Kerawalapitiya LNG power plant tender imbroglio
Posted on March 23rd, 2019

by C.A.Chandraprema Courtesy The Island

Even though the UNP opened up the economy in 1977 and eschewed the protectionist, closed economic model followed by the preceding Sirima Bandaranaike government, the UNP at least when it was under J.R.Jayewardene, never took leave of their senses. Despite their stated ideology of an open economy, when common sense or a lack of alternatives required it, the old UNP was not averse to adopt policies that looked SLFPish. For example, when the Pelwatte Sugar Co was started in the 1980s, sugar was produced in a factory with foreign collaboration from sugarcane grown in the Moneragala district, and the duties on imported sugar were increased slightly so as to make the sugar from Pelwatte competitive on the local market. After a few years, if this writer recalls correctly, it was not necessary to maintain the import duty because Pelwatte sugar could be sold at the world market price.

Even if Pelwatte sugar would always need to be protected with a tariff on imported sugar, it still made sense to continue with it. The reason why the UNP government of the time started that sugar factory was because there was no other means for the people of Moneragala to make a proper living. Ranjan Wijeratine was one of the principal backers of the Pelwatte project. Since paddy cultivation could not be carried out in the Moneragala district, sugar was deemed to be the ideal cash crop for the people living there. Pelwatte sugar which was started in the 1980s is an example of how people like J.R.Jayewardene and Ranjan Wijeratne were able to put commonsense before ideology for the benefit of the people and the country.

Of course, as one can imagine, that was an era when capitalist enterprise was considered to be evil and there were voices raised from the opposition alleging that the people were being made to consume imported sugar at a higher price so that a ‘capitalist enterprise’ could make money. But that is not how people will look at that endeavour now. Today, the prevailing attitude is that if it is a local enterprise or at least a largely local enterprise, using local inputs, that is ipso facto a good thing irrespective of whether the operation is owned by the government or the private sector. It is now respectable to be a local capitalist. Foreign ownership however is another matter altogether. The greater the extent of foreign involvement, the less attractive the entity becomes. People are questioning the wisdom behind the sale of a part of the Ceylon Petroleum Corporation fuel distribution network to the Indian Oil Company. That transaction has enabled the Indians to import fuel, sell it in Sri Lanka and repatriate their profits. There is no technology transfer or anything that Sri Lanka gets out of it and the suspicion is that that sale was motivated only by the need for someone to make a killing on bribes.

The slogan ‘ganna ape de’ now has traction among the people. That slogan in fact is gaining traction even in countries like the USA which was once an ardent advocate of free trade. The ideology of free trade taken to its logical conclusion would mean that if a country cannot produce something at less than the world market price of that item, then it made sense to import it. That kind of an approach is however not conducive to ensuring livelihoods for all people in an economy. The only arrangement that makes sense is a mix of free trade with the promotion and protection of certain industries which are of importance to the economy, for the food security of the nation and for the livelihoods of the people.   

The question that arises is whether the present procurement guidelines of the government and the attitudes of the people entrusted with implementing it, reflect this commonsense approach. We see from the current controversy surrounding the award of the tender to construct a 300 MW heavy fuel oil/liquid natural gas power plant in Kerawalapitiya, that Sri Lanka’s Procurement Appeal’s Board places local, largely government owned companies on an equal footing with largely foreign owned entities. That approach will be necessary if the said project is funded by a multilateral donor like the ADB or the World Bank because those institutions being multilateral lending organizations require open international bidding for their projects.

However when funding for a project is obtained through the export financing arrangements of certain countries, the recipient is required to select a bidder from among a few nominated by the lender. When a country does not obtain multilateral or bilateral funding for a project, but invites tenders for important infrastructure projects on a build, operate, own and transfer basis, that constitutes a business opportunity in Sri Lanka. Since there is an ‘own and operate’ component in it in addition to the building and transferring, one would think that largely locally owned entities should be given priority in awarding such tenders so that the profits do not flow out of Sri Lanka or that such outflow would be minimized. What has happened with regard to the Kerawalapitiya LNG power project is that a largely local and largely government owned company has been sidelined in favour of a mainly foreign consortium with junior local partners.  At least it is clear that when it comes to the rival bidder, the technical and engineering expertise available will be whatever the foreign partner brings in.

