Muskaan Project

ACKNOWLEDGEMENT

Undertaking any project in life proves to be a milestone in more ways than one. Its

successful completion relies on a myriad people and their priceless help.

I am deeply indebted to all who have inspired, guided and helped me. I owe debt of

gratitude to them, who were so generous with their valuable time and expertise.

I would like to thank Prof. A.N. kashyap for giving me the time to work on this project

and providing constant help, timely advice and personal as well as professional support

I would like to express my gratitude to my Faculty Mentor Mrs. Neha Arya who stood

by me providing overall guidance through the project. I am extremely thankful to him

for his valuable suggestions and inputs.

ANJALI GUPTA

FINANCIAL RISK MANAGEMENT IN INFRASTRUCTURAL PROJECTS

SYNOPSIS OF THE PROJECT

DESIRED AREA OF RESEARCH: Finance

TITLE OF THE PROJECT:

Financial Risk Management in Infrastructural Projects

RESEARCH OBJECTIVE

To study the risk involved in Infrastructural Projects with specific reference to

Siemens India Limited.

INTRODUCTION TO THE AREA OF RESEARCH

Siemens practices the process of risk management in a very sound, detailed and an

organized manner. Siemens practices the process of risk reporting where the project

coordinators undertake the process of Risk Reporting to the risk champion for the

projects undertaken by them on a monthly basis In every risk reporting the risk of every

project are identified.

A detailed Project Management Assessment is carried out throughout the

implementation of the project. Siemens has a practice of keeping a record of new

lessons, concepts learnt during the process of project management in a ‘Literature

Folder’. The lending parties help in allocation of risks in a project through the LOA or

the Lenders Offer Agreement

In India, the ever-increasing demand for power has given rise to the need of all the

reforms the sector has seen in the past and will encounter in the future. As the demand

grows, so does the development of the sector. But any development in the sector would

need financing, and going by the rate of development the sector has seen shortly, future

shall see big money getting parked in the sector. So along with the scope of the

infrastructure sector, the scope of project financing is also going to see an up trend in

the future.

ii


SCOPE OF PROJECT WORK

The project will be divided into two phases, the first phase being Project Management

at Siemens Ltd. and the second and the final phase, Appraisal of a Power Plant -

SUGEN CCPP at Siemens Ltd. The project delves into the technical as well as financial

aspects of Project Management (taking Power Plants into consideration), introducing

the concept in a comprehensive manner coupled with ample theory and numbers to

support the same. This project will provide a detailed analysis of the power sector- its

scenario today, the reforms and the future prospects, basic insight into the concept of

financial and technical appraisal of power plants in general. The knowledge of the work

process at the commercial department of the power generation division of Siemens Ltd.

shall help in understanding how Siemens works towards project management and risk

mitigation in a power plant project. Analyzing project management and risk mitigation

in the case of SUGEN CCPP can further understand the initial phases of the project.

The project would start with a detailed introduction to the infrastructure sector, the

concept of project financing, risk management techniques etc. The first phase of the

project shall cover the concept of Project Management and Risk Management at

Siemens and the work process of the Commercial Department of the Power Generation

Division. This shall include the concept of offer costing, calculation of Net Working

Capital, concept of transfer pricing, risk management etc. The second phase shall cover

a detailed study of the power sector, the various reforms, the future prospects etc. that

shall be followed by various facets of analysis and evaluation of a private power

project- SUGEN CCPP. The practice of Project and Risk management at Siemens will

be compared with the normal concepts of the same. For the second phase, the SUGEN

CCPP has been selected for evaluation. The parameters have been calculated/assumed

using GOI guidelines for IPPs and standard accounting practices. The financing norms

have been taken as per current practices for IPPs. The performance parameters for

power projects viz. construction schedule is based upon Siemens latest generation Gas

Turbines technology and project management practiced. This study will evaluate the

risk management practices at Siemens Ltd.

iii


RESEARCH METHODOLOGY

Secondary Data

Desk Research under the guidance of my guide

Books on Financing of Power Projects

Primary Data

Interviews of the officials of Siemens Ltd.

Data Collection Tools

Interview

Books

Internet

JUSTIFICATION FOR CHOOSING A PARTICULAR RESEARCH PROPOSAL

Infrastructure is an Integral Part of Development. It may include providing and

delivering basic services that people need for every day life e.g. safe drinking water,

electricity, roads, and sanitation. Infrastructure provides vital support to the productive

sector and is a key driver for growth, poverty reduction etc. Analysis of sponsoring

firms and project companies illustrates how financing structures affect managerial

investment decisions and subsequent cash flows. The project analysis mainly covers-

market analysis, technical analysis, financial analysis and economic and ecological

analysis. This study will help in understanding the risk management practices for

Infrastructural projects with reference to Siemens Ltd.

iv


EXECUTIVE SUMMARY

The project is divided into two phases, the first phase being Project Management at

Siemens Ltd. and the second and the final phase, Appraisal of a Power Plant -SUGEN

CCPP at Siemens Ltd.

The project delves into the technical as well as financial aspects of Project Management

(taking Power Plants into consideration), introducing the concept in a comprehensive

manner coupled with ample theory and numbers to support the same.

This project will provide a detailed analysis of the power sector- its scenario today, the

reforms and the future prospects, basic insight into the concept of financial and

technical appraisal of power plants in general. The knowledge of the work process at

the commercial department of the power generation division of Siemens Ltd. shall help

in understanding how Siemens works towards project management and risk mitigation

in a power plant project. By analyzing project management and risk mitigation in the

case of SUGEN CCPP, the initial phases of the project can be further understood.

The project would start with a detailed introduction to the infrastructure sector, the

concept of project financing, risk management techniques etc. The first phase of the

project shall cover the concept of Project Management and Risk Management at

Siemens and the work process of the Commercial Department of the Power Generation

Division. This shall include the concept of offer costing, calculation of Net Working

Capital, concept of transfer pricing, risk management etc. The second phase shall cover

a detailed study of the power sector, the various reforms, the future prospects etc. which

shall be followed by various facets of analysis and evaluation of a private power

project- SUGEN CCPP.

The practice of Project and Risk management at Siemens has been compared with the

normal concepts of the same. For the second phase, the SUGEN CCPP has been

selected for evaluation. The parameters have been calculated/assumed using GOI

guidelines for IPPs and standard accounting practices. The financing norms have been

taken as per current practices for IPPs. The performance parameters for power projects

v


viz. construction schedule is based upon Siemens latest generation Gas Turbines

technology and project management practiced.


organized manner. Siemens practices the process of risk reporting where the project

coordinators undertake the process of Risk Reporting to the risk champion for the

projects undertaken by them on a monthly basis In every risk reporting the risk of every

project are identified.


implementation of the project.

Siemens has a practice of keeping a record of new lessons, concepts learnt during the

process of project management in a ‘Literature Folder’. The lending parties help in

allocation of risks in a project through the LOA or the Lenders Offer Agreement

In India, the ever increasing demand for power has given rise to the need of all the

reforms the sector has seen in the past and will encounter in the future. As the demand

grows, so does the development of the sector. But any development in the sector would

need financing, and going by the rate of development the sector has seen shortly, future

shall see big money getting parked in the sector. So along with the scope of the

infrastructure sector, the scope of project financing is also going to see an uptrend in the

future.

As far as the project SUGEN is concerned, with the kind of sound investments made

and cost reduction techniques used, it sure is a financially and commercially viable

project.

The process of project management, and risk management is apt and sound. However

the following is recommended to increase the efficiency of the practices at Siemens Ltd.

To augment and catalyze the practices of risk management at Siemens Ltd., the process

of Team Risk Management is recommended.

vi


TABLE OF CONTENTS

Chapter No. / Topic Page

Acknowledgement iSynopsis for the Project iiExecutive Summary v

Chapter 1- Introduction 1-31

Chapter 2-First Phase of the project- Project Management at Siemens 32-60

About Siemens

Range of activities in Power Generation Division

Project Management at Siemens

Project management Process

Risk Management at Siemens

Work Process at Siemens’ Commercial Division

Transfer pricing- concept and practices at Siemens

Risk Reporting at Siemens

Claims management at Siemens

Chapter 3- Second Phase of the project- Appraisal of a power plant 61-94

SUGEN CCPP - About The Power Project

Power Sector- An overview

Need for Private Participation

Power Scenario Today

The Electricity Act, 2003- Main Features

Independent Power Producers And Merchant Power Plants

Power Plant Technology

Facets of Project analysis

Contractual Risk Mitigation For Sugen

Chapter 4- Analysis and Findings 95-98

Chapter 5- Recommendations 99

Bibliography 102

vii


CHAPTER 1

INTRODUCTION

INFRASTRUCTURE

Infrastructure is an Integral Part of Development. It may include providing and

delivering basic services that people need for every day life e.g. safe drinking water,

electricity, roads, sanitation. Infrastructure provides vital support to the productive

sector and is a key driver for growth, poverty reduction etc.

Overcoming Infrastructure bottlenecks is an important driver of development strategy.

The importance of infrastructure sector also follows from the fact that foreign investors

are now looking at infrastructural development as a yardstick for directing their

investments. In fact infrastructural development had taken precedence over wage levels

in assessing the investment potential in developing countries.

India is the world’s fourth largest economy, based on purchasing power parity, and

among the fastest growing. It has grown at over 7.6% per annum for the last two years

and is poised to grow at 8% per annum in the years to come. This robust growth has

placed an increasing stress on the physical infrastructure such as power, roads, ports,

airports and railways, which are already carrying a significant deficit from the past.

There is consensus that the on-going growth in the manufacturing and service sectors

would be constrained if infrastructure services do not keep pace. The government is,

therefore, committed to building world-class infrastructure for improving the quality of

life and enhancing competitiveness of the economy.

The public sector will continue to play a dominant role. However, it would not be

feasible to mobilize the requisite resources from the public sector alone. Therefore, the

role of private participation assumes importance. It is expected that as in the case of the

telecom sector, competition and private investment in these sectors will transform the

face of India’s infrastructure.

1


Government’s current initiatives are focused on enabling such competition and private

investment through creation of an enabling policy and regulatory environment as well

as offering catalytic fiscal incentives where required. At the same time, protection of

public interest is being ensured by institutionalizing the necessary frameworks and

processes for due diligence, checks and balances.

With the reforms like the SEZ Act, FDI up to 100% has been allowed under the

automatic route for development of townships, housing, built up infrastructure and

construction development projects and the cost of development of infrastructure in

SEZs has been reduced substantially by exempting all material and services purchased

by the SEZ developer from customs, excise duty, service tax and Central Sales Tax.

Such reforms help in upgrading the rate of development of the infrastructure sector by

making investment in the same, more attractive. The sector, which shall see big money

finding its way into it, is more too see in the coming decades as the financial and

technical scenario of the investment and the risk attached to the same reduces due to

various improvements in the manner of handling infrastructure.

Stages in Infrastructural Projects usually are the following:

The Development Phase: This may include availability of the proposed site,

physical suitability of the site, the need for statutory consents, environmental

contamination, estimate development, estimating accuracy,

The Design Phase: This may include, Site Selection, Geotechnical Survey,

Scheme decisions, Detailed Design, Engineers Design Estimate, Concept for

Work Execution, schedule for Execution of Work etc.

The Construction/Manufacturing Phase: This may include construction,

erection, start up, commissioning, testing including conducting performance

testing and in connection therewith, provide all materials, equipment,

machinery, tools, Labor, Transportation, administration, and other services and

items required to complete the facility in all respects; and

2


The Operating/Performance Phase: That is the actual running of the project and

its maintenance and revenue realization.

TYPES OF INFRASTRUCTURE PROJECTS

Following are the types of infrastructural projects:

Energy

o Electricity or power generation, transmission, and distribution

o Natural gas production, transmission and distribution

Telecommunications

o Fixed or mobile local telephony

o Domestic long-distance telephony

o International long-distance telephony

Transport

o Airlines, airport runways and terminals

o Railways services including fixed assets, freight, intercity passenger, and

local passenger

o Toll roads, bridges, highways, and tunnels

o Terminals and channel dredging

Water

o Potable water generation and distribution

o Sewerage collection and treatment, sanitation

3


FACETS OF PROJECT ANALYSIS

Analysis of sponsoring firms and project companies illustrates how financing structures

affect managerial investment decisions and subsequent cash flows. The project analysis

mainly covers- market analysis, technical analysis, financial analysis and economic and

ecological analysis (Prasanna Chandra). These are detailed below:

Market Analysis

Market analysis is concerned primarily with two questions of aggregate demand and

market share for the business in future. To answer the above questions, appropriate

forecasting methods and following information is required:

Present Supply position and forecast

Production possibilities and constraints

Other competing projects in the state

Consumption trends in the past and the present consumption level

Import and export

Structure of competition

Costs structure

Elasticity of demand

Consumer behavior, intentions, motivations

Distribution channels and marketing policies in use

Administrative, technical and legal constraints

Technical Analysis

Technical and engineering analysis seeks to determine whether the prerequisite for the

successful commissioning of the project have been considered and reasonably good

choices have been made with respect to location, size, process etc. The criteria being;

4


Status of preliminary tests and studies for the project

Availability of fuel, water, and other in outs

Scale of operation and technology- is it suitable?

Provision and requirement if affluent treatment

Project schedules- is it realistic?

Financial Analysis

Financial analysis seeks to ascertain whether the proposed project will be financially

viable and give satisfactory returns to the investor. It also shows that the project is able

to meet the burden servicing debt. The main aspects that have been looked into while

conducting financial appraisal are:

Investment outlay and capital cost of project;

Means of financing including interest rates and repayment schedules

Cost of capital

Projected profitability

Cash flows of the project

Projected financial position

Level of risk in the project

Economic and Ecological Analysis

Economic analysis, also referred to as social cost benefit analysis, is concerned with

judging a project from the larger social point of view. Environment is another issue,

which needs special attention, particularly for large projects such as power projects. The

major issues are:

Direct economic benefits and costs of the project measured in terms of

efficiency

Impact of the project on the level of savings and investment in the society

5


Contribution of the project towards the fulfillment of certain merit like self

sufficiency, employment and social order

Environmental impact

INFRASTRUCTURAL FINANCING

Infrastructural or Project finance involves the creation of a legally independent project

company financed with no recourse debt for the purpose of investing in a capital asset,

usually with a single purpose and a limited life. (Benjamin C. Esty, 2003).

It is nothing but financing of long-term infrastructure, industrial projects and public

services based upon a non-recourse or limited recourse financial structure where project

debt and equity used to finance the project are paid back from the cash flow generated

by the project (As defined by The International Project Finance Association or IPFA).

Project or infrastructural financing is different from normal corporate financing. In the

case of corporate financing the firm invests money in a project in its own name, and

owns, operates and maintains the same till the end of its economic life. On the contrary,

in the case of project finance, the company joins hands with other sponsors to invest in

a project which shall be a separate legal entity. Usually, project financing is used in

such projects which involve a lot of risk due to the technology or simply because of a

significant amount of uncertainty over the financial feasibility of the same. That is why

such projects are financed through large amounts of debt. The sponsors shall hold

minimal amount of equity in the project which results in very little risk taking by them.

Around 80 to 90 percent of the investment can be debt financed in such projects.

The decision to source debt finance by any company will be dependant on the costs and

the terms on which the finance is raised. Project sizes are growing, to access economies

of scale and to withstand international competition. This, together with rising capital

intensity necessitates accessing the international markets for both working capital and

project finance. Typically, projects have long gestation periods funded by stage wise

credit disbursals.

6


Borrowers differ in their objectives and philosophies while designing their funding

requirements. Some actively desire innovation, through sophisticated central treasury

functions with the objectives of reducing costs, managing funding risks and optimizing

taxation by utilizing all available techniques. Some may be deal oriented, whereas

some, relationship oriented. Thus, any finance structuring must look at differing

philosophies and strike a balance between cost, flexibility and simplicity.

Infrastructure lending is distributed under- power, shipping, irrigation,

telecommunication and roads and ports. Considering banks do not have adequate

expertise in appraising such projects, and infra- financing is also not without risks, it has

to be well thought out, given that project finance is normally through non-recourse

financing. Going by the present scenario of a credit boom, soon banks will have no

other go but to raise money overseas to be able to meet credit demand.

