Report on Finance in Distribution in India

8/2/2019 Report on Finance in Distribution in India

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INVESTMENT OPPURTUNITY IN POWER DISTRIBUTION IN INDIA:

ISSUES AND CONCERNS

OVERVIEW OF POWER SECTOR IN INDIA

The Indian Electricity sector remained a complete State monopoly with social objectives till the

year 1991. The social objectives did help to serve the underprivileged domestic and the

agricultural class but the results were undesirable in the long run as continued cross subsidies

spelled disaster for the overall economy. The electricity prices rose in the industrial sector that

bore the brunt of the subsidies provided to the domestic and agriculture sectors and by 1999-

2000 the tariffs for the industrial sector became 15 times that in the agriculture sector and 2.1

times that in the domestic segment (Planning Commission, 2002a), forcing the industry to set

up its own captive power plants.

This resulted in dwindling power sales to the industrial sector (Industrial consumption goingdown from 67% in 1960 to 40% only by 1991 (TERI, 1993) and to nearly 30% by the year 1998-

1999 (Planning Commission, 2002a)). The result was that the State Electricity Boards

accumulated huge losses (Fig. 1) as the recovery of average financial cost of supply through

average revenue realized has declined from 76.7% in 1996- 1997 to 68.58% in 2001-2002. In

1995-1996 while 9 of the 19 SEBs incurred losses, by the year 2000-2001, all of them were in

the red (IEA, 2002). SEBs were increasingly unable to pay for the electricity they purchased from

the central public-sector power companies, or from independent power producers (IPPs). This

coupled with the policies such as unmetered charges in agriculture (flat rates charged based on

pump capacities) and often in the domestic sectors coupled with large scale thefts, resulted in

deteriorating O&M status reflected in mounting T&D losses that became very high (Fig. 1). The

power supply position as on March 2002, indicated a peak deficit of 12.6% and energy deficit of

7.5% at the All India level as against a peak deficit of 18% and energy deficit of 11.5% during

1996-1997 while the gap between average financial cost of supply and average revenue

realized increased from a level of 50paise/kWh in 1996-1997 to 110paise/kWh in 2001-2002.

(Planning Commission, 2002a).


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Reforms in India, introduced since 1991, did not result in significant improvement in the

financial creditworthiness of the SEB's and could not induce capacity addition in the sector. For

example, there were significant capacity slippages from the 5-year Plan targets both in VIII and

IX Plans (to the extent of 46% and 53%, respectively) (Planning Commission, 2002b). This was

despite the fact that reforms have been very comprehensive and have achieved significant

progress with respect to the following aspects:

Separation of policy, regulatory and operational aspects including set up of independent

Regulatory Commission at the Central and the State level.

Increased commercial autonomy to distribution companies. Unbundling for focused benchmarking across entities and transparent administration ofunbundled entities. Institutional reforms and capacity building initiatives including development of

organizational capabilities.

Transparent governance of the sector including better subsidy administration and welldefined enabling legal, policy, regulatory and commercial frameworks.

The issue before the government was not the achievements per se, but concerns with respect

to the pace of reforms and whether they fulfilled stakeholder's initial expectations. The

government was therefore, inclined to take steps that would expedite the reforms and would

revamp and restructure the power industry. It was with this aim that the Electricity Act, 2003

was recently enacted to consolidate the laws relating to generation, transmission, distribution,

trading and use of electricity and generally for taking measures conducive to development of

electricity industry, promoting competition therein, protecting interest of consumers and

supply of electricity to all areas, rationalization of electricity tariff, ensuring transparent policies

regarding subsidies, promotion of efficient and environmentally benign policies constitution of

Central Electricity Authority, Regulatory Commissions and establishment of Appellate Tribunal


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and for matters connected there-with or incidental thereto (The Gazette of India,

Extraordinary, 2003). The Act aims to provide the paradigm shift by progressive introduction to

competition and choice. The intent of the Act is to provide complete commercial autonomy to

buy and sell power. The provisions of the act have come into force since June 10, 2003 and the

Act consolidates and augments the previous Acts of The Indian Electricity Act 1910, Electricity

(Supply) Act 1948 and Electricity Regulatory Commissions (ERC) Act 1998. This paper analysesthe probable impacts and implications of the Electricity Act 2003, that are likely to have far

reaching consequences for the Indian Power Sector.

HISTORICAL BACKGROUND OF LEGISLATIVE INITIATIVES:-

THE INDIAN ELECTRICITY ACT, 1910

Provided basic framework for electric supply industry in India. Growth of the sector through licensees. Licence by State Govt. Provision for licence for supply of electricity in a specified area. Legal framework for laying down of wires and other works. Provisions laying down relationship between licensee and consumer.

THE ELECTRICITY (SUPPLY) ACT, 1948

Mandated creation of SEBs. Need for the State to step in (through SEBs) to extend electrification (so far limited to

cities) across the country.

MAIN AMENDMENTS TO THE INDIAN ELECTRICITY SUPPLY ACT

Amendment in 1975 to enable generation in Central sector. Amendment to bring in commercial viability in the functioning of SEBs Section 59amended to make the earning of a minimum return of 3% on fixed assets a statutory

requirement (w.e.f 1.4.1985) .

