B.C. town battles Alcan over electricity sales

B.C. town battles Alcan over electricity sales
Peter Kennedy, Globe and Mail, 17-Aug-2006

That Was Then, This is Now
Trafford Hall, Opinion 250, 14-Aug-2006

Alcan Given $2b In Subsidized Profits From New Deal With Province
Opinion 250 News, 16-Aug-2006

Vancouver - The northwestern British Columbia community of Kitimat is vowing to thwart a smelter expansion plan that would give Alcan Ltd. the right to sell excess power from its B.C. aluminum operations back to the hydro grid at lucrative prices.

Kitimat mayor Richard Wozney said he is concerned that Alcan is expanding its smelter - at a cost of $1.8-billion (U.S.) - after being given the right to sell power that he said should be used to support industrial development and create jobs in the region.

"This is not the best deal for Kitimat or for British Columbians," said Mr. Wozney referring to an agreement between Alcan and the B.C. government, which was announced on Monday.

The district of Kitimat attempted to reinforce that view by filing a petition with the British Columbia Supreme Court last month.

The petition seeks a court declaration that power sales are a contravention of a 1950 Industrial Development Act which set the stage of construction of the Kitimat smelter and related hydro electric facilities.

The case centres on the district's view that hydro electric resources available to Alcan in the Nechako River will support a much larger smelter expansion than the one that the Montreal-based aluminum giant is contemplating.

Under the plan that was unveiled this week, Alan is set to increase its aluminum production by 60 per cent to 400,000 tonnes, a level that falls far short of the 550,000 tonne operation that the district is hoping for.

"We question why Alcan is downsizing their plans," said Mr. Wozney. "The answer can only be that Alcan wants to entrench power sales in the original water-for-jobs agreement they signed with the Province," he said.

Under the expansion plan, Alcan will have the right to sell sufficient excess power to keep the lights on in 225,000 homes, said B.C. Premier Gordon Campbell.

A spokeswoman for B.C. Hydro said the newly expanded smelter will require 675 megawatts of the power, much less than the 735 megawatts that she said the turbines at the nearby Kemano hydro electric power facilities can generate.

"Because of the low cost of producing electricity at Kemano - about $5 per megawatt hour versus the current long term electricity price of $75 per megawatt hour - Alcan can make very big profit by not producing aluminum and selling the corresponding electricity for export or domestic purposes," said David Austin, a lawyer who acts for independent power producers. " It can make money producing aluminum but not nearly as much," he said.

The district of Kitimat is proceeding with the court case, after the B.C. Court of Appeal ruled in Alcan's favour.

Cynthia Carroll, the President of Alcan's Primary Metals Group, has said the ability to sell power was only a "minor factor" in the company's decision to proceed with the expansion.

www.theglobeandmail.com

TOP

It has been four years since this interim report was presented to the Council of the City and District of Kitimat. Today, another announcment will be made that a new aluminum smelter will be built. Initially, the construction will create much needed employment in the community. In the long term, critics say the new smelter will operate with 700 fewer people, pushing the local job loss total to over a thousand.

The document is long, but gives an excellent background of the past, and predictions for the future.

Trafford Hall is the Manager
and Chief Administrator for the City of Kitimat
The following is his report:

A. INTRODUCTION

People in Kitimat have observed a reduction in aluminum capacity and employment in the community. For some time Alcan’s pursuit of power sales has been quiet but steady. We have seen power sales move from that which was surplus and short term (until the new smelter was built), and always subordinate to jobs and investment, to permanent and long term and at the direct expense of investment and jobs.

The District of Kitimat has done some analyses to try and determine the underlying reasons and the long range consequences of these observations. To do so we reviewed the markets for power and aluminum. We applied some simple economic and business principles to predict the company’s long range direction. We drew some conclusions. We then looked at our history and the current actions of the firm to see if these observations supported our conclusions.

The District of Kitimat is very concerned at the results of our analysis. But we do not wish to be unnecessarily alarmist. We want to be confident in our analysis and in our conclusions before we seek to do something about them. Over the last 4 to 5 months, our analysis has evolved as we have engaged different people and groups to review and to criticize our work and these have been of benefit to our understanding of the issue. We would like the reader to review our thinking and ask for your constructive input. We need to have our assumptions, observations, premises and logic scrutinized. Have we missed something? Are we wrong? Frankly, we hope we are.

B. CONCLUSION

Alcan is now in a position whereby it would be contrary to shareholder value for the firm to invest in aluminum in BC.

It is contrary to Alcan’s shareholder value to remain in aluminum production in BC.

