Power Distribution Note

8/2/2019 Power Distribution Note

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STATE-OWNED ELECTRICITY DISTRIBUTION COMPANIES: Some

positives, though several concerns remain...

Anjan GhoshHeadCorporate [email protected]+91-22-30470006

Sabyasachi [email protected]+91-124-4545304

Girishkumar [email protected]+91-22-30470032

ICRA estimates the losses for discoms (before accounting for

government subsidy) in the country at Rs. 80,000 crore in FY 2012,

up from around Rs. 63,500 crore in FY 2010. The estimate is based

on our study of distribution companies (Discoms) functioning in

eleven Indian states. ICRA expects the overall subsidy support for

discoms at around Rs. 43,000 crore in FY 2012, which represents

an increase of 13% y.o.y. from FY 2010.

Taking the subsidy into account, the total book losses for discoms

are estimated at Rs. 38,000 crore in FY 2012. As per ICRAsestimates, six states namely Uttar Pradesh, Tamil Nadu, Madhya

Pradesh, Rajasthan, Punjab and Haryana would account for about

70% of the total losses in FY 2012. Such losses have largely been

funded through bank borrowings (mainly short-to-medium term in

nature) and stretched payments to power creditors, mainly state-

owned generating companies. However, with increasing concerns

over the credit quality of discoms, the availability of bank funding

for such losses has been affected from FY 2012 onwards, thus

resulting in a stretched liquidity position. This has affected debt

repayments and resulted in delays in payments to power and fuel

suppliers. Consequently, debt restructuring is being done for some

of loans on the books of the discoms in the states of Rajasthan,Haryana and Uttar Pradesh.

The ruling of the Appellate Tribunal of Electricity (ATE) is aimed at

regulatory discipline by State Electricity Regulatory Commissions

(SERCs) for timely and cost-reflective tariff determination. ICRA

views this as a positive development. The Shungulu Committee

has suggested measures to improve the viability of the

distribution segment, which is critical for the entire power sector.

However, ICRA expects the implementation of the

recommendations to be particularly challenging, given that

several stakeholders such as discoms, state governments and

regulatory entities (SERCs) will have to be involved.

ICRA has observed that tariff revisions have been carried out for

discoms across many states for FY 2012. However, the quantum of

hikes is well short of what is required for full recovery of costs in

most states and is also accompanied by significant delays. Even

with respect to tariff petition for FY 2013 and true-up for past

periods (upto FY 2011), ICRA observes that petitions are yet to be

filed by discoms in some states, which is against the spirit of the

ATE ruling. Also, while Fuel & Power Purchase Cost Adjustment

(FPPCA) principles have been implemented across states, they

continue to vary with a significant lag period for recovery in some

of these states, which in turn adversely affects the liquidityposition of the discoms. Nonetheless, ICRA derives comfort from

the fact that several states, including some of the most vulnerable

ones, have obtained fairly stiff tariff hikes for FY 2012 or filed for

ICRA Rating Feature

MARCH2012
mailto:[email protected]:[email protected]:[email protected]


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very large tariff hikes in a reasonably timely manner. Thus, the overall trajectory in terms of tariff trends is

positive.

Key Trends & Concerns

We have assessed the key trends in the operating/regulatory environment and the financial position for

discoms in eleven key states, which approximately contribute to about 82% of the overall power consumptionin the country. These states are Gujarat, Maharashtra, Andhra Pradesh, Karnataka, Punjab, Haryana,

Rajasthan, Uttar Pradesh, Madhya Pradesh, Tamil Nadu and West Bengal. Overall, the discoms in many states

continue to face challenges arising from inadequate tariffs as compared with their cost of supply, rising subsidy

dependence and high operational in-efficiencies.

