Month: February 2020

The Ministry of Finance has clarified that projects affected by the Coronavirus breakout would be given relief by way of extensions in project completion timelines under Force Majeure provisions. The announcement is not a surprise as the resultant business disruption, clearly outside the control of the project developers or the equipment suppliers, has severely impacted equipment shipments and installation activity. Module, inverter and other material shipments are delayed across the board and there is no clear visibility over how long the disruption would last.

China’s stranglehold over sector supply chain means that project developers and equipment manufacturers across the world have been hit hard by this disruption;

Despite the Force Majeure relief, projects under execution would be adversely affected due to increase in equipment and other operating costs;

This incidence is a stark reminder of risks arising due to heavy reliance on just one country but it is important that the right policy lessons are learnt;

China’s manufacturing dominance extends across the value chain including wafers, cells, backsheets, chemicals, adhesives and electrical components. Its stranglehold over the supply chain means that even manufacturers in other countries are having to curtail operations.

Figure: Module and inverter suppliers for utility scale solar projects commissioned in 2019

Source: BRIDGE TO INDIA research

Based partly on a quick round of checks with various market players, our assessment is that different players would be affected very differently. For utility scale projects, commissioning is likely to be delayed across the board due to heavy reliance on imports from China (see chart). Module prices have also firmed up rather than falling as expected earlier. Associated increase in other costs including working capital, interest charges etc. would mean that notwithstanding the Force Majeure relief, the final impact would still be damaging. Even in an optimistic scenario, there are fears that normal service may not resume for another 2-3 months as the Indian developers may lie at the back of the queue because of low price expectations.

Rooftop solar, which typically enjoys a very busy Q1 (end of the financial year), is affected badly with installation volumes down as much as 40-50% over normal levels. Indian module manufacturers are also badly affected despite stocking up on supplies in advance of the Chinese new year. But they should be able to revert to full operations faster than other players.

The loud and clear message from this episode is that supply chain control is fundamentally important for real energy security. But all those calling for more trade barriers should note that the disruption is affecting not only solar projects (across the world) but also most parts of the economy including electrical and electronics, automobiles, engineering goods, tourism, amongst others. We need a wider economic reform and a vigorous industrial policy to improve long-term competitiveness of domestic manufacturing.

Eight of the proposed 11 Renewable Energy Management Centres (REMCs) have commenced operations. REMCs were proposed to be set up by the Ministry of Power back in 2017 to aggregate renewable energy forecasts and dispatch schedules. They are expected to help optimise scheduling of conventional power plants and maintain grid balance.

In late-2018, 11 REMC contracts were awarded by Power Grid Corporation. Contracts for a national and six northern and southern REMCs were awarded to a joint venture of OSI Systems and Chemtrols while Siemens was awarded the western region REMC contract. Subsequently, eight state and regional-level REMCs in western and southern regions were partially operationalised in mid-2019. REMCs in northern region are still believed to be facing real-time data acquisition problems.

In December 2019, the Ministry of Power also approved establishment of REMCs for Telangana and South Andaman. More REMCs may be set up in other states as renewable power penetration increases.

Figure: Current REMC structure

Source: BRIDGE TO INDIA research

REMCs complement existing scheduling and dispatch system available to grid operators. To achieve high forecasting accuracy, the REMCs seek weather and generation forecasts from multiple service providers. Generation forecasts are made on intra-day, day-ahead and week-ahead basis.

Through REMCs, India expects to catch-up with developed markets like Germany, Australia and the United States in balancing and deviation settlement mechanism for renewable energy projects. Grid operators in these countries are responsible for regional forecasts while individual developers settle project-level generation deviation through open market instruments with or without penalties depending on regulations.

A major beneficiary of REMC initiative would be thermal power projects. These projects will be able to schedule their generation and source fuel more efficiently.

Establishment of REMCs is yet another step to integrate large-scale renewable energy in the grid. A logical next step in this direction would be to link renewable power project generation deviation charges to grid frequency and day-ahead market prices, as is the case for conventional power plants and DISCOMs.