Alcan will therefore minimize aluminum production in BC and maximize power sales, subject to legal and contractual constraints.

C. ANALYSIS

REASONS

There are two basic reasons for this conclusion.

1. Competitive advantage
2. Competing jurisdictions

Individually, each would lead to the same conclusion. Together they reinforce the conclusion.

1. COMPETITIVE ADVANTAGE

There is only one competitive advantage to producing aluminum in BC, low cost power. All other inputs are either as or more competitive in other places. Markets are all remote.

Input Pricing

Firms price inputs in two basic ways:
At the highest best alternative price for that input (opportunity cost) or;
At the cost of production.

For most inputs, the price of acquisition is the highest best alternative since they are bought and sold into the same market. But integrated firms which produce inputs for their own upstream processing will price an input at the cost of production or the price for which the firm could sell the input, called the opportunity cost, whichever is the highest.

The cost to produce electricity at Kemano and deliver it to Kitimat is anywhere from $2 to $6 per megawatt hour (MWh), depending on who you talk to. This is one of the lowest costs of electricity in the world due exclusively to the extraordinary nature of the public water resource at Kemano. No one contests this as a fact. If the company prices electricity at its cost of production at Kemano, there remains a decisive competitive advantage to smelt and process aluminum in Kitimat. To the best of our knowledge, all other Alcan smelters have higher costs of electricity than that produced at Kemano. As such, investment in Kitimat in aluminum would be the shareholder’s first choice. So why hasn’t the long promised smelter expansion happened?

Power Sales

If Alcan has access to open electricity markets the highest best alternative price for electricity to the smelter changes from the cost of production at Kemano to the market price of electricity. On April 5, BC Hydro announced the price it will pay for power will be about $50 per MWh. There is no competitive advantage to produce aluminum in BC at current market prices for power and there is even less at this announced price. Alcan is now seeking to access this market. Before it can do so it has a variety of legal, political, and technical hurdles to overcome. Alcan has, and is currently, devoting considerable time and money overcoming these hurdles. It has advanced considerably toward this end. If successful, it would be contrary to shareholder value to continue in the aluminum business in BC.

Power sales leads to loss of competitive advantage and therefore, lost investment in aluminum, lost jobs in Kitimat and the Northwest, and lost value for BC in return for its publicly owned water resources.

2. COMPETING JURISDICTIONS

Investments in aluminum smelters are very large. We assume investment funds are scarce and at any one time investments in one location will inevitably compete for investments in others. The firm will therefore invest where it sees the maximum return, subject to constraints. To do otherwise would be contrary to shareholder interests. Alcan representatives have told us this many times.
There are some important constraints. The foremost for Alcan is its dependence on publicly owned resources of water and electricity in the jurisdictions in which it operates. Access to public resources is a necessary condition for the Company’s profitability. These public resources are managed by governments. Contractual arrangements with governments constrain Alcan’s investment decisions in favour of some public interest, usually investment and jobs.

There are several competing jurisdictions for Alcan’s scarce investment dollars but the main one is Quebec. Quebec grants renewable water licenses which are tied to investment in aluminum capacity and sometimes to numbers of direct jobs. The Quebec government negotiates and carefully administers these contracts on behalf of its citizens to ensure maximum value in exchange for public resources. Alcan therefore must meet contractual investment obligations in return for the public’s water and power much like it must meet its contractual obligations to other private business interests. In Quebec it’s all business. In Quebec, a contract is a contract.

As these arrangements are renewable, Quebec and Alcan have the opportunity to reestablish and adjust their respective business interests from time to time. When these contracts have been renewed the Quebec Government has negotiated additional commitments by Alcan of substantial reinvestment in smelting and processing, and even office buildings.

In the late seventies Alcan announced a $10 billion rebuild of Quebec smelter system as part of this water license renewal process. They have not stopped rebuilding and expanding since. A large part of the retained earning used for this expansion came from, and now still comes from, the use of BC water. We give water in BC in return for jobs and investment in Quebec. We do not believe reasonable British Columbians would have entered into such an agreement.

In order to access Quebec’s public resources, Alcan must invest and maintain industrial capacity. This severely restricts Alcan’s ability to do so in other jurisdictions. Conversely, obligations to invest and maintain capacity in other jurisdictions make it more difficult to meet its necessary commitments to Quebec.

Outside of Quebec, Alcan’s main other jurisdiction is BC. Given the opportunity to sell power, it would be of great advantage for Alcan to minimize or eliminate any obligations to invest or remain in aluminum production in BC if it could do so and still keep the public’s water resource. The firm is now testing if this can be done.

