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Interview

with Shirley In’t Veld, Managing Director, Verve Energy

08.10.2010 / Energyboardroom

We recently met with a geothermal exploration and production company who underpins a lot of its future growth and potential by its acreage proximity to the Southwest Interconnected System (SWIS). Is there a strong promise for geothermal and other renewable energies in this heavy transit grid?

The main scope for renewable energy for us, as the biggest provider of electricity to the SWIS, is wind and solar. Underground water in the Perth Basin is not hot enough for baseload power generation from geothermal. It is hot enough for air conditioning, for example, but not for power generation. The basins where geothermal could work for power generation are too remote from the grid and too expensive to transmit power to the grid. Wind and solar are the main potential sources of renewable energy to the SWIS.

The challenge with wind is the diurnal factor – when does the wind blow? If the wind blows at night, we do not need it. Western Australia (WA) has a very “ugly” load factor. We do not have steel mills or aluminum smelters that run a nice steady 24 hour baseload requirement. With Verve Energy we have 3,000 megawatts of installed generation capacity. Overnight we can get down to 600 mw and on a hot summer’s day we can get up to the high 2,000s. We are the balancer in the market having to cycle our power units and two-shift (2-shift) our plant. That is very expensive. It comes with maintenance costs and it reduces the design life of your plant mainly because a coal fired thermal plant was not designed to be shifted. We are in a difficult position because we want to help the government achieve its 20% aim of renewable energy by 2020 but it is tough because most of our plants are thermal and not designed to be cycled or two-shifted.

Our strategy to accommodate that, which we have underway, involves the installation of high efficiency gas turbines. We are currently installing two GE LMS100 high efficiency turbines in Kwinana that will be commissioned in October 2011. They are ideally suited for our portfolio both because they can run at 43% efficiency at full load and they also have a stop-start capability that is perfect for balancing. They can cycle up and down without losing too much efficiency. This is a very exciting project for Verve Energy because it is based on state of the art GE aeroderivative gas turbine technology, the first of their kind in Australia. It is exciting, cutting edge stuff!

It is also exciting because it is the first major project that we have underway since we became Verve Energy in 2006. It will suit our portfolio very well. That is our answer to the challenge posed by wind.

Solar is better for us because the sun shines when we have peak demand. At 3pm the sun burns away while everyone has their air conditioner going and the energy comes into the system when you need it. But the challenge with solar is that it is much smaller at this stage. We have a 10 mw photovoltaic (PV) project getting underway which we will eventually see expand to perhaps 40 mw as the technology develops. We did look at solar thermal technology but it is just too expensive. That is the challenge with all renewable energy – it is still much more expensive than coal.

How likely are feed-in tariffs to allay the costs and promote solar power in WA?

There are feed-in tariffs over east but it seems to have stalled for reasons I am not too sure of. But it has created distortions and they come with their own set of problems. There seem to be numerous challenges in terms of making it work effectively just because of where tariffs are. In WA we had a 10 year tariff freeze which we are just coming out of. Tariffs are going up here not only because we are coming out of a tariff freeze but because renewable energy is coming into the system which is more expensive.

The tariff freeze went from the late 1990s and just ended in 2008. That effectively meant that tariffs in WA were 30% cheaper in real terms in 2008 than they were 10 years earlier. Tariffs have gone up nearly 50% over the past 18 months but for political reasons the government does not want them to rise too much too quickly. So our operations are basically being subsidized.

You moved from private sector into the public sphere during quite uninviting times: the electricity market was still in the disaggregation process, electricity tariffs were frozen, and Verve Energy was losing revenues by design. What did you see in Verve Energy and what made you come on?

It was actually two things. If I had not left Alcoa the next move would have been to New York and that did not suit my family. The other reason was that my job with Alcoa had a lot of overseas travel. I was overseas almost every other week and I did not want to do that any more. I have not been overseas since I started this job and it has been bliss.