Amendment in 1991 to open generation to private sector and establishment of RLDCs. Amendment in 1998 to provide for private sector participation in transmission, and also

provision relating to Transmission Utilities.

THE ELECTRICITY REGULATORY COMMISSION ACT, 1998

Provision for setting up of Central / State Electricity Regulatory Commission with powers to determine tariffs.

Constitution of SERC optional for States. Distancing of Government from tariff determination.


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ELECTRICITY ACT, 2003

This Act has repealed above three Acts namely

1. The Indian Electricity Act, 19102. The Electricity (Supply) Act, 1948 and3. The Electricity Regulatory Commission Act, 1998.

The provisions of State Reforms Acts (list given at the end) have been saved under section 185(3) of the Act subject to the condition that the provisions of the enactments are not in

consistence with Electricity Act shall apply to the State in which such enactments are

applicable.

The salient features of the Electricity Act are as follows:

1. No licence is required for Generation and captive generation has been freely permitted.Hydro projects exceeding the capital cost notified by Central Government however,

need concurrence of the Central Electricity Authority.

2. No license required for generation and distribution in notified rural areas.3. Transmission Utility at the Central as well as State level, to be aGovernment company

with responsibility for planned and coordinated development of transmission network.

Provision for private licensees in transmission.

4. Trading, a distinct activity recognised with the safeguard of the Regulatory Commissionsbeing authorised to fix ceilings on trading margins, if necessary.

5. Open access in distribution with provision for surcharge for taking care of current levelof cross subsidy with the surcharge being gradually phased out.

6. Distribution licensees would be free to undertake generation and trading.7. The State Governments are required to re-organise the SEBs. However, they may

continue the SEB as State Transmission Utilities and licensees for such time the State

and Central Government agree.

8. Setting up of the State Electricity Regulatory Commission made mandatory.9. An Appellate Tribunal to hear appeals against the decision of the CERC and SERCs.10.Metering of all electricity supplied made mandatory.11.Provisions relating to theft of electricity made more stringent.12.For rural and remote areas stand alone systems for generation and distribution

permitted.

13.Thrust to complete rural electrification and provide for management of ruraldistribution by panchayats, cooperative societies, non-government organizations,

franchises, etc.

LOSSES IN DISTRIBUTION SECTOR

Indias transmission and distribution losses are among the highest in the world. When non -

technical losses such as energy theft are included in the total, losses go as high as 65% in some

states and average about 35- 40%. The financial loss has been estimated at 1.5% of the national

GDP. These act as a major deterrent to the private as well as global investments in the sector.

To address the issue of Aggregate Transmission and Commercial (AT&C) losses funding

mechanism was introduced for in the form of the Accelerated Power Development Reforms


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Programme (APDRP). Its key objectives were to reduce AT&C losses, improve customer

satisfaction as well as financial viability of the State Distribution Companies (SDCs), adopt a

systems approach and introduce greater transparency. It was in this backdrop that the

Restructured APDRP (R-APDRP) was conceived in September 2008 for the 11th Five Year Plan

(2007-12).

Strengths of Indian Economy

Investment climate in India is buoyant and various macro-economic parameter are reflecting

that pace of growth of the economy has accelerated and macro- economic fundamentals are

sound and moving towards right direction.

India has been able to achieve an economic growth rate of 8% per annum during lastfew years and is poised to achieve double digit growth rate.

Industrial growth rate has been recorded over 9% consistently in last few years. Domestic saving rates have been rising a reached over 29%.

Inflation rate has been moderate despite the sharp hike in International oil prices. The current account deficit is around 1.3% of the GDP and reflects the revival of

investment and also the impact of oil prices, but a deficit of this order is very much

financeable.

Foreign exchange reserves are at a very comfortable label of about $170 billion.

ELECTRICITY ACT 1910 - PROVISIONS RELATED TO DISTRIBUTION AND RIGHTS OF

THE LICENCEE

PROVISION REGARDING DISTRIBUTION

The section 22B of the Electricity Act 1910 emphasizes on the distribution of Electricity. Since

the Distribution sector was still bundled with the transmission hence there it does is not

majorly emphasized in the 1910 Act. The Distribution sector saw the major reforms and

emphasis in the Electricity Act 2003. The Section 22B of the Electricity Act 1910 can be stated

as:-

Section 22B : Power to control the distribution and consumption of energy.

1. If the State Government is of opinion that it is necessary or expedient so to do, formaintaining the supply and securing the equitable distribution of energy, it may by

order provide for regulating the supply, distribution, consumption or use thereof.2. Without prejudice to the generality of the powers conferred by subsection (1) all order

made there-under may direct the licensee not to comply, except with the permission of

the State Government, with:-

a. The provisions of any contract, agreement or requisition whether madebefore or after the commencement of the Indian Electricity (Amendment)


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Act, 1959, for the supply (other than the resumption of a supply) or an

increase in die supply of energy to any person, or.

b. Any requisition for the resumption of supply of energy to a consumer after aperiod of six months, from the date of its discontinuance, or

c. Any requisition for the resumption of supply of energy to a consumer after aperiod of six months, from the date of its discontinuance, where therequisitioning consumer was not himself the consumer of the supply at the

time of its discontinuance.