In summary, Alcan must invest in Quebec to remain profitable there. If it does not have to invest in BC to keep the water resource, it would be contrary to its shareholder interest to do so.

D. SCALE

It is important to appreciate the magnitude of scale and the consequences of this issue in real human terms.

If the above is correct, electricity generated at Kemano by the use of the Public’s water resource will be used more and more for power sales to be exported out of the region. This will, over time, eliminate or severely contract the use of that electricity for industrial development in the Northwest, specifically aluminum production in Kitimat.

Alcan’s operations, before the recent shut down to sell power, had sales in excess of $500 million and supports about 1800 direct high paying jobs and another 4200 closely linked jobs. The community of Kitimat was built specifically to support industry which would rely on the Kemano power. The community has developed infrastructure for about 20,000 persons. Municipal, provincial, and federal taxes are substantial. Smelting operations, using Kemano cost electricity input price, are consistently profitable.

If Alcan was to eventually sell all the Kemano power, it would employ about 50 to 100 persons. Federal and provincial corporate taxes may be the same but all taxes dependent on personal income and property ownership would be severely reduced. Huge personal costs would be assumed as property values, already depressed by about 30 to 40 percent from 1998 values, would plummet. For every 10 percent loss in property value there is an aggregate personal loss of approximately $38 million from residential and small business owners. Personal and retirement savings would collapse and the livelihood of 6000 British Columbians would be lost. The community of Kitimat and Terrace would cease to exist as we know them. The whole Northwest, already in severe economic decline, would lose much of its remaining employment base.

To give some magnitude of scale of the money we are dealing with, a New Smelter as envisaged in the 1997 Agreement would cost in the order of $1.3 to $3 Billion. The value of the water rights in gross revenue terms is about $5 billion, much more at the new price for power. If Alcan is successful in its pursuits, it will avoid having to invest billions in BC.

We have not done the detailed analysis of costs and benefit but assume that the net wealth to British Columbian citizens in jobs, taxes, and royalties is substantially more when the electricity is used for industry “in the vicinity of the works”.

E. CAUSALITY

1. THE CONTRACT

There exists a contract between Alcan and the public of BC. This contract has been written in one Act and several agreements as it has evolved over time. The essence of the contract has never changed. The public of BC exchanged one of the world’s most valuable water resources in return for investment in energy intensive industry, in particular aluminum, and the creation of communities in Northwestern BC. The Act and all the agreements are quite simple to read, the Act being only one and a half pages long. They are easy to understand and not unduly legalistic.

The contract is a fair exchange transaction with comparative value to both sides. It is not a gift. Without investment and jobs there is little value for the citizens of BC and no reason to give the water to Alcan or anyone else for that matter.

The value of the water has increased over time. So too has the value of investment and jobs. The value of the contract to each party is at least as great now as it was 50 years ago. Many other persons and institutions have invested in the Northwest as a result of this contract as well.

But our analysis and our observations see Alcan moving out of investment in its core business in BC with the result of increasing the value of the contract to the company and greatly reducing the value of the contract to the citizens of BC, especially of Kitimat and the Northwest. We know of no change in public policy to allow this. What has happened?

2. CONTRACT ADMINISTRATION

The intention of a contract is interpreted in three ways:

-What is written in the paperwork or said among the parties;
-Conduct of the parties over time;
-Presumption of equal exchange.

It is assumed that contracts are entered into by reasonable persons with informed consent. An exchange contract therefore must have relatively equal value for all parties, otherwise reasonable persons would not enter into it. If a contract is seen to have unequal exchange, this is evidence that something contrary to the original intentions of the parties has happened.

There are always grey areas in any written or verbal contract. It is the duty of each party to a contract to interpret the grey areas of a contract in ways that protect and increase its value to those they represent. To do otherwise would be a failure to act in the interests of those they represent. To this end each party will continuously test the meaning of a contract’s grey areas. If the other party doesn’t object, in time, that action becomes part of what the contract means.

The other party may not object for several reasons:

-It may be aware of the action and agree that is what the contract means;
-It may not be aware of the action at all (failure of vigilance);
-It may not be aware of the value considerations of the action over time (failure of competence);
-It may not understand the interpretive consequences of the action over time (failure of competence);
-It may be aware of the actions and not have the ability to react (failure of capacity);
-It may not have the primary motivation to act (failure of incentive, incentive of responsible party is different than the incentive of those they represent).