India added 2,770 MW of renewable capacity in Q4 2019. For the year 2019, total capacity addition is estimated at 11,403 MW comprising 7,140 MW utility scale solar, 1,896 MW rooftop solar and 2,367 MW wind. The total figure is up marginally over 10,683 MW capacity addition in 2018 but substantially lower than 14,031 MW in 2017.  

Capacity addition numbers are stuck at levels far below government targets;

Weak demand growth poses a major risk to growth outlook;

We estimate new capacity addition at 58 GW in the next five years;

Outlook for 2020 is expected to be only marginally better. 14,300 MW of utility scale solar and wind capacity is scheduled to come online in the year but we expect actual addition at around 12,000 MW based on past track record. The slippage could be worse if disruption from Corona virus extends into the second quarter.

There are various reasons cited for slow growth of the sector. Most analysts and industry experts blame delays in land acquisition, lack of transmission connectivity and reluctance of banks to provide debt financing. But the risk which often gets ignored is weak power demand – a tepid 3.8% CAGR over last four years and just over 1% in YTD FY 2020.

Slow demand growth is worsening supply surplus situation as more thermal capacity continues to be commissioned. Excess capacity has already caused severe stress in the power sector with average thermal PLFs falling to record low of 56% during Apr-Dec 2019. More than 40 GW of thermal power capacity is believed to be stranded because of lack of PPAs while DISCOMs remain reluctant to sign long-term PPAs. Meanwhile, banks fearing a hit on their power sector loans are wary of lending to renewable projects.

Figure: Total installed capacity and peak demand, GW

Source: CEA, India Renewables Outlook report by BRIDGE TO INDIA

Note: Peak demand and PLF figures are given for the financial years ending on respective dates.

We have modelled various scenarios for power demand growth (between 3.5-5.0% per annum) and thermal PLFs (53-60%). Accordingly, we estimate total solar and wind capacity addition of only 43 GW and 15 GW respectively by 2024, far below the government aspirations.

Figure: Projected solar and wind capacity, GW

Source: India Renewables Outlook report by BRIDGE TO INDIA

Unfortunately, there is not much insight into reasons for power demand slowdown. Even the link with GDP is tenuous as per the Economic Survey. The outlook could yet get worse if industrial activity doesn’t pick up or T&D system losses are reduced as per recent Ministry of Power initiatives.

DISCOMs want firm and cheap power, both areas in which coal still decisively trumps renewables despite advancements in storage technologies. Unless demand picks up substantially, the DISCOMs would continue to go slow on renewable power procurement and we would see continued instances of tender cancellations and tariff negotiation.

Note: Please read our new report INDIA RENEWABLES OUTLOOK for more insight into 5-year trajectory for the sector including prospects for key sub-markets (storage, rooftop solar, open access, and module manufacturing).

Thermal power IPPs have put in bids of INR 3.26/ kWh in a 2,500 MW tender issued as part of a Ministry of Power scheme. They would supply power to DISCOMs across the country under 3-year PPAs at prices indexed to 50% of wholesale price inflation index (currently less than 3% per annum). Participating IPPs include Adani, Jindal, Essar, GMR, Jaypee, Sembcorp amongst others. 

The winning tariffs, considerably lower than in the previous two rounds, are far more attractive than tariffs in the first renewables plus storage tender;

Surplus thermal power capacity poses grave threat to growth prospects of renewables;

Our power demand-supply modelling suggests flatlining outlook for renewables with base case capacity addition estimate of 58 GW in the next five years;

The Ministry of Power scheme was issued in April 2018 to support struggling thermal IPPs. It aims to aggregate short-term demand from DISCOMs as they remain reluctant to enter into long-term PPAs. Previous two auctions under the scheme were not very encouraging. In the first round, PPAs were signed for only 1,900 MW at a tariff of INR 4.24/ kWh. The second round, completed in December 2019, was cancelled after DISCOMs refused to sign PPAs at the discovered tariff of INR 4.41/ kWh.

