Our Good-to-Great (G2G) Transformation Strategy: Horizon II. Supported by Power Africa

Transcription

1 Our Good-to-Great (G2G) Transformation Strategy: Horizon II Supported by Power Africa

2 Table of Contents KenGen Power Plants... v List of Figures... ii Acronyms and Abbreviations... v Foreword and Preface... viii Foreword from Board Chairman... viii Preface by the MD & CEO... x Chairman of the Board Strategy Committee Remarks... xii Acknowledgement of Power Africa Support... xiii Executive summary... xiv 1 Introduction KenGen s 2007 Good 2 Great Strategy Changes in Kenya s Power Sector Transitioning to Horizon II Methodology and Approach G2G Horizon I Review Key Achievements in Horizon I of G2G Lessons Learnt Business Environment Review Government of Kenya s Power Sector Objectives Projected Demand Development Projected Supply Development Increasing Role of Independent Power Producers KenGen SWOT Analysis Horizon II Aspirations KenGen s Market Share and Project Pipeline Value Creation Total Return to Shareholders TRS Decomposition Infrequent Trading WACC, ROIC, and IRR Cheaper Renewable Electricity Horizon II Priority Initiatives Improve Returns of Current Plants (OPEX) Direct O&M Savings Additional Generation i

3 5.1.3 Reduced Margin Adjustments Improvement Initiatives Criticality Based Maintenance Strategy Work Order Process and Wrench Time Areas of Good Practice Optimise Future Plants Capex Planning and Execution Scrubbing and Optimisation Contract Optimisation and Contracting Strategy Lean Construction Integrated Project Management Holistic Approach to Capital Productivity Improve PPAS/Tariff Regulation Pursue New Financing Approaches Debt balance sheet financing project financing with spvs Equity Equity contribution from partners asset monetisation Reduce dividends and increase retained earnings Financing Strategy Establish New Structures for Financing Growth KenGen B KenGen C Deliver Current Pipeline and Access New Geothermal Fields Improve Organisational Health and Build Required Skills & Capabilities Strategy Execution Pilot Support Team (PST) and Strategy Execution Pilot Support Team Integration of G2G Horizon II in the Strategy Planning Process & Budget Detail Work Plans Stakeholder Management & Communication Internal Stakeholder Engagement External Stakeholder Engagement APPENDICES... I Appendix 1: Cooperation with Power Africa... I Appendix 2 Other Implementation Partners... II Appendix 3 Sample Key Performance Indicators... III Appendix 4 High Level Workplans... Error! Bookmark not defined. Priority Initiative One: OPEX... Error! Bookmark not defined. Priority Initiative Two: Optimising Future Plants' CAPEX Planning and ExecutionError! Bookmark not defined. ii

4 Priority Three: Improving PPAS and Tariff Regulation... Error! Bookmark not defined. Priority Four : New Financing Approaches... Error! Bookmark not defined. Priority Initiative Five : Establish New Structures... Error! Bookmark not defined. Priority Initiative Six: Delivering Current Pipeline and Access New Geothermal FieldsError! Bookmark not defined. iii

5 Figure 1 KenGen Energy Map iv

6 KenGen Power Plants INSTALLED CAPACITY (MW) YEAR OF COMMISSION COUNTY Plant HYDRO Tana 20.0 MURANG A Kamburu 94.2 EMBU Gitaru EMBU Kindaruma 72.0 EMBU Masinga 40.0 MACHAKOS Kiambere EMBU Turkwel WEST POKOT Sondu Miriu 60.0 KISUMU Sang oro 21.0 KISUMU Gogo 2.0 MIGORI Sosiani 0.4 UASIN GISHU Sagana 1.5 Wanji 7.4 MURANG A MESCO 0.43 MURANG A Hydro Total Thermal Kipevu 1 Diesel 73.5 MOMBASA Kipevu III Diesel MOMBASA Muhoroni Gas Turbine 30.0 KISUMU Embakasi Gas Turbine* 30.0 NAIROBI Thermal Total Geothermal Olkaria I 45.0 NAKURU Olkaria II NAKURU Olkaria IV NAKURU Olkaria I AU NAKURU Eburru 2.4 NAKURU Wellhead 81.1 NAKURU Geothermal Total Wind Ngong I Phase I 5.1 KAJIADO Ngong I Phase II 6.8 KAJIADO Ngong II 13.6 KAJIADO Wind Total 25.5 KENGEN TOTAL 1,630.2 v

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8 List of Figures Figure 1 KenGen Energy Map... iv Figure 2 Pillars of The Good 2 Great Strategy... 3 Figure 3 Changes in the Energy Sector over the Past Five Years... 4 Figure 4 We Are Revamping Our G2G Strategy... 5 Figure 5 Adapted Priorities for the Revamped G2G Horizon II... 6 Figure 6 Initial Work Plan Part I... 7 Figure 7 Initial Work Plan Part Figure 8 Capacity Expansion Delivered Figure 9 : Wells Drilled Figure 10 Power Sector Objectives and KenGen Aspirations Figure 11 Vision 2030 Projects in the Demand Projection Figure 12 Peak Demand and Generation Capacity Projections Figure 13 KenGen SWOT Analysis Figure 14 SWOT Confrontation Matrix Figure 15 Capacity Share and Generation Target In Figure 16 Breakdown of Growth Aspiration by Project and Year Figure 17 Total Return to Shareholders Development Figure 18 Total Return to Shareholder Decomposition Figure 19 Institutional Investors and Time to Trade Figure 20 Market View of KenGen s WACC Figure 21 WACC Comparison to Peers Figure 22 Comparison of Tariffs for KenGen and IPPs Figure 23 Strategic Pillar Priority Initiatives Figure 24 Focus of OPEX Initiative Figure 25 Operational Improvements Figure 26 Direct O&M Cost Savings Figure 27 Additional Generation Potential Figure 28 Reduced Margin Adjustments Figure 29 OPEX Improvement Initiatives Figure 30 Criticality Based Maintenance Strategy Figure 31 Wrench Time Currently At 30% Figure 32 Wrench Time Observations Figure 33 Focus of Capex Initiative Figure 34 Gaps along the Capital Productivity Circle Figure 35 Capital Productivity Interview Results Figure 36 Levers for Capex Improvement Figure 37 Basic Project Delivery Models Figure 38 Integrated Project Management ii

9 Figure 39 Capital Productivity Pyramid Figure 40 Focus Of Improve PPAs/Tariff Regulation Figure 41 Levers of Improving PPAs/Tariff Regulation Figure 42 Focus of New Financing Approaches Figure 43 : To Deliver 2,500mw, We Will Need To Invest/Raise USD 9.5 Bln Figure 44 Financing Approaches to Fund the Capex Need Figure 45 USD 1.4 Bln On-Balance Sheet Finance Figure 46 Change in Debt Mix Figure 47 Balance Sheet Ratios Figure 48 Asset Monetisation Has a Leverage Effect Figure 49 Companies that Focus On Growth Rather than Dividends Figure 50 KenGen Dividends and Share Value Development Figure 51 Proposed Financing Strategy Figure 52 Focus of New Structures/Models Figure 53 Potential Structure of A 100% SPV, Olkaria Vii Example Figure 54 KenGen C Figure 55 Critical Success Factors for KenGen C Figure 56 Focus of Delivering Pipeline and New Fields Figure 57 Elements of the Target Aspiration of 2,500MW Figure 58 Focus of Organisational Health and Skills/Capabilities Figure 59 Overall Organisational Health Assessment Figure 60 Key Findings of the Organisational Health Assessment Figure 61 Company Vision And Direction Figure 62 Managing Systems and Processes Figure 63 Current Capabilities Figure 64 Leadership Organisational Health Figure 65 Employees Sensing A Lack of Inspirational Leadership Figure 66 Personal Connection to Vision and Strategy Figure 67 Development of Motivation over Time Figure 68 Talent Acquisition and Development Figure 69 Support Functions Figure 70 Influence Model Figure 71 Expected Organisational Changes Figure 72 Potential Change in FTE/MW Ratio Figure 85 PST mission and Vision Figure 86 PST Structure Similar to Project Implementation Teams Figure 87 PST Governance Figure 88 G2G itrack Tool Figure 77 Three Year Implementation Roadmap Figure 78 OPEX Work plan iii

10 Figure 79 Capex Work Plan Figure 80 New Financing Approaches Work Plan Spvs Figure 81 New Financing Approaches Work Plan Asset Monetisation Figure 82 Organisational Capabilities Work Plan Figure 83 Growth Positioning Work Plan Figure 84 Pilot Support Team Work Plan Figure 73 Objectives and Messages to Internal Stakeholders Figure 74 Potential Internal Stakeholder Engagement Plan Figure 75 Objectives and Messages to External Stakeholder Figure 76 External Stakeholder Engagement Plan iv

11 Acronyms and Abbreviations AFD AU Bln CAPEX CBM CEO CP DFI EBITDA EIB EPC EPCM EU ExCo Exim FTE G2G GDC GDP GoK GWh IBRD ICT IDA IPP French Development Agency Additional Unit Billion Capital Planning Execution Condition Based Monitoring Chief Executive Officer Capital Planning Development Institution Earnings Before Interest Tax Depreciation and Amortization European Investment Bank Engineering, Procurement and Construction model Engineering, Procurement, Construction, Management) European Union Executive Committee Export-Import Full Time Employees Good-to-Great Geothermal Development Company Gross Domestic Product Government of Kenya Giga Watt hours International Bank for Reconstruction and Development Information Communication and Technology International Development Association Independent Power Producers v

12 IRR IT IT JICA KenGen KETRACO KfW KP&P KPI KPLC KSH L LAPPSET LLC LNG M&T MBS MD Mln MSCI MW N/A NSE O&M ODA OG Internal Rates of Return Information Technology Information Technology Japan International Corporation Agency Kenya Electricity Generating Company Kenya Electricity Transmission Company Kreditanstalt für Wiederaufbau ("Reconstruction Credit Institute") co-developers and investor in the Lake Turkana Wind Project Key Performance Indicator Kenya Power and Lighting Company Kenya Shillings Level Lamu Port and Lamu-Southern Sudan-Ethiopia Transport Parametric Portfolio Associates Liquid Natural Gas Monitoring and Tracking Master of the Burning Spear Managing Director Million Morgan Stanley Capital International Mega Watts Not applicable Nairobi Stock Exchange Operation and Maintenance Official Development Assistance Organisation Health vi

13 OP OPEX PP&E PPA PPP PST RG RoE ROIC SAP SME SPV TBC TBD TRS USD VC VIL WACC Operational Excellence Operational Excellence Plant and Equipment Power Purchase Agreements Public Private Partnership Pilot Support Team Regulatory Management Regulated return on equity Return on Invested Capital Systems Applications and Products Small Micro Enterprise Special Purpose Vehicle to be confirmed to be decided total return to shareholders United States Dollars Video Conference Veterinary Investigation Laboratories Weighted Average Cost of Capital vii

14 Foreword and Preface Foreword from Board Chairman Dear Friends, I am glad to communicate to you at this exciting time when KenGen has revamped its Good-to-Great (G2G) Transformation Strategy as a blueprint for the company over the next ten years. This will contribute significantly towards adding new capacity as part of the government plan to inject 5000+MW capacity into the national grid, lower tariffs and move towards green generation sources. Kenya is in need of sufficient, reliable and affordable power to realize the Vision 2030 energy targets. As the largest power producer in the country, we have strengths of scale and expertise, backed by an exceptional record of accomplishment and service to achieve our targets. In pursuit of our vision, we are transforming the way we manage our operations to accelerate quicker achievement of our targets. The G2G Transformation Strategy was first adopted by the company in The G2G transformation journey embodies moving from a Good to a Great company that creates value for all stakeholders while focusing on achieving sustainability in value creation from One Generation to the Next Generation of Kenyan people. Key Achievements in our strategy Our strategy is embedded in three strategic pillars: Capital Planning and Execution, Regulatory Management and Operational Excellence. Strong Organizational Health is the foundation on which the three pillars are anchored. As a company, we have made great achievements in the implementation of our strategy. At the commencement of our strategy, Kenya was wholly reliant on expensive thermal energy and hydro power which is susceptible to erratic weather patterns affecting regular power supply. So far, KenGen has achieved renewable milestones in its G2G journey. Today, through our contribution in green energy, the economy has benefitted by reduced tariffs and about 88% of our nation consumption is from green sources. Our capacity addition programmes continue to be aligned to the country s Vision 2030 Industrialization goals and government Medium Term Plans. G2G Horizon Priority Initiatives The next phase of our strategy is an ambitious one that will ensure that the Kenyan people have access to reliable, sufficient and affordable energy. As part of G2G Horizon II, KenGen aims to add 2,500MW new capacity in the next ten years, contribute to lowering consumer tariffs, and diversify our business to tap into new revenue sources like offering geothermal consulting or drilling services. We are also building capabilities to be ready for the future and investing in our people to have a happy workforce which viii

15 is proud to be part of KenGen. Strategic priorities that will drive our future is guided by three aspirations/goals namely:- Lowering tariffs to ensure low cost of electricity to spar economic growth; Increasing capacity by 2500MW by 2025; and Value creation for the shareholders with a minimum target Return on Invested Capital (ROIC) of 10%. Appreciation I wish to thank the Government of Kenya for its goodwill and invaluable support in making KenGen s investment programmes a reality. Further, I wish to extend my sincere appreciation to our development partners, the communities where we operate, and all other stakeholders who have been instrumental in the attainment of our mandate. Finally, I acknowledge the professionalism and commitment of the entire KenGen management and staff in executing the mandate of the Company in delivering power to the economy and urge all of us to consistently engage in the implementation of the revamped G2G Horizon II roadmap. Thank you JOSHUA K. CHOGE CHAIRMAN OF THE BOARD April 2016 ix

16 Preface by the MD & CEO Defining strategic direction, creating value through transforming operations and improving cost management, while identifying key modifications to business processes are critical areas for transformation of the organization. KenGen continues to maintain its position as the market leader in the provision of reliable, safe, quality and competitively priced electric energy in the Eastern Africa region. This leadership is hinged on capital planning and execution, regulatory management and operational excellence founded on a healthy, robust and effective organization. To achieve its vision and to transform KenGen into a high performing organization, KenGen embarks on a Good 2 Great (G2G) transformation programme in After 8 years of this programme, KenGen took stock of the achievements and mapped the way forward to achieve continued success. Since its inception, the G2G strategy has led to significant achievements: In the capital planning and execution pillar, KenGen delivered 700+MW of new generation capacity, drilled 150+ geothermal wells versus the target of 100, and advanced 1,900MW of projects past feasibility (versus the target of 1,500MW in 2018). With regards to regulatory management, KenGen raised regulated return on equity (ROE) from 10.5 to 12.5%, created a regulatory unit, and reduced dispatch risk through capacity Power Purchase Agreements (PPAs). In the Operational Excellence pillar, KenGen improved Return on Invested Capital from 4.7% in FY2011 to 12% in FY2015/16. Changes in the Kenya s Power Sector The Kenyan power sector has undergone a number of significant changes over the last decade. The Government s ambitious Vision 2030 plan catalysed a string of investments and projected a significant increase in energy demand. At the same time and supported by the devolution process community and other stakeholders demands have become more important. Independent Power Producers (IPPs) have entered the market and are aiming to position themselves as strong contenders in the growing energy market. Apart from geothermal resources, deposits of oil and gas have been discovered in Northern Kenya and at the Coast. While these deposits have not yet been commercially developed, there are many projects in the planning stages and the confirmations of the reserves could lead to a shortage in drilling resources that could have a significant impact in our staff joining oil and gas sector. These changes herald a new dawn of a very competitive environment that requires us as a Company to revamp and renew our business for sustainable growth. x

17 Revamped G2G Horizon II Strategy Overall, these changes have led to a situation where KenGen has to continuously position itself as the market leader in power generation and the preferred power supplier in Kenya. In order to respond to the pressure of stakeholders and competition, we have updated our G2G Horizon II strategy. Horizon II has been revamped and extended, and aims at creating sustainable power growth in Kenya by To achieve these aspirations, we will improve on organizational health factors such as leadership health and build required skills/ capabilities to be able to address all the initiatives. On the regulatory and financing pillar, KenGen will pursue new financing approaches, establish new business models and improve PPA s/ tariff regulation. KenGen will work towards improving returns on current plants (OPEX) and optimizing future plants, CAPEX planning and execution. KenGen will work towards delivering current pipeline projects and access new geothermal fields. I would like to thank our Board of Directors, Management, our staff and all our partners who have continued to walk with us in our Good to Great journey. I would also like to thank the strategy team that helped drive the entire process of developing this strategy. God Bless You All ENG. ALBERT MUGO, MBS MANAGING DIRECTOR & CEO April 2016 xi

18 Chairman of the Board Strategy Committee Remarks KenGen is the primary source of electricity generation for the country supplying about 80% of total national consumption, and will continue to be the most important player in the provision of new generation capacity. The company started a transformational journey eight years ago of moving from being a Good Company to being a Great Company with three clear strategic horizons namely; stabilizing the power situation in Kenya, creating sustainable power growth in Kenya and exploring expansion opportunities beyond Kenya. Horizon I ran from 2008 to 2012 with the objective of stabilizing power situation in Kenya. Horizon II was launched in 2013 and as a response to the changes in the external operating environment, has now been revamped and extended, aimed at creating sustainable power growth in Kenya by One of the Strategy Committee s role is to review the Company s Strategy and investment policies and make recommendations to the Board on issues of strategy adjustment. It also assesses the progress of the Company s Strategy execution plans through identification of priority areas. As such the Committee is committed to ensuring that the company has a robust business strategy that is monitored on a continuous basis. The committee will at all times ensure that the Company Strategy is aligned to the country s goal and that the Strategy is adjusted to factor in the changes in the external operating environment. In conclusion, let me take this opportunity to thank all those involved in preparation of this document. Thank you KAIRU BACHIA CHAIRMAN STRATEGY COMMITTEE xii