LNG power plant tender

Proposals for a 300 MW heavy fuel oil/liquid natural gas fired power plant at Kerawalapitiya were called through public advertisement on 16 November 2016 by the CEB on build, operate, own and transfer basis. Eight proposals were received and the bids were opened on 21 April 2017. The Technical Evaluation Committee (TEC) had rejected two bids out of eight on the ground that they have not met the minimum functional specifications, and has recommended six bids for financial evaluation including five bids that had not included some of the necessary equipment. That was subject to the condition that the five bidders concerned would provide the required installations without any additional cost to the CEB.

The Standing Cabinet Appointed Procurement Committee (SCAPC) had rejected the conditional recommendation of TEC and has directed the TEC to open the financial proposal of the only bid which was commercially and technically responsive. However, when TEC opened this bid, it was found that there is no hard copy of the signed financial bid. Only a soft copy had been submitted. The bid had then been rejected. Thereafter, the Ministry of Power and Renewable Energy had proposed to the Cabinet to give all eight bidders equal opportunity to correct the errors and resubmit technical and financial proposals. The Cabinet on 29 August 2017 had directed SCAPC to follow the TEC recommendation and open the five bids recommended by the TEC.

Pursuant to that evaluation, on 04 April 2018, SCAPC had decided to accept the proposal of Lakdhanavi Ltd. which was the lowest bid received, as recommended by TEC. An unsuccessful bidder M/s. Consortium of GCL, WindForce & RenewGen appealed to the Procurement Appeals Board (PAB) against the award of the tender to Lakdhanavi Ltd, citing among others the following issues: * Conflict of interest between the project entity CEB and Lakdhanavi Ltd. * Reliance of Lakdhanavi on government concessions * Financial viability of Lakdhanavi bid * Loss to the CEB an effective major shareholder of Lakdlianavi * Return on investment based on figures quoted by Lakdhanavi. *Additional equity investment by Lakdhanavi shareholders

It will be noticed that the last four matters raised with the Procurements Appeal Board by the appellant M/s. Consortium of GCL, WindForce & RenewGen appear to be designed to protect the CEB and Lakdhanavi from themselves. A rival bidder was arguing that if the tender was awarded to Lakdhanavi, its shareholders (mainly the government) would have to invest additional equity to see the project through and that its owning entity (the CEB) would suffer losses as the return on investment was not sufficient. The PAB upheld the argument of a conflict of interest between the CEB and Lakdhanavi Ltd on the following grounds.

=  Lakdhanavi Ltd is a ‘subsidiary’ of the CEB and the latter includes the former even in its consolidated accounts, the connection between the two entities being that the CEB has 63% controlling shares of Lanka Transformers Limited Holdings (Pvt.) Ltd and LTL in turn holds 81.6% shares of Lakdhanavi.

=  The Chairman and General Manager of the CEB are Ex-Officio Directors of Lanka Transformers Limited and CEB holds the right to appoint another 03 members to the 08 member board. Three Directors of LTL (not the CEB representatives) represent the Director Board of Lakdhanavi.

=  The Technical Evaluation Committee consists of 13 members and nine of them are CEB officers. Out of the five members of SCAPC, one officer is from the CEB.

=  Due to this conflict of interest, donor agencies such as WB, ADB and JICA do not allow Lakdhanavi to participate in CEB tenders.

= During the pre-bid meeting several international bidders had complained that the bid is tailor made for Lakdanavi Ltd as the procurement entity is their parent company.

One would think that the very fact that the CEB has a subsidiary which is quite capable of carrying out this project should have clinched the deal for Lakdhanavi without having to compete with other companies. It is quite clear that Lakdhanavi has the technical expertise and the engineering know how to do the project on their own whereas the other bidders would be dependent on their foreign partners to do the actual construction and maintenance of the power plant.  Since the CEB owns the majority shares in Lakdhanavi, why would it have been wrong to simply award the project to Lakdhanavi as an internal arrangement? This is a prime example of the ideology of free trade taking precedence over commonsense. We saw the same thing happening with regard to the sale of government securities. When the Rajapaksa government was in power, the principal way for bonds to be sold was through direct placements with primary dealers at an agreed interest rate.

