September 28, 2022

Tariff Projections Facing Energy Contracting Scenarios

The longer the tariff-projection horizon, the more important it becomes to build energy-contracting scenarios in the regulated environment via CCEAR (Energy Trading Contract in the Regulated Environment).

The portfolio of signed contracts and the expected dynamics for the entire electricity market determine energy-contracting scenarios in the Regulated Contracting Environment (ACR).

The Energy Tariff Estimation Service (SETE) has a set of tools built for establishing these scenarios. This bulletin describes how TR Soluções operationalized the use of these tools in SETE.

CCEAR Contracts and the Tariff Flag Centralizing Account

Decree No. 5,163/2004, in regulating Law 10,848/2004, governs how electricity distribution agents purchase energy, requiring these agents to guarantee service to 100% of their energy market.

The expiration of current contracts of the CCEAR type, Bilateral Contracts, and Contracts Equivalent to Initial Contracts, creates the need to re-contract energy through auctions for existing generation projects.

The replacement-amount calculation also factors in the effects of allocating and/or revising the allocation of firm energy and capacity quotas from hydroelectric plants whose concessions were extended under Law No. 12,783, of January 11, 2013, and Angra 1 and 2 quotas.

Expected load growth, meanwhile, must be met with new-energy contracts. In this case, energy is contracted from plants that have yet to be built or expanded, that is, from auctions for new generation projects.

CCEAR can be signed under the Quantity modality or the Availability modality. Under the first modality, hydrological risks are assumed by the generating companies. Under the Availability modality, meanwhile, costs arising from hydrological risk are assumed by the purchasing agents, and any financial exposure on the CCEE's short-term market, whether positive or negative, is assumed by distribution agents, with the guarantee that it's passed on to the end consumer.

Both hydrological risk and any financial exposure on the short-term market assumed by distribution agents are initially covered with funds from activating Tariff Flags. Later, positive or negative pass-throughs are recorded in the Tariff Flag Centralizing Account (CCRBT) as soon as tariff-repositioning events occur.

SETE Tools – Exposure Energy

Once CCEAR expiration dates are known, and expectations for electricity-consumption growth are set — also factoring in, for example, expected captive-consumption migration to the Free Contracting Environment (ACL) and growth in mini and micro distributed generation (MMGD) — it's possible to quantify the need for new and existing energy contracting.

Figure 1 - Contracted Energy and Auction Expectations

The "Exposure Energy" tool quantifies the expected volumes arising from the need to contract new CCEAR in Years (A):

• "A-1," "A-2," "A-3," "A-4," and "A-5," for electricity from an existing generation project;
• "A-3," "A-4," "A-5," and "A-6," for electricity from a new generation project.

Figure 2 - CCEAR Contracting Scenarios at Auctions

This tool also lets SETE users indicate the expected success rate for each auction.

Figure 3 - Success Rate at CCEAR Auctions

Prices for the different auction modalities can also be indicated by the user. This feature is available at: Menu/Cost Elements/Auction Price.

Figure 4 - Average Prices at CCEAR Auctions

As a default, to simplify energy-contracting projections, TR Soluções assumes all new CCEAR contracting happens under the Quantity modality.

In SETE, the Tariff Flag Centralizing Account's (CCRBT) monthly activity is available at: Home/Tools/Flags/Flags Account.

Besides warning of a critical hydrology period, the Tariff Flags regulatory mechanism aims to raise enough revenue so distribution companies don't compromise their cash flow and can cover expenses that aren't their responsibility and over which they have no control. ANEEL calculates the Flags Account's balance monthly, factoring in the account's revenue as well as its expenses.

Figure 5 - Evolution of CCRBT Revenue and Expenses

In simplified terms, the Flags Account is responsible for funding the following items:

1. System Service Charge (ESS) for energy security (ESS SE) and for the gap between the PLD and the CMO (ESS ME);
2. Cost associated with the hydrological risk of regulated contracts whose risk has been renegotiated since 2015 (RH Renegotiation);
3. Cost associated with Itaipu's hydrological risk;
4. Cost associated with the hydrological risk of Firm Capacity Quota Contracts (RH CCGF);
5. Involuntary exposure to the short-term market; and
6. The variable portion of Availability-modality regulated contracts (CCEAR-D) not covered by the economic tariff.