I was also largely driven by the challenge. I knew it was not going to be easy, and it was not easy. The first two years here were perhaps the toughest and most unpleasant that I have had in my career. The politics were messy, the maintenance had been run down, the plants were in bad shape, and there were staffing issues. We were basically set up to fail. Given the way Verve was set up following the disaggregation of Western Power there was no way that we could have survived. We would have constantly needed government subsidies. We were making losses as predicted. We were losing more than $5 million per week in 2008-2009. It was only with the new government coming in and making all of their changes and getting the tariffs moving up again that we have turned back into a profit of $97 million in the last financial year. We have spent hundreds of millions of dollars in the past few years and our plants are now operating at world benchmark standards. But it has been a heavy going process.

What were your strategic priorities to turn things around given the tough model that you inherited? And how have they evolved considering the progress that has been made since 2006?

There were three that really needed to be dealt with. The first was sorting out the people challenges. That required getting the right executive team and board in place and making sure that they could all work well together. The second one was operational – getting the plant reliability up and making sure we were putting the money into maintenance to ensure that we could sustain a high level of plant availability. The third one was influencing the politicians to make the necessary changes to ensure that we could participate in the market on a long term sustainable basis.

They have changed much because we have a good board and a good executive team. The politicians do understand the issues and fairly serious changes have been made. Maintenance spending is organized, for example. The challenges now are more about taking the business forward – getting the renewable programs forward and dealing with the uncertainty related to carbon emissions. Are we going to have an emissions trading scheme or a carbon tax? 70% of our energy is coal fired. The big challenges now are probably the uncertainty of coal going forward and the fact that we are so dependent in this state on coal fired generation.

Also, for Verve we have a long term gas transport agreement of 20 years which will come to an end in 2016. Right now, because of the uncertainty in the domestic gas situation, we are not quite sure where our gas will come from. We are working very hard talking to producers to try to ensure that we will have a secure supply. We have to find new suppliers and not be dependent on just the Northwest Shelf (NWS) as a single supplier. Ideally we would like more than one. We are talking to NWS, Gorgon, Chevron, and many of the explorers in the Perth Basin. We have to make sure we have the gas coming down the pipeline in 2016. Chevron can say that the Gorgon will come onstream in 2016. But what if it doesn’t? What if it is late? We need to cover for that.

The discussion amongst government and industry, particularly since the elections, seems to suggest that carbon mitigation policy will happen to some degree. Is the uncertainty you face around carbon more so about whether or not a price will be imposed? Or over/under betting on what that price will be and how you invest going forward?

It is more about the consequences of that uncertainty. Not only are we the balancer in the market but being government owned we are also the supplier of last resort. It is our responsibility to make sure that the lights don’t go out. Because of the uncertainty surrounding carbon there is no new investment in coal fired plants. If we did not have this hanging over our heads we would be looking into a new coal fired power station based on subcritical technology. But because there is so much uncertainty with carbon there is no way you are going to put about one billion dollars into a coal fired power station based on the current technology. It will have a 40-50 year life span churning out emissions over that time period and chances are it will be obsolete in years to come. In any event, it will be very expensive.

What we are looking at doing is keeping our current coal plant going until new commercially viable clean coal comes into the system. When that is – and there will have carbon sequestration to go with it – we think it will probably be oxy fuel or integrated gasification technology. The issue we have to address is that we need diversity from gas because we are dependent on a single 1,600 km pipeline. We need to keep the coal for baseload power to back us up for energy security issues if we have another gas disruption. But how are we going to maintain that given that we have old coal plants, some of which are more than 30 years old. The decision we have come to is that we will not invest in a new coal plant because it doesn’t stack up; but nobody else will either. How do we deal with that? We will keep our plant going as long as we can and watch the situation.

You simply cannot get funding for coal fired plants. Banks do not want to go near it for reputation reasons. It is a real challenge. The infrastructure upgrades we have undergone for our coal plants have improved efficiencies. Essentially we upgraded the plant so we get more megawatts and more power with fewer emissions.