Large infrastructure projects and other types of project financing deals encompass all

sorts of risks. And the scale of such projects prevents single sponsors or institutions

holding the entire related risk on its books. Sponsors, usually a combination of local and

multinational corporations, often in energy or commodity-related industries, are

increasingly looking to find ways to disseminate a large portion of those risks to the

wider market. In a typical project finance deal, the sponsors will create a special

purpose vehicle – a separately capitalized, stand-alone entity that is legally separate

from its parent company – in which they remain the principal shareholders.

Funding for the project is acquired through this vehicle, which may have a different

credit rating from its sponsors or the country in which the project is located. The assets

associated with the project in question will also be owned by the vehicle. It will be

allotted only the minimum amount of capital required to meet the financial needs of the

project, and, in most cases, the vehicle does not consolidate with the sponsors' balance

sheets.

Project financing is particularly useful when the scale of the project exceeds the

resources of a single sponsor, or, indeed, when the risk associated with the project in

question is larger than the sponsor is able to take on. Many of these types of deals are

7


conducted to finance large-scale infrastructure projects where it can be important to

achieve significant economies of scale.

If the country where the project is located mandates a joint venture with local interests,

this can be easily achieved if it is funded through project financing. Such types of deals

are also useful when the sponsors want to finance the project on a non-recourse basis.

The structure of project finance deals involves many parties, all of which bear some

portion of the risks of the scheme (see diagram).

Both those who lend to the venture and those who invest in it rely on the project's

expected revenue stream for returns. As a result, these parties share with the sponsor

some of the risks associated with the project. Such risks include technical, financial,

operational, commercial and political risks. Those lending money to the project –

usually international banks – have to decide which of these risks are acceptable for them

to hold on their books and which should be covered through sponsor support,

governmental guarantees, insurance and other contractual arrangements, including

derivative products.

The sponsor's objectives in using project financing are usually threefold. First, the

sponsor aims to minimize its exposure to risk, thereby helping to preserve its own credit

8


standing and its future access to capital markets. It also is attempting to minimize the

cost of financing the project itself. If the structure can make the debt attractive to

prospective lenders and investors in some way, it can reduce the cost of funding the

project overall. And, lastly, by achieving these things it will maximize the return on its

equity investment. Forming a comprehensive list of the risks facing both sponsors and

lenders in project financing would be almost impossible, and would be, to some extent,

project-specific. But all project finance deals share certain common risks, including:

resource or reserves risk; completion risk; operational risk; technical risk; legal risk;

market risk; and country or political risk. Market risk shocks to the financial health of

the project brought about by a sudden shift in economic conditions outside the

sponsor’s control may arise from sudden and dramatic moves in foreign exchange rates,

commodity prices, energy prices, inflation rates and interest rates.

MOTIVATIONS TO USE PROJECT FINANCING

Given the fact that it takes longer and costs more to structure a legally independent

project company than to finance a similar asset as part of a corporate balance sheet, it is

not immediately clear why firms use project finance. For it to be rational, project

finance must entail significant countervailing benefits to offset the incremental

transaction costs and time. Yet these benefits are not well understood nor have they

been accurately described in the academic or practitioner literatures.

Project financing can sometimes be used to improve the return on the capital invested in

a project by leveraging the investment to a greater extent than would be possible in a

straight commercial financing of the project (Nevitt and Fabozzi (2000, p. 5)). While it

is true that leverage increases expected equity returns, this motivation for using project

finance fails to recognize that higher leverage also increases equity risk and expected

distress costs. Project finance creates value by reducing the agency costs associated

with large, transaction-specific assets, and by reducing the opportunity cost of

underinvestment due to leverage and incremental distress costs. By itself, this

explanation does not provide a compelling reason to use of project finance. There are

certain motivations which result in the use of project financing.

9


The motivations explain why financing assets separately with non recourse debt creates

value, and why it can create more value than financing assets jointly with corporate

debt, the most likely financing alternative. Project finance solves two financing

problems: 1) it reduces the cost of agency conflicts inside project companies; and 2) it

reduces the opportunity cost of underinvestment due to leverage and incremental

distress costs in sponsoring firms.

Project finance involves both an investment decision involving a capital asset and a

financing decision. Firms experience positive and significant returns when they

announce increases in capital expenditures (McConnell and Muscarella; 1985). This

finding differs from the announcements regarding acquisitions: merger announcements

generate non-positive returns for acquirers. Whereas investment decisions, particularly

the decision to acquire, could reflect empire-building by managers, it is more difficult to

imagine reasons why a manager might overspend on financing an acquisition or an

investment or what personal benefits he or she could derive from such a financing

choice (Jensen and Ruback; 1983). For this reason, the decision to use project finance—

a change away from the traditional way of financing investment opportunities—reflects

an attempt by managers to reduce total financing costs.

Agency Cost Motivation

The first motivation to use project finance, the agency cost motivation, recognizes that

certain assets, namely large, tangible assets with high free cash flows, are susceptible to

costly agency conflicts. The creation of a project company provides an opportunity to

create a new, asset-specific governance system to address the conflicts between

ownership and control.

Project structures can also reduce agency conflicts between owners and related parties.

The transaction-specific nature of project assets creates a need to deter strategic

behavior by suppliers of critical inputs or expropriation by host governments. The threat

of opportunistic behavior or “hold-up” is especially severe in project companies where

the deals typically involve negotiations between bi-lateral monopolists. Project

companies utilize joint ownership and high leverage to discourage costly agency

10


conflicts among participants. Today, these agency cost motivations remain the most

important reasons why firms use project finance.

Because project companies are new and independent firms, project sponsors have the

opportunity to create asset-specific governance systems to address these agency

conflicts in ways that cannot be replicated under corporate finance. If the same assets

were financed using corporate finance, then the company’s existing structure would

govern the asset and its cash flows. In most cases, the existing governance system was

not designed to address asset-specific agency conflicts. By tailoring the governance

structure to fit the specific application, sponsors can minimize the costs associated with

agency conflicts. In doing so, they increase the asset’s expected cash flows and the

likelihood sponsors will earn an appropriate return on their invested capital,

Debt Overhang Motivation

In contrast to the agency cost motivation, which relates to the asset being financed, the

two underinvestment motivations relate to the firms making the capital investments—

these firms are known as “sponsoring firms” or “sponsors.” Although underinvestment

in positive net present value (NPV) projects can occur for many reasons, focus is on the

effects of leverage and incremental distress costs as two important reasons, and show

how project finance mitigates both effects.

Project finance solves leverage-induced underinvestment by allocating project returns to

new capital providers in a way that cannot be replicated using corporate debt. This debt

overhang motivation is similar to the motivation described by Stulz and Johnson (1985)

for using secured debt, but it is even more effective because it eliminates all recourse to

the sponsor’s balance sheet and it eliminates the possibility that new capital will

subsidize pre-existing claims with higher seniority or reduce the value of junior claims

(Myers, 1977). While it is true that the origin of the debt overhang problem is also an

agency conflict, Benjamin Esty (2003) distinguishes the debt overhang motivation from

the agency cost motivation because the conflict occurs at the sponsor rather than the

project level.

11


Risk Management Motivation

The third motivation, risk management, recognizes that investing in risky assets can

generate incremental distress costs for sponsoring firms. When these indirect or

collateral distress costs are sufficiently large, at least in expectation, they can exceed the

asset’s net present value (NPV), thereby turning a positive NPV project into a negative

investment (the total NPV is negative). By isolating the asset in a standalone project

company, project finance reduces the possibility of risk contamination, the phenomenon

whereby a failing asset drags an otherwise healthy sponsoring firm into distress. It also

reduces the possibility that a risky asset will impose indirect distress costs on a

sponsoring firm even short of actual default.

STRUCTURAL ATTRIBUTES OF PROJECT COMPANIES

Organizational Structure

Project companies involve separate legal incorporation—the power plant is legally

independent from the three sponsoring firms. Special purpose vehicles (SPV’s, or

special purpose entities, SPE’s) created to facilitate asset securitization share this

feature of separate incorporation. Secured debt, a corporate obligation, does not.

Capital Structure

Project companies employ very high leverage compared to public corporations. They

can have a debt equity ratio as high as 80:20. From this perspective, project companies

resemble leveraged buyouts (LBOs).

Ownership Structure

Project companies have highly concentrated debt and equity ownership structures. Most

of the debt comes in the form of syndicated bank loans, not bonds, and is non-recourse

to the sponsoring firms (Esty, 2001b). As a result, creditors must look to the project

company itself for debt repayment. In terms of equity ownership, the typical project

company has from one to three sponsors, and the equity is almost always privately held.

Looking only at the concentrated equity ownership structure, project companies

12


resemble venture-backed companies. The concentrated equity ownership resembles pre-

IPO venture-backed companies, except that managers do not typically own any project

equity.

Board Structure

Project boards are comprised primarily of affiliated (or “gray”) directors from the

sponsoring firms. According to a survey conducted in the study by Esty, in terms of

size, the typical project board has 9.8 members, a number that is overstated because his

sample included mostly large projects (average total cost is $1.9 billion) and there was a

weak, but significant positive relation between project size and board size.

Contractual Structure

Project finance is sometimes referred to as “contract finance” because a typical

transaction can involve as many as 15 parties united in a vertical chain from input

suppliers to output buyers through 40 or more contractual agreements.5 The four major

project contracts govern the supply of inputs, purchase of outputs (known as off-take or

purchase agreements), construction, and operations. Larger deals can have several

hundred and up to several thousand contracts.

At first, many of these structural features appear counter-intuitive especially when

compared to the alternative of using corporate finance. Creating a stand-alone project

company takes more time (from 6 to 18 months more) and requires significantly greater

transaction costs than financing an asset on an existing balance sheet.

Klein, So, and Shin (1996) find that total transaction costs for infrastructure projects

average 3% to 5% of the amount invested, but can be as high as 10% for smaller and

unique or first-of-a-kind projects. Project debt is often more expensive than corporate

debt—spreads (promised yields) can be 50 to 400 basis points more—because creditors

cannot rely on the cross-collateralized cash flows and assets the way they can with

corporate debt (Lewellen, 1971).

Finally, the combination of high leverage and extensive contracting severely restricts

managerial discretion. For long-term projects with uncertain futures, managers of both

13


sponsoring firms and project companies might prefer greater discretion. In reality,

however, the individual structural components fit together in a very coherent and

symbiotic way, and can reduce the net financing costs associated with large capital

investments.

MEANS OF FINANCING AN INFRASTRUCTURAL PROJECT

To meet the cost of project the following means of finance are available (source: I.M.

Pandey, 2000)

Share capital (Equity or Preferential): they are the legal owners of the company.

They bear all the risks, get dividends (rates may not be fixed) in return, and the

capital is reimbursed only during the liquidation of the company.

14


Term Loans: Term loans may be obtained from banks and financial institutions.

They are generally obtained for financing large expansion, modernization or

diversification projects (also called project financing)

Debenture Capital: this is a long term, fixed income financial security.

Debenture holders are the creditors of the firm. The interest rate is fixed. They

can be convertible (partially or fully) into equity if the option is given by the

firm.

Deferred Credit: they are loans taken with a view of deferring their repayment in

various installments. An amount is written off every year from the total.

Ways of Issuing Equity

Venture Capital: it is the financing of new, young concept projects, by venture

capitalists that shall have an involvement in the management of the client

enterprise.

Public Offering – Initial or Subsequent: Public offering means raising share

capital directly from the public. As per existing norms, the company is free to

decide the price(can be at par, premium or discount)

Privileged Subscription or Right Issue: A rights issue involves selling equity

shares to the existing share holders of the company at a nominal price. They

have a pre-emptive right of being offered the shares for sale prior to selling them

in the market by the company.

Auction: the shares can also be auctioned.

Private Placement: it involves sale of shares by a company to few selected

investors, particularly institutional investors.

Ways of Raising Debt

Long Term or Short Term Debts

Fixed or Floating Rate Debts

15


Domestic or Foreign Placement Debts

Private or Market Placement Debts

Conditions Attached Debts

Type of Debt

o Term Loan

o Bonds/Debentures

Non-Recourse Finance

It is a loan where the lending bank is only entitled to repayment from the profits of the

project the loan is funding, not from other assets of the borrower or the sponsor.

It is used in cases of projects which are characterized by high capital expenditures, long

loan periods, and uncertain revenue streams. Analyzing them requires a sound

knowledge of the underlying technical domain as well as financial modeling skills.

Sources of International Finance

Due to limited domestic finance available, the need to tap international markets

becomes inevitable, which is generally characterized by long tenure of maturates and

low interest rates. These investors have a choice to invest in various developing

countries vying each other to attract such investments. Following are the various

sources of international finance available:

Multilateral Institutions: Institutions like World Bank, IFC, ADB and CDC

have traditionally been financing infrastructure in developing countries like

India. The financing comes with restrictive covenants, affordable cost,, and long

tenure. The co-financing facility being extended by these institutions require

sovereign guarantee.

Export Credit Agencies: ECAs are important source of bilateral funding

especially for Independent Power Producer Projects. ECAs such as US Exim,

JBIC, KFW, OPIC, and ECGD are providing credit to finance power equipment

16


from their respective countries. There are certain limits to ECA Financing like

the exposure limit, guarantee requirements and cost of insurance etc.

External Commercial Borrowings (ECB): These include Yankee Bonds,

Samurai Bonds, Dragon Bonds; Euro Currency syndicated loans, US-Sec 144 A

Private placement, Global Registered Notes (GRNs), Global Bonds etc.

Syndicated Loans: Syndicate banking or Consortium Banking gets a group of

banks together within the same credit document, negotiate only one loan, and

have participating banks assume most of the administration and operations. It is

beneficial for the borrowers as well, for this helps them borrow large levels of

amounts normally not possible on a one to one basis, and bring in a competitive

element among the banks, which in turn results in lower debt service for the

borrower.

In traditional financing, lending on a one to one basis was ideal except that with

the growing size of amounts raised, it was logical to expect risk diversification.

Also, traditional banks could hardly meet all the financial needs of all the

customers.

There is a lead/arranger bank that will not take full risk on its own balance sheet

and therefore finds other banks to participate, while trying to raise its own

yields. Each bank would obviously try to achieve a worthwhile return on it

capital employed.

Global Depository Reciepts: GDRs present an attractive avenue of funds for

the Indian Companies. Indian Companies can collect a large volume of funds in

foreign currency through Euro issues. GDRs do not have voting rights, so there

is no fear of loss of management control.

Credit from Equipment Supplier/ Contractors: In many cases the EPC/

O&M contractors provide credit on their own or arrange through bankers/

investors.

17


RISKS IN FINANCING INFRASTRUCTURAL PROJECTS IN

VARIOUS PHASES OF A PROJECT

The successful structure of project financing requires an assessment and evaluation of

the complete range of risks involved in the project.

Development Stage

Risks at the development stage may include site risk – covering such issues as

availability of the proposed site, physical suitability of the site, the need for statutory

consents, environmental contamination, estimate development, estimating accuracy,

Deficiencies/Current Standard Contracts. This is borne by the project sponsors, and

covers the period of preparation prior to financial close. Lenders are not committed to

the project at this stage and therefore bear none of the responsibility.

High level risk identification and risk assessment should form part of the initial

information gathering exercise to decide whether or not a proposal for the development

of an infrastructure asset should proceed. At the contractual stage, issues like Delay

Claims new contract requirements, warning signs, default/termination Issues, the

creditworthiness of the counterparty and the risk of later change in the counterparty’s

position due to changes in economic conditions or a change in management control;

reciprocal indemnity obligations for failures and violations, insurance and bonding

requirements etc. should be tackled with.

Design Stage

Issues in the Design stage like will the design deliver the assets or services required; or

counterparty risks like the technical and operational capability of those who are to

deliver the infrastructure and the supporting or resulting services contracted for, Site

Selection, Geotechnical Survey, Schematic scope, definition and control, detailed

design, engineers design estimate, concept for work execution, schedule for execution

of work, schematic design(variations -20% to +20%), design developmentvariations -

15% to +15%), drawings, specifications

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etc. have to be dealt with. But another issue is, if design risk is to be allocated to the

developer, how and on what basis is transfer of this risk to be achieved? Sign off or

acceptance wording in bidders proposals for the design may indicate a mismatch of

expectations, which will need to be aligned.

