Meralco’s been raking it in: Why?

(First of Two Parts)

There has to be something wrong here.

The Philippines, particularly in its center the National Capital Region, has the fifth highest electricity prices in the world, even more expensive than Japan and the US (see my January 10 column).

Meralco’s 25 US cents per kilowatt-hour price (average January to November 2013) is much higher than our competitors’: Thailand’s 15 cents/kWh, Malaysia’s 10, Indonesia’s 5, and even China’s 9. Foreign investments therefore are naturally favoring those countries, weakening our capacity for economic growth. I personally know a Chinese-Filipino who disassembled his entire factory, shipped it to China, and reassembled the facility in some obscure city there—because of its low power costs.

Even a minimum wage worker, who consumes a bare 50 to 100 kilowatt hours gets a monthly Meralco bill of P600 to P1,000, or at least a tenth of his wages for the month that often he has to suffer having his electricity cut off as he can’t pay the bill.

If the Philippines had the electricity rates of Malaysia, that worker would be paying only P222 to P400, or half of his bill here.

Everyone now is saying our power industry is a mess, so much so that consumers will continue to suffer the highest prices in Asia, even as brownouts could start as early as summer this year.
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Yet Meralco—the biggest firm in the industry—has never had it so good, raking in billions of profits since 2008. According to Meralco’s 2012 annual report, its net income surged from P2.6 billion in 2008 to P16 billion in 2012, and it estimates its profits to exceed P17 billion this year. From 2010 to 2012, its net income increased by an astonishing annual average rate of 42 percent.

Meralco’s chairman Manuel Pangilinan, who represents Meralco’s biggest and controlling stockholder, Beacon Electric Asset Holdings, was nearly ecstatic over the utility firm’s moneymaking:

“The past three years preceding this year have delivered sterling results,” Pangilinan said in the firm’s 2012 annual report. (It was three years ago when Beacon Electric Asset started to control Meralco after buying the shares of the former oligarch Lopez family, with Pangilinan replacing Manuel Lopez as chairman May last year.)

“Our 2012 Consolidated Core Net Income, which excludes one-time, exceptional charges, rose 9 percent to P16.3 billion from P14.9 billion in 2011,” he wrote. “Consolidated Reported Net Income stood at P17.0 billion, 29 percent higher than in 2011.”

Meralco’s been a cash cow
Meralco had indeed become a cash cow for its owners, and it is turning out, next to cell phone giant Smart, one of the Indonesian First Pacific group’s most profitable acquisitions. Pangilinan reported: “We declared a total of P10.10 a share out of our 2012 Core Net Income, including special dividend, which takes our payout to 70 percent of the 2012 Core Net Income.”

“The final dividend of P6.10 declared last February 25, 2013, was paid on April 24, 2013, “according to the Meralco chairman. That means P1.2 billion in cash profits given to Meralco’s shareholders this year.

Meralco has defied conventional wisdom, in that it is probably the world’s most profitable company providing a public good, electricity, which is purportedly tightly regulated by government. It has even become a favorite of the stock market, with its share trebling its price from P82 in 2007 to P261 at the close of last year.

Pangilinan boasted: “Meralco’s share price surged further to P374.00 as of end-April 2013, resulting in a market capitalization of PP421.5 billion, the fourth highest market cap among publicly listed companies in the Philippines Stock Exchange (PSE)—up from P293.7 billion as of end-2012, an increase in market value of our Company of PP127.8 billion in those four months.”

For a firm distributing a product “imbued with public interest,” Meralco’s profitability is anomalous. This is even more so considering that about 70 percent of Meralco’s customers are from the lower classes, based on the fact that the average monthly consumption of its 4.5 million customers is just 180 kWh.

In fact, a report released April 2013 by the US AID entitled “Challenges in Pricing Electric Power Services in Selected Asean Countries” pointed out: “The Thai public utilities subsist on a return on capital of 7.5 to 5.7 percent, compared to about 15 percent for” Meralco.

So why has Meralco’s profits zoomed, starting 2008?

In the firm’s 2012 report, Pangilinan attributes it mainly to the growth of the company’s sales: “Average annual sales volume growth since 2010 was at 6 percent, higher than the annual sales growth of 4 percent for the preceding years.”

This is due, he claimed, to the increased demand for electricity: “All major classes were driven by higher ambient temperature, favorable domestic conditions encouraging consumer spending, increase in household disposable income; and domestic business expansion, “according to Pangilinan.

But how could an average increase of two percentage points in sales from 2007-2009 to 2010-2012 result in an average annual rate of growth in net income of 42 percent, an astonishing pace?

There were no major capital infusions, no change in management structure, and no major improvement in technology. While Mr. Pangilinan may be one of the best Filipino corporate executives ever, I don’t think he is so much of a management and financial genius to lead Meralco to post such huge super-profits.

PBR, reason for Meralco’s profitability
The reason for Meralco’s amazing moneymaking performance is that in 2007, and implemented starting the following year, the Energy Regulatory Commission, purportedly implementing a provision in the Electric Power Industry Reform Act of 2001, adopted a new rate-setting method for Meralco and other private utility companies.

It was called the Performance Based Regulation (PBR). Ironically, while the term sounded, and was even portrayed as a scheme to make utility firms’ more efficient for the public’s welfare, it made our electricity rates the highest in Asia.

In the past three columns, I have explained that the recent spike in Meralco’s electricity rates was due to a flawed electricity market. It was due to the firm’s purchase in November of about 10 percent of the power it distributes to retail customers for a P33/kWh, an atrocious price as the cost of power does not exceed P6/kWh. The alleged shortages in November were not in such a crisis level as to have called for a P33/kWh price. This therefore could only be explained by collusion among the generators, probably with the participation of Meralco.

That is however only really a small part of the explanation for Meralco’s electricity high rates. Even without the November and December increases, Meralco’s average price for the ten months of last year and since 2007 is 23 US cents per kilowatt-hour, still among the highest in the world.

It is the PBR sets the prices Meralco charges for its function—redistribution of electricity—and the other costs such as generation (bought from power companies) and transmission (paid to the National Grid Corp.) are automatically passed on to consumers. It is the price of Meralco’s distribution charge that has since 2008 the biggest factor that explains why Filipinos suffer such high electricity rates, and the reason for the firm’s remarkable profits.

It’s not easy to explain what this is, and it would take another column or two (next on Wednesday) to understand how it works.

Indeed, in modern capitalist society, things made incomprehensible to most people—such as the PBR’s valuation method for Meralco’s assets—could affect so much their daily lives, in this case, paying so much for electricity that they can hardly afford other necessities of life. Suffice for this column to point out that PBR allows Meralco to set an electricity price that would ensure not only current profitability, but its future capital investments. Now, what kind of risk-free, dream enterprise is that?

But perhaps there’s still hope in the ERC, whose thinking and policies has been so dominated by the power industry. It has scheduled a public hearing tomorrow precisely on this PBR, saying in a very understated manner, that its provisions need to be “revisited.”

I hope the ERC starts with the very obvious premise: If the PBR has been good system, why has it resulted in such high electricity rates for Filipinos?