Month: April 2020

The Ministry of Power has issued another set of draft amendments to The Electricity Act, 2003. It is the third attempt to amend the Act in as many years. The latest set of amendments focuses mainly on improving DISCOM financial position and reducing offtake risk for power generators. However, it is more limited in scope in comparison to previous drafts. Major exclusions include separation of content and carriage in the power distribution business, obligation to provide 24×7 power to consumers, reduction of cross-subsidy surcharge and penalties for non-compliance with RPO targets. The Ministry has sought comments from all stakeholders by 5 June 2020.  

The proposed changes are a disjointed approach to address recent problems rather than institution of fundamental long-term reforms;

The states are likely to resist many of the key proposed changes;

 As seen with previous such attempts, we expect little concrete progress on the new draft amendments;

Key elements in the draft amendments are discussed below.

Replacement of subsidies with direct transfers Due to long delays in payment of subsidies to DISCOMs by state governments and concerns about authenticity of related data, the government has proposed that the state governments should instead provide direct cash transfers to consumers.

Our view: This is arguably the most ambitious measure reform in these amendments. Delay in tariff subsidy payments, estimated at over INR 850 billion (USD 11.2 billion) per year, by state governments is a major cause of financial distress for the DISCOMs. But the change is likely to be resisted heavily by the state governments.

Specified time limits for bid tariff approval by regulators As much as 2.4 GW of projects have had to be cancelled in the last year because of delays in regulatory approvals of bid tariffs. The government is seeking to streamline this process and ensure that regulatory decisions are made within 60 days of filing of petition.

Our view: The fundamental problem here is reluctance among DISCOMs to sign long-term PPAs, which, in turn, is due to excess power supply (and weak demand growth). This issue remains unresolved.

New hydro power procurement obligation (HPO) targets A new target for hydro power procurement is proposed to be set for DISCOMs and select C&I consumers. It is an attempt to revive the hydro power sector, which has been languishing with new capacity addition of only 406 MW in the last two years.

Our view: Hydro power is an attractive generation source because of its flexible output profile but new projects are stuck because of high capital cost, long gestation periods, high construction and environmental risks, and lack of interest from private sector players. No improvement is expected because of HPO targets alone.

Establishment of the Electricity Contract Enforcement Authority (ECEA) as a new adjudication body for all non-tariff disputes in PPAs ECEA, proposed to have the same power as civil courts, would have rights to detain and attach property. Aggrieved parties may approach APTEL if they are dissatisfied with ECEA ruling.

Our view: This is an attempt to speed up resolution of PPA disputes, a growing problem. But it is unclear why creation of a new agency is necessary. It complicates dispute resolution process due to multiplicity of agencies including electricity regulators, APTEL and the Supreme Court.

Increased operational role for National Load Despatch Centre (NLDC) It is proposed that NLDC would have the power to direct DISCOMs, power producers, SLDCs and other stakeholders to schedule and despatch power in accordance with PPAs.

Our view: It is a sensible move to curb growing curtailment risk for renewable power. It is an extension of recent decision to let POSOCO, the national grid manager, investigate curtailment incidents in Andhra Pradesh.

Increased government control over selection of state regulatorsA national level committee is proposed to appoint members of state regulators on a timely basis.

Our view: It is a sensible measure to reduce state government intervention in regulatory process but again, we expect the state governments to resist the change.

Distribution sub-licensees Following opposition by states to both separation of content from carriage and DISCOM privatisation, the government is mooting a compromise formula to sub-license limited responsibilities of DISCOMs to private sector players.

Our view: Sub-licensee structure could, if implemented earnestly, result in marginal operational and financial efficiency enhancements in power distribution business.

To sum up, the proposed changes seem largely reactive and designed to address recent problems faced by power producers. We are disappointed that the amendments are a far cry from much needed fundamental long-term reform of the sector. Moreover, the central government’s ability to secure progress and compliance of these steps by states remains in doubt. As seen in the past, state governments and DISCOMs have been openly flouting key provisions of the Electricity Act on a regular basis. 

The Ministry of Power is supposedly working on a plan to use central government-owned financial institutions (FIs) including Power Finance Corporation (PFC), Rural Electrification Corporation (REC) and Indian Renewable Energy Development Agency (IREDA) to fund DISCOMs in wake of the Coronavirus disruption. As per news reports, funds would be provided to DISCOMs at concessional cost specifically for clearing dues to the power producers. It is not yet clear what conditions may be attached to such a funding package.

Banks and other lenders are steadily withdrawing from the power sector leaving government-owned FIs as lenders of last resort;

Another bailout is a missed opportunity for driving tough reforms in the distribution market;

It portends a continuing cycle of financial insolvency and risks such as PPA renegotiation, delayed payments, cancelled auctions, curtailment and policy instability;

DISCOM dues had crossed INR 900 billion (USD 12 billion) before the Coronavirus-related lockdown. Subsequent economic slowdown and reduction in power demand are expected to increase their funding shortfall by about INR 200 billion (USD 2.7 billion) for every month of the slowdown. The situation is reaching a crisis point and it is disappointing that after several years of policy deliberation, the government believes that there is no option other than another financial bailout of the DISCOMs. It is a missed opportunity for driving a hard reform package and sending a tough message to the DISCOMs and state governments.