PROVISION REGARDING RIGHTS OF THE LISENCEE

The Licensing part of the Electricity Act 1910 is covered by the Section 3, Section 4, Section 4a

and Section 5. The Sections regarding licensing can be stated as follows:-

Section 3 : Grant of licenses

1. The State Government may, oil application made in the prescribed form and onpayment of the prescribed fee (if any) grant after consulting the State Electricity Board,a license to any person to supply energy in any specified area, and also to lay down or

place electric supply-lines for the conveyance and transmission of energy:-

a. Where the energy to be supplied is to be generated outside such area, from agenerating station situated outside such area to the boundary of such area, or

b. Where energy is to be conveyed or transmitted from any place in such area to anyother place therein across an intervening area not included therein, across such

area.

2. In respect of every such license and the grant thereof the following provisions shallhave effect, namely:

a. Any person applying for a license under this Part shall publish a notice of hisapplication in the prescribed manner and with the prescribed particulars, and the

license shall not be granted:-

Until all objections received by the State Government with reference theretohave been considered by it: Provided that no objection shall be so considered

unless it is received before the expiration of three months from the date of

the first publication of such notice as aforesaid; and

Until, in the case of an application for a license for an area including thewhole or any part of any cantonment aerodromes, fortress, arsenal,

dockyard or camp or of any building or place in the occupation of the

Government for defence purposes. the State Government has ascertainedthat there is no objection to the grant of the license on the part of the

Central Government.

b. Where an objection is received from any local authority concerned, the StateGovernment shall, if in its opinion the objection is insufficient, record in writing and

communicate to such local authority its reasons for such opinion.


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c. No application for a license under this Part shall be made by any local authorityexcept in pursuance of a resolution passed at a meeting of such authority held after

one months previous notice of the same and of the purpose thereof likes been

given in the manner in which notices of meetings of such local authority are usually

given.

d. A license under this part- May prescribe such terms as to the limits within which, and the compulsory

or permissive, and generally as to such matters as the State Government may

think fit; and

Save in cases in which under Section 10, clause (b), the provisions of Sections5 and 6, or either of them, have been declared not to apply, every such

license shall declare whether any generating station to be used in connection

with the undertaking shall or shall not form part of the undertaking for the

purpose of purchase under Section 5 or Section 6;

e. The grant of a license under this Part for any purpose shall not in any way hinder orrestrict the grant of license to another person within the same area of supply for a

like purpose.

f. The provisions contained in the Schedule shall be deemed to be incorporated withand to form part of, every license granted under this Part, save in so far as they are

expressly added to, varied or excepted by the license, and shall, subject to any such

additions, variations or exceptions which the State Government is hereby

empowered to make, apply to die undertaking authorized by the license:

Provided that where a license is granted in accordance with the provisions of clause

IX of the Schedule for the supply of energy to other licensees for distribution by

them, then, in so far as such license relates to such supply, the provisions of clauses

IV, V, VI, VII, VIII and XII of the Schedule shall not be deemed to be incorporatedwith the license.

Section 4 : Revocation or amendment of licenses.-

1. The State Government may, if ill its opinion the public interest so require and afterconsulting the State Electricity Board, revoke a license in any of the following cases,

namely:-

a. Where the licensee, in the opinion of the State Government, makes willful andunreasonably prolonged default in doing anything required of him by or under this

Act.b. Where the licensee breaks any of the terms or conditions of his license the breach ofwhich is expressly declared by such license to render it liable to revocation.

c. Where the licensee fails, within the period fixed in this behalf by his license or anylonger period which the State Government may substitute therefore by order under

[Section 4A, subsection (1), and before exercising any of the powers conferred oil

him thereby in relation to the execution of works:-


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To show, to the satisfaction of the State Government, that he is in a positionfully and efficiently to discharge the duties and obligations imposed on him

by his license, or

To make the deposit or furnish the security required by his license.d. Where in the opinion of the State Government the financial position of the licensee

is such that he is unable fully and efficiently to discharge the duties and obligations

imposed on him by his license.

e. Where a licensee, in the opinion of the State Government, has made default incomplying with any direction issued under Section 22A.

2. Where in its opinion the public interest so permits, the State Government may, oil theapplication or with the consent of the licensee, and after consulting the State Electricity

Board, and the Central Government where that Government is interested, and if the

licensee is not a local authority, after consulting also the local authority, if any,

concerned, revoke a license as to the whole or any part of the area of supply upon such

terms and conditions as it thinks fit.

3. No license shall be revoked under subsection (1) unless the State Government has givento the licensee not less than three months notice, in writing stating the grounds on

which it is proposed to revoke the license and has considered any cause shown by the

licensee within the period of that notice, against the proposed revocation.

