Ukraine anti-corruption body questions lawfulness of coal pricing

Artem Sytnyk, the head of Ukraine’s National Anti-Corruption
Bureau (NABU), said in an Aug. 24 television interview that he considers
unlawful a new electricity pricing model, known as “Rotterdam Plus,”
for benefits thermal power plants. The model, approved by the power sector
regulator (NERC) in March 2016, assumes that electricity produced by power
plants covers coal costs based on the historical API2 Index (or CIF price in
the ports of Amsterdam and Rotterdam) plus delivery costs from Rotterdam.
According to Sytnyk, the unlawfulness of that methodology, which is applied to
all the coal consumed by thermal power plants, is based on the fact that only
3% of that coal is imported (while the rest is produced domestically).

The Rotterdam Plus methodology has led to surging
profits at all Ukrainian power generation companies since 2H16, including those
controlled by DTEK Energy (DTEKUA). In particular, DTEK Energy’s EBITDA
increased to UAH 12.6 bln in 2H16 from UAH 3.2 bln in 1H16. In 1Q17, its EBITDA
surged 2.7x yoy to UAH 5.9 bln.

Alexander Paraschiy: It’s not a
surprise that more authorities are opposing Rotterdam Plus approved by NERC.
That methodology looks indeed ill-grounded and it has brought enough benefits
to DTEK and Centrenergo (CEEN UK) to prompt legitimate suspicion of corruption
there. However, the lack of economic justification for this methodology does
not prove it is unlawful.

Moreover, the same approach (based on an international
benchmark plus delivery costs) is being applied for pricing of natural gas in
Ukraine, even though (alike for coal) most of the gas is produced domestically.
But the gas pricing methodology is not only not being questioned – it has even
been blessed by the IMF.

As DTEK is producing more than 85% of steam coal in
Ukraine, there is no way to set a local coal market in the country. So using
any international benchmark for Ukrainian coal pricing is a straightforward
decision. The key question, however, is whether it makes sense to include
delivery costs from Rotterdam to price the coal made in Ukraine, and whether
other adjustments should be made.

Thus far, we see some risk that the pricing of
domestic coal will be revised to exclude delivery costs from abroad. It may
even be adjusted for its inferior quality as compared to API2 standards. But it
also may be adjusted to the benefit of DTEK, as the current methodology
accounts for a 12-month trailing API2 Index, and now assumes the domestic coal
price at USD 82/t, which is below the current coal price in Rotterdam (USD
89/t). Even in the worst case, this won’t harm DTEK’s debt sustainability, in
our view. We maintain our positive view on DTEKUA bonds.