Construction Phase

Issues during construction like delays in completion, occurrence of certain events that

hinder the progress of work, schedule (programmer) development, schedule

contingency, cost control, correct estimation of contingency etc have to be dealt with.

This is normally borne by the construction contractor involved in the scheme and

includes failure to complete construction within the agreed timeframe, cost overruns,

delays to the commissioning of the facilities and/or the start of the resulting service, and

inability to meet specified design and construction requirements. Risk assessments,

involving the measurement of loss to the commissioning party in different scenarios, are

of help in developing a liquidated damages regime, being one of a number of remedies

available to provide incentives to the developer to manage the project properly.

Operation Phase

Issues in the operation phase can be training, operability, maintainability, reliability etc.

Operating risk can be the required inputs for the construction or operation of the

infrastructure cost more than anticipated; the risk that maintenance costs will be higher

than anticipated due to bad design or defects in construction; technical obsolescence;

inadequate specifications leading to subsequent variations and unanticipated costs,

efficiency and reliability of the project in operation. To mitigate this, a reputed O&M

partner is appointed with long term binding contract and suitable performance

guarantees and is responsible for the day to day maintenance and operation of the asset.

If contract negotiations are not to be unduly protracted, it is essential that suitable key

performance indicators (KPI’s) are identified in advance, as a result of the work already

done under the risk management programme. The selection of appropriate KPI’s is

essential if the project objectives are to be realised, especially in service output focused

projects such as PPP’s. Many clients will have done this work, but most will not have

19


given much thought to a regime of credits or adjustments to the service charges if these

KPI’s are not achieved. A rigorous risk management programme will include

measurement of losses incurred if different kinds of operating risks are realised. This

work can considerably assist the development of an appropriate service credit regime;

RISK MANAGEMENT

Risk Management is the process of measuring, or assessing risk and then developing

strategies to manage the risk. In general, the strategies employed include transferring

the risk to another party, avoiding the risk, reducing the negative effect of the risk, and

accepting some or all of the consequences of a particular risk. Traditional risk

management focuses on risks stemming from physical or legal causes (e.g. natural

disasters or fires, accidents, death, and lawsuits)

Generally Regardless of the type of risk management, all large corporations have risk

management teams and small groups and corporations practice informal, if not formal,

risk management.

In ideal risk management, a prioritization process is followed whereby the risks with the

greatest loss and the greatest probability of occurring are handled first, and risks with

lower probability of occurrence and lower loss are handled later. In practice the process

can be very difficult, and balancing between risks with a high probability of occurrence

but lower loss vs. a risk with high loss but lower probability of occurrence can often be

mishandled.

Steps in the Risk Management Process

1) Establish the context

Establishing the context includes planning the remainder of the process and mapping

out the scope of the exercise, the identity and objectives of stakeholders, the basis upon

which risks will be evaluated and defining a framework for the process, and agenda for

identification and analysis.

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2) Risk Identification

After establishing the context, the next step in the process of managing risk is to

identify potential risks. Risks are about events that, when triggered, will cause

problems. Hence, risk identification can start with the source of problems, or with the

problem itself.

Source analysis Risk sources may be internal or external to the system that is

the target of risk management. Examples of risk sources are: stakeholders of a

project, employees of a company or the weather over an airport.

Problem analysis Risks are related to identify threats. For example: the threat

of losing money, the threat of abuse of privacy information or the threat of

accidents and casualties. The threats may exist with various entities, most

important with shareholder, customers and legislative bodies such as the

government.

When either source or problem is known, the events that a source may trigger or the

events that can lead to a problem can be investigated. The identification methods are

formed by templates or the development of templates for identifying source, problem or

event. Common risk identification methods are:

Objectives-based Risk Identification Organizations and project teams have

objectives. Any event that may endanger achieving an objective partly or

completely is identified as risk.

Scenario-based Risk Identification In scenario analysis different scenarios was

created. The scenarios may be the alternative ways to achieve an objective, or an

analysis of the interaction of forces in, for example, a market or battle. Any

event that triggers an undesired scenario alternative is identified as risk

Taxonomy-based Risk Identification The taxonomy in taxonomy-based risk

identification is a breakdown of possible risk sources. Based on the taxonomy

and knowledge of best practices, a questionnaire is compiled. The answers to the

questions reveal risks.

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Common-risk checking in several industries lists with known risks is available.

Each risk in the list can be checked for application to a particular situation. An

example of known risks in the software industry is the Common Vulnerability

and Exposures.

3) Risk Assessment

Once risks have been identified, they must then be assessed as to their potential severity

of loss and to the probability of occurrence. The fundamental difficulty in risk

assessment is determining the rate of occurrence since statistical information is not

available on all kinds of past incidents. Furthermore, evaluating the severity of the

consequences (impact) is often quite difficult for immaterial assets. Asset valuation is

another question that needs to be addressed. Thus, best educated opinions and available

statistics are the primary sources of information. Thus, there have been several theories

and attempts to quantify risks. Numerous different risk formulae exist, but perhaps the

most widely accepted formula for risk quantification is:

Rate of occurrence multiplied by the impact of the event equals risk

Later research has shown that the financial benefits of risk management are not so much

dependent on the formulae used. The most significant factor in risk management seems

to be that 1.) Risk assessment is performed frequently and 2.) It is done using as simple

methods as possible.

4) Potential Risk Treatments

Once risks have been identified and assessed, all techniques to manage the risk fall into

one or more of these four major categories: (Dorfman, 1997)

Transfer

Avoidance

Reduction (Mitigation)

Acceptance (Retention)

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Ideal use of these strategies may not be possible. Some of them may involve trade offs

that are not acceptable to the organization or person making the risk management

decisions.

Risk avoidance

It includes not performing an activity that could carry risk. An example would be not

buying a property or business in order to not take on the liability that comes with it.

Avoidance may seem the answer to all risks, but avoiding risks also means losing out on

the potential gain that accepting (retaining) the risk may have allowed. Not entering a

business to avoid the risk of loss also avoids the possibility of earning the profits.

Risk reduction

It involves methods that reduce the severity of the loss.

Risk retention

It involves accepting the loss when it occurs. True self insurance falls in this category.

Risk retention is a viable strategy for small risks where the cost of insuring against the

risk would be greater over time than the total losses sustained. All risks that are not

avoided or transferred are retained by default. This includes risks that are so large or

catastrophic that they either cannot be insured against or the premiums would be

infeasible. Political risks and wars is an example since most property and risks are not

insured against war, so the loss attributed by war is retained by the insured.

Risk transfer

It means causing another party to accept the risk, typically by contract or by hedging.

Insurance is one type of risk transfer that uses contracts. Other times it may involve

contract language that transfers a risk to another party without the payment of an

insurance premium. Liability among construction or other contractors is very often

transferred this way.

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http://en.wikipedia.org/wiki/Property


5) Create the plan

Decide on the combination of methods to be used for each risk. Each risk management

decision should be recorded and approved by the appropriate level of management. The

risk management plan should propose applicable and effective security controls for

managing the risks. A good risk management plan should contain a schedule for control

implementation and responsible persons for those actions. The risk management

concept is old but is still not very effectively measured

6) Implementation

Following of all of the planned methods for mitigating the effect of the risks and

purchase of insurance policies for the risks that have been decided to be transferred to

an insurer, avoid all risks that can be avoided without sacrificing the entity's goals,

reduce others, and retain the rest.

7) Review and evaluation of the plan

Initial risk management plans will never be perfect. Practice, experience, and actual loss

results, will necessitate changes in the plan and contribute information to allow possible

different decisions to be made in dealing with the risks being faced.

Risk analysis results and management plans should be updated periodically. There are

two primary reasons for this:

1. to evaluate whether the previously selected security controls are still applicable and

effective, and

2. to evaluate the possible risk level changes in the business environment. For

example, information risks are a good example of rapidly changing business

environment.

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RISK MANAGEMENT ACTIVITIES AS APPLIED TO PROJECT

MANAGEMENT

In project management, risk management includes the following activities:

Planning how risk management will be held in the particular project. Plan

should include risk management tasks, responsibilities, activities and budget.

Assigning a risk officer - a team member other than a project manager who is

responsible for foreseeing potential project problems. Typical characteristic of

risk officer is a healthy skepticism.

Maintaining live project risk database. Each risk should have the following

attributes: opening date, title, short description, probability and importance.

Optionally risk can have assigned person responsible for its resolution and date

till then risk still can be resolved.

Creating anonymous risk reporting channel. Each team member should have

possibility to report risk that he foresees in the project.

Preparing mitigation plans for risks that are chosen to be mitigated. The purpose

of the mitigation plan is to describe how this particular risk will be handled –

what, when, by who and how will be done to avoid it or minimize consequences

if it becomes a liability.

Summarizing planned and faced risks, effectiveness of mitigation activities and

effort spend for the risk management. (wikipedia)

CONTRACTUAL RISK MITIGATION

Contractual Risk Management is a systematic method of using proactive contracting

that is contract design and contract governance for the purpose of holistic management

of risks to the firm. It forms a part of the firms total risk management but adopts a view

internal to the contracting activities for the management of risks to the firm.

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Contractual risk management is based on an integration of the legal, economics and risk

management perspectives to the management of risks to the firm with the help of

contracting activities. Thus it can be tailored for the purpose of the firms strategic and

operative risk management.

Strategic Contractual Risk management will allow the firm to systematically develop

and manage its contracting activities and Operative Contractual Risk Management will

allow the firm to systematically manage its business transactions.

Thus risk mitigation through contracts is possible by

Identifying general risks connected to business transactions

Identification of legal norms regulating the transaction

Identification of the risks and risk distribution created by legal norms

Identification and evaluation of contractual risk management tools, prediction

and development of the viability of such contractual risk management tools,

followed by contractual risk allocation

Monitoring of changes in legal norms and their distribution of risks and the

viability of contractual risk management

Various Ways of Contractual Risk Mitigation

a) Hold Harmless Agreements: One type of agreement that transfers risk is

commonly known as a hold harmless agreement. Such agreements include

indemnity agreements. There are three types of indemnity: 1) Broad, 2)

Intermediate and 3) Limited. Contractors should indemnify and hold harmless a

local government from and against claims, damages, losses and expense arising out

of or resulting from the performance of their work. In addition, subcontractors and

service vendors should be held to this same standard. Much of the law that applies

to indemnification agreements was developed in the construction industry. When

considering hold harmless agreements in construction-related contracts,

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indemnification provisions should obligate contractors to assume any and all

liabilities associated with the performance of work.

b) Contractual Transfer for Risk Financing: Contractual transfer for risk financing

is a risk-financing technique and shifts only the financial burden of loss: it may or

may not involve insurance. “Contractual transfers for risk financing” typically share

the following three important characteristics: 1. the transferee promises to provide

funds without any promise of immediate equal repayment for the transferor (thus

creating a true transfer of the financial risk of loss). The funds are available to pay

only the losses that fall within the scope of the transfer agreement (which might be

limited in terms of the types of losses, perils or amount of losses for which the

financial burden is transferred). 3. The transferor’s financial security depends on the

transferee’s willingness and ability to pay and on the transfer agreement’s legal

enforceability. A contractual transfer for risk financing is equivalent to commercial

insurance except that the transferee is not the insurer.

One such technique is Syndicate banking or Consortium Banking which gets a

group of banks together within the same credit document, negotiate only one loan,

and have participating banks assume most of the administration and operations. It is

beneficial for the borrowers as well, for this helps them borrow large levels of

amounts normally not possible on a one to one basis, and bring in a competitive

element among the banks, which in turn results in lower debt service for the

borrower. Now the question comes as to why this cannot be financed using other

means of finance like debentures and bonds. The answer is; that though there is no

harm in financing projects through these means, the market may not be interested to

park their money in such high debt, high-risk and novice projects. Whereas, means

like syndicate banking may transfer the financial risk to the lending parties, the debt

risk can be mitigated by each lending party due to the large number of institutions

lending. It is up to the lead arranger whether or not to include other institutions as

well in the process (Syndicate process schema shown earlier).

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c) Contractual Transfer for Risk Control: Contractual transfer for Risk Control is a

frequent strategy for dealing with business risk — a strategy often called

subcontracting or outsourcing. Contractual transfer for Risk Control can easily be

mistaken for exposure avoidance. For certain types of infrastructure (in the power

sector in particular), there are risks pertaining to fuel supply such as the timely

availability of adequate amounts of fuel, price fluctuations and so on that must be

considered. Most investors prefer to allocate these risks to the host government;

either by having the government provide the fuel directly, or by obtaining a

contractual fuel pass-through agreement, wherein the tariff charged for usage of the

service provided by the infrastructure (e.g. the cost of electricity in the local setting),

reflects the cost of the fuel.

d) Project Insurance: Force Majeure or ‘Acts of God’ that are both unexpected and

out of the control of the project participants are also risks that may beset private

infrastructure projects. This risk is usually mitigated through the procurement of

project insurance from entities such as the Overseas Private Investment Corporation

(OPIC) and the Multilateral Investment Guarantee Agency (MIGA). Infrastructure

project contracts will normally include a clause dealing with the occurrence of

events outside the control of either party that prevent or limit completion of the

development or the delivery of the infrastructure service. These are likely to relate

to risks that have been identified in the risk management plan that are not easy to

allocate to either party. If there is already good understanding of what those risks

might be and how important they are, it will be possible to more quickly move to a

preferred position on the scope of force majeure. In some cases, it will be

determined that some of these identified risks can indeed be better managed by one

side than the other and that the force majeure clause should not apply. In other

situations, it will be necessary to consider how and on what basis the financial

consequences of the force majeure event should be shared on a equitable basis.

e) Early termination: The contract documentation for an infrastructure project will

also have to provide for early termination rights in the event of a major contract

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breach, or as a result of persistent defaults in relation to some kinds of contract

breach. A robust assessment of risk should already have identified those risks (and

therefore those kind of events) that if realized are likely to have the most significant

adverse effect on the objectives set for the project. The job of identifying which of

these should or should not count as termination events under the contract will be

made much easier if this kind of risk assessment has been already done.

f) Liability limitation: It should be anticipated that developers and service providers

will require some form of limitation on the liabilities to which they are exposed

during the course of the project. This is a classic ‘risk take-back’ scenario for the

commissioning party. The commissioning party may have planned for transfers to

be effected in respect of many of the risks that have been identified. The

commissioning party also needs to understand what effect different liability

limitation regimes will have on its expected monetary value for the project even if it

is successful in gaining acceptance of most of these risk transfers. In the absence of

a well prepared risk management programme, it is difficult to take an informed view

on an appropriate liability limitation regime.

g) Power Purchase Agreements: In case of power projects is an apt example of

contractual risk management methods. The Power Purchase Agreement (PPA) is the

heart and soul of a private power project. The Request for Proposal provided to the

pre-qualified bidders should include the PPA as a part of the solicitation documents.

The PPA guarantees a market and a corresponding revenue stream for the power

to be produced by the project. Second, the PPA defines the rights and

obligations of the project developer and SEB during the development,

construction and operation phases of the useful life of a privately owned power

plant.

The PPA defines the service that the SEB can expect and which it must be

entitled to rely upon in planning to meet its customers needs. The PPA has to

ensure that performance is rendered as promised.

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The PPA allocates the risks associated with a power project, including fuel

prices other operating costs, financing costs, construction cost and various

performance factors. Related documents that may be necessary in course of

structuring the power purchase agreement are guarantees from the SEB or the

State Government, governmental authorizations to produce electricity,

environmental aspects, etc.

The PPA defines the service that the project developer and the power plant will

provide to the SEB through several provisions, including :

a) Technical description of the power plant, performance standards, quality of

power to be produced, detailed specification of fuel, environmental

responsibilities.

b) Term of PPA, including the provision of extension, early termination,

transfer of the project at the end of the PPA term.

c) the O & M procedures, metering arrangements, payment and billing terms,

protection equipment, personnel and safety requirements, operating records,

performance level, spare parts.

d) Energy price, O&M costs, penalty and bonus terms, third party sales.

e) Milestones for progress of construction, construction monitoring by SEB.

f) Force majeure provisions, labour disputes, regulatory changes, disputes

resolution, modification or amendments, Governing law, termination and

buy out provisions, etc.

The PPA is the source of all funds and should be commercially viable. Both SEBs

and developers-and their finances - will be paying the closest attention to the PPA.

