KENYA: KENYA ENERGY SECTOR UPDATE: PRESIDENTIAL TASKFORCE RELEASES ITS RECOMMENDATIONS!

On 29 March 2021, H.E. Hon. Uhuru Kenyatta, the President of Kenya, appointed a Taskforce for the Review of Power Purchase Agreements (the Taskforce). More information on the Taskforce’s mandate can be found in our previous alert accessible at this link.

The Taskforce submitted its draft report to the President containing certain recommendations which would assist with cutting the cost of power to consumers by over 33 per cent by December, 2021. We commend the members of the Taskforce for carrying out their exhaustive mandate within the time prescribed by their notice of appointment.

Whilst the full report by the Taskforce is yet to be published, in this alert we will have a more detailed look at some of the recommendations proposed by the Taskforce and which the President has asked the Ministry of Energy to implement immediately: 

Taskforce Recommendation:

Review and renegotiations with Independent Power Producers (IPPs) to secure immediate reduction in power purchase agreement (PPA) tariffs within existing contractual arrangements;

It is comforting to note that the Taskforce has highlighted that any change in tariffs would have to be achieved within the framework of existing contractual arrangements. From the outset, most IPPs have highlighted the challenges of agreeing to tariff reductions for the following reasons:

• Project sponsors will have invested their own capital and raised debt financing from senior lenders in order to develop, construct and operate the relevant power plants. Projected cashflows from KPLC will have informed debt service covenants, financial ratios and investor returns. It is difficult to foresee circumstances under which IPPs or their lenders would be willing to agree to a reduction in tariff, especially as (at least in theory) tariffs were determined on the basis of the GOK prescribed feed-in-tariff or through open and transparent procurement processes. 
• most PPAs are also supported by a Government of Kenya (GOK) Letter of Support pursuant to which GOK provides insulation for certain “political risks”, including a reduction in the tariff which is not approved by the project company and its lenders.  Any unilateral reduction in the tariff would almost certainly amount to a political event which would expose the GOK to claims from adversely affected project stakeholders.

It remains to be seen what KPLC or GOK will offer as an incentive to the IPPs to bring them to the negotiating table. 

Taskforce Recommendation:

Cancellation, with immediate effect, of all unconcluded negotiations of PPAs and ensure future PPAs are aligned to the Least Cost Power Development Plan (LCPDP);

Given the perceived oversupply issues which KPLC has been grappling with, at first sight this would appear a reasonable recommendation for the Taskforce to make. That being said, a blanket ban on all unsigned PPAs could lead to a supply gap in the future. Furthermore, cancellation of all PPAs under negotiation will also have a disproportionate effect on areas which are currently underserved by the national grid such as Western Kenya.

Notwithstanding the recommendation from the Taskforce, some form of rationalization exercise of projects under development and negotiation based on their locations vis-à-vis projected demand and other strategic considerations will have to be undertaken by KPLC to ensure that the country does not fall into a generation deficit position in the short to medium term. In the end, on one hand, a balance will have to be struck between measures taken to ensure the sustainability of KPLC (and reconstruction of its balance sheet), and, on the other hand, ensuring that economic growth (especially during the post COVID recover period) is not stagnated due to the undersupply of electricity for key sectors of the economy.

As most developers will attest to, project development in Kenya is a long and arduous process. In some cases, developers and investors have committed significant time and resources in putting project assets (such as land, permits, licenses etc.) in place with a legitimate expectation that a PPA will subsequently be entered into with KPLC. It remains to be seen whether this recommendation may result in investors taking administrative action against GOK or KPLC for compensation as a result of the cancellation of PPA negotiations (either under Kenyan administrative / public law or pursuant to rights afforded to such investors under any applicable bilateral investment treaty). 

Taskforce Recommendation:

Fast-track and deepen the ongoing reforms at KPLC to restructure it into a commercial entity that is both profitable and also capable of delivering efficient and cost-effective electricity supply to all consumers;

Although a lot of attention has recently been focused on IPPs, KPLC’s poor financial health and the high tariffs paid by consumers in Kenya are multifaceted issues that are not solely attributable to IPP PPA contracts. A holistic approach is therefore required if a sustainable solution is to be found. Recent reforms in the national utility, including the appointment of a new board of directors geared towards business recovery and sustainability, have been positively received by the market and we hope that KPLC and GOK will continue implementing the much-needed reforms required to return KPLC to a profit-making and sustainable utility provider. A revitalized KPLC is good for the sector and country. 

Taskforce Recommendation:

KPLC to take the lead in formulation and related PPA procurement of the LCPDP; KPLC to institute Due Diligence and Contract Management frameworks for PPA procurement and monitoring along the lines of the drafts provided by the Taskforce; and KPLC to institute one-year and five-year rolling demand and generation forecasts and associated models;

This recommendation will have to be aligned with the existing LCPDP and other policy guidelines prepared by the Energy and Petroleum Regulatory Authority (EPRA) and GOK. KPLC’s role will have to be harmonised with the statutory requirements around planning and forecasting which are currently provided for in the Energy Act. In addition, it is no secret that Kenya’s national grid requires immediate improvements in order to retain stability from the recent increase in intermittent energy entering the grid. Further guidance should be provided on how this key issue will be tackled.

The Taskforce’s recommendations on PPA procurement are intended to ensure a balance between electricity supply and demand, however there is an inherent conflict of interest (i.e. KPLC’s willingness to be realistic about future demand versus adopting a more conservative position in order to mitigate against future liabilities) which will have to be addressed. 

Taskforce Recommendation:

KPLC to adopt standard PPAs and proposed Government Letters of Support (LOS) along the lines of the drafts provided by the Taskforce;

The adoption of standardised PPAs is not a new concept as the 2012 Feed-in-Tariff Policy was published together with a standardised PPA for small scale generators (less than 10MW) and another standardised PPA for large scale generators. It quickly became clear, however, that the standardised PPAs, prepared without input from the private sector or investors, had insurmountable bankability issues. Hopefully this time around, there will be adequate stakeholder engagement in developing the standardized PPA in order to avoid such issues.

Even where a bankable standard PPA is issued, some level of flexibility will be necessary to accommodate the nuances and risk profile of each project.

Taskforce Recommendation:

KPLC to undertake a forensic audit on the procurement and system losses arising from the use of Heavy Fuel Oils (HFOs);

 

Taskforce Recommendation:

In line with the constitutional imperative for transparency in the public sector, KPLC’s annual reports should include the names and beneficial ownerships of all IPPs with which it has contractual arrangements;

This is not a controversial recommendation as every company in Kenya is already required to lodge a register of its beneficial owners with the Registrar of Companies (see link) under the Companies (Beneficial Ownership Information) Regulations, 2020. The information lodged with the Registrar is however not available to the public.

The publication of the Taskforces recommendations (and hopefully in due course, the full report) is a critical point that will continue to shape Kenya’s energy sector for the years to come. Like us, investors and financiers will be keenly observing the implementation of the recommendations of the Taskforce and we will continue to monitor these developments and keep you updated.