Discom losses before accounting for subsidy support estimated at Rs. 80,000 crore for FY 2012

ICRA expects the overall financial losses (without accounting for subsidy) for the discoms in India to be at

around Rs. 80,000 crore in FY 2012, which is an increase of 14% over FY 2010. As in the past, losses are

contributed by several factors such as increasing subsidy dependence; inability to meet distribution loss levels

as per targets laid by SERCs and rising power purchase expenses, which are not being passed on through tariff

revision/FPPCA. In ICRAs view, these losses have increased in FY 2011 and FY 2012 as compared to FY 2010because of higher power purchase costs and interest burden without commensurate tariff increases. After

factoring in subsidy receivable from the respective State Governments, the overall book loss levels for FY 2011-

12 are estimated at about Rs. 38,000 crore. About 70% of these losses are expected to be contributed by

discoms in six states, namely, Rajasthan, Tamil Nadu, Uttar Pradesh, Haryana, Punjab and Madhya Pradesh,

which consume around 40% of power in the country. The main reason for the losses is either limited or

absence of tariff revision for prolonged periods besides inability to control distribution loss levels in some of

these states.

Subsidy dependence for discoms estimated at about Rs. 43,000 crore in FY 2012

ICRA expects the overall

subsidy dependence fordiscoms on an all-India basis

at about Rs. 43,000 crore in

FY 2012, which represents an

increase1

of 13% from FY

2010. Also, the overall

subsidy dependence as a

percent of revenues

approved by SERCs for FY

2012 is significant at about

20%. However, this varies

widely across the states :

from a low of 5% in WestBengal to a high of 50% in

Rajasthan. Given such high

subsidy dependence for

discoms, ICRA notes that

timely and adequate receipts of subsidy from State Governments remains extremely critical for the liquidity

profile of the discoms. There have been delays in many states such as Rajasthan, Punjab, Karnataka and

Andhra Pradesh, which in turn, has adversely affected the financial and liquidity position of the discoms in such

states. Given that the extent of subsidy declared by the State Governments towards certain consumer

categories is unlikely to come down, timely receipt of subsidy would be a key factor in terms of liquidity

profile.

1This is mainly contributed by continued power supply at either heavily subsid ised rate or free power (as per the State Governments directives) to

agriculture category and certain small sections of domestic category and rising fuel and power purchase costs.


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ICRA Rating Feature

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Large-scale restructuring expected

The losses of discoms have largely been funded through bank borrowings (typically short-to-medium term in

nature) apart from delaying payment to power and fuel creditors with state owned gencos typically bearing

the brunt of these delinquencies on creditors. ICRA expects the discoms in the most vulnerable states of UP,

Tamil Nadu, Rajasthan, MP, Punjab and Haryana to account for over 70% of the total debt of discoms in India.

However, with increasing concerns over the credit quality of discoms, the availability of bank funding for suchlosses was adversely affected from FY 2012, resulting in stretched liquidity situation, which in turn has led to

increased levels of delays on payments to power and fuel suppliers. Consequently, debt restructuring is being

done for some of the loans on the books of discoms in the states of Rajasthan, Haryana and Uttar Pradesh.

ICRA believes that in some of the most vulnerable discoms, financial restructuring is thus inevitable, whereby,

debt restructuring and support from State Government for cleaning up the balance sheets would be required

apart from operational efficiency measures and timely tariff revisions for maintaining the sustainability of state

utilities.

Tariff revisions in several states in FY 2012, although with delays

As may be seen in Chart 2, several

states have seen tariff revision inFY2011. While this is a positive,

ICRA notes that the bulk of these

tariff revisions (for FY 2011-12)

happened well after the due date

which is 31 March 2011. Further, in

some of the states such as Uttar

Pradesh, West Bengal,

Maharashtra, Karnataka and

Madhya Pradesh, tariff/ARR

petitions for FY 2012-13 and true-

up petitions for FY 2010-11 (as per

MYT regulatory framework) are yetto be filed with SERCs, whereas the

same should have been filed by 30

November 2011. There have also

been instances of roll-back of

previous tariff-hike during FY 2012,

as observed in the state of West

Bengal, which led to adverse

impact on the financial and liquidity position of its distribution utility. Such regulatory uncertainties cannot be

ruled out for other states in the future. Also, the extent of tariff revision has been varied from as low as 0.4%

to 24%; and is inadequate to meet the actual cost of supply in many states, thus resulting in large, uncovered

revenue deficits.

