HONDURAS: TWIN SHOCKS IN ENERGY MAY HIT THIS SUMMER

C O N F I D E N T I A L SECTION 01 OF 03 TEGUCIGALPA 000892

SIPDIS

SIPDIS

STATE FOR EB/ESC, WHA/EPSC, WHA/PPC, AND WHA/CEN
STATE FOR D, E, P, AND WHA
TREASURY FOR DDOUGLASS
STATE PASS AID FOR LAC/CAM
NSC FOR DAN FISK

E.O. 12958: DECL: 05/21/2017
TAGS: ENRG EPET HO PGOV PINR PREL
SUBJECT: HONDURAS: TWIN SHOCKS IN ENERGY MAY HIT THIS SUMMER

REF: TEGUCIGALPA 368 AND PREVIOUS

Classified By: AMB Charles Ford for reasons 1.4 (b) and (d).

1.(C) Summary: While the Honduran initiative to nationalize
all fuel imports and award one contract to supply the
country's fuel needs appears to have stalled, problems
persist. The current fuel importers have declared they are
operating at a loss, and have told Post that they will not
continue to increase the supply in-country, which would lead
to fuel shortages within the next two to four months.
Meanwhile, huge financial losses continue to mount at state
electrical company ENEE, and sources have indicated that
black-outs could hit the industry heavy north within four
months. The response from the President may avert short term
disasters, but with long term repercussions. End Summary.

--------------
FUEL IMPORTERS: 12 CENT LOSS ON EACH GALLON
--------------


2. (C) Ambassador and EconChief met with Exxon
representatives April 23, after the group had first met with
President Jose Manuel "Mel" Zelaya. In the meeting the reps
described how the change in the fuel price setting formula
effected last January 15 (reftel) has forced the company to
operate at a loss. The company has proposed raising the
margins on imported fuel over the course of several months to
allow them to operate profitably; without this mechanism in
place, the reps indicated that they simply would not increase
their supply of fuel to meet the rising demand, particularly
for premium fuel. (Comment: With fuel prices at historic
highs, Post sees little possibility of President Zelaya
agreeing to recoup the estimated 12 cents in importer margin
by increasing gasoline prices. End Comment.)


3. (C) The demand for fuel over last year's quantities has
risen over 20 percent despite the high prices. (Comment:
Industry observers are mixed on why this is happening. Most
attribute the growth to more motorists staying in Honduras to
fill their tanks as regional prices equalize. End Comment.)
Per the importers, because they are losing the 12 cents per
imported gallon, they will face a decision around the end of
July on whether to restock their storage facilities at the
higher level required to meet the demand. Exxon has stated
that unless their demands are met they will not, which could
potentially leave some of their 57 branded stations without
fuel. (Comment: It is difficult to believe that Exxon would
allow their stations to run out of supply, and potentially
damage their brand name over a dispute in a relatively minor
market. However, keeping current contracts at the same
supply level is a distinct possibility. Post believes that
they are most likely in a loss position on importing, but
exactly how much of a loss and whether they make up for that
loss on other parts of the distribution chain is debatable.
End Comment.)


4. (C) In a meeting April 28 with fuel importers Texaco and
Shell, the companies also stated that, faced with increasing
demand in the early summer, they will likely decide not to
increase supply. Moreover, the Shell reps maintained that,
due to a change in diesel type used in the PLATS fuel
reference pricing system, the importers will soon be facing
another difficult negotiation with the GOH on changing
formula reference prices. (Comment: PLATS, a regional price
reference used in the GOH price setting formula, is changing
from using an older diesel blend, Diesel #2, to a low sulfur
blend that costs more. Consequently, the GOH and the
importers need to come to an agreement over how to adjust the
formula to accommodate the new PLATS price. End Comment.)
The importers maintain that this is the same type of issue
that allowed the GOH to change the formula (and put importers
in a loss position) when the reference price for premium fuel
changed in January.

