Northern Europe Regional initiative – Implementation Group “Optimizing the use of the interconnectors – SwePol Link and Baltic Cable”

Status report

Ref: ERI-NO-IG Final version 11-04-2008

European Regulators’ Group for Electricity and Gas Contact: Council of European Energy Regulators ASBL 28 rue le Titien, 1000 Bruxelles Arrondissement judiciaire de Bruxelles RPM 0861.035.445

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[Optimizing the use of the interconnectors – SwePol Link and Baltic Cable]

Document history

Version Date Description Author 1 2007-04-03 Initial Draft Tony Rosten 2 2007-04-27 Draft 2 Tony Rosten 3 2007-05-07 Draft 3 Tony Rosten 4 2007-06-12 Draft 4 Tony Rosten 5 2007-08-24 Draft 5 Tony Rosten 6 2007-09-19 Draft 6 Tony Rosten 7 2007-10-03 Draft 7 Tony Rosten 8 2007-11-23 Draft 8 Tony Rosten 9 2007-12-19 Draft 9 Tony Rosten 10 2008-01-08 Draft 10 Tony Rosten 11 2008-02-18 Draft 11 Tony Rosten 12 2008-02-29 Final version Tony Rosten

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Table of Contents

1 BACKGROUND...... 5

2 THE ELECTRICITY MARKETS AND PRESENT SITUATIONS ...... 7 2.1 Sweden ...... 7 2.1.1 Market description...... 7 2.1.2 Overview of the regulatory authority’s role and responsibilities ...... 10 2.2 Germany...... 11 2.2.1 Market description...... 11 2.2.2 Overview of the regulatory authority’s role and responsibilities ...... 13 2.3 Poland ...... 16 2.3.1 Market description...... 16 2.3.2 Overview of the regulatory authority’s role and responsibilities ...... 20

3 INTERCONNECTORS BETWEEN SWEDEN AND CONTINENTAL EUROPE...... 22 3.1 Background ...... 22 3.2 Baltic Cable ...... 22 3.2.1 History, ownership and legal structure ...... 22 3.2.2 Utilisation of the interconnector, capacity allocation and third party access... 22 3.2.3 Circumstances limiting the use of the interconnector ...... 23 3.2.4 Circumstances limiting third party access ...... 23 3.3 SwePol Link...... 23 3.3.1 History, ownership and legal structure ...... 23 3.3.2 Utilisation of the interconnector, capacity allocation and third party access... 24 3.3.3 Circumstances limiting the use of the interconnector ...... 24 3.3.4 Circumstances limiting third party access ...... 25

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4 THE EC LEGISLATIVE FRAMEWORK AND INTERPRETATION OF THE LEGAL SITUATION REGARDING THE CABLES...... 26 4.1 Regulators view of the interpretation of the legal situation ...... 26 4.1.1 Background...... 26 4.1.2 The relevant Community legislation ...... 27 4.1.2 The judgement of the European Court of Justice in Case C-17/03 VEMW and others ECR I-4983...... 31 4.1.3 Legal conclusion as regards SwePol Link and Baltic Cable ...... 32 4.2 Baltic Cable AB´s position on the legal status fo Baltic Cable vs EC law...... 33 4.2.1 Summary ...... 33 4.2.2 Baltic Cable under EC law ...... 34 4.3 SwePol Link AB´s position on the legal status of SwePol Link vs EC law ...... 37 4.4 Svenska Kraftnät´s legal position concerning SwePol Link AB ...... 39 4.5 Vattenfall AB´s position on the legal situation of SwePol Link ...... 45 4.6 PSE-Operator position on the situation of SwePol Link...... 47

5 SUMMARY OF THE WORK IN THE IMPLEMENTATION GROUP AND THE CURRENT SITUATION REGARDING SWEPOL LINK AND BALTIC CABLE ...... 49

ANNEX 1 – DESCRIPTION BALTIC CABLE (BASED ON A DOCUMENT FROM THE CABLE OWNERS)...... 51

ANNEX 2 – DESCRIPTION SWEPOL LINK (BASED ON A DOCUMENT FROM THE CABLE OWNERS)...... 57

ANNEX 3 – VALUE AND DIRECTION OF ENERGY FLOW USING SWEPOL LINK...... 62

ANNEX 4 – PARTICIPANTS IN THE IMPLEMENTATION GROUP ...... 63

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1 Background

There is a general understanding that integration of electricity markets requires an efficient utilization of existing interconnectors.

The regional approach as a transitional phase towards the creation of one internal electricity market was first launched in the March 2004 Strategy Paper of The Commission. The subsequent ERGEG Regional Initiative is also explicitly supported by the Energy Council 8 June 2006, while at the same time stressing that “Cross-border exchange of energy should be improved and the regional energy cooperation should be accelerated…”

There are currently five existing interconnectors on the Nordic-Continental interface today and this Implementation Group will focus on Baltic Cable and SwePol Link which both are operated as “merchant lines”. In this report merchant line will refer to an interconnector where the owners have priority rights to the capacity, and where the cost for the cable are covered by the users (i.e. no part of the cost is included in the calculation of the respective national grid tariffs).

There are two issues that have to be addressed in the work of the Implementation Group for SwePol Link and Baltic Cable:

• the present operation of the cables including opportunities for third party access • how these cables can be integrated in a common coordinated regional congestion management method according to the provisions in the CMG (Congestion Management Guidelines)

Special attention will be given to the consequences of the present ownership structure and capacity allocation, with view to move towards common capacity allocation and congestion management methods on all present and future interconnectors between the Nordel area and continental Europe.

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There are terms of reference stated by the the Regional Coordination Committee (RCC) of the ERGEG Northern Europe Electricity Regional Initiative. According to the terms of reference the implementation group will describe the current situation, the EC legal framework, describe the pros and cons of present methods applied, list alternative solutions and finally propose capacity allocation and congestion management mechanisms for Baltic Cable and SwePol Link which aligns them as much as possible with other interconnectors between Nordel area and continental Europe.

The Implementation Group only addresses issues in relation to day-ahead allocation and utilization of transmission capacity. However the possibilities for intra-day utilization are also important for the total efficient use of interconnectors. Furthermore, the implementation group does not address the issue how available transmission capacity (ATC) for the interconnectors is determined as a function of the situation in the surrounding national grids.

Parallel to the work in this implementation group, the IG Transparency of the Northern Europe region has recently published a report containing a common regional understanding of market relevant information to be published by TSOs/PXs. This is based on present EU transparency requirements as well as ERGEG guidelines published. The implementation is to take place in a two step approach during 2008. The IG Transparency will be monitoring the implementation. In the report it is mentioned that it should be discussed in this IG to what extent the transparency rules can be adopted regarding Baltic Cable and SwePol Link.

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2 The electricity markets and present situations

2.1 Sweden

2.1.1 Market description The four Nordic countries are very integrated and have a common power market place, Nord Pool Spot, where a large proportion of the physical power trade takes place. Congestions between the Nordic countries is dealt with through implicit auctions on Nord Pool Spot.

Overview of the electricity market in Sweden: - The electricity consumption in 2006 was 146.2 TWh - Average growth in consumption has been about 0.25 % per year since 1996 - The electricity production in 2006 was 140.1 TWh - In 2006 Sweden’s net import amounted to 5.8 TWh - The installed capacity was 33 212 MW in 2005.

Electricity generation in Sweden is primarily based on nuclear power and hydro power. In a normal year, these technologies account for over 90 per cent of the electricity generated in the country. The remaining 10 per cent is generated in fossil-fuel fired and bio fuel-fired plants and by wind power plants.

Electricity generation in Sweden is dominated by a limited number of companies. In 2006, the three largest companies, Vattenfall, Fortum and E.ON Sverige, together accounted for 87 per cent of Sweden’s electricity generation. Vattenfall alone was responsible for 45 per cent of the electricity generated.

The Swedish wholesale power market is part of a common Nordic market, which comprises all the Nordic countries except Iceland. In the Nordic electricity market, electricity is traded on the Nordic electricity exchange, Nord Pool. The market share of the four largest electricity generators in the Nordic region, Vattenfall, Fortum, Statkraft and E.ON, was over 50 per cent.

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In 2006, Sweden was a net importer of electricity. The import amounted to 5.8 TWh, which can be compared with the situation in 2005 when Sweden was a net exporter (7 TWh). The Nordic region as a whole was a net importer of electricity in 2006. Net imports amounted to approximately 11.5 TWh during the year. In 2005, the Nordic region was a net exporter, with exports amounting to one TWh of electricity.

Nord Pool Spot is the common physical electricity exchange in Norway, Sweden, Denmark and Finland. Nord Pool Spot also has a German spot bidding area for electricity (KONTEK.), but the turnover is limited on that bidding area. In 2006, over 60 per cent of the physical electricity trading in the Nordic region was conducted on Nord Pool Spot. Nord Pool organises electricity trading in a physical spot market and a financial futures market, and also offers clearing services.

For parts of the year there is a single spot price on the Nordic electricity exchange for the whole region. However, the Nordic electricity network has certain constraints with regard to transmission capacity which sometimes are, or risk to be, congested. Potential congestion within Norway and Denmark and between the Nordic countries is handled by means of market splitting which results in smaller sub-markets in the Nordic electricity market during periods when transmission capacity is not sufficient to meet the needs of the market.

As the system operator (TSO), Svenska Kraftnät is responsible for maintaining balance in the Swedish electricity network. The system responsibility is divided into two functions: balance regulation, the physical regulation up and down with the purpose of maintaining the frequency at 50 Hz, and balance settlement, the settlement of any imbalance for the balance-responsible parties that may arise.

The relationship between Svenska Kraftnät and the balance-responsible parties is regulated by a balance agreement which is at present reviewed annually. A revised Balance Agreement may not be entered into before the conditions in the agreement have been approved by the network authority. 1 The conditions shall be objective and non-discriminatory. A Balance Agreement applies at present from 1 November up to and including 31 October of the following year.

1 Electricity Act 1997:857.

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In the Nordic electricity market, various methods are used to deal with transmission constraints.

Before any congestion management methods can be applied, the TSO:s need to define what transmission constraints exist, based on assessments of security of supply for current generation, consumtion and network configurations. To reduce the risk for overloading or congestion within bidding areas in the operations-planning phase the TSO:s can impose limits on trading capacity for import and/or export to other bidding areas.

Market splitting is then used if necessary to handle congestion between bidding areas that is predicted in the planning phase (day before operation). In the Nordic electricity market this is done through Nord Pool. If the quantity of power the market wishes to transmit between bidding areas exceeds the capacity, the market is split into two or more price areas. This results in a higher price in the deficit area and a lower price in the surplus area, compared to the system price. The increase in supply in the deficit area, leads to a lower price than without the flow from the surplus area and vice versa in surplus area. In the long term, the price signals the need for investments and the need to locate generation capacity in deficit areas and consumption in low-price areas as well as investments in increased transmission capacity.

At present Norway and Denmark are subdivided into three and two bidding areas respectively. Sweden and Finland each represent one bidding area.

Subsequently, counter trading can be used if necessary to deal with congestion that arises in the operating phase. This applies both within and between bidding areas. If the flow of electricity anywhere in the network exceeds the permitted limit, the system operator orders an increase of generation (or decrease of demand) in the deficit area and a reduction of generation (or increase of demand) in the surplus area. The costs of counter trading are born by the system operator and signal the need to strengthen the network.

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2.1.2 Overview of the regulatory authority’s role and responsibilities

The Energy Markets Inspectorate works for efficient energy markets. The operations are regulated by the Government through the Agency’s instructions. 2 The guidelines for current operations are set out in the annual appropriation directions.