19 Acknowledgement of Power Africa Support On behalf of KenGen Board of Directors, Management and staff, I would like to acknowledge the support accorded to the company by Power Africa and its partners. The implementation of KenGen s Good 2 Great Horizon II roadmap will be supported over the next 2-3 years by Power Africa. Power Africa s engagement in Kenya revolves around its three pronged country strategy developing MW generation, driving off-grid adaptation, and supporting enablers. KenGen will continue to work closely with Power Africa in its efforts to generate cleaner power from, geothermal, wind and solar sources. The Horizon II roadmap will ensure progress towards achieving our target of 2500MW of new and clean generation capacity by This support is essential for successful implementation of this roadmap as it will go a long way in facilitating addition of new electricity connections in Kenya which is in line with the goal of Power Africa. ENG. ALBERT MUGO, MBS MANAGING DIRECTOR & CEO xiii

20 Executive summary KenGen developed the Good 2 Great (G2G) transformation strategy in 2007 in order to achieve its vision and to transform KenGen into a high performing organization. The strategy was centred on Capital planning and execution, Regulatory framework, Operational excellence and Organizational Health. Since its inception in 2008, the G2G strategy has led to significant achievements: In the capital planning and execution pillars, KenGen delivered 700+MW of new generation capacity, drilled 150+ geothermal wells versus the target of 100, and advanced 1,900MW of projects past feasibility (versus the target of 1,500MW in 2018). With regards to regulatory management, KenGen raised regulated return on equity (ROE) from 10.5% to 12.5%, created a regulatory unit, and reduced dispatch risk through capacity power purchase agreements (PPAs). In the operational excellence pillar, KenGen improved Return on Invested Capital (ROIC) from 4.7% in FY2011 to 12% in FY2015/16. The Kenyan power sector has undergone a number of significant changes over the last couple of years. These changes have led to a situation where KenGen has to continuously position itself as the market leader in power generation and the preferred power supplier in Kenya. In order to respond to the pressure of stakeholders and competition, KenGen has revamped its G2G Horizon II strategy. The aspirational goals to be achieved in this horizon and which are aligned with government objectives for the power sector are; to increase capacity by 2500MW to remain relevant player in the market at 50+% share, creating value by providing adequate return to shareholders (i.e. delivering ROIC as well as project Internal Rates of Return (IRR s) above the market expectations) and profitably supply cheaper renewable electricity to the country. The 2500MW target consists of two main elements namely the existing KenGen current pipeline projects, all renewable and mostly geothermal- 1400MW and about 1100MW of geothermal projects in new sites (outside Olkaria). Further, KenGen recognises the ongoing coal, oil and gas activities in the country, and will continue keeping abreast in the development of these resources. The Company has recognised that, should these resources become commercially available within the strategy period, the Company will stretch and play a part in this space targeting a total capacity of about 1,800MW. Going forward, and in addition to existing initiatives and activities, KenGen needs to address seven areas as Horizon II priority initiatives to successfully implement its strategy: 1. Improving returns of current plants by optimizing and reducing operations and maintenance expenses, with an operational improvement of USD mln p.a. expected. xiv

21 2. Optimizing CAPEX for future projects through lowering the cost and improving delivery of new projects by hinging on a scrubbing and optimization procedure, contract optimization through owner integration and implementing lean construction techniques. 3. Improving PPAs / tariff regulation to increase profitability of future projects. 4. Pursuing new financing approaches like equity partnerships in new projects, asset monetization of existing plants, or asset backed securities to raise the USD 9-10 billion required to deliver the 2,500MW aspiration. 5. Establishing new legal structures to execute and finance off balance sheet projects such as KenGen B special purpose vehicles and KenGen C to drive consulting and other non-core businesses, both of which will support the mainstream core business ran as KenGen A. 6. Delivering current pipeline and accessing new geothermal fields to ensure timely and effective generation of sustainable energy in tandem with the growing national energy needs. 7. Improving organizational health factors such as leadership and motivation while building the required skills / capabilities to address all these initiatives. Communicating the revamped G2G Horizon II strategy will take into account internal as well as external stakeholders. The execution of the internal stakeholder engagement plan should include in-person, print, and other channels. External stakeholder engagement includes Government of Kenya entities, opinion shapers, development partners, and investors. For each of these groups, KenGen has a distinctive set of objectives, which could be achieved through tailored key messages. To ensure a smooth rollout of the strategy, a Pilot Support Team (PST) has been established to drive the G2G Horizon II priority initiatives through delivery and monitoring and tracking. The core PST consists of a multi-disciplinary team driving initiative teams within existing line functions. To facilitate the PST s monitoring and tracking tasks, G2G itrack, a strategy monitoring tool has been employed to monitor progress data and updates by the implementing teams, which can then be reviewed to identify issue areas and summarize impact. To ensure the successful implementation of this strategy, KenGen will take several measures that will demonstrate commitment to the plan and enable sustainable implementation within the corporate structure. These measures include incorporating Horizon II priority initiatives directly into the corporate plan of the organization, allocating resources directly to key Horizon II activities in the annual budget process, hardwire the relevant targeted savings into the operating cost and capital expense budgets and tie performance rewards for successful implementation of Horizon II initiatives into performance contracts for senior leadership of the organization. xv

22 1 Introduction The Kenya Electricity Generating Company Limited (KenGen) is Kenya s largest power generation company, with an installed capacity of 68%. The company has played a critical role in developing Kenya s electricity generation capacity over the last decades and now owns power plants with installed capacity of 1,630.7MW. KenGen s more than six decades history has seen it evolve from a private company, to a fully government-owned parastatal organisation, to a publicly listed company. The move to initially list 30% of the company on the Nairobi Securities Exchange required KenGen to transform itself to successfully meet the common objectives of its expanded stakeholder base: shareholders, customers, and the citizens of Kenya. The successful listing of KenGen on May 17, 2006 was a fundamental change for the company, as it opened KenGen up to private investors. This privatisation was one of three major regulatory changes in Kenya s electricity sector in the past ten years. From 1996 to 1998, a number of major reforms resulted in The management split of the Kenya Power Company, responsible for generation, from Kenya Power and Lighting Company, responsible for transmission and distribution, and The emergence of various Independent Power Producers (IPPs) in the market, that now own ~30% of installed capacity To respond to the demands of its shareholders and other stakeholders, KenGen developed its vision to become the market leader in the provision of reliable, safe, quality, competitively priced electric energy in the Eastern Africa region. To achieve this vision and to transform KenGen into a high performing organisation, KenGen created the Good 2 Great transformation programme in Today, after 8 years of this programme, KenGen has taken stock of the achievements and mapped the way forward to achieve continued success. This document gives an overview of this past, and outlines the roadmap for KenGen s continued success over the next ten years. 1.1 KenGen s 2007 Good 2 Great Strategy KenGen developed the Good 2 Great (G2G) transformation strategy in 2007 in order to achieve its vision and to transform KenGen into a high performing organisation. G2G symbolises the dual objective of KenGen s strategy and philosophy behind the corporate social responsibility. On one hand, Good 2 Great is moving from a good company to a great company, and creating value for all of its stakeholders (e.g., shareholders, employees, and citizens). On the other hand, Generation 2 1

23 Generation, is creating value from one generation to the next generation of Kenyans. The strategy was centred on three pillars: Capital planning and execution (effective delivery of current projects, geothermal expansion, and capital planning and execution processes) Regulatory framework (improve single buyer model, steer deregulation process, and build a regulatory structure in KenGen s organisation) Operational excellence (optimise maintenance practises, reduce operational and overhead costs, and improve operational processes and structure) These pillars support KenGen s vision, and they are built on a foundation of organisational effectiveness from improved structure, culture and processes (performance management, promotion and succession planning, structure and governance, annual planning and budget, innovation and continuous improvement, and IT support / enablers). 2

24 Figure 2 Pillars of The Good 2 Great Strategy Vision: To be the market leader, in the provision of reliable, safe quality and competitively priced electric energy in the Eastern Africa region Capital planning and execution Strategic pillars Regulatory management Operational excellence CP1 CP2 RG1 RG2 OP1 OP2 Effective delivery of current projects Geothermal expansion Improve single buyer model Steer deregulation process Optimise maintenance practices Reduce operational and overhead costs CP3 Capital planning and execution processes RG3 Build a regulatory structure in KenGen s organisation OP3 Improve operational processes and structure Organisational health OG1 Performance management OG2 Promotion and succession planning OG3 Structure and Governance OG4 Annual planning and budget OG5 Innovation and continuous improvement OG6 IT support/ enablers Organisational effectiveness from improved structure, culture, and processes 1.2 Changes in Kenya s Power Sector The Kenyan power sector has undergone a number of significant changes over the last couple of years. On a macro-level, the new constitution (including a shift to devolved county governments) introduced new dimensions of electricity reticulation. The Government s ambitious Vision 2030 plan catalysed a string of investments and projected a significant increase in energy demand. At the same time and supported by the devolution process community and other stakeholders demands have become more important. Over the years, Independent Power Producers (IPPs) have entered the market and have positioned themselves as strong contenders in the growing energy market. They bring a new spirit of entrepreneurship and innovation, paired with cost-efficient technologies. In the course of KenGen s privatisation, the Geothermal Development Company (GDC) was created in 2008, with the aim to play a key role in geothermal development in the country, by reducing drilling risk for developers. All the rights to explore potential geothermal sources were transferred to GDC in order to open 3

25 access for private competitors in the geothermal space. Kenya Electricity Transmission Company (KETRACO) was also created to undertake new transmission investments to secure power evacuation and in the long-term play the role of the Independent System Operator. Apart from geothermal resources, deposits of oil and gas have been discovered in Northern Kenya and at the coast. While these deposits have not yet been commercially developed, there are many projects in the planning stages and the confirmations of the reserves could lead to a shortage in drilling resources. Overall, these changes have led to a situation where KenGen has to continuously position itself as the market leader in power generation and the preferred power supplier in Kenya. In order to respond to the pressure of stakeholders and competition, KenGen has revamped and updated its G2G Horizon II strategy. Figure 3 Changes in the Energy Sector over the Past Five Years Macro-level changes Description New constitution has introduced institutions such County governments Vision 2030 has projected a significant increase in Kenya s energy demand Community and stakeholder demands have increased, leading to challenges in delivering projects Entry of more IPPs Change in Geothermal environment Increasing competition from Independent Power Producers (IPPs) who are positioning themselves to supply power to the growing market IPPs are employing innovative cost-efficient technologies Rights to explore potential geothermal sites no longer open only to KenGen. Private players are already in the geothermal space KenGen needs to continuously position itself as the market leader and the preferred supplier of power in Kenya Discovery of oil and gas deposits Major discoveries of oil and gas in Northern Kenya and at the coast Plans ongoing to commercially exploit the reserves Competition for drilling staff 4

26 1.3 Transitioning to Horizon II The G2G strategy was originally intended to be implemented across three horizons, the first one lasting from 2008 to 2012 with the objective to stabilise the power situation in Kenya. The second horizon was launched in As a response to the changes in the external operating environment detailed earlier, Horizon II has been revamped and extended, and aims at creating sustainable power growth in Kenya by The third horizon, past 2025, will explore expansion opportunities to drive growth beyond Kenya, establish a strong African footprint, and become a regional leader in technology and innovation. Figure 4 We Are Revamping Our G2G Strategy KenGen adapted the pillars of the Good 2 Great strategy in response to the changing environment. These changes focus on the regulatory management pillar, which was enlarged in scope to include financing, and the strategy s foundation of organisational health, which now incorporates the impact of the aspired growth trajectory on the organisation. 5

27 Figure 5 Adapted Priorities for the Revamped G2G Horizon II 1.4 Methodology and Approach The work performed to prepare the content of this document followed three phases performed in two parts. Part I, from October to December 2015, covered the first phase, Developing the G2G Horizon II Strategic Roadmap, as well as part of phase 2, Developing an Implementation Plan, along seven work streams and an overarching integration activity. 6

28 Figure 6 Initial Work Plan Part I Part II, from January to April 2016, completed the remainder of phase 2 and drove phase 3, Launching the roll out of the Implementation Plan. Figure 7 Initial Work Plan Part 2 The effort was performed by a core operational team of five team members led by a project manager. This team was supported by subject matter experts on specific 7

29 topics, such as operational efficiency and capital productivity. The overall direction of the output, as well as adjustments to the initial work plans and deliverables, were guided by a Steering Committee consisting of the KenGen Executive Committee. The Executive Committee reported progress and aligned the developed strategy with the KenGen Strategy Committee of the Board, who reviewed and recommended to the Board for approval. In April 2016, the revamped Horizon II roadmap was approved. 8

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32 2 G2G Horizon I Review 2.1 Key Achievements in Horizon I of G2G Since its adoption in 2008, the G2G strategy has led to significant achievements: In the capital planning and execution pillars, KenGen delivered 700+MW of new generation capacity, drilled 150+ geothermal wells versus the target of 100, and advanced 1,900MW of projects past feasibility (versus the target of 1,500MW in 2018). With regards to regulatory management, KenGen raised regulated return on equity (ROE) from 10.5 to 12.5%, created a regulatory unit, and reduced dispatch risk through capacity power purchase agreements (PPAs). In the operational excellence pillar, KenGen improved return on invested capital from 4.7% in FY2011 to 8.9% in FY2015 (adjusted for mid-year commissioning of Olkaria I AU and Olkaria IV). Figure 8 Capacity Expansion Delivered Generation capacity installed from (cumulative) MW G2G target: 500MW Since 2008, KenGen has executed 10 optimisation and new build projects to provide 325MW of additional generation capacity in Horizon I This is 65% of the G2G target of adding 500MW to capacity by projects have been completed in , adding another 375+MW to bring the total to 700+MW 1 Ngong I.II, Ngong II, Olkaria I and IV, Wellhead (partially) SOURCE: KenGen; team analysis 11

33 Figure 9 : Wells Drilled Main achievements Wells drilled since wells drilled since 2007 (63% above Horizon I G2G target of 100) Number, cumulative rigs purchased and 5 rigs rented Innovative wellhead technology pioneered to utilise timespan until steam pipes and plant are available Substantial additional potential discovered at Olkaria site Development of geothermal sites other than Olkaria (e.g., Suswa) stalled G2G target: 100 new wells SOURCE: KenGen; team analysis 2.2 Lessons Learnt Whereas the G2G Horizon I had a fair share of success, there were a few hurdles that were identified and addressed in the preparation of the Horizon II revamp. Maintenance practices that were implemented have borne fruit in ensuring improved plant availabilities in line with the capacity regime. However, a few areas of improvement were identified, as well as the need to embrace new technologies such as industrial internet and predictive maintenance. The regulatory environment, hinged on bolstering a single buyer model and improved tariff structures, had mixed outcomes. The revision of the Energy Bill 2015 necessitated a review of our regulatory framework with the focus turning to novel financing options. Financing of energy projects is capital intensive and the Board had to take a few bold decisions to deviate from the traditional Government-backed donor funds to dive into the commercial markets by way of instruments such as the first public infrastructure bond in the country as we as rights issue from the capital markets. This opened up avenues for other financing options and these are being addressed in various initiatives of Horizon II. Unseen opportunities also opened up like the acceptance of the steam revenue proposal as well as commercial drilling for other geothermal players. Consultancy in geothermal services as well as other commercial avenues are being exploited so as open up alternative revenue streams. 12

34 3 Business Environment Review 3.1 Government of Kenya s Power Sector Objectives In the course of preparing to revamp Horizon II of the Good 2 Great strategy, KenGen defined aspirational goals to be achieved during this horizon. This process began by reviewing the Government objectives for the power sector growing power supply to support Kenya s demand growth, achieving lower cost of electricity, and increasing renewable energy sources. KenGen s aspirations are aligned with and support these Government objectives. KenGen plans to increase capacity most of which in geothermal by 2,500MW (with the aspiration to remain the most relevant player in the market at 50+% share), creating value by providing adequate return to shareholders (i.e., delivering a Return on Invested Capital [ROIC] as well as project internal rates of return [IRRs] above the market expectations), and supplying cheaper renewable electricity to the country. Figure 10 Power Sector Objectives and KenGen Aspirations 3.2 Projected Demand Development When setting the aspiration for future generation capacity, the first step was an exhaustive analysis of projected demand and overall market capacity development. A demand projection using three main input factors was developed. The factors are latent demand, baseline demand, and Vision 2030 projects. 13

35 For latent demand, the low range based on 100MW from ERC's 10 Year Power Sector Expansion Plan connected over 5 years, grown in line with GDP/load growth ratio. The high range based on discussions with experts in the sector, indicating total of 600MW latent demand, connected over 10 years For baseline demand, 2015 demand was increased based on the correlation between GDP development and load growth. The lower range applied a GDP CAGR of 5.0% (IHS Global Insights World Market Monitor) and GDP load growth ratio of 1.0; the higher range 6.8% (Economic Research Services) with 1.2 ratio Vision 2030 projects were included based on Kenya s Vision 2030 plan, with adjusted timelines and a power demand range derived from interviews with Government representatives and other stakeholders e.g., 0-600MW for the Standard Gauge and Light Rail and 0-550MW for the ICT park Figure 11 Vision 2030 Projects in the Demand Projection STATUS MAR in projection MW Vision 2030 projects Standard Gauge and Light Rail ICT park LAPSSET Iron and steel smelting industry Special Economic Zones Dairy milk processing and value added products Meat and meat products processing Hatcheries Veterinary investigation laboratories (VIL) Animal feeds manufacturing firms Intensification of livestock production Industrial parks Resort cities Total Low High Source: ERC ten year power sector expansion plan, Vision 2030 website, press statements, expert interviews Starting from the 2015 peak demand of around 1,600MW, this results in a 2020 peak demand of around 2,600-3,600MW and around 3,500-7,000MW by After adding a reserve margin of 15%, this corresponds to 4,000-8,100MW required capacity by