The other agreements included in a successful private power project financing must

complement the PPA. The State Electricity Boards should retain control over

drafting of the PPA and this will give them a significant advantage in negotiation.

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h) Hedging Market Risks and Forward Covers: Forward cover can be taken against

the risk of the adverse movements in foreign exchange rates, to which a party is

exposed in the context of a proposed infrastructure project. The costs of taking this

cover out may be less for the commissioning party if that party is a government

organization. Therefore, there may be net benefits in accepting this risk, but then

mitigating that risk by the use of forward cover instruments.

Derivative instruments that are commonly used to hedge interest rate risk in project

financing include: rate locks to hedge bond issues; pay-fixed swaps and caps to hedge

floating-rate risk; and receive-fixed swaps to reduce negative spread. To hedge currency

risks, sponsors and lenders to the project can use long-dated cross-currency swaps to

hedge local revenues (which may be converted into dollar) against depreciation versus

non-dollar debt costs, while shorter-dated foreign exchange transactions can be used to

hedge local construction expenses against the risk that the local currency may

appreciate. Derivatives not only help to hedge commodity-based revenues against

variations in often volatile commodity prices, but can be structured to link interest rate

levels to commodity prices. And sovereign exposure decisions can be monetized by

sponsors entering into over-the-counter option agreements.

When the use of scenario generation and stress testing does show up weaknesses in the

finances of a certain project, hedging solutions can be used to effectively "box" risks

and to improve cash flow certainty. Such practices will undoubtedly improve the

financing terms of the deal and possibly increase the amount of debt that the project can

raise. In these cases, sponsors should consider using options in the form of caps and

floors to limit their exposure. These instruments will allow the sponsor to lay off some

proportion of its risk while also keeping part of the upside.

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CHAPTER 2

PROJECT MANAGEMENT AT SIMENS LTD.

ABOUT SIEMENS

Siemens World Wide

Siemens is one of the world’s leading companies in the development, manufacture and

marketing of electrical and electronic engineering. Established in Germany in 1847,

today the company is organized into nine major business groups, exclusively in

electrical and electronic engineering. They cover the fields of energy, industry,

information and communications, transportation, health care, components, lighting and

financial services.

Siemens Limited

Siemens Limited or Siemens India is the flagship company of the multinational

enterprise owned by Siemens AG (SAG) of Munich, Germany. The shareholding of

Siemens India currently is more than 51 %. Siemens India has been present in the

Indian Power Sector for over five decades and has supplied know how, eco-friendly

technology and equipment, both in public as well as private sector. It manufactures and

supplies the components, which are the building blocks for economical power

generation.

Siemens Limited- Power Generation

The power generation division of Siemens India (SL-PG) is in the business of setting up

power plants, automation of power plants and servicing of power plants. Since the

business of the division is essentially in the nature of execution of projects. It has no

manufacturing base and places orders on the other divisions for manufacturing.

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RANGE OF ACTIVITIES IN POWER GENERATION DIVISION:

The range of activities of SL-PG includes:

Power Projects

o Thermal Projects

o Hydro Projects

Power Plant Automation

Power Plant Service

Design and Engineering

Power Projects: in connection with the thermal and hydro projects, SL-PG avails

technical services from SAG as needed. In respect of erection, commissioning and

installation contracts of SL-PG with its customers, it obtains technical assistance from

SAG on a need- basis for erection, commissioning and installation of equipment

supplied by SAG to customer, which are in the nature if engineering services. SL-PG

remunerates SAG on a daily basis for these technical services.

Power Plant Automation: the power plant automation department of SL-PG meets the

entire automation needs of power plants of any type and size. The range of

comprehensive services for automation include project management, manufacturing,

engineering, software, installation, commissioning and after sales services as well as

modernization and renovation.

The major customers serviced by the department comprise of Independent Power Plants

(IPP) as well as utilities. Major customers include Hindalco, Tata Trombay,

Instrumentation Limited Kota, Damodar Valley Corporation etc. Power plant

automation is done not only for the projects brought by the clients but also the existing

projects under taken by Siemens. SL-PG also acts as a distributor of products like

modules, transmitters and spares manufactured by SAG.

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Power Plant Services: this department of SL-PG services clients to meet their needs

for service and spares for Gas Turbines and Generators and Auxiliaries. The service

division of SL-PG offers integrated solutions for improving the efficiency availability

of the turbines and genets. The department provides services in the areas of:

Planned and preventive maintenance/ overhauls and repair of power plants

Emergency services

Spare Parts Management

Relocation of old sets and erection of new turbine generator sets

Design and Development Department: SL-PG set up a Design Centre with an

objective of providing renovation and modernization of old turbine and generator sets to

take advantage of skilled manpower available at a relatively lower cost. This group has

experts in design of Steam Turbines, Generators, Layouts and related fields. SAG is the

only customer for this department. For various jobs, which SAG procures for turbine

manufacturing, it sub-contracts the design portion to SL-PG.

Power Generation offers complete solutions and services for all kinds of power plants.

This includes gas and steam power plants for the utility, industrial and captive power

segments. Power Generation has Automation, services, Thermal and DDIT GGs.

PROJECT MANAGEMENT AT SIEMENS

Definitions:

‘A set of coordinated activities with a specific start and finish, pursuing a

specific goal with constraints on time, cost and resources’ (ISO 8402)

‘A management environment that is created for the purpose of delivering one or

more business products according to a specified business case.’

A project has some or all of these features:

Unique, Non-Repetitive

Multiple Projects

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Multiple Linked Tasks

Multiple Agencies

Limited Time

Limited Resources

Engineering

Process Know-How

Planning And Controlling

Unknown Risks

A successful project should also include coordination, prioritization, and optimization.

PROCESS OF PROJECT MANAGEMENT

The process of project management includes the following steps (Official Documents,

Siemens Ltd.,2004):

a) Acquisition Phase

b) Offering Phase

c) Realization Phase

d) Operation Phase

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Project Management ProcessProject Management Process

Pre Acquisition

Project Acquisition

Bid Preparation

Contract Negotiation

Project Handover

Project Opening and Clarifications

Detailed Planning

Sourcing And Manuf’g

Shipment

Erection/Installation

Commissioning

Acceptance Test

Warranty Period

AcquisitionAcquisitionPhasePhase

OfferingOfferingPhasePhase

Realization Realization PhasePhase

Realization Realization PhasePhase

Operation Operation PhasePhase

Source: Official Documents, Siemens Ltd.

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Acquisition Phase

a) Pre-Acquisition- PM process begins with check listing the requirements. It

comprises of the following steps:

Analyze Inquiry or identify expected business

Identify Internal business coordinators

Create/ Adapt business plan and assess expected business

Inform for product portfolio process

Record pre-acquisition and project data

b) Pre-Acquisition- Go or no go decision

Investment approval for defined sales resources

Outline description of customer and business context

Outline description of the potential orders (scope of supply and anticipated

sales)

c) Project Acquisition - Requirements

Evaluate expected business

Analyze and structure customer’s requirements

Analyze customer’s business field

Develop rough financing concept

Define bid scope and determine responsibilities

Perform rough risk assessment

Obtain bid budget approval

d) Project Acquisition- Bid or no bid

Investment approval for defined bid preparation resources

Supplemented expected order document

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Documented customer inquiry

Analysis of context (Strength, weaknesses, opportunities, and risks)

Rough risk and cost estimate

Planned project/service share and volume, expected profit

Appointment of Proposal Management

Stipulation of partner and supplier strategy

Preliminary commercial and legal examination

Bid or no Bid decision matrix

Integration of export control

Stipulation of contract management and claim strategy

Offering Phase

a) Bid Preparation- Requirements

Set up bid project

Create bid parts

Analyze and supplement risk assessments

Review and confirm project classification

Prepare bid approval (LOA documents depending on the category of the project)

b) Bid Approval

Detailed project description (project plan and solutions)

Detailed project cost calculation (sales, EVA)

Completed bid documentation

Approval by all organizations involved

Current risk assessment

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Current project classification

Approval for submission of bid to the customer

Signed bid approval

Defined negotiation framework

c) Contract Negotiation- Requirements:

Hand over bid to customer

Prepare and realize customer presentation

Process customer feedback and change bid

Develop negotiation strategy

Organize and conduct contract negotiations

Obtain approval for contract signing

d) Contract Negotiation- after the project is won

Signed acknowledgement of order

Final contract documentation

Described changes to the bid (resources, legal aspects, solutions, etc.)

Revised risk evaluation including risk assessment, likelihood of occurrence

Approval by risk board in charge

Adapted escalation level

e) Contract Negotiation- Loss order Analysis

Track contract winner

Reasons for the contract loss

Relief for proposal management

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f) Project Handover- requirements

Allocate overall and commercial project managers

Update project documentation

Analyze the orders

Realization Phase:

1. Start Project

Project manager and commercial project manager appointed

Complete contract and bid documents handed over to project manager

Changes between contract and bid documented

Scope of delivery and cost calculation adapted

Risk analysis and adjustment of actions to reduce risk, final dialog with Bid

manager

2. Project opening and clarification- Requirements

Set up project organization and roles and responsibilities

Open project account and a project structure

Perform detailed site check

Clarify contract in legal and commercial terms

Create project structure and complete as sold cost calculations

Change and claim strategy documented

Perform a project assessment (PMA)

3. Order receipt clarified

Project organization completed

Detailed agreement with customer on scope of deliveries and services and

specifications

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Change and claim strategy completed

Contract structures adapted

Target agreements drawn up

Project structure created

As sold cost calculation finalized

4. Detailed planning- Requirements

Determine technical basis, solutions and implementation of approval

Perform detailed design

Create and release detailed specifications

Freeze basic schedule

Complete sourcing concept

Complete quality plan, risk analysis

5. Approval of detailed analysis

Approved documents for erection

Approval documents for purchasing

Selected suppliers/service providers

Completed service concept

Create current costing

Create QM plan

Stipulate frequency of following milestone meetings

6. Purchasing and manufacturing

Manufacture own products

Place orders

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Trace/expedite manufacture

Perform work acceptance

7. Dispatch approval

Notification of completion readiness

Packing list with current weights and dimensions of packing units

Export declaration prepared

Pro-forma invoice for customs clearance

Packaging and dispatch information

Notification of readiness of site

8. Dispatch-requirements

Obtain approval for dispatch

Plan and monitor dispatch

Organize infrastructure (tools, approval)

Inspect dispatch goods for damage

Plan assignment of internal and external resources

9. Material and Resources at site

Goods received and incorporated in inventories

Site ready for plant erection

Resources available

10. Erection/ Installation

Erection completed

Erection reports prepared

Handover of all documents to commissioning

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Commissioning protocols prepared

Site ready for commissioning

11. Commissioning

Commission plant/system

Perform internal system/ plant test

Create final execution documentation

Organize customer training

12. Commissioning Completed

Commissioning completed

Documented list of open points/ punch list

Documented commissioning results/test

Updated execution documents prepared

13. Acceptance Test- Requirements

Plan for acceptance test

Perform acceptance test

Create provisional customer documentation

Organize customer training

14. Provisional Customer Acceptance

Provisional customer acceptance signed

List of open points adopted together with customer

Acceptance test documentation completed

Provisional customer documentation drawn up

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Operation Phase

a) Warranty period

Reduce outstanding points

Create final customer documentation

Archive project

Create final project report

Dissolve project organization

Conclude warranty

Request FAC

b) Final customer acceptance

Final customer acceptance signed

Bank guarantee returned

Final customer documentation prepared

Final project report prepared

Enablers In Project Management

There are certain factors, which act as catalysts or enablers in the process of project

management. These are:

a. Risk Management

b. Change/Claim Management

c. Quality Management

d. Project Management Assessment

e. Scheduling

f. Cost Asset Controlling

g. Project Reporting

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RISK MANAGEMENT AT SIEMENS LTD.

Risk management embraces the whole spectrum of activities and measures associated

with the identification, evaluation, and handling of risks. (Official Documents, Siemens

Ltd, 2004)

Types Of Risks

Risks can be of the following types:

Market/Industry Risks

o Technology innovation pressure

o Risks of substitution

o Life cycle of products

o Customer behavior

o Changes in regulatory and taxation policies

RISK IDENTIFICATIONIdentification of

risks/sources of risks by a systematic procedure

RISK EVALUATIONQuantitative evaluation of

risks concerning their impact and probability

RISK HANDLINGMeasures and mechanisms

for influencing risks

RISK CONTROLLINGOngoing reporting and

monitoring of risks and risk handling mechanisms

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Business management Risks

o Capacity utilization of plant

o Management of alliances/joint ventures

o Knowledge management

o Location/multiple sites

o Distribution channels

Operation Management Risks (technological)

o Development-time to market

o Efficiency in R&D

o Delivery time in construction/projects

o Overall logistic process

o Quality in manufacturing

Operation Management Risks (Strategy)

o Strategic analysis of the business field environment

o Corporate governance

o Project Calculation/Project Selection

o After-sale customer service

o External communication/investor relations

Financial risks

o Currency fluctuations

o Interest rate fluctuations

o Credit risks

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o Country risks

Purchasing risks

o Supplier engagement

o Supplier behavior

o Purchase prices/commodity risks

o Purchasing logistics

o Dependency risk

Other IT-Risks & Human Risks

o Loss of use of information systems

o Misuse of information systems

o IT development & implementation

o Key Personnel

o Reward systems

Legal Risks

o Reaction to changes in legal/accounting/ taxation

o Legal risks in product development

o Legal risks in sales

o Technology transfer

o Environment

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Result Of Risk Management

The result of risk management is a reduction in financial impact and/or probability of

occurrence.

WORK PROCESS AT COMMERCIAL DEPARTMENT (SIEMENS

LTD.)- POWER GENERATION DIVISION

Offer Costing

Offer costing is the method by which Siemens Ltd. calculates the total price (I.e. supply

and E&C) it shall quote to the client for the offer made for a contract.

The price is calculated entirely on the basis of Ex-works. A work sheet is prepared

wherein the cost incurred by Siemens is added to the profit margin. Cost incurred may

include cost of engineering and system integration, financing costs, administration

costs, sales overheads and bank guarantee costs. To this are added, the risks involved

and the negotiating margin.

Risk before risk- handling measures

Risk after risk-handling measures

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(Copies of worksheets including the factor sheet, and the other excel sheets prepared for

the Balswara Project, have been attached in annexure 1 to 4).

Order Booking

Two kinds of transactions occur at Siemens;

a) Cost Completion Method/ Normal Method

b) Percentage of Completion Method

Each kind differs in the way it is booked in the company’s accounts.

Cost Completion Method

Under CCM, Siemens undertakes direct billing to the client. The transactions here

usually include spare parts, standard products etc. There are two kinds of cost scenarios

appearing therein:

1) Accruals

2) Unbilled Cost

Accruals: For instance, let there be four vendors, A, B, C and D who supply material

for the execution of the contract. Let the order value be Rs.100. Siemens assumes a

sales margin of 10% i.e. Rs.10.

Then, the planned cost will be: Rs100- 10=Rs. 90

When the vendors supply the materials, all but one vendor, say vendor C, invoice the

supply. In such a case, Siemens cannot book the cost of C’s material since there is no

invoice supporting it. Thus, actual cost will be the sum of values of A, B and D’s

supplies.

Particulars (Rs.)

Order Value 100

Less: Sales Margin@ 10% 10

Planned Cost 90

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Less: Actual Cost

A – 20

B – 20

(20) C – 00

D – 30 70

Accruals 20

C’s material cost, which has not yet been billed yet by him, cannot form a part of actual

cost and thus be counted as accruals.

Unbilled Cost: Assuming the order value Rs.100 and the sales margin 10% (Rs.10),

lets say only A and C have supplied the material. The actual cost here, (A+C) Rs. 40,

which cannot be negated from Rs. 90 (planned cost) until all the vendors supply the

material. (The rest B+D = 50 is yet to be achieved). Here Rs. 40 will be the unbilled

cost till the material for the remaining Rs.50 is not delivered and invoiced. Unbilled cost

is nothing but WIP yet to be turned over.

Particulars (Rs.)

Order Value 100

Less: Sales Margin@ 10% 10

Anticipated Cost 90

Less: Actual Cost

A – 20

(20) B – 00

C – 20

(30) D – 00 40 Unbilled Cost

Remaining 50

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Percentage of Completion Method

This method works on the US GAAP measures. Here the revenue of the project is

recovered on the basis of the percentage value of project completed.