To the new rulers who came into power in January 2015, such an arrangement smacked of a ‘command economy’ and they made auctions the main way in which bonds were sold. The result of that was the great bond scam and a doubling of the interest rate which in turn has had a knock on effect throughout the economy and has contributed in no small measure to the slowdown of the economy. What that showed was that one cannot run a country without having the commonsense to dispense with ideology when the necessity to do so arises.

The Procurements Appeal Board based on the representations of the appellant, made further observations on the Kerawalapitiya LNG power plant tender which were designed to protect the CEB and Lakdhanavi from themselves as follows:  The recommended bidder Lakdhanavi has submitted the lowest financial bid of US $ 175 Million for the construction of the power plant with the lowest tariff of Rs. 14.98 per kilo watt hour. A project of this nature cannot be completed with US $ 175mn.  The bid prices of all other bidders are around US $ 300 million. On an earlier occasion, Lakdhanavi had put in a bid price for the 300 MW heavy fuel oil combined cycle power plant in Kerawalapitiya at US $ 225 million but had spent US 310 million to complete the project.

The TEC had stated in a report that Lakdhanavi has informed their bank that the total project cost is US $ 330mn including the cost of machinery from Germany estimated at US $ 190mn. However they have submitted a bid for US $ 175mn. The bid price is based on the assumption that they are entitled to VAT, NBT and PAL exemptions for machinery. SCAPC has inquired from TEC, the practicability of building the power plant at the capital cost of US $ 175 million. The TEC referring to power plant cost in the Asian region including China and stated it varies from US $ 155mn to US $ 292mn. and therefore the quoted price of US $ 175mn can be considered practical. The PAB had stated that it is most surprising to note that TEC had not taken into account the USD 330 million cost of the previous power plant constructed by Lakdhanavi in Kerawalapitiya in deciding whether a 300 MW thermal power plant could be built for USD 175 million.

Furthermore, the PAB observed that the Lakdhanavi tariff has been computed without VAT, NBT and Ports and Airports Levy assuming exemption from such taxes. The other bidders have included these taxes in their estimates. SCAPC/TEC has requested clarification from Lakdhanavi regarding their willingness to bear the cost of VAT, NBT and PAL on import of plant and machinery during the construction period without changing the tariff offered in their financial proposal. The PAB observed that the mere act of making that inquiry amounts to unfair tender practice in favour of Lakdhanavi.

The PAB had accepted the argument of the appellant about the inadequacy of the equity rate of return per annum of around 7% that can be expected on the figures quoted by Lakdhanavi. With other additional costs such as cost of VAT, NBT and PAL on imports at implementation, if there is no increase in the tariff, the return may be around 5%. With such rate of return on investment that the PAB observed that the banks would not be willing to lend money to Lakdhanavi for the project. The mere fact that the PAB made an issue of the tax that had to be paid in relation to an entity that belongs largely to the very government imposing such taxes shows how far we have deviated from commonsense. That is a matter that should have been decided between the CEB which owns Lakdhanavi and the Treasury. 

The PAB concluded that without considering any of these issues in the financial proposal, TEC has given full score of 25 points to Lakdhanavi bid, which cannot justified. The SCAP and TEC had asked Lakdhanavi to give confirmation that they will bear the cost of VAT and NBT. Lakdhanavi had given the undertaking that if they are deprived of a VAT, NBT and PAL exemption for importation of machinery and equipment, they will consider such payments as an extra cost and absorb it. The Technical Evaluation Committee had recommended, awarding the tender to Lakdhanavi on the strength of this undertaking. The PAB further noted that Lakdanavi Ltd was not sure of the funding sources of their project even by the time they came for the appeal hearing. Representative of Lakdanavi Ltd had stated that they are negotiating with the National Development Bank to obtain funds.

