Modernising Russian Heating Sector Opportunities and needs for development Esa Hyvärinen Vice President Corporate Relations Fortum Corporation 1 Background • Fortum – has made a large and long-term investments in the Russian energy market – has a long and good track record of successful operations in competitive energy markets – has good knowledge of operating in different countries, regulatory environments, and on efficient energy production technologies, in particular in hydro, nuclear and combined heat and power (CHP) • Russian electricity market reform has been a success, which needs to be completed by addressing other relevant energy markets – interplay of different but interlinked parts of the energy market (electricity, capacity, heat, fuels, distribution, retail sales, etc.) is becoming an issue requiring additional attention in order to achieve all targets set for the market reform • Modernisation of the heating sector is an opportunity, which is becoming a necessity – to keep up the heating infrastructure – to achieve targets for energy efficiency – to solve issues related to electricity market reform and the role of CHP in particular • Any market reform is nevertheless never complete but requires constant development – based on its competencies and expertise, Fortum is willing to proactively promote further developments of the Russian energy market – this presentation concentrates on the heat sector 2 Our geographical presence today Nr 1 Heat Key figures 2012 Nordic countries Sales EUR 6.2 bn Operating profit EUR 1.9 bn Nr 1 Distribution Power generation 51.6 TWh Balance sheet EUR 25 bn Heat sales 14.5 TWh Personnel 10,400 Nr 2 Power Distribution customers 1.6 million generation Electricity customers 1.2 million Nr 2 Electricity sales Russia OAO Fortum Power generation 19.2 TWh Great Britain Heat sales 26.4 TWh Power generation 1.1 TWh TGC-1 (~25%) Heat sales 1.8 TWh Power generation ~7 TWh Heat sales ~8 TWh Poland Baltic countries Power generation 0.8 TWh Power generation 0.4 TWh Heat sales 4.3 TWh Heat sales 0.9 TWh 3 Fortum mid-sized European power generation player; Global #4 in heat Power generation Heat production Customers Largest producers in Europe and Russia, 2010 Largest global producers, 2010 Electricity customers in EU, 2010 TWh TWh millions EDF *) IES Enel E.ON Gazprom EDF Enel Dalkia E.ON RWE Fortum RWE ***) GDF SUEZ Vattenfall Iberdrola Gazprom **) SUEK Rosenergoatom Onexim CEZ Vattenfall Bashkirenergo DEI Inter RAO UES Irkutskenergo Centrica Iberdrola RAO ES East EDP NNEGC Energoat. Inter RAO UES Vattenfall RusHydro TGC-2 GDF SUEZ Fortum Tatenergo SSE CEZ Lukoil EnBW EnBW Kievenergo PGE *) IES Minsk Energo Gas Natural Irkutskenergo Dong Energy Fenosa Statkraft KDHC, Korea Tauron PGE PGNiG Fortum SSE TGC-14 Dong Energy DEI ELCEN, Rom. Hafslund 0 100 200 300 400 500 600 0 20 40 60 80 100 120 140 0 10 20 30 40 * incl. TGC-5, TGC-6, TGC-7, TGC-9, ** incl. TGC-12, TGC-13, *** incl. International Power Source: Company information, Fortum analyses, 2010 figures pro forma, heat production of Beijing DH not available. 4 Structure of Russian generation – significant share of gas- fired condensing power plants Generation structure in the first price Current generation structure in the zone (Europe-Urals) USA GW 7% 15% 28% 18% 28% 5% 12% 17% 29% 32% 5% 2% 2% 12% 7% 7% 12% 13% 16% 21% 9% • Today, a significant share of electricity in Russia is produced at gas-fired plants with the efficiency of ~35-40% (steam-power cycle). At that, given the current commissioning plans, by 2020, the share of inefficient condensing power plants in the energy balance will remain significant. • Meanwhile, in countries where gas is widely used in electricity production, gas turbines and combined cycle gas turbines have superseded old gas-fired steam power plants. • Full-scale conversion of existing CHP plants to CCGT technology would satisfy the electricity demand and enable us to discontinue inefficient gas-fired condensing power plants. Sources: UES Development Scenarios – 2030, Energy Information Agency Necessary actions to be taken to modernise the Russian heat sector 1. Supportive market structure for CHP production 3. Enabling and motivating customers to monitor and reduce their heat consumption and cost Supplier 2. Stimuli for investments in district heating networks Customers 4. Efficiency gains will outweigh the increase of unit prices 6 Supportive market structure for combined power and heat production • Phasing out cross-subsidies – cross-subsidies between electricity and heat production; • all costs relevant for heat production are not visible in heat tariffs • part of the costs of heat production is carried by CHP electricity (capacity and energy) • costs of CHP electricity becomes artificially high • result is that CHP electricity, in total, is less competitive than condensing power production – cross-subsidies between industrial, public buildings and household customers; • encourages industrial customers to build their own heat only boilers • Costs of CHP should be divided based on heat and electricity output (based on primary fuel consumption) and all costs related to heat production should be visible in heat prices • As long as electricity (capacity and energy) continues carrying costs of heat production, capacity payments for CHP electricity should compensate that discrepancy • The outcome where electricity is produced by condensing and heat by heat only boilers leads to lower energy efficiency compared to a more extensive use of CHP 7 Stimuli for investments in district heating networks • Networks require big and immediate investments – heat network losses 20 - 30 % (world class 7 – 10 %) plus considerable water losses – short, less than 15 years, technical life-time (world class 30 – 40 years) – big annual replacement need ~ 10 % of pipelines • Distribution tariffs should cover all investments costs – also capital costs must be covered – justified heat losses based on normatives, real losses substantially higher – unclear cost coverage for necessary investments in in-house substations and metering devises • Clarification of roles and responsibilities of owners and operators in district heating networks necessary for a successful and comprehensive network development – measuring the heat flows must be improved – encouragement of joint ventures and other ownership arrangements as appropriate – concessions based on long-term agreements 8 Enabling and motivating consumers to monitor and reduce their heat consumption and cost • Instalment of in-house substations and automatic temperature adjustments to be encouraged / enforced – based on recommendation, implementation is unclear – a precondition for invoicing based on consumption – necessary for efficiency improvements – tariffs for consumers without metering to be temporarily increased to encourage a rapid installation on metering and adjusting devises, or – tariffs should cover instalment of necessary in-house equipment (and make district heating operators responsible for installation) • Possibility to adjust heating would also improve living comfort 9 Efficiency gains will outweigh the increase of unit prices • Savings in heat consumption can only be motivated if heating costs are directly related to the amount of heat consumed – this requires metering and equipment to adjust heat consumption and invoicing based on actual heat consumption • Increased unit prices are necessary – for attracting investments – for motivating district heating operators and consumers to improve their efficiency • Experience shows that efficiency gains will outweigh the increase of unit prices • Efficiency gains originate from every step throughout the district heating chain – increased share of combined heat and power (CHP) production – better technical quality and operations of the network (trunk and distribution pipelines) – metering and possibility of consumers to adjust temperature and hence heat consumption – invoicing based on real consumption • Requires a comprehensive modernisation of the heating sector – e.g. metering or invoicing based on real consumption do not bring any benefits, if consumers cannot adjust their heat consumption – e.g. application of outdated technologies in heat transmission / distribution and consumption decreases the attractiveness of CHP production – district heating prices should be set freely by the heat suppliers based on costs of alternative heating methods i.e. on competition in the heat market (as is the case in Finland and Sweden for example) 10 Improved total efficiency will outweigh the increase of unit costs Losses in Chelyabinsk DH system are almost 3 times bigger than in Espoo Chelyabinsk Up to 60% losses from production, distribution and in end Heating degree days customers facilities in Russia ~ 4,800 Losses 10% Losses 15% Losses 15% Losses 20% Fuel 1 163 000 MWh Heat consumption (106 000 000m3) Heat transport trunks Distribution network 600 000 MWh Heat Output 890 000 MWh 760 000 MWh 0,31 MWh/m2/a 1 050 000 MWh 2 000 000 m2 Fuel Heat consumption 344 000 MWh (31 353 396 m3) 280 000 MWh Heat transport trunks and distribution network 0,14 MWh/m2/a Heat Output 307 000 MWh 295 000 MWh 2 000 000 m2 320 000 MWh Losses 7% Losses 4% + 4% Losses 5% Espoo Losses in Espoo 20% Heating degree days ~3,900 11 Average heating bill as % of GDP per capita in Russia compared to other countries where Fortum is present Pricing Where are heat prices Unit cost of DH for average Average consumption likely to be most politically customer (€/MWh) assumption