Terms to be understood in this context are:

a) Order Value (Rs.100)

b) Sales Margin (10%)

c) Planned Cost (Rs.90)

d) Actual Cost

e) Percentage of Completion (POC)

f) Progress Billing

g) Excess Billing

h) Excess Cost

POC: It is the revenue to be obtained as per the cost incurred for the percentage value

of the project completed plus the sales margin. Thus, POC= Actual Cost+ Sales

Margin.

Progress Billing (PB): It is the amount that the client / customer is charged for the

percentage of order executed or completed.

Excess Billing and Excess Cost: PB can be greater than or less than POC. Whenever

POC is lesser than PB, it is a case of Excess Billing and whenever POC is greater than

PB, it is case of Excess Cost.

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Calculation of EBIT and Net Working Capital

Calculation Of EBIT:

Particulars (Rs.)

Order Value XXXX

Turnover

Less: Cost of Sales

Sales Margin

Less: Selling Expenses (Salaries, postage, rent)

EBIT

Less: Tax

PBT

VKA Analysis or Calculation of Net Working Capital

Particulars (Rs.)

Debtors

Add: Net Inventory*

Other Current Assets

Less: Other Current Liabilities

Excess Billing

Accruals

Trade Creditors

Net Working Capital

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*Net Inventory- Calculation:

Particulars (Rs.)

Physical

Add: Unbilled Cost

Goods in Transit

Excess Cost

Advance to Suppliers

Gross Inventory

Less: Customer Advance Payment (CAP)

Net Inventory

(Profitability Statement, Overview of results and OCC-PCC Survey Project report are

attached in annexure 5 to 7)

About EVA Or Economic Value Added

Economic Value Added (EVA) is a robust financial measure to evaluate how efficiently

a company is using its capital. It is unique in that it measures the return on capital

employed and the cost of capital employed. The difference between the two is EVA.

The return on capital is measured by net operating after taxes (NOPAT) and the cost of

capital is measured by taking the cost of equity and cost of debt. As an absolute figure,

it tells how much economic value is added every year as a percentage of capital

employed, and one can compare the trend over the years to see whether it is improving.

Thus when the operating profit of a company decreases or when the cost of capital

increases, the EVA declines and vice versa.

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TRANSFER PRICING AT SIEMENS

Siemens India engages in international transactions with Siemens Aktiengeselschaft

(SAG), in Germany, which fall under the purview of transfer pricing norms. Any

income arising from an international transaction (all transactions between Siemens India

and its associated enterprises) is computed having regard to the arm’s length price. The

newest provisions of the Finance Act, 2001, enacted by the Government of India require

commercial outcomes arising from international transactions between associated

enterprises to be consistent with the arm’s length principle.

The arm’s length principle has been endorsed as the standard for transfer pricing in

India and throughout various tax jurisdictions around the world. In this regard, the

provisions contained in section 92C provide for methods to determine the arm’s length

price in relation to the international transactions with the associated enterprises and

rules 10A to 10E give the manner and circumstances in which different methods can be

applied, and the factors governing the selection of the most appropriate method to

calculate the arm’s length price.

Selection of Most Appropriate Method

The calculation of arm’s length price has to be done by using the ‘the most appropriate

method’. The various options to choose from for this purpose are as follows:

a) Comparable Uncontrolled Price Method (CUP)

b) Resale Price Method (RPM)

c) Cost Plus Method (CLPM)

d) Profit Split Method (PSM)

e) Transactional Net Profit Margin Method (TNMM)

International Transactions between SL-PG and SAG

Following are the international transactions between SL-PG and SAG;

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a) Provision of Technical Services to SAG: This involves deputing personnel to

SAG and export of design in the form of drawings to SAG.

b) SAP Support Services: SL-PG provides back office SAP data processing

services to SAG. The transaction and data processing services involve filling up

of information into systems for SAG so as to enables it to give a quote to its

customers. For rendering this service, SL-PG charges a fixed fee to SAG.

c) Availing of Technical Services: Based on the need and requirement of SL-PG,

SAG provides technical services to SL-PG for erection, commissioning and

installation of power plants in India and for power plant service department.

d) Distribution (Import of spares for resale): SL-PG imports spares and modules

manufactured by SAG for resale in Indian market without any value addition.

SAG undertakes the entire research and development, design and other high-end

technical activities. The entire manufacturing risk and development risk is borne

by SAG. SL-Pg merely acts as a distributor.

e) Sales Agency Services: SL-PG provides sales agency services (such as

receiving trade enquiries/identifying opportunities for SAG, enabling SAG to

finalize the final quote to SAG for utility and industrial turbine power plant

service department and for getting mandates in India.

RISK REPORTING AT SIEMENS LTD.

Operating risk: The project coordinators undertake the process of Risk Reporting to

the risk champion for the projects undertaken by them on a monthly basis. The risk

champion consolidates, evaluates, and reports the risk for PG on a quarterly basis to the

Head Office.

All the projects greater than Rs. 5 million are covered in the risk report. There are

guidelines wherein the various categories of opportunities and risks to be reported are

identified. The risk report contains the value of risk and the probability of risk

occurrence. The action for mitigation is also stated.

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Liquidated Damages: In every risk report, the risks of every project are identified. The

risks of the project are in the form of Liquidated Damages, the probability of which is

identified by the Project Coordinators. If the probability is more than 50% the provision

for liquidated damages is created as per the terms stated in the contract.

Debtors: Average credit period is 30 to 60 days as per the terms. The bank guarantee is

issued in favor of the customers against advance/performance/warranty period.

CLAIMS MANAGEMENT AT SIEMENS LTD.

Siemens Ltd. practices contractual risk mitigation in order to counter risks that come in

way during the implementation of projects. It banks on another concept called Claims

management to face such situations.

What is a Claim?

A claim is a financial, material or time demand by a contractual partner as a result of

actions, omissions, deviations or impediments in fulfillment of the contract. A claim

may have a built in conflict potential. Ideally, each contractual partner should strive to

convert claim into change orders. (Official documents, Siemens Ltd. 2004)

A change order is a financial, material or time request of a contractual partner and

usually results in a mutually agreed amendment to the contract.

Claims arise due to contractual grey zones e.g. unclear tasks, interfaces, differences of

interpretations, contractual omissions, planning errors, new requirements, contractual

failures e.g. supplier’s delivery delays, delays in customer engineering inputs,

payments, supplies and site fronts, non-fulfillment of technical specifications, third

party actions, events e.g. strikes, changes in laws, delays in approvals and force majuere

conditions.

Types of Claims

Financial

o Extra costs

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o Price reduction

o Penalties/ Liquidated Damages

Deadlines

o Time extension

o Advancement in Schedules

Material

o Fulfillment of technical specifications

o Fulfillment of general contractual conditions e.g. payment terms,

approvals, customer supplies, plant acceptance

Claims can be External (customer, supplier, consortium partner) and Internal

(own division, other division)

Why Claims Management?

There is no project without changes. Changes can cause enormous losses to both

purchasers and suppliers. Due to all this, Claims management becomes important. Also,

the impacts of changes could vary widely and there is sno basis for suppliers to

calculate and build safety factors into their prices or delivery commitments.

Objectives of Claims Management

The objectives of claims management are as follows:

To recognize own and opposing claims actively and timely

To realize own claims efficiently

To defend opposing claims successfully

Choice of Claims Strategy for a specific project

There can be two kinds of claims strategies: Defensive Claims Strategy and Offensive

Claims Strategy. Choice is influenced by

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Corporate culture

Corporate claims strategy

Relationship with the contractual partner(past experiences, expectations)

Project specific conditions

Claims Management before the Contract

Claims Management before the contract may include exactness in defining scope of

supplies, services, and documentation, trigger clauses, clauses defining “Customer

Acceptance”, Liquidated Damages Clause, and Force Majeure Clauses etc.

The objectives:

Anticipate all future claims while phrasing the contract

Build in rules for resolving conflicts

Improve the quality of the contract

Reduce grey areas

Claims Management after the Contract but before the event

The objective is to establish an early warning system for developments that could give

rise to claim events. for eg.:

Delays or hindrances from the customers side

Delays or hindrances by a third party

A strike in a suppliers work

Changes in taxation laws

Civil and transportation disturbances

In this phase, the paper work has to be carefully prepared. Each letter must be politely

clear and exact and a systematic case has to be build up.

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Claims Management after the Event

Step 1

Early problem recognition- foundation of a claim

Is there a deviation from the contract?

Is it a potential change order?

If not, compile the basic (easily available) documentation

The facts of the case

The causes

The effects

Judge the situation

Does it fit the claim strategy for the project?

The contractual risks

The chances of success with the basic documentation

The possible strength of further documentation(as evidence)

Efforts vs. results

Step 2

if there is a worthwhile claim case, collect detailed documentation. For site

related claims, a site diary and photograph can prove invaluable

the effort can be large but worth it- watertight evidence is needed for success

put a value to the claim considering

is it a delivery extension, scope reduction or price increase?

Is the value contractually definable, should it be based on actual; costs or

be intentionally exaggerated?

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Is it an individual claim, or a group claim or is it for the whole project?

Step 3

Formulate the claim

Summary of the event

Convincing argumentation of the event(attach the files)

The consequent (quantified) demand

The formulation is the basis for negotiations and is crucial for their success

Make an entry (running no. , short description, value, status, success) in the

project specific claims register(for customers and suppliers)

Control results- how successful are the claims strategy?

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CHAPTER 3

APPRAISAL OF A POWER PLANT BY SEMENS LTD.

SUGEN CCPP- A JOINT VENTURE AGREEMENT BETWEEN TORRENT PRIVATE LIMITED AND SIEMENS AKTIENGESELSCHAFT (AG) AND SIEMENS INDIA

ABOUT THE POWER PROJECT

Torrent Group is developing and implementing a combined cycle power plant near

village Akhakhol, Distt. Surat. The project named SUGEN CCPP is a backward

integration initiative by the Torrent Group. The plant is expected to make a significant

contribution towards expanding and securing environmentally compatible power supply

in the cities of Ahmedabad, Surat and Gandhinagar in Gujarat, India.

This project, valued at over Euro 400 million, is the second turnkey project that

Siemens will implement for the Torrent Group following the successful execution of its

655MW combined-cycle power plant at Pathguthan, Gujarat. (Consent and Agreement:

Annexure 10).

Alstom and Siemens were the only bidders for the Engineering Procurement and

Construction contract for the mega power plant in Surat. Torrent Group has just

launched Torrent Power,which will be a common brand name used by these two

companies along with Torrent Power Generation Ltd.

GoG had initially approved TPSEC setting up a 675 MW power plant. However,

considering the projected increase in demand in the license areas of TPAEC / TPSEC as

well as to take advantage of economies of scale with ‘Mega Power Project’ status

(which results in substantial saving in project cost and thus tariff), Torrent Group

proposed to set up a 1100 MW power project through an SPV – Torrent Power

Generation Limited. (“TPGL”) The Government of Gujarat later enhanced the capacity

to 1000+ MW power project and permitted the project to be set up under TPGL.

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The Plant shall use Re gasified Liquefied Natural Gas(R-LNG)/Natural Gas (NG) as

fuel. Globally it has been acknowledged that RLNG/NG are the most environment

friendly fuel for large scale power generation due to its low sulphur content and lower

emission of green house gases like CO2 and NO2 as compared to other fuels like Coal.

The project has been given the status of a mega power plant. He plant is being

implemented, considering the need to cater to the ever increasing demand in the

prevailing area.

POWER SECTOR- AN OVERVIEW

Power is one of the prime movers of economic development. The installed generation

capacity has risen from around 1300MW at the time of independence to more than

1,10,000 MW today. However, despite the phenomenal and required matching increase

in the transmission and distribution (T&D) capacity, the power sector has not kept pace

with the growth in demand resulting in an energy demand-supply gap.

With the liberalization of Indian economy in 1991, Power Generation sector was

opened up for private participation. Since then hundreds of projects have been signed.

The long gestation of power projects involves very high cost of development. The

funding of these IPP projects is based on Project Finance concept and largely dependent

on future cash flows.

Segments in the Power Industry

Essentially, the delivery of electric power to the doorstep/ wall-socket of the end-to-end

consumer is the result of interplay of three major segments of the generation and

delivery chain:

Generation- this segment involves generation of electric power from fossil fuels

like gas, coal, oil etc., renewable energy sources covering different forms such

as solar, wind, biomass, small hydro, geo-thermal, tidal, wave etc. and nuclear

matter using various technologies.

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Transmission- evacuation of power from the generation facilities at high

voltage levels over relatively long distances and its delivery in bulk quantities to

the receiving facilities of the local distributor.

Distribution/ Supply- receipt of bulk power from the transmission facilities and

supply to the end-to-end consumers within a local geographical unit at a lower

voltage level. The entities in this segment constitute the retail interface of the

industry and address supply, quality, billing and issues typical to the end

consumers.

The Indian Scenario

BHEL has by far been the leading player in Power Generation Equipment or Power

Plant Equipment (PPE) with a market share of 65% of the installed base in India. Other

players are Siemens, GE, Alstom, Ansaldo and Hanjung. With upsurge of independent

power producers and international competitive bidding setting in, players like

Mitsubishi, Hanjung and Chinese manufacturers are also making their presence felt.

The annual demand for PPE in India is around 90 billion.

The International Scenario

The ‘Big 4’- GE, Siemens, Alstom, and Mitsubishi, dominates the global PPE industry.

Their dominance stems from leadership in turbines and boilers and international

presence, which reduces volatility in earnings resulting from bunching of projects in a

certain region. The global market size for equipment is around 40 billion per annum.

The other players are –Ansaldo, Hyundai and Hanjung.

Policy initiatives in Power sector

FDI upto 100% is allowed under automatic approval route in respect of projects

relating to electricity generation, transmission and distribution, other than

atomic reactor power plants. No limit on the project cost and quantum of FDI.

The category which would qualify for such approval are: (i) Hydroelectric

power plants (ii) Coal / Lignite based thermal power plants (iii) Oil /Gas based

thermal power plants.

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A Central Electricity Regulatory Commission (CERC) constituted under the

provision of ERC Act, 1998, has become functional. It regulates tariff of

generating companies owned or controlled by the Central Government if they

have a composite scheme for generation and sale of electricity in more than one

state. CERC has finalised the Indian Electricity Grid Code.

CERC regulates inter-state transmission of energy including tariff of the

transmission utilities. It arbitrates or adjudicates upon disputes involving the

Generating companies and transmission utilities in matters relating to tariffs.

Under revised mega power policy, the main objective is to set up mega power

projects to generate power at the lowest possible tariff by utilizing economies of

scale and setting up of such plants at pithead or coastal areas so that it can act as

catalyst for the reforms in the beneficiary states.

Power Trading Corporation (PTC) incorporated for buying power from mega

power projects in private sector and selling it to the beneficiary states.

Certain fiscal concessions given to mega power projects to make the tariff

cheaper, like duty free import of capital goods, deemed export benefit and

Income Tax holiday for 10 years.

Ten years tax holiday out of fifteen years under Section 80 IA of IT Act w.e.f.

01.04.2002, for:

- An industrial undertaking for the generation or generation and

distribution of power beginning from 01.04.1993 and ending on

31.03.2006.

- An industrial undertaking which starts transmission or distribution by

laying a network of new transmission or distribution lines at any time

during the period beginning 01.04.1999 and ending on 31.03.2006.

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Liquid Fuel Policy aims at setting up of short gestation power projects based on

liquid fuels viz; Naptha, HPS, LSHS, HFO, FO, Refinery Residue and

Petroleum Coke.

The policy guidelines for the private sector participation in Renovation and

Modernisation, details out various options like Lease, Rehabilitate, Operate and

Transfer (LROT), sale of plant and joint venture between SEBs and private

companies.

Import of Naphtha by actual user Power Project without any import restriction

allowed. Fuel policy encouraging use of other alternative fuels announced.

Allocation to the Accelerated Power Development Program (APDP) stepped up

to Rs 1,500 crore from a level of Rs 1,000 crore in 2000-01.

Securitisation of dues of central sector power and coal utilities for assisting the

SEBs in clearing dues.

