AES AND ELECTRICITY TENDER: GOH AWARDS TO LUFUSSA

C O N F I D E N T I A L SECTION 01 OF 05 TEGUCIGALPA 003184

SIPDIS

STATE FOR WHA, WHA/CEN AND EB/CBA
GUATEMALA FOR COMATT: DTHOMPSON

E.O. 12958: DECL: 11/21/2012
TAGS: ENRG BEXP EINV ECON EAID PREL HO
SUBJECT: AES AND ELECTRICITY TENDER: GOH AWARDS TO LUFUSSA
DESPITE FAILURE TO COMPLY WITH BID REQUIREMENTS

REF: A. (A) 01 TEGUCIGALPA 2872


B. (B) TEGUCIGALPA 02207

C. (C) TEGUCIGALPA 02857

Classified By: Ambassador Larry Palmer; Reasons 1.5 (B) and (D).

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SUMMARY
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1. (C) The Honduran state-owned electricity company ENEE
announced that Honduran company Lufussa was the winner of the
210MW electricity tender, ignoring Lufussa's failure to
comply with bid requirements and serious allegations of
impropriety. ENEE's decision represents a heavy blow for
U.S. company AES, which seeks to build a USD 600 million
combined cycle plant producing 850 MW of energy, fueled by
liquefied natural gas. AES has identified a number of
weaknesses in the decision and plans to challenge the
contract award through administrative and judicial channels,
if necessary. The GOH has not adequately explained these
apparent discrepancies to date. Embassy recommends that the
USG support AES in its challenge of the bid results. While
post does not necessarily recommend a direct linkage between
this issue and USG assistance, it would be helpful to delay
any announcements of new assistance or initiatives at this
time. End Summary.

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ENEE ANNOUNCES LUFUSSA BEAT OUT AES, WITHOUT SUBSTANTIATION
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2. (C) On November 15, the Board of Directors of the
state-owned electricity company ENEE announced Honduran
company Lufussa (owned by the Kafie family) was the winner of
the 210MW electricity tender. ENEE indicated that Lufussa
had provided the lowest evaluated price per kilowatt hour of
$.04638, followed by Comercial Laeisz at $.04797, AES at
$.04825, ENERSA at $.04847, NAINSA at $.05078 and El Triunfo
at $.05337. No documentation was provided on the assumptions
underlying these calculations. The official notification of
the results was delivered to the bidders on November 19.


3. (C) ENEE's decision, if not overturned, represents a heavy
blow for U.S. company AES, which seeks to build a USD 600
million combined cycle plant producing 850 MW of energy,
fueled by liquefied natural gas. Successful acquisition of
this contract would have provided AES sufficient security of
demand, along with its contracts in El Salvador, to complete
financing arrangements and begin construction of the plant
and LNG terminal. AES is concerned about perceived
irregularities and a lack of transparency in the evaluation
process. They continue to seek the supporting documentation.
Post expects the company to issue a challenge to the bid
award by November 26. If the appeal is denied and AES
decides to sue in the courts for redress, this challenge
could tie up the tender for months or even years, thus
delaying the GOH's phase-out of extremely expensive
short-term electricity contracts.


4. (C) The USG (both at the Embassy and in Washington) has
heavily advocated for a fair and transparent process (ref c).
In the past month, Embassy approaches have been complemented
by letters from Commerce Secretary Evans and Under Secretary
of State for Economic, Business and Agricultural Affairs Alan
Larson. EmbOffs have been repeatedly assured by numerous
high level Honduran officials, including President Maduro, of
their commitment to a transparent and technically correct
process. Nonetheless, serious flaws in the GOH's management
of the process have emerged.


5. (C) On November 18, Minister of the Presidency Luis
Cosenza and presidential counselor Ramon Medina Luna met with
Ambassador and DCM to explain the GOH's position on the
results of the project. Cosenza started by explaining the
process used to ensure fairness and transparency - the
Evaluation Committee included representatives from Probidad
Administrativa (the GOH's ethics office),the Attorney
General's office, and the Controleria (akin to the OMB or
GAO). A transparency committee of outside observers was also
formed to certify that all procedures were followed
correctly. There was unanimity among all the representatives
on the results of the bid. Given this unanimity, Cosenza
asserted that there was no defendable way for the Board of
Directors of ENEE to disregard the recommendation or for the
President to refuse to sign off on it. Cosenza also
explained that there was a five-week delay in announcement of
the bid results to accommodate a request from new officials
in Probidad Administrativa to have time to review the whole
process. Although the GOH was aware that the delay would add
to questions about the fairness of the process, it was
necessary to let Probidad's review take its course.

6. (C) During the meeting with Cosenza, Ambassador and DCM
questioned the lack of availability of the data on which the
decision was based, the lack of action on allegations of
impropriety, and the failure to disqualify national firms
early in the process who failed to meet the minimum
requirements of the bid. Cosenza was apparently nervous and
defensive throughout the meeting, but did not acknowledge GOH
failings in these areas. At the end of the meeting, Cosenza
offered to send the members of the transparency committee to
the Embassy to brief the Ambassador personally. The meeting
is scheduled to take place on Friday morning, November 22.