3. EFFECTIVE RESPONSIBILITY

It is not enough that responsibility for contract administration be assigned. The responsibility must be effective.

Significant changes in value of a contract can accrue to parties through careful administration of contracts over time. Great loss and great gain can result.

The value over time of a contract to each party has everything to do with how they host the responsibility for contract administration. Essential to maintaining the value of a contract is the careful assignment of the responsibility for its administration. The greater the value considerations in a contract are, and the longer the period between negotiations to renew the contract, the more effectively the responsibility must be assigned. Effective responsibility requires competence, accountability, authority, capacity, vigilance, and motivation.

Alcan takes its responsibility for contract administration very seriously and has established effective responsibility. Lines of accountability are clear; persons are identifiable, competent, have authority to act, have the organizational resources to act and primary motivation to represent the interests of their organizations, and are vigilant towards their duty.

By contrast, over the period in question, there have been five premiers of BC, three different political parties in power, and any number of different civil servants and ministers responsible for the Alcan file. It took from December 2001 until March 15 to find the civil servant who has charge of the file at this time. He had only recently inherited it from the previous government and was unfamiliar with its essential elements. He was totally unaware that anything was happening which required attention. He has responsibility for so many other time sensitive issues that he was simply unable to review the file in detail and investigate current events.

From about 1990 Alcan has simply used every opportunity to incrementally advance into the grey areas of the contract, slowly and steadily, to increase its value to those they represent. They have been successful simply because of diligence on their part and lack of effective responsibility by the other party.

We conclude that the advances into unfettered power sales at the direct expense of jobs and investment in BC has to do with the difference in effective responsibility between Alcan and the Government of British Columbia and the natural tendency of parties to interpret contracts to advance the interest of those they represent.

F. RECENT HISTORY, CHANGE IN PARAMOUNTCY

A look at the incremental steps which brought us from water for jobs and investment to water for unfettered powers sales at the expense of jobs and investment is revealing.

STEP ONE: 1950 ACT AND AGREEMENT

Alcan gains rights to public water resources in order to develop an Aluminum industry at Kitimat, to establish new centers of population, and to foster other industrial development in the vicinity of the works.

An equal exchange arrangement of benefit to both parties. Water for jobs and investment.

Jobs and investment are paramount. Power sales are only peripherally mentioned.

STEP TWO: 1990 LONG TERM ELECTRICITY PURCHASE AGREEMENT

Alcan enters into a power sales agreement with BC Hydro.

This agreement advanced Alcan’s value by asserting that, under certain conditions, Kemano power could be sold to the Hydro Grid and not used according to the 1950 Act and Agreement.

The conditions were that the power sold was to be “surplus to its needs until required by Alcan for its own industrial purposes”.

Surplus means surplus to the needs of Kitimat Works at full capacity. Jobs and investment remain paramount to sales. The duration is only until Alcan needs the power for its own industrial purposes. At that time everyone understood this to be the promised Kitimat smelter expansion.

The concepts of ‘surplus’ and ‘temporary’ are important. If the public knew the sales were not surplus to smelting needs, and not temporary, it is likely they would have objected strongly.

The District of Kitimat objected to these sales as a threat to jobs and investment. But in response, then Minister of Energy and Mines, Glen Clark, wrote and assured the District that Alcan was not bound to supply power from its Kemano works. The implications was that if power was in short supply, Alcan could meet its obligations to Hydro through the market and not shut down capacity at Kitimat. In this agreement jobs and investment remain paramount with power sales subordinate.

STEP THREE: 1997 SETTLEMENT AGREEMENT - PERPETUITY

Following the debacle of the cancellation of the Kemano Completion Project, Alcan and the Province further amended the contract. Through these negotiations Alcan achieved the right to the publicly owned water in “perpetuity”. The contract goes forever with no opportunity for the parties to reestablish value through periodic negotiations as is the case in Quebec. All value lies in the ongoing contract administration. The need for effective responsibility to this end intensifies on both parties.

Furthermore, this agreement adds qualifiers to Alcan’s investment obligations by introducing the fuzzy language of “reasonable efforts” and “subject to market conditions”. Market conditions and reasonable efforts are subjective terms.

STEP FOUR: WATER CRISES 2000, ELECTION FEVER, CHANGE IN PARAMOUNTCY

Alcan uses the low water situation in the Nechako reservoir as an excuse to shut down smelting capacity at Kitimat. The Provincial Government is embroiled in election fever and there is no effective responsibility to administer the contract. There is ample water to run the Smelter at full capacity but there is no “surplus” to meet its sales obligations to Hydro.