4. Where the State Government might under subsection (1) revoke a license it may insteadof revoking the license permit it to remain in force subject to such further terms and

conditions as it thinks fit to impose and any further terms or conditions so imposed

shall be binding upon, and be observed by, the licensee, and shall be of like force laid

effect as if they were contained in the license.

Section 4A: Amendment of licenses:-

1. Where in its opinion the public interest so permits, the State Government, on theapplication, of the licensee or otherwise and, after consulting the State Electricity Board,

and if the licensee is not a local authority, also die local authority, if any, concerned,

may make such alterations and amendments in the terms and conditions of a license,

including the provisions specified in Section 3. Subsection (2), clause (f), as it thinks fit:-

Provided that no such alterations or amendments shall be made except with the

consent of the licensee unless such consent has, in the opinion of the StateGovernment, been unreasonably withheld.

2. Where the licensee has made an application under sub-section (1) proposing anyalterations or amendment in his license; the following provisions shall have effect.

Namely: -

a. The licensee shall publish a notice of the application in the prescribed inlayer andwith the prescribed particulars.


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b. The State Government shall not make any alterations or amendments until allobjections received by it with reference to the application within three months from

the date of the first publication of the notice hive been considered.

c. In the case of an application proposing alterations or amendments in the area ofsupply comprising the whole or any part of any cantonment,, aerodrome, fortress,

arsenal, dockyard or camp or of any building or place in the occupation of theGovernment for defence purposes, the State Government shall not make any

alterations or amendments except with the consent of the Central Government.

3. Before making any alterations or amendments in a license otherwise than on theapplication of the licensee, the State Government shall publish the proposed alterations

or amendments in the prescribed manner and with the prescribed particulars and

consider all objections received by it with reference to the proposed alterations or

amendments within three months from the date of the first publication of the notice;

and where alterations or amendments have been proposed in an area of supply such as

is referred to in clause (c) of sub-section (2), the State Government shall not make any

alterations or amendments except with the consent of the Central the Government.

Section 5: Provisions where license of a licensee, is revoked:-

1. Where the St Kate Government revokes, Linder Section 4, subsection (1), the license of alicensee, the following provisions shall have effect, namely:-

a. The State Government shall serve a notice of revocation upon the licensee and shallfix a date on which the revocation shall take effect; and on and with effect from that

date, or on and with effect from the date, if earlier, on which the undertaking of the

licensee is sold to a purchaser in pursuance of any of the succeeding clauses or is

delivered to a designated purchaser in pursuance of sub-section (3) all the powersand liabilities of die licensee under this Act shall absolutely cease and determine.

b. The State Government shall enquire from the State Electricity Board, and wherethe lincensee is not a local authority, also from any local authority constituted for

the area within which the whole of the area of supply is included, whether it is

willing to purchase the undertaking:

c. If the State Electricity Board is willing to purchase the undertaking, the StateGovernment shall, by notice in writing require the licensee to sell, Filed thereupon,

the licensee shall sell the undertaking to the State Electricity Board;

d. If the State Electricity Board is not willing to purchase the undertaking, the StateGovernment shall have the option of purchasing the undertaking and if it elects topurchase, it shall by notice in writing require the licensee to sell. and thereupon the

license shall sell the undertaking to it;

e. If the State Electricity Board is not willing to purchase the undertaking and the StateGovernment does not itself elect to purchase it, the State Government in any case

where the local authority referred to in clause (b) is willing to purchase the

undertaking shall by notice in writing require the licensee to sell, and thereupon the

licensee and sell the undertaking to that local authority;


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f. If no sale of the undertaking is effected under any of the foregoing, clauses and ifany other person is wiling to purchase the undertaking, the State Government may

by notice in writing require the licensee to sell, and thereupon the licensee shall sell

the undertaking to such other person.

2. Where an undertaking is sold under subsection (I) the purchaser shall pay to tile licenseethe purchase price of the undertaking determined in accordance with the provisions ofsubsection (1) and (2) Section 7A, or as the case may be, sub-section (3) of that section.

3. Where the State Government issues any notice under sub-section (1) requiring thelicensee to sell the undertaking, it may by such notice require the licensee to deliver,

and thereupon the licensee shall deliver oil a date specified in the notice the

undertaking to the designated purchaser pending the determination and payment of

the purchase price of the undertaking.

Provided that in any such case, the purchaser shall pay to the licensee, interest at the

Reserve Bank rate ruling at the time of delivery of the undertaking plus one per centum

on the purchase price of the undertaking for the period from the date of delivery of the

undertaking to the date of payment of the purchase price.

4. Where before the date fixed in the notice issued under clause (a) of sub-section (1) asthe date oil which the revocation of the license shall take effect, no notice likes been

issued to the licensee requiring him to sell the undertaken or where for any reason no

sale of the undertaking has been effected under that subsection, the licensee shall have

the option of disposing of all lands, buildings, works, materials and plant belonging to

the undertaking in such manner as he may think fit:

Provided that if the licensee does not exercise such option within a period of six months

from the aforesaid date, the State Government may forthwith cause the works of the

licensee in, under, over, along, or across any street to be removed and every such street

to be reinstated, and recover the cost of such removal and reinstatement from thelicensee.