36 3.3 Projected Supply Development This demand estimate was compared to supply projections from a starting point of around 2,300MW capacity in 2015 and taking into account all the generation projects currently under way or planned, the total market capacity for 2025 could reach an estimated 8,900MW, leading to a potential excess capacity even in a high demand scenario. However, it is unlikely that all these projects are actually going to be realised by 2025 or at all. In fact, the LNG project included in this projected capacity was recently cancelled. In addition, 800+MW of existing thermal generation could be replaced by renewable energy going forward. Figure 12 Peak Demand and Generation Capacity Projections Projected contracted capacity and generation capacity need (estimated peak demand incl. 15% reserve margin), in MW 10,000 Projected contracted capacity High range capacity need 8,900 Low range capacity need 8,000 8,100 6,000 5,200 4,000 2,000 2,300 1,600 4,100 3,000 4,000 0 SOURCE: Team analysis; KPLC PPA list of projects, interviews with most developers, KenGen, ERC Kenya ten year power sector expansion report 3.4 Increasing Role of Independent Power Producers According to the projection performed, 6,600MW of additional generation capacity is expected to come online between 2015 and 2025 (difference between expected 2025 installed capacity of 8,900MW and 2015 installed capacity of 2,300MW). When analysing the make-up of this growth, only 21% is considered to be in KenGen s firm pipeline, with another 27% not yet tendered or assigned to GDC. The remaining 52% have been assigned to various IPPs. This indicates that the power generation market in Kenya is becoming very competitive, with significant interest from independent developers. Examples of IPPs active in the field include Lake Turkana Wind Power project (300MW), a consortium led by Aldwych International and KP&P Africa BV with a projected completion date of

37 Akiira I and II geothermal power projects (2x35MW), owned by Marine Power Generation (holds exploration licence), Ram Energy (technical expertise), and Centum and Frontier (investment companies), with a projected completion date of 2018 Menengai geothermal (3x35MW), which comprises three IPPs (Quantum Power East Africa, Orpower Twenty Two, Sosian Energy) while GDC provides steam, with a projected completion date of KenGen SWOT Analysis The strategic initiatives for KenGen are largely guided by both the internal and external environmental factors. Internal environmental factors include analysis of KenGen s strengths and weaknesses while external factors opportunities and threats (SWOT). The KenGen SWOT and SWOT confrontation matrix are as detailed below, Exhibit # and Exhibit #. Figure 13 KenGen SWOT Analysis Strengths Market leader Skilled and experienced workforce Available Resources: Geothermal, wind, hydro and thermal. Over 60 years of experience and Knowledge base. Market share at over 70% Untapped abundant geothermal resource Huge Asset base (Kshs200 billion) Affordable tariffs High Plant availability at over 90% Good relationship with project funders and donors Strong Brand name/reputation Diversified Technologies Strong Research & Development base High performance Good supplier relationships Ownership of developed Weaknesses Poor corporate culture Aging plant & equipment, technology, workforce and depleting resource base Low accountability Bureaucracy and slow decision making Weak stakeholder management Poor teamwork, Silo mentality and Ineffective communication Sycophancy and God father syndrome Strategy misalignment and poor forward planning Poor PPA - tariffs Poor management/leadership, negotiation/ lobbying skills Challenges in succession planning and talent management High turnover of skilled staff Low staff morale Procurement bottlenecks Budget limitation and inadequate internal financial base Poor management of costs/liquidity Lack of specialized employee skills Low transparency and integrity/ethics 16

38 infrastructure & energy resources Over-reliance on shareholders Bloated workforce Opportunities Good will from government and other key stakeholders: Kenya power, ERC, KETRACO and GDC. Market brand and reputation Increasing market demand New resources- Coal and oil. Revenue Diversification - Consultancy to other organizations in the region and Direct Uses e.g industrial parks High power demand e.g. 24 hour economy, Regional power pool Government & shareholder support Positive Donor and Investors interest and Access to DFI funding Diversified generation mix (Geothermal, wind, hydro, etc) Threats Lack of financing of capital intensive projects Environmental sustainability Resource depletion Unfavourable legal and regulatory frameworks Competition by IPPs & regional power pool Weak national grid Poor political and economic environments Unaligned key stakeholders and demands e.g. Communities, suppliers, shareholders etc Difficulty in accessing resources/availability Fraud Climatic change leading to poor hydrology Insecurity/terrorism Poor Tariffs Taxation Continued Single buyer model. 17

39 Figure 14 SWOT Confrontation Matrix Strengths Weakness Opportunities Quick delivery of projects Lobbying Efficiencies in operations Enforce accountability Doing consultancies & Construction Automation of plants from design Staff capacity building Influence regulatory framework Attract and retain staff Direct sale of power to industries Leveraging on financial support Enhance community engagements Build strategic alliances Increase use of Well heads Sweating assets to diversify revenues Promote and reward innovation& R&D Utilize KenGen B Model Patenting Engage county governments Quick resolution of employee issues Influence stakeholders Harness internal capabilities and geothermal resource Help Ketraco on transmission lines Acquire Geothermal licenses for new Geothermal areas Enhance KenGen brand Leverage on the huge asset base for more funding Improve accountability Strengthen the balance sheet Cost minimization Robust stakeholder management Quick or speed to Market Sell non-performing assets Focus on employee issues Expedite decision making Focus on generation- staff Devolve decision making Threats Acquire Geothermal Licenses Bonus Payment based on results More social investments Capacity building Lobbying team formation- develop friends of KenGen Early partnerships with Ketraco and KPLC Strengthening PR Information targeting Diversify business Use and leverage GOK good will Lobby parliament Management of communities Move from single buyer model Processes efficiency Employee training Leverage Government support Benchmarking with the best Work with regulators Enhance and strengthen PPA negotiations Strengthen KPLC relationship 18

40 Elaborate and dynamic political engagement Higher a lobbying company Stakeholder mapping Encourage staff shareholding of KenGen Implement culture change programs Better compensation Strict Implementation of Service Level Agreements (SLA s) Team building Cut of Bureaucracy Staff empowerment to make decisions Leadership development Commit employees to code of conduct Disciplinary mechanism and welfare programs Managers Sub-committees /&/ Devolve ExCo Improve on internal processes. Conclude the structure Regional Transmission License 19

41 4 Horizon II Aspirations 4.1 KenGen s Market Share and Project Pipeline Currently, KenGen s market capacity share is at around 68%, or 1,600MW out of the 2,300MW overall market. KenGen s aspiration is to remain the main player in the market, and retain at least a 50% share. Assuming that the market capacity will ultimately grow in line with demand, this aspiration translates into a target generation capacity of 4,100MW in the expected 2025 high range market capacity of 8,100MW an increase of 2,500MW compared to today. In case the market develops significantly slower, the approach will have to be adapted but KenGen will still have to grow and move faster than competitors to solidify its position. This 2,500MW target consists of two main elements The existing KenGen current pipeline of all renewable and mostly geothermal 1,400MW Up to 1,100MW of only geothermal projects in new sites (outside Olkaria) The latter includes additional concessions, joint development agreements with the GDCs, joint ventures with IPPs, and auction/bidding against IPPs. It also includes the planned 350MW wellhead project, which is expected to not fit on KenGen s existing Olkaria field. Figure 15 Capacity Share and Generation Target In 2025 Development of market capacity (estimates) New generation target for 2025 in MW Others 8,100 4,000 KenGen in MW KenGen current pipeline (all renewable) 1,400 New sites geothermal projects 1 1,100 2, ,600 4,100 Non-geothermal GoK future projects High target with non-geothermal GoK future projects of 1,770MW would reach 4,270MW 0 2 KenGen market capacity share % 2025 (high range) 51% Total aspiration 2,500 1 Through additional concessions, JDAs, JVs with IPPs, auction/bidding against IPPs. Includes 350MW wellhead project 2 Potential option to pursue non-geothermal projects not in base target (Kitui coal 1,070MW, Wajir LNG 700MW) SOURCE: KenGen, team analysis 20

42 In addition to the base target of 2,500MW, KenGen also decided on a high target scenario including 1,800MW of additional, non-renewable projects potential future GoK projects like LNG or coal, which KenGen could bid for given the right circumstances. This high target scenario would imply a total growth of 4,300MW by Figure 16 Breakdown of Growth Aspiration by Project and Year Elements of the KenGen base case target aspiration by 2025, MW KenGen current pipeline New sites geothermal projects 1 II 2,500 I 1,154 1, Olk. w- heads Ngong I Ph. 3 Olk. I Topping Olk. IV Topping Olk. I U.6 Olk. I rehab Olk. V Olk. Meru w- Ph.1 leasing Olk. VI Olk. VII Total 2020 Olk. VIII Olk. IX Eburru Meru Ph.2 Total 2025 New sites projects Total base target 2025 Commissioning year TBD 1 Including 350MW wellhead project 4.2 Value Creation Total Return to Shareholders KenGen s second aspiration revolves around creating value for their shareholders. One of the common indicators of value creation is the total return to shareholders (TRS), which is defined as the sum of a company s share price change and per share dividend yield. An analysis of KenGen s TRS shows that the company has underperformed the market over the last four years, with a TRS of negative (-) 8% per year from June 2011 to November 2015 in the same time period, the Morgan Stanley Capital International (MSCI) Kenya returned 13% per year, while the MSCI index for global utilities provided a TRS of 0%. 21

43 Figure 17 Total Return to Shareholders Development Cumulative total return to shareholders (TRS) 3 Index; local currency, Jun 11 = 100 Kengen MSCI global utilities MSCI Kenya 250 Nov, 2013 we announced plans to raise $1.65bn in equity and $3.65bn debt 200 for expansion, coinciding with a market correction Total return to shareholders CAGR, percent, local currency Jun 11 Jun 11- Nov 15 1 Jun 13 Calpine (USA) AES (USA) Jun 13 Nov NTPC (India) % KenGen Kenya Power Diversion of Kenya index with KenGen why did TRS not bounce back with the market? Nov-15 1 Jan-12 Jan-13 Jan-14 Jan-15 MSCI Kenya 2 MSCI global utilities Until Nov 24, Morgan Stanley Capital International indexes measuring returns on equity of specific markets 3 Defined as the sum of share price change and per share dividend yield SOURCE: S&P Capital IQ, team analysis TRS Decomposition The TRS can be further decomposed to show the drivers of its composition: Continuation of past performance Performance improvement Investments for future/ongoing projects Investor expectations for these future projects Other impacts including leverage changes and non-operating items (e.g., litigation expenses, severance, restructuring and impairment charges, impact of gain/loss on share repurchases and issuances) Other impacts also includes adjustments for deferred tax liability and any Property, Plant and Equipment (PP&E) revaluation surplus In KenGen s case, this analysis shows that the TRS is driven by continuation of past performance (positive (+)7%) and improvements on the past performance, including the growth in revenues from additional MW coming online, and changes in profit margin from OPEX improvements (positive (+)9%). Other impacts cause a loss of negative (-)4%. As is normal for investments for future projects, these have a negative impact of negative (-)9%. Unlike the normal case where these investments would lead to positive investor expectations for the future, this is not the case here: Investor expectations add another negative (-) 11% of negative impact, leading to an overall TRS of negative (-) 8%. 22

44 There are two potential explanations for the negative investor expectations A lack of confidence that KenGen s future projects will be able to deliver a project internal rate of return above the market expectations for weighted average cost of capital And/or inefficient share price discovery due to infrequent trading Figure 18 Total Return to Shareholder Decomposition Decomposition of our total return to shareholder 1 (TRS) development, Jun 11 to Nov 15 In percentage points Continuation of past performance Impact of performance improvement Impact of investments for future projects Sales growth from Additional MW Change in profit margin from OPEX improvements Investments to improve sales and margin Impact of performance improvement Investor expectations of future prospects Other 2 Total TRS Investors have questions about our future Our expected IRR for future projects is below market WACC Infrequent trading and share owner structure may cause inefficient share price discovery 1 Defined as the sum of share price change and per share dividend yield 2 Impact of leverage changes and non-operating items (e.g., litigation expenses, severance, restructuring and impairment charges, impact of gain/loss on share repurchases and issuances). Also includes adjustments for deferred tax liability and PP&E revaluation surplus SOURCE: Publicly available company documents, Capital IQ, team analysis Infrequent Trading KenGen s shareholder structure and time to trade indicates that KenGen has an unusual shareholder composition: While peers (listed utilities focusing on generation) like Indian Adani or US-American Calpine have 29% and 99% institutional ownership respectively, KenGen has just above 1% the two largest being the National Security Social Fund of Uganda at 0.8% and US-American Parametric Portfolio Associates LLC at 0.5%. This shareholder structure or broader market characteristics could be factors behind KenGen s time to trade the free float (calculated by dividing average share volume traded per year by free float volume) at 6.9 years, while Calpine and Adani have 0.4 and 0.8 years respectively. As a result of this, KenGen s true intrinsic value may not be adequately reflected in the capital markets. 23

45 Figure 19 Institutional Investors and Time to Trade Overview of shareholder structure, 2015, last FQ Time to trade the free float 4 in % of shares held India USA in years Total ownership ,9 6,6 Strategic investors Free float ,7 Undisclosed investors Disclosed institutional investors ,8 0,4 Low share of institutional ownership and infrequent trading may lead to inefficient share price discovery As a result, our true intrinsic value may not be fully reflected in capital market To obtain full credit for its value, we will have to communicate a clear story with reliable facts to the right set of investors 1 Strategic investors are defined as promoters, holding companies, corporations and individuals 2 Primarily retail investors and small institutional investors 3 Two largest institutional shareholders: National Security Social Fund (Uganda) 0.8%, Parametric Portfolio Associates LLC (US) 0.5% 4 Calculated by dividing average volume traded per year by free float volume SOURCE: Capital IQ WACC, ROIC, and IRR KenGen s return on invested capital (ROIC) has significantly improved over the last four years, growing from 4.7% in the financial year 2011 to 14% in the financial year 2015/16. This is in tandem with the expectation of an outside investor who would expect KenGen s ROIC to be above the weighted average cost of debt (WACC), which based on the market approach applied by investors is around 10% for KenGen. 24

46 Figure 20 Market View of KenGen s WACC WACC % Weighted cost of equity % x + Weighted cost of debt % x Marginal tax rate as per KPMG tax survey Cost of equity (COE) % Equity to capital % Net debt to capital % Pre-tax cost of debt % 1 tax rate 2 70% Risk free rate 8-8.5% Relevered + beta x Market risk premium 5.0% 1 Assumed based on peer capital structure 2 Marginal tax rate of 30% 3 Estimated using an unlevered beta of 0.5 for industry (based on net debt to capital structure of 50%(1.0) to 70%(1.7) 4 Assuming minimum investment grade rating of BBB- (credit spread of 1.5%) SOURCE: Capital IQ, Company fillings, team analysis This 10% WACC is comparable to other peers after accounting for inflation in USD terms, KenGen s WACC translates to 6.6%, which is in the middle of the range of % exhibited by a peer set of generation-focused, publically listed utilities. Figure 21 WACC Comparison to Peers WACC in local currency, Percent Inflation differential to USD Percent Estimated WACC in USD 1 Percent Kenya India India USA USA Assuming change in risk free rate to USD risk free rate difference is not exactly the inflation differential due to tax impact in the calculation SOURCE: Team analysis 25

47 4.3 Cheaper Renewable Electricity KenGen s third aspiration is to profitably supply cheaper renewable electricity to the country. This is driven by the tariff received. A review of the various approaches to tariff setting in Kenya indicates that KenGen is in a challenging situation, with a costplus tariff based on a 12.5% return on equity for plant CAPEX applied to all its endeavours. This return on equity is structurally below the 16.5% an outside investor would expect, based on expert interviews. Independent power producers, on the other hand, benefit from preferential feed in tariffs that are independent of their project cost, especially for small to mid-sized renewable generation projects. This structure leads to a strong incentive to optimize costs. These approaches are not consistently applied however, with exceptions possible. This leeway indicates some opportunity for KenGen to agree on approaches with the Government to achieve higher returns than the regulated return. An analysis of the data in Kenya Power s 2015 annual reports demonstrates the extent to which IPPs are treated preferentially: While KenGen provides 75% of the electricity in Kenya, they receive only 49% of power generation revenues. This leads to a tariff per kwh of KES 5.6 for KenGen, compared to 17.4 for IPPs a significant difference that is not even justified when adjusting for fuel charges and the preferential financing conditions KenGen historically enjoyed through concessional loans (detail in exhibit following). KenGen is thus the driver of low electricity cost in Kenya, and should be supported by the Government in any efforts to keep tariffs low. Figure 22 Comparison of Tariffs for KenGen and IPPs 26

48 27

49 5 Horizon II Priority Initiatives In addition to existing initiatives and activities, KenGen needs to address seven areas as Horizon II priority initiatives to successfully implement its strategy: Improving returns of current plants by optimising and reducing operations and maintenance expenses Optimising capital expenditure (CAPEX) for future projects through lowering the cost and improving delivery of new projects Improving PPAs/tariff regulation to increase profitability of future projects Pursuing new financing approaches like equity partnerships in new projects, asset monetisation of existing plants, or asset backed securities Establishing new legal structures to execute and finance projects such as KenGen B special purpose vehicles and the KenGen C consulting business, Delivering current pipeline and accessing new geothermal fields Improving organisational health factors such as leadership and motivation and building the required skills/capabilities to address all these initiatives Figure 23 Strategic Pillar Priority Initiatives Vision: To be the market leader, in the provision of reliable, safe quality and competitively priced electric energy in the Eastern Africa region Strategic pillars Capital planning and execution Regulatory and financing Effectively deliver current projects Drive performance management 1 Expand geothermal capacity, incl. new fields 2 Implement new CAPEX planning and execution processes Improve leadership health 7 Pursue new financing approaches Establish new business models 3 Improve PPAs/ tariff regulation Organisational health Achieve people readiness for growth 2 Enhance annual planing and budget Operational excellence 1 Optimise maintenance practices and increase availability Foster innovation and continuous improvement Reduce operational and overhead costs Improve operational processes and structure Upgrade IT support/ enablers Priority initiatives 1 Improve returns of current plants (OPEX) 2 Optimise future plants CAPEX planning and execution 3 Improve PPAs/tariff regulation 4 Pursue new financing approaches (e.g., partnerships, asset monetization) 5 Establish new structures to execute and finance projects (KenGen B/C) 6 Deliver current pipeline and access new geothermal fields 7 Improve organizational health and build required skills/ capabilities (e.g., SPV creation, motivation) 1 Incl. talent management, promotion/succession planning, women s motivation 2 Incl. FTE growth and skill/capability building 28

