Month: July 2020

Earlier this month, the Ministry of Railways announced a plan to transform Indian Railways to ‘Green Railways’ by 2030. The move is in line with the government’s initiatives to meet the commitments made under the Paris Agreement, with Railways being identified as one of the key sectors for decarbonisation.

The Indian Railways depend primarily on diesel and electricity for meeting its energy requirements. The two sources account for a share of 65% and 35% respectively. A key component of the Railways green mission is to achieve complete electrification of rail tracks by 2023. At present, only around 58% of total track or 39,866 route kilometres is electrified. Greater electrification would help Railways in switching to cleaner energy alternatives such as solar and wind power and also significantly reduce energy cost. Preliminary estimates suggest annual savings potential of more than INR 135 billion (USD 1.8 billion).

Figure: Railway electrification progress, route km

Source: Trend of railway electrification commissioning in India (1925-2020), Indian Railways, April 2020

At present, the Railways have only 203 MW of installed renewable capacity (rooftop solar 100 MW, wind 103 MW). Railway Energy Management Company (REMCL), the nodal procurement agency for the Railways, has issued two tenders of 50 MW solar and 140 MW solar-wind hybrid capacity, where bids have been received. REMCL has been further mandated to develop 3,000 MW of solar capacity by 2022-23 on vacant land owned by the Railways. Two different tenders of 1,000 MW solar capacity each have already been issued, whereby the Railways will procure power on a fixed cost basis under 25-year PPAs. There are multiple project sites located across 14 states including Chhattisgarh, Gujarat, Rajasthan and Maharashtra. The remaining 1,000 MW is likely to be developed and owned by REMCL. An EPC tender has already been issued for 400 MW solar capacity. All tenders stipulate use of domestically manufactured cells and modules in line with the government requirement.

The Railways have become the first public sector entity to significantly ramp up renewable energy adoption for captive consumption. Their tender pipeline provides attractive opportunities for project developers and contractors as Railways are amongst the most credible and bankable public sector counterparties.

The Railways move is in line with the government drive to increase renewable power consumption by public sector. Last year, MNRE had launched a 12,000 MW scheme specifically for meeting power requirement of public sector entities with a VGF outlay of INR 85.10 billion (USD 1.1 billion). Until now, 2 auctions have been conducted under the scheme and a total of 2,027 MW has been awarded. However, we believe that there would be few other opportunities matching the scale and financial strength of the Railways.

Last week, power minister R.K. Singh announced that the INR 900 billion (USD 12 billion) liquidity package for DISCOMs may be expanded to INR 1,250 billion (USD 17 billion) to cover their increasing outstanding dues. The dues have increased sharply from INR 1,062 billion (USD 14 billion) in December 2019 INR 1,280 billion (USD 17 billion) in May 2020 due to lower power demand and poor payment collections in the recent months. But states seem reluctant to accept central government conditions attached to the package. DISCOMs have submitted preliminary letters of interest aggregating over INR 910 billion. However, applications have been received for only INR 205 billion by six states including Andhra Pradesh (INR 66 billion), Rajasthan (INR 41 billion), Punjab (INR 40 billion), Maharashtra (INR 50 billion), Uttarakhand (INR 8 billion) and Manipur (INR 1 billion).

DISCOMs need urgent liquidity support to tide over their deteriorating financing condition;

The central government requirement of seeking acceptance of proposed sector reforms seems like the main sticking point for states;

The sector cannot afford another free lunch for the DISCOMs and state governments;

The package involves concessional loans with a tenor of up to 10 year from Power Finance Corporation (PFC) and Rural Electrification Corporation (REC), government-owned financial institutions. DISCOMs may use these funds only for clearing their outstanding dues to power producers. The loans are conditional upon state governments providing a guarantee for repayment of loans. DISCOMs and state governments are also required to fulfil other conditions including installation of smart meters, enabling digital payments by consumers, clearance of power dues by state government agencies and, improvement in AT&C losses and unrecovered tariff. Strangely, the conditions are loosely defined with no firm targets.

We understand, however, that behind the scenes, the central government is also seeking acceptance of proposed sector reforms by the states as a pre-condition to the loans. Fiscal deficit limit of 3% of state GDP, under the Fiscal Responsibility and Budget Management Act, was recently relaxed to 5% post announcement of COVID economic stimulus package. However, additional allowance is contingent upon implementation of reforms in multiple sectors including power distribution. If true, acceptance of reforms together with requirement of state government guarantees would be the big sticking points for states. As we had anticipated, many states are still unwilling to give up their control over the power sector.

Figure: Key financial parameters for DISCOMs, INR billion

Source: Power Finance Corporation report on Performance of State Power Utilities, CRISIL and BRIDGE TO INDIA estimatesNote: FY 2020 numbers are not available at present.

The stalemate is troubling news for all stakeholders in the sector. DISCOM financial position, already perilous at the start of this year, is deteriorating sharply. Losses and debt levels are expected to touch all-time highs by the end of this year. The central government is justified in using this crisis to enforce tough conditions for the loan package as it is no longer viable to kick the can further down the road. The states need to realise that they cannot have a free lunch for ever.

BRIDGE TO INDIA hosted a webinar on 3 June 2020 to discuss impact of COVID-19 on domestic module manufacturing industry in India. We had an eminent group of speakers including Mr. Amitesh Sinha, Joint Secretary, MNRE, Mr. Ashish Khanna, CEO, Tata Power Solar, Mr. Ramesh Nair, CEO, Adani Solar, Mr. Saibaba Vutukuri, CEO, Vikram Solar and Mr. Ranjit Gupta, CEO, Azure Power.