ELECTRICITY SUPPLY ACT 1948

It is an Act to provide for the rationalization of the production and Supply of electricity, and

generally for taking measures Conducive to [Electrical development.]. Whereas it is expedient

to provide for the rationalization of the production and supply of electricity, for taking

measures conducive to [electrical development] and for all matters incidental thereto.

STATE OF OBJECTS AND REASONS

The coordinated development of electricity in India on a regional basis is a matter of

increasingly urgent importance for post-war re-construction and development. The absence of

coordinated system, in which generation is concentrated in the most efficient units and bulk

supply of energy centralized under the direction and control of one authority is one of the

factors that impedes the healthy and economical growth of electrical development in this

country. Besides, it is becoming more and more apparent that if the benefits of electricity are to


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be extended to semi-urban and rural areas in the most efficient and economical manner

consistent with the needs of an entire region, the area of development must transcend the

geographical limits of a municipality, a cantonment board or notified area committee, as the

case may be. It has, therefore, become necessary that the appropriate Government should be

vested with the necessary legislative powers to link together under one control electrical

development in contiguous areas by the establishment of what is generally known as the 'GridSystem'. In the circumstances of this country such a system need not necessarily involve inter-

connection throughout the length and the breadth of a province; regional co-ordination

inclusive of some measures of interconnection may be all that is needed.

An essential pre-requisite is, however, the acquisition of necessary legislative power not only to

facilitate the establishment of this system in newly licensed areas but also to control the

operation of existing licensees so as to secure fully coordinated development. Government

feels that it is not possible to legislate for this purpose within the frame-work of the Indian

Electricity Act, 1910, which was conceived for a very different purpose. In their view what is

needed is specific legislation, on the broad lines of the Electricity (Supply) Act, 1926, in force in

the United Kingdom, which will enable Provincial Governments to set up suitable organizations

to work out 'Grid System' within the territorial limits of the Provinces. Although executive

power under the proposed bill will necessarily vest in the provinces, two considerations

indicate necessity for

Central legislation-

The need for uniformity in the organization and development of the Grid System', and The necessity for the constitution of semi- autonomous bodies like Electricity Boards to

administer the 'Grid System'. In the view of the Government it is bodies like these which

are likely to be most suitable organizations for working the 'Grid Systems' on quasi-

commercial lines. Such Board cannot, however, be set up by Provincial Governmentsunder the existing Constitution Act as they would be in the nature of trading

corporation within the meaning of entry 33 of the Federal legislative List.

The section 5 of the act 1948 states the composition of SEBs and hence the sections can be

stated as follows:-

Section 5: CONSTITUTIONS AND COMPOSITION OF STATE ELECTRICITY

BOARDS.

1. The State Government shall, as soon as may be after the issue of the notification undersub-section (4) of Sec. 1, constitute by notification in the Official Gazette, a State

electricity Board under such name as shall be specified in the notification.

2. The Board shall consist of not less than three and not more than seven membersappointed by the State Government.

3. Of the members, -


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a) One shall be a person who has experience of, and has shown capacity in, commercialmatters and administration;

b) One shall be an electrical engineer with wide experience;andc) One shall be a person who has experience of accounting and financial matters in a

public utility undertaking, preferably electricity supply undertaking.]

4. One of the members possessing any of the qualifications specified in subsection (4) shallbe appointed by the State Government to be the Chairman of the Board.

5. A person shall be disqualified from being, appointed or being a member of the Board ifhe is a Member of Parliament or of any State Legislature or any local authority.

6. No act done by the Board shall be called in question on the ground only of the existenceof any vacancy in, or any defect in the constitution of, the Board.

There are various chapters in the Act which state the Constitution and Functioning of the board.

A brief description of chapters and its Sections can be shown as below:-

CHAPTER III: STATE ELECTRICITY BOARDS, GENERATING COMPANIES, STATE ELECTRICITY

CONSULTATIVE COUNCILS AND LOCAL ADVISORY COMMITTEES

Section 5: Constitution and composition of State Electricity Boards

Section 6: Inter-State agreement to extend Board's jurisdiction to another State

Section 7: Effect of inter-State agreement

Section 8: Term of office and conditions for re-appointment of members of the Board.

Section 9: Members not to hold interest in certain concerns

Section 10: Removal or suspension of members

Section 10-A: Power of State Government to declare certain transactions void

Section 11: Temporary absence of members

Section 12: Incorporation of Board

Section 12-A: Board may have capital structure

Section 13: Authentication of orders and other instruments of the Board

Section 14: Meetings of the Board

Section 15: Appointment of staff

Section 15-A: Objects, jurisdiction, etc. of generating companies

Section 16: State Electricity Consultative Council

Section 17: Local Advisory Committee

CHAPTER IV : POWERS AND DUTIES OF STATE ELECTRICITY BOARDS AND GENERATINGCOMPANIES

Section 18: General duties of the Board

Section 18-A: Duties of Generating Company

Section 19: Powers of the Board to supply electricity

Section 20: Power to Board to engage in certain undertakings


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Section 20-A: Leasing out, etc. of generating stations