According to the instructions of the Swedish Energy Agency, the task of the Energy Markets Inspectorate is to draw up regulations and to decide on matters that concern the duties of the Agency under the Electricity Act, the Natural Gas Act and the Pipelines Act. In addition, the instructions state that the Inspectorate should work to improve the functioning and efficiency of the electricity, natural gas and district heating markets, and also act as an expert authority on matters concerning electricity trading. Furthermore, the Inspectorate should promote the development of the electricity and natural gas markets within the Nordic countries and the EU and help to ensure that electricity and natural gas consumers have the information required in order to make use of the markets exposed to competition.

Core activities of the Energy Markets Inspectorate: - Supervision of network companies in the electricity and natural gas markets - Market monitoring - Information to customers - International collaboration

Network business is a regulated monopoly. The Energy Markets Inspectorate ensures that the network companies comply with the Electricity Act and Natural Gas Act. Among other things, this means supervising network tariffs and granting licences, known as network concessions, for constructing and using power lines and gas pipelines.

The Energy Markets Inspectorate has an overall responsibility for making sure that the network- based energy markets function well. The Inspectorate monitors and analyses developments in the

2 Swedish Energy Agency Ordinance (2004:1200).

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electricity, natural gas and district heating markets. The inspectorate also has an operational role as an expert authority with regard to electricity trading matters.

A central task of the Energy Markets Inspectorate is to create conditions that enable consumers and small and medium-sized companies to be active in the electricity and natural gas markets. The information activities help to strengthen the position of customers in the electricity, natural gas and district heating markets.

The Energy Markets Inspectorate is responsible, in collaboration with other national regulatory authorities, for following and promoting the development of the European electricity and natural gas markets and for working for the creation of equal conditions in the internal European market for electricity and natural gas. The Inspectorate takes part within international work in NordREG, CEER and ERGEG, all of which are cooperative organisations for European supervisory authorities in the energy field.

2.2 Germany

2.2.1 Market description

Short overview of the electricity market in Germany:

• The electricity consumption in 2006 was 540 TWh. 3 • Average growth in consumption has been about 0.9 % per year since 1991. 4 • The electricity production in 2006 was 596 TWh. About 27 % of the production is based on nuclear, 21 % on coal, 23 % on lignite, 12 % on natural gas, 5% and 4 % on hydro. 5 • Total export in 2006 was 66 TWh and total import 46 TWh. 6 • The installed capacity was 124,3 GW in 2006 and the available capacity reached 86.2 GW 7

3 www.vdew.de 4 www.vdew.de 5 about 11 % of electricity production was based on renewables in total ( www.vdew.de , www.erneuerbare-energien.de) 6 www.vdn-berlin.de 7 at the time of annual peak load on 15. December 2005, 17:45h (www.vdn-berlin.de)

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The market is dominated by Germany´s four large electricity companies which are E.ON, RWE, Vattenfall Europe and ENBW. Together they control over 80% of the country´s generating capacity and also a great part of the high-voltage network. Whereas the operators of the high-voltage networks are legally unbundled TSO´s.

Installed generation capacity is relatively evenly distributed throughout Germany. In recent years generation from renewable energy sources (particularly wind) is increasing especially in the Northern part of Germany. In 2006 installed power from wind energy reached more than 20 GW. Additionally, TSOs are faced with a huge number of requests for connection to transmission grid from thermal generation and increasing cross-border trade. This might cause congestion in the German grid in the coming years. However, the actual realisation of internal congestion strongly depends on whether these generation projects are actually realised or not. This is still an open question for most of the offshore wind energy projects and thermal plants.

The German power exchange EEX has organized spot trade since 2000. Since summer 2000 the physical day-ahead Spot Market was established. There are two different possibilities for day- ahead trading. Firstly, the auction market provides the possibility of placing purchase and sales bids for single hours and block bids. Secondly there is a market for continuous block trading where purchase and sales bids for blocks on Base Load and Peak Load can be placed. Additionally on the Futures Market standardized products such as Futures are tradable.

Currently the German power exchange EEX has more than 160 participants in 19 countries. In the futures market traded volume increased to more than 1000 TWh in 2006. The spot market had a turnover of 89 TWh. In September 2006 EEX introduced intraday trading in the German market. Until the end of February 2007 appr. 270 GWh have been traded at the intraday market (25 th Sept. – end of February). Intraday trading is operated 24 hours every day. Trading is possible up to 75 minutes before each hour. 8

8 www.eex.de

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Currently, there is congestion at all the German borders, with the exception of the border with Austria. A non-discriminatory, market-based and coordinated congestion management system has been applied since 1999 between the border between Denmark and Germany and since the beginning of 2006 at the latest, at all the cross-border interconnectors where there is congestion. Improvements in comparison to 2005 were made chiefly as a result of greater coordination of congestion management procedures.

In 2006 Germany was mainly exporting electricity to the Netherlands, Switzerland and Austria, whereas imports mainly originate in Poland, Czech Republic and France. Compared to 2005 the overall amount of exports slightly increased to 58 TWh (56 TWh in 2005) and imports increased to 42 TWh (32 TWh in 2005).

Germany's degree of interconnection in 2006 was 14 percent. This is calculated from the import capacity divided by total generating capability in Germany. Import capacity in 2006 was, on average, 17 GW and generating capability, according to the Association of German electricity network operators ( Verband der Netzbetreiber – VDN – e.V. beim VDEW) 124,3 GW. At 14 percent, the interconnection degree between Germany and its neighbours is clearly higher than the European Council's Barcelona 2002 target of 10 percent.

2.2.2 Overview of the regulatory authority’s role and responsibilities

The new Energy Industry Act (Energiewirtschaftsgesetz – EnWG) entered into force on 13 July 2005 as part of the Second Energy Statutes Reorganisation Act. The goal of the Act is to establish non-discriminatory third party access to networks at charges that are fair and efficient, at the same time ensuring that the grid-based supply of electricity and gas to the public is as secure, reasonably priced, consumer friendly, efficient and environmentally sustainable as possible. It focuses in particular on regulating and unbundling system operation in the electricity and gas markets.

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This reorganisation of German energy law derives to a large degree from the requirement to implement the EU’s so called “acceleration directives” 9 in national law, concrete implementation of which could only begin in 2004, however, as the negotiations of the industry associations had failed.

At the heart of the new Energy Industry Act are the provisions establishing a regulatory authority for energy networks. The Act splits this authority between the central government and the federal states. The Federal Network Agency for Electricity, Gas, Telecommunications, Post and Railway (Federal Network Agency) acts on behalf of the central government, while the federal states each have their own regulatory apparatus. The Federal Network Agency is the successor to the Regulatory Authority for Telecommunications and Posts, a body whose responsibility was limited to the telecommunications and postal markets.

Section 54(3) EnWG gives the Federal Network Agency general authority for implementing the Energy Industry Act. The Agency has primary responsibility for transmission systems, as well as for distribution systems that cross at least one federal state boundary or to which more than 100,000 customers are connected, either directly or indirectly. It also discharges all duties that are not expressly assigned to another authority.

Section 54(2) EnWG lists the duties that the federal states perform “in their own right” within the meaning of Article 83 of the Basic Law. These notably include the regulation of charges (sections 23a and 21a EnWG), the special control of anti-competitive practices including skimming-off additional proceeds (sections 30f and 33 EnWG), the monitoring of unbundling in the case of integrated undertakings (sections 6-10 EnWG), the policing of rules governing connection to the system (sections 17-19 EnWG) and the responsibilities of distribution system operators and gas transmission system operators (sections 14–16a EnWG), and the obligation to determine if a system is used solely to meet the supplier’s own needs (such systems are largely exempt from the provisions of the Energy Industry Act, as per section 110 EnWG).

9 Directive 2003/54/EC of the European Parliament and of the Council of 26 June 2003 concerning common rules for the internal market in electricity and repealing Directive 96/92/EC; Directive 2003/55/EC of the European Parliament and of the Council of 26 June 2003 concerning common rules for the internal market in natural gas and repealing Directive 98/30/EC.

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The Federal Network Agency, for its part, also exercises authority in matters where it is particularly important to have a single national regulator as an efficient means of providing market oversight. This includes such duties as monitoring markets in order to ensure transparency (section 35 EnWG), cooperating with the European Commission and the regulatory authorities of other EU Member States (section 57 EnWG), informing the public about the progress of energy market liberalisation (section 63 EnWG) and devising an incentive-based regulatory model. The Federal Network Agency also performs the duties assigned to the regulatory authorities of the Member States by Regulation (EC) No. 1228/2003 on conditions for access to the network for cross-border exchanges in electricity (as per section 56 EnWG).

The Federal Network Agency and the regulatory authorities of the federal states support each other in discharging their respective duties, while a committee of representatives from the federal states ensures a uniform application of regulatory provisions.

The regulatory decisions of the Federal Network Agency are made by its Ruling Chambers (section 59(1) EnWG). These constitute the “judiciary branch” of the regulator, the aim being to guarantee the independence of its decision-making mechanisms. Each Chamber comprises a chairperson and two associates. They must all be civil servants and hold authority for judicial office or have qualified for the higher civil service grade. The members of the Ruling Chambers may neither own nor manage an energy undertaking, nor may they sit on the management or supervisory board of an energy undertaking.

The headquarters of the Federal Network Agency are in Bonn. Just like its predecessor, the Regulatory Authority for Telecommunications and Posts, it is a higher federal authority within the scope of business of the Federal Ministry of Economics Labour. It is consequently subject to the supervision of the federal ministry in both professional and legal matters. For the purpose of transparency, and owing to their central importance, general instructions from the ministry concerning the issuing or rescinding of orders are to be published in the Federal Gazette (section 61 EnWG), together with an explanatory statement.

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Section 58 EnWG addresses the relationship between the Federal Network Agency and antitrust authorities. The Federal Network Agency and the Federal Cartel Office must endeavour to interpret the Energy Industry Act in a uniform manner and in a way that preserves the link with the Act against Restraints of Competition. The two bodies may, irrespective of the type of proceedings in question, share information including personal data and industrial and commercial secrets, insofar as this information is necessary for them to discharge their duties. Information shared in this way may also be used in proceedings.

Section 58(1), first sentence, lists various instances in which a decision of the Federal Network Agency requires the concurrence of the Federal Cartel Office. In addition, before taking a decision that concerns the regulation of system operation (Part 3 of the Energy Industry Act), the Federal Network Agency must give the Federal Cartel Office, plus the competent authority under the law of the federal state in which the network operator in question is based, the opportunity to comment on the case before proceedings are closed (section 58(1), second sentence).

Section 58(2) EnWG similarly requires that antitrust authorities give the Federal Network Agency opportunity to comment on competition proceedings.

Germany’s new energy legislation has heralded a change in the duties of the Federal Cartel Office. Responsibility for regulating networks in the electricity and gas industries, as well as for unbundling network monopolies from those areas that are subject to competition, has namely been transferred to the regulatory authorities. Under the new Energy Industry Act, the Federal Cartel Office and the competition authorities of the federal states remain responsible for the control of anti-competitive practices in the exchange of electricity, the generation and procurement markets, and the distribution of electricity and gas, as well as for the application of Articles 81 and 82 of the EC Treaty. The Federal Cartel Office also retains responsibility for merger control.

2.3 Poland

2.3.1 Market description

Short overview of the electricity market in Poland:

• The electricity consumption in 2005 was 145,7 TWh.

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• Average growth in consumption has been about 2 % per year since 2001 (2003-2004 – 2,5%). • The electricity production in 2005 was 156,9 TWh. About 60 % of the production is based on coal, 35 % on lignite, 2 % on natural gas and 2 % on hydro. • Total export in 2005 was 16,2 TWh and total import 5 TWh. • The installed capacity was 34 673 MW in 2005 and the available capacity reached 27 800 MW.