The District objects as this is contrary to the contract. The District notes the shut down is because of power sales. Recalling Glen Clark’s letter, the District suggests Alcan simply go to the market to meet its Hydro obligations.
Alcan shuts down capacity to sell power. The great leap forward in contract value for Alcan is that now existing power sales take paramountcy over smelting capacity. The concept of “surplus” has been fundamentally changed in Alcan’s favour. It no longer has any meaning, at least for existing power sales.

STEP FIVE: SUMMER 2001
BRAND NEW GOVERNMENT, BRAND NEW COMPANY, SAME OLD CONTRACT

Alcan has merged with a large European company. Jacques Bougie is replaced with Travis Engen. The Liberal Government has just been elected. Effective responsibility for contract’s administration within government is completely absent.

Even though water levels remain low Alcan shuts down 40 percent of the Kitimat smelter’s capacity, not to conserve water, but to pursue additional power sales to Powerex which is selling to the US market. There are to be no layoffs. But there is no commitment to restart capacity after the reservoir fills. Shortly thereafter Alcan announces it will be eliminating 200 jobs. It fires about a dozen exempt staff. Attrition and golden handshakes are to achieve the rest of the reductions.

This move is perhaps the boldest by Alcan. It reinterprets the very meaning of the contract. The Firm now has acted as if it can pursue new power sales and not only reduce capacity, but reduce employment as well. Not only are existing power sales paramount to jobs and investment, but now so are new power sales. The value of the contract to the public has been seriously undermined. Alcan has achieved, through simple contract administration, perpetual access to one of the richest water resources in the world with no defined obligations for jobs and investment in return.

Alcan effectively used the ‘water crises’ and the lack of effective responsibility as an opportunity to advance its value in the contract at the direct expense of the public. Every cloud has a silver lining.

NEXT STEPS

The so called ‘water crises’ could be said to be an exceptional circumstance which the other party could rely on to argue all of the above encroachments onto the contract were exceptions to the obligation to use the electricity for aluminum production or other uses ‘in the vicinity of the works’.

Value of the water resource could be greatly increased for Alcan if the Company could relieve itself of any and all obligations to the public for use of the water resource. Having observed it can shut down capacity in favour of power sales in exceptional circumstances if it could demonstrate it could do so under normal circumstances the firm would essentially achieve this objective. Market conditions would henceforth determine the activities of Alcan in the Northwest. The future would have changed from almost certain to uncertain. BC would have lost control of this resource in perpetuity.
How would Alcan pursue this? Here is how it could and we predict it will.

Government Opportunity

The province is desperate for a good news announcement that BC is again open for business. Alcan can give them this in two ways:

1. The 87% solution. Alcan announces it will restart part of the capacity it idled to pursue power sales. It will smelt aluminum only after power sales are maximized. Alcan recently announced a capacity restart scheduled for sometime in August. The capacity restart will require exactly the residual power from Kemano after power sales are maximized. The only thing operating at 100% capacity is the power line out of town.

2. Replacement capacity modernization of Kitimat Works. Alcan can free power for sale by modernizing the smelter to roughly replacement capacity or slightly more. This would create a large permanent surplus. We believe Alcan and the Government are already working on this. The modernized smelter, if our analysis is correct, will be between 300 and 350 thousand Metric tones annually, up slightly from the 277 thousand metric tones of current capacity.

This would cost about 1000 direct jobs and many more indirect jobs. However, from a public relations perspective, such an announcement could be received well in Victoria and the Lower Mainland.

G. OBSERVATIONS

We predict that, if Alcan can’t sell power it will smelt aluminum. But we have analyzed that the Company will, in the natural pursuit of its shareholders’ best interests, seek to sell power and not to invest in aluminum in BC. We also predict it will, however, invest in aluminum in return for public resources in Quebec. We have observed the following:

1. Organizational: The Company changed its organizational structure and established the Division of “Power Products”. This is a new division and one that is only necessary if the company is serious about power sales. It is not necessary, nor did it exist, when power sales were a subordinate activity to aluminum production.

2. Organizational: Alcan has established a new American subsidiary company with the specific purpose of selling electricity to that market. It has recently received approval to do so from the American Federal Energy Regulatory Commission.

3. Political: The company has invested considerable attention to their political efforts. These are all in the influential Lower Mainland areas and in Victoria. The efforts appear to have deflected Government scrutiny and criticism of their encroachments to the value of the contract. We have observed considerable sympathy towards the Company’s encroachments on the contract. We have not received public policy direction or analyses from the government on the changes to the Province’s welfare inherent in the actions of the company and inaction of the government. As the ultimate responsibility for contract administration rests with the Provincial Government, political effort there is understandable.