Tariff hike required to cover existing revenue gap itself is on higher side; Further, unsustainable

levels of regulatory assets cause concern in some of the states


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ICRA Rating Feature

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ICRA has observed that SERCs have not allowed full recovery of costs (including arrears for past years and

return on equity (RoE) element) in several states in order to avoid tariff shock to consumers, which in turn has

resulted in continued deficits. This uncovered revenue deficit, which is however recognised by SERCs and

proposed to be covered through future tariff hikes, is also termed as regulatory asset (RA)2. As seen above in

Table 1, tariff hike required so as to cover the existing revenue gap (i.e. gap between revenue requirement and

cost of supply even without considering recovery of outstanding regulatory assets) for utilities remains onsignificantly higher side for discoms in states such as Tamil Nadu

3, Rajasthan

4and Madhya Pradesh. As per

provisions of the EA and ATE ruling, such RAs ought to be recovered over a three-year period. There has been

substantial regulatory asset build-up for discoms in many states such as Tamil Nadu, Rajasthan, Punjab, Uttar

Pradesh, Haryana, Delhi and West Bengal, resulting in huge debt burden to fund the deficits. Should SERCs

provide for this, overall tariff-hike requirement would be even higher for FY 2013 than the above estimates

resulting in a tariff shock. Under these circumstances, ICRA believes that recovery of RA is likely to be

staggered over a much longer time horizon. In our opinion, this poses a challenge for SERCs for adequate tariff

determination in these states, given the critical need for tariff revision to improve the financial position of the

utilities, and also in view of the interests of the consumers to avoid any tariff shock.

ATEs directive to SERCs for timely tariff determination: a key positive development

The Appellate Tribunal for Electricity5

(ATE) issued a judgement in its order dated 11 November 20116

and in

its judgement has directed all SERCs to initiate suo-moto proceedings for tariff determination in case of delays

by the utilities in filing their tariff petitions. The key features of ATEs directive are mentioned in Box 1.

We note this as a very positive development on the regulatory front for the power distribution sector.

However, the impact of this judgement by ATE on the financial position of the utilities will hinge upon its

implementation by SERCs in an independent manner without any kind of influence from the state

government/utility. In addition, poor data availability, given the significant delays in the finalisation of

accounts as well as operational in-efficiencies in energy audit system, in some cases, could constrain initiation

of such tariff proceedings by SERCs.

2 Regulatory asset is cost item (as approved by SERC) which is allowed to be recovered in future tariff determination. The cost of carrying of the

regulatory asset is also an allowed expense for estimation of ARR or cost of supply.3For the distribution utility in Tamil Nadu, the accumulated losses till end of FY 2010 will be treated (as notified by State Government) as part of

financial restructuring in the final transfer scheme associated with transferring the assets and liabilities of erstwhile TNEB to successor entities (i.e.

TANGEDCO, TANTRANSCO and TNEB Limited). (Source: Tariff Petition dated November 15, 2011). Regulatory asset estimate is for FY 2011 and FY

2012, as estimated by TNERC in its tariff order dated July 2011.4For the discoms in Rajasthan, unrecovered revenue deficits pertaining till FY 2009 are funded as agreed by State Government and hence, not

considered in estimation of regulatory asset by SERC ( Source : Tariff Order dated September 8, 2011). Regulatory asset estimate is thus for FY 2010,

FY 2011 and FY 2012.

5 In line with the provision of Electricity Act (EA) 2003, the Central Government has established an Appellate Tribunal to be known as the

Appellate Tribunal for Electricity to hear appeals against the orders of the adjudicating officer or the Appropriate Commission. As per the section121 of EA-2003, The Chairperson of the Appellate Tribunal shall exercise the general power of super-intendance and control over the

Appropriate Commission.