Most of the production is in Southern Poland. About 15 % of the electricity production is in CHP plants connected to district heating networks and about 5 % in industrial plants. The capacity situation is favourable at present and Poland is a net exporter of electricity. However, the capacity situation can change when new emission limits for the years 2008-2012 will have entered into force. Much of the current capacity was built in the 1970s. There are about 120 licensed producers. The market share in 2005 of the 3 biggest producers was 62,6 %. The market concentration in Polish generation has changed due to the governmental programme.

The Polish government announced in March 2006 Program for electricity sector which describe the planned actions on restructuring and privatisation of the power sector. The State Treasury owns about 75 % of the generation assets and about 85 % of the distribution assets in Poland. The program assumes vertical consolidation and the creation of several energy groups consisting of generation and distribution companies. According to this programme two of four planned mergers were finalized. PGE S.A. (Polish Energy Group) and Energetyka Poludnie S.A. (Southern Energy Group) were established on 9 th of May 2007. PGE S.A. includes Polska Grupa Energetyczne S.A. (PGE S.A.), BOT Górnictwo I Energetyka S.A. (generation) and PGE Energia S.A. (group of 8 distribution companies and Dolna Odra Generation Group).

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PGE S.A. is one of the main companies in the electricity sector is Polish Power Grid Company (PGE S.A.). The company was created in 1990 as a joint-stock holding company, wholly-owned by the State Treasury. It has holding structure and includes many daughter companies acting in different fields (telecom, IT etc.). For example: PGE-Electra S.A. is a subsidiary to PGE within the scope of trade in electricity and former subsidiary PSE-Operator S.A. is the Polish TSO. The governmental programme assumed restructuring of PGE S.A. which included a demerger of the PGE-Operator S.A. into a separate company. The shares in PSE-Operator S.A. were transferred to the State Treasury on 31 December 2006 and from 1 st of January 2008 PSE-Operator S.A is also the owner of the network assest. The Polish wholesale market is developing slowly. The main part of the electricity trade is provided by the Long Term Power Purchase Agreements (LTPPA) or the other bilateral contracts (on yearly or monthly basis). The Polish Power Exchange (Towarowa Gielda Energii S.A.) has organized spot trade since 2000. The day-ahead auction is at 08:30 a.m. on the day before the delivery day. The traded volume is only 1-2 TWh per year (100-300 MW per hour) and the prices are very stable in the interval at 25-30 EUR/MWh. The main reasons for the insignificant volume and the very stable price on the power exchange are the LTPPA, the scheduling rules by the TSO and the balancing settlement rules.

LTPPA were signed between generators and the state-owned PGE S.A. in the middle of 1990s in order to give stability to the restructuring of the electricity market and to secure bank loans for the generators. PGE S.A. was then a single buyer. Some LTPPA contracts have been terminated, but LTPPA covered still 51 % of total sales in 2005, but this share is smaller now because of expiring of the contracts (in 2006 –about 35 %). The framework of LTPPA is also influencing the bilateral contracts outside LTPPA. The contracts are signed with a fixed formula of prices and the prices are not variable during the day. Recently the Polish Parliament has passed the act of LTPPA termination. The act is already into the force and EC accepted it as a legal state aid programme. After the 1 st of April 2008 all LTPPA´s energy will be available under competition rules.

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Rules regarding balancing and balance settlements are both in the TSO’s grid code and in the codes of the distribution operators. There is a work aiming at common transparent balance settlement rules in Poland focusing on hourly imbalances. Such rules are necessary both for a functioning spot market and for the development of an intra-day market. The new Transmission Grid Code, which came into force 1 June 2006, has reduced the spread between up-regulation and down-regulation prices. 16 TWh was sold by generators in 2005 for balancing purposes. This high percentage for balancing purposes includes power for congestion management purposes. Congestion management within Poland is executed with counter trading since there are no separate price areas in Poland.

The calculation of available transmission capacity is based on calculation of transmission capacity inside the national systems and bilateral agreeing of offered capacities at each border. Available transmission capacity, both for export and import is calculated jointly on three Polish borders – with Slovakia, Czech Republic and Germany. The reason for this solution is difficulties in separate treatment of each border due to existence of loop flows of electricity in the region.

The international trade in the region of Central and Eastern Europe results in an important power flow from Poland to Germany via the Czech Republic. There is also trade with the Nordic region via SwePol Link (1,2 TWh export and 0,8 TWh import in 2005).

The available transmission capacity for the auctions is decreased by the quantities of reserved transmission capacity that are needed to perform historical contracts. In 2004, the reduction was maximally 1102 MW. In the end of 2005, the reduction was maximally 700 MW.

The need to restrict flows within Poland in order to maintain system security decreases often the available transmission capacity. During the last winter, the available transmission capacity to Sweden was most often decreased to 300 MW.

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2.3.2 Overview of the regulatory authority’s role and responsibilities

The President of the Energy Regulatory Office (ERO) fulfils the duty of the Regulator according to the Energy Law and Directives 2003/54/EC and 2003/55/EC. The regulatory mission has been carried out since 1997. The President of ERO fulfils his duties imposed by law with the assistance of the Energy Regulatory Office. ERO employed 277 people in October 2005. The 2005 budget for ERO included 77 MPLN in revenues (mostly licence fees) and 31, 6 MPLN in expenditures. The duties include:

• Promoting competition on the electricity and gas markets. • Appointing of transmission and distribution system operators. • Approving of the grid code in the parts related to balancing and congestion management. • Approving and monitoring electricity, heat and gaseous fuels tariffs. • Agreeing development plans of network energy undertakings, granting permissions for construction of pipelines or direct connections. • Dispute settlement regarding the execution of TPA and monitoring the performance of electricity and gas markets. • Granting and withdrawal of licences for energy activities of undertakings, including liquid and gaseous fuels. • Imposing fines on energy undertakings for abusing legal obligations. • Issuing and revoking of certificates of origin of green (renewable) energy (RES).

The President of ERO is not responsible for secondary legislation, market model and design definition, ownership structure and definition of information required for the wholesale market.

The supervision of energy markets is divided between the following bodies of the governmental administration:

• The Minister of the Economy within his scope of elaboration of energy policy directions including energy security. • The Minister of the State Treasury within his scope of ownership supervision and ownership transformation in the energy sector.

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• The President of ERO is the main body supervising the electricity and fuel markets and fulfils duties regarding the functioning of the fuel and energy markets and promoting competition. • The President of the Office for Competition and Consumer Protection fulfils duties according to the regulations of the Law on Competition and Consumer Protection. The office carried out 13 antimonopoly proceedings in 2005 against energy undertakings regarding practices limiting competition.

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3 Interconnectors between Sweden and Continental Europe

3.1 Background

There are three merchant lines that interconnect the electric power grids between the Nordic countries and other EU-countries. These are Baltic Cable connecting Sweden with Germany, Estlink connecting Finland with Estonia and SwePol Link connecting Sweden with Poland.

For the merchant lines SwePol Link and Baltic Cable there are specific circumstances regarding the ownership, priority rights to the cable capacity and the legal situation that have brought up the issue for further investigation and discussion.

3.2 Baltic Cable

3.2.1 History, ownership and legal structure

Baltic Cable is a merchant line linking Sweden and Germany. The link became operational in December 1994 and is operated by Baltic Cable AB which is a joint venture company owned by E.ON Sverige AB (1/3) which is a part of the private E.ON Group and Statkraft Energi AS (2/3) which is a part of the state-owned Statkraft group in Norway.

3.2.2 Utilisation of the interconnector, capacity allocation and third party access

The investors of Baltic Cable AB have financed the cable and in return have priority rights of using the total capacity of 600 MW but unused capacity can be sold to third parties that fulfil the conditions set up by Baltic Cable AB to be an approved counterparty. The conditions are that the third party must be balance-responsible party to Svenska Kraftnät (the Swedish TSO) and E.ON Netz (the German TSO) and fulfil the conditions set up by Baltic Cable AB regarding financial stability and creditworthiness. The shareholders trade via Baltic Cable independently of each other.

The allocated capacity for trade on the cable is fixed on a daily basis by the German and Swedish TSO:s.

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3.2.3 Circumstances limiting the use of the interconnector

The full nominal transmission capacity of Baltic Cable (600 MW) is not always available for utilisation. The main reason for this is limited capacity allocation from the Swedish and German TSO:s.

On the other hand, there are circumstances that limit the possibility to utilise the transmission capacity that is available in a fully rational way (i.e. transporting power from the low price area to the high price area) at all times. The main reason for this is ramping and that the nomination of capacity has to be done before the market prices are set on the power exchanges since there currently is no market coupling 10 between the German and Nordic markets.

3.2.4 Circumstances limiting third party access

The two shareholders of the cable company have priority rights to the capacity on Baltic Cable and in practice the owners have used the available capacity and not sold any capacity to third parties.

See also Annex 1 - description from the cable owners.

3.3 SwePol Link

3.3.1 History, ownership and legal structure

10 Work to introduce market coupling between the German and the Nordic Market is currently carried out within the EMCC-project.

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SwePol Link is a “merchant line” with a transmission capacity of 600 MW linking Sweden and Poland. The link became operational in 2000 and is operated by SwePol Link AB which is a joint venture company owned by the Swedish TSO Svenska Kraftnät (51%) and the Swedish stateowned company Vattenfall AB (16%) and Polish Power Grid Company Polskie Sieci Elektroenergetyczne SA (33%).

3.3.2 Utilisation of the interconnector, capacity allocation and third party access

The right of using the total capacity of 600 MW is allocated to Vattenfall AB in a long-term contract concluded with the operator in connection with the investment in the interconnector. The operator has three different options to sell capacity to third parties. However, due to technical reasons and the complex contractual structure between parties involved in the connection of and access to and from SwePol Link on the Polish side, there are severe difficulties to sell capacity to third parties 11 .

3.3.3 Circumstances limiting the use of the interconnector

The full nominal transmission capacity of SwePol Link (600 MW) is not always available for utilisation. The main reason for this is limited capacity allocation from the Swedish and Polish TSO:s.

On the other hand, there are circumstances that limit the possibility to utilise the transmission capacity that is available in a fully rational way (i.e. transporting power from the low price area to the high price area) at all times. The main reasons for this are:

a) Administrative 12 and technical restrictions when scheduling the utilisation (see Annex 2).

11 The involved parties SwePol Link and PSE Operator are of completely different opinion regarding this circumstance. The representatives of SwePol Link has experienced that the possibility in practice to gain access to the Polish national grid is the limiting factor to third party access. PSE Operator and the regulator in Poland assert that there are no difficulties to get access to the Polish national grid. 12 The administrative restriction is that the power flow scheduling must be done before 10.30 the day before operation requested by the Polish rules for scheduling.

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b) Currently not possible to introduce market coupling between the Polish and Nordic markets due to low liquidity on the Polish Power Exchange´s spotmarket and different gate closure times at the Polish and Nordic Power Exchanges. c) Polish balancing market model includes only day ahead planning due to existing internal congestions.

3.3.4 Circumstances limiting third party access

Vattenfall AB has the priority rights to the vast majority of the capacity on SwePol Link. In practice the owners have used the available capacity and capacity has not been sold to third parties. See also paragraph 3.3.2.

See also Annex 2 - description from the cable owners.

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4 The EC legislative framework and interpretation of the legal situation regarding the cables

4.1 Regulators view of the interpretation of the legal situation

4.1.1 Background

Baltic Cable and SwePol Link are “merchant lines”. In the case of Baltic Cable the cable is operated on a basis that the capacity is in first place reserved to the owners (Statkraft Energi AS and E.ON Sverige AB). The owners of Baltic Cable have the exclusive right to utilise as much capacity that they whish (of course within the scope of available capacity) before any capacity is offered to third parties on a day to day basis. In the case of SwePol Link, there are three options for SwePol Link to offer capacities to others as described in Annex 2. Two of these options (A and B) can be utilised before Vattenfall AB and PGE SA decides wether to use the capacity on the link or not.

