PPPs and Renewable Energy Promotion in Uruguay

April 10, 2014: Dr. Ramón Méndez, National Director of Energy of Uruguay, shares his view on the role PPPs have played in the development of renewable energies in Uruguay.

“The main lesson learned [from PPP implementation] is that there is no recipe that can be replicated. Each country has to design the most appropriate PPP framework. Transformations occur when all stakeholders are aligned. The only way to make PPPs successful is listening to all of the parties involved, stimulating them to listen to each other, understanding what each of the parties want and not trying to impose any terms.”

What concrete steps has Uruguay taken to increase private participation in developing electricity infrastructure?

Ramón Méndez: Here in Uruguay we have designed something that is not very common in the region: a long-term energy plan (that reaches 25 years) that has total social and political support. These factors are essential to provide security in the market. The energy plan was agreed upon between all parties represented in parliament.

 

Another important point is that in Uruguay there are two large public companies: a company with a major presence in the fuel sector, ANCAP, and another that has a very important role in the electric power sector, UTE, the national utility. Having a public energy policy with two public companies as the main instruments for implementing this policy is critical to allow for the speed at which the energy transformation has taken place.

 

We have to mention that Uruguay has no proven fossil fuel resources, and unlike what happens in Latin America, we have exhausted the possibility of installing new large-scale hydro plants. Meanwhile, the country’s economy is growing at an average rate of 6% over the last eight years (with peaks of up to 8.5%). In these last eight years, the industrial sector’s energy demand has tripled, and naturally, this has led to an increasingly large impact on the greater economy and business competitiveness. In this context in 2008, we defined what we call the Uruguay Energy Policy 2030 which has short, medium and long term (20 years into the future and beyond) goals. As a very significant volume of investments was needed, Uruguay started investing about 3% of the country’s annual gross domestic product to the energy transformation. These investments are very important for Uruguay: nearly US $7 billion has been invested over a period of five years by the government. According to a survey by the United Nations Economic Commission for Latin America and the Caribbean (ECLAC), the rest of Latin American countries invest, on average, only 0.6% of their annual gross domestic product in energy investments.

 

When having to make an investment as important as this, our public companies were unable to do them. Therefore, what we developed instead was a PPP toolkit in which the standards and conditions are defined by the government, in partnership with public companies. It is not free private investment but rather the state defines the conditions or sectors or the way that the private sector invests. Three different examples of this type of PPP:

 

  • Renewables: Uruguay launched a process that in the world is now known as an “auction”. For example, through a decree, the state made a public international tender for contracts for the purchase of wind energy for 20 years. The conditions were defined by the state (e.g. the reciprocity components of the investment, the percentage of labour that must come from local sources, the length of the contracts etc.). Under these defined conditions, the private sector competed to see who offered the best price for energy. The bidder offering the best price won a 20-year take-or-pay contract with the utility. It is worth remembering that the Uruguayan government has a perfect record for keeping and maintaining all contracts that it has signed. This record is very attractive for investment because although they are PPPs (the state repays the investment made by the private sector at an agreed price for 20 years and therefore ensures the purchase of the entire production), this activity does not use fiscal space. Beyond this example, the fact is that while in Uruguay we have these two large public companies, two-thirds of the investments are in the private sector through PPPs.

 

At each wind power auction, we have received more than 20 companies with an excellent level of competitiveness and expecting relatively low rates of return. Hence, the very low price of energy, which is approximately US $60/Mwh (50% less than what is usually paid Europe). We do not subsidize any type of energy, including renewable energy, but we chose the types that are best adapted to the reality of our country. To define the energy transformation with the depth and speed needed, the situation absolutely demanded firm and resolute state presence. We made use of significant fiscal space provided by the finance ministry for direct investments in public companies, but mostly we have used the PPP instrument through public enterprises to generate unprecedented foreign investment in our country.

 

With respect to electricity structure, the mechanism used the most is the auctions. Brazil had made use of this mechanism a couple of years ago and Uruguay was the second to follow. Uruguay has also largely improved this tool, from our point of view. In late 2009 there were nine countries using this tool and by the end of last year, the latest report of the International Renewable Energy Agency (IRENA) showed that 45 countries around the world are making use of it. This shows that the auctions are an experiment that had very good results. In Uruguay it allowed us to greatly reduce costs and obtain an investment exceeding US $2 billion only in wind energy. For Uruguay, US $2 billion is an extraordinarily high number; it represents 4% of local gross product per year and all of this, through a PPP.

 

  • Regasification plant:Initially, this plant was intended to allow the import of natural gas from Argentina, and investments of hundreds of millions of US dollars were made to install pipelines linking us with Argentina. Unfortunately our neighbour, due to problems related to self-sufficiency, is generally unable to meet this demand, and when it does, it is prohibitively expensive. The regasification plant is what allows us to open our market to the world: we can buy liquefied gas from more than 20 countries, which gives us a much higher level of independence and sovereignty than before. This US $2 billion investment was held in another form of a PPP: BOOT (Build-Own-Operate-Transfer) in which the two public companies, UTE and ANCAP, were joined to form a holding company. They then made an international call to companies interested in building, operating and transferring ownership of the plant over an agreed period.