4. Legal: We have covered the contract administration issue at length.

5. Technical: Power exports are limited by the capacity of the hydro facilities from Kitimat to the grid at Terrace. When Alcan shut down 40% of the smelter to pursue new power sales it chose the capacity reduction to match the maximum it could ship out over this line. Currently only about 280 MW can be shipped. Alcan has been in discussions with BC Hydro as to how to increase the capacity to ship power to the grid. With some relatively inexpensive embellishments the capacity can be increased to about 380 MW.

6. Market Development: The initiative to deregulate the province’s energy markets, now being studied by the province, would present large opportunities for Alcan’s power sales. Alcan has made a submission to the energy Task Force to this end. If they only wanted to ship surplus power no new markets would be necessary. The District of Kitimat has asked both the Energy Task Force and the Company for a copy of Alcan’s submission to this important public debate. Alcan’s response was first to say yes, but not to forward one, and then to refuse to give a copy. We have requested a copy through the Freedom of Information Act.

7. Expansion in Quebec: On or about February 15, eight months after it shut down capacity in Kitimat, Alcan announced it was building a new smelter in Quebec in concert with Alouettte Inc, in return for access to public power from Hydro Quebec at preferred rates. As part of this deal the consortium must create 1000 new jobs. There are penalties for each job not created, up to $50 million in fines. The power price is $37 per MWh, roughly six times the cost of power produced at Kemano. The next investment is evidently to be a large addition to the just built Alma smelter.

8. Market Conditions: Alcan agreed to build “the New Smelter” subject to market conditions. If what we conclude is correct, the firm will not expand regardless of market conditions. In 2002 the then CEO of Alcan, Jacques Bougie, announced “western world demand has firmed up and is expected to outpace supply in year 2000.” Since the beginning of the year considerable new smelter capacity has been announced worldwide: South Africa, Mozambique, Qatar, India, Bahrain, Chile, Australia, China, the USA, and Quebec. The expansion that was studied in 1999 to 2001 by the local management group, before Alcan’s amalgamation with the Europeans, had a ROI of 18%. Furthermore, smelters take a greater length of time to bring on stream than the average business cycle. Long range growth in world demand for aluminum is what drives decisions to add capacity, not current market conditions. Many firms, including Alcan, obviously think world demand is favorable. At Kitimat, with the lowest cost power in the world, almost half the smelter is idle and no one is talking “New Smelter.”

9. Idle Capacity: The 1997 Agreement stipulated that Alcan would “return any idle capacity at its existing smelter at Kitimat, BC, to full capacity on a priority basis relative to other idle aluminum smelting capacity controlled by Alcan and, in any event, not later than January 1, 1998.” It is now April 2002 and there is plenty of idle capacity at Alcan’s Kitimat smelter. As well, Alcan has restarted considerable capacity at its other smelters.

All of the above leads us to believe our conclusions are correct, that the firm is positioning itself to take advantage of power sales afforded by the reinterpretation of the contract, and reduce or eliminate, over time, its aluminum activity in BC. In one year it has already cut 40 percent.

H. TACTICS OF PERSUASION

Even though effective responsibility for contract administration is largely absent at this time, the District of Kitimat has been strenuously objecting to what was happening. But no one with authority to act paid any attention. Why not? The answer seems to be in the success of the tactics Alcan has employed to persuade the various affected parties.

1. Strategic Truth: There is a concept of informed consent. For adults of sound mind the responsibility rests with the individual. But individuals often rely on others for information to become informed and don’t carefully corroborate this. Corroboration is time consuming, costly and implies mistrust, always an indelicate implication. However, if those others have motives to not reveal all the information necessary for informed consent, then such reliance can be costly. Alcan has used strategic truth on members of the District of Kitimat to achieve mute response to encroachments on the contract. We are exploring if others have the same experience. Given the stakes at hand, response has been mute.

2. Carrot and Stick: Most small businesses in the area are very affected by what is happening and depend on Alcan as an important part of their livelihood. There is no way they will confront Alcan publicly. Many will privately express their concerns. Their anxiety is understandable.

3. Use of Opportunity: Further to contract administration, there are times when the stars align. Examples in this case are: change in government, low water levels, and the good fortune of these happening at the same time. We think the next will be a “crisis” about solving the Enron power supply issue. This crisis will motivate the rapid upgrade of the Hydro lines from Terrace to Kitimat to ship even more power.