Interconnectors fall under the scope of Regulation No 1228/2003 of the European Parliament and of the Council of 26 of June 2003 on conditions for access to the network for cross-border exchanges in electricity. The regulation aims at setting fair rules for cross-border exchanges in electricity, thus enhancing competition within the internal electricity market, taking into account the specificities of national and regional markets. This involves the establishment of a compensation mechanism for cross border flows of electricity and setting up harmonised principles on cross- border transmission charges and the allocation of available capacities of interconnections between national transmissions systems. In Article 8(4) the Regulation provides for the Commission to “… amend the guidelines on the management and allocation of available transfer capacity of interconnections between national systems set out in the Annex…”. On 9 November 2006 the Commission amended the existing guidelines. These amended guidelines entered into force in 1 December 2006.

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Interconnectors also fall under the scope of the Directive 2003/54/EC of the European Parliament and of the Council of 26 June 2003 concerning common rules for the internal market in electricity. The Directive establishes common rules for the generation, transmission, distribution and supply of energy and lays down rules relating to the organisation and functioning of the electricity sector, access to the market, the criteria and procedures applicable to calls for tenders and the granting of authorisations and the operation of systems. The Directive 2005/89/EC of the European Parliament and of the Council of 18 January 2006 concerning measures to safeguard security of supply and infrastructure investment is also applicable to interconnectors. This Directive establishes measures aimed at safeguarding security of supply so as to ensure the proper functioning of the internal market for electricity and to ensure: a) an adequate level of generation capacity; b) an adequate balance between supply and demand; and c) an appropriate level of interconnection between Member States for the development of the internal market. It establishes a framework within witch Member States are to define transparent, stable and non-discriminatory policies on security of supply compatible with the requirements of a competitive market for electricity.

Finally general competition rules apply to interconnectors, in particular Article 81 EC and the prohibition of abuse of a dominant position in Article 82 EC.

This chapter describes the relevant EC legislative framework on Interconnectors and draws a conclusion of the current legal situation as regards SwePol Link and Baltic Cable 13 .

4.1.2 The relevant Community legislation

Article 86 EC provides in relevant excerpts:

1. In the case of public undertakings and undertakings to which Member states grant special or exclusive rights, Member states shall neither enact nor maintain in force any measure contrary to the rules contained in this Treaty, in particular those rules provided for in Article 12 and in Articles 81 to 89.

13 Parts of the interpretation of the legal situation and the conclusions made from the case VEMW has been made by Ulf Öberg, Öberg & Associe´s

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2. Undertakings entrusted with the operation of services of general economic interest… shall be subject to the rules contained in this Treaty, in particular to the rules of competition, in so far application of such rules does not obstruct performance, in law or in fact, of the particular tasks assigned to them. The development of trade must not be affected to such an extent as would be contrary to the interests of the Community.

Directive 2003/54/EC provides in relevant articles:

Article 2, Definitions;

4. ´transmission system operator` means a natural or legal person responsible for operating, ensuring the maintenance of and, if necessary, developing the transmission system in a given area and, where applicable, its interconnections with other systems, and for ensuring the long term ability of the system to meet reasonable demands for the transmission of electricity.

Article 8, Designation of Transmission System Operators;

Member States shall designate, or shall require undertakings which own transmission systems to designate, for a period of time to be determined by Member States having regard to considerations of efficiency and economic balance, one or more transmission system operators. Member States shall ensure that transmission system operators act in accordance with Articles 9 to 12.

Article 9, Tasks of Transmission System Operators;

Each transmission system operator shall be responsible for: (e) ensuring non-discrimination as between system users or classes of system users, particular in favour of its related undertakings;

Article 20, Third party access;

1. Member States shall ensure the implementation of a system of third party access to the transmission and distribution systems based on published tariffs, applicable to all eligible customers and applied objectively and without discrimination between system users. Member States shall ensure that these tariffs, or the methodologies underlying their calculation, are approved prior to their entry into force in accordance with Article 23 and that these tariffs, and the methodologies — where only methodologies are approved — are published prior to their entry into force.

2. The operator of a transmission or distribution system may refuse access where it lacks the necessary capacity. Duly substantiated reasons must be given for such refusal, in particular having regard to Article 3. Member States shall ensure, where appropriate and when refusal of access takes place, that the transmission or distribution system operator provides relevant information on measures that would be necessary to reinforce the network. The party requesting such information may be charged a reasonable fee reflecting the cost of providing such information.

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Article 3 (8) provides a safeguard clause regarding obligations imposed on in general economic interest, which reads as follows:

(8) Member States may decide not to apply the provisions of Articles 6, 7, 20 and 22 insofar as their application would obstruct performance, in law or in fact, of the obligations imposed on electricity undertakings in the general economic interest and insofar as the development of trade would not be affected to such an extent as would be contrary to the interests of the Community. The interests of the Community include, amongst others, competition with regard to eligible customers in accordance with this Directive and in Article 86 of the Treaty.

Regulation No 1228/2003

Article 6 of the regulation on General principles of Congestion Management is, in its relevant parts, worded as follows:

1. Network congestion problems shall be addressed with non-discriminatory market based solutions which give efficient economic signals to the market participants and transmission system operators involved. Network congestion problems shall preferentially be solved with non transaction based methods, i.e. methods that do not involve a selection between the contracts of individual market participants.

6. Any revenues resulting from the allocation of interconnections shall be used for one or more of the following purposes: (a) guaranteeing the actual availability of the allocated capacity; (b) network investments maintaining or increasing interconnection capacities; (c) as an income to be taken into account by regulatory authorities when approving the methodology for calculating network tariffs, and/or in assessing whether tariffs should be modified.

The Commissions amended Guidelines on the management and allocation of available transfer capacity of interconnections between national systems contain a series of rules witch aim at efficient use of the European electricity network with full respect to security requirements. They aim at introducing efficient methods of Congestion Management for cross-border electricity interconnection capacities in order to ensure effective access to transmission systems for the purpose of cross-border transactions. According to the Commission, they will lead to harmonisation of the cross-border trade in Europe, allowing different products to be traded with different durations from yearly down to intra-day timeframes.

According to point 1.1 of the General Provisions, TSO:s shall endeavour to accept all commercial transactions, including those involving cross border trade. Congestion management methods shall be market based in order to facilitate efficient cross border trade, point 2.1. For this purpose, capacity shall be allocated only by means of explicitly (capacity) or implicit (capacity and energy) auctions. Transparency is another central topic in the guidelines. A full set of information on the transmission network, on electricity trade and flows, as well as on power plants need to be published in order to create a level playing field for market participants.

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The regulation also contains provisions to allow private investment in interconnectors (“merchant lines”), as the existence of sufficient interconnector capacity is essential for the development of an integrated market. To this end, new interconnectors (DC lines only) may be exempted from the rules on how revenues from capacity allocation are spent as well from provisions relating to non- discriminatory network access. Article 7 of the regulation on New interconnectors states to that effect the following:

1. New direct current interconnectors may, upon request, be exempted from the provisions of Article 6(6) of this Regulation and Articles 20 and 23(2), (3) and (4) of Directive 2003/54/EC under the following conditions: (a) the investment must enhance competition in electricity supply; (b) the level of risk attached to the investment is such that the investment would not take place unless an exemption is granted; (c) the interconnector must be owned by a natural or legal person which is separate at least in terms of its legal form from the system operators in whose systems that interconnector will built; (d) charges are levied on users of that interconnector; (e) since the partial market opening referred to in Article 19 of Directive 96/92/EC, no part of the capital or operating costs of the interconnector has been recovered from any component of charges made for the use of transmission or distribution systems linked by the interconnector; (f) the exemption is not to the detriment of competition or the effective functioning of the internal electricity market, or the efficient functioning of the regulated system to which the interconnector is linked.

Under Article 2 of the Regulation, Definitions, a ´new interconnector´ means an interconnector not completed by the date of entry into force of the Regulation, i.e. on 4 august 2003.

Directive 2005/89/EC

According to Article 1 (c) the Directive establishes measures to ensure an appropriate level of interconnection between Member States for the development of the internal market. In ensuring this Member States shall, according to Article 3 (5) ensure that existing interconnectors are used as efficiently as possible.

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4.1.2 The judgement of the European Court of Justice in Case C-17/03 VEMW and others ECR I-4983

Until the Dutch electricity market was opened up, an undertaking (SEP) formed by four regional electricity producers dominated the electricity market in the Netherlands. This undertaking was entrusted with services of general economic interest. The undertaking (SEP) subsequently transferred the operation of the national high-voltage grid to a subsidiary, TenneT BV. Within the framework of its services of general economic interest, and in order to meet demand for electricity in the Netherlands the undertaking (SEP), concluded long-term electricity supply contracts with foreign suppliers. The longest of these contracts expires in 2009. The duration of those contracts extended beyond the time the market was progressively opened up. As interconnection capacity in the Netherlands is limited, the Netherlands legislature furthermore afforded SEP preferential status in relation to the allocation of importation capacity after the market had been opened up. The preferential allocation of electricity transport capacity via cross-border systems afforded to SEP was subject of administrative objections to the Dutch regulator (DTE). The claimants in the main proceedings brought an action against the decision of DTE and alleged that the national provisions concerned distorted competition to their detriment and constituted an infringement of the principles of equal treatment contained in Directive 96/92/EC of the European Parliament and of the Council of 19 December 1996 concerning common rules for the internal market in electricity. In those circumstances two questions where referred to the Court for a preliminary ruling.

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In its judgement, the Court held that priority access to a portion of the capacity for the cross-border transmission of electricity conferred on an operator by reasons of commitments assumed before the Directive entered into force, but without compliance with the procedure set out in Article 24 of the Directive, must be regarded as being discriminatory within the terms of Articles 7 (5) and 16 of the directive and as therefore being contrary to those articles. The Court stressed that the Directive contains provisions, which allow taking into account of the special situations of traders within the context of the liberalisation of the market in electricity. The Directive offered Member States, in particular in Article 24, the possibility of applying for derogations from Articles 7 (5) and 16 with regard to operating commitments or guarantees granted before the Directive entered into force. The Netherlands did not avail itself that possibility. Regarding the impact of long-term contracts concluded before the regulation entered into force the Court concluded that the existence of long term-contracts does not as such authorise breach of the rules of the Directive on the ground that such break is necessary in order to honour those contracts. Furthermore, revocation of those contracts would merely be an indirect and potential consequence of the Directive. Following the ECJ`s ruling TenneT decided to make the reserved capacity (750 MW) available to the market as of September 1, 2005.

4.1.3 Legal conclusion as regards SwePol Link and Baltic Cable

SwePol Link and Baltic Cable were both in operation on 4 August 2003 and are therefore to be regarded as existing interconnectors according to the Regulation No 1228/2003. Existing interconnectors fall under the general scope of the Regulation. In principle, all potential market participants shall be permitted to participate in the allocation process without restriction. Furthermore, in Article 20 of Directive 2003/54/EC, third party access has to be granted on a non- discriminatory basis. TSOs and DSOs have to ensure non-discrimination as between system users or classes of system users, particularly in favour of related undertakings.

In the case of Baltic Cable the cable is operated on a basis that the capacity is in first place reserved to the owners (Statkraft Energi AS and E.ON Sverige AB). The owners of Baltic Cable have the exclusive right to utilise as much capacity that they wish (of course within the scope of available capacity) before any capacity is offered to third parties on a day to day basis. In the case of SwePol Link, there are three options for Swe Pol Link AB to offer capacities to others as described in Annex 2. Two of these options (A and B) can be utilised before Vattenfall AB and PGE SA decides whether to use capacity on the link or not.