Section 21: Powers of Board in relation to water power

Section 22: Power to Board to conduct investigations

Section 23: Loans by Board to licensees

Section 24: Power to Board to contribute to certain associations

Section 25: Consulting engineersSection 26: Board to have powers and obligations of licensee under Act IX of 1910

Section 26-A: Applicability of the provisions of Act 9 of 1910 to Generating

Company

Section 27: Other functions of the Board or a generating company

CHAPTER V : THE WORKS AND TRADING PROCEDURE OF THE BOARD AND THE GENERATING

COMPANY

Section 28: Preparation and sanctioning of schemes

Section 29: Submission of schemes for concurrence of Authority, etc.Section 30: Matters to be considered by the Authority

Section 31: Concurrence of Authority to scheme submitted to it by Board or Generating

Company

Section 32: Power to alter or extend schemes

Section 33: Provisions applicable to scheme prepared by State Governments

Section 34: Controlled stations

Section 35: Supply by the Board to licensees owning generating stations

Section 36: Power to Board to close down generating stations

Section 37: Purchase of generating stations or undertakings or main transmission lines by the

Board

Section 38: [Repealed]

Section 39: Operation of Board's generating stations

Section 40: Provision regarding connections with main transmission lines purchased by the

Board

Section 41: Use of transmission lines

Section 42: Powers to Board for placing wires, poles, etc.

Section 43: Power to Board to enter into arrangements for purchase or sale of electricity

Certain conditions

Section 43-A: Terms, conditions and tariff for sale of electricity by Generating Company

Section 44: Restriction on establishment of new generating stations or major additions or

replacement of plant in generating stationsSection 45: Power to Board to enter upon and shut down generating stations in certain

circumstances

Section 46: The Grid Tariff

Section 47: Power to Board to make alternative arrangements with licensees

Section 48: Power to licensee to carry out arrangements under this Act

Section 49: Provision for the sale of electricity by the Board to persons other than licensees

Section 50: Board not to supply electricity in certain circumstances


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Section 51: Provisional payments

Section 52: Lower limit of power factor in supply by Board

Section 53: Provision of accommodation and right of way

Section 54: Power to Board to connect meters, etc., to apparatus of licensees

Section 55: Compliance of directions of the Regional Electricity Board etc. by licensees or

Generating CompaniesSection 56: Leases of generating stations

Section 57: Licensee's charges to consumers

Section 57-A: Rating Committees

Section 57-B: Power of rating committee to call for information, etc.

Section 58: Power to direct amortization and tariffs policies of licensees being local authorities

CHAPTER VI: THE BOARD'S FINANCE, ACCOUNTS AND AUDIT

Section 59: General principles for Board's finance

Section 60: Board to assume obligations of State Government in respect of matters to which

this Act applies

Section 60-A: Period of limitation extended in certain cases

Section 61: Annual financial statement

Section 62: Restriction on unbudgeted expenditure

Section 63: Subventions to the Board

Section 64: Loans to the Board

Section 65: Power of Board to borrow

Section 66: Guarantee of loans

Section 66-A: Conversion of amount of loans into capital

Section 67: Priority of liabilities of the Board

Section 67-A: Interest on loans advanced by State Government to be paid only after otherexpenses

Section 68: Charging of depreciation by Board

Section 69: Accounts and audit

MARKET PROSPECTS FOR ELECTRICITY DISTRIBUTION SECTOR

The distribution reform was identified as the key area to bring about efficiency and improve

financial health of the power sector. Ministry of Power took various initiatives in the recent past

for bringing improvement in the distribution sector. All States have signed the Memorandum ofUnderstandings with the Ministry to take various steps to undertake distribution reforms in a

time bound manner. All the States have securitized their outstanding dues towards CPSUs. 13

States have unbundled/corporatized their SEBs and 27 States have constituted SERCs. 9 States

are expected to unbundled/corporatize their SEBs in near future. Electricity distribution has

been privatized in Orissa and Delhi. CERC bas issued inter-State trading licence to many

players in the field. CERC and many SERCs have issued regulations for open access in a phased


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manner and have also determined transmission tariff and surcharge to be paid for availing open

access facility.

POWER DISTRIBUTION

Out of the three sectors of electricity delivery chain, the distribution sector in India has been the most daunting

sector. More than 80 % of the total energy consumption is distributed by the public sector while the balance is

distributed by the private sector. The distribution sector is segmented into urban and rural parts. Both segments are

distinct with different challenges and concerns. The urban distribution is distinguished by high consumer density

coupled with higher rate of demand growth. The consumer mix is mostly commercial, residential, and industrial.

rural distribution segment is characterized by wide dispersal of network in large areas, high cost of supply, low

consumer paying capacity, large number of subsidized customers, un-metered flat rate supply to farmers, non

metering due to high cost and practical difficulties, low load and low rate of load growth. The consumer mix in rural

areas is mainly agriculture and residential. The biggest challenge of the distribution sector is the high aggregate

technical &commercial (AT&C) losses. The current AT&C losses are in the range of 18% to 62% in various states with

a national average of 30%. The poor condition of distribution sector has attracted the policy makers and regulatoryattention. The need to improve this sector was realized was felt at the beginning of x plan and is ongoing in the xi

plan.