It is not a surprise that the government-owned FIs are becoming lenders of last resort to the sector as banks, other institutions and NBFCs slowly withdraw. Recently, MNRE allowed developers to provide letters of comfort from the same government FIs instead of bank-issued performance guarantees and earnest money deposits. Our research into sector lending data shows some stark trends. While banks have been steadily cutting back their exposure to the sector, the government FI loan book has grown by more than 50% in the last five years to INR 6 trillion (USD 81 billion). Share of these FIs in new lending to renewables is estimated to have reached an unprecedented 84% in FY 2019.

188807

Figure: Total lending exposure of government FIs and banks to the power sector, INR billion

Source: Reserve Bank of India, annual reports of PFC, REC, IREDA, and BRIDGE TO INDIA research

Figure: Total new lending to renewable energy sector, INR billion

Source: Annual reports of PFC, REC, IREDA, and BRIDGE TO INDIA research

Failure to attract private commercial capital is an indictment of prevailing risk framework in the sector. While most analysts and developers have rejoiced at the prospect of the bailout, we believe that it sends a terrible message. It is a signal to private investors and lenders to not expect a sector structured around commercially sound principles. It portends a continuing cycle of financial insolvency, bailouts and ensuing risks related to PPA renegotiation, delayed payments, cancelled auctions, curtailment and policy instability.

BRIDGE TO INDIA hosted a webinar on 30 March 2020 to discuss impact of COVID-19 on the renewable sector in India. Speakers from a cross-section of players from the industry discussed impact on equipment supply chain and projects under construction (an estimated 10 GW where on-site activity is currently under progress) as well as operations (about 75 GW of wind and solar projects) and implications for the entire industry value chain.

Luke Lu, VP-APAC region, LONGi mentioned that their factories in China have already been running at 80-90% capacity utilisation since around mid-March with 100% utilisation expected to be reached shortly. He reported ongoing dialogue with Indian developers with no reported cases of order postponement, delays or cancellations. LONGi is optimistic that global demand would recover in a few months with minimal impact on module prices.

Ivan Saha, Head-Manufacturing & CTO, Vikram Solar stated that domestic manufacturers have been dealing with the situation for 3 months now. Because of normal stockpiling before the Chinese New Year, operations were relatively unaffected until February. But manufacturing has been affected severely from mid-March onwards. He expressed fears that the lockdown and subsequent disruption in flows of material and labour may result in Q2 being severely affected. He expects smaller EPC players and developers to be hit hardest due to payment delays and cost increases. Export markets in the US and EU have also seen a collapse in demand. He expects a module price contraction if the situation persists. His other main point was about INR depreciation, 5-7% in the last few months, adversely affecting viability of projects under construction.

Mayank Mishra from Huawei mentioned that as renewable projects have been allowed to operate normally, they have been able to perform all service and operational activities due to presence of on-site engineers and improved remote diagnostic abilities. He was unsure about impact on their annual target of 3 GW supply for the Indian market as developers seek timeline extension.

Monika Rathi from Mahindra Susten spoke about suspension in all construction activities since last week of March. She mentioned that majority of on-site labour has migrated back to their villages and re-mobilizing it may be a challenging task even after the lockdown is lifted. She further expressed concerns that construction activity may not pick up until after August due to monsoons. Meanwhile, manufacturers across the supply chain, forced to shut down factories, have issued Force Majeure notices to their clients.

Figure 2: India power demand

Source: POSOCO

Kishore Nair, COO of Avaada stated that low power demand is the biggest threat to the sector currently. There has been a 25% reduction in demand as industrial and commercial complexes are shut down. Their projects have been running as normal and they have not seen any material problems with evacuation yet as renewable energy enjoys must-run status. But he expressed fears that if demand stays depressed for an extended period of time, it could lead to higher renegotiation and payment delay risk. He also agreed with Monika that even if the lockdown is lifted shortly, projects would need 4-6 months extra for completion due to monsoons and non-availability of labour force. Finally, he stated that passing of interest rate cuts and working capital relaxation norms by banks, as per RBI announcement, would help developers tide over the situation.

Pallavi Bedi, Partner at L&L Partners clarified that despite differences in definition of Force Majeure across PPAs, the current situation would still likely be classified as such particularly because of MNRE guidance. PPAs with tariff reduction in case of non-commissioning by July 2020 also need appropriate relief. Proactive notices to the authorities within a reasonable timeline is key to claiming relief. She also stated that it would be difficult for any party to claim relief from payment obligations in the current circumstances.

The Maharashtra regulator, Maharashtra Electricity Regulatory Commission (MERC), has made a series of positive announcements for rooftop solar market in the state. It has accepted demand from MSEDCL, a state government owned company and the largest DISCOM in the state, to levy grid usage charges on all new installations over 10 kW capacity but only once total installed capacity in the state exceeds 2,000 MW (current estimate: 810 MW). The level of approved grid usage charges is also much lower at INR 0.72-1.16/ kWh as against punitive levels of INR 3.60-8.76/ kWh sought by MSEDCL. But the consumers would incur banking charges of 7-12% with immediate effect.

