Shorter PPAs need of the times

03 October 2021 |

The Ministry of Power is proposing to gradually move away from long-term PPAs and introduce medium and short-term contracts in the market. A committee has been set up to examine feasibility of changes in PPA tenure and relevant changes in payment security mechanism and other contractual provisions.

Greenfield power procurement is still enmeshed in 25-year PPAs, a relic of the command economy days, when resources were scarce and power sector was heavily licenced. But the conventional long-term PPA approach is no longer fit-for-purpose and the DISCOMs have been voting with their feet. In the last six years, only one 25-year PPA has been signed for a thermal power project (1.3 GW by Adani in Madhya Pradesh in 2020). In contrast, short-term transactions continue to increase to account for 13% share in total electricity generation, up from 11% in 2018. Volumes on the short-term DEEP mechanism also continue to rise – DISCOMs have procured about 67 GW capacity in 2021 so far, most of it in PPAs ranging between 1-30 days.

There are multiple reasons for DISCOMs to shy away from long-term PPAs. After growing steadily at 4-6% per annum up to about FY 2019, power demand has stagnated. DISCOMs are jittery about burden of unnecessary fixed payments having already committed to capacities higher than actual demand. In a study covering 12 states for FY 2020, the Forum of Regulators estimated surplus fixed charges bill at INR 174 billion (USD 2.3 billion).

Figure: Projected and actual power demand, billion kWh

Source: CEA

Other reasons for DISCOMs to lose interest in long-term PPAs include rapid technology changes, steep fall in cost of renewable power, growing consumer preference for self-generation and decarbonisation push. DISCOMs rightly need greater flexibility in procurement decisions. We believe that the government should go one step further and alongside pushing for shorter PPAs, it should endeavour to create more liquidity and depth in the exchanges. Some suggestions include expediting implementation of MBED and ancillary services reforms, launch of new market instruments and derivative contracts, signing PPA for only say, 70% of project capacity, no PPA extensions and reducing PPA tenor over time to 5-10 years.

Replacement of non-transparent, bilateral PPA regime with open exchange-based market could have a transformational impact on the sector. Market forces would enable more efficient decision making for new investments, technology and business models.  One often cited hindrance to a market-oriented structure is hesitation of lenders and regulators to assume market risk. At present, the regulators set tight annual limits for DISCOMs to buy power in the short-term markets – only 0.4% of total power requirement in the case of MSEDCL, the largest DISCOM in the country – adding to the financial burden on DISCOMs. But assurance of long-term PPAs is a fallacy and the power sector is littered with a series of defaults emanating from stranded capacity, payment disputes, litigation and PPA renegotiations. Power projects can be financed on the basis of market principles, just like other expensive infrastructure including roads and ports.

Most developed countries have already moved away from long-term contracts. The government is, however, right to be cautious about such significant reforms. Progress needs to be calibrated carefully to address concerns of all stakeholders. And DISCOMs would need to accept higher power prices if they want reduced demand and technology risks. 


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