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The conclusion of the four regulators (EMI-Sweden, DERA-Denmark, BnetzA-Germany and Uregov – Poland) is that the current operation of both SwePol Link and Baltic Cable cannot continue and that they have to make any reserved capacity available to the market. This conclusion is also in line with the view of the Commission Staff. On April 26 the Commission issued a Commission Staff Working Document on the decision C-17/03 of 7 June 2005 of the Court of Justice of the European Communities on Preferential Access to Transport Networks under Electricity and gas Internal Market Directives. The Commission staff recalled that Directive 2003/54 has replaced Directive 96/92. Directive 2003/54 as well as Regulation No 1228/2003 both provide for, in substance, identical principles to Directive 96/92 as regard non-discriminatory access to electricity transmission and distribution networks. As a consequence, the Commission staff is of the view that the grant to an undertaking of preferential transmission or distribution capacities must be considered as being discriminatory and is precluded by Directive 2003/54 and Regulation No 1228/2003.

The Commission Staff also recalled that Directive 2003/54 does not longer provide for any specific derogation in relation to the application of non-discriminatory rules to historical long-term supply and capacity reservation contracts. Indeed the derogation in Article 24 (Directive 96/92) could only apply to commitments taken before the 19 February 1997. Applications had to be notified to the Commission before February, 19 1998. According to the Commission Staff, no Member State has requested to benefit from this derogation for long-term contracts within the deadline.

4.2 Baltic Cable AB´s position on the legal status fo Baltic Cable vs EC law

4.2.1 Summary

Baltic Cable AB is an existing merchant cable, and has been in operation since 1994. Our view is that such cables are not covered by Regulation 1228/2003 (including its Annex), nor Directive 2003/54 nor its predecessor Directive 96/92. Neither does the VEMW case (judgement of the European Court of Justice in Case C-17/03 VEMW and others ECR I-4983) have any bearing on the ownership or operation of Baltic Cable. In the final event, the only EU legal principles potentially relevant for Baltic Cable are Articles 81 and 82 of the EU Treaty, and the operation of Baltic Cable AB does not give rise to any breach of these articles. The reasoning for this position is outlined below.

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4.2.2 Baltic Cable under EC law

4.2.2.1 Regulation 1228/2003

This regulation is addressed to TSOs. Baltic Cable AB is not a TSO, and therefore not covered by this regulation.

Cross Border Mechanisms are also addressed to TSOs.

The purpose of this regulation is to prevent TSOs from using income earned on national transmission network to finance merchant cables for dedicated use. Art 6 in the regulation requires TSOs to ring fence interconnecting income. Art 7 allows an exemption for TSOs from Art 6. It also allows new investors including TSOs to set up a separate legal company to construct merchant cables using the congestion income raised through fees charged for the use of these cables. Examples here are BritNed and Estlink.

As for Baltic Cable’s opportunity to apply for an exemption according to the Regulation, this is not an option provided in the Regulation. This latter only foresees an exemption procedure for new cables as defined in the Regulation, and not existing cables. Applying for an exemption is therefore neither possible nor relevant at present, not was it an option when the Regulation came into force. A Regulation does not have retrospective effect unless this is explicitly mentioned, which is not the case here. The Regulation therefore cannot apply to existing interconnectors that are not owned or operated by TSOs.

The Regulation does, however, recognize in its Annex that existing long term contracts can remain valid as long as they do not conflict with the EC Treaty competition rules, Articles 81 and 82. The Regulation therefore does not require the termination of existing contracts reserving capacity on an interconnector.

The VEMW ruling (judgement of the European Court of Justice in Case C-17/03 VEMW and others ECR I-4983)

The ruling of the European Court of Justice in the 'Dutch Import Contracts' case of June 2005 only dealt with national or state measures requiring priority reservation in international interconnectors for certain import contracts. It did not deal with private, commercial contracts. The Court held that such national or state measures could not be justified because the First Directive of 1996 had

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provided for a special exemption procedure for contracts which related to 'stranded investments'. As the operations of Baltic Cable are not in any way dictated by state measures (whether Swedish or German) the Court's ruling is not applicable to the present situation which is governed by private commercial contracts. Baltic Cable could not have benefited from the exemption procedure provided for under the First Directive. It is therefore incorrect to rely on the VEMW Case.

Ownership and designated TSO

There is no requirement in EU legislation that merchant cables be owned or operated by a TSO. Therefore it cannot be required that it should be transferred to a TSO. Furthermore it has to be recalled that for cross-border interconnectors more than one TSO is involved. Even if implementing national law went further than the Directives and the Regulation and required that TSOs operate all interconnectors it would still have to be determined whether under national law the national TSO had jurisdiction beyond the 12 mile zone to regulate any part of an underwater cable.

In theory Baltic Cable AB could be appointed by the national regulators as a TSO - but there is no express requirement in the Directive or in the Regulation to this effect. If Baltic Cable AB is not a designated (or appointed) TSO - it does not have to comply with those rules and principles which the Directive and the Regulation direct TSOs to follow on third party access conditions. As Baltic Cable AB is not a TSO its activities do not appear to fall under the standard regulatory regimes administered by the national regulators.

Allocation and pricing of spare capacity on the Baltic Cable – Articles 81 and 82 EC

As stated above Baltic Cable AB is not a TSO cable or investment: it is operated on a private commercial basis. The Regulation provides for certain rules and principles on congestion management for TSOs. As long as Baltic Cable AB is not a TSO cable it can be argued that it is not subject to these rules as such.

At the same time these rules are based on certain fundamental principles of EC competition law. Even if Baltic Cable AB is not a designated TSO for the purposes of the Directive and the Regulation, it is still potentially subject to the provisions of Articles 81 (prohibition on cartel agreements) and 82 EC (prohibition on abuse of a dominant position).

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Article 82 EC - prohibition on abuse of a dominant position

The following are relevant considerations in this light:

Baltic Cable is not dominant: • Baltic Cable does not enjoy a dominant position on the Nordic Market - the capacity of the cable is only 600 MW. It is therefore very doubtful that Article 82EC can be applicable. • The Baltic Cable is not an 'essential facility' - there are many alternative transport routes within the Nordic market and from the Nordic market to Continental Europe.

Only a dominant party can be found guilty of abuse - even if in the unlikely event that Baltic Cable might be found to dominant it is very doubtful that the operation of the cable could be considered abusive:

• There is no hoarding - capacity is used for market based exchange. • Baltic Cable functions efficiently - price differences between the Nord Pool and the German Electricity Exchange dictate the direction of the flow of power.

Article 81 EC - prohibition on cartel agreements

It is also unlikely that Baltic Cable AB operations are contrary to Article 81.

As a general principle Article 81 only applies to agreements which appreciably affect trade between the Member States. Given the size of Baltic Cable, it is doubtful that the contracts have an appreciable affect on trade in the Nordic market (as the Commission has already recognised for an interconnector of similar dimensions - 600MW - in its decision on the Viking Cable in 1999).

Long term contracts are not declared to be void under the Directive or Regulation - indeed the Annex to the Regulation recognises their continued validity (see above); Long term contracts only give rise to competition law problems under Article 81 if they result in market foreclosure - ie. that they result in third parties/competitors not gaining access to an upstream/downstream market. It is difficult to see that Baltic Cable can contribute to market foreclosure in the sense this concept is applied in European competition law. Baltic Cable makes spare capacity (i.e. capacity not used by the shareholders) available to third parties on its website where the terms, conditions and tariffs

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are set and published by Baltic Cable AB. Capacity is presently made available on a first-come- first served basis.

It follows that Baltic Cable AB makes all capacity which is not reserved to its shareholders available to the market via a transparent procedure. Third parties have potential access to the markets in Sweden and Germany.

In its dealings with long term contracts reserving capacity in long distance gas pipelines to date, the Commission has accepted that existing contracts for capacity reservation are not problematic under Article 81 or 82 EC and that there is no market foreclosure, if all spare capacity (not booked by parties owning the pipeline facility) is made available to the market on a transparent and non- discriminatory basis; and there is no hoarding - i.e. no unjustified reservation of capacity which should really have been declared to be ' spare' because in practice it is not used by the parties to the contracts.

The underlying principle governing the physical flow is that it is dictated by the price difference between the two markets, i.e. Sweden and Germany; it should go from the low price area to the high price area. There is therefore no opportunity open to Baltic Cable AB for hoarding - neither technically nor economically.

4.3 SwePol Link AB´s position on the legal status of SwePol Link vs EC law

As other members of the implementation group already have stated, the current operation of SwePol Link does not give rise to any breach of EU law. The reasons for this have been lined out by other members. SwePol Link AB it self would never the less like to line out some of the reasons.

Priority Right Part of Financing Arrangement

Vattenfall committed to purchase transmission capacity of SwePol Link in 1997, making construction of SwePol Link financially possible. In return for effectively guaranteeing a certain level of income to the project, Vattenfall was given a priority right to purchase a certain amount of capacity. Without this guaranteed income stream, construction of SwePol Link could not have taken place. Moreover, Vattenfall’s transmission purchase undertaking acts as an income stream guarantee to SwePol Link’s bank creditor, and is essential to that creditor’s willingness to continue

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financing SwePol Link. This bank debt will not be fully repaid by SwePol Link until 2020, and if Vattenfall’s obligation to purchase the agreed amount of transmission capacity is reduced or eliminated prior to that date, SwePol Link will be in default under its debt obligations and at risk of bankruptcy.

Retroactive Requirements

A regulation does not have retrospective effect unless this is explicitly mentioned. The transmission capacity purchase arrangement for SwePol Link was agreed and signed with Vattenfall on 3 October 1997. SwePol Link went into operation on 2 August 2000. The relevant legislation, regulations and guidelines cited in this Status Report were enacted between June 2003 and November 2006, and, according to Article 2 of Regulation No. 1228/2003, are applicable to any interconnector in operation on 4 August 2003. However, Vattenfall’s transmission purchase undertaking pre-dates both the enactment of the relevant legislation and 4 August 2003. Moreover, this kind of a capacity purchase undertaking arrangement was not uncommon in order to finance the construction and operation of a merchant line at the time it was agreed and entered into, and it was absolutely necessary to the building of SwePol Link at that time. It has been noted that Member States could have applied for derogation under Article 24 (Directive 96/92), but such derogation could have been requested only with respect to commitments taken before 19 February 1997. In this case, the relevant commitments of SwePol Link and Vattenfall were entered into in October 1997, after the cut-off date for a request for derogation, but long before the legislation and regulations particularly at issue here were enacted.

Third Party Access

Any party other than Vattenfall can purchase up to 50 MW transmission capacity from SwePol Link. From 2010 any party can purchase up to 300 MW. Any party other than Vattenfall can purchase all transmission capacity not to be used by Vattenfall on an hourly basis. SwePol Link has offered to sell capacity to a number of interested third parties. As of today no one has made such a purchase. The reason given for this is problems for these parties in utilizing the capacity in a commercially sensible way while complying with the functioning of the Polish market. Therefore, even if SwePol Link and Vattenfall agreed that Vattenfall should be released from its obligation to purchase transmission capacity and SwePol Link tried to sell capacity to third parties in order to meet the requirement that this reserved capacity be made available to the market, no third party would buy that transmission capacity in place of Vattenfall. The result would be that SwePol Link

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would not be able to sell any transmission capacity to any third party, and much of SwePol Link’s capacity would go unused. The Commission’s intention is to promote the openness of the electricity transmission market to all parties on an equal basis; however, the functioning of the Polish market is a barrier to third parties’ attempting to utilize the capacity of SwePol Link. Reducing Vattenfall’s capacity rights would not improve the ability of third parties to utilize SwePol Link capacity, and so would not advance the Commission’s goal or address its intent in any way.