50 5.1 Improve Returns of Current Plants (OPEX) Figure 24 Focus of OPEX Initiative Initiative 1 Vision: To be the market leader, in the provision of reliable, safe quality and competitively priced electric energy in the Eastern Africa region Capital planning and execution Strategic pillars Regulatory and financing Operational excellence CP1 CP2 RG1 RG2 OP1 OP2 Effectively deliver current projects Expand geothermal capacity, incl. new fields Pursue new financing approaches Establish new business models Optimise maintenance practices and increase availability Reduce operational and overhead costs CP3 Implement new CAPEX planning and execution processes RG3 Improve PPAs/ tariff regulation OP3 Improve operational processes and structure Organisational health OG1 Drive performance management 1 OG2 Improve leadership health OG3 Achieve people readiness for growth2 OG4 Enhance annual planing and budget OG5 Foster innovation and continuous improvement OG6 Upgrade IT support/ enablers 1 Incl. talent management, promotion/succession planning, women s motivation 2 Incl. FTE growth and skill/capability building An operational improvement of USD mln p.a. is expected to be achievable through direct O&M savings, additional generation, and reduced adjustments. This would increase ROIC to 10% from the current 8.9%. Figure 25 Operational Improvements In USD mn USD 20 mn improvement across all 26 plants required to reach 10% ROIC USD mn OPEX impact p.a. projected, based on OPEX diagnostic FY2015 EBITDA with 8.9% ROIC EBITDA required for 10% ROIC 231 USD 20 mn A B C Direct O&M savings Additional generation 3 Reduced margin adjustments 4 Implementation cost 5 Total Additional USD 37 mn potential 6 per year from steam sales and tariff corrections TBC 1 Adjusted for mid-year commissioning of Olkaria IV and Olkaria I AU 2 In Kamburu and Olkaria II, extrapolated to fleet, excluding overhead cost reduction potential. Average O&M expenses for FY were USD 39 mn 3 Revenues from additional generation of energy plants due to higher availability assuming demand growth and sufficient dispatch to be able to sell this potential 4 Avoiding adjustments to capacity revenues through increased availability of capacity plants (USD 12 mn p.a. for the last years) 5 Annual cost for a central team of 5 FTE, supported by 1 FTE per plant. Non-manpower expenses TBD 6 According to KenGen regulatory projections, annually KES 1.3 bn steam charge for well drilling investments (plus KES 1.7 one time back payment) and KES 2.4 bn tariff improvements SOURCE: Team analysis 29

51 5.1.1 Direct O&M Savings Extrapolating potential savings identified in Olkaria II (21% O&M savings, USD 0.5 mln) and Kamburu (17% O&M savings, USD 1.6 mln) indicates a potential for a 20% reduction in annual O&M costs (USD 5-7 mln projected savings across entire fleet). This could be achieved by optimising operations and maintenance norms to best practice, e.g. work order processes and the Full Time Equivalents (FTE) required. Figure 26 Direct O&M Cost Savings Additional Generation Changes in the overhaul strategy could optimise average availability of energy plants to best practice availability (78% to 98% for geothermal, 73% to 97% for hydro and 89% to 96% for fuel oil). Up to104 GWh of additional generation potential is possible if the energy fleet achieves best practice availability, representing a 14% increase from the average annual generation capacity of 722 GWh between 2012 and This represents a new revenue potential of USD 5-7 mln across the entire fleet assuming that energy demand will grow accordingly to absorb this additional generation. 30

52 Figure 27 Additional Generation Potential KenGen's average availability for energy plants is below best practice in all technologies 1 In % KenGen average availability Gap to best practice Up to 104 GWh of additional generation are possible if energy fleet achieves best practice availability In GWh % Geothermal Hydro Depending on dispatch, new revenue USD 5-7 mn 2 Fuel Oil pp of potential availability are currently forfeited changes in overhaul strategy would allow closing the gap Average available energy FY Additional energy generated Available energy at best practice availability 1 FY Calculated based on the energy charge rate as per the PPA for the different technologies. Assuming sufficient demand for higher availability of plants and no marginal cost for additional revenues. The range is based on half to full dispatch of new potential without cannibalisation of existing energy revenues SOURCE: Team analysis Reduced Margin Adjustments Currently, capacity adjustments lead to reduced generation potential, directly affecting the bottom line. This is as a result of long outages, frequent breakdowns and core equipment malfunction affecting availability and revenues. If availability falls below threshold for five consecutive months, capacity charges to KenGen are reduced, directly affecting the bottom line. Improving performance of capacity plants to best practice could lead to an overall reduction in adjustments totalling up to ~USD 6-12 mln over the ten year transformation. This is based on the assumption that capacity plants reach best practice performance and reduce adjustments to zero. The range is based on realisation of at least half of the value over the ten year timeline. 31

53 Figure 28 Reduced Margin Adjustments Capacity adjustments lead to reduced generation potential, directly affecting the bottomline Improving performance of capacity plants to best practice could lead to an overall reduction in adjustments totalling up to 6-12 mn Frequent breakdowns and core equipment malfunction lead to deteriorating of the plant. This has a direct impact on the availability and revenues Long outages of the plants during overhauls and rehabilitations lead to low availability of the plants below the agreed targets In USD mn Hydro Others Geothermal 1 100% 0 If availability falls below threshold for five consecutive months, capacity charges to KenGen are reduced ( adjustments ) Average After 5 year adjustments to transformation capacity charges FY After 10 year transformation Additional revenue USD 6-12 mn Assumes all capacity plants reach best practice performance over the next ten years and reduce adjustments to zero. Range is based on % recovery of value SOURCE: Team analysis Improvement Initiatives Five major initiatives will be critical to achieving the USD mln savings. These initiatives include: Introduce criticality based maintenance strategy (USD 3-4 mln) Increase wrench time to 50% - 60% and optimise the work order process (USD 2-3 mln) Introduce autonomous maintenance by operations (USD ~0.5 mln) Centralise wellhead operations (USD < 0.5 mln) Enhance performance management and dialogue Indirect impacts of the above initiatives on availability, generation, and adjustments for capacity could lead to USD mln in new revenues. To effectively deliver these savings and to reduce the risk of potentially harmful operational disturbances during the implementation of the proposed initiatives, there is a need for a dedicated OPEX team to drive the plant transformations, training of the team on key delivery skills and OPEX optimisation skills, a continued supportive and receptive mind-set, and a dedicated budget. 32

54 Figure 29 OPEX Improvement Initiatives Low High 1 O&M cost savings potential across fleet Total Implementation cost 3 Net impact High level operational efficiency initiatives Criticality based maintenance strategy 2 : A Review frequency of annual and major overhauls Best practice work order process and wrench B time: increase wrench time to 50-60% as per the best practice Autonomous maintenance by operations: C Take-over of routine/standard maintenance tasks by operations shift Centralized wellhead operations: Reducing D operations FTE E Performance management and dialogue Indirect impact of initiatives on availability, generation, and 2/3 adjustments for capacity plants Potential impact USD mn p.a ~0.5 <0.5 Enabler Ease of implementation Implementation prerequisites Dedicated team to drive process (central operational efficiency team of 5 people rolling out transformation initiatives, supported by a maintenance engineer at each plant) Training for the teams on key delivery skills Positive and receptive mindset and execution support at the plants Budget to cover transformation expenses, e.g., SAP adaptation, TBD 1 Based on savings identified at Olkaria II and Kamburu and extrapolated across the remaining plants, extra capacity to be reallocated to new plants; 2 Includes transformation of the overhaul strategy; 3 Excludes non-manpower expenses SOURCE: Team analysis Criticality Based Maintenance Strategy The current equipment maintenance strategy relies heavily on the experience of KenGen s engineers, accumulated over years of service. The introduction of critically based maintenance has been mainly focussed on auxiliary equipment. A detailed and structured equipment risk assessment could lead to improved selection of type of maintenance (reactive, preventive, critically based maintenance) and optimized overhauls. Expected benefits of this critically based maintenance include constant maintenance effort, similar and optimized level of planned unavailability, and reduced unplanned unavailability. 33

55 Figure 30 Criticality Based Maintenance Strategy Current state assessment Olkaria II The equipment maintenance strategy today is based on experience not using a structured risk assessment The introduction of CBM is mainly focussed on aux. equipment CBM parameters are set in a way that they lead to urgent, reactive action typically High fluctuation in level of unplanned outage hours A detailed equipment risk assessment can lead to improved selection of type of maintenance (reactive, preventive, CBM) and optimized overhauls Improvement suggestions Risk matrix Failure frequency E D I C B II A Failure impact A structured risk-based maintenance assessment should be conducted to determine the optimal mix of reactive/preventive/predictive (CBM) maintenance Expected benefits I II Constant maintenance effort and similar, optimized level of planned unavailability Reduced unplanned unavailability SOURCE: Operational efficiency diagnostic team Work Order Process and Wrench Time Out of 100% possible allocation to tool time, 44% is currently spent on waiting or supervising, 27% on incidental (e.g., problem solving). This means that actual tool time at KenGen is 30% against a good practice of 50% and best practice of 60%. The main improvement areas for optimised wrench time include Establish a good practice work order process Define and track full day schedules for each worker Allow work order back log to avoid idle time Introduce performance dialogues at shop floor level Use SAP system more consistently 34

56 Figure 31 Wrench Time Currently At 30% Observations: Repair of pump at Olkaria II 30% of maintenance execution time is spent on value-add activities Improving tool time by 20 pp (from 30 to 50% good practice) would imply that the same work could be done with 40% less resources, leading to less required FTE build up with expected business growth Main improvement suggestions Establish a good practice work order process Define and track full day schedules for each worker Allow work order back log to avoid idle time Introduce performance dialogues at shopfloor level Use SAP system more consistently Total time spent Waiting or Incidental supervising (e.g., problem solving) SOURCE: Operational efficiency diagnostic team Tool time Good practice Best practice Reference tool times Figure 32 Wrench Time Observations Mini-diagnostic in Olkaria II and Kamburu indicated that only 30% of maintenance execution time is spent on value-add activities Rest is taken up by waiting, supervision, inefficient tools, or problem solving Ongoing operations improvement activities need to be considered in roadmap SOURCE: Operational efficiency diagnostic team Areas of Good Practice The diagnostic identified seven areas of good practice that KenGen can build on in the OPEX optimisation process. These areas are Centralized control room for 7 Forks hydros and Turkwel with high level of automation Maintenance work order process integrated within SAP from planning until closing 35

57 Condition based maintenance (CBM) introduced for some equipment, organisation has started to challenge cycle and duration of overhauls Very skilled staff with detailed knowledge about the equipment Well defined procedures within operations Management team with mind-set to improve further on cost and availability Performance boards in place on shop floor and regular performance meetings held 5.2 Optimise Future Plants Capex Planning and Execution Figure 33 Focus of Capex Initiative Initiative 2 Vision: To be the market leader, in the provision of reliable, safe quality and competitively priced electric energy in the Eastern Africa region Capital planning and execution Strategic pillars Regulatory and financing Operational excellence CP1 CP2 RG1 RG2 OP1 OP2 Effectively deliver current projects Expand geothermal capacity, incl. new fields Pursue new financing approaches Establish new business models Optimise maintenance practices and increase availability Reduce operational and overhead costs CP3 Implement new CAPEX planning and execution processes RG3 Improve PPAs/ tariff regulation OP3 Improve operational processes and structure Organisational health OG1 Drive performance management 1 OG2 Improve leadership health OG3 Achieve people readiness for growth2 OG4 Enhance annual planing and budget OG5 Foster innovation and continuous improvement OG6 Upgrade IT support/ enablers 1 Incl. talent management, promotion/succession planning, women s motivation 2 Incl. FTE growth and skill/capability building The next Horizon 2 priority focusses on the optimisation of the delivery of future projects. KenGen has a large pipeline with future power generation projects, which will imply significant capital expenditure (CAPEX). An important part of the Horizon 2 program focusses on the optimisation of the design, contracting, and delivery of these projects. A series of interviews and analyses found gaps along KenGen s capital productivity process: Particularly in the area of the structuring of capital project enablers, its capital strategy, and the portfolio optimisation, KenGen could still improve its performance when compared to the best practice performance results. 36

58 Figure 34 Gaps along the Capital Productivity Circle Best practice performance Diagnostic results Performance of KenGen across the four capital productivity elements Evaluation: 0-critical, 1-bad, 2-satisfactory, 3-good, 4-excellent Commissioning and rampup Project review Organization 4 3 Processes and tools Mind-sets and capabilities Enablers structuring Construction and execution 2 1 Strategy translation Project delivery optimisation Design, procurement, and contracting Business case and concept selection 0 Risk/return appetite estimation Headroom calculation Capital strategy and allocation Opportunity origination SOURCE: 2015 CAPEX mini-diagnostic, interviews, team analysis Returns tracking Portfolio allocation Portfolio review Portfolio optimisation During the interviews, several good practices were observed. At the same time, areas of improvement were discovered. The exhibit below provides an overview of several quotes heard in the interviews. Figure 35 Capital Productivity Interview Results Interview quotes across the four capital productivity elements Good practices Areas of improvement We had three reports for the project: Our own, the consultant s, and the contractor s Olkaria IV project had 150 days of delay The breakdown of the scope in lots brought additional interface milestones We have now solved the challenge of relocation of communities We have been realizing and learning the field capacity as we go Project delivery optimisation Construction and execution Design, procurement, and contracting Business case and concept selection Every donor has specific requirements and processes Mindsets and Capabilities Commissioning and rampup Project review Opportunity origination Organization Processes and tools Returns tracking FIDIC is used for contracts, modelling is used to determine wells capacity, and the schedule is done in MS Project Portfolio allocation Portfolio review Strategy translation Risk/return appetite estimation Headroom calculation Enablers structuring Portfolio optimisation Capital strategy and allocation We now have a team with a very good technical level We have learned a lot in the feasibility studies process, now we are in good shape We have implemented a stage gate process review for our projects We have now a risk matrix for Olkaria V We had many committees from the different entities, and all the estimations were out SOURCE: Interviews, team analysis We do not evaluate the projects once they have been completed, but this would be very helpful We have a detailed review of our projects, driven also be our financing partners 37

59 In the next decade, KenGen foresees to spend USD 8.1bln in CAPEX in order to deliver the 2,500MW growth plan by This is based on overnight construction costs, excluding inflation, and excluding additional contingencies identified. During the diagnostic it was estimated that three main levers could lead to an overall CAPEX reduction of USD ~1.5bln, or an overall reduction of 18-20% of the total planned CAPEX of USD 8.1bln. These levers are Implementing a scrubbing and optimisation procedure Contract optimisation and changing the contracting strategy to owner integration Implementing lean construction techniques Integrated project management acts as an enabler for these levers. Figure 36 Levers for Capex Improvement Overall potential cost impacts for KenGen 2,500MW pipeline 2 USD mn 8, ,600-1,500 (18-20%) A B C Planned CAPEX 1 Implementing a scrubbing and optimisation procedure for the project portfolio (5%) Contract optimisation and changing contracting strategy to multi package owner integrated (up to 10%) Implementing lean construction techniques during project execution (3-4%) Potential adjusted CAPEX after capital productivity optimisation D Integrated project management enabler 1 Project view of USD 8.1 BN capex requirements for delivering 2,500MW by 2025 (overnight construction cost, excl. inflation). Excluding additional contingencies identified 2 Extrapolated estimates based on post-mortem analyses of Olkaria IV and Olkaria I unit 5. Excluding maintenance reduction potential SOURCE: Team analysis Scrubbing and Optimisation The first lever aims at implementing a scrubbing and optimisation procedure for the project portfolio. Scrubbing is pressure-testing a project s rationale to verify existence of a problem or opportunity, make sure that the problem will be fully solved or opportunity fully realized, grant the use of realistic assumptions in the business case, and check for correctness. This process, which optimises the technical design of the projects, is estimated to reduce the CAPEX requirements by ~5%. Observations substantiating this estimation include 38

60 Specifications for the steam inlet pressure in the turbines was not adjusted for the current wells pressure Risks matrix did not have a plan for currency escalation risks Civil works specifications were not optimised for the project, resulting in cracks in the concrete structures Gold-plating on site observed, e.g., redundancies on the automation system, the oversizing of some concrete structures Increasing well efficiency/drilling knowledge could be used to optimize the steam concept, Good practice lessons learned review of projects performed, but no formalized process to improve on identified issues Contract Optimisation and Contracting Strategy The second lever suggests to optimise contracting and change the contracting strategy from lump sum to multi package scope integrated. These combined can potentially reduce the CAPEX by an additional up to ~10%. The experience with Olkaria IV suggests that there is potential to change towards an owner integrated contracting approach. Focussing on the contracting strategy, it can be stated that projects generally are delivered following three basic models. Each model requires different levels of involvement from the project owner. In the first model, there is one main contractor who is responsible for all aspects of the project and all the subcontractors involved. In this so-called Engineering, Procurement and Construction model (EPC, or lump sum turnkey model), the EPC contractor absorbs any cost overruns or savings. The second model is an EPCM (Engineering, Procurement, Construction, and Management) model. Hereby the EPCM contractor is responsible for the management of all aspects, and cost overruns are absorbed by the project owner The third variety is an owner integrated model (multiple lot), where the owner contracts all supplies necessary to execute the project. In this model the owner is fully responsible for all integration tasks, with all associated risks KenGen currently follows the first model for the main share of projects. Moving to an owner integration model is a process that should not be rushed, as significant risks are involved. In order for owner integration to deliver its potential, the pipeline for projects also needs to be sufficiently big to justify the effort. 39