Central Government to accelerate the program of reforms for State Electricity

Boards (SEBs) anchored in Centre-State partnership on the following:

- A time bound program for installation of 100 percent metering.

- Energy audit at all levels.

- Commercialization of distribution.

- SEB restructuring.

Enactment of Energy Conservation Act, 2001.

Electricity Bill 2001 has been introduced in Parliament.

A Crisis Resolution Group (CRG) set up in the Ministry of Power on

01.01.1999 under the chairmanship of Union Minister of Power to resolve the

last minute problems of power projects so that they achieve financial closure and

start construction.

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NEED FOR PRIVATE PARTICIPATION IN POWER PROJECTS

Power sector is witnessing a critical phase. State Electricity Boards (SEBs) are

responsible for providing electricity to the people. Most of the SEBs is cash strapped.

They are not even able to earn a minimum Rate of Return (ROR) of 3% on their net

fixed assets in service after providing for depreciation and interest charges in

accordance with Section 59of the Electricity (Supply) Act, 1948. The power sector in

the country has accumulated a huge deficit, dues to Central Power Generating

Companies because of the deteriorating financial performance.

To turn around the financial health of the power sector, the Government has taken up

reforms in the power sector for gradual elimination of losses. There form process in

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power sector in India was initiated in 1991. The sole objective in launching of there

forms was to mobilize private sector resources for power generating capacity addition.

The Government of India has amended Electricity Supply Act, 1948 and the Indian

Electricity Act, 1910 to facilitate the private sector participation. The annual losses of

SEBs at the end of the Ninth Plan are estimated at Rs. 24.000 crores and this has led to

large outstanding dues to Central PSUs, NTPC, NHPC, CIL, Railways, etc. amounting

to Rs. 35,000 crores. As per the projections made in the 15th Electric Power Survey, the

energy and peak demand requirement are likely to increase to 569,650 MU and 95,750

MW, respectively, by the end of Ninth Five year Plan (2001-02) and 1058440 MU &

176647 MW, respectively, by 2011-12.

Problems like uncompetitive power tariffs, low operational efficiency, power shortage,

power thefts, overstaffing etc. were known at the start of the economic reforms and it

was recognized at the time the public sector may not be able to invest in the power

sector to the required extent to expand capacity. The government therefore invited

private investors in power generation in the hope that private investment would fill the

gap.

ENERGY AND PEAKING DEMAND

1998-99 2001-02 2006-07

Energy demand(billion KWH) 469.06 569.65 781.86

Peaking demand(MW) 78,936 95,757 130.944

Annual Load factor (%) 67.83 67.91 68.16

Source: http://www.tidco.com/india_policies/india_infra/Powersector1.asp

However, it soon became evident that significant volumes of private investment cannot

be attracted in an environment where the independent power producer is expected to

sell power to a public sector distributor which may not be in a position to pay for the

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power purchased. The result has been that the inflow of private investment has been

much below the targeted level. Since the financial problems of the State Electricity

Boards have worsened over the Ninth Plan period, even this volume cannot be expected

to continue unless State Governments undertake serious reforms in the power sector,

including especially distribution, to make the sector financially viable.

Initially, these projects were awarded based on direct negotiation, generally called as

MOU route. The cost plus approach was taken for tariff calculations of these projects,

which has resulted in higher tariff, making them non-competitive. Moreover, the poor

financial health of SEBs has failed to guarantee secured payment mechanism for IPP

projects.

The major features of the IPP policy at the time of announcement in 1992-93 were:

Proposed debt to equity ratio 4:1, generally 70:30 is being implemented

16% rate of return on investment at 68.5% PLF; return In dollar terms for

foreign equity

Build in incentives for efficient operation; and

Tax holiday for 5 years

In order to reduce the project cost, the mode of project award has been changed from

MOU to tariff based competitive bidding. Due to the high cost of project development

and poor success rate of Indian IPP projects, an early evaluation of project feasibility is

very important for bidding decision. Hence there is a need for a financial model to

gauge the financial feasibility of the project.

POWER SECTOR- THE SCENARIO TODAY

The total generation capacity of India stands at about 111 GW. Of this, the

major share – 78 GW – or 70 per cent is thermal. The share of hydro is about 26

per cent. The remaining is nuclear (2.5 per cent) and wind power (1.5 per cent).

Ten years ago, the installed capacity was 77 GW, but the per cent distribution by

fuel type was almost the same as at present.

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Electricity Tariff for 2004-09

Economic Survey 2004-2005

The average PLF is 72.7 per cent. It was as low as 60 per cent ten years ago.

Captive power capacity in India is also quite large – about 30 GW and operates

at a capacity factor of about 40 per cent.

The all-India average energy shortage is 8.8 per cent, while the all-India average

peaking shortage is 12.2 per cent.

Households with access to electricity – a key focus area for the government –

are also a low 55 per cent.

Use of non-commercial energy sources (firewood, charcoal, agricultural and

animal residues and derived fuels etc.) continues to be very high – 29 per cent

and is worrisome because of associated inefficiencies and health hazards, apart

from loss of tree cover.

Of the 586,000 villages in the country, about 120,000 are yet to be electrified.

Bio fuels are used by 90% of the rural households for cooking. As a result,

women in the rural households, who are engaged in cooking, are exposed to

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Respirable Suspended Particulate Matter for long hours and suffer from

respiratory and eye diseases.

After accounting for captive power and non-commercial energy, the ratio of

electricity to total primary energy in India is about 40 per cent.

The power policy in India has three main missions: power availability for all by

2012, electrification of all villages by 2009, and access to electricity for all

households by 2012. This entails a capacity addition of 100 GW by the end of

the Eleventh Five Year Plan that is by the year 2012, integrating the regional

grids into the national grid with 30 GW of interregional transfer capacity, and

access to power for the remaining 45 per cent of households.

This is targeted to take the installed capacity to 145 GW by the end of the Tenth

Five Year Plan that is by the year 2007. But it is unlikely that the 41 GW

capacity addition target for the Tenth Plan (2002-2007) will be achieved. The

capacity addition target for the Eleventh Plan is an even more ambitious 65 GW.

Under the 50 GW Hydro Initiative by 2017, 162 potential hydro sites have been

identified. Feasibility reports for about 68 projects worth about 27 GW reveal

that many of these projects can deliver power at a reasonable cost.

Broadly, it is estimated that total investments worth around $180 billion will be

required till 2012. Half of this would be for generation, while the other half

would be for transmission and distribution and rural electrification.

Coal fired thermal plants are the main stay of the power sector in India, but

inadequate coal supplies are creating a problem. These are due to several reasons

including inadequate mining capacity and problem of coal transportation over

long distances. Also many coal bearing areas are under protected forest.

By the middle of the century, India’s population could rise to 1.5 billion. Annual

generation of 8000 TWh (corresponding to an installed capacity of 1250 to 1350

GW) would provide only a little above 5000 kWh per capita per annum. While

8000 TWh may sound as very large, in the context of India, it is on the low side.

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THE ELECTRICITY ACT, 2003- MAIN FEATURES

The main features of the E-Act are:

Generation Delicensed: Thermal generation does not need clearance from CEA. Only

large or inter-state Hydel projects need this. Setting up Captive generation does not

need permission. Captive generation can be set up by a group or society to meet their

needs. The captive plants can be located off-site (far from the consumption point).

Transmission utility at the central level will continue to hold responsibility of

coordinating planning of the transmission network. These utilities or the State

governments would look after load dispatch (scheduling of plants, maintenance etc).

Private companies can build Transmission lines for captive use or for common use

Open Access: Any generating station will get access to the transmission system at a

fee, subject to capacity availability. They will have to pay a fee to the transmission

utility (called wheeling charge) and charges for load dispatch centre. Bulk consumers

including DISCOMS can take advantage of Open access by purchasing the wheeled

power. Large consumers will have to pay a surcharge to cover cross subsidy, except in

case of the captive generating stations. The State Regulatory Commission may permit

Open access in distribution in phases and can levy a surcharge on users buying power

through open access. This will be utilized to cover cross subsidy in that area.

Distribution licensees are free to undertake generation and generation companies are

free to undertake distribution license. The commission can allow multiple licenses in

the area of a distribution licensee.

For rural and remote areas, stand alone systems for generation and distribution are

allowed. Distribution managed through Panchayats, User associations, Co-operatives

or Franchises would also be permitted without needing license (in state government

notified areas).

Power Trading is being recognized as an activity that can be taken up after

authorization of RCs. The RCs would issue license and fix ceilings on trading margins.

Distribution licensees and state governments do not require license to carry out trading.

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After Open access is allowed, consumer can enter into direct commercial relationship

with a generating company or Trader. In such a case, the price of power will not be

regulated, but the transmission charges (called wheeling charges) and surcharge would

be.

State governments can un-bundle SEBs and create companies. At the minimum the

transmission activity needs to be separated from SEB. All states should have

Regulatory Commissions. An Appellate tribunal will be created at the Centre for

disposal of appeals against decisions of CERC and SERCs. Strict provisions to deal

with power theft.

Tariff: Tariff would be along commercial principles to encourage competition and

efficiency. Multi year tariff formulation is suggested with gradual elimination of

subsidies. Metering to be 100% in a few years time. Time of the Day tariff to be

introduced in a phased manner. Central government would bring out National

Electricity Policy, Tariff Policy, National policy on standalone systems for rural areas

and a National policy on electrification & local distribution in rural areas. CEA shall

prepare National Electricity Plan

Overview of Impact of the Act

It is early to comment of the impacts of E Act, as they depend on the policies, which

are yet to be finalized. Some key aspects of the possible impact of E-Act in the coming

decade are discussed below:

Entry of more players (mostly private, some public) into generation,

transmission, trading and distribution.

Increase of captive generation, especially group captives, set up by group of

industries to meet their power needs. Many bulk consumers would quit state

owned distribution utilities.

Many contracts between generators and bulk consumers (private and public –

e.g. NTPC & Railway, private generation company & large industry etc), which

would be finalized and operated without public scrutiny.

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Tariff will change slowly to reflect the cost to serve and cross subsidy will get

reduced and finally disappear. State government may give subsidy in advance if

it wants to lower the tariff for some consumers.

Increased role of Central government in policy formulation

End of vertically integrated Electricity Boards.

Power sector becomes more complex with entry of many more actors and

contracts. Group captive, private distribution companies, transmission licensees

and power traders are some new actors. With open access, TOD tariff, many

supplier- trader - consumer contracts and many dispersed systems, planning,

regulating and operation of the system becomes more complex.

Financial deterioration of many state owned utilities – as they will increasingly

serve only small and rural consumers.

Segmentation of the society into four parts (according to the Act)

These are:

A. Large consumers: They would be allowed to access new (low cost) generation or

put up their own captive plants. These consumers would see a major reduction in

their tariff and be allowed to shrug off or reduce burden of the historical costs

(stranded costs).

B. Urban small consumers: Private players may be interested in taking up

Distribution for these areas. These consumers may remain under regulated

monopoly for quite some time to come. The private companies may see these urban

consumers as captive consumers not just for distribution but also for their proposed

generation plants (unless competitive bidding is encouraged for new power plants

these will again become vertically integrated monopolies).

C. The Rural small consumers: These consumers would also be under regulated

monopoly, which is likely to be under public ownership. These consumers are the

largest in number and would be taking the largest brunt of tariff increase.

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D. Rural Un-connected Population: The last section is the prospective consumers.

The actions for these consumers under other policies are yet evolving. There is

urgency to clearly spell out what will be done for these consumers, and is expected

through the Rural Electrification policies of MOP.

INDEPENDENT POWER PRODUCERS AND MERCHANT

POWER PLANTS

An Independent Power Producer is a private entity that generates electricity and sells

it to other businesses including utilities. In early 1990s, reforms in the Indian power

sector started with the entry of private players into power generation. The Central and

State governments encouraged national and multinational companies to set up what is

called Independent Power Producer (IPP) projects. Enron in Maharashtra, GVK &

Spectrum in AP, Essar in Gujarat etc are examples. The initial response was quite

good, but ultimately only few plants were set up and many have been ridden by

controversies. Now it is clear that the IPP process not only resulted in high cost

projects but also failed to solve the problem of generation capacity shortage. Despite a

decade of policy focus, in FY 2002 the IPPs contributed barely 3% of national

generation (15,000 MU). Where as, the improved plant performance during this decade

contributed 3.5 times more than IPPs.

A merchant power plant generates electricity for sale in the open wholesale power

market. This type of facility is generally referred to as an Exempt Wholesale Generator

(EWG). These facilities provide low-cost electricity for industrial plants, power

marketers, Investor Owned Utilities (IOUs), municipalities and cooperatives.

A federal law, in the US, the Energy Policy Act of 1992, opened the national wholesale

electricity market to competition by allowing the development of Exempt Wholesale

Generators. These generators are provided comparable, non-discriminatory access to the

transmission network.

Additionally, regions of the United States are experiencing electricity shortages.

Extreme hot or cold weather and unexpected outages of older plants put a strain on

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resources. Having electric generation close to where it is needed decreases the chances

of interruption in electrical supply. An 800 MW power plant represents an investment

of about $400 million, providing a very positive economic impact on the region in

which it is located.

The risks associated with merchant power plants can be classified into three major

categories: market risk (which includes the markets for the sale of electricity and for the

purchase of fuel), project risk (which includes construction, technology and operating

risks), and structural risk (which includes legal/regulatory and financing risks).

Financing these projects, particularly pure merchant plants, is a difficult and

challenging exercise requiring creative and often complex solutions to manage the

many risks. The first generation of merchant plants has mitigated some of these risks by

contracting to sell a portion of their output under fixed-term contracts and by locating in

those regions of the country where the newly-created regulatory regime is the most well

established. But the planned capacity for some of those regions is beginning to exceed

demand and finding a dedicated purchaser for even a portion of a plant's output is not

always possible.

A power plant typically generates an average of 300 construction jobs over an 18-24

month period, and approximately 25 long-term operations/maintenance jobs. The

building phase results in the purchase of millions of dollars of materials from local

businesses, followed by procurement required for the on-going maintenance of the plant

once it is operational.

In addition to providing a reliable electricity source to the community, the plant will

also generate excess energy capacity for the region to meet the needs of future

economic development.

Earlier this decade, independent power development activity in the US diminished

significantly when utilities stopped entering into long-term power purchase

agreements, some having felt victimized by Public Utility Regulatory Policies Act of

1978 (PURPA) contracts and all seemingly determined not to repeat that experience in

the face of the utility restructuring that could be glimpsed just over the horizon.

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Instead, project developers focused their attention on the international markets,

particularly Asia, South America and Eastern Europe. Now, utility restructuring is well

under way in the US, with retail access, disaggregation and divestiture occurring at an

ever-increasing pace, while competition at the wholesale level has firmly taken hold

and capacity shortages have become manifest in certain regions of the country. Still,

with rare exception, even those utilities that retain an obligation to serve native load

customers have shown no inclination to either build new generating units or to enter

into long-term, fixed-price power purchase agreements.

Merchant power plants, both pure and hybrid, have stepped into the void and are now

the consensus choice to meet this country's power demands in the 21st century. So for

the next generation of merchant plants, maybe in fast developing countries like India,

to be successful in making it from the planning to the operational stage, will need to

implement many, if not most, of the risk mitigation measures that have been described.

While not an easy task, those who succeed, like the early PURPA pioneers, should be

rewarded with substantial returns on their investments.

POWER PLANT TECHNOLOGIES

Existing technology

The Thermal Power Stations in the country are mostly based on the following

Technologies:

i) Steam Power Plants

ii) Gas Turbine Power Plants

Steam power plants

The Steam Power Plants are mostly coal-based power plants having maximum unit size

of 500 MW. Recently, CEA has cleared on IPP proposal to install two units of 660 MW

to be commanded in Tamil Nadu in about 4-5 years time. One Mega Private Power

Project at Hirma is proposed with unit size of 720 MW, All the Steam Power Plants

except one at Talcher are conventional drum type and majority of them are two pass

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design. Few power plants are having single pass tower type design with drum. The

Talcher power plant of NTPC is the only power plant commissioned with two 500 MW

units having once through boilers. All the Steam Power Plants in the country are having

sub-critical steam parameters. Indigenous manufacturers are capable of offering steam

power plants up to 500 MW unit size and are quite competitive compared to the World

leaking manufacturers.

