VZCZCXRO3287
RR RUEHAG RUEHAST RUEHDA RUEHDBU RUEHDF RUEHFL RUEHIK RUEHKW RUEHLA
RUEHLN RUEHLZ RUEHPOD RUEHROV RUEHSR RUEHVK RUEHYG
DE RUEHPG #0992/01 2411453
ZNR UUUUU ZZH
R 291453Z AUG 07
FM AMEMBASSY PRAGUE
TO RUEHC/SECSTATE WASHDC 9542
INFO RUEHZL/EUROPEAN POLITICAL COLLECTIVE
RHEBAAA/DEPT OF ENERGY WASHDC

UNCLAS SECTION 01 OF 02 PRAGUE 000992 
 
SIPDIS 
 
SENSITIVE 
SIPDIS 
 
E.O. 12958: N/A 
TAGS: ENRG ECON EFIN ETRD PREL PGOV EZ
 
SUBJECT: CZECH ELECTRICITY GIANT'S MURKY GOVERNMENT CONNECTION MEANS 
MIXED SIGNALS ON ENERGY POLICY AND PRACTICE 
 
REF:  PRAGUE 77 
 
¶1. (SBU) SUMMARY AND COMMENT: Rising electricity prices, increasing 
demand from a robust economy, and a low cost generation fleet have 
led Czech electricity company CEZ Group (67.61% state owned) to 
become the most profitable company in the Czech Republic for the 
last two years.  The lack of transparency in CEZ-GOCR relations and 
in CEZ operations, however, makes it difficult to discern where 
government political interests end and CEZ business interests begin. 
 Therefore, future CEZ capital investments and expansion are an 
important and often the only yard stick available for determining 
the direction of energy policy for the mid- to long-term.  The 
unified message from the Czech energy industry is that nuclear 
generation is the only option available to the Czech Republic that 
reduces carbon emissions, increases energy security, and effectively 
meets growing domestic demand.  Energy industry representatives' 
support for increased utilization of nuclear energy, however, runs 
counter to the views of the current coalition government, which 
includes the Green Party. 
 
¶2. (SBU) SUMMARY AND COMMENT CONTINUED: CEZ is marching forward with 
its nuclear expansion plans without the official endorsement of the 
current government, its majority owner.  CEZ is hedging given the 
weakness of the current government that throws in to question its 
longevity, as well as past open support for nuclear expansion from 
both sides of the isle (Civic Democrats -- ODS & Social Democrats -- 
CSSD).  In fact, the Chairman and Vice Chairman of the supervisory 
board are either current or former members of ODS.  CEZ also points 
out that planning for expansion of nuclear energy production 
requires a 20-year time line, with only the final five years 
involving physical construction, which means they can stick with 
future plans without any visual expansion.  Therefore, in the 
absence of a more overt opposition by the government, CEZ is 
following industry opinion.  Whoever is in government in 2019 will 
have to contend with whether to bring 15 years of nuclear power 
planning online or facing a possible power shortage.  The situation 
may result in a state-owned company dictating policy to the 
government.  END SUMMARY AND COMMENT. 
 
------------------------------------------ 
CEZ DOMINATES DOMESTIC AND REGIONAL MARKET 
------------------------------------------ 
¶3. (U) CEZ is the eighth largest utility company in Europe, both in 
terms of customers (6.8 million) and in market capitalization ($29.7 
billion).  It also has the lowest debt/EBITDA ratio (0.8) of any 
electrical utility in Europe and Standard & Poor's gives CEZ an A- 
credit rating.  In 2005, CEZ dividends contributed CZK 3.6 billion 
($180 million) to the government budget and its dividend payout per 
share grew tenfold in six years (CZK 2 or $.10 in 2000 to CZK 20 or 
$1 in 2006).  CEZ is a vertically integrated company, which means 
they have stakes in every facet of electricity production except for 
transmission, which is controlled and regulated by the GOCR.  In 
2006, CEZ Group companies produced 22.5 million tons of lignite 
coal, 46% of the country's total and 73.5% of total electricity in 
the CR (62.0 TWh).  They also own five of the eight distribution 
companies in the CR, which account for 62% of all customers. 
 
¶4. (U) Regionally, CEZ owns two generation units in Poland with a 
combined capacity of 830 MW, distribution services in Romania 
reaching 1.4 million customers, distribution services in Bulgaria 
reaching 1.9 million customers, and generation in Bulgaria with a 
total capacity of 1,260 MW.  They have also signed joint venture 
agreements to build new generation facilities in Bosnia and 
Herzegovina and in Russia.  CEZ anticipates further economic growth 
in the Balkans and southern Europe and a corresponding expansion of 
energy use, which will raise electricity prices closer to Western 
European levels.  This, combined with CEZ's own experience in the 
Czech transition economy, has motivated its enthusiastic regional 
expansion. 
 
¶5. (SBU) CEZ has a supervisory board, half of which, including the 
chairman, are appointed by the government.  Currently, former ODS MP 
Martin Kocourek is Chairman and Deputy Minister of Trade and 
Industry for Energy Tomas Huner (ODS) is Vice Chairman of the 
12-member supervisory board.  While the supervisory board must 
approve the actions of the board of directors, CEZ representatives 
could not recall a recent instance of the supervisory board 
overriding the board of directors.  CEZ representatives stressed 
that CEZ's primary objective is to make money for shareholders, 
which it does quite well. 
 