Figure 6 - Evolution of CCRBT Expenses

Given the critical hydrology events the power sector has faced, TR Soluções' standard scenario assumes that the same hydrology recorded between July 2017 and December 2018 will repeat starting in July 2025, every three years. In TR Soluções' tariff-projection model, hydrology is represented by the following variables:

1. Settlement Price of Differences (PLD): corresponds to the spot price, that is, the short-term market price, used as a reference for various contract prices, as well as to price the cost associated with hydrological risk, whose weight on the regulated market is significant;
2. Marginal Operating Cost (CMO): used as the basis for calculating the PLD, and corresponds to the reference parameter for out-of-merit-order thermal dispatch, which can result in charges being billed;
3. Unit Variable Cost for Energy Security (CVU_SE): corresponds to the reference price for dispatching thermal plants, depending on the reference bands considered. In theory, the CVU_SE serves as the reference for dispatching plants up to that variable-cost level. It's from this variable that out-of-merit-order dispatches can occur, paid for by consumers through the System Service Charge, for energy-security reasons (ESS_SE);
4. Generation Scaling Factor (GSF): corresponds to the ratio between hydroelectric generation and the firm capacity of the pool of hydroelectric plants participating in the Energy Reallocation Mechanism (MRE). In other words, the GSF reflects, on average, how much energy hydroelectric plants generated relative to the volume of energy sold under contracts. A GSF below 100% means the MRE plants weren't able to deliver all the energy sold. If hydrological risk falls on the consumer, as happens with about 70% of the energy contracted by concessionaires, the energy that wasn't delivered is bought on the short-term market.

Generally, in a year with unfavorable hydrology, if revenue from activating tariff flags isn't enough to cover the costs incurred, it can create a financial liability that affects tariffs as soon as a tariff event occurs.

In short, if hydrology is unfavorable in year "n," in year n+1 the tariff stays elevated, and consequently, in year n+2, as hydrology improves, the tariff tends to fall. This seesaw effect is mainly felt in the Electricity Tariff (TE). But it can also be felt in the Distribution System Usage Tariff (TUSD), since electrical losses are priced at the average price of the distribution company's energy-purchase contracts, part of the TE. The higher the regulatory electrical losses, the greater the effects reflected in the TUSD.

The effect described above tends to be softened if tariff flags are sending the right, sufficient economic signal to generate the revenue used to cover expenses that generally occur during periods of stress on the power system. Because if the flags are able to generate the revenue needed to cover the expenses they're responsible for, the tariff itself doesn't necessarily carry financial liabilities generated by the water crisis. Now, if revenue from activating the flags isn't enough to cover all the costs, the distribution company becomes responsible for paying the expenses as part of the monthly settlement carried out by the Electric Energy Trading Chamber (CCEE), even without tariff coverage for that. In the next tariff event, any deficit in the Tariff Flag Centralizing Account (CCRBT) is offset by the new tariff ANEEL approves.

Operationalizing SETE

The dynamics of pass-throughs recorded in the CCRBT are directly tied to CCEAR volume, energy over-contracting/exposure, the GSF (Generation Scaling Factor), and the PLD (Settlement Price of Differences). So, whenever expectations for how these parameters will evolve change, expectations for how CCRBT revenue and expenses will evolve also need to be recalculated.

So, depending on which parameter was updated in SETE, there's a sequence of tool updates users need to follow:

1. Enter CCEAR contracting scenarios, available under Tool/Step 1: Energy/Exposure Energy
2. Update Flags, available under Tool/Step 2: Flags and CDE;
3. Update Tariffs, available under Tool/Step 3: Tariffs.

Through SETE version 14.45, for users to get tariff projections consistent with the energy-contracting scenario and CCRBT activity, with every new release, users needed to redo the process of setting up CCEAR contracting scenarios and then update the Flags.

This way of operationalizing SETE, after a release — often happening simultaneously across users — caused processing slowdowns due to the computational load on servers. At other times, users failed to follow the required sequence of tool updates after a new SETE version was released, leading to unintended deviations in tariff projections.

Starting with SETE version 14.46, released on 9/28/2022, tool updates resulting from changes in parameter-evolution expectations tied to new SETE versions become automatic. In other words, after a version update, users won't need to run the sequence of system-tool updates.

Under this new arrangement, right after a new version is released, SETE will present users with tariff projections under TR Soluções' standard for all parameters that can be edited by the user.

This improvement, however, doesn't remove the need, depending on which parameter the user changes in SETE, to follow the sequence of system-tool updates.

To give users better control over the tool-update operations they run, SETE now also shows, in each tool, the date and time the system, or the user, last ran an update.

Figure 7 - Indication of the Last Update Operation Performed