Gas turbine power plants

The present installed capacity of gas turbine power plants is about 9000 MW, which is

13 % of the total thermal power plant capacity. Govt. of India has permitted installation

of additional 12000 MW of liquid fuel based power plants, mostly gas turbine plants,

as a short term measure to bridge the gap between demand & supply. The major gas

turbine power plants are combined cycle plants and few small capacity plants are on

open cycle mode. The gas turbine power plants are having varying unit sizes and makes.

Recently M/s ENRON has set up a combined cycle power plant at Dabhol in

Maharashtra having gas turbines of latest 9FA advance class technology with unit size

of 250 MW (ISO). Few other IPPs have also proposals to set up combined cycle plants

with advance class as turbines namely 9 FA of GE make and GT-26 of ABB make. M/s

Bharat Heavy Electrical Ltd. (BHEL) is having collaborations with GE and Siemens

and thus able to offer gas turbines of latest advance class technology.

Other common technology

The other common technology is Diesel Engine Power Plants based on Liquid fuel. But

diesel engine based units are mostly installed by the Industries for their captive use. On

the utility side, some small diesel engine power plants are located in few states and

certain isolated areas like in Andaman Island. Recently one 200 MW diesel engine

based power plant has been commissioned by an IPP in Tamil Nadu. This plant is

having four units of slow speed engines each of 50 MW capacities. Few more diesel

engine power plants proposed in capacity range of 100-120 MW have been given

clearance by CEA.

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Source: Benjamin C. Esty, 2003

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FACETS OF PROJECT ANALYSIS

MARKET ANALYSIS

Off takers: Power from the 1100MW SUGEN CCPP would be sold to the off takers as

follows-

Project Off Takers

50%25%

25%

Torrent Power SEC Torrent Power AEC Inter- State

The project has strong off takers with sound credit worthiness. Torrent may even sell

100MW to Power Trading Corporation.

Demand Growth: Torrent Power SEC’s demand is expected to grow at 7% CAGR while

that of Torrent Power AEC’s is expected to grow at 4.5% CAGR.

TECHNICAL ANALYSIS

a) Technical Nature of the Project:

Torrent Group is developing and implementing 1100 MW SUGEN CCPP (Combined

Cycle Power Plant) near village Akhakhol, Dist. Surat, on a Build, Own, Operate basis

in the state of Gujarat, India through Torrent Power Generation Ltd (TPGL).

The company plans to design, finance, construct, operate, and maintain the project.

TPGL has awarded the engineering, procurement and construction contract (EPC

Contract) for the Project to Siemens.

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Sugen is a mega thermal combined cycle power project; meaning therein that two

sources of power shall be used to generate power namely: Gas and Steam.

The natural gas fired turnkey power plant to be supplied by Siemens Power Generation

Group will comprise three Single Shaft modules and the scope of supply will

encompass gas turbines, steam turbines and generators along with associated

accessories. The project is a 25 year operational power plant and 2200 start ups are

estimated under normal conditions.

The raw water requirement for the power plant is estimated at 42,500 cubic meters per

day. The water requirement for the power plant shall be met from the Tapi River, which

has controlled water releases from the Ukai dam. The Narmada, Water Resources &

Water Supply Department of the Government of Gujarat has accorded its approval for

allocation of 15 MGD of water (66000 cubic meters per day) for the power Project.

Siemens will also supply the plant’s electrical and I&C systems. The commissioning of

the plant is due for 2007. the EPC contract for implementing the project has been

awarded through an international competitive bidding process. A consortium of

Siemens AG and Siemens Ltd. India have been awarded the EPC contract. The project

will be executed in a phased manner and the commissioning schedule for the project is

as follows:

Block No. of months from the notice of proceed

1 26

2 30

3 32

The development of the Project site has been completed. These include the following:

(i) Site boundary wall

(ii) Approach road

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(iii) Site office

(iv)Raw water reservoir

(v) Area grading, peripheral roads, Storm water Drains

(vi)Raw water pipeline (from the intake well to the Project site)

The construction work by EPC Contractor at Project site is now under progress.

c) Acquiring Technology:

The technology used is called Combined Cycle Power Plant (CCPP). The selected

model of Gas Turbine is Siemens model SGT5 4000 F heavy duty turbo generator type

and belongs to advanced class gas turbines in single shift configuration and high

operating efficiency with low NOx emissions.

This Project being established by TPGL will be State-of-the-art Project and will have

following salient features:

a) 3 power blocks, each of 376 MW in single shaft configuration, comprising of

advanced class SGT5 4000 F gas turbines, horizontal ,unfired Waste Heat

Recovery Steam Generator (HRSG) (355 tones / hour), one Steam Turbine (ST)

and a hydrogen-cooled generator having high thermal efficiency(exceeding

55%), lower NOx emissions, lesser space requirement and lower capital cost.

b) Cooling water system comprising Natural Draft Cooling Towers, Cooling Water

Pumps and Chemical dosing systems.

c) Effluent treatment plant to ensure that the discharged effluents are within

stipulated standards.

d) Water treatment plant (common for all 3 blocks) consisting of clarifloculation

and demineralization plant.

e) 220kV and 400kV switchyard with two main bus and one transfer bus scheme

for power evacuation.

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f) Other non-EPC enabling works viz. Site Office, Approach Road, Boundary

Wall, Intake Well, Water Pipeline, Water Reservoir (which all have already

been constructed), Administrative Office and a Housing Colony.

The Project will use Natural Gas (NG)/Re-gasified Liquefied Natural Gas (RLNG) as

the fuel for power generation. Quantity required shall be 4.26/5.34 MMSCMD of

natural gas requirement at 80/100% PLF respectively for the plant. Since NG/RLNG is

supplied through gas pipelines, there is no requirement to maintain any fuel inventory.

This not only reduces the land requirement for the Project but also enhances the safety

of operations. The energy content of NG/RLNG is also much higher compared to other

conventional fuels. The project shall have a dedicated transmission line of 220 KV to

evacuate power to Surat, while power will be evacuated to Ahmedabad and off-takers

through two 400 KV lines.

d) Installed Capacity:

The potential installed capacity of the power project is 1100 MW.

e) Location and Site:

The SUGEN CCPP is a backward integration initiative by the Torrent Group. The

project spread over about 140 hectares, is strategically located close to the River Tapi,

National Highway No.8 and is also close to the gas supply infrastructure comprising

LNG terminals and main gas trunk lines.

The project site comprising of 139.55 hectares is located at a distance of approximately

30 kilometers off the National Highway, which connects Delhi and Mumbai and is 28

kilometers from Surat City. The nearest airport is at Surat approximately 30 kilometers

away from the site. Land acquisition for the Main plant, intake well, avenue road and

colony has been done in accordance with the Land Acquisition Act and the land owners

were paid compensation as per prevailing market rates. The land was acquired by the

Government of Gujarat and handed over to TPGL. TPGL made payment to the

government, who in turn made payment to the land owners.

The site offers the following advantages:

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Proximity to Torrent Power SEC’s distribution liscence area in Surat City, a

major load centre and which is envisaged to consume approximately 50% of the

power generated by the 1100MW SUGEN CCPP.

Proximity to River Tapi (3Kms), a perennial river, which would meet the entire

water requirement of the project

Proximity to two LNG terminals and gas pipelines namely

o Dahej LNG terminal of Petronet LNG Ltd.(approx. 100 Kms) capacity- 5

mpts proposed to be expanded to 10 mpta

o Shell HaziraLNG terminal (approx. 50 Kms) with capacity- 2.5 mpta

o Mora- Sojad pipeline (approx.20 kms) the main trunk gas pipeline of the

gas pipeline network of Gujarat State Petronet Ltd.

o Hazira- Bijapur- Jagdishpur pipeline (approx. 15 kms)

o Dahej- Uran pipeline (approx. 19 kms)

f) Broad Scope of Operation and Maintenance Agreement

Construction Phase:

Participation in perusal and approval of detailed engineering, drawing and

documents

Inspection and testing of equipment at EPC works

Witnessing of performance test and audit of the results

Review and approval of O&M Manuals provided by EPC contractor

Preparation of Hazard operation study (HAZOPS)

Assist owner in preparation of initial spare parts list and help sourcing spares

and consumables

Monitoring report on the progress of the construction at site

Advise on establishment of office and Maintenance shop

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Pre-take over inspection, testing, start up, trial operation and performance

operation of equipment under supervision of EPC contractor

Assistance in selection, recruitment, training and development of manpower

Preparation of operating policies, management procedures and system operating

procedures

Develop health and safety policy, compliance management systems,

maintenance management plans and systems, environmental management plans,

disaster management plan etc.

Advice owner in dealing with lenders engineers, bankers, auditors, insurance

representatives etc.

Operational Phase:

Operation, maintenance and house keeping of the power plant

Prepare annual engineering review and suggest remedial actions

Preparation and getting approval for annual operating and business plans

Developing and reviewing long terms plans for plant operation

Implement and update operating procedures

Assist Owner TPGL in purchasing equipment, supplies and consumables

Checking and testing various equipment periodically as required by the Owner

Comply with administration of Power purchase agreement

Co ordination with SDLC/RDLC and power off takers for evacuation of power

Co ordination with Fuel suppliers for scheduling fuel management plan

Maintain, renew and comply with all applicable statutory consents and licenses

To achieve and maintain best environment, health and safety practices including

assistance in obtaining relevant international certification

Maintain and periodically update disaster management plans

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Waste/ scrap disposal plans and waste/scrap management

Maintenance of plant records both technical and administrative

Inventory control and management

Assist Owner in submitting information for lenders engineering review

Supervision of major maintenance and repair work (other than routine and

periodic maintenance)

Advice and assist owner in insurance placement, renewal and claims management

FINANCIAL ANALYSIS

a) Cost Of the Project:

The capital cost of the Project, has been appraised at Rs. 3,096 Crores (Rs 2.74 Crores

per MW) which is considered as competitive and comparable with that of other similar

projects. The petitioner, as investor in this Project, has taken steps through ICB process

to minimize the EPC Cost of the Project which represents more than 80% of the Project

cost. The capital cost for the Project has been equally apportioned among the three

units. The project is being financed with a debt equity ratio of 70: 30.

The parties to this agreement have agreed to the fact that the optimization of the overall

lifecycle cost of the project is dependant on the EPC cost and the O&M (Operation and

Maintenance) cost and therefore the parties shall endeavor to perform all activities so

that the optimization of the lifecycle of the project is achieved. In order to promote

reduction of overall cost of the project, Siemens and TPGL intend to form a Joint

Venture.

b) Means of Financing

Owner Funding Of the Project

The said JVC shall undertake Operation and Maintenance for the project. The JVC shall

be a separate legal entity from the parties. And the parties shall agree to jointly own,

operate and manage the JVC in accordance with its articles of association.

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The Torrent Group power entities will take 100% of the equity of the project worth Rs.

8361 million (US$ 191 Mn). It has already contributed Rs. 2790 Mn (US$ 64 Mn)

towards its equity commitment in the project. Torrent power Generation Ltd. and

Siemens AG have formed the 50:50 JV to provide O&M services to the project.

Debt-Financing The Sugen Project

Sugen project has been financed with 30% equity, and 70% debt. (The Debt-Equity

Ratio, thus becoming 70:30).

The debt for the project has been awarded to TPGL by a consortium of seven

institutions comprising of leading banks as well as financing institutions, collectively

referred to in the lenders agreement as ‘The Senior Lenders’, who have agreed to make

available for the company (TPGL), loans to the maximum amount set out against their

respective names. The debt is essentially non-recourse in nature.

Senior Lenders

The debt arrangements have been tied up with the following senior lenders:

Infrastructure Development Finance Corporation (IDFC)

Industrial Development Bank of India (IDBI)

Power Finance Corporation (PFC)

Punjab National Bank

UCO Bank

Canara Bank

The ‘Senior Lenders’ have appointed one of them as a Senior Agent- a trustee and agent

of the Lenders inter alia for the purpose of taking actions, exercising powers and

discretions, and entering into agreements on behalf of the Senior Lender on the terms

and conditions contained in therein.

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Particulars Amount Rs. Crores Total Rs. Crores

1. Project Cost 3,096

2. Financing Plan:

Rupee Debt (A) 2,167

IDFC 400

IDBI 300

PFC 600

PNB 267

UCO 300

CB 300

Equity/Quasi Equity (B) 929

Equity Share Capital (Torrent Group Companies)

836

Subordinated debt (Siemens Limited) 93

Total Financing (A+B) 3096

c) Board of Directors and Voting Rights

The authorized share capital, issuance and subscription of shares, share participation,

board of directors and voting rights in the board and rules thereto of the JVC shall be

determined in the JV agreement.

The board of the company shall consist of not more than 6 but not less than 4 directors,

equally nominated by the parties

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It is agreed that Siemens shall not transfer its shares in the JVC for a period of five

years of commercial operation date of the last block of the project as detailed in the

EPC contract. When Siemens desires to part with its shares at any time after the signing

of the agreement, it shall have to inform TPGL of its intentions to do so and TPGL or

its assignee shall purchase the same at par within a period of 3 months from Siemens

informing TPGL.

NOTE: Subject to the context of the project concerned, following shall be hereinafter

referred to as the names specified:

Siemens- The Consenting Party

TPGL- The Company

The Lead Banker: The Security Agent

d) Contract price

The contract price and other prices indicated in the contract are based on the applicable

tariff. The contract price is based on the Project not having the Mega Power Project

status. The final contract price cannot be disclosed due to the norm of confidentiality.

e) Taxes and Duties

The project is envisaged as a Mega Power Project under the Power Policy of the

Government of India and thus is likely to qualify for the exemption under Mega Power

Policy. In such an event, no sales tax would be payable in respect of local sales liable to

sales tax under the provisions of Gujarat sales tax. In such an event, the contractor

(Siemens) shall pass on the benefit of Gujarat sales tax exemption to TPGL, as the sales

tax is already included in the Contract Price.

f) Return on Equity

According to the economic survey 2004-09, the return of equity shall be 14% post tax,

uniformly applicable to all CPSUs and IPPs.

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g) Cash Flows Of The Project

Collection efficiency of the primary off takers Torrent Power AEC and Torrent Power

SEC is above 99%. Hence TPGL will have stable and consistent cash flow.

The project has already been awarded the status of a mega power project. In that case,

TPGL shall provide necessary certificates to Siemens for claiming exemption/refund for

the custom duties, excise duty, sales tax and other benefits, if any, which are available

to such Mega Power Projects.

(Financial Model for the calculation of projected cash flows and balance sheet for

Kribhco Pipav CCPP project in annexure 11)

LEGAL NORMS AND ENVIRONMENTAL REGULATIONS

The ministry of Power , Government of India has awarded Mega Power Project status to

the 1100MW SUGEN CCPP. Following approvals have been granted for the

implementation of the project:

No objection certificate (NOC) received from Ministry of Environment and

Forests, Government of India

NOC from Gujarat Pollution Control Board received

Approval for allocation of 15mgd of water from Tapi river received

Clearance receive from forest department

Civil Aviation Clearance received from Airport Authority if India.

Environmental Management Plan (EMP) formulated to manage impacts

Environmental Management Unit (EMU) created within TPGL and the

Executive Director is in charge of all environmental, health and safety related

issues during the construction phase

Rain water harvesting ISO14001 (environment) and OHSAS 18001 (Safety)

compliance are also planned

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CONTRACTUAL RISK MITIGATION FOR SUGEN

a) Following are the ways the owner has sought risk mitigation with the help of

contracts between itself and the contractor.

Contractor- Siemens’ Obligations:

The agreements are in the nature of a turnkey, fixed-price, date-certain, EPC contract.

Siemens AG, Germany has been identified as the consortium leader and shall be

collectively responsible for timely satisfactory completion of performance and

obligations under the contract. The liability of all of the Contractors for all of their

obligations under the Contract shall be joint and several.

The contractor shall supply the goods and/or perform all activities required in

connection with the design, engineering, supply of equipment, procurement (including

without limitation all transportation services connected to it), fabrication,

manufacturing, delivery. Construction, erection, start up, commissioning, testing

including conducting performance testing and in connection therewith, provide all

materials, equipment, machinery, tools, Labor, Transportation, administration, and

other services and items required to complete the facility in all respects up to the final

acceptance of the third block and remedying the defects during the warranty period in

accordance with this contract. And if there are any supplies or services, outside the

scope of those mentioned in the contract, Contractor is obliged to provide the same as a

part of obligations under the contract to complete the facility.