Thermal IPPs seem to have been forced into aggressive bidding in response to competition from renewables plus storage. SECI’s recently completed auction for the 1,200 MW tender for supply of peak power from renewable sources received winning bids of INR 6.12/ kWh and INR 6.85/ kWh from Greenko (900 MW) and ReNew (300 MW) respectively. Price for off-peak power is fixed at INR 2.88/ kWh. 

The DISCOMs would most certainly favour 100% dispatchable and almost 40% cheaper thermal power over (at least partly infirm) renewable power. The result starkly highlights the grave threat posed by surplus thermal power capacity, estimated at between 40-50 GW, to renewable power prospects. To compound the problem, India continues to add more thermal capacity. Despite a slowdown in new plant construction, at least 16 GW of net new capacity is expected to come on line in the next five years. NTPC alone is planning to commission 9 GW thermal capacity in the next two years.

BRIDGE TO INDIA has recently concluded a modelling exercise for power demand-supply as part of a new report titled India Renewables Outlook 2024. Having modelled various scenarios for power demand growth and thermal PLFs (ranging between 52% and 61%), we believe that renewable power would flatline over the next five years. Our base case capacity addition estimate of 58 GW (11.6 GW per annum) comes with a considerable downside risk. 

Singapore’s sovereign wealth fund, Temasek, and Swedish PE fund, EQT, have announced entry in the Indian renewable power sector with a corpus of USD 500 million. They have set up a new renewable IPP platform, O2 Power, as a 50:50 joint-venture. The venture has got off to a brisk start by hiring a team of senior managers from ReNew and bidding for a 300 MW project in the NHPC 2,000 MW solar power tender.

Bulk of equity investment is coming from offshore sources, mainly financial investors;

Easy availability of equity is a relief for the sector particularly at a time when debt financing is constrained and there are mounting concerns about offtake risk, policy uncertainty and execution;

We expect risk aversion to abate and bidding process to become competitive shortly;

Temasek and EQT are two of the latest international investors to jump into the fray. Just three months ago, Masdar, UAE’s sovereign wealth fund, announced an investment of USD 150 million in Hero Future Energies. Meanwhile, Abu Dhabi Investment Authority (ADIA), Abu Dhabi’s sovereign wealth fund, has been making further substantial investments in Greenko (alongside GIC of Singapore) and ReNew (alongside CPPIB, the Canadian pension fund). CDPQ, another Canadian pension fund, has also made substantial investments in Azure Power and CLP’s Indian business.

Table: Private equity investments in renewable power in 2019

Source: BRIDGE TO INDIA research

In total, there was an estimated investment of USD 2 billion by global financial investors, mainly sovereign wealth funds and pension funds, last year alone. These investors are attracted to the sector as much by yield play, quasi-sovereign offtake, ‘green’ investment tag and ability to deploy large sums of money quickly. There is also a strong herd mentality factor. Investment opportunities in most western countries are limited and returns are relatively low. The Indian government has also played its part by talking up the sector, adopting large targets and founding International Solar Alliance.

The financial investor class has now almost entirely crowded out domestic as well as international strategic investors. Interestingly, the spate of recent investments has come at a time when the sentiment has been ridden with serious concerns about offtake risk, policy uncertainty, execution and debt financing hurdles.

We believe that the sheer amount of cheap global capital is encouraging short cuts to investment decisions and higher risk taking. It is possible that after a lull of over a year, resumption of normal service (falling tariffs) would resume soon. Subject to module prices remaining soft and no customs duty on modules, the all-time solar tariff low of INR 2.44/ kWh may be under threat later in the year.

The question is what is the likely exit for financial investors? Strategic investors are not willing to meet exit valuation expectations and the IPO route seems unlikely in view of overall risk-return profile and past market experience with power stocks.