When further details on the loan were requested by the PAB, representatives of Lakdanavi had stated that once they receive the letter of Intent they will discuss further details about the project financing. That is not surprising because given the profile of Lakdhanavi they would have had the confidence of being able to raise that money from the local banking system. Lakdhanavi Ltd and its parent company Lanka Transformers Ltd which are both entities in which the government has a majority stake, claim some impressive achievements.

Lakdhanavi as a CEB subsidiary

Lakdhanavi Ltd was set up in 1996 to get into the thermal power generation business as a subsidiary of Lanka Transformers Ltd (LTL). The Ceylon Electricity Board CEB has 63% of the shares in Lanka Transformers Ltd and LTL in turn owns 81.6% shares of Lakdhanavi. Having started with a 25MW power plant, Lakdhanavi set up Heladhanavi Ltd a 100 MW Power Plant as a joint venture with Hemas PLC. It also built the 300MW, Combined Cycle Power plant in Kerawalapitiya. Lakdhanavi has constructed a thermal power plant in the Maldives in 2016 and have three thermal projects totaling 215 MW in Bangaladesh.

 The parent company of Lakdhanavi, Lanka Transformers Ltd (LTL) was started as a Joint Venture with 70% holding by CEB and 30% by Bonar Long a Scottish company in 1980 to manufacture transformers for the use of the CEB. The factory was located in Moratuwa with a capacity to produce 700 transformers. Since then there have been no imports of transformers to Sri Lanka. LTL has supplied more than 40,000 transformers to the CEB. From 2003, LTL has been exporting transformers and now exports more transformers than it sells within Sri Lanka. The Moratuwa factory now produces more than 4,000 transformers annually.

 In 2015 LTL had acquired a Indian Switchgear Company in India which manufactures components required by power utilities. In 1991, LTL set up a galvanizing facility to protect steel structures such as transmission towers used by the CEB from corrosion. It now does galvanizing for the construction industry as well. In 1996, LTL set up a modern steel fabrication facility in Bandaragama. In addition to this, they have ventured into mini hydropower stations, wind power facilities, and also got into hydro power projects in Nepal. LTL also constructs transmission lines and substations and has a specialized subsidiary called Ceylex Engineering which now does projects in Tanzania, Kenya and Ethiopia as well. Celyex is involved in constructing five power plants totaling 600MW capacity in Bangladesh as a contractor.

 The diversification of LTL has been such that in 2017, LTL had only 16% of its revenue from the CEB and the rest would come from overseas or from the private sector in Sri Lanka or other government entities that use the services of LTL and its many offshoots. One would think that any company that gets more than 80% of its revenue from exports and services offered to the private sector can be trusted to know what it can and cannot finance. One of the reasons why the PAB did not award the tender to Lakdhanavi is because they were not sure whether the bank is aware that the bidder has to bear an additional Rs. 3 Billion for payment of VAT, NBT and PAL and an additional Rs. one billion for the LNG compressor which are not included in the tariff.

 The PAB observed that a clear financing plan is necessary because there is no time for bidders to look for funding after getting the Letter of Intent as that will delay the construction. That sounds hollow in a country where power projects have been delayed for years and decades for an umpteen number of reasons. How many years did it take for any government to screw up enough courage to build the Norochcholai and Upper Kotmale power projects? Why is the proposed Sampur power plant still in abeyance? In such circimstances, what difference will the passage of a few weeks or months make while Lakdhanavi finds a suitable funder from among the local banking community? If a company has done consistently well and has a large export market, local banks will be falling over one another to give money to such a company.

 The PAB held that the TEC’s behavior is biased or irresponsible because it gave full marks for the Lakdhanavi financing plan despite the shortcomings of their financial proposal and that TEC has not paid due diligence to the financial viability of the project. They therefore recommended that the award to Lakdhanavi be reversed and the tender awarded to GCL Windforce & RenewGen at the tariff of Rs. 15.97 per kilowatt hour. The question that arises in all this is, if the CEB has a subsidiary that has already carried out a very similar project locally and is doing thermal power plants overseas, why was this project not handed over to them as an internal arrangement?

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