------------------------------ 
WHY NUCLEAR IS THE ONLY ANSWER 
------------------------------ 
¶6. (U) Given that two-thirds of CEZ thermal generation capacity is 
between 30-40 years old, major capital investments are needed to 
keep capacity running and to meet increasingly stringent EU carbon 
emissions standards.  The amount of capital required for compliance 
and general maintenance of older plants is not known.  However, most 
 
PRAGUE 00000992  002 OF 002 
 
 
plants approaching 40 years of service need substantial upgrades, 
which can almost double the average cost of producing 1 MW of 
electricity.  2008-2014 is CEZ's timeframe for major coal asset 
renewal and they are estimating total costs at CZK 140 billion ($7 
billion).  In light of likely capital cost increases, an uncertain 
regulatory climate for emissions, and increasing fuel prices, CEZ 
representatives believe that coal fired plants cannot be a long term 
solution for growing energy consumption. 
 
¶7. (U) Renewable energy sources have limited applicability in the CR 
and are not reliable enough to satisfy the EU-mandated 12% of a 
country's energy portfolio by 2010.  Hydro-electric power consists 
of just under 4% of 2006 total CEZ output.  CEZ representatives 
state that hydro-electric resources have been maximized and that 
capacity cannot be expanded within the CR.  Wind and solar power are 
not viable for significant energy production in the CR.  CEZ does 
operate a wind farm in Southern Moravia and an experimental solar 
farm at Dukovany.  However, these are experimental and symbolic 
forays into renewable energy sources.  The one renewable that CEZ is 
utilizing to some degree of effectiveness is biomass, which is 
burned with coal in certain facilities.  Biomass is not efficient 
enough to take the place of coal and the CR does not have enough 
land available for keeping a large sustainable biomass crop.  On top 
of these drawbacks, furniture makers have been protesting the use of 
biomass because it increases the price of wood chips used in the 
creation of particle boards. 
 
-------------------------------------------- 
RUSSIA WILL BE SOLE SUPPLIER OF NUCLEAR FUEL 
-------------------------------------------- 
¶8. (U) CEZ is banking heavily on nuclear energy to bolster its base 
load production in the mid-term.  In 2006, nuclear generated 
electricity accounted for 42% of total CEZ generation (26 TWh out of 
62 TWh total).  Temelin and Dukovany are the two nuclear plants 
operating in the CR.  Dukovany began operating in 1985 and Temelin 
came online in 2004, and both are Soviet designed reactors and will 
operate under current conditions until 2027 and 2042, respectively. 
Those dates are not firm, however, and both plants could have their 
life-spans extended further with appropriate legislation and 
upgrades.  Dukovany, which uses a type of fuel only produced in 
Russia and Spain, has a long term fuel contract with the Russian 
company TVEL.   TVEL also won a recent bid to supply Temelin with 
fuel from 2010-2020, which Westinghouse currently supplies through 
¶2009. 
 
¶9. (SBU) Concern over complete Russian control of nuclear fuel 
supplies is not justified in the short-run but could be a concern in 
the long term.  Dukovany keeps a one year reserve of fuel on site 
and both stations only replace 1/5 of their fuel once a year. 
Therefore, if Russia were to cut off nuclear fuel supplies to the 
CR, it would not/not have the same effect as gas or oil supplies. 
Sufficient time would be in place to negotiate with alternative fuel 
suppliers.  Nuclear generation has large costs associated with 
construction, security, and waste disposal, but once built, it has a 
very low marginal cost, steady fuel supplies, and no carbon 
emissions.  From the view point of public finances, energy 
efficiency, and emissions reductions, nuclear power makes perfect 
sense for CEZ and the CR.  The real question, however, is whether 
the domestic and European political situations come to value the 
security and emissions benefits of nuclear over the potential 
hazards. 
 
--------------------- 
PRAGUE POWER EXCHANGE 
--------------------- 
¶10. (SBU) In 2007, CEZ consented to create the Prague Power Exchange 
(PX) where it will sell roughly 30% of its capacity.  The other 70% 
is sold directly to its subsidiaries for distribution to consumers. 
PX CEO David Kucera acknowledges that if CEZ did not agree to sell 
this capacity on the exchange, then the whole project would not have 
proceeded.  The PX's objective is to bring transparency to the 
energy market by replacing an annual energy auction with an exchange 
that allows people to gauge electricity prices daily.  Businesses 
will be able to view and financially secure power prices for two 
years out and this helps with effective planning.  Industry believes 
popular fear of steadily increasing prices on the exchange is 
invalid.  The previous once yearly auction increasingly involved the 
same percentage increase, but because it only occurred once a year, 
the auction and prices simply faded from memory rather than being 
constantly reminded with daily and even hourly price readouts. 
Therefore, some argue that yearly auctions actually inflate the 
price of electricity because firms would bid high in fear of getting 
frozen out of the auction allocation.  The problem with the PX is 
that CEZ has market power because it is the largest player in the 
market so CEZ could manipulate this market in a variety of ways to 
avoid speculation.  Nevertheless, the PX is a too-tempting-to-resist 
venue to exercise market power for CEZ profit, which happens to fill 
government coffers. 
Graber