This case study discusses AES Tiete, a subsidiary of AES Corporation, a power company in Brazil. Luiz Costa, manager of the AES investment group, must evaluate and defend the case for investing in a 500-megawatt thermal power plant in São Paulo in southeast Brazil. He must come up with a recommendation for the project which needs to be made based on Base case, optimistic case and pessimistic case scenario.
Yiorgos Allayannis; Gerry Yemen; Roberson Oliveira
Harvard Business Review (UV7081-PDF-ENG)
October 22, 2015
Case questions answered:
- Should AES Tiete bid in this auction of the new project (500- megawatt (MW) thermal power plant) in Brazil?
- If yes, what should be the bid price of the auction?
- In addition, the recommendation for the project also needs to be made based on Base case, optimistic case and pessimistic case scenario.
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Case answers for AES Tiete: Expansion Plant in Brazil
This case solution includes an Excel file with calculations.
Chapter 1: Introduction – AES Tiete: Expansion Plant in Brazil
1.1 Background of the Case
AES Corporation, which has 24% economic interest (a controlling interest) in AES Tiete, the third-largest private electricity generator in Brazil, is now considering an investment opportunity that exists in Brazil. As a manager of the AES investment group, Luiz Costa is required to evaluate and defend the case for investing in a 500- megawatt (MW) thermal power plant to be built in the state of São Paulo in southeast Brazil. He would have to present his findings to the Global Valuation Review team, including a recommendation for the project and a bid price for the upcoming government auction. In strategy meetings, executives shared with Costa their belief that in order to be competitive, AES could not bid more than BRL50/MWh in the auction.
The report is basically based on a secondary database. All the necessary information to complete our analysis is taken from the main case of AES Tiete. And in case of unavailability of information, we make a realistic and educated assumption based on our judgment.
1.3 Objective of the Report
Objectives of this report include:
- To analyze the current financial structure of AES Tiete based on its operation in Brazil.
- To review the cost of revenue from the specified electricity generation project and determine profit to AES.
- To determine a bid price for the upcoming government auction and make a feasible recommendation.
- To make feasible recommendations.
Chapter 2: Company profile – AES Tiete
AES is a diversified energy utility company that had operations on five continents and six strategic business units (SBUs) including Brazil. The company is headquartered in the city of Barueri in the state of São Paulo. AES has started its operation in Brazil in 1997 through the acquisition of one of its utilities (AES Sul). AES focuses on business expansion throughout the late 1990s and the first decade of the 21st century and successfully established two lines of business: energy generation and distribution. AES has two utility business; AES Eletropaulo and AES Sul, and its two-generation businesses are AES Uruguaiana and AES Tietê.
In Brazil, AES has 13 generation facilities with a generation capacity of 3,298 gross megawatts, employed 7,600 people, and served 20 million clients, most of whom were located in Brazil’s south and southeast regions. These plants and infrastructures of AES supply 13% of Brazil’s distributed energy per year. AES held a 16% economic interest in Eletropaulo, which was a publicly-listed firm and the largest power distributor in the country in both revenue and volume. Electropaulo has a 10% market share in the Brazilian market and distributes electricity to 24 municipalities. Eletropaulo had 151 substations and a distribution network reaching 4,526 square kilometers across Brazil. It distributed 46,216 gigawatt-hours (GWh) of electricity to customers in 2013.
Chapter 3: Economy analysis
The Economy of Brazil is the world’s eighth-largest economy by nominal GDP and eighth-largest by purchasing power parity. The Brazilian economy is characterized by a mixed economy that relies on import substitution to achieve economic growth. Brazil has an estimated US$21.8 trillion worth of natural resources which includes vast amounts of gas, gold, uranium, iron, and timber.
As of late 2010, Brazil’s economy is the largest in Latin America and the second largest in the Americas. From 2000 to 2012, Brazil was one of the fastest-growing major economies in the world, with an average annual GDP growth rate of over 5%, with its economy in 2012 surpassing that of the United Kingdom, temporarily making Brazil the world’s sixth-largest economy. However, Brazil’s economic growth decelerated in 2013 and the country entered a recession in 2014. In 2017, however, the economy started to recover, with a 1% GDP growth in the first quarter. In the second quarter, the economy grew 0.3% compared to the same period of the previous year, officially exiting the recession.
According to the World Economic Forum, Brazil was the top country in the upward evolution of competitiveness in 2009, gaining eight positions among other countries, overcoming Russia for the first time, and partially closing the competitiveness gap with India and China among the BRIC economies. Important steps taken since the 1990s toward fiscal sustainability, as well as measures taken to liberalize and open the economy, have significantly boosted the country’s competitiveness fundamentals, providing a better environment for private-sector development.
Chapter 4: Industry analysis
4.1 Industry overview:
The energy industry of Brazil is considered as the eighth-largest total energy consumption in the world. This industry is highly controlled and the government of Brazil tries to maintain the demand-supply mechanism in this industry over the years. The National Electric Energy Agency (ANEEL) was established in 1996 to help privatize electricity in Brazil, and at the same time regulation in this industry had been increased and most companies remained under government control.
In 2004, the government had created a new regulatory model and the energy sector was divided into regulated and unregulated markets. In the regulated market, the government created an auction tool intended to reward efficiency in hydroelectric, biomass, wind power, small hydropower, and biodiesel generation. On the other hand, the unregulated market allowed traders and large consumers (more than 3 MW) to negotiate their prices, terms, and conditions—although the outcomes had to be registered with the government. The major competitors in Brazil’s electricity industry included CPFL Energia (a publicly held holding company), CEMIG, (government-controlled, publicly held), AES Brasil (publicly held), and Companhia Paranaense de Energia (publicly held).
4.2 PESTLE analysis:
Here is a brief discussion on the political, economic, social, technological, legal and environmental factors affecting the energy and utility industry of Brazil:
4.3 Porter’s five forces analysis:
Threats of New Entrants:
The Energy and Utility industry of Brazil is competitive and companies like CPEL, CEMIG, Eletropaulo, COPEL, etc. are operating for decades. Though the new entrants in this industry bring innovation, new ways of doing things and put pressure through lower pricing strategy, reducing costs, and providing new value propositions to the customer, it can be said that threat of new entrants is low. By innovating new products and services, building economies of scale so that it can lower the fixed cost per unit, building capacities and spending money on research and development, AES Tiete can reduce the magnitude of the threat of new entrants.
Bargaining Power of Suppliers:
Major players in this industry buy their raw material from mostly westerns suppliers. As not lots of companies are offering sophisticated technologies and regular innovation, suppliers are in a dominant position in here. Powerful suppliers often use their negotiating power to extract higher prices from the firms in the electric utility field which negatively affects the overall profitability of Electric Utilities. In order to deal with the higher bargaining power of suppliers, AES Tiete can build an efficient supply chain with multiple suppliers.
Bargaining Power of Buyers:
Generally, industry players supply the electricity in their covered region at a previously established price. Though the buyers want to buy the best offerings available by paying the minimum price as possible, they need to…