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AREAS OF CONCERN
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7. (C) AES has identified a number of categories of problems
in the transparency and fairness of the bid process,
including lack of transparency and data, unfair evaluation
criteria, and a lack of action by the GOH on possible
corruption among the participants in the evaluation. The
GOH's responses have been legalistic and vague, to date.

Unsubstantiated Price Calculations
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8. (C) AES alleges a lack of transparency and fairness on the
calculation of evaluated price: no documentation regarding
price analysis or methodology has been received to date. In
response to separate Embassy and AES inquiries, the GOH has
promised that the transparency committee, established by ENEE
to monitor the evaluation committee's work, will give
briefings on the process. This clearly begs the question.
Customarily, an evaluation of price consists of application
of a formula based on price bids, estimates on fuel costs and
estimates of transmission loss.


9. (C) AES calculates that with some assumptions, Lufussa
could have had a lower evaluated price before transmission
loss, but after transmission loss is taken into account
(since its transmission losses should be about 20 percent
lower than Lufussa's) AES would come into first place albeit
at a small margin. According to AES' calculations, there are
no scenarios under which Comercial Laiesz could have had a
lower cost. Note: Minister of the Presidency Cosenza and
ENEE General Manager Botazzi, although both are electrical
engineers, have professed lack of familiarity with the
evaluation formula and the results. They claim to have
relied totally on the results of the Evaluation Committee and
the Transparency Committee. AES terms it "incredible" that
the GOH would have announced a winner without even doing a
cursory view of the calculations or having the information
ready. End Note.

Lack of Disqualification of top bidders for failures of their
bids to meet tender package requirements
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10. (C) AES has strongly argued all along that Lufussa should
have been disqualified by ENEE for failure to include in its
offer a transmission line and all related infrastructure.
Clause 2.1 of the draft contract and Addendum 4 of the
package, required transmission lines and all related
infrastructure needed to deliver committed capacity and
energy be included. According to AES, Lufussa did not make a
commitment to build the $20 million transmission line until
it received the second round of requests for clarification by
the evaluation committee. In the case of Comercial Laeisz,
AES believes that the company's offer of 155 separate 1.7 MW
motors does not meet the intent of the ENEE to receive bids
for "base load" capacity.


11. (C) GOH officials (including Cosenza, ENEE leadership and
all participants in the evaluation and transparency
committees) are insisting that Honduran law allows Lufussa to
remedy the initial lack of transmission capability in a later
round of clarifications. AES flatly refutes this, noting
that transmission capability was a required technical
parameter and a variable that impacts the economic offer and
that Lufussa should have been disqualified at that point.
The GOH has given no explanation of the lack of
disqualification of Comercial Laiesz.

Price Evaluation Methodology
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12. (C) ENEE issued changes to the price evaluation
methodology throughout the spring of 2002, in light of
comments and questions made by participants in the tender.
AES contested the key points in the methodology (fuel
evaluation, variable costs, economic dispatch and others) in
a letter on June 5 but received no response from ENEE as
required under bid terms.


13. (C) AES complains that one of these changes allowed high
fuel prices in April 2002 to give a 16 percent advantage on
variable fuel costs to the evaluated prices of bidders using
bunker fuel (a counterintuitive result since high oil prices
should not make a bidder more attractive). Variable fuel
costs represent approximately one-half of the overall price.
AES' competitors were also given a large advantage when ENEE
decided not to take into account the fact that AES' total
variable costs are 45 percent lower than Lufussa because of
the efficiency of combined cycle technology. The GOH's bland
response to these arguments is that ENEE tried to be balanced
in deciding on the evaluation criteria, adding that "while
some decisions may have worked to AES' disadvantage, others
worked in their favor" (e.g. the decision to allow 24 months
for plant construction).

GOH Allowed Opportunities for Manipulation of the Process
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14. (C) AES reports that on at least four separate occasions,
individuals purporting to either represent other bidders or
to have influence with the GOH have contacted AES regarding
the possibility of a negotiated solution, such as dividing
the bid among certain participants or suggesting that AES
Honduras could be allowed to win, for a fee. On two other
occasions, internal documents belonging to the evaluation
committee were offered for sale to AES Honduras (and
refused). GOH officials acknowledged that they were aware of
these allegations but because "they did not affect the final
decision" took no action to investigate. AES argues that
this lack of action, combined with the GOH's continuous
insistence that the process was transparent, sent a message
that there would be no serious consequences for such action.


AES had the better project
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15. (C) AES argues that any of the above factors should have
allowed the ENEE and GOH to award the contract to AES. In
addition, AES thinks that the government should have
considered the additional benefits of the AES project: the
AES project would entail a USD 600 million investment, three
times the size of the closest competition, with attendant
benefits for government tax revenue, export promotion,
foreign exchange earnings, regional integration, energy
diversification and competitiveness of Honduran industry.


16. (C) GOH officials, however, have not been in agreement
with this concept. In conversations with Ambassador and DCM
over the last few months, they have repeatedly emphasized
that the bids need to be decided on the basis of the
evaluation criteria established in the tender package. This
argument is somewhat disingenuous. ENEE is a state-owned
company and should have designed evaluation criteria that
would attract the best possible project.