Proportionality

The current operation of the interconnector should be allowed to continue because there are no third parties willing to purchase transmission capacity from SwePol Link, and Vattenfalls obligation to purchase SwePol Link’s capacity is what allows SwePol Link to meet its costs and financial obligations in order to keep operating. To apply and enforce rules on SwePol Link which would cause the company to go bankrupt would go beyond what is necessary to achieve the objectives of the legislation and regulations particularly at issue here.

4.4 Svenska Kraftnät´s legal position concerning SwePol Link AB

About SwePol Link

SwePol Link AB (hereinafter SPL) is an existing merchant line (i.c. a 600 MW DC cable) between Sweden and Poland.

Initially SPL was owned 51% by Svenska Kraftnät (hereinafter SvK), 48% by Vattenfall AB (hereinafter VAB) and 1% by PGE SA (hereinafter PGE) Under the last 10 years the ownership situation changed and the current ownership structure is the following: SvK 51% PGE 33% VAB 16%

The transmission capacity purchase arrangement for SPL was agreed and signed with VAB on 3 October 1997. SwePol Link went into operation on 2 August 2000.

Financing arrangement of SwePol Link

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VAB committed to purchase transmission capacity of SPL in 1997, making construction of SPL financially possible. In return for effectively guaranteeing a certain level of income to the project, VAB was given a priority right to purchase a certain amount of capacity. Without this guaranteed income stream, construction of SPL could not have taken place. Moreover, VAB’s transmission purchase undertaking acts as an income stream guarantee to SPL’s bank creditor, and is essential to that creditor’s willingness to continue financing SPL. This bank debt will not be fully repaid by SPL until 2020, and if VAB’s obligation to purchase the agreed amount of transmission capacity is reduced or eliminated prior to that date, SPL will be in default under its debt obligations and at risk of bankruptcy.

Applicable EC legislation

Regulation 1228/2003/EC of the European Parliament and of the Council of 26 June 2003 on conditions for access to the network for cross-border exchanges in electricity

Regulation 1228/2003/EC is applicable to any interconnector (according to article 2 of this regulation defined as “a transmission line which crosses or spans a border between Member States and which connects the national transmission systems of the Member States”) in operation on the 1st of July 2004.

Article 6 of the regulation contains rules governing congestion management. Point 6 of this article tries to regulate the way TSOs are allowed to use revenues resulting from the allocation of scarce interconnection capacity. This income shall be used for one or more of the following purposes:

(a) guaranteeing the actual availability of the allocated capacity; (b) network investments maintaining or increasing interconnection capacities; (c) as an income to be taken into account by regulatory authorities when approving the methodology for calculating network tariffs, and/or in assessing whether tariffs should be modified

Article 8.4 of the same regulation opens the possibility for the European Commission to, where appropriate and in accordance with the comitology procedure, amend the guidelines on the management and allocation of available transfer capacity of interconnections between national systems set out in the Annex, in accordance with the principles set out in Articles 5 and 6, in particular so as to include detailed guidelines on all capacity allocation methodologies applied in

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practice and to ensure that congestion management mechanisms evolve in a manner compatible with the objectives of the internal market. Based on this competence the Commission has on the 9th of November 2006 adopted guidelines on the management and allocation of available transfer capacity of interconnections. These guidelines entered into force on the 1 st of December 2006.

Article 6 of these guidelines contains a detailed prescription about how to use the congestion income as stipulated in article 6 of the regulation above. a) Congestion management procedures associated with a pre-specified timeframe may generate revenue only in the event of congestion which arises for that timeframe, except in the case of new interconnectors which benefit from an exemption under Article 7 of the Regulation. The procedure for the distribution of these revenues shall be subject to review by the Regulatory Authorities and shall neither distort the allocation process in favour of any party requesting capacity or energy nor provide a disincentive to reduce congestion. b) The congestion income shall be shared among the TSOs involved according to criteria agreed between the TSOs involved and reviewed by the respective Regulatory Authorities. c) TSOs shall clearly establish beforehand the use they will make of any congestion income they may obtain and report on the actual use of this income. Regulatory Authorities shall verify that this use complies with the present Regulation and Guidelines and that the total amount of congestion income resulting from the allocation of interconnection capacity is devoted to one or more of the three purposes described in Article 6(6) of Regulation. d) The use of congestion income for investment to maintain or increase interconnection capacity shall preferably be assigned to specific predefined projects which contribute to relieving the existing associated congestion and which may also be implemented within a reasonable time, particularly as regards the authorisation process.

Article 7 of Regulation 1228/2003 allows however an exemption for one category of interconnectors, namely new interconnectors/merchant lines (an interconnector not completed by the date of entry into force of this Regulation)

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These interconnectors are, upon request, exempted from the applicability of the provisions of article 6 of the regulation.

Derogation

Nowadays Directive 2003/54 of the European Parliament and the Council of 26 June 2003 concerning common rules for the internal market in electricity, establishing among other things common rules for transmission of electricity has entered into force and is together with the abovementioned regulation 1228/2003 the valid legislation concerning electricity matters.

In this perspective it could be argued, like the Swedish Energy Inspectorate does, that existing merchant lines can’t be treated in the same way as new interconnectors on which, if opted, the derogation of article 7 of the regulation applies. SvK does however not share this opinion.

During the period the transmission capacity purchase arrangement for SPL was agreed and signed between the involved parties (on the 3 rd of October 1997) it was another legal regime which was applicable. Then it was Directive 96/92 of the European Parliament and of the Council of 19 December 1996 concerning common rules for the internal market in electricity which was the prevailing legislation. Under this Directive there was a derogation in article 24 given for those member states in which commitments or guarantees of operation given before the entry into force of this Directive may not be honored on account of the provisions of this Directive may apply for a transitional regime which may be granted to them by the Commission, taking into account, amongst other things, the size of the system concerned, the level of interconnection of the system and the structure of its electricity industry.

In case of SPL it was (if it would be necessary to have a derogation at all, because this kind of a capacity purchase undertaking arrangement was not uncommon in order to finance the construction and operation of a merchant line at the time it was agreed and entered into, and it was absolutely necessary to the building of SwePol Link at that time) however not possible for the Swedish (SvK) or Polish (PGE) governments to invoke this provision because such a derogation could have been requested only with respect to commitments taken before 19 February 1997 while in this case, the relevant commitments of SPL and VAB were entered into in October 1997,

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after the cut-off date for a request for derogation, but long before the legislation and regulations particularly at issue here were enacted.

Retroactive requirements

First of all can be stated that a regulation does not have retrospective effect unless this is explicitly mentioned.

I case C-337/88 the European Court of Justice stated that “a regulation must be regarded as published throughout the Community on the date borne by the issue of the Official Journal containing the text of that regulation. However, should evidence be produced that the date on which an issue was in fact available does not correspond to the date which appears on that issue, regard must be had to the date of actual publication.

Although in general the principle of legal certainty precludes a Community measure from taking effect from a point in time before its publication, it may exceptionally be otherwise where the purpose to be achieved so demands and where the legitimate expectations of those concerned are duly respected.”

This means that Regulation 1228/2003/EC cannot be used to regulate existing merchant lines which were built, such a long time, before the regulation entered into effect.

Proportionality

Article 5 EC Treaty state “ The Community shall act within the limits of the powers conferred upon it by this Treaty and of the objectives assigned to it therein.” and “Any action by the Community shall not go beyond what is necessary to achieve the objectives of this Treaty.”

This principle of proportionality stresses clearly that legislation enacted by the Commission and/or other Community institutions and measures taken based on that legislation has to be in reasonable proportion to the achieving targets.

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In our opinion the solution for the treatment of merchant lines as proposed in the March Report does not fulfill the proportionality principle if such a solution leads to the situation in which a private investor not longer can earn back the investment he made. In the case of SPL total and unconditional third party access can have as a consequence that VAB will sell its part of the ownership, terminate the, according to the Swedish Energy Market Inspectorate, illegal transmission capacity purchase arrangement and stop paying the agreed annual price according to this agreement.

The result will be that SPL has to try to sell the total capacity of the cable (600 MW) on the market. A market which is, due to market access problems on the Polish market, not interested in purchasing transmission capacity between Sweden and Poland. Therefore, even if SPL and VAB agreed that VAB should be released from its obligation to purchase transmission capacity and SPL tried to sell capacity to third parties in order to meet the requirement that this reserved capacity be made available to the market, no third party would be able to buy that transmission capacity in place of VAB. The result would be that SPL would not be able to sell any SwePol Link transmission capacity to any third party, and much of SwePol Link’s capacity would go unused. The Commission’s intention is to promote the openness of the electricity transmission market to all parties on an equal basis; however, the limitations of the Polish market are a barrier to third parties’ attempting to utilize capacity of SwePol Link. Reducing VAB’s capacity rights would not improve the ability of third parties to utilize SwePol Link capacity, and so would not advance the Commission’s goal or address its intent in any way.

Given the reasons set out above, an exemption or exception should be granted in this case because technically there is no way for third parties to utilize SwePol Link’s transmission capacity, and VAB’s obligation to purchase SwePol Link’s capacity is what allows SPL to meet its costs and financial obligations in order to keep operating. Otherwise the result of the taken measures could be that SPL will be in default under its debt obligations and at risk of bankruptcy.

This cannot be in accordance with the following objectives the European Parliament and the Council set in Directive 2005/89/EC of the European Parliament and of the Council of 18 January 2006 concerning measures to safeguard security of electricity supply and infrastructure investment:

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1) Without prejudice to Articles 86, 87 and 88 of the Treaty, it is important for Member States to lay down an unambiguous, appropriate and stable framework which will facilitate security of electricity supply and is conducive to investments in generation capacity and demand management techniques. It is also important that appropriate measures are taken to ensure a regulatory framework that encourages investment in new transmission interconnection, especially between Member States. 2) The European Council in Barcelona on 15 and 16 March 2002 agreed on a level of interconnection between Member States. Low levels of interconnection have the effect of fragmenting the market and are an obstacle to the development of competition. The existence of adequate physical transmission interconnection capacity, whether cross- border or not, is crucial but it is not a sufficient condition for competition to be fully effective. In the interest of final customers, the relation between the potential benefits of new interconnection projects and the costs for such projects should be reasonably balanced. 3) While it is important to determine the maximum available transfer capacities without breaching the requirements of secure network operation, it is also important to ensure full transparency of the capacity calculation and allocation procedure in the transmission system. In this way, it could be possible to make better use of existing capacity, and no false shortage signals will be given to the market, which will support the achievement of a fully competitive internal market as envisaged in Directive 2003/54/EC.

4.5 Vattenfall AB´s position on the legal situation of SwePol Link

It is our view that it is fully consistent with VEMW and Others to make a distinction between such priority rights that were granted by the state in circumstances such as those described in that case and long term contracts entered into after commercial negotiations for example in relation to the establishment of a new interconnector. This view is supported by the fundamental principle of non discrimination in EC law.

Thus, it is clear that the object with Articles 7(5) and 16 of Directive 96/92/EC (and corresponding Articles in Directive 2003/54) is that no company should obtain an economic advantage compared to its competitors. In paragraph 48 of the judgement in VEMW and Others the ECJ states that;

“The prohibition of discrimination, which is one of the fundamental principles of Community law, requires that comparable situations are not treated differently unless such difference in treatment

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is objectively justified (see, inter alia, Germany v Council, cited above, paragraph 67)” (emphasis added).

There are, however, clearly instances where two situations are not comparable. In such cases equal treatment between them could very well be discriminatory. Free riding, i.e. deriving benefits from efforts made by others is thus not a practice protected by EC law. According to our reading of the judgment it must therefore be true that two situations that are different can be treated differently without this being discriminatory.