61 Figure 37 Basic Project Delivery Models Managerial relationship Contractual relationship I Engineering, Procurement, Construction/Lump sum turn key II Engineering, Procurement, Construction, Management III Owner integrated (Multiple Lot) Owner Small owner s team Owner Medium owner s team Owner Large owner s team EPC contractor EPCm contractor Sub contr. A Sub contr. B Subcontr. C Description Contractor is responsible for all aspects and its subcontractors Cost overruns or savings are absorbed by EPC contractor Pros + One point of contact accountable for end to end process + Most projects risks are transferred to EPC + Takes best advantage of off-the-shelf solution Cons - Requires high certainty at beginning of the project scope and specifications - Low ability of the owner to influence the project once it is assigned to EPC - Tends to be 10% to 20% more expensive than EPCM contracts Current approach Contractor A Contractor B Contractor C Description EPCm contractor is responsible for Management of all aspects. Cost overruns absorbed by owner Pros + Project scope is more flexible and can be modified by owner + Use of EPCm s knowledge/skill (e.g. country knowledge) + Allows certain flexibility in required internal manpower Cons - All the risk of cost & schedule overruns falls on the owner - Overhead payment for subcontractors - Incentive for EPCM to over scope - Often misunderstanding of contractor accountability exists - 2-5% Contr. A (engineering) Contr. B (equipment) Contr. C (construction) Description Owner contracts with all suppliers necessary to perform project and is fully responsible for all integration tasks Pros + No overhead management cost + Design is to the owner s best interest + Parts of the project can be done completely internally, according to owner s available skills and proprietary knowledge Cons - Requires significant owner s management - Owner is often an arbitrator between two contractors - Longer project duration - no fast track (stages overlap) -10% SOURCE: Team analysis The choice of the project delivery model frames the risk and staffing needed to execute a project. For an EPC/lump sum turnkey contract, the owner is exposed to relatively little risk, and a relatively small team size from the owner is required. When instead an EPCM model is used, the project owner is generally exposed to a significantly larger risk. The team size required is however still relatively small. For the third model, the owner integration approach, both the risk to the contractor and the team size required are relatively high and large Lean Construction Lastly, by implementing lean construction techniques during the project execution, an additional 3-4% of cost could potentially be reduced. Lean construction addresses three key solution areas when in execution: Planning: Align plan among different executers weekly, ensure resources are available when needed, revise progress daily. Yard excellence: Standardize repetitive tasks at high efficiency and prepare non-repetitive tasks appropriately Risk management: Perform risk mitigation on a constant and formal basis, connecting site personnel to senior management 40

62 1 War Room Pilot 1: 2 Carcosa Pilot 2: 3 HPGB Pilot 3: 4 Toll roads Pilot 4a: 5a RRI Pilot 4b: 5b Chase Perdana Assess economics and financial model Identify detailed steps between in- Topics to be discussed today WEEK OF: 27 SEP 10 Requires immediate attention Needs monitoring: clear path to resolution On track, no discussion required Work stream leaders Key actions to date Required decisions/next steps Pn. Siti Confirm date for MAMPU workshop, to Zaleha align with flash report DOs DOs to drop by to War Room Refine War Room flash report to ensure whenever possible it is comprehensive and robust Pipeline flash report being developed Tn. Hj. Validation of project objectives and Mohd Nor concept as key input to structure developed for fast acceleration of options project delivery Financial model development En. Azhar Immediately address delay in receipt of costing information: financial clauses pending costing by Escalate to working group public works department (e.g. join technical committee) En. Nazry, En. Amir generation concessions principle approval and letter of award Confirmed key project assumptions, to shorten timeline parameters Review best practices Pn. Daisy Leveraging best practices to determine Continue to review profit-sharing best options for profit-sharing arrangement practices and applicability to RRI Pn. Daisy Develop options based on legal draft Faster, Better, More PPPs TM FINAL REPORT 10/12/ FOR DISCUSSION Agenda DAH Weekly Bi-Weekly DAH Weekly DAH Weekly Bi-Weekly DAH Weekly Action Minister Action Action Minister Action Meeting Meeting Meeting Meeting Meeting Meeting 05 OCT (TUE) Date TBD 12 OCT (TUE) 19 OCT (TUE) Date TBD 26 OCT (TUE) Regular Update on progress of progress pilot PPPs update (~30 mins) Progress since last meeting Decisions required Specific Archetypes Archetypes Categorization Insights from Categorization Facilitation content and and of current local and of current Fund project topics implications implications projects in international projects in criteria and (~30 mins) for PPPs for PPPs best practices Guidance on Table of new new Contents for archetypes archetypes PPP manual Insights from local and international best practices Overall project and pilots update UKAS Transformation Next steps improve project economics across structuring approach and discuss implications on current pipeline bidder shortlist and key terms for RFP structure endorse cabinet submission timeline design optimal procurement agreement pipeline monitoring proposed agenda for upcoming meetings Need to finalize dates for Minister meetings Faster, Better, More PPPs TM FINAL REPORT 10/12/ mins 10 mins 10 mins 5 mins 5 mins 5 mins 10 mins 5 mins Faster, Better, More PPPs TM FINAL REPORT 10/12/ Minor defects on concrete slabs or the fact that there are substantial contractor claims indicate that there is an opportunity to establish lean construction management Integrated Project Management The establishment of an integrated project management approach will help enabling these three main levers. When focussing on the enablers for the CAPEX optimisation, integrated project management techniques like the Central control tower should be considered. Elements of the Central control tower approach include A war room to increase transparency Weekly decision meetings to ensure greater precision The use of tools and dashboards to accelerate the pace of the project execution, including the Last Planner System Figure 38 Integrated Project Management ILLUSTRATIVE Central control tower approach Visual management/ War Room Weekly decision meetings Tools and Dashboards Proposed agenda for key upcoming meetings pipeline according to pipeline according to development roadmap Detailed project dashboard (1/2) PILOT DELIVERY PHASE I War room operational Gradual on-boarding of designated Project file populated First draft of vision and structure being Technical, financial committees formed Reviewing key salient technical and Some monitoring equipment in place Identifying best practices for HPGBs Project file populated Identified key shifts between 2 nd & 3 rd Pending draft of legal agreement on clauses pertaining to off-take structure Decide on approach to monitor progress of project beyond UKAS Objectives of today s discussion GUDEX: Decision on preferred options to Facilitation Fund: Align decisions Carcosa: Validate business model, RRI: Validate proposed profit sharing HPGB: Share negotiation approach and Medical equipment: Share approach to Gallery Walk Introduce new War Room format for Experience end-to-end process Discuss immediate next steps and Extensive use of gallery walk style presentation to bring the process alive Wall displays of pipeline status to increase transparency and highlight critical bottlenecks Weekly action meetings with key leadership to Debottleneck pipeline issues Share learnings across different projects Excel based tool to facilitate pipeline monitoring and data collection Pipeline flash report to highlight key issues and next steps Increase transparency Ensure greater precision Accelerate pace of execution SOURCE: Team analysis Holistic Approach to Capital Productivity A holistic approach to capital productivity does not only focus on the elements of project delivery optimisation laid out above, but also includes capital strategy and allocation, portfolio optimisation, and enablers structuring Coherent capital strategy matching project opportunities: Corporate centre has a clearly defined strategy master plan and an adequate understanding of each BU s environment (e.g., markets, technologies, competitors) 41

63 Portfolio optimisation process prioritising the right projects: Owners have clear understanding of desired risk-return profile and look for projects with portfolio perspective, prioritising them based on strategic fit and profitability Core processes and capability excellence: Owners develop key enablers to support capital productivity success: clear roles, core processes (stage-gates, risk management, value improvement, investment planning), integrated systems, aligned incentives and capability building While KenGen shows strengths across all these elements, e.g., having set up a capital planning unit to interrogate the viability of projects in the master plans and taking fact-driven decisions on the portfolio mix through feasibility studies, opportunity for improvement exists. This could include, e.g., focussing the planning approach more on commercial assumptions or enhancing interface management between the Geothermal Division and Business Development. Figure 39 Capital Productivity Pyramid 2 1 Capital strategy & allocation Portfolio optimization Coherent capital strategy matching project opportunities. Corporate center has a clearly defined strategy master plan and an adequate understanding of each BU s environment (e.g., markets, technologies, competitors) Portfolio optimization process prioritizing the right projects. Owners have clear understanding of desired risk-return profile and look for projects with portfolio perspective, prioritizing them based on strategic fit and profitability 4 A Structure 3 Project delivery optimization A B C D E Concept optimization Enablers B Processes Design optimization Contracting & Procurement C Systems Lean Construction SOURCE: McKinsey Capital Productivity and Infrastructure Practice Project Ramp-up D Mindset & capabilities Delivery optimization across project life cycle. Owners play an active role integrating design teams, contractors and operators, pushing best practices to contractors and developing suppliers Core processes and capability excellence. Owners develop key enablers to support capital productivity success: clear roles, core processes (stage-gate, risk mgmt, value improvement, investment planning), integrated systems, aligned incentives and capability building 42

64 5.3 Improve PPAS/Tariff Regulation Figure 40 Focus Of Improve PPAs/Tariff Regulation Initiative 3 Vision: To be the market leader, in the provision of reliable, safe quality and competitively priced electric energy in the Eastern Africa region Capital planning and execution Strategic pillars Regulatory and financing Operational excellence CP1 CP2 RG1 RG2 OP1 OP2 Effectively deliver current projects Expand geothermal capacity, incl. new fields Pursue new financing approaches Establish new business models Optimise maintenance practices and increase availability Reduce operational and overhead costs CP3 Implement new CAPEX planning and execution processes RG3 Improve PPAs/ tariff regulation OP3 Improve operational processes and structure Organisational health OG1 Drive performance management 1 OG2 Improve leadership health OG3 Achieve people readiness for growth2 OG4 Enhance annual planing and budget OG5 Foster innovation and continuous improvement OG6 Upgrade IT support/ enablers 1 Incl. talent management, promotion/succession planning, women s motivation 2 Incl. FTE growth and skill/capability building As one of the Government s declared objectives is to lower the cost of electricity, KenGen s aspired increase in profitability will have to be achieved in combination with a decrease of the actual tariff charged. Simply increasing the regulated return to the 16.5% expected by an outside investor is thus not a viable course of action. An initial simulation indicates that combining both the Government s and KenGen s desires is feasible if the capital expenditures for new projects can be adequately reduced. The aspired improvement in RoE could be realised either through ensuring that in the power purchase agreements KenGen is properly reimbursed for the risk it assumes while building a power plant, or by entirely decoupling the tariff from a regulated return on equity. In both cases, an overall lower tariff than in the current scheme seems feasible without a need for Government subsidies and with a strong incentive for KenGen to optimise spend on new projects. A theoretical example illustrates this: A plant which requires ~USD 570 mln of capital investments would in the current scheme have an implied tariff of ~USD 8.1ct/kWh (assuming 30% equity ratio, 25 years PPA, 10.5% cost of debt, 90% load factor, 12.5% return on equity, based on full CAPEX including drilling cost). If KenGen were able to reduce the CAPEX by 18.5% (in line with the savings potential indicated by 43

65 the diagnostic) and add an adequate risk premium (e.g., 5%), the total CAPEX for the PPA agreement would add up to ~USD 490 mln. A 12.5% RoE on this would imply a tariff of ~USD 7.8ct/kWh lower than the current scheme. If KenGen managed to deliver the plant while avoiding the budgeted risks, the effective internal RoE could reach 16.5%. Hence, as shown in this example, both an overall lower tariff and an improvement in RoE seem feasible. Figure 41 Levers of Improving PPAs/Tariff Regulation SIMPLIFIED AND ILLUSTRATIVE CALCULATION Existing tariff regime 1 USD 571 mn Olkaria VI CAPEX (incl. drilling) Return on equity (RoE) % USD 8.1 c/kwh Implied tariff 2 Alternative approaches to achieve market expectation on returns (16.5%) Increase regulated RoE to >16.5% Optimise CAPEX and build in risk premium Increases implied tariff to USD 9.1 c/kwh This assumes no CAPEX optimisation NOT a viable solution Remain at 12.5% regulated RoE Agree tariff based on reduced CAPEX (through optimization) but include adequate risk premium If risks are avoided during delivery, both a lower tariff as well as an effective RoE of 16.5% can be achieved Agree on a tariff De-couple from RoE Optimise CAPEX to get to required RoE and agree on fixed tariff >16.5% 1 Simplified calculation example for Olkaria VI 140MW, 30% equity ratio, 25 years PPA, 10.5% cost of debt, 90% load factor, return on equity based on full CAPEX including drilling cost 2 Actual tariff regime applies regulated RoE only on plant CAPEX and adds OPEX pass through as well as steam charge to recover drilling cost, total in existing tariff regime estimated at USD 9,4 c/kwh difference is caused mostly by OPEX pass through 3 After tax RoEs. Corresponding pre-tax RoEs are 17.9% and 23.6% respectively % CAPEX optimization in line with potential identified in diagnostic 44

66 5.4 Pursue New Financing Approaches Figure 42 Focus of New Financing Approaches Initiative 4 Vision: To be the market leader, in the provision of reliable, safe quality and competitively priced electric energy in the Eastern Africa region Capital planning and execution Strategic pillars Regulatory and financing Operational excellence CP1 CP2 RG1 RG2 OP1 OP2 Effectively deliver current projects Expand geothermal capacity, incl. new fields Pursue new financing approaches Establish new business models Optimise maintenance practices and increase availability Reduce operational and overhead costs CP3 Implement new CAPEX planning and execution processes RG3 Improve PPAs/ tariff regulation OP3 Improve operational processes and structure Organisational health OG1 Drive performance management 1 OG2 Improve leadership health OG3 Achieve people readiness for growth2 OG4 Enhance annual planing and budget OG5 Foster innovation and continuous improvement OG6 Upgrade IT support/ enablers 1 Incl. talent management, promotion/succession planning, women s motivation 2 Incl. FTE growth and skill/capability building From a funding point of view, KenGen will have to raise/invest around USD 9-10 billion to deliver the 2,500MW aspiration. This estimate is based on overnight construction costs and takes into account inflation as well as interest during construction, in line with KenGen standard project calculations. Expert discussions with KenGen s business development team indicated that the initially planned base amount of USD 8.1 billion (of which USD 4.6 billion for the current pipeline of 1,400MW and USD 3.5 billion for new sites of 1,100MW) should be increased by about 10% to allow for sufficient contingencies not considered in the base estimations. 45

67 Figure 43 : To Deliver 2,500mw, We Will Need To Invest/Raise USD 9.5 Bln Base case 2025 Component Capacity target, MW CAPEX USD bn KenGen current pipeline 1 1, Interest during construction New sites geothermal projects 2 1, Non-geothermal GoK future projects N/A 0 Subtotal 2, Inflation Additional costs Contingencies Total financing need Estimated overnight construction costs, not inflated, including interests during construction, as per KenGen calculations 2 Estimated overnight construction costs, not inflated, including interests during construction. Includes USD 609 mn for 350MW wellheads, 3.8 USD mn/mw for new sites projects (based on KenGen forecast for Olkaria VII, VIII, IX) SOURCE: Team analysis Financing for power generation projects typically consists of raising around 30% equity and 70% debt: Debt raised can either be on a company s balance sheet, or as project debt charged to a specific future asset in a SPV (ring-fenced entity with specific risks and limited-recourse KenGen B) On the equity side, funding can be raised through equity contribution from partners (SPV 35%, i.e., public private partnership also KenGen B), asset monetisation (e.g., SPV 49% which results from the sale of a 51% stake of an existing asset also KenGen B), reducing dividends and increasing retained earnings from operations, debt charged to a specific existing asset used as equity for new projects (which is remotely comparable to the concept of asset backed securities), or other approaches like GoK financing for drilling 46

68 Figure 44 Financing Approaches to Fund the Capex Need Debt BALANCE SHEET FINANCING On the debt side, KenGen has already identified (incurred or committed) USD 1.4 bln of on-balance sheet finance for its pipeline projects, mostly from concessional lenders like JICA, EIB, or AFD. 47

69 Figure 45 USD 1.4 Bln On-Balance Sheet Finance Committed KenGen A debt Costs already incurred 1 Financing already identified per project (excl. remaining gap to finance) In USD mn , Project Olkaria Wellheads Ngong I phase 3 Olkaria I unit 6 Olkaria I rehab. Olkaria wellleasing Olkaria V Meru Olkaria wind farm VI phase 1 Olkaria VII Total Lenders Commercial Bank Africa Belgium JICA Government EIB JICA Commercial Bank Africa JICA Exim Bank AFD KfW Exim Bank Exim Bank Forecast commissioning year Mix of on-balance sheet debt and equity SOURCE: KenGen capital planning KenGen s historically high dependence on concessional, i.e., on-lent or Government guaranteed debt at rates below commercial loans, is not expected to be sustainable in the long run, as concessional lenders may focus their funding on other elements of the value chain or reach their country limits overall. In addition, KenGen may be required to resort to commercial loans for regulatory reasons when competing with IPPs for bids. As a result, KenGen s current low average cost of debt of 4.2% could increase to 10-11% for future projects. 48

70 Figure 46 Change in Debt Mix From To ILLUSTRATIVE FY 2015 debt mix, in % 100%=USD 1.5 bn 1 FY 2015 average cost of debt, % Potential future project debt mix, in % Average cost of debt, % Direct On-lent Direct GoK guaranteed On-lent FY 2015 Average KenGen cost of debt 2 4.2% Future project Average future project cost of debt % Commercial debt expected to partly replace concessional loans as KenGen will compete with IPP for bids and GoK/ DFIs may allocate concessional loans in priority to transmission and distribution segment 1 All values calculated in KES, but shown in USD using actual/constant exchange rate for ease of comparison 2 Assuming cost of on-lent debt remains at FY2015 level 3 Automatically calculated based on debt mix and corresponding costs of debt SOURCE: KenGen finance overview of debt mix and cost as of 30 June 2015, team analysis As previously mentioned, KenGen s traditional approach of funding project cost through concessional balance sheet loans is not expected to raise sufficient capital to cover the entire investment need. This is due to an already fairly stretched balance sheet, with ratios like net debt to capital, net debt to EBITDA, or EBITDA to interest expenses worse than a benchmark sample of European Unity utilities as well as Standard & Poor s leverage criteria (used to determine the credit worthiness of companies and their ability to raise debt from commercial lenders). Going forward, KenGen will probably have to raise a majority of direct commercial debt, which will be hard to get on-balance sheet with current leverage ratios. To assess potential to further provide loans on-balance sheet, lenders would run full corporate finance due diligence and in particular look at net cash after investments. DFI/ development banks could be looking at other criteria, e.g., development goals. 49

