How is the Selling Price of Electricity Determined?

With oil price hikes in the offing now and then, you may be worried about how this affects the price of goods and yes, electricity, which is a big factor in production.

Here, I break down how it is set.

The price of electricity is a function of the following:

• Production Cost. Under this are
  1. Variable cost. You have of course fuel, manpower, other costs necessary to run the power plant.
  2. Fixed Cost. We have here the administrative, depreciation, selling expenses, and other stuff
• Margin or in other words, the return the power company requires from its investments

In an ordinary business like furniture manufacturing, the selling price is equal to the production cost plus margin. In a power company the projected power rate is designed to yield the desired Return On Rate Base, or the RORB.

The RORB, most of the time is dictated by the creditors under its loan covenants. It could run from 8% and may go as high as 12%.

Now the Rate Base is the Average Net Asset in Operation

So, to give an example, we have this formula:

• Selling Price = Production Cost + Margin
• Where Margin = Rate Base + 12%
• Given:
  • Rate Base = 1,000,000 PHP
  • Production cost = 160,000 PHP
  • Electricity Produced = 120,000 kWh

Selling Price = 160,000 + (1,000,000 x 12%) divided by 120,000 kWh

The Selling Price then, from the above is = PHP 2.33 per kWh

Wow!