International Power Finance Review

THE INDIAN POWER SCENARIO: AN UPDATE
By Rajiv K. Luthra and S. Vyas,
Luthra & Luthra Law Offices

The electricity sector in India has grown manifold, both in size and capacity during the last 50 years. This article sets out its development over that time and looks at what is expected in the future.

Generating capacity in India has increased from a meagre 1,362 MW in 1947 to above 85,744 MW in 1997. Electricity generation, which was only 4.1 bn kWh in 1947 has risen to a level of over 394bn kWh in 1996-97. The total length of transmission lines, today is over 5bn ckt Kms (March, 1995) as compared to 29,271 ckt Kms in 1950. However, this growth has not been enough to meet the increasing requirements, necessitated by the rapid population growth and industrial development.

The power sector has been characterised by shortage of supply vis-à-vis demand. In 1990-91, the country faced peaking shortage of around 16% and energy shortage of about 8%. The position has gradually worsened with peaking shortage touching 18% and energy shortage almost 12% at the end of the 8th Plan (1997). Power shortage has been identified as one of the major constraints to India’s economic development.

The infrastructure sector was traditionally the preserve of the government. However, recent budgetary constraints has led to the realisation that the government is no longer in a position to meet the infrastructural requirements of the country on its own. In tune with the policy of liberalisation which was introduced in the Indian economy and keeping in mind the quantum of investment required, the Government of India in 1991 decided to allow the entry of the private sector into the power sector. Private sector participation was considered as the most viable solution towards bridging the gap between the demand and supply of electricity in India.

A number of policy initiatives were undertaken to facilitate and regulate the entry and operation of private entrepreneurs in the power sector, (see Table 1).

As a result to these initiatives, a large number of projects have been taken up by the private sector. The electricity generated from these projects is envisaged to be sold to the State Electricity Board (SEB) under long term contracts. A number of power purchase agreements have been signed in almost all the states in the country.

OVERVIEW OF POWER PURCHASE AGREEMENTS (PPAs)

Parties. Under Indian laws, a company which sets up a generating station has to be a generating company. A generating company is defined in Section 2(4-A) of the Electricity Supply Act, 1948 as “a company registered under the Companies Act, 1956 and which has among its objects the establishment, operation and maintenance of generating stations”. Generally, the power purchaser is the State Electricity Board (SEB).

Term. The concession period mainly depends upon the proposed fuel for the project. For coal-based projects, the period ranges from 25-30 years with one or two extensions of 10 years each; for liquid fuel based projects, the concession period ranges from 15-20 years with one or two extensions of five years each. The Government of India has prescribed a maximum term (of 15 years) for diesel engine generating stations.

Tariff. Tariff for power is comprised of two parts: fixed (capacity) charges and variable (energy) charges. Fixed charges consist of O&M expenses, debt service obligations, return on equity, etc., while variable charges consist of expenses pertaining to fuel, including cost of fuel, transportation charges and taxes and duties levied on fuel. O&M charges are escalated yearly on the basis of price index. Fuel price risk is generally passed on the purchaser.

Protection against foreign exchange fluctuations is provided to the seller for foreign debt and foreign equity. However, in the case of the recent competitive bid projects foreign exchange risk for foreign equity is generally borne by the seller.

Take or pay. The power purchaser usually guarantees the offtake of electricity based on a plant load factor, which could vary between 68.5% to 90%.

Liquidated damages. The seller has to guarantee supply of electricity by a fixed date: any delay entails the payment of liquidated damages to the purchaser. However, if the delay in commissioning is due to any default of the purchaser, the seller is compensated for the same by way of payment of fixed charges, thereby covering the debt service obligations and other fixed costs of the seller.

Any shortfall in contracted capacity entails a proportionate reduction in the fixed charge component of tariff. In some cases the seller is also liable to pay liquidated damages to the buyer.

Security package. Considering the financial condition of the power purchaser, the security package generally consists of: Letter of Credit, Escrow Account, the State Government Guarantee and Direct Sale to consumers or the regional grid (in the case of SEB default). Counter Guarantees from the Central Government have been discontinued.