What other models of recently disaggregted electricity markets can WA look to and glean experience from?

There are not many like us. I know that at the time of the disaggregation process the government looked at Hawaii and Ireland. But none are quite like this. To some extent the WA market is quite unique because we are small and completely isolated. We have an ugly load factor in that demand falls right away overnight. It is a challenge in that sense. The model that the government came up with has certainly not been flawless. There have been serious issues with it but they are now in the process of being rectified. The purpose was to move to competition but it is easier said than done.

How has the rest of the competition fared since the market opened up?

It has been interesting. WA has a capacity market as well as an energy market. The capacity market has certainly attracted new entrants but there is some instability in the market now. If you look at two of the major players in the market – Griffin with Bluewaters One & Two power stations and Alinta – both of have been in serious financial strife. Griffin is in administration and Alinta has just being refinanced but has been on the market for quite some time. So our biggest competitors have struggled in this market for varying reasons.

What is the appetite for investment in an environment of rising electricity prices?

For open cycle gas turbines the market is there and there is an appetite for that. But there is not an appetite for baseload coal or gas fired generation. Coal is unattractive because of the uncertainty about policy. New investment in coal fired power is both carbon and capital constrained because of banks’ unwillingness to finance them. Gas is risky for investment because of the uncertainty with the domestic sector gas situation going forward.

You will often hear comments that there is plenty of gas in Australia but that electricity producers do not want to pay for it. That is not really correct. Right now there is a gas shortage. Right now we could not sign a long term gas supply agreement. The best that we would be able to do is a five year contract to 2014-2015.

You are essentially competing with overseas buyers who offer higher prices for LNG, correct?

It is partly driven by the preference of the gas producers to go with LNG and ship it offshore. But it is also driven by the timing of when these projects come onstream. There may be scope for us to pick up some domestic gas from the Pluto Project, but it will perhaps require a second train for the project. The Macedon Project is an option as well since we understand that BHP Billiton intends to use much gas internally. Gorgon is an option but that is still down the track for 2016 and that would only meet half of our daily needs. Wheatstone is a potential supplier but that is even further down the track than Gorgon. There are a lot of projects but it is a matter of timing.

We have had the luxury of 20 years of secure, competitively priced gas. All of a sudden that is coming to an end so it is a bit of a paradigm shift for this business because we will not get another 20 year contract and we will certainly not get another 20 year contract at the prices we have been paying. But we do not see the issue so much as pricing. Gas is still cheaper than renewables and cleaner than coal, so it still has something to offer. The issue is more of availability and having the supply at the right time at the proper volume since we are such a big user. The combined cycle gas powered stations can operate very efficiently. So if we can get the supply up then it is a good source of electricity for the state.

So coal is risky and unattractive for financing; gas has security of supply issues; and renewables are expensive. What, then, does the long term energy mix in WA look like to you?

It will still be largely coal and gas going forward for baseload plants for many, many years. It has to stay coal because of the vulnerability of the state to this single 1,600 km pipeline. We know what it is like to have a disruption. We had an incident two summers ago in Karratha and there was no gas coming down the pipeline for two days. We were within a half hour of blackouts. The security issue there means that you have to have coal fired plants to back it up.

One of our projects involves refurbishing four 60 mw units (or 4 x 60MW) down in Muja, the oldest in our system, which is largely designed to provide for that energy security. We will operate that mid-merit plant and only run two of the units and keep two on stand by. If there is a gas disruption we can bring it back in. It is very cheap power because we are using existing plant that is retrofitted with pollution abatement equipment. It is quite a unique little solution for the situation facing WA in terms of keeping the tariffs down and providing cheap power but addressing the energy security issue as well.

Renewables currently occupy approximately 5% of the energy portfolio in WA. Given the long lead times to reach political decisions and coordinate it with industry, is 20% renewables in 10 years time a feasible target?