KEY ISSUES FACING THE SECTOR

The problems in distribution sector such as lack of investment, commercial orientation, high AT&C losses and

distorted tariff policies have accumulated over the years. The key issues effecting overall performance of the

distribution sector are more or less common across India. The critical issues facing the distribution sector are

highlighted below:-

Issues related to high AT&C losses:

The biggest challenge of the power sector is the high AT&C losses. Both technical and non-technical factors are

contributing to high AT&C losses. More than 80% of the total technical loss and almost the entire commercial loss

occur at the distribution stage. The average AT&C losses which primarily include theft, poor billing, collection

inefficiency and network losses currently exceed 30% for the country as a whole. Such high losses, coupled with

tariff distortions, have made the distribution companies financially unviable, thereby constraining their ability to

either fund their own investment needs or attract private capital.

REASONS FOR HIGH AT&C LOSSES ( AGGREGATE TECHNICAL AND COMMERCIAL LOSSES)

Overloading of existing lines and substations. Low metering/billing/collection efficiency. Lack of up gradation of old lines and equipments theft, Pilferage and tampering of meters. Low HT: LT ratio. Low accountability of employees.


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Poor maintenance of substations. Lack of energy accounting and auditing. Non-installation of sufficient capacitors.

COMMERCIAL AND OPERATIONAL ISSUES

Ministry of Power (MoP) has estimated commercial losses at about USD 5 billion per year. The commercial losses

are primarily due to improper energy accounting, billing processes, faulty metering, under-billing, theft, pilferage of

energy and lack of accountability within the organization. Many states have undertaken 100% metering programs,

but so far only 87% of the total consumers are metered. The low level of collection efficiency is attributable to lack of

accountability, inadequate collection facilities, limited usage of IT and technology, billing errors and political and

administrative interference. The utilities are not able to conduct energy audit due to inadequate metering and data

collection system in place. Discoms do not have proper load monitoring and control mechanisms which results in

random control of the demand and often leads to loss of revenue.

ISSUES RELATED TO TECHNOLOGY:

The utilities especially in rural areas maintain manual records of consumers and as a result do not have complete

record of all consumers resulting in revenue loss. Electromechanical meters, manual reading of meters, manual bill

preparation and delivery and inadequate bill collection facilities leads to delay in revenue collection and revenue

leakage. Monitoring of consumer energy metering systems is critical to overall revenue collection. Asset database is

crucial in efficient management of assets and claiming depreciation under annual revenue requirement. Almost all

distribution companies do not have real-time monitoring system for demand management. Most Discoms do not

have distribution control centre for managing load shedding and instructions from SLDC.

ISSUES RELATED TO PRIVATE PARTICIPATION

The experience of private participation in distribution has not been to the expected level. However, the Electricity

Act provides adequate signals in terms of attractiveness of this segment for private investment. The Act provides for

parallel and second distribution licensee in same area of supply, which enables setting up parallel distribution lines in

specific areas. Private participation impediments can be largely attributed to the risks involved. Until risks related to

measurement of operational parameters such as losses, regulatory risks and political risks are not minimized, the

privatization opportunities maybe limited.

REGULATORY FRAMEWORK FOR DISTRIBUTION

ELECTRICITY ACT 2003

Initially, Reform Acts passed by various States [Orissa, Haryana, AP, Rajasthan, etc. amended

the Electricity (Supply) Act 1948 to introduce regulatory framework, functional unbundling of


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SEBs (including formation of Discoms subsequently) and operations of these unbundled entities

as licensees supervised by the Regulator.

With Electricity Act 2003 ("EA03") coming into force from June 10,2003, the previous Acts

governing the electricity supply in the country, viz., the Indian Electricity Act 1910, the

Electricity (Supply) Act 1948, and the Electricity Regulatory Commissions Act 1998 standrepealed. The provisions of 'EA03' consolidate and augment the previous Acts.

Electricity Act 2003 requires licence for distribution and supply (hereinafter called 'licensee'),

transmission and trading. No licence is required for generation or franchisee working within

distribution or captive supply. For distribution and supply, the SERC fixes the value as part of

bundled tariff.

A Licensee can engage in activity (other than that listed in the licence) only with the approval of

the Regulator. Areas of supervision by SERC over a licensee, include:

Approve licenses in the area of business.

Examining Costs/ Efficiencies -as set out in Tariff Order. Right to receive petitions for/against licensees business conduct. Right to receipt of subsidy by the licensee as set out in the Tariff Order. Right to perusal of connection, quality standards, servicing standards, etc. Right to studying and analyzing. Tariff charged to consumers.

REGULATORY PROCESS

LICENSING:

A person including a company can apply for license. SERC/ CERC (referred henceforth as ERC)

examine the organizational capability of the licensee by conducting public hearing and eliciting

technical analysis from the staff of the Commission backed by rejoinders from the licensee.