Fuel. The power producer is responsible for arranging fuel for the project, through an arrangement with the government monopolies. In some cases, especially recently with liquid fuels, the government has allowed the power producers to directly procure fuel from abroad. Since fuel costs, in most cases, are passed through to the purchaser, the purchaser generally has a right to approve the fuel supply contracts.

Force majeure. The force majeure provisions are generally classified into two categories: natural and political. No compensation is provided for natural force majeure affecting either party, though in some PPAs limited compensation is provided to the developer for natural force majeure affecting the purchaser. For political force majeure events, the developer is compensated by way of payment of fixed charges.

Assignment of PPA. Assignment of the PPA and other contracts including the security package, in favour of the lenders is permitted. Even creating a charge on the land, which in the majority of cases is taken on lease from the state government, in favour of the lenders, is allowed in most cases. Assignment of the PPA in favour of any third party (other than the lenders) generally requires the consent of the purchaser.

Dispute resolution. Arbitration is currently the most favoured mode of dispute resolution. Earlier, most arbitration agreements provided for arbitration outside India under foreign law, since enforceability of “foreign awards” in India was easy as compared to domestic awards. With the new Arbitration and Conciliation Act, 1996, based on the UNCITRAL Model Law, more and more PPAs provide for arbitration governed by domestic law. The new Act has reduced the jurisdiction of the courts in the arbitration proceedings and the award, though the Act is yet to be tested in the courts.

Termination and buy-out. In the case of a default by the power producer, lender cure periods are provided. The purchaser has an option to buy the project in the event of termination due to a default by the seller. Similarly, the producer has the option to sell the project to the purchaser (SEB) in the event of termination of the PPA due to default by the purchaser. Generally, upon expiry of the term of a PPA, buy-out of the project by the SEB, at a price base don depreciated replacement cost, is provided under the PPA.

CLEARANCES

One of the reasons often cited for the delays encountered while setting up private projects in India, is the numerous clearances and permits which are required to be obtained. Approximately, over 50 clearances and permits are required to be obtained. Approximately, over 50 clearances and permits are required. However, most of the clearances are routine in nature.

Two of the most important clearances are: Techno-economic clearance from the Central Electricity Authority (CEA) and the Environmental Clearance.

Techno-economic clearance from CEA. Under Section 29 of the Electricity Supply Act, 1948, projects, involving capital expenditure above certain limits require clearance from the CEA. CEA clearance is a two stages process: at the first stage CEA grants “in principle clearance” to the project and the final “techno-economic clearance” is granted at the second stage. The cost limit of this project has been fixed at:

1. Rs. 1,000 crores (US$ 250m approximately) – for generation projects selected through competitive bidding.

2. Rs. 500 crores (US$125m approximately) – for schemes for renovation and modernisation of existing power plants.

3. Rs. 100 crores (US$ 25m approximately) – for other schemes (including generation projects selected otherwise than through competitive bidding).

Techno-economic clearance involves a comprehensive review of the project involving both its technical and economic parameters. The project cost is comprehensively reviewed by the CEA.

Environmental clearance. Some of the key environmental legislation in India includes:

• the Environment (Protection) Act, 1986;

• the Air (Prevention and Control of Pollution) Act, 1981;

• the Water (Prevention and Control of Pollution) Act, 1974;

• the Forest (Conservation) Act, 1980; and

• the Wildlife (Protection) Act, 1972.

The Ministry of Environment and Forests, of the Government of India grants the final environment clearance to a project. The Central Government has transferred to power to state governments for granting environmental clearance to certain categories of thermal power plants, both utility and captive. Such plants include:

1. Coal-based plants up to 500 MW using fluidised bed technology subject to sensitive area restrictions.

2. Coal-based plants up to 250 MW using conventional technologies.

3. Gas/naphtha based plants up to 500 MW.

4. Captive plants up to 250 MW (both coal and gas/naphtha based) coming up separately and not along the main industry.

5. All cogeneration plants irrespective of their installed capacities.

However, any project proposed to be located within the radius of 25 kms from the boundary of reserved forests, ecologically sensitive areas, which may include national parks, sanctuaries, biosphere reserves, critically polluted areas, and within 50 kms of an interstate boundary, shall require environmental clearance from the Central Government.