Maharashtra has become the first state in India to levy grid usage and banking charges on rooftop solar installations;

The time-graded levy provides much needed policy clarity and could be a template for other states;

We expect the state rooftop solar market to grow rapidly over next five years with new capacity addition of about 3,000 MW;

Notwithstanding MNRE’s move to appoint DISCOMs as nodal agencies for development of rooftop solar, MSEDCL has been trying hard to restrict this market. Back in July 2018, it had petitioned MERC to severely limit net metering connectivity for all consumers. After that demand was rejected by MERC, MSEDCL had requested levy of grid usage charges on all C&I systems over 10 kW in size. Other DISCOMs in Maharashtra (Tata Power, Adani Electricity and BEST) have not made any formal proposals to restrict net metering or levy grid usage charges.

MERC decision is a pivotal moment in the development of rooftop solar market in India. It marks the first time any grid charges have been levied on such installations anywhere in the country. The other really unique and positive aspect of the decision is the policy clarity and long-term visibility afforded to the market. MERC has sensibly taken the view that rooftop solar is still too small to materially hurt financial interests of the DISCOM. By dealing decisively with policy risk, the biggest challenge in the market, it has paved way for rapid growth of rooftop solar in Maharashtra. The state, already the largest rooftop solar market in the country, had recorded near 100% growth rates in FY 2018 and FY 2019. But growth had stalled over last year because of uncertainty posed by MSEDCL petitions. We expect the state to add as much as 3,000 MW of rooftop solar capacity within five years.

Figure: Rooftop solar capacity addition by state, MW

Source: BRIDGE TO INDIA research

Separately, MERC has also approved tariff reduction of 4.3% for industrial consumers and 18.3% for commercial consumers between FY 2021 and FY 2025. Clearly, the decision comes on behest of the state government in a bid to offer financial relief to consumers post Coronavirus slowdown. Notwithstanding the tariff reduction, economic case for rooftop solar remains strong with potential savings of 30-70% for C&I consumers in the state.

Interestingly, while MERC has lowered grid tariffs, it has allowed a 13% increase in power purchase cost over next five years for MSEDCL. Quite how the DISCOM would be able to absorb the financial impact is not clear.

Coronavirus lockdown and consequent slowdown in power demand are striking at the core of the power sector in India. A cascading series of litigation and payment defaults by end consumers, DISCOMs and power producers seems underway. To make matters worse, there is pressure on the DISCOMs to reduce tariffs and/ or offer payment concessions to consumers. In an unprecedented move, Maharashtra regulator has cut tariffs for all consumer categories by 7-24% for all DISCOMs in the state for a period of five years. The state regulator has also offered a three-month moratorium on fixed charge payments to C&I consumers. Uttar Pradesh has similarly provided a fixed charge deferral and more states are likely to follow suit.

Delayed payments to power producers seem like the only route available to DISCOMs for financing higher losses and working capital requirement;

Prolonged weakness in power demand poses risk of cancellation to ongoing tenders, higher curtailment and slowdown in rooftop solar and open access markets;

The government ought to ensure compliance with core tenets of timely payments and no curtailment for sustained sector momentum;

What makes this crisis really difficult is the weak position of DISCOMs at the outset. With banks already unwilling to lend to them, there are no easy options for them to fund operational losses and higher working capital requirement. Public funding seems improbable due to stretched financial position of the state governments. That leaves the default option of delayed payments to power producers, which must ring alarm bells for lenders and investors in the sector.

Table: Snapshot of aggregate DISCOM financial performance

Source: India’s Power Distribution Sector Needs Further Reform, IEEFA, March 2020

Other likely consequences of the current situation seem equally unsavoury.

Slowdown in renewable power procurement

Unless power demand jumps back to normal levels fairly quickly, it is inconceivable that the DISCOMs would be willing to procure even 10-12 GW of new renewable power over the next year. Recently completed auctions where execution of PPAs and/ or regulatory tariff approvals are still pending (4,000 MW manufacturing tender and 1,200 MW peak power tender, amongst others) are also at risk in our view.

Higher curtailment

States have already started resorting to large scale curtailment under the pretext of force majeure protection. MNRE has issued a couple of advisories to state governments and DISCOMs on enforcing ‘must-run’ status for renewables but such advisories hold little sway in these times.

More resistance to rooftop solar and open access

The DISCOMs need their high-paying C&I consumers more than ever and would use every trick possible to hinder growth of these markets.

With far too many conflicting and seemingly more urgent priorities (jobs, healthcare, economy, bank solvency), the government would seem unlikely to have political or financial will to recapitalise DISCOMs or institute much anticipated power sector reforms. It is now nearly a year since formation of the new central government. We believe that the opportunity to take tough measures may have been lost.

But now more than ever, we need to place a premium on environmental and operational value of renewables (low operating risk, simple value chain, high energy security). The government ought to ensure compliance with core tenets of timely payments and no curtailment for sustained sector momentum.