71 Figure 47 Balance Sheet Ratios Reference balance sheet ratios investors/lenders would look at Net debt to capital ratio EU utilities 1 KenGen (median) S&P leverage criteria Modest Medium High N/A N/A N/A Assessment of KenGen ratios Above EU benchmark Potential to further raise commercial direct debt Net debt/ EBITDA Non sustainable leverage level EBITDA/ interest expenses Considered as high ratio by S&P Going forward, KenGen may need to raise direct commercial debt, which will be hard to get on-balance sheet with current leverage ratios To assess potential to further provide loans on-balance sheet, lenders would run full corporate finance due diligence and in particular look at net cash after investments DFI/ development banks could be looking at other criteria (e.g., development goals) 1 Data as of Dec 2014 based on financials of 12 largest GWh generating EU utilities 2 Used by S&P to determine the credit worthiness of companies and their ability to raise debt from commercial lenders 3 Interest expenses include interest expense as per income statement, as well as capitalized interests SOURCE: KenGen annual report , KenGen London Investor Presentation June 2015, interviews PROJECT FINANCING WITH SPVS In this situation, using SPVs for project financing is expected to allow KenGen to raise the remaining debt needs. The general concept of SPVs has already been introduced earlier: An SPV is a ring-fenced project that potentially increases investor/lender confidence as it: Relates to a specific risk with a limited-recourse condition to KenGen balance sheet (typically, KenGen would cover a share of SPV non-solvability) Provides clear forecast cash flows associated to a PPA with guarantees (e.g., letter of support from GoK) Potentially includes step-in rights, i.e., if KenGen does not meet its engagements, lenders would have the right to take control of operations Lenders are expected to be ready to provide direct loans to KenGen B SPVs even though KenGen s balance sheet ratios are stretched, and the cost of direct commercial debt raised on SPV could be different from on-balance sheet debt (potentially even lower in the case of a minority participation SPV, where partner brings additional security to lender). The exact cost and conditions for SPVs will have to be tested with the market and highly depend on the specific assets in question. 50

72 5.4.2 Equity EQUITY CONTRIBUTION FROM PARTNERS On the equity side, there are different ways KenGen could proceed to co-develop new projects with equity partners Minority or majority partnership: Having a partner with majority shares would exempt SPV from constraints on state-owned enterprises (e.g., public procurement processes, HR constraints) which would make it more attractive for a partner. The share of partner participation depends on the actual equity need, with the opportunity to sell majority stakes and keep control using A/B shares with differentiated voting rights Type of equity partner: A partnership with a financial partner seems attractive for geothermal projects, while there also is potential operational value from a development partner (i.e., lower costs, experience) for other technologies (e.g., coal, LNG) Focus on wells only: This leasing model is applicable to geothermal only, where KenGen could focus only on providing steam ASSET MONETISATION Asset monetisation has two advantages on the one hand, it allows KenGen to use the collective cash flows that would otherwise come in over the life time of a project s power purchase agreement, on the other hand there is a leverage effect rewarding KenGen for the risk taking in developing the project. For this leverage effect to work, KenGen would have to find an investor who expects less than KenGen s own regulated return or is willing to pay a premium for the risk KenGen has already taken in plant development initial discussions indicate that this could be possible taking into account the low risk profile of an existing plant. 51

73 Figure 48 Asset Monetisation Has a Leverage Effect 13,2 13,2 13,2 ILLUSTRATIVE Traditional model Annual cash flows assuming 12.5% return on equity and 25 years PPA 12.5% return on equity Asset monetisation -100,0 Initial CAPEX (equity only) -100,0 Initial CAPEX (equity only) 59,0 Farm down 49% of cash flows to an investor with 10% return Year 0 (unescalated overnight Capex) SOURCE: Team analysis, external interviews External interviews indicate that investors would look at 12% KSH RoE, down to 8-10% if off-take agreement guaranteed by GoK 6,7 6,7 51% of annual cash flows assuming 12.5% return on equity and 25 years PPA 6,7 Year 1 Year 2 Year 25 Leverage effect in the case investor expects return <12.5% only 16% return on equity The proper selection of the right assets to monetise will be key for this approach to be successful taking into account, e.g., asset value, selling constraints, and strategic importance. In particular, the selection of the pilot asset is critical to provide a success story. Another consideration to take into account are the potential impacts of asset monetisation on KenGen A these depend on the actual structure and details of a specific transaction, but could include: Assets: Transfer from fixed assets to cash, increase in total asset sum because of profit made Liabilities: No impact as all debt remains with KenGen A Book equity: Increases because of profit made Revenues and EBITDA: Reduced by the share of the asset that is monetised Net debt to equity ratio: Improves because equity increases Net debt to EBITDA ratio: Deteriorates because EBITDA is reduced EBITDA margin (EBITDA/revenues): Overall company EBITDA decreases if asset monetised has a higher margin than average plant margin Debt refinancing: Banks will need to be reassured the cash raised is effectively invested 52

74 REDUCE DIVIDENDS AND INCREASE RETAINED EARNINGS Reducing dividend pay-outs to increase retained earnings from operations is another possible approach to equity funding. This would have to be aligned with KenGen s major shareholder, the Government. An analysis of experiences from other companies indicates that companies that focus on growth rather than dividend payouts seem to be able to deliver significant long-term shareholder value. Figure 49 Companies that Focus On Growth Rather than Dividends Share price trend for selected companies Local currency Compagnie Ivoirienne d Electricite Tokyo Electric Power 800 Company Jan Apr Jul +6% p.a. +13% p.a. Oct Jan Apr Jul Oct Jan Apr Jul Oct Apple Inc % p.a Issued dividends in this period SOURCE: Team analysis CoIE, TEPCO, and Apple experienced growth in share price while not paying out dividends Apple s share price dropped during the period it issued dividends When looking at KenGen s own share -price development, there also does not seem to be a clear correlation between dividend policy and share value. However, this will likely not be a large financing lever overall. 53

75 Figure 50 KenGen Dividends and Share Value Development Share price Index: 100 in Divergence of KenGen and NSE trends Kengen NSE Share price trend 1 Evolution of dividend trend Share price 23 Oct: 8.65 KSH/ share Share price and dividend payout not correlated Dividend payout KSH per share Dividend payout % previous year PBT Date of dividend announcements 12/11/10 09/12/11 05/12/12 18/12/13 16/12/14 TBC 1 Trend in first six months of year (n); 2 Dividend in year (n) vs. dividend in year (n-1) SOURCE: Team analysis Financing Strategy Overall, an illustrative finance strategy for the 2,500MW aspiration which needs further refinement and detailing based on the final strategy implementation decisions and initial discussions with the market could draw on most of the discussed levers and close most of the funding need, leaving a gap of around USD 0.6 bln. This gap would have to be bridged through a reduction in project cost, which KenGen believes is possible if we implement the CAPEX optimisation described earlier in this document. 54

76 Figure 51 Proposed Financing Strategy The final decision on the appropriate finance approach will also have to be taken on a case by case basis, considering the current cash flow situation at the time of the financing need. 55

77 5.5 Establish New Structures for Financing Growth Figure 52 Focus of New Structures/Models Initiative 5 Vision: To be the market leader, in the provision of reliable, safe quality and competitively priced electric energy in the Eastern Africa region Capital planning and execution Strategic pillars Regulatory and financing Operational excellence CP1 CP2 RG1 RG2 OP1 OP2 Effectively deliver current projects Expand geothermal capacity, incl. new fields Pursue new financing approaches Establish new business models Optimise maintenance practices and increase availability Reduce operational and overhead costs CP3 Implement new CAPEX planning and execution processes RG3 Improve PPAs/ tariff regulation OP3 Improve operational processes and structure Organisational health OG1 Drive performance management 1 OG2 Improve leadership health OG3 Achieve people readiness for growth2 OG4 Enhance annual planing and budget OG5 Foster innovation and continuous improvement OG6 Upgrade IT support/ enablers 1 Incl. talent management, promotion/succession planning, women s motivation 2 Incl. FTE growth and skill/capability building To reach their growth aspirations, KenGen management decided during their strategy retreat in June 2015 to to establish and operate two new, distinct types of organisational and legal structures KenGen B and C in addition to the existing company (KenGen A). KenGen A: The existing KenGen legal entity, in this document referred to as KenGen A, continues to exist without changes. It operates existing legacy plants as well as future KenGen A projects, that is, any future project financed in the traditional approach of taking out loans on the KenGen balance sheet). Future projects that fall into this category could include the Olkaria wellheads, Ngong I phase 3, Olkaria I unit 6 and rehab, Olkaria V, and Meru phase 1 KenGen B: In addition to KenGen A, multiple separate legal entities with ringfenced risks and cash flows technically special purpose vehicles (SPVs) will be used to develop new projects that cannot be financed through loans on KenGen A s balance sheet. These will also be a vehicle to partly monetise selected assets. These SPVs can be fully owned by KenGen A, or owned together with a partner. This approach could apply to Olkaria I and IV toppings, Olkaria VI, any new sites projects (i.e., outside Olkaria), and to this monetisation of existing assets 56

78 KenGen C: Finally, KenGen C will be a 100% subsidiary owned by KenGen that provides services to KenGen A/B and other companies. KenGen C will focus on consultancy services, a potential industrial park, and drilling services KenGen B The use case for KenGen B (or SPVs) is threefold: Monetisation of existing assets Development of future generation without a partner or through a fully owned SPV Delivery of new plants with a partner (partially owned SPV) First, for asset monetisation. This refers to selling a share in an existing asset to an investor, to raise funds for a new project. Asset monetisation can increase profitability of the remaining KenGen share through a leverage effect based on KenGen obtaining a price premium for having taken risk for an investor, an existing asset has a stable, secure cash flow with a limited risk profile. Second, to develop future projects without a partner, as a fully-owned SPV (SPV 100%). Here, an SPV is expected to enable KenGen to raise funding off its balance sheet, as potential new projects and their related risks are clearly ring fenced, separate from the parent KenGen A structure within the new SPV legal entity. In addition, this approach allows KenGen to create a lean structure in a new entity. Third, SPVs allow KenGen to develop future projects with partners that are interested in a specific asset with specific risk. This allows KenGen to attract needed capabilities (e.g., for non-geothermal projects), fulfil external/regulatory requirements (e.g., in the case of a Joint Development Agreement with the GDC or if a joint venture with an IPP is a prerequisite), or simply to reduce its own equity financing need through the partner contribution. In the case of asset monetisation or a partnership, a minimum 51% private share seems likely, as the SPV will then be considered to be a private entity, i.e., not subject to public procurement process. KenGen could nevertheless retain control of the asset, e.g., through a partnership agreement or different share classes. 57

79 Figure 53 Potential Structure of A 100% SPV, Olkaria Vii Example Drilling of wells done by KenGen Geothermal Development Division Operations and maintenance (O&M) run by KenGen C Engineer, procure and construct (EPC) contractor Drilling contract O&M contract EPC contract Olkaria VII Wells Plant Equity for drilling costs (USD 150 mn) Fuel Long-term PPA Debt for construction costs (USD 420 mn) Explicit Guarantee Off-Taker (e.g., KPLC) GoK letter of support World Bank PRG 1 KenGen equity Lenders (DFIs, commercial banks) Financial investor to invest in KenGen existing assets (sales farm down) to provide cash for Olk. VII equity Third parties Olkaria VII SPV KenGen parent company 1 Partial risk guarantee SOURCE: Team analysis KenGen B projects are likely to operate similar to typical KenGen A legacy projects. The plant manager of a KenGen B geothermal projects would report to the KenGen geothermal development division director, the reporting line for non-geothermal projects depends on the level of progress projects that have not yet been commissioned will be handled under KenGen business development, commissioned projects will report to KenGen operations division. KenGen B projects where KenGen has majority operational control are planned to operate in a similar way as SPVs 100%, while for SPVs where KenGen has minority control only, the appropriate organisational structure will have to be decided with the partner. As a lean organisational setup, each SPV is expected to require only three dedicated employees for its core management other activities, e.g., procurement, operations and maintenance/repairs should be performed by KenGen A or C through service level agreements KenGen C The planned KenGen C consultancy division an approach that was approved by the Board at the end of 2015 is expected to be organised in three business divisions and support functions. The business divisions will be consultancy (includes operations, maintenance and EPC services for KenGen B plants and emergency support for legacy KenGen A plants, geoscientific services including environmental consulting, and engineering and workshop services), drilling services, and other businesses (e.g., industrial park and real estate/housing). To facilitate its launch, KenGen C initially plans to focus only on new projects and external customers. Specifically, drilling and other businesses divisions will 58

80 exclusively service other companies. Initially, there will not be any transfer of staff from the KenGen parent organisation, but invoicing for manpower used and costs made the detailed approach has to be further confirmed. KenGen C is proposed to initially have 12 core employees, of which 6 will be 50% shared with KenGen, translating to 9 full time equivalents. Figure 54 KenGen C To ensure a successful launch of its consultancy division, KenGen will have to address a number of critical key success factors that are currently not completely fulfilled. These include the right set of skills and capabilities, dedicated management focus from KenGen A and a top notch KenGen C management team, a sound business plan with adequate capitalisation of the entity, and the implementation of the best practice systems and processes from the beginning. 59

81 Figure 55 Critical Success Factors for KenGen C 5.6 Deliver Current Pipeline and Access New Geothermal Fields Figure 56 Focus of Delivering Pipeline and New Fields Initiative 6 Vision: To be the market leader, in the provision of reliable, safe quality and competitively priced electric energy in the Eastern Africa region Capital planning and execution Strategic pillars Regulatory and financing Operational excellence CP1 CP2 RG1 RG2 OP1 OP2 Effectively deliver current projects Expand geothermal capacity, incl. new fields Pursue new financing approaches Establish new business models Optimise maintenance practices and increase availability Reduce operational and overhead costs CP3 Implement new CAPEX planning and execution processes RG3 Improve PPAs/ tariff regulation OP3 Improve operational processes and structure Organisational health OG1 Drive performance management 1 OG2 Improve leadership health OG3 Achieve people readiness for growth2 OG4 Enhance annual planing and budget OG5 Foster innovation and continuous improvement OG6 Upgrade IT support/ enablers 1 Incl. talent management, promotion/succession planning, women s motivation 2 Incl. FTE growth and skill/capability building 60

82 KenGen plans to achieve their 2025 target of 2,500MW new generation capacity by pursuing two approaches: Delivering the current KenGen pipeline of 15 projects totalling 1,391MW, and accessing new fields to obtain geothermal projects for 1,109MW on new sites outside Olkaria. Figure 57 Elements of the Target Aspiration of 2,500MW Elements of the KenGen base case target aspiration by 2025, MW KenGen current pipeline New sites geothermal projects 1 II 2,500 I 1,154 1,346 New sites projects Commissioning year 25 Olk. w- heads Ngong Olk. I I Ph. 3 Topping 30 Olk. IV Topping 70 Olk. I U.6 6 Olk. I rehab 1 Including 350MW wellhead project SOURCE: KenGen capital planning, team analysis Olk. V Olk. Meru Olk. VI w- Ph.1 leasing 140 Olk. VII 721 Total Olk. VIII Olk. IX Eburru 320 Meru Ph.2 Total TBD Total base target 2025 Out of the more than 20 geothermal fields currently identified in Kenya, a short list should be defined as the initial focus for potential project transfer or co-development. To receive access to these fields, KenGen will have to engage the Government and GDC, demonstrating their experience in bringing geothermal resources to production, which would make awarding these fields to KenGen beneficial to Kenya s future. 61

83 5.7 Improve Organisational Health and Build Required Skills & Capabilities Figure 58 Focus of Organisational Health and Skills/Capabilities Initiative 7 Vision: To be the market leader, in the provision of reliable, safe quality and competitively priced electric energy in the Eastern Africa region Capital planning and execution Strategic pillars Regulatory and financing Operational excellence CP1 CP2 RG1 RG2 OP1 OP2 Effectively deliver current projects Expand geothermal capacity, incl. new fields Pursue new financing approaches Establish new business models Optimise maintenance practices and increase availability Reduce operational and overhead costs CP3 Implement new CAPEX planning and execution processes RG3 Improve PPAs/ tariff regulation OP3 Improve operational processes and structure Organisational health OG1 Drive performance management 1 OG2 Improve leadership health OG3 Achieve people readiness for growth2 OG4 Enhance annual planing and budget OG5 Foster innovation and continuous improvement OG6 Upgrade IT support/ enablers 1 Incl. talent management, promotion/succession planning, women s motivation 2 Incl. FTE growth and skill/capability building KenGen faces not only opportunities and challenges of business performance, which the previous initiatives seek to address, but also those of organisational health. An organisation s ability to align, execute, and renew itself to sustain strong performance over time is a direct result of its organisational health: External research shows that companies with a top quartile organisational health compared to peers are twice as likely to outperform those peers on margin, book value, and income growth. In December 2015, KenGen performed an organisational health assessment in order to determine the current state and identify areas of strengths and areas in need of improvement. Compared to a previous assessment in 2007, the result showed an overall improvement from 68 to 72 (out of a maximum of 100 points) 62