6 A suo-moto request petition was initiated by the Ministry of Power, Government of India to ATE in January 2011 so that ATE can exercise its

regulatory authority under section 121 of the EA-2003 to provide directions to all SERCs.

Box 1: Salient Features of ATEs Order dated 11 November 2011

It should be the endeavour of every State Commission to ensure that the tariff for the financial year is

decided before 1st

April of the tariff year, for which tariff petition should be filed by the end of November of

the previous year. Truing-up should also be an annual exercise.

In the event of any delay in filing the ARR, truing-up and Annual Performance Review, one month beyond

the scheduled date of submission of the petition, the State Commission must initiate suo-moto proceedings

for tariff determination.

The recovery of the Regulatory Asset (RA) should be time-bound and within a period not exceeding threeyears at the most and preferably within the control period. The carrying cost of the RA should be allowed to

the utilities in the ARR of the year in which the RA are created to avoid the problem of cash flow to the

distribution licensee.

Fuel and Power Purchase cost is a major expense of the distribution company, which is uncontrollable. The

Fuel and Power Purchase cost adjustment should preferably be on a monthly basis but in no case exceed a

quarter. Any State Commission that does not already have such a formula/mechanism in place must put in

place such a formula/ mechanism within 6 months of the date of this order.


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ICRA Rating Feature

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Implementation of FPPCA principles being observed in more states

In our sector comment tiled State Owned Electricity Distribution Companies : Key Performance Indicators &

Credit Perspective, dated January 2011, we had highlighted the concern arising from inconsistency in FPPCA

framework and delays in filing of FPPCA petitions, which in turn strain the liquidity profiles of discoms. Regular

pass-through of FPPCA in retail tariff (and in the case of agriculture consumption, through increased subsidyfrom the state government) remains very crucial for discoms from their credit/liquidity perspective. Table 2

presents the current status of FPPCA mechanism applicable across discoms:

Table 2: Status on FPPCA Mechanism available for Discoms across States

FPPCA Mechanism Remarks

Gujarat Yes, Quarterly Approved @ 96 paise/unit w.e.f. February 2012

Maharashtra Yes, Monthly Capped at 10% of the prevailing energy charge

Andhra Pradesh Yes, Quarterly Significant delays in filing for FPPCA petition by discoms; Order for FPPCA for Q4-FY'10

and Q4- FY'09 was issued by APERC on 17 January, 2012 based on FAC petition filed on

25 August 2011; e.g. FPPCA admitted for January March 2010 is allowed to be

recovered between November 2012 and January 2013, reflecting a lag period of 35

months.

Karnataka No Considered by SERC at the time of APR and Final true-up

Tamil Nadu No

FPPCA framework is now suggested by TANGEDCO in its tariff petition submitted to

TNERC in November 2011

Rajasthan Yes, Quarterly As per the regulations dated January 2009, FPPCA is capped at 10% of the energy

charge or any other ceiling as stipulated by SERC. However, there is no petition filed

for claim of FPPCA by discoms so far.

Punjab Yes, Quarterly Subject to approval by SERC based on filings by discom. FPPCA for Q3-FY 11 is

approved by SERC in ARR approved for FY 2012 vide Tariff Order dated 9 May 2011.

Haryana Yes, Monthly Issued in May 2010; however, capped at 10% of approved energy charge; last tariff

order for FY 12 dated May 2011 allowed FPPCA of an average of 30 paise/unit in the

tariff.

Uttar Pradesh No Commission has directed UPPCL to suggest FSA mechanism in its tariff order dated

March 2010

Madhya Pradesh No Considered by SERC at the time of True-up of ARR

West Bengal Yes; Monthly Introduced in April 2011 and discontinued in May 2011, which subsequently was made

operational in January 2012; currently, FPPCA is admitted at 82 paise/unit.