We believe that an energy company that has contributed financially to the realization of interconnector capacity is not in a comparable situation with competitors that has not so contributed. Long term contracts for parts of the capacity in an interconnector concluded under such circumstances cannot, in our view, be seen as preferential treatment insofar as the capacity reserved is proportionate to the financial contribution given and should not per se be in breach of EC law.

However, the assessment of long term capacity reservation contracts and whether or not they are compatible with EC law is a difficult one. In paragraph 550 of its final report on the energy sector inquiry published 10 th January 2007 the European Commission made the following statement in relation to long term contracts for the allocation of interconnection capacity:

“It cannot be excluded that long-term contracts could result in efficient allocation as secondary trade could in theory employ efficient redistribution means. However the holder of the contract would still profit from the money paid in the secondary market and, more importantly the conditions to obtain these long-term contracts in the past where largely unequal. Also it is often not transparent who “owns” the capacity and how long the underlying contracts lasts. This raises search cost (transaction costs) for any player interested in buying this interconnector capacity, since, “secondary capacity markets” remain immature. This raises barriers to entry and may harm liquidity in several wholesale markets. Hence, both the Court and the Commission has concluded that long-term contracts should, with certain exceptions, be disqualified as a method for allocation scarce interconnector capacity.”

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The European Commission then concludes under paragraph 562 that one reason for inadequate market integration is “long-term cross border capacity reservations, partially given under discriminatory conditions.”

It is our conclusion the question as to the legality of Vattenfall’s long term contract for capacity in SwePol Link has to be assessed against the basic principle of non discrimination in Article 20 of Directive 2003/54/EC. As is shown by the statement by the European Commission the particularities of this particular agreement have to be assessed carefully before this question can be decided. In this regard the concerns raised by the Commission in the statement cited can serve as a starting point for the assessment.

Another starting point for the analysis is the underlying goal of ensuring efficient use of interconnector capacity. Thus, the Commission, in paragraph 546, starts its analysis of non market based mechanisms by stating that such mechanisms which are discriminatory and not (always) transparent result in inefficient use of interconnector capacity. One indicator of whether or not a long term contract is to be viewed as discriminatory is therefore whether or not the capacity is used efficiently. A comparison should therefore be undertaken between the use of capacity under the long term contract and the use of comparable capacity allocated through the best available market based mechanism. Should this analysis result in a finding that the capacity governed by the long term contract is used more efficiently, then it seems contra productive to change the regime for allocating that capacity. 4.6 PSE-Operator position on the situation of SwePol Link

Third Party Access

With regard to the utilization of the SwePol Link connection PSE-Operator stresses, that any issues relating to the utilization of the SwePol Link must not be discussed outside the combined context of the operation of both the Swedish and Polish power systems. Objectively justified differences in the functioning of the energy systems in Sweden and in Poland exist and, not surprisingly, have to be taken into account by market players intending to utilize available SwePol Link capacities. This however cannot be asserted as a limitation of Third Party Access right with respect to the Polish Power System.

Third Party Access has been fully implemented in Poland and is based on transparent and nondiscriminatory rules, published and available to any party interested and subject to the control

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of the Polish regulatory authority, the President of the Energy Regulation Office (Polish: Prezes Urz ędu Regulacji Energetyki ).

PSE-Operator strongly objects any statements that the rules of operation of the Polish market pose a one sided barrier to third parties attempting to utilize the capacity of SwePol Link. In case of fully opening the SwePol Link, the same rules will be applied, in particular with regard to scheduling and the day-ahead principle, as the rules applied to the utilization of other interconnections at Polish intra-community borders with multiple parties making use of the Available Transfer Capacities traded in daily auctions. This setup does not prevent any participant from making sound business decisions while utilizing the interconnection capacities and taking advantage of its Third Party Access right in Poland.

Therefore attention must not be diverted from the fact that there are objective factors linked to the different setup of the Swedish and of the Polish transmission systems and those are considered by third parties in the decision making process and during evaluation of acceptable business risk and strategy. It is however not the role of TSOs to judge such business decisions bearing in mind that interested third parties benefit from the Third Party Access regime as they certainly do in Poland.

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5 Summary of the work in the implementation group and the current situation regarding SwePol Link and Baltic Cable

There is a general understanding that integration of electricity markets requires an efficient utilization of existing interconnectors. The regional approach as a transitional phase towards the creation of one internal electricity market was first launched in the March 2004 Strategy Paper of The Commission. The subsequent ERGEG Regional Initiative is also explicitly supported by the Energy Council 8 June 2006, while at the same time stressing that “Cross-border exchange of energy should be improved and the regional energy cooperation should be accelerated…”

With the scope of the above mentioned background, the tasks for the implementation group are the following:

a) To describe the current situation regarding the two cables SwePol Link and Baltic Cable. b) Describe and interpret the EC legal framework. c) Describe the pros and cons of present methods applied. d) List alternative solutions. e) Propose capacity allocation and congestion management mechanisms for Baltic Cable and SwePol Link which aligns them with other interconnectors between Nordel area and continental Europe.

Up to now the implementation group has finalized tasks a) and b) which are described in this report.

The findings are:

• Both cables are operated as “merchant lines” and that the capacities on the cables are reserved to the investors of the cable. • These cables are operated by the owners of the cables and the current practice for each cable operator is that the capacity utilization among owners is based on prices on wholesale markets (PXs) at each end of the interconnector. Statistics provided by the cable operators, indicate that the power flow is for the vast majority of all hours directed in

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the right direction from a socioeconomic point of view – i.e. from the low price area to the high price area (in this report referred to as “efficient use” at the time of day-ahead nomination). • In practice, the capacities are currently being used by the possessors of the priority rights and the third party access on the cables is limited. • The maximum thermal capacities of the cables are not always possible to use due to restrictions imposed by the TSO´s in Sweden, Germany and Poland.14 • There are aggravating circumstances on the Polish electricity market for new players on SwePol Link and market coupling between the Polish and Nordic markets, mainly due to low liquidity on the Polish Power Exchange. • The implementation group has not reached a common view regarding the interpretation of the legal situation for SwePol Link and Baltic Cable and the respective parties views are stated in chapter 4. • The group agrees that, despite diverging views on the legal question, the crucial issue is to secure an efficient use of the interconnector capacity, making it available to the market.

14 In general in large interconnected power systems, thermal capacities of lines can nor always be utilized as other security criterias, as voltage and dynamic stability, are dimensioning for the total transmission capacity

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Annex 1 – Description Baltic Cable (based on a document from the cable owners)

Ownership and history

Baltic Cable AB is the operator of Baltic Cable, a merchant line linking Sweden and Germany. The link became operational as of December 1994.

The HVDC link has a nominal capacity of 600 MW. The transmission line between the two converter stations consists of 12 km overhead line and 256 km cable, whereby 251 km being under water. The link connects to the Swedish and the German AC high voltage electricity networks at Arrie (Sweden) and Lübeck (Germany). The HVDC cable as well as the converter stations in Sweden and in Germany are owned and operated by Baltic Cable AB. The company Baltic Cable AB was formed in 1991 and entrusted with the task to build, operate and maintain the link. Baltic Cable AB is a separate company operating under the laws of Sweden. The company is operated by a separate staff and governed by a board of directors. The relationship between the two shareholders is regulated in a Shareholders’ Agreement.

Due to certain differences in the patterns of consumption as well as the generation of electrical power between Sweden and Germany, the Baltic Cable link makes it possible to pool electrical energy resources in such a way that existing power generation capacities in Sweden and Germany complement each other. This means that the need to invest in new power stations is reduced, while operational cost of existing power plants can be reduced due to fuel optimisation. In addition, there are better environmental results.

The Baltic Cable HVDC link is owned by the joint venture company Baltic Cable AB originally established by Sydkraft (now E.ON Sverige), Vattenfall and PreussenElektra (now E.ON) with 1/3 each. In 2001 Vattenfall sold its 1/3 share to E.ON which then owned 2/3 of the link. Baltic Cable AB is currently owned by Statkraft Energi AS, hereafter ‘SEAS’ by 2/3 and E.ON Sverige by 1/3. SEAS acquired the shares in Baltic Cable AB formerly held by E.ON in 2002 and 2004.

Utilisation principles

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The shareholders of Baltic Cable have fully financed the investment in the link and thus have priority rights to the cable capacity. The Shareholder's Agreement of May 1991 and as amended in 2003 provides that the capacity of 600 MW will be nominated and allocated according to the respective shareholdings of each shareholder, i.e. 2/3 to SEAS and 1/3 to E.ON Sverige. The link’s capacity is exclusively used for spot-to-spot exchange on a day-by-day basis between the Swedish and German markets, as well as intraday trading. The capacity is nominated each day separately by each owner on a day ahead basis before the closure of NordPool at noon. There are no long term contracts related to the use of Baltic Cable. In all cases where a sufficient price difference is expected to cover the losses in the cable and a small margin, the capacity is utilised.

If the shareholders do not wish to utilise (all of) its capacity, such unused capacity can be sold by BC to third parties. The provisions and tariffs for third parties wishing to obtain capacity are provided under ‘Tariffs’ on BC’s homepage www.balticcable.com and described further below.

The current principles for the use of the link are as follows: The shareholders, in their capacity as users, individually nominate their utilisation of the link, i.e. power is exchanged between the two spot markets based on the prices in the respective markets. The physical flow will thus be from the market with the lower price to the market with the higher price. The Nordic countries have one common spot market (NordPool) with one system price settled hourly. Depending on internal congestions within the NordPool area, different area prices are calculated by NordPool. The price in the Swedish price area is the basis for the northern price and the price on EEX forms the basis for the southern price.

The price settlement in NordPool and the German market EEX is made independently from each other, and this means that the day-ahead nomination must be made based on the users’ best assumption of the prices in Sweden and Germany for the next day. Participation in these spot markets is of course fully open to all suppliers and traders in the power markets in the respective areas, thus benefiting from the effects of the exchange.

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The historical utilisation of the link, has been very efficient, since 97-98 per cent of the possible value to be extracted based on the price differentials between the two markets has been achieved to the benefit of market participants and the owners. The remaining possible value has not been realised mainly from difficulties in predicting the direction of the flow in hours with small price differences.

Lease fee paid by the owners

Baltic Cable AB charges SEAS and E.ON Sverige a tariff for the use of the link which consists of two major components:

A The market value of the cable capacity is derived from the optimal nomination of the spot-to- spot flow between NordPool and EEX.

B Trading and transmission costs and user's operating costs, paid to the two national TSOs and trading costs relating to the fees charged by the agents in the imbalance markets.

The fee structure is based on a monthly updated market value of the cable capacity which means that BC will receive a fair market price for the transmission capacity. The fee is calculated retrospectively, i.e. based on actual figures for the previous month. The current method is relatively new and replaced the previous fee structure in 2005. The original pre-2005 fee structure was based on a principle where the owners paid firm and floating fees set up to pay for the original investment costs and the running or operating costs.

The new retrospective fee structure is not suitable as a basis for charging third parties because third parties must make their bids on a day-ahead basis, hence they must be able to see what the tariff will be in advance, which is impossible with this model. Consequently, the alternative two-tier tariff has been devised by BC and posted on the BC web site for third parties. The third party tariffs are cost based and are in line with the pre-2005 fees paid by the owners.

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Reductions of physical capacity

The capacity for use may be reduced or set to zero, by the TSOs or by Baltic Cable AB, either planned or unplanned.