84 Figure 59 Overall Organisational Health Assessment Distinctive, 85%+ Superior, 70-84% Percentage agreement on outcome effectiveness Common, 50-69% Not effective, <50% results: Overall score 68 Alignment Direction 65 Execution Renewal External orientation 76 Accountability 64 Leadership 70 Coordination and control 65 Innovation results: Overall score 72 Alignment Direction 85 Execution Renewal External orientation 74 Accountability 67 Leadership 70 Coordination and control 68 Innovation and learning 69 Capabilities 89 Motivation 62 Capabilities 95 Motivation 53 Environment and values 61 Culture and Climate 71 About 80% of the outcomes have improved scores over the years, supported by the majority feeling that KenGen is a great company Majority of outcomes scored above the global median, with the exception of motivation (already lowest score in 2007, further decreased) 1 KenGen OPP survey (n=870), results are not directly comparable due to changes in methodology, e.g., absence of quartile benchmarking SOURCE: KenGen 2007 and 2015 Organizational Health Assessment (n=1,312) and global database (n=1,259,322, no. surveys=737) The assessment found areas of strength in the clarity of vision and direction, its managing systems and processes, and faith in the organisation s capabilities. Areas of concern arose around the health of leadership and its impact on the staff, the personal connection and motivation of employees, talent acquisition and performance management, women s motivation, and the health of support (nonplant) functions. Figure 60 Key Findings of the Organisational Health Assessment 63

85 5.7.1 Areas of Strength Vision and Direction Company vision and direction is very clear at all staff levels. As demonstrated by best-in-class scores in Shared vision, Strategic clarity, and Knowledge sharing, KenGen has a clear shared vision, a strategy tied to that vision, and disseminates and shares that knowledge effectively. Respondents were quick to call the organisation Visionary, and when asked to describe the company in three words, many responded with the name of the transformation effort, Good to Great. Figure 61 Company Vision And Direction Benchmark Percentage agreement on practice frequency Top quartile Third quartile Second quartile Bottom quartile Direction Accountability Role Performance Consequence Personal clarity contracts mgmt. ownership External orientation Customer Competitive Business Gov. and focus Insights partnerships community relations Capabilities Shared Strategic Employee vision clarity involvement Leadership Authoritative Consultative Supportive Challenging leadership leadership leadership leadership Coordination and control People Operational Financial Professional Risk perform. mgmt. mgmt. standards mgmt. review Innovation and learning Top-down Bottomup sharing external Knowledge Capturing innovation innovation ideas Motivation KenGen s employees are very clear on the vision and strategy of the organisation and knowledge sharing is a common practice Talent Talent Process Outsourced acquisition development based expertise capabilities Culture and climate Meaningful Inspirational Career values leaders opportunities Open and Internally Operationally Creative and trusting competitive disciplined entrepreneurial Financial Rewards incentives and recognition Quotes from survey participants Please describe the company in 3 words Focused, organised and visionary Visionary, value oriented, innovative Visionary, competitive and Agenda- Driven Good To Great SOURCE: KenGen 2015 Organizational Health Assessment (n=1,312) and global database (n=1,259,322, no. surveys=737) Managing Systems and Processes KenGen is strong on managing systems and processes. Each practice regarding processes, systems, and management received above-median frequency, suggesting that the organisation does an excellent job of managing systems and processes. These well-documented roles and procedures are crucial for an industrial organisation, and can potentially be leveraged while addressing the areas for improvement identified by the assessment. 64

86 Figure 62 Managing Systems and Processes Percentage agreement on practice frequency Benchmark Top quartile Third quartile Second quartile Bottom quartile Direction Role clarity 61 Performance contracts External orientation Customer Competitive Business focus Insights partnerships 53 Talent Talent acquisition development Accountability 38 Consequence mgmt. Capabilities Gov. and community relations 59 Process based capabilities 46 Personal ownership Outsourced expertise 37 Open and trusting 77 Shared vision 81 Strategic clarity Leadership Authoritative Consultative Supportive leadership leadership leadership 39 Employee involvement Culture and climate 34 Internally competitive 70 Operationally disciplined 58 Challenging leadership People perform. review 46 Coordination and control 70 Operational mgmt. Innovation and learning 41 Top-down innovation Financial Professional mgmt. standards 52 Bottom-up innovation Motivation Knowledge Capturing sharing external ideas Risk mgmt. 25 Meaningful Inspirational Career Financial Rewards and values leaders opportunities incentives recognition Creative and entrepreneurial KenGen has solid operational and financial management with well documented processes and clear roles underpinned with a culture of discipline Quotes from survey participants KenGen is an excellent company to work for, with visionary leaders. It has an outlined mission and willing to achieve the goals and maintaining the core values of the company. The future is bright for KenGen as it plans to grow from Good to Great company. I would like to be part of making KenGen a great company. Total involvement SOURCE: KenGen 2015 Organizational Health Assessment (n=1,312) and global database (n=1,259,322, no. surveys=737) Capabilities There is strong faith in the organisation s current capabilities, driven by outsourced expertise. The organisational expertise received one of the highest scores overall in the assessment, and responses to open-ended questions pointed to employees as a key source of strength for KenGen. However, assessment of the management practices that lead to strong capabilities revealed that KenGen is strongest in outsourced expertise. This outsourcing of capabilities may lead to concerns in the future, as KenGen may not be effectively developing internal talent and capabilities. 65

87 Figure 63 Current Capabilities Percentage agreement on practice frequency Benchmark Top quartile Second quartile Third quartile Bottom quartile Capabilities 95 What strengths should the company build upon in the future? Talent acquisition Talent development 59 Process based capabilities 57 Outsourced expertise Takeaways Capabilities are high, especially in outsourced expertise This could cause concern down the line, as KenGen is not developing internal capabilities This is reinforced by open-ended survey responses, which identify employees and staff as critical strengths to improve in the future Respondent comments indicate that there is a lack of clarity between contracted and outsourced talent Quotes from survey participants What strengths should the company build upon in the future? 1. Capability of Employees 2. Innovation among staff Retention of the best talents KenGen has a pool of well trained and talented employees who should be supported to achieve the goals and targets of the company. SOURCE: KenGen 2015 Organizational Health Assessment (n=1,312) and global database (n=1,259,322, no. surveys=737) Areas for Improvement Leadership Leadership shows low organisational health score across the board, which may be the cause of employees sensing a lack of inspirational leadership. Assessment of health by organisational level reveals a stark decrease in health at the senior management levels (L0-L3). This is the opposite of the common trend amongst organisations, where leadership shows the highest health scores in the team. This may be the most deeply concerning finding of the assessment, as role modelling of healthy practices by leadership is one of the key factors required for influencing the broader organisation to improve health practices. Furthermore, this appears to be affecting the rest of the organisation, as employees sense a lack of inspiring leadership or even effective use of leadership practices in KenGen. This is compounded by a sense that the environment is not open or trusting. Although there is a general trend across managerial levels for lower scores higher up the hierarchy, the lowest frequency of health practices appears at the L3 level (chief engineer, chief officer, assistant manager). This suggests that L1 and L2 managers are not sufficiently supporting and developing their direct reports. This may lead to continued leadership issues over time, as succession development is weak. 66

88 Figure 64 Leadership Organisational Health Benchmark Percentage agreement on outcome effectiveness Areas with lowest scores Top quartile Third quartile Second quartile Bottom quartile Level 0/1/2 and contract executive MD, divisional directors, departmental managers Level 3 Chief engineer, chief officer, assistant manager Level 4 Principal officer, senior engineer Level 5 Senior officer, all other Engineers Culture and n Overall Direction Leadership climate Accountability Coordination and control Motivation Innovation and learning External orientation Level 6 - Assistants Union Contract management Contract union Sample quotes from survey participants: focus on motivation outcome Motivate Management staff by yearly salary increment. Motivation must be based on performance. Rewarding everybody equally discourages high performers. [Improve on] employees recognition and Motivation especially levels below top management. [Improve] motivation of employees (especially management staff). Reduce on the bureaucracy. SOURCE: KenGen 2015 Organizational Health Assessment (n=1,312) and global database (n=1,259,322, no. surveys=737) Figure 65 Employees Sensing A Lack of Inspirational Leadership Benchmark Percentage agreement on practice frequency Top quartile Third quartile Second quartile Bottom quartile Accountability Role Performance Consequence Personal clarity contracts mgmt. ownership External orientation Customer Competitive Business Gov. and focus Insights partnerships community relations Capabilities Talent Talent Process Outsourced acquisition development based expertise capabilities Direction Shared Strategic Employee vision clarity involvement Coordination and control People Operational Financial Professional Risk perform. mgmt. mgmt. standards mgmt. review Leadership Innovation and learning Culture and climate Motivation Capabilities Authoritative Consultative Supportive Challenging Top-down Bottomup sharing external Knowledge Capturing leadership leadership leadership leadership innovation innovation ideas Meaningful Inspirational Career values leaders opportunities Open and Internally Operationally Creative and trusting competitive disciplined entrepreneurial Financial Rewards incentives and recognition KenGen should aim to create an open and trusting environment for its staff and encourage bottom-up communication to foster trust in leadership Quotes from survey participants Focus on inspiring employees through positive and honest culture Should stamp out arrogance and lack of respect from the leadership Leaders must be "seen" to walk their talk. If a leader wants excellence, demonstrate excellence KenGen is a good company. Sometimes it looks like there are selfish leaders here who are deliberately hell bent on bringing it down. SOURCE: KenGen 2015 Organizational Health Assessment (n=1,312) and global database (n=1,259,322, no. surveys=737) Personal Connection to Vision and Strategy Employees are clear on the vision and strategy of the organisation, but don t feel personally connected or motivated. Despite KenGen s strengths in communicating a clear vision and strategy, there is very low personal ownership or sense of 67

89 meaningful values. This implies that employees do not feel that their work meaningfully contributes to the overall strategy and vision. This is accentuated by a sense of demotivation amongst all employees, particularly those in the mid-tenure range. This could potentially be due to poor talent development at early career stages, where many employees feel that strong performance is unrewarded. Furthermore, more tenured employees feel that experience is not recognized, and they are being passed up for younger talent. Broadly, comments in open-ended survey questions suggest a strong sense that promotions are given unfairly, based on personal nepotism and tribalism rather than on merit. Figure 66 Personal Connection to Vision and Strategy Percentage agreement on practice frequency Direction Benchmark Top quartile Third quartile Second quartile Bottom quartile Accountability Role Performance Consequence Personal clarity contracts mgmt. ownership External orientation Customer Competitive Business Gov. and focus Insights partnerships community relations Capabilities Talent Talent Process Outsourced acquisition development based expertise capabilities Quotes from survey participants Shared Strategic Employee vision clarity involvement Leadership Innovation and learning Culture and climate Coordination and control People Operational Financial Professional Risk perform. mgmt. mgmt. standards mgmt. review Motivation Authoritative Consultative Supportive Challenging Top-down Bottomup sharing external Knowledge Capturing leadership leadership leadership leadership innovation innovation ideas Meaningful Inspirational Career values leaders opportunities Open and Internally Operationally Creative and trusting competitive disciplined entrepreneurial Financial Rewards incentives and recognition KenGen s employees need to be involved in active decision making of the organisation to feel part of the Good to Great strategic drive A great company if people share the roadmap the company is taking and leaders speak their heart. All employees of KenGen have an important part to play in the success of KenGen's vision. The company should remind them of this always! Let all employee feel the sense of ownership of KenGen positive results and vision Lack of sense of ownership from employees SOURCE: KenGen 2015 Organizational Health Assessment (n=1,312) and global database (n=1,259,322, no. surveys=737) 68

90 Figure 67 Development of Motivation over Time Motivation outcome by tenure Outcome score < Years tenure Quotes from survey participants 51 Initial findings It is common to find that an organisation s employees are less motivated at middle tenures However, this is still an issue that should be addressed This is potentially due to Poor talent development at early career stages, as most employees feel that strong performance is unrewarded A sense that more tenured employees are passed over for promotion in favor of younger talent, which leads to frustration amongst higher tenures and higher risk of failure for inexperienced leaders Promotions [should] be based on performance and not time based. (Number of years worked before being promoted) [KenGen] fails to recognize the wisdom gained over time SOURCE: KenGen 2015 Organizational Health Assessment (n=1,312) and global database (n=1,259,322, no. surveys=737), team analysis Talent acquisition and development Talent acquisition and development show opportunity for improvement, and employees feel that merit is not rewarded. Concern around non-merit based rewards extends beyond promotions. Employees feel that career opportunities and nonfinancial incentives are inadequately given, and both performance reviews and talent development receive low scores. Specific comments revealed that employees feel that opportunities and rewards are given unfairly, and often opaquely. This suggests that improving transparency in the rationale for opportunities and rewards could help encourage both fairer practices and better understanding of those practices. 69

91 Figure 68 Talent Acquisition and Development Percentage agreement on practice frequency Benchmark Top quartile Second quartile Accountability Role Performanc Consequence Personal clarity e contracts mgmt. ownershi p External orientation Customer Competitive Business Gov. and focus Insights partnerships community relations Capabilities Talent Talent Process Outsourced acquisition developmen based expertise t capabilities 58 Leadership Authoritative Consultative Supportiv Challenging leadership leadership e leadership leadership 37 Open and trusting 77 Shared vision Direction Culture and climate Strategic clarity Employee involvement People perform. review 46 Coordination and control 70 Operational Financial Professional mgmt. mgmt. standards Innovation and learning 41 Top-down innovatio n 35 Meaningful Inspirational values leaders Internally Operationall Creative and competitivey disciplinedentrepreneurial Motivation 24 Bottomup innovatio n Career opportunities Risk mgmt. 49 Knowledge Capturing sharing external ideas Financial Rewards incentives and recognition Third quartile Bottom quartile KenGen needs to improve on its succession planning, talent acquisition and performance management processes to meet the motivation needs of its employees Quotes from survey participants Sometimes motivation is not just about monetary rewards or promotions. We need a little bit of appreciation from our superiors even as we strive sometimes under difficult conditions to achieve the goals of KenGen. Words like Thank You, Good Job etc. Motivate all that promote the excellence of the company goals SOURCE: KenGen 2015 Organizational Health Assessment (n=1,312) and global database (n=1,259,322, no. surveys=737) Women Women are 16 percentage points less motivated than men which seem to be directly tied to less frequent use of key motivating practices. Across all healthy practices save one, women demonstrated lower frequency scores than their male counterparts by as much as 29%. The largest gaps in healthy practice usage are concentrated in those practices most tied to Motivation primarily, then some in Coordination and control and Culture and climate. This indicates that motivation is in part driven by inequality in the effective application of healthy practices throughout the organisation Support functions Support functions score lower than plant functions, especially Company Secretary / legal and finance / ICT. Broadly speaking, directly plant-facing functions all scored higher regarding overall health than support functions. This is especially true of the Company secretary and legal affairs and Finance and ICT functions. The lower support function scores appear to be largely driven by Accountability and Motivation, suggesting that special focus should be given to these areas when designing interventions. 70

92 Figure 69 Support Functions Percentage agreement on outcome effectiveness Benchmark Top quartile Second quartile Third quartile Bottom quartile Function Division n Overall Capabilities Direction External orientation Culture and climate Leadership Coordination and Innovation and learning control Accountability Motivation Business development Plant Geothermal development Operations Supply chain MD s office Human resources and administration Support Regulatory and corporate affairs Strategy and business performance Company secretary and legal affairs Finance and ICT Total (overall score) 1, SOURCE: KenGen 2015 Organizational Health Assessment (n=1,312) and global database (n=1,259,322, no. surveys=737) Approaching areas for improvement To effectively change mind-sets in its organisation, KenGen should employ the fourpart Influence Model. This model promotes the concurrent use of four types of interventions to create change: Role-modelling Compelling storytelling Developing the skills required for change Creating reinforcement mechanisms 71

93 Figure 70 Influence Model The influence model highlights that there are typically four dimensions of influencing to stimulating behavioural change Effective initiatives employ interventions from all four dimensions of the influence model Dimensions of the influence model Role-modelling I see superiors, peers and subordinates behaving in the new way Skills required for change I have the skills and competencies to behave in the new way I will change my mindsets and behaviours, if Compelling storytelling I know what is expected of me I agree with it, and it is meaningful Reinforcement mechanisms The structures, processes and systems reinforce the change in behaviour I am being asked to make Example: How to ensure employees buy sustainably grown coffee Perception I see that my boss buys sustainably grown coffee I know that buying sustainably grown coffee is good for Kenya s nature and people because of reasons X and Y Every time I purchase non-sustainably grown coffee, I commit to paying a penalty of KES 100,- I know where I can buy sustainably grown coffee, I feel competent to judge which coffee is sustainable and which is not SOURCE: Team analysis Research shows that developing all four of these simultaneously will yield the most effective and sustained changes in mind-sets and behaviours. KenGen can organize and focus its organisational health initiatives into two major interventions, focused on: Improving leadership health Driving performance management It seems that there are a number of common underlying drivers amongst employees concerns, which could be effectively addressed through these two prongs. To be effective, initiatives in those two areas should be developed to cover all parts of the Influence Model mentioned above Build required skills and capabilities KenGen s growth aspirations and the subsequent business model modifications as described in the initiatives above are expected to result in a number of organisational changes that have implications on the need for skills and capabilities. The new legal entity setup with KenGen B and KenGen C, for example, will lead to the need for interfaces to coordinate with new entities, adequate planning, reporting, and controlling mechanisms as well as legal and management oversight and new skill sets to implement the new entity structure and financing approaches The changes in skills and capabilities are expected to affect all parts of the organisation, and may include: SPV structuring: Setting up SPV structures, managing partnerships, procurement outside the public procurement regulations Non-regulated revenues (KenGen C): Steam sales, industrial park, consulting 72

94 Owner integration: Taking over integration of multiple packages of a power plant from EPC contractor/epc consultant The significant growth in capacity from 1,600 to 4,100 MW 2.6 times implies that the overall FTE number for KenGen has to grow as well. The gap to close will be further increased by expected retirements by 2025 Figure 71 Expected Organisational Changes NOT EXHAUSTIVE SPV structuring Setting up SPV structures Managing partnerships Procurement outside the public procurement regulations Nonregulated revenues (KenGen C) Steam sales Industrial park Consulting Owner integration Taking over integration of multiple packages of a power plant from EPC contractor/epcm consultant Workforce increase Increase in capacity from 1,600 to 4,100MW will also require a growth in our workforce Gap to close is increased by expected retirements by 2025 SOURCE: Team analysis, KenGen 73