 

  • Exploration for oil and gas offshore on the Uruguayan coast:Two rounds of auctions were made in a production sharing agreement, in which companies auctioned for areas offshore, offering a determined investment and level of sharing with the state companies. Whoever wins will be given permission to study a certain amount of area for a certain amount of time. Companies are investing more than US $2 billion over a period of just three years. Presently, over 50% of our offshore area is being explored. These US $2 billion are lost costs to businesses. The investment will only be repaid if they find exploitable oil or gas. If that happens, agreements with the public company can be formed and investment can go ahead to extract the resources and distribute the profits.

What is your experience regarding the replication and use of PPPs in Uruguay’s energy sector? What were the main lessons learned after these experiences?

Ramón Méndez: The main lesson learned is that there is no recipe that can be replicated. Each country has to design the most appropriate PPP instrument. We do not imitate mechanisms from other parts of the world and so we have an energy matrix that is completely sustainable because it has no subsidies and is much more sovereign than it was a few years ago. There is a need for long-term policy. We cannot put into practice a model that might work very well elsewhere without defining a set of tools that are more adapted to the national situation, which may be changing with specific systems for each energy type. In every project and experience, we need to define a learning curve. Of course all this is about reaching agreements for all parties to win. Transformations occur when all stakeholders are aligned. We work with all interested parties: investors, domestic and international, with schools, with unions, with industry, with political parties in order to reach to an agreement. In our experience, clearly defining the role of public enterprises and public policies can attract investors, instead of scaring them away.

What are the main difficulties or obstacles in replicating PPPs in the region? What are the main difficulties in finding and collaborating with private partners for a PPP in the energy sector in Uruguay, including identifying funding? Do you believe we can find a common denominator in all Latin American countries?

Ramón Méndez: I can identify two. First, we have to give security to investors that the country will meet its long-term agreements. If we do not, investors perceive a high level of risk and that leads to skyrocketing prices. We must create conditions, stability, and security for a long-term project and make it credible and affordable in Latin America. Second, in the 1990s there was a sharp reduction of the state presence in public services, in particular in the energy sector. In order to have a PPP there is a need for an important public actor. In our case we have two extremely strong public enterprises. Between the two, they account for over 12% of Uruguay’s gross domestic product and attract investors. Nevertheless, many Latin American countries are missing one of the ‘Ps’ to build a PPP.

 

Another complexity is that oftentimes, developers are interested in participating in a bid for a PPP but they do not yet have investors. Some projects have been delayed because of the difficulty in finding investors. Naturally, having signed a PPP with the state makes it easier to find financing. Nevertheless, we have had to establish deadlines and important guarantees. Sometimes, what it is thought regarding the private sector being faster and more efficient is not always true.

Has there been a growth in the number of PPPs in the electricity sector in Uruguay? What are your perspectives for the future (with more focus on the next ten years) with regards to potential development of PPPs in the sustainable electricity sector in Latin America?

Ramón Méndez: We will continue with a significant level of investment in the country and we will remain committed to the introduction of renewable energy. Next year, we will develop the first deep-water exploratory well. We will continue to develop projects and will continue sustaining the same forms of public-private participation.

What “golden rules” must be observed for a PPP to be successful? Based on your experience, what are the most successful or promising financial structures for PPPs in Uruguay to create a sustainable electricity sector? Do you believe this model may be replicated successfully in other Latin American countries?

Ramón Méndez: There are several important elements for a successful PPP investment. First, it must be proven that it is a healthy business that will be sustainable in the long term and that won’t need any kind of state intervention or subsidy. Secondly, one has to profit from favourable historical moments. Thirdly, one must ensure that contracts will be fulfilled in the long term because energy investments are repaid in several years.

 

I go back to the example of wind: Uruguay has a very good wind factor, a long-term energy policy term, and is listed as a country with a high level of respect for democracy and many other favourable qualities. This is also a favourable moment mainly due to the financial crisis in Europe which has created a surplus of wind turbines and photovoltaic cells. Investors are drawn to Uruguay to develop infrastructure with prices at the limit of their production cost.

 

There are elements that can be replicated in Latin America: we can leverage in an interesting way due to the overproduction of technology in Europe and the US and we have good natural resources. The major challenge is to give the investor security and peace of mind that a 20-year PPP contract will be paid and fulfilled to the end. From my point of view, this is what we have to work on most in Latin America.

 

Summarizing what I have said, I can identify four points that are essential to carry out successful PPPs: long-term projects; having a good national agreement to ensure stability; identifying the most suitable PPP instrument for every business model and not necessarily replicating other countries without adapting to the local situation; and public and private companies as counterpart investors.

In conclusion, what message would you like to share with those, whether public or private entities, who are engaging or contemplating engagement in PPPs to meet the universal energy access goals and climate objectives?

Ramón Méndez: The only way to make PPPs successful is listening to all of the parties involved, stimulating them to listen to each other, understanding what each of the parties want and not trying to impose any terms.

 

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