Possible sale of capacity to third parties and conditions of such sale

Terms and conditions for third party use are set out on the homepage of Baltic Cable www.balticcable.com. In accordance with these, BC offers, in the case of free physical available capacity, transmission capacity on request from third parties on a short-term basis – i.e. on a day to day basis. In order for a third party to be able to use the link the following conditions must be fulfilled:

The customer must be approved as balance responsible and a counterparty to the Swedish network operator, Svenska Kraftnät and the German Network operator, E.On Netz, i.e. a Balansansvarsavtal and a Bilanzkriesvertrag must be signed with the Swedish and German network operators respectively.

The customer must also be an approved counterparty to Baltic Cable AB – it must provide a 'Letter of Awareness' or it has to provide evidence that it has a guarantor or credit support provider with a financial rating of BBB or better (or alternatively Baa3 or better) or has comparable financial standing.

If these conditions are fulfilled, a master agreement can be signed between the third party and BC. This Agreement provides that the third party must comply with all the procedures and instructions given by BC and with all relevant requirements imposed by local and central Government laws and regulations.

In consideration of BC supplying capacity on the Link pursuant to the terms of the master agreement, the customer must pay fees and charges in accordance with the tariffs and terms as set out on BC’s homepage. The master agreement will be valid for an initial period of one year and may be renewed yearly.

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BC offers the transmission capacity on the Link on a short-term day-by-day basis. The maximum subscription level for a third party therefore depends on the available capacity – which is determined (a) by the owners' priority rights and (b) limitations on the cable (in the AC grids on each side or on the link itself). The owners nominate separately their utilisation of the capacity by 2.30 p.m. to E.ON Netz, who is the technical operator for the connection. Between this time and 6 p.m. the physical flow plan is locked. At 6 p.m. the intra day market in Germany opens, which enables the owners to again change the physical flow plan if considered profitable.

The principle of 'first-come –first served' is applied to third party customers.

The tariffs payable by third parties comprises two parts: A transmission fee which is based on a day subscription and an hour subscription and 'additional fees’ which are cost-related and cover the energy losses on the cable and the connection fees payable to the Swedish TSO.

These fees, although different in structure, are economically equivalent to those paid by the shareholders. The aim of this fee structure is to ensure that third parties shall pay their share of the costs related to the link in the same way as the shareholders have been doing since the start of operation in 1994.

Data exchange with Swedish and German TSOs

The available trading capacity of the link, is fixed on a daily basis by the TSOs in Sweden (Svenska Kraftnät - SvK) and Germany (E.ON Netz). This is beyond the control of Baltic Cable.

With E.ON Netz and Svenska Kraftnät the following exchange of data is carried out referring to transmission hour:

- day ahead: nominations/schedule transmission plans. - during transmission hour: real time transmission power measurement data from SvK on the Swedish side - afterwards: final outcome of business/programmed/trade energy and measured physical energy flow on the link.

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Intra-day restrictions or/and new capacity plans (hourly values) from Svenska Kraftnät or/and E.ON Netz are sent to Baltic Cable (and the users) and then new transmission/trade plans are sent from Baltic Cable (through the users) to the AC grid TSOs.

Utilisation history

The income on the operation of the cable is reliant upon the users’ ability to foresee the future prices in the two markets Sweden and Germany. The historical flow shows a low degree of flow in the wrong direction (i.e. from the area with a higher market price to the area with a lower price) in peak hours (when the main income is generated, i.e. when the price difference is the greater between Sweden and Germany). In 2005, the flow was in the wrong direction in 11.4% (including ramping effects) of the hours, representing a value loss of 1.6%, as the hours in which the flow is in the wrong direction usually is in hours with small price difference – when it is difficult to forecast the flow direction. In 2006, the flow was in the wrong direction in 15% (including ramping effects) of the hours, representing a value loss of 3%.

The equivalent numbers for the connection between West Denmark and Germany were 15 % in the wrong direction with a value loss of 7% in 2005. In 2006, the flow was in the wrong direction in 18% of the hours, with a value loss of 3%.

One may therefore be able to state that the users have been able to realise most of the potential income basis related to the use of the cable.

During the winters 2005-2007 the TSO:s allocated approximately 50% of the maximum thermal capacity to Baltic Cable in the direction from Sweden to Germany in the peak hours (daytime on weekdays).

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Annex 2 – Description SwePol Link (based on a document from the cable owners)

Background

SwePol Link is a 600 MW DC cable between Sweden and Poland. The project was agreed in 1995 between Vattenfall AB (“VAB”) and PGE SA (“PGE”) and is including Svenska Kraftnät (“SvK”) since 1997.

SwePol Link has been in commercial operation since 2 August 2000. The total investment was approx. 2 600 MSEK.

The main purpose of the project was to secure supply of increasing electricity demand in northern Poland and to secure the energy supply to Sweden during dry years. The connection of the Swedish and Polish electricity systems increases security of supply, improves the environmental impact and reduces price volatility. In the long term, the link plays a role in merging and developing the Scandinavian and Continental European markets.

VAB financially guarantees the full investment and the costs for SwePol Link until 2020 by means of a transmission purchase undertaking.

Ownership structure

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Initially SwePol Link AB (“SPL”) was owned 51% by SvK, 48% by VAB and 1% by PGE. Currently the ownership is distributed as follows:

Svenska Kraftnät 51% PGE SA 33% Vattenfall AB 16%

The transfer of shares between VAB and PGE has been done in accordance with the “Restructuring Agreement” (between VAB and PGE dated 28 May 2003). The agreement includes a further set of Put and Call Options related to the shares that VAB holds, making a transfer of all those shares to PGE possible.

Utilisation Principles

The utilisation right of the transmission capacity on the SwePol Link is allocated to VAB in a “Transmission Purchase Agreement” (between VAB and SPL dated 3 October 1997). The TPA is valid until 31 August 2020.

SPL however has three different options to sell utilisation rights to third parties, Option A, B and C, see section “Third Party Access” below.

The TSO:s also have access to capacity needed for exchange of system services.

The use of the utilisation right not being made use of by SPL´s Options, is since the middle of 2003 agreed between VAB and PGE in a “Master Electricity Trading Agreement” (between VAB and PGE dated 28 May 2003). This agreement is effective until 1 August 2010.

The Available Transmission Capacity on SwePol Link is jointly used by VAB and PGE. The utilisation is based on expected hourly market prices, with power flow in direction towards the higher market price on an hourly basis Market prices are defined as - Spot price in Sweden as calculated by Nord Pool Spot

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- Spot price in Poland as calculated by Polish Power Exchange

Before 10.00 day D-1 the power flow schedule for day D is presently agreed between VAB and PGE and shall be confirmed by PGE before 10.30. The schedule is then communicated with SvK and PSE Operator. The time for determination of these shedules are requested by the Polish rules for scheduling.

When scheduling the power flow the following has to be considered: - Possible limitations imposed for the delivery day on the power flow on SwePol Link o by SPL related to the operation of SwePol Link o by SvK related to the operation of the Swedish national grid o by PSE Operator related to the operation of the Polish national grid - Due to operation of śarnowiec Pump Storage Power Plant, the maximum power flow from Poland may be limited to 100-300 MW by PSE Operator - The technical minimum power flow on SwePol Link is 60 MW

Limitations on southbound flow on SwePol Link caused by the situation in the Swedish power system are quite frequent during weekdays daytime, especially in the winter.

Limitations on northbound flow on SwePol Link caused by the situation in the Polish power system are applied most of the times. Sometimes, the situation in the Swedish power system, especially during spring and summer, also limits the northbound flow.

For statistics regarding these limitations we refer to information provided to EMI by PGE (regarding limitations originating from the situation in Poland) and by Statkraft (regarding limitations originating from the situation in Sweden related to Baltic Cable, since Baltic Cable and SwePol Link are treated in a similar way from this respect).

To conclude, all of these limitations and restrictions mentioned above do of course reduce the possibility to utilise the full capacity of SwePol Link to a large extent.

Third Party Access

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As mentioned above has SPL three different options to sell utilisation rights to third parties, Option A, B and C.

Option A is valid during the period 2000 – 2010. SPL has the option to sell to third parties utilisation rights making use of the Available Transmission Capacity between 550 and 600 MW, i.e. up to 50 MW transmission capacity. This option can be utilised for time periods covering one or more calendar years. SPL shall notify VAB not later than 1 November the year before if a third party has purchased utilisation rights related to Option A.

Option B is valid during the period 2011-2020. SPL has the option to sell to third parties utilisation rights making use of half of the Available Transmission Capacity, i.e. up to 300 MW transmission capacity. Also this option can be utilised for time periods covering one or more calendar years. SPL shall also in this case notify VAB not later than 1 November the year before if a third party has purchased utilisation rights related to Option B.

Option C is valid during the term of the Transmission Purchase Agreement. SPL has the option to sell to third parties, temporary, short-term utilisation rights making use of all transmission capacity not covered by any Final Forecast Schedule.

Final Forecast Schedules are to be delivered by VAB to SPL not later than two hours before the delivery hour. However, VAB has as mentioned above presently agreed to determine the final schedule already in the morning the day before delivery.

Option C can only be utilised during one hour at a time.

The transmission charges per MW for third parties under Option A, B or C shall not be lower than the transmission charges that VAB is paying. The price for Option A-C may however include a profit element. The tariff is published on the SwePol Link website.

VAB and PGE has also agreed in the Restructuring Agreement that the utilisation right not being used by SPL´s Options may be traded to third parties. In such a case VAB and PGE shall be acting jointly.

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Charges

The utilisation right on SwePol Link is sold to VAB at cost. But, during the second period (2011- 2020) VAB has undertaken to ensure that the SwePol Link group makes an aggregate profit of at least 40 MSEK annually.

If Option A or B is executed, the transmission charges paid by VAB shall be reduced in proportion to the capacity used for such option.

Utilisation Statistics

For statistics regarding the utilisation of SwePol Link we refer to information provided to EMI by PGE.

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Annex 3 – Value and direction of energy flow using SwePol Link

Value and direction of energy flow using SwePol Link 15 In the specific months of 2006, the flow of energy (actual values measured at the Point of Delivery) on the SwePol Link line were as follows: 2006 direction of energy flow 2006 direction of energy flow month to Poland from Poland month to Poland from Poland MWh MWh MWh MWh January 0 254 727 July 50 900 18 787 February 0 198 619 August 1 784 68 358 March 0 228 600 September 234 120 665 April 0 242 113 October 0 66 343 May 102 082 44 890 November 0 111 544 June 95 828 50 886 December 13 229 92 974

SwePol Link cable exchange for 2000-2006 (Import / export to Poland)

SwePol Link Cable Exchange for 2000-2006 [GWh]

3000

2500

2000

1500

1000

500

0 2000 2001 2002 2003 2004 2005 2006 import 429 1711 1133 25 234 818 208

export 0 0 205 2647 2396 1170 1498

total exchange 429 1711 1338 2672 2630 1988 1706

15 Statistics provided by PGE.

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Annex 4 – Participants in the Implementation group

Energy Markets Inspectorate (Sweden): Margareta Bergström, Tony Rosten, Johan Roupe Bundesnetzagentur (Germany): Andrea Korr, Dr. Frank-Peter Hansen Energy Regulating Office Poland: Robert Guzik, Agniesika Panek Danish Energy Regulatory Authority (DERA): Peter Hoffmann

Baltic Cable AB: Jan Brewitz, Håkan Feuk (E.ON Sverige), Berit Flagstad (Statkraft) SwePol Link: Björn Forsberg, Lars Marketeg, Bo Wahrgren (Vattenfall)

E.ON Netz: Thorsten Dietz, Christian Dobelke PGE Electra: Maciej Olejniczak PSE Operator: Bronislaw Nowinski Vattenfall Transmission: Jens Mattausch Svenska Kraftnät: Björn ter Bruggen, Roger Kearsley, Tania Pinzon

European Commission: Matti Supponen

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