95 Figure 72 Potential Change in FTE/MW Ratio TO BE APPROVED BY EXCO Potential KenGen FTE and MW development FTE 2,400 >2,400 FTE/MW Capacity, in MW % 1.5 <1.5 1,600 4, % Aspiration for target FTE level 1 Current level of 2,400 FTE and 1,600 MW capacity translates to 1.5 FTE/MW Best-in-class companies operate at <1 FTE/MW 2 Building on economies of scale, increased efficiencies, and automation of future plants, aspiration of less than 1.5 FTE/MW proposed as aspirational target by 2025 detailed approach to capture this needs to be developed 1 Growth and optimization will need to be combined with discussion on appropriate span of control and optimization of structure 2 E.g., Eskom (SA) 1.0, EDF (FR) 0.8, China Resources Power Holdings (CN) 1.0 depending on technology and level of automation SOURCE: Team analysis, expert interviews, press research 74

96 6 Strategy Execution 6.1 Pilot Support Team (PST) and Strategy Execution Pilot Support Team To ensure smooth rollout of the roadmap initiatives, the Pilot Support Team has been established. It drives G2G Horizon II priority initiatives through two different thrusts Pilot delivery: Run pilots for new initiatives (provide manpower and expertise needed, foresee and overcome roadblocks to success, actively solve issues through regular collaboration with line organisations and rapid escalation of issues) and prepare rollout after pilot phase (craft targets, KPIs, and implementation plans with line organisations, and codify learnings from pilot and adjust strategy) Monitoring and tracking: Set performance management guidelines with line organisations, monitor and track progress of Horizon II priority initiatives and 2,500MW program stage gate progress with IT tool, e.g., G2G itrack, escalate issues if needed for intervention/support, and report an independent view of performance and progress to MD & CEO and Board Figure 73 PST mission and Vision Vision By 2020, the Horizon II priority initiatives for the Good 2 Great roadmap have been successfully and sustainably implemented and transformed KenGen into a value creating company Mission To ensure effective and efficient delivery of the Good 2 Great Horizon II priority initiatives through robust performance monitoring, tracking, and evaluation as well as driving the required pilot capabilities Mandate The Pilot Support Team is established to enable KenGen to undertake delivery of pilot results and monitor and track performance of Horizon II priority initiatives SOURCE: Team analysis The structure of the Pilot Support Team follows the Project Implementation Team approach already being used within KenGen in project delivery. The core team of the PST consists of a PST head and a Monitoring & Tracking head. This core team is supported by initiative teams that sit within their existing line functions; they own the 75

97 implementation and undertake the day to day work for their initiatives, pulling in line support as needed. Figure 74 PST Structure Similar to Project Implementation Teams Role Core team Initiative teams PST head M&T head SOURCE: Team analysis Detail Chairman of PST, calling all meetings and member engagements Thought partner for initiative teams on how overcome roadblocks Guru of delivery capabilities, providing coaching and training where appropriate Has cross-functional understanding of initiatives and coordinates across Collects and engages on performance data for initiatives Maintains database of progress of KPI performance vs. plans Supports production of tracking reports and analyses Own implementation of the initiative and undertake daily work to complete, pulling in line support as needed ~2 team members per initiative 1 senior initiative lead (~Chief level) who would otherwise be leading initiative within line org 1 junior member to support (suggested to be selected from previously interviewed candidates) Reporting line PST lead (David Muthike) PST head Direct report to line organizations Dotted line (matrix report) to PST Time spent on PST initiatives % % Key aspects of PST PST is based on the Project Implementation Team (PIT) structure, though expanded to encompass multiple projects Initiative teams sit within existing line functions, and PST acts as a supporting mechanism for initiative leaders 100% Team selection PST lead PST lead Relevant director With regards to governance, the PST is proposed to follow a regular meeting and alignment schedule. This starts with weekly meetings at the initiative team and PST level, moving from Directors via the Executive Committee up to quarterly Board meetings, where the overall situation and performance is reviewed, as well as revisions and new policies decided. Figure 75 PST Governance FOR DISCUSSION PST-external PST-internal PST weekly check-in Problem solving meeting Director meetings MD & CEO update ( mini SteerCo, if requested by PST) ExCo meeting Typical Objective frequency Review progress and provide early warning for potential Weekly issues Raise / problem solve issues that cross functional lines One of the monthly meetings is extended to prepare for ExCo reporting Identify initiative-specific road blocks, develop solution and assign responsibility for action Major issues (max. 3-4) from full team meeting are further discussed as needed Review progress report for ExCo meeting Review initiative progress and provide early warning for Every two potential issues weeks Problem solve issues and ask for director action where needed Update MD & CEO on overall situation Monitor progress and escalate issues Remove bottlenecks and support cross-departmental cooperation Directors update ExCo on initiative progress (PST supports generation of reports) Receive input and make ExCo requests as needed Align on planned board requests Weekly per initiative Monthly (offset from ExCo meetings) Typical participants PST head Initiative team leads Other functional staff as needed PST head Relevant initiative team Other functional staff as needed PST head Relevant initiative team Relevant director MD PST lead PST head and initiative team leaders For mini SteerCo : Relevant division heads Monthly (2 MD & CEO hours, in Full ExCo regular ExCo PST head and initiative team leaders meeting) Board meeting stock takes SOURCE: Team analysis Update board on overall situation Present PST and initiative performance Propose revisions to long-term plans if necessary Request new policies and other items that are required Every 3 Board months (2 MD & CEO hours, in PST lead regular board PST head and initiative team leaders meeting) Relevant division heads 76

98 To facilitate the PST s monitoring and tracking tasks, a tool like G2G itrack should be employed. This tool should be filled regularly with progress data and updates by the implementing teams, which can then be reviewed to identify issue areas and summarize impact. This provides a simple, easy to understand overview of progress of the initiatives in a dashboard. Figure 76 G2G itrack Tool MD PST Implementing teams Understand overall Identify bottlenecks of Understand necessary progress of the initiatives and implementation on the daily and weekly activities 2,500MW program in less ground Report progress of activities than a minute Summarize and understand Communicate issues with Communicate with PST and overall impact made by the the PST to problem solve implementing teams a tool initiatives to push individuals to fulfill Communicate overall responsibilities progress to the ExCo SOURCE: Team analysis Integration of G2G Horizon II in the Strategy Planning Process & Budget To ensure the successful implementation of this strategy, KenGen should take several measures that will demonstrate commitment to the plan and enable sustainable implementation within the corporate structure. Incorporate Horizon II priority initiatives directly into the corporate plan of the organisation Allocate resources directly to key Horizon II activities in the annual budget process Hardwire the relevant targeted savings into the operating cost and capital expense budgets Tie performance rewards for successful implementation of Horizon II initiatives into performance contracts for senior leadership of the organisation These activities will greatly enhance the ownership and push of all parts of the organisation to make G2G Horizon II succeed. 77

99 6.2 Detail Work Plans The implementation of the Good 2 Great Horizon II journey to 2025 will follow a three year roadmap, focusing on the seven initiatives described in the previous chapter. Detailed work Plans are shown in the Appendix 4 High Level Workplans. Figure 77 Three Year Implementation Roadmap Initial Workplans have been developed for the major initiatives as well as the enablers, and may have to be adapted and further detailed according to the decided priorities and sequencing of activities. 78

100 Figure 78 OPEX Work plan Description Team 1 First wave pilot plants 1 year Set up core operations and maintenance change team, incl. training Roll out initiatives to pilot plants from initial diagnostic, Olkaria II and Kamburu Roll out to a diesel plant, e.g., Kipevu I 2 Second wave rollout to fast followers 1 year Remaining 7 Forks plants Improve operations Roll out performance management and dialogue to all areas Remaining Olkaria plants Roll-out approaches from pilot plants Continuous experience exchange with pilots Western hydros and diesel/gas plants 3 Third wave sustain and finalize rollout 1 year and sustained roll-out Roll out to remaining plants and areas Wellheads Upper Tana Gas Turbine Ngong wind plant Sustain continuous improvement culture in pilot and fast follower plants Central operational efficiency team of 5 people rolling out transformation initiatives Supported by a dedicated maintenance engineer per plant Key skills required for the core team are project management and process implementation, operations and maintenance experience, high level of influence and transformation drive Continuous improvement team to be established and maintained beyond the roll out period Core Plants SOURCE: Team analysis, KenGen Figure 79 Capex Work Plan 79

101 Figure 80 New Financing Approaches Work Plan Spvs PRELIMINARY Phase Pilot preparation and tender 2 months Ongoing Pilot rollout and evaluation Ongoing asset mon. Duration Objectives of phase Deliverables Resources required 4 months Develop SPV and partnership structure models Develop partner operational model options Select pilot asset Acquire approvals and permissions Banks Regulatory Internal and shareholder Other Release tender and select SPV partner (if applicable) SPV and partnership design Released tender and partner selection criteria 1 senior manager to drive 1 analyst to support Register SPV and partnership (if applicable) Adjust internal organisation as needed Implement new operating model Evaluate success and codify learnings New SPV Codified learnings and process 1 senior manager 1 analyst 6-8 months Assess pipeline for where SPV creation is required Select appropriate SPV model Implement new SPV 1 senior manager 1 analyst Exact timeline depending on approvals and permissions, as well as on SPV type (e.g., with or without partner) SOURCE: Team analysis Figure 81 New Financing Approaches Work Plan Asset Monetisation PRELIMINARY Phase Pilot preparation and tender 2 months Ongoing Pilot rollout and evaluation Ongoing asset mon. Duration Objectives of phase 4 months Select asset Acquire approvals and permissions Banks Regulatory Internal and shareholder Other Develop SPV structure and buyer selection criteria Release tender and select buyer Register SPV Transfer share of ownership Adjust internal organisation as needed Evaluate success and codify learnings 6-8 months Assess financing needs for upcoming year Select assets to monetise as needed Implement new monetisation Deliverables SPV design and buyer selection criteria Released tender Selected buyer New SPV Codified learnings and process Resources required 1 senior manager to drive 1 analyst to support 1 senior manager 1 analyst 1 senior manager 1 analyst Exact timeline depending on approvals and permissions SOURCE: Team analysis 80

102 Figure 82 Organisational Capabilities Work Plan PRELIMINARY New KenGen B and C structures New FTE, skills/capabilities Culture and mindsets H1 Develop a master implementation plan for the organisation structure highlighting Management and operations model each KenGen arm, i.e., KenGen B and C Set of clear criteria for which projects should be KenGen B 100% SPVs or 49% participations Scope of KenGen C non-generating activities Workplan for each project Select a working group from the management team that takes ownership of actualization of the structures Refine the assessed FTE needs per division as per the projected business growth and finalize requirements Get buy in from the division directors on need for training of staff Develop role descriptions and skill needs for the recruitment process of any new hires Draw out Horizon II phase transformation requirements Set clear KPIs and select champions within every division that will take ownership of the KPIs Decide on focus areas Develop organisational health initiatives Prepare roadmap H2 Implement the master plan developed and initialize the setting up of KenGen B and C Hold working group meetings every two months to monitor and update on progress Have champions report to ExCo every two months to monitor progress H1 H2 H1 Review overall performance of projects ran under KenGen B and C based on milestones Identify and address gaps in the structure roll out process Implement structuring solution on the other projects as per the master-plan Hire and train additional personnel with Matching skillsets to the gaps as per project need Matching needs as per actual FTE needs per division laid out in H1 of the roadmap Roll out of initiatives depending on focus areas Resources required, in FTE SOURCE: Team analysis Exact timeline and resource need depending on master implementation plan, training need, and organisational health initiatives 81

103 Figure 83 Growth Positioning Work Plan PRELIMINARY Assessment of outside perceptions and investor story Identification and prioritization of key actions Roadshow Ongoing investor management Time Objectives of phase 8 weeks 6 weeks 4 weeks Calculate value gap between market and intrinsic value Determine drivers of the discount through Interviews with investors, analysts, press, and rating agencies Investor base analysis and segmentation Analyst valuation reverse engineering IR activating analysis: coverage, frequency, disclosure Assess what types of financial engineering could unlock value Develop communication strategy Select target segment Develop tailored main messages Define frequency, medium Develop financial tactics Develop testing plan of tactics before implementation Develop action plan and monitoring mechanism Travel to 3-4 global locations based on investor location (Head of IR, Senior Management to attend) Give presentation, distribute hard copy Hold individual discussions to answer further questions Codify learnings from roadshow for future investor communications Put investors presentation doc on website Determine communication channels for various investor types (periodic calls, s website, faceto-face for the intrinsic and large) Host mass forums (phone, VC) for nonpriority intrinsic investors Provide consistent news flow to all investors (e.g., newsletter) Deliverables Gap value/size of opportunities Story consistency and content check Review on current IR activities and areas of improvements Gap to best practice The story Optimal target audience, frequency, method Financial tactics Action plan Codified learnings from investor discussions Resources 1 senior manager to drive 1 financial analyst to support 1 senior manager to drive 1 senior manager 1 financial analyst to support Senior executive time 1 senior manager SOURCE: Team analysis Figure 84 Pilot Support Team Work Plan PRELIMINARY Phase PST preparation and launch Phase I Phase II-III Steady state Duration Objectives of phase Deliverables Resources required 3 weeks Recruit team members Establish governance practices and structure Create and approve 3-foot level (granular) implementation plans Implement and train PST on monitoring tool Codified PST mandate and governance Detailed implementation plan 1 PST lead 1 M&T 1 head 1 IT specialist 3 months Begin first initiatives, e.g., New asset SPV creation Asset monetisation CAPEX Train relevant line organisations on monitoring tool Fully operational monitoring tool 1 PST lead 1 M&T head 3 months each 14 months Begin additional initiatives, e.g., Organisational health OPEX Transfer CAPEX initiative into line organization TBD 1 PST lead 1 M&T head Transfer initiatives into line organizations as appropriate Continue monitoring and supporting TBD 1 PST lead 1 M&T head Exact timeline and resource need depending on launch and desired coverage of initiatives 1 Monitoring & tracking SOURCE: Team analysis 82

104 6.3 Stakeholder Management & Communication Internal Stakeholder Engagement Internal stakeholders include three groups: Board members, the members of the Executive Committee, and the overall KenGen staff (at headquarters and the plants, including contract and outsourced employees). For each group there are different objectives to be achieved and separate key messages to be communicated Board members: Get buy-in on the vision of the strategy, approvals, and agreement on communication to external stakeholders Members of the Executive Committee: In addition to the objectives to the Board members, the members of the ExCo also have to agree on the communication to internal stakeholders. KenGen staff: Build excitement and motivation Figure 85 Objectives and Messages to Internal Stakeholders Internal stakeholder group Board members Members of the Executive Committee Objectives we want to achieve Get buy-in on the collective vision of the strategy Get necessary approvals Agree on messages to be communicated to external stakeholders including GoK entities, investors, and opinion shapers Get buy-in on the collective vision of the strategy Get necessary approvals Agree on messages to be communicated to internal and external stakeholders and get feedback on proposed messages to different stakeholders Key messages to be communicated KenGen is embarking on a growth trajectory and requires access to other geothermal fields KenGen requires attractive tariffs to attract private capital as an alternative to the highly leveraged balance sheet KenGen will need to develop new skills and capabilities to achieve the aspirations of the new strategy Motivating our staff is critical to ensure buy-in of the new strategic direction of the company and Directors should play a lead role on this KenGen staff 1 Build excitement for the future of KenGen Build buy-in on the collective vision of KenGen Give motivation for their work Get feedback on the current strategy and how best to engage staff in achieving the aspirations, e.g., through surveys, focused group discussion KenGen is embarking on a growth trajectory and our staff will play a key role in driving the new strategy The new strategy will present opportunities for growth as KenGen seeks to build new capabilities to support the strategy The new strategy will require extensive commitment from the KenGen family. How best do we support you to deliver the strategy? 1 HQ staff, plant staff, contract staff, outsourced service providers SOURCE: Team analysis The execution of the internal stakeholder engagement plan should include in-person, print, and other channels, and needs to be launched as soon as possible to drive perception and shape opinions rather than being pushed into a reactive mode by uncoordinated dissemination of information. 83

105 Figure 86 Potential Internal Stakeholder Engagement Plan External Stakeholder Engagement External stakeholder engagement includes Government of Kenya entities, opinion shapers, development partners, and investors. For each of these groups, KenGen has to achieve a distinctive set of objectives, which could be achieved through tailored key messages. The next exhibit details these objectives and key messages. Figure 87 Objectives and Messages to External Stakeholder GoK entities MoEP GDC ERC Objectives we want to achieve Improve tariffs Gain access to geothermal fields Gain access to new geothermal fields currently licensed to GDC Improve tariffs Key messages to be communicated KenGen is embarking on a growth trajectory and requires access to other geothermal fields KenGen requires attractive tariffs to attract private capital KenGen is embarking on a growth trajectory and requires access to other geothermal fields through JVAs and competitive bidding KenGen requires attractive tariffs to attract private capital for new capacity plans KPLC 1 Coordinate dispatch of renewable energy to contribute to tariff reduction Due to KenGen s increasing capacity, there is a need to coordinated dispatch for optimal evacuation of power Opinion shapers Position KenGen as a growth stock KenGen is embarking on a growth trajectory and this will require a shift of shareholder base Development partners Position KenGen as a growth stock Identify synergies KenGen is embarking on a growth trajectory and this will require a shift of shareholder base Investors Shareholders Debt financier Equity partners Position KenGen as a growth stock Highlight capacity plans of G2G and financing requirement Communicate impact of new financing mechanisms on existing financing Highlight investment opportunities KenGen is embarking on a growth trajectory and this will require a shift of shareholder base Given the capital requirement of the new strategy, KenGen may not pay dividends as it has done in the past KenGen is pursuing new financing mechanisms to finance current project pipeline. This will not impact current financial commitment. KenGen is pursuing new financing mechanisms to finance current project pipeline which presents opportunities for equity holding of new projects through SPVs and JVs 1 TBD depending on establishment of a new national load dispatch centre managed by KETRACO SOURCE: Team analysis 84