If any errors are found in the services or goods including design/construction

documents, then the same has to be corrected by the contractor at its cost and risk

provided such are caused by it.

Arrangement for long term supply of 53 TBTU of Natural Gas per annum is in final

stages with three national level public sector undertakings. Details concerning delivery

schedule and related commercial matters are in the process of being finalized. Term

sheet has been signed with a leading gas transporter for transporting gas to the Project

site.

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TPGL has already entered into Agreement on 20th April 2005 with Narmada Water

Resources and Water Supply Department of the Government of Gujarat for supply of 15

MGD water to the Project and a copy of such Agreement is enclosed per Annexure

XXI. The river water intake system has already been set up on the banks of the Tapi

River.

The contractor will be bound to pay liquidated damages in case of delays to complete

the work within the stipulated time due to the contractor’s mistake. It shall have to take

necessary actions to make good the delay by increasing workforce, or working

overtime, or increasing the supply of goods/ progress of services to comply with the

project schedule.

Onshore service contractor has to see to it that the other myriad contractors supply their

material on time and that the schedules are not disturbed due to such delays.

The contractor is supposed to make its own arrangements for the labor and workforce,

supervisors, managers and the project team. Their remuneration, health and safety

would become the responsibility of the contractor.

During the contract period, the contractor shall arrange and pay for construction fuel

necessary for the performance of the services and supply of goods. However, start up

power and fuel for commissioning, start up, reliability operation, performance tests, and

other tests before provisional acceptance of the block or facility, shall be borne by the

owner.

Each party viz. the owner and the contractor, seek in the contract, to indemnify and

keeo indemnified and saved harmless at all times the other party against any loss, cost,

expense or damage incurred or suffered by it by reason of failure to pay taxes, which it

is obliged to pat pursuant to this contract .

The contractor will have to insure against any loss to person or property in its own

name. If the claim is made to the owner in this behalf, the same shall be made good by

the contractor. Thus, there is a third party insurance, insurance against accidents to

workmen and other insurance, insurance of civil works, waiver, release and sub

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contractors insurance, force majuere and limitation of liability clauses. There are

liquidated damages payable in case of delay, for failure to meet performance guarantees

for Net Electrical Output, shortfall in guaranteed availability, general warranties,

subcontractor warranties, manufacturer warranties, additional contract performance

security etc.

A change order shall be issued by the owner when either the owner or the contractor

proposes to make any change in the scope of services and supply of goods, the contract

price, performance guarantees and/or the project schedule.

PPA for SUGEN CCPP

Torrent Power AEC and Torrent Power SEC have already executed long term PPAs

with TPGL which has been filed for regulatory approvals. MoU with PTC Executed and

PPA is under negotiation. It is submitted that the power generated from the 1100MW

SUGEN CCPP power plant, will be sold primarily to meet the requirement of off

takers-TPSEC (564 MW of Project capacity) and TPAEC (282 MW of the Project

capacity),two of the respondents herein. These Companies have already executed the

long term Power Purchase Agreements (PPA) with TPGL on May 08, 2004. TPAEC

and TPSEC have filed their Power Purchase Agreements with Gujarat Electricity

Regulatory Commission (GERC) for approval. GERC suggested certain modifications

in the PPAs. The Supplementary PPAs incorporating the suggestions of GERC had

been executed on November 21, 2005. The terms of PPA are in line with the norms

stipulated in Central Electricity Regulatory Commission (Terms and conditions of

Tariff) Regulations 2004 dated 26th March 2004. It is submitted that out of the power

generated from the remaining capacity of the Project up to 100 MW, would be sold to

other respondent herein namely PTC India Limited (“PTC”). TPGL has entered into a

PPA with PTC on 2nd August 2005, for sale of power up to100 MW outside the state of

Gujarat.

Torrent Power AEC and Torrent Power SEC have already executed long term PPAs

with TPGL which has been filed for regulatory approvals. MoU with PTC Executed and

PPA is under negotiation.

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b) Following was the way the financial risk was transferred with the help of con tracts

by the owner. The project was 70% debt financed. The debt has been raised from a

consortium of 7 financial institutions (names already mentioned).this has helped in the

transfer of risk from the hands of the owner to the consortium. The entire responsibility

of raising the 70% debt is in the hands of the lead arranger, which in this case is the

IDFC. Who all it chooses to provide the funds and how it allocates the funds between

them, is its job.

In Case Of Default

There can be two kinds of default pertaining to the performance of the project:

1. Operational Default or default during the execution of the contract, and

2. Financial Default or default after the execution of the contract

In case of Operational default, the Lenders’ Agreement includes the following:

“…In the event of default by the Company, or any other person in the performance of

any of its obligations under the Assigned Agreements, or upon the occurrence or non-

occurrence of any event or condition under the assigned agreements, which would

immediately or with the passage of any applicable grace period or the giving of notice,

or both, enable the Consenting Party to exercise any right or remedy under the Assigned

Agreements or under any applicable law, the Consenting Party will continue to perform

such Assigned Agreements and will not exercise any such right or remedy until it has

given a written notice of such default top the Security Agent at the same time it gives

written notice to the Company……”

Thus, in case of any operational default by TPGL, i.e. when TPGL fails to pay Siemens

for the services rendered by it, Siemens will have to send a notice of default to TPGL as

well as the Security Agent, for such period as the Assigned Agreements may provide to

the Company for the cure of such a project. In the event wherein the Company too fails

to cure the default, the Consenting Party shall give an additional 30-day period for the

cure of such default. It is to be noticed that the Company, Lenders, or their nominee

shall have the right, but not the obligation to exercise the right to cure the default.

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In such a case the Security Agent will have to find out why such a default has occurred

and why TPGL failed to pay Siemens for the services rendered by them. To ensure

timely payments and execution of the contract, the Security Agent also has to conduct

regular site audits to keep a check on the progress of the project.

In case of a Financial Default, i.e. in case the Company becomes insolvent or bankrupt,

and TPGL fails to pay the interest obligations to the security agent, then, the Consenting

Party, at the option of the Security Agent can enter into a new agreement with it, on the

same terms and conditions as were there in the old one.

Now the consortium of banks can exercise the right to perform the agreement i.e.

undertake the activities mentioned in the agreement and operate and maintain the power

plant till the time the revenues generated cure the default triggered by TPGL by not

paying them the debt service.

Calculation of Financial Projections

Before agreeing to partner any project like SUGEN, Siemens undertakes a detailed

financial analysis to check the feasibility of the same in the long run. The projects cash

accruals, Net Present Value, Internal Rate of Return, Projected cash flows and projected

balance sheet are calculated. By doing so, it can be made sure that the project is worth

investing and part of the uncertainty is averted. At least it is known that the project shall

not be a technical and a financial failure.

This allows an estimation of break down of costs (EPC i.e. Equipment, Procurement,

Construction Cost or Non-EPC cost), financial fee calculations, sources and uses of

funds, phasing of expenditure, calculation of Interest during Construction (IDC), Profit

and Loss Account, and Working Capital Calculation. This in turn, gives an approximate

picture of the future financial scenario of the project and reduces the risk of uncertainty.

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CHAPTER 4

FINDING AND ANALYSIS

a) Project Management and Risk Management at Siemens:


organized manner. Following are the analysis and findings through observation and

study of their working techniques.

On signing of every project, a Project manager and commercial project manager

is appointed. Complete contract and bid documents handed over to project

manager.

Siemens practices the process of risk reporting where the project coordinators

undertake the process of Risk Reporting to the risk champion for the projects

undertaken by them on a monthly basis In every risk reporting the risk of every

project are identified. The risks of the project are in the form of Liquidated

Damages, the probability of which is identified by the Project Coordinators. If

the probability is more than 50% the provision for liquidated damages is created

as per the terms stated in the contract.

Average credit period is 30 to 60 days as per the terms. The bank guarantee is

issued in favor of the customers against advance/performance/warranty period.


implementation of the project.

The lending parties help in allocation of risks in a project through thr LOA or

the Lenders Offer Agreement wherein the risk limit for the sales representative,

customer requirements/ specifications and for the contract negotiation is

mentioned and signed by contracting parties. (Annexure 9)

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Siemens has a practice of keeping a record of new lessons, concepts learnt

during the process of project management in a ‘Literature Folder’. This helps in

checking the similar mistakes in future and risk mitigation. (Annexure 8)

Risk Allocation through the LOA: An LOA Project Sheet is prepared by the financial

institutions lending to allocate the risk according to the limits for the contractor’s sales

representative, customer’s requirements/specifications and Limit for contract

negotiations. The same has been made for the SUGEN project as well (Could not be

provided due to the norms of confidentiality). This is nothing but a risk allocation

matrix. Those risks which have greatest impact in the risk assessment are not

necessarily those with the highest monetary values, but are often those which have the

greatest deviation between the upper and lower limits.

b) About the Power Sector

The growth rate of demand for power in developing countries is generally higher than

that of GDP. In India, the ever increasing demand for power has given rise to the need

of all the reforms the sector has seen in the past and will encounter in the future. As the

demand grows, so does the development of the sector. But any development in the

sector would need financing, and going by the rate of development the sector has seen

shortly, future shall see big money getting parked in the sector. According to a World

Bank Survey, with a leading consultancy firm, Tohmatsu Emerging Markets Group, the

finance required for the power sector in emerging markets like India is going to increase

manifold by 2020.

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Source: World Bank, IEA, Deloitte Touche; Tohmatsu Emerging Markets Group, 2002

So along with the scope of the infrastructure sector, the scope of project financing is

also going to see an uptrend in the future. The key challenges however are:

Ramp up pace and quality of policy implementation. What must be done to

move from about $6 billion to $20 investment/year?

Overcome concerns and resistance at state level. Accelerated reform of

distribution is still a critical bottleneck.

Resolve fuel supply bottlenecks

Engage the private sector

Who will invest in the sector and fill the void? Maybe the firms that invest their

own equity outside their home countries. But here again, well-managed reforms

are the only way the financial prowess of these firms can be tapped; reforms

such as: the increasing ability of utility to generate internal cash for investment

through cost reductions, timely tariff adjustments to recover the cost of supply,

and efficient collection of posted tariffs. It is important to improve access to debt

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financing from domestic/international debt markets by maintaining profitable

operation along with an acceptable debt service ratio and reducing risk &

maintaining a healthy regulatory environment. In order to attract domestic &

foreign equity funding, creating and maintaining sector structure, regulatory and

legal environment conducive to minimization of country/project investment risk

becomes very important.

India has been working on all of these lately through thorough policy initiatives and

reforms but to make this vision a success, an integrative approach may be needed.

c) About the Project SUGEN

The project SUGEN has an operational life of 25 years. Within this time, the kind of

policy changes that the power sector may have is beyond limits. With the kind of sound

investments made and cost reduction techniques used, SUGEN sure is a financially and

commercially viable project. Be it gas supply from nearby fields, or fuel and water

supply, SUGEN has seen efficient plans and profitable tie ups with entities. As far as

revenue recognition is concerned, it all depends on how competitive the tariff level is.

And for SUGEN, which has been recognized as a Mega Power Project, substantial

savings have been the result.

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CHAPTER 5

RECOMMENDATION

The process of project management, and risk management is apt and sound. However

the following is recommended to increase the efficiency of the practices at Siemens Ltd.

To augment and catalyze the practices of risk management at Siemens Ltd., the process

of Team Risk Management is recommended.

About Team Risk Management

Team risk management establishes an environment built on a set of processes, methods,

and tools that enable the customer and supplier to work together co-operatively,

continuously managing risks throughout the life cycle of a project.

It is usually used in software-depended development programs and projects. But it has

equal relevance in power projects and can help in risk management in a better manner.

It is built on a foundation of the principles of risk management and the philosophy o co-

operative teams.

Steps in Team Risk Management

Initiate

Recognize the need and commit to create the team culture. Either customer or

supplier may initiate team activity, but both must commit to sustain the teams.

Team

Formalize the customer and supplier team and merge the viewpoints to form a

shared product vision. Systematic methods periodically and jointly applied establish

a shared understanding of the project risks and their relative importance. Establish a

joint information base of risks, priorities, metrics, and action plans.

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Identify

Search for and locate risks before they become problems. Identify risks and set

project priorities to arrive at a joint understanding of what is important. Identify new

risks and changes.

Analyze

Risk data process into decision making information. Risk analysis is performed to

determine what is important to the project, to set priorities, and to allocate resources.

Group risks and quantify impact, likelihood, and time frame.

Plan

Translate risk information into decisions and mitigating actions (both present and

future) and implement those actions. Joint risks require a team process to develop

mitigation plans.

Track

Monitor risk indicators and mitigation plans. Indicators and trends provide

information to activate plans and contingencies. These are also reviewed

periodically to measure progress and identify new risks. Maintain visibility of risks,

project priority, and mitigation plans.

Control

Correct for deviations from the risk mitigation plans. Actions can lead to corrections

in products or processes. Changes to risks, risks that become problems, or faulty

plans require adjustments in plans or actions. Maintain the level of risk acceptable to

the program managers.

Communicate

Provide information and feedback internal and external to the project on the risk

activities, current risks, and emerging risks. Communication occurs formally as well

as informally. Establish continuous, open communication. Formal communication

about risks and action plans is integrated into existing technical interchange

meetings, design reviews, and user requirements meetings.

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How can Siemens gain from Team Risk Management?

Advantage Description

Improved Communications

By openly sharing risks, both Siemens and the customer

would be able to draw on each other's resources in

mitigating risks and enabling rapid response to

developing risks or problems

Multiple Perspectives

Bringing the customer together in mitigating risks

opens doors to strategies for Siemens that both can do

together

Broader Base of Expertise

The combination of Siemens and customer brings

together a richer pool of experience in perceiving and

dealing with risks.

Broad-based Buy-in

Risks and mitigation strategies are cooperatively

determined by the team (Siemens and customer), so all

accept the results of the process. Second-guessing and

criticism after the fact are eliminated.

Risk Consolidation

Structured methods bring together risks identified in

each organization, resulting in decision making with a

more global perspective and highlighting areas of

common interest and concern.

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BIBLIOGRAPHY

Prasanna Chandra, 2000, Project Planning, Analysis, Selection, Implementation and

Review, Tata Mc. Graw- Hill

Nevitt, P.K and F.J Fabbozzi, 2000, Project Financing, &th Edition, Euromoney

Books

Power Ministry website: www.powermin.nic.in/bidding_n_tenders/

solicitation_documents

Planning Commission Website: planningcommission.nic.in/

plans/planrel/fiveyr/10th/default.htm

Planning Commission, Government of India, Approach paper to tenth five year plan

2002-2007

Official documents, Siemens Ltd. 2004

Esty, B. C. (2003) The Economic Motivations for Using Project Finance, HBS

Working Paper, February 14

India Infrastructure, India Budget 2005-06,

The India Economic Survey, 2004-09

Mayank Khaduja, ‘Project Finance and Term Structure of Credit Spreads’, 2003-04

TIDCO (2005), ‘Power Sector in India’,

http://www.tidco.com/india_policies/india_infra/Powersector1.asp

Stephen Revill and Bell Gully (2003), ‘Risk Management Strategies for Future-

Proofing Infrastructure Projects’, 2nd Annual Utilities and Infrastructure

Conference, 10-11 November 2003

Salman Zaheer (2006), Lead Energy Specialist, World Bank, ‘India Power Sector:

Challenges & Investment Opportunities’, Plenary Session, May 12, 2006, New

102

http://www.powermin.nic.in/bidding_n_tenders/


Delhi, http://www.ficci.com/media-room/speeches-presentations/2006/may/may12-

elec/PlenaryIV/SalmanZaheer-WorldBank.ppt

Anjani Aggarwal (2006), ‘Indian Electricity Sector-Opportunities and Challenges’,

http://www.ficci.com/media-room/speeches-presentations/2006/may/may11-elec/

Inaugural/AnjaniAgrawalE&Y.ppt

Torrent Power Generation Ltd.: Petition to CERC for in principle acceptance of

project capital cost and financing plan of 1100 MW SUGEN CCPP, December 14,

2005, C:\Documents and Settings\hp\Desktop\ST\PPA SUGEN.htm

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