--------------

TEGUCIGALP 00000892 002 OF 003


ENEE ) BLACKOUT THREAT GROWING RAPIDLY
--------------


5. (C) Meanwhile, the other side of the energy equation,
power generation and distribution, is a fiscal and technical
disaster. With over 70 percent of energy generation produced
by thermal energy (diesel and bunker, or fuel oil),the
company's costs have risen dramatically in the last two
years. In addition, while several old thermal generation
contracts negotiated at rates as high as 18 cents per Kilo
Watt Hour (KWH) have recently been renegotiated, the overall
fiscal impact reportedly remains the same. (Comment:
Competitive rates for a market the size of Honduras are
usually in the 6 to 8 US cent range. EconChief met with one
thermal plant owner, Freddy Nasser, who proudly announced he
had simply renegotiated longer terms and higher prices on
other plants to achieve the same net price. End Comment.)


6. (C) Faced with skyrocketing costs, the GOH has shown
little political will to raise consumer rates. The first
head of ENEE in the Zelaya administration, Juan Bendeck, made
the recommendation to raise rates within his first days of
office ) he was fired soon after. Consequently,
financial losses have been estimated at around USD 200
thousand a day, and sources at the Finance Ministry indicate
that keeping ENEE solvent will require an exceedingly high
percentage of the national budget. A high profile operation
to collect on deadbeat subscribers, companies and government
agencies, called Project Scissors and led personally by
President Zelaya, was generally considered ineffective. But
the near term issue is finding sufficient energy generation
capacity, and industry sources estimate that within 6 months
ENEE will face continual blackouts if 70 to 100 Mega Watts
(MW) of new capacity is not found. (Comment: Blackouts in the
northern coast town of La Ceiba have already been reported.
End Comment).


7. (C) ENEE representatives have officially stated that they
need 100 MW of new capacity by summer 2008 to maintain at
least a 10 percent reserve of installed capacity, but
industry sources indicate that the deteriorating
infrastructure and maintenance requirements are accelerating
the need for new capacity. Loss of energy due to bad lines
and other equipment is estimated at around 28 percent, well
above the industry average of 10 to 15 percent. Insufficient
investment in the sagging infrastructure means that the
situation will not improve in the near future. Complicating
matters is the need for increased maintenance on the aging
equipment, particularly the No. 4 turbine at the big 300 MW
dam El Cajon, which should have been brought down for
scheduled work months ago.


8. (C) With the financial and technical outlook for ENEE
dire, plans to close the near term gap in capacity have been
largely ineffective. Bids for two new thermal plants in the
north returned rates of 19 cents per KWH and were dismissed.
It now appears the only option to avoid blackouts by the end
of summer is to negotiate once again with the current thermal
plant owners. (Comment: Nasser and fellow thermal plant
owner, and brother-in-law, Chukry Kafie, have offered to
expand capacity at their plants at an undisclosed rate.
Another option is an aged and shuttered thermal plant in
Puerto Cortes that could generate around 60 MW after
significant retrofitting. Industry observers are not
surprised that Nasser and Kafie are seemingly the only
options in town, and blame them for GOH inaction in securing
new sources of energy. End Comment)


9. (C) COMMENT. With the GOH heading for another show-down
with the fuel importers, the ENEE situation makes the
situation much worse. President Zelaya's playbook for
dealing with refined gasoline issues: stare down the
multinationals, freeze prices at random levels, and give the
public the impression that he can control prices - has helped
keep his public approval numbers high. In this environment
it is hard to believe Zelaya will give back any of the

TEGUCIGALP 00000892 003 OF 003


importer margins gained in the January 15 formula change.
U.S. companies Exxon and Texaco will most likely acquiesce in
this scenario, but Shell is a different story: with the least
infrastructure in country of the three, and divestitures in
the Dominican Republic, they might decide to pull-out.


10. (C) COMMENT (CONT): ENEE on the other hand is a more
formidable challenge; Zelaya cannot as easily pin the blame
on the thermal generators or other groups. With Project
Scissors gaining little in the polls and even less for ENEE,
President Zelaya will most likely turn to the thermal owners
to meet short term capacity needs. That has happened before,
in the early 1990s, and the thermal owners are benefiting
from that windfall up to this day. While the twin shocks in
refined gasoline and power generation may be avoided, it
could come at the expense of higher prices and greater
industry consolidation. END COMMENT.
FORD