Detailed procedure for seeking environmental clearance has also been notified.

Foreign investment approval. The power sector has been identified as a “high priority industry”. There is no ownership restriction upon the quantum of foreign equity; even 100% foreign equity is permitted, depending upon the merits of the case. Proposals involving foreign equity up to 74% are cleared on an automatic basis by the Reserve Bank of India. Proposals involving foreign equity above 74% are approved by the Government of India on a case-by-case basis.

CAPTIVE/COGENERATION PLANTS

In view of the delays in the implementation of the independent power projects, the Government of India has denied to actively encourage the setting up of captive and cogeneration projects. A policy on cogeneration projects has also been published. The SEBs provide wheeling and banking services to such captive/cogeneration projects. Surplus power from these projects is bought by SEB at a mutually negotiated tariff.

The process of according clearance to captive/cogeneration projects has been simplified. Proposals for captive power/cogeneration plants require the approval of the SEB. In cases where the capacity of the generating station exceeds 25 MW, the SEB has to simply refer the proposal to the CEA for consultation under Section 44 (2A) of the Electricity (Supply) Act, 1948. A detailed examination of the project by CEA as undertaken for purposes of techno-economic clearance, is unnecessary for such plants.

Generating companies setting up captive power plants for the exclusive use of an industrial unit or a group of industrial units, need to be selected through international competitive bidding. However, such plants would not be allowed to sell their surplus energy to the SEB.

RESPONSE

Around 128 power projects (requiring CEA clearance) for a total capacity of 69,021 MW involving an investment of about Rs. 2,547 bn (US$64bn approximately) are proposed to be set up. In addition, there are several projects (e.g. small liquid fuel-based short gestation projects) being set up by the private sector with the approval of the state government itself (i.e. they do not require CEA approval).

In spite of the figures indicated in Table 2 we cannot ignore the issues encountered by the private developers while setting up projects in India. Apart from the usual delays in the grant of clearances, the problems that arose in the grant of clearances, the problems that arose in the grant of fuel linkages for the liquid fuel projects and the delays in the finalisation of the model fuel supply agreement are well known.

Apart from the policy on setting up for new power plants by the private sector, a detailed policy on private sector participation in Renovation and Modernisation (R&M) of existing plants, both thermal and hydel, has also been published. Three options for private investment are envisaged:

• Lease, rehabilitate, operate and transfer (LROT);

• Sale of plant; and

• Joint venture between SEBs and private companies.

However, R&M of existing plants has not proved to be an attractive investment opportunity for the private sector.

Until now, the major thrust of the government’s efforts has been concentrated on power generation. Transmission and distribution has not received as much attention as one would have hoped. The Bill admitting private parties in the transmission sector was introduced in the Parliament, which, however, could not be passed due to the dissolution of the House. It is expected that permitting private sector investment in the transmission sector would be one of the first initiatives to be taken by the new government at the Centre.

CONCLUSION

A National Power Plan was prepared by CEA in 1996-97, spanning a 15-year period up to the end of the 11th Plan (2011-12), based on the 15th Electric Power Survey. In the Plan, projects amounting to 153,783 MW have been identified as the need based requirements for the 15 year period. Based on the capacity addition requirements, funds required for the generation component of the National Power Plant have been assessed at Rs. 6,000 bn (US$150bn approximately). Keeping in mind the funds required for the transmission and distribution components a total of Rs. 10,000 bn (US$250bn approximately) has been assessed for the power sector as a whole.

In view of the large investment required for fufilling the need based requirement of the country in the near future. India’s power sector will continue to be an area of opportunity for investment by the private sector. There is a growing realization in the government that the bulk of the additional generation requirement cod be achieved by renovating and modernizing the existing plants. Hence, it is expected that there may be a shift in focus from greenfield projects to existing plants.

Transmission of the power generated from the proposed private sector projects would require huge investments in the transmission sector. The enactment of law permitting private participation in the transmission sector is expected to kick-start this process. In the coming yeas, the private sector would focus its attention or transmission and distribution. The lessons learnt during the past seven years would hopefully shorten the gestation periods of such projects.

Table 1: Broad features of current power supply