4. Implied Promise: Without actually committing to do so, there was always an implied promise that the New Smelter would be built if just we wouldn’t criticize the company’s actions. In the 1997 agreement it is more than implied but is qualified by subject to…. Currently the implied promise is kept alive by the studies and the as yet to be built “pilot project”.

5. Divide and Conquer: Specific groups or persons, in isolation, may be susceptible to certain information whereas they wouldn’t be susceptible in concert with others. Alcan dealt individually with the Union, the District of Kitimat, the Provincial Government, apart from the general broadcast of public information. For example, Alcan agreed with the Union no layoffs would result because of the Powerex deal. This cost Alcan about $2 million. In return for their $2 million the Union committed to not publicly criticize the new power sales. No layoffs is an important objective for the Union. Muting criticism was an important objective to Alcan. How important? At least two million dollars important.

6. Creeping Incrementalism: Further again to contract administration. We will accept in small bites, over time, what never would be accepted in one large one. We start with “surplus power for sale” and end with selling any power we want.

7. Say/Do: Alcan has historically denied its intentions to permanently move into the power sales business. Denials were public and consistent which is why people allowed the ‘temporary’ sales of ‘surplus’ power. But the Firm does otherwise. Power sales are obviously now intended to be permanent and at the expense of investment and jobs on BC.

8. Diversion: The creation of new and use of existing issues, real or perceived, draw attention away from main objectives or other problems. The purpose is to divert attention, to divert energy, and to gain time. Examples: Save the Rainforest, Kyoto, water crisis, flashy and high profile public relations, and the Kenney Dam Cold Water Release Facility. Before this worthwhile project is scheduled to possibly be built, two new smelter expansions will take place. Again no commitment but much attention.

9. Popular Myths: People require a reasonable explanation to explain significant actions. There are a number of explanations which Alcan uses justify theirs which on the face seem quite reasonable but which, under close scrutiny are not very convincing. Some of these are:

• A crisis exists. The Kitimat smelter is too old and inefficient and something has to be done: This tactic implies that unless something is done we stand to lose everything. As such parties are willing to sacrifice value in order to preserve at least a little. But we know Alcan has eighty-five year old smelters operating with higher cost power in Quebec. As well, since Kemano has the lowest cost power in the world, why is the Kitimat smelter not new?
  
• There is no crisis. BC would be better off with the existing smelter running at full capacity, employing 1800 persons, than with a new smelter employing 100 or so. At Kemano cost of electricity the current smelter is profitable and is not under pressure to close. Our analysis suggests that what is causing the crisis, if there is one, is power sales.
  
• Power sales subsidize the smelter in tough times: Each business unit stands on its own. We see power sales as compromising the efficiency at Kitimat Works by discouraging the building of the New Smelter.
  
• We had to sell even more power to keep all the guys on the payroll: First, if they didn’t shut down capacity to sell power in the first place, the guys would be gainfully employed. Second, Alcan axed a number of exempt staff rather than keeping them on, and then has reduced employment by another hundred with yet another hundred to go. This tactic helped mute the Union and the Province. “What’s the matter, no one was laid off?”
  
• It’s OK to sell surplus power: There is no surplus power and there never was. You can build a smelter big enough to use all the Kemano power or small enough so that its all surplus. Had the Province just not allowed power sales in 1990, Alcan would have put smelting pots into the empty line seven and made aluminum, and we would have a big thriving smelter in Kitimat.
  
• Asking Alcan to live up to its contractual obligations is bad for business in BC: The honouring of contractual obligations is essential for any business. Think about any analogy: Is it bad for business that a landlord asks for his rent when his tenant has refused? Is it bad for business when the bank pursues its mortgage arrears? Is it bad for business if the car dealer asks for payment for the vehicle he delivered? Is it bad for business if the province asks for its royalties for wood, oil, gas resources? Is it bad for business if a government collects its taxes? When we look at the good relations between Quebec and Alcan, it is apparent Alcan is quite willing to live up to its obligations if asked to do so.
  
• The increased value is in return for the Province’s cancellation of KCP: But Alcan was made whole with the 1997 agreement. It is a fair value exchange entered into by skilled negotiators with informed consent.
  Alcan will invest if we just don’t offend them and if we are really good guys: We have heard how Alcan is disturbed by the BC Hydro law suit dealing with the Enron collapse. We have seen gestures of goodwill towards Alcan from government officials and leaders. We have seen Alcan personnel respond accordingly. We have never heard Alcan commit to either restarting the idle capacity at Kitimat or building a new smelter here. We have asked many times. The firm will invest only when it is in its shareholders’ interests to do so. It would be breach of shareholders’ trust to do otherwise. It has nothing to do with being good guys. Our analysis concludes it is not in Alcan’s shareholders’ interest to invest in BC if the Firm can sell power.