Delhi Yes; Quarterly Introduced in August 2011; subsequently, 5% surcharge on applicable tariff for Fuel &

Power Purchase Adjustment has been allowed recently (in February 2012) by DERC for

discoms

Source: ICRA Research, SERC Regulations across States

Among the states as mentioned in Table 2, FPPCA is well operationlised in Gujarat and helps the discoms to

maintain healthy liquidity profiles. However, in states such as in Uttar Pradesh, Karnataka, Madhya Pradesh &

Tamil Nadu, this mechanism has been absent so far. While ATE has given the direction to SERCs, which do not

already have such a formula/mechanism in place, to put in place the same by June 2012, it is to be noted that

timely filing for FPPCA petition by utilities also remains important. Further, there is no suo-moto direction

available for determination/approval of FPPCA to SERCs in case of delays in filing of such petitions. Also, as

observed in the state of West Bengal, FPPCA mechanism, although introduced by SERC in April 2011, could not

be operationalised by the discom for a prolonged period of about 9 month during FY 2011-12 and such riskcannot be ruled out in other states.

Implementation of the recommendations of Shungulu Committee could be challenging

A high level panel headed by Shri. V. K. Shungulu, former CAG, appointed by the Planning Commission in July

2010 (with the objective of study to suggest measures for improvement in the commercial viability of the

distribution sector) issued the report7

on the financial position of distribution utilities in December 2011. The

implementation of the recommendations of the Shungulu Committee could be particularly challenging, given

that several stakeholders such as discoms, state governments and regulatory entities (SERCs) need to be

involved. Further, the Shungulu Committee has recommended that banks could sell loans under stress to a

new SPV, which is proposed to be 76% held by RBI. However, there is no clarity on RBIs view on the same.

7The report has assessed a) the financial position of distribution utilities between FY 2005 and FY 2010, b) electricity tariff determination process

including roles of State Government, SERCs and utilities, c) system improvement measures & operational issues and d) action plan to achieve the

financial viability for the distribution sector by 2017.


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ICRA Rating Feature

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Box 2 gives the key recommendations of the Shungulu Committee:

Box 2: Key Recommendations of the Shungulu Committee

SPV to be set up as a corporate entity (76% held by the RBI and the balance by PFC and REC), which will be

entitled to purchase loans (which are likely to be restructured) of the banks, subject to certain conditions.

o These conditions include a) banks to negotiate with the state government/utility for the revisedpayment schedule and b) state government to agree upon regular tariff increase, operational plan

to meet certain technical/ operational performance parameters and implementation of capital

expenditure for system improvement as a first priority.

o RBI would provide a line of credit to SPV for purchase of loans from the banks. In case of non-

compliance of terms set by SPV, the state government undertaking should be available to RBI

that the amount defaulted would be debited to the State Governments account with the RBI.

Thus, intentional default or non-adherence to the action plan would be unlikely.

Recommendations on the process of tariff determination are reiterated as per the directives of ATEs

judgement

In addition to the basic tariff (which is fixed taking into account the targeted loss levels by SERCs), a loss

surcharge should also be levied, which can vary area-wise within the license area so as to bring consumer

awareness and improve the accountability of the utilitys staff.

Selection committee for SERC should be broad-based so as to make the selection process fair, objectiveand independent. Also, a person who has worked during the preceding five years with the state

government or any of its undertaking should not be eligible for appointment as a member or chairman of

the commission in the same state. Committee1

to be appointed for oversight of the functioning as well as

periodic evaluation of the performance by the SERCs , with the main objective to ensure the accountability

of the regulators.

Distribution Franchisee Modelwould be the way forward on an urgent basis for the utilities to bring down

their distribution loss levels significantly, given the advantages over the public-private partnership model

and successful implementation of the franchisee model for the Bhivandi Circle in Maharashtra. This should

be extended to the states during the next few years to at least 255 towns, which account for over 40% of

the consumption.

R-APDRPscheme is a key step taken by the Central Government to reduce distribution losses; and should

be extended to the next Plan period with applicability to all towns above a population of 30,000 based on

Census 2011.

Utilities need to have a core team of IT experts in-house to work with IT consultants appointed under R-

APDRP; also, there is a need for skilled professionals in the human resource development and Finance

departments.


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ICRA Rating Feature

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