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PUBLIC REACTION AND PRESS COVERAGE
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17. (U) Reporting on this issue ranges from straight
reporting to wait-and-see to critical. El Heraldo and La
Prensa have been especially caustic, reporting that the
winning company had failed to meet the requirements of the
solicitation and that it should never have been allowed to
participate. Reporting on the Ambassador's comments to media
following his November 18 meeting with Cosenza and Medina, an
HRN radio editorial agreed with the Ambassador that the
decision could have an adverse impact on foreign investment
and would make it more difficult for average citizens to
receive a low-priced, efficient and environmentally clean
energy system. HRN also said that it had warned people that
various sectors of society had an interest in having the
contract go to Lufussa, in spite of its failure to comply
with the norms. The program director of Hoy Mismo, a widely
respected national television news program, discussed the
Ambassador's comments with COHEP president Regalado on the
evening program yesterday. The director said that there were
many questions about the process, among them the question of
who had appointed the Commission on Transparency and what
their qualifications were. He asked why COHEP was not asking
some of the same questions about the process and was told
that the government had assured COHEP that the process was
transparent and fair.

18. (U) An editorial in his newspaper, Tiempo, by Jaime
Rosenthal -- Congressional deputy, businessman and long-time
critic of the AES project -- predicted that within a year,
the government would open another bidding process for an
additional 200 megawatts, since he doesn't think that Lufussa
can produce additional electricity with the outdated plants
that they will have to continue using. He also said that a
culture of suspicion is the sad reality of Honduras and
worse, that the trials take place in the media, (not in the
courts).

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NEXT STEPS OPEN TO AES
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19. (C) AES and other bidders have the right to appeal the
tender award within five to ten days of the official
notification of the result. The appeal would be decided by
the Board of Directors of ENEE. Once the appeal is received,
ENEE would have 40 to 60 days to decide on the motion. Once
administrative procedures are completed, AES would be free to
present its case to the lower courts and eventually the
Supreme Court. (Note: the periods and procedures listed here
are imprecise because attorneys are uncertain of the effect
of a newly adopted Simplification of Administrative
Procedures law, which is only now entering into force).


20. (C) Upon announcement of the decision on November 15,
members of the transparency committee took it upon themselves
to discourage any challenges by losing companies. AES has
taken exception to this action. Luis Cosenza told Ambassador
on November 18 that this discouragement of appeals was
regrettable. The GOH reasserted the right of all bidders to
pursue potential administrative and legal avenues.


21. (C) AES Honduras representatives are in close and
frequent contact with the Embassy. They have asked for
continued support and advocacy, and in particular, to
highlight in our public statements our concerns about
potential discrepancies. While their first impulse is to
appeal the decision both administratively and legally,
company representatives also are starting to think about
creative redress solutions that could be negotiated (such as
a second tender offer for fuel sources other than bunker and
diesel).

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EMBASSY COMMENT AND RECOMMENDATION
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22. (C) The Embassy has always viewed this electricity
contract as a bellwether project. If done correctly, the
government's management of this process could have held the
potential to reduce electricity costs dramatically, improve
government finances, improve Honduran competitiveness,
provide a large infusion of investment at a time of stagnant
economic activity, and in addition demonstrate to the inward
looking private sector that rent-seeking behavior would no
longer be tolerated.


23. (C) Instead, the GOH has now painted itself into a corner
from which no easy escape appears possible. First, by
failing to provide clear leadership and guidance in the
development of the evaluation criteria, the GOH has allowed
ENEE to tilt the playing field toward the domestic companies.
Representatives of Duke Energy, another U.S. company that
had been following the tender with interest, told
then-Ambassador Almaguer in March that the company would
probably not participate in the tender because of this
tendency (and Duke in fact decided not to bid). Second, by
allowing Lufussa to win the bid despite an obvious attempt to
escape a commitment to build the costly transmission lines,
the GOH seriously discredits government procurement rules.
Third, by not making available the data on which the
evaluated prices were determined, the government has raised
the specter of real manipulation of the numbers (with the
collusion of all parts of the GOH) while at the same time
undermining its constant assertions that the process was
transparent. Fourth, the GOH has requested USG assistance on
many economic fronts (a donation of wheat, help in urging
flexibility with the IMF, technical assistance in trade
capacity building, money laundering, tax administration, and
in a variety of other fields) at the same time that it
appears to be placing domestic political accommodation above
fairness to U.S. investors.


24. (C) Embassy recommends that the USG support AES in its
challenge of the bid results. The USG should be supportive
of AES' attempt to obtain the documentation underlining the
ENEE decision and continue to highlight publicly our
questions about the fairness of the process. We will also
encourage the GOH to review the decision carefully and to be
willing to overturn it if mistakes were made. Allegations of
impropriety should be investigated by the GOH ambitiously.
While Post does not necessarily recommend a direct linkage
between this issue and USG assistance or support with
international financial institutions, it would be helpful to
delay any announcements of new assistance or initiatives at
this time.
PALMER