Samdo Case Study

C.B. Chapman and S.C. Ward

Southampton Management School

University of Southampton,

Highfield, Southampton SO17 1BJ

Dec 2011 Version Copyright C.B. Chapman and S.C. Ward

The historical context of this case is late 1990s Ontario, Canada, with Ontario Hydro, the government owned near monopoly producer of electric power, currently seeking government approval for a significant expansion in their nuclear power.

Sam Chong recently settled in Ontario, having moved from Hong Kong.He is seeking to invest a portion of his considerable assets in the independent electric power production industry in Ontario, a sector widely tipped to experience very rapid growth.To this end he has set up a company, Samdo, capitalised using his own funds and those of a number of family, friends and acquaintances. The intention is to use the company to build and operate electric power plant, building up a portfolio of such plant as opportunities arise.

Currently Ontario Hydro produce most of the power for Ontario, the main exceptions being cogeneration plant associated with food processing, timber and similar industries, some small hydro plant, and purchased power from other provinces. Currently Ontario Hydro operate all long distance distribution, selling power to municipal utilities for local distribution, large industrial customers, and small rural customers. Currently Ontario Hydro will buy power from independent producers, but at rather low prices negotiated privately with each potential supplier, based on "avoided costs", marginal cost savings to Ontario Hydro of such purchases, which varying considerably from base to shoulder to peak load.

Ontario Hydro wish to increase their current significant dependence upon CANDU nuclear reactor power, by building about 10 more 880 megawatt units over the next twenty five years. Should this happen, "avoided cost" for base load power could be very low.However, there is strong political pressure from a range of sources for publicly declared prices well above current avoided costs to encourage private cogeneration. Privatisation of Ontario Hydro is being argued by leading environmental groups, with a view to increases in electricity cost per unit which would decrease electricity consumption, a feature of Ontario Hydro's economics being cheap capital relative to the private sector.

Sam has identified what he believes to be his first big opportunity. It would involve:

1. Producing base load electric power for sale to Ontario Hydro in a north Ontario town using a CCGT (combined cycle gas turbine) set (2 or 3 natural gas powered turbines driving generators with waste heat producing high pressure steam to drive a steam turbine generator).

2. Providing emergency back-up power in the event of Ontario Hydro grid failure to a hospital and a group of information system dependent organisations in the municipality, on a contract which would provide for heavy damages if Samdo fails to provide emergency power when needed.

3. Providing low pressure steam for manufacturing organisations in the immediate vicinity of the CCGT set.

The municipality has a natural gas network and supply, but the supply pipeline is not large enough to cope with the proposed CCGT. The gas supply company will provide a new main and gas at a price per unit fixed for a substantial period of time, but require a "take-or-pay" contract: if Samdo contract to take gas from any given date, they will in effect have to pay for the contracted gas flow whether they use it or not.

A range of established suppliers of CCGT plants can provide the required equipment. They each tend to be at a different point in a cycle, which can be approximated by three phases as follows.

1. New untested design. Very high fuel efficiency. Initial reliability is uncertain. Likely to be very reliable in the long run. Claimed very low maintenance costs. Low capital cost to encourage purchase.

2. State of the art tested design. High fuel efficiency, high reliability and low maintenance costs.Very high capital cost.

3. Tried and true design. Low fuel efficiency, moderate reliability and maintenance costs.Moderate capital cost.

CCGT plant suppliers will install plant on a fixed price turnkey basis with stiff penalty clauses for delays or performance failures they are responsible for. However, such penalty clauses may not be operable, if for example, ground conditions are not as assumed, or full

power testing of the plant is not feasible because grid connections are not in place when required.

Ontario Hydro will provide grid connections, and will not allow anyone else to do so.

Low pressure steam connections, emergency power connections and water supply piping can be contracted for by Samdo using local firms.

Water for the CCGT set will be taken from a river which flows through the municipality.

Extraction of water requires provincial as well as municipal approval. Municipal planning approval is required for the plant, water pipeline, low pressure steam lines and power lines. The latter two also require provincial approvals with respect to safety issues.

Sam proposes the purchase of phase 2 (state of the art tested design) CCGT plant to be installed and running as soon as possible. He has made you responsible for preparing and implementing the plans. If you succeed, in Sam's view, you will become a vice-president in charge of new plant developments for Samdo. Sam has no time for failures.

questions:

1. Structure the sources of uncertainty and responses and illustrate this structure using a source-response diagram. Note (please draw the diagram and send a picture of it )

2. Identify what you perceive to be some key decisions Sam should take.

3. Identify what you perceive to be aspects to be quantified, the form of required computations, and outputs to provide appropriate guidance to Sam. Do not attempt quantification.