I. SOLUTION

It will take about two years (from last June) to essentially forever entrench unfettered power sales into the contract. After that time it will be very costly to restore value to the public. If the Provincial Government assigns effective responsibility to the administration of this contract it would be able to restore the public’s value. Alcan will resist, through various tactics of persuasion: By deflecting attention, by delaying attention, by reassuring through implied promise, by cautioning against bad relations, by developing and promoting plausible myths, by continued attention at the political level, by claiming crises management, and possibly by legal avenues. We may even see the Enron issue be used as a new “crisis” to motivate an upgrade to Hydro’s lines and facilities between Terrace and Kitimat.

As the reservoir fills in the Spring of 2002, Alcan will keep trying to increase its ability to sell power. That which it cannot sell it will make into aluminum. If power sale are stopped through contract administration, it will use all of the electricity from Kemano for aluminum. Kitimat works will again enjoy the lowest cost power and the shareholder would be well served by investment in BC.

We believe Alcan will attempt to assert it can sell power without regard to contractual obligations which it assumed in exchange for the public resource on which it depends, in normal times. It will do so by first only restarting sufficient capacity to use that power left after power sales have been maximized and, second, by modernizing the current capacity at Kitimat works.

J. CONCLUSION

The District of Kitimat, along with a group of volunteers from all parts of our community, have been working on understanding what we have been observing for over a decade. We have assumed that BC will seek the highest return for use of its public resources, be they wood, oil, or water. Our analysis suggests that the highest return for the public is by using the water for industrial purposes in Kitimat as originally intended by both Alcan and the BC Government in 1950.

Our analysis concludes that Alcan will seek to minimize its investments in aluminum in BC as it would be contrary to shareholder wealth to do otherwise. Instead they will use their new found right to use the BC public’s water resources to sell to the emerging power market. Profits from this will be reinvested in Quebec and elsewhere in order to meet the Firm’s obligations to those jurisdictions.

We also conclude that effective responsibility at administering the contract between Alcan and BC may restore lost public value if done so soon. Otherwise the value of the contract to BC may be forever reduced.

Opinion 250

TOP

Alcan is set to make over $2 billion in publicly subsidized windfall profits from British Columbia power sales, says the District of Kitimat, following Alcan’s announcement Monday of a $1.8 billion modernization of its Kitimat smelter.
Water rentals of under $5 per Megawatt Hour (MWh) make the publicly owned Nechako/Kemano river system a virtual gift and gives Alcan access to the cheapest power in the world. It costs Alcan under $5 MWh to produce the electricity. Then the public buys back the power for $71 per MWh – totalling a profit of $61 per MWh. With an average sale of about 210 MW per hour, Alcan stands to make over $2 billion in subsidized profits off the new deal’s 22 year term.

“We are long-time supporters of Alcan’s aluminum operations but these profits are far in excess of fair market return, and are made possible by selling the river for a pittance then instantly buying it back for full market value” says Kitimat Mayor, Richard Wozney. “Over the 22-year term the people of BC will subsidize Alcan to the tune of $2 billion. The announced smelter modernization is $1.8 billion. Not only is the modernization far smaller than Alcan’s previous plans, and will cost over 550 direct jobs, but it is being wholly paid for by the public.”

Under the deal announced by Alcan and Premier Gordon Campbell, power from Alcan’s Kemano station will be diverted from expanding the aluminum industry to bulk sales to the grid to capture this windfall profit. Under the original 1950 Agreement between the Province and Alcan, any surplus electricity is intended to attract industry to the vicinity of Alcan’s works.

“The people of British Columbia own the natural resources of the Province and should benefit by corporations paying a fair price for usage to the provincial government or through the creation of real industrial expansion that will benefit the people of BC,” says Wozney.

Yesterday on CBC Radio’s BC Almanac, Minister Richard Neufeld said he, “would much rather buy it (power) in BC and have it delivered to British Columbians than have to actually spend more money to buy from Americans.”

In response, Wozney says, “No one begrudges Alcan making a fair profit, but this is ridiculous. The Province of British Columbia does not give the Americans whole river systems and cheap water rentals to produce their power the way BC does with Alcan. The fact remains that Alcan is making over a 1000% profit because we are giving away a public resource.”

Opinion 250

TOP