Risk modelling in energy contracts between host utilities and BOT plant investors

Investor owned generation is being encouraged all over the world by the de-regulatory climate and the need to defray the heavy capital demands of plant. Contracts between the investor and the host utility determine the price of electricity and include penalties for nondelivery and compensation for failure to accept contracted energy. While it is widely appreciated that uncertainty of future conditions has an important bearing on the terms of the contract, especially in developing countries, a theoretical framework for examining these factors has not been developed. A theoretical model for linking the degree of future uncertainty, the expected production costs of the investor and the expected production cost of the host utility, with the electricity prices and penalty charges, is developed in this paper. The insight gained from these mathematical models will be useful in contractual decision making. The financial strategy employed is known as Build Operate and Transfer (BOT).