered by alternatives. Then the Commission makes an appropriate decision on the approval of the investment program and includes the relevant objects in the rate.
Since everything is included in the rate tariff for the consumer, it is important to control both the quantity and the price. The total amount of money included in the rate is the number multiplied by the value. In order to ensure that the rate does not increase unreasonably, it is required to control everyone. Both heat generation with Akhmetov, and others. In particular, state enterprises because not everything is perfect with them. The function of the Commission is to ensure that the funds are allocated in a balanced way in order to ensure that the energy sector develops and it can go through difficult periods, such as autumn and winter periods. Somewhere in this context, by the way, there were difficult discussions with the ‘green’ generation who actively lobby their rates but are not concerned too much about the overall situation in the energy sector.
Does the Commission operate efficiently? Can it function as an arbiter between the consumer and service producer?
I would say, it could work more efficiently. The Commission is a rate regulator. If someone somewhere unlawfully uses any funds, then other agencies (law enforcement, judicial) should be engaged. And this is a problem.
Raising of rates will never be accepted positively. But it could be perceived more positively if there were parallel processes that would form trust in public authorities.
In general, was it a good decision to raise the rates in spring?
There is the economic and estimated basis of the rate. But the rate can be raised in different ways, so that it could cause less or more tension. And, what is important, to perceive such decisions more positively, the rate increases must be accompanied with actions that confirm that there is fight against violations, abuse, illegality and so people understand the reason for tightening their belts. People have to see that parallel processes take place that will improve the situation in the future. First of all, this is the issue of fighting corruption, bringing people to responsibility for various high-profile issues.
If rates have begun to rise, then the authorities should be similarly clean, so the people are sure that funds from the accepted rates are spent in favour of the public interest or for the development, instead of simply being spent inefficiently or for someone’s gain. There is a nuance here. Trust is a very important component of the work, but often it is not treated as high priority.
The public puts strain on the NCEPUR to establish ‘transparent’ utility rates, electricity and gas prices. Will the civic council established within the Commission monitor what costs the monopolists (energy, gas and public utility enterprises) will include in the rate?
I do not really believe in this. But I think the documents are available, it can take the information and analyse it.
Traditionally, when setting rates for electricity, gas, heat supply, the NCEPUR includes huge losses in networks – often they are 2-3 times higher in comparison with the permissible limit. In this way, billions of hryvnias are washed out of the pockets of consumers annually for not consumed energy. Who forces the state regulator to perform such actions?
This is not true. The losses in the networks may be different, may be great, but there is a certain limit, above which the Commission will not count the losses in the networks. If I’m not mistaken, somewhere around 15%. That is, if there is some kind of venture, whose losses amount to 25%, the remaining 10% – they should find the money themselves to cover the losses. From the local budget, at the expense of other activities, or by optimisation. But only a certain amount of losses is included in the rate, not more.
Regarding the billions of hryvnias … I think something can always be stolen. The law enforcement authorities should work here and control that. I will not say that nothing is being washed out.
It is likely that the the NCEPUR will reduce gas prices in autumn? The corresponding draft law No. 2832 prepared by Yulia Tymoshenko was sent for revision by the parliamentary committee on the FEC.
The Commission may reduce gas prices. Formally. According to the law, it still has such powers, until October 1. Then it is passed to the competence of the Cabinet of Ministers.
The decision on gas prices was the most difficult of the rate decisions. I supported a solution that was a little bit different from the one that was adopted. But we must understand that in February the hryvnia exchange rate against the dollar was 38, there were no gold and currency reserves, and we were naked in the middle of the winter. And to ensure that the IMF allocates a tranche, it was necessary to adopt the economically justified rates. If this decision had not been adopted, we, respectively, would not have signed the memorandum in early March and would not have received money from the IMF. What would we have today? The UAH/USD exchange rate at the level of 50, default on debt and hyperinflation.
So now we can reduce it, but how will the IMF look at that? I think that today we cannot overcome the crisis without the IMF. You can express a variety of initiatives, especially if you do not bear responsibility for the consequences of such initiatives.
NCEPUR approves a fateful decisions for the fuel and energy complex and housing and public utilities. Why hasn’t the Verkhovna Rada passed the law on the operation of this structure?
This is a very important law. It affects, first of all, functions of the commission, what it can and what it cannot do. Secondly, it affects the independence of the Commission, both legal, political and financial. This is important. Since when a director of the department with a salary in the amount of UAH 5,000 works on decisions that cost billions of hryvnias, it is wrong and ineffective. Where there are multi-billion decisions and serious issues, people need to receive higher wages. It should be understood that NCEPUR regulates the market of 300 billion hryvnias.
How much did you get?
From 7 to 12 thousand hryvnias, taking into account bonuses and allowances.
What are the functions the Commission does not perform now but should do?
It seems to me, on the contrary, the Commission needs to reduce the number of functions. We had two Commissions – in the public utilities and energy sectors. The two commissions were combined. Each of the two commissions had seven members, i.e. there were 14 members, and now there are just seven. The number of members reduced but the number of functions per each member increased. The staff was also united. And we have reduced the size of the Commission by 21%. Then there were talks that the number of the Commission’s members is reduced, but the budget remains the same, and the employees will get higher salaries due to the bonuses. But, as it often happens, we were cheated. The Ministry of Finance, to the contrary, halved our budget. Now that the Commission and the number of Commission members have been reduced, it is impossible to perform the same number of functions performed by two different commissions with the same quality and speed. We must not fear and we should refuse to perform certain functions.
What should be removed?
Transfer a certain number of small licensees on-site. Simplify wherever possible. As to the gas replacement projects, use indicatives – weighted average rates, and not the method of ‘cost plus’. Otherwise, the Commission will simply sink in the manual control. It will perform their functions, but the process will be slow, long, awkward, low-quality, and non-transparent.
Is adoption of the law on commission hampered in the Verkhovna Rada? Who will benefit?
The adoption by the Verkhovna Rada is hampered because there is a political component. Disputes arise regarding the person which will appoint the commission. The President, the Prime Minister or the Verkhovna Rada. Or an independent Competition Commission. This is, in fact, the key issue. And the second question: if a new law is adopted, whether the same composition of the commission will continue to work, or, upon the adoption of the law, contests will be held and a completely new composition of the commission will be formed. These are the fundamental points on which there is no political solution.