Mr. Amitesh Sinha, Joint Secretary, MNRE spoke about the importance placed by government on domestic manufacturing. He outlined various initiatives to support manufacturing – import duties, scaling up DCR programmes including the PSU and KUSUM schemes and creation of manufacturing hubs. Additionally, he stated that the BCD will be imposed with an indefinite timeline. He also reiterated the Ministry’s support for grandfathering of existing projects from new duties as well as ironing out differences between SEZ and DTA zones to support manufacturers in both areas. He also mentioned that a 7-8% export incentive to domestic manufacturers was being explored by the Ministry to boost exports. He also allayed any concerns on WTO disputes arising from imposition BCD and mentioned that procedures for rolling out BCD have been decided in consultation with the Ministry of Commerce.

Mr. Ashish Khanna, CEO, Tata Power Solar spoke about the need for a stable policy environment. He also stated that demand visibility is extremely important for domestic manufacturers. According to him, lack of backward integration is also a major hurdle in manufacturing. Therefore, the entire value chain needs to be promoted to ensure a robust supply chain.

Figure: Production volume of top Indian and Chinese companies in 2019, GW

Source: BRIDGE TO INDIA research

Mr. Ramesh Nair, CEO, Adani Solar also stressed the need for a supportive policy framework. In his view, manufacturing tender, DCR requirements, PSU and rooftop schemes have helped in boosting demand for domestic module, but this demand needs to be sustained for a long time to attract more investment into the sector. He also highlighted the support provided to manufacturing units in China by way of land, infrastructure facilities, lower input costs and low-cost loans.

Mr. Saibaba Vutukuri, CEO, Vikram Solar mentioned the need for sustained R&D support for building  domestic expertise. He stated that solar manufacturing needs to be prioritised as a strategic sector and given a strong push by the government. He also stated that a 5-year duty implementation with adequate clarity on policy would help setting up of new manufacturing capacity.

Mr. Ranjit Gupta, CEO, Azure Power – the only pure-play developer present in the webinar – expressed his strong support for domestic manufacturing. He stated that unsustainably low tariffs demanded by DISCOMs contribute to reliance on cheap imports. He believes that increase in tariffs and impact on power demand would not be detrimental if import duties are levied across the board.

All speakers stressed on the need for a stable, clear policy regime to boost domestic manufacturing. Other priorities include demand visibility, R&D, export incentives and backward integration.

SECI’s latest solar auction has discovered a new record low tariff of INR 2.36/ kWh (USD 3.1 cent). The company’s pan India 2,000 MW ISTS tender was oversubscribed 2.3 times. Spain’s Solarpack (300 MW, tariff INR 2.36/ kWh) was the lowest bidder. Other winners included ReNew (400, 2.38), Enel, EDEN (an EDF-Total JV) and IB Vogt (300, 2.37 each), Ayana (300, 2.38) and AMP (100, 2.37). Tata Power, O2 Power, NTPC, Azure and NLC were the unsuccessful bidders.

Shift to more complex hybrid and manufacturing based schemes has led to strong pent up demand for vanilla solar;

The new tariff is financially more attractive than in the past but returns remain below cost of capital;

Tariff outlook is turning soft because of strong investment appetite and low entry barriers;

This was the first vanilla solar auction completed by SECI in the last four months (and second in eight months). Most of the recent auctions have been for complex schemes to support manufacturing (PSU scheme, manufacturing-linked tender) or to procure hybrid, round-the-clock and peak power with restricted participation. Strong pent up demand obviously resulted in oversubscription. Many developers are keen on vanilla projects due to their ease of execution and low tariffs which find higher acceptance with DISCOMs.

The new tariff low has come more than 3 years after tariffs reached INR 2.44/ kWh first time in SECI’s Bhadla solar park auction in May 2017. Market dynamics and bidding parameters have changed enormously in this time. Most input costs have been falling notwithstanding Rupee depreciation and higher GST rates. Module prices have crashed to about USD 0.17/ Wp (down 50% in three years) due to COVID related demand depression worldwide. Improvements in technology (efficiency, form factor) have also led to improvement in power yields as well as savings of about 25% and 20% in land and BOS costs respectively. Total EPC cost has fallen 32% in last three years. Savings have also come through reduction in interest and tax rates. Recent monetary easing has led non-recourse financing rates down to 9.0-9.5% as against 10.5-11.0% a year ago. Meanwhile, corporate tax rate has fallen from 25% to 15% for new businesses. Of course, there have also been some offsetting increases in costs on account of forecasting & scheduling regulations, annual development levy of INR 250,000/ MW by Rajasthan and payment security fund requirement of INR 500,000/ MW by SECI.

Figure: EPC costs and tariffs

Source: BRIDGE TO INDIA research

Adjusted for all these factors, we believe that the new tariff is far more attractive than INR 2.44 back in May 2017. We estimate equity IRR at about 14.0%, still not sufficient in our view, but much better than 8-9% at the time of bidding three years ago. Setbacks in the last few years have instilled more discipline in the industry but with so many new players in the fray, it will not be a surprise to see tariffs sliding down further in the next few months. A wall of capital is flooding the renewable sector with pension funds, sovereign wealth funds and PE funds seeking a transition to clean energy as well as higher yields.

The record low tariff is in line with our prediction earlier this year that tariffs would touch a new low soon. Low entry barriers combined with excess liquidity are likely to maintain downward pressure on tariffs.