I think it is going to be really hard. The 200 mw Collgar wind farm which is due for commissioning next year might push the share of renewable up to 9%. We are adding 14 mw to our Albany wind farm and another 10 mw with solar PV. It is not unrealistic, but it will certainly be a challenge.

Why has it taken so long for WA to embrace renewables when it has all of the natural endowments of wind and sun?

We actually built the first wind farm in Australia in Albany in 2001 which helped shape the first emissions targets. We were the first to build a commercial wind farm. It is 22MW down in Albany and we have been working in a renewable biomass project for the past 12 years but struggling with the technology. We have put in $22 million into the IWP integrated biomass wood processing project but the technology has proven a little more challenging than we anticipated and we are having to look at different technologies now. There has certainly been a big effort going into renewables, but it is just not yet fully realized. We have also had solar PV for many years but in small portions.

What is the global extent of your search for the best technologies? Are you looking more internally at homegrown and developed Australian technology or forging partnerships with the world leaders in renewables?

We are looking worldwide for the best and most advanced technology. The turbines that we are putting on as extensions to our Albany wind farm are German made. We are working with BP solar for the farm up in Geraldton and we have purchased from Vestas as well. We pride ourselves on using the best technology.

We are very much in touch with what is happening around the world. We understand the scope for clean coal technology in terms of integrated gasification and oxyfuel. We stay in touch with Siemens and the major players to make sure we are abreast of the latest developments and send our people to visit pilot projects around the world.

One of the challenges is that we are a small customer, potentially, compared to a customer in the US or Europe who would place much larger volume orders. But that does not deter us from staying abreast of what is going on and doing tours of some of the bigger European players, for example.

What are the main goals that you would like to achieve in your time as Managing Director?

I certainly want to grow the renewable portfolio. I want to get the Grasmere wind project at Albany on the south coast, the solar PV project in the Midwest and the biomass projects commissioned. The latter I believe is the most challenging of the three.

The other project that we are looking at that I would like to see get off the ground is our pump storage hydro project. It would be the first of its kind in WA and it suits our portfolio very nicely because it is a demand management mechanism to even out the disparity between night and day usage. Water would essentially come down during the day and pumped back up the hill with coal fired power at night. So we would be using a plant that we turn off now overnight.

Of course we want to retain profitability and get our debt down. We currently have about $1.6 billion debt which we would like to see reduced to around $600 million. We will continue to operate our ageing plant and equipment efficiently and reliably. The benchmark is about 2% forced outage factor. We have been over 5% but are down at 2.2% at the moment. We want to get that below 2% and then we will know that our plant is running on world standards in terms of reliability.

The other big challenge is keeping our engineers from retiring. We have an ageing workforce and a lot of skilled, high caliber engineers who are all starting to look at retiring.

Are you struggling to recruit new engineers against the private sector in a resources boom?

We did struggle, certainly when we were being labeled a “basket case” by the press. But now, given our interesting and broad spectrum of projects I believe we are okay. In the mid-rank area we are competing with the resources boom of WA and cannot match the private sector for remuneration so we have had to recruit from the UK and South Africa.

What would be your final message to our readers about Verve Energy and the continuous role that it will play in the energy landscape in WA?

We see Verve Energy continuing to be the leading electricity generator in WA and also importantly, given our dependence on the Dampier to Bunbury Pipeline, the supplier of last resort. We see ourselves continuing to be profitable and continuing to provide safe and reliable power to the state.

We are well positioned for that now and have come a long way in 3-4 years. We are a bit of a success story because it is not easy when you are government owned. We are set up as a government trading enterprise meaning that we must behave commercially and try to turn a profit. But then political imperatives come into play that do not necessarily align with that goal. For energy security reasons, for example, we had to burn liquids which costs that much more whereas if we were privately owned we would have the option of perhaps shutting the plant down temporarily. The flip side is that the government backs us significantly on projects. There is a certain organizational pride in knowing that you are responsible for keeping the lights on in the state which we take very seriously. We may be losing money by burning oil instead of gas; well, that’s the way it is. At least we are keeping the lights on.

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