Based on this, it prepares an order disposing off the application -either granting or rejecting the

request.

According to EA'O3, there are certain conditions relating to issuing, of licenses. It states that in

case an application is made for second distribution and supply license for an area, the

Commission cannot reject the application because of the situation of an incumbent licensee.

ANNUAL REVENUE REQUIREMENT (ARR) AND TARIFFS APPLICATION:

Currently, when there is an overall generation deficit scenario and where most of the

generation capacity (owned by Central and State Governments and even IPPs) is contracted

through long-term Power Purchase Agreements (which typically cannot be disturbed), the


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transition to competitive market-based power pool will take more time. Hence, the tariff is still

regulated by ERCs in country.

Accordingly, every year, a distribution licensee has to file with the Commission, a return

showing the activities of the previous year, the activities for the current year and the activities

projected for the ensuing year. Activity would mean expected/ actual revenues from sale ofpower, costs to be incurred including network costs, transmission charges, SLDC charges and

power procurement costs, subsidies received/receivable etc.

MULTI FEAR TARIFF (MYT) FRAMEWORK:

Many ERCs have contemplated MYT idea, right from the beginning (1998 onwards), to move

from the 'cost +' approach of Sch VI: Electricity (Supply) Act, 1948 towards performance-based

cost of service tariffs with a longer time horizon. As per National Tariff Policy, SERCs have to

introduce the MYT framework in their respective States with effect from April. SERCs will be

required to set out the principles of MYT as suited for the State and invite the utility to respondto these concepts. Based on the agreed concepts and principles, SERCs would ask the utility to

provide data and analysis.

This submission would be heard in public (similar to the current tariff hearings) to arrive at the

MYT order, wherein SERCs will fix certain parameters at the beginning of the control period (3

to 5 years) and evaluate the result only at the end of the control period. If the utility has

improved the parameters in the interim, it stands to make profits till the end of control period

and vice-versa.

DISTRIBUTION -A SEPARATE ACTIVITY

Electricity Act 2003 allows distribution to be separated from supply. Supply circles even up to

the level of sub-stations could be given to private parties, thus effectively doing away with the

requirement of large utilities and business firms. A much wider choice of business entities could

thus be tapped for privatization of Distribution than has been possible in the Orissa and Delhi

models. Due to 1he positive environment provided by the Act, competition in the Distribution

sector will increase in the medium to long -term, especially due to Open Access condition. The

larger consumers will have access to various suppliers. Hence, Distribution Companies

(Discoms) will have to work on strategies to retain consumers. The players will also have. to

focus on controlling the costs, and hence will have to concentrate on improving the existing

infrastructure.

IMPLICATIONS OF PARALLEL LICENSES

Parallel distribution networks in a supply area take away the exclusivity of the distribution

licensee. In such cases, the regulator may fix only a ceiling on tariff for retail sale in order to


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promote competition. The existing licensee typically serves a. mix of subsidizing and subsidized

consumers. The second distribution licensee may focus only on a selected area where the

consumer mix may have a high proportion of lucrative industrial and commercial consumers in

urban areas to whom he can supply at lower tariffs as there will be no burden of cross subsidy

burden. Thus, with cherry picking by the parallel distribution licensee, the cross subsidy

available to the incumbent licensee will get reduced and the same will be forced to raise thetariff for subsidized categories of consumers. This may lead to tariff shock requiring

intervention by the respective State Government in the form of higher grant of subsidies.

Huge investment is required for constructing parallel network and lack of corridors for the same

may hinder the entry of second parallel licensee. However, multiple distribution licenses allow

for introduction of competition from the supply side. In a developing country laying out the

network for the first time in many areas, multiple distribution licenses might well be a desirable

option.

Typically, an increase in load density reduces distribution costs per kWh consumed and thus

simply adding new customers does not reduce such costs beyond a low threshold of about

10,000 customers per Distribution Company. As long as load density is sufficiently high, one can

conceive of a distribution company serving as few as 10,000 customers. This explains the

rationale for such I provision in the new legislation.

PRIVATISATION OF DISCOMS: DIFFERENT MODELS

Several Discoms, which are currently wholly owned by State Governments, are likely to be

privatized in the near future. Differing models of privatisation have been used in the country so

far (the Delhi model, for instance, uses a fixed transitory support along with a defined trajectoryof AT&C loss reduction) and several others are likely to be used in future. The impact of

privatisation on Discoms in a particular geographic region has to be evaluated.

BUSINESS MODELS AND FINANCIAL ISSUES

Business models associated with electricity distribution are typically categorized as under:

Wires only utilities Wires plus metering and billing (M&B) utilities; Wires, M&B plus supply utilities (that is, power procurement, hedging and sale to retail

customers); and

Wires, M&B, supply, plus generation utilities (also referred to as vertically integratedutilities)


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Unbundling will reduce the size of utility corporations, and separate the risks, opportunities,

and revenue streams associated with each utility function. Consequently, the new corporate

structure, the scope of competition in the restructured industry, and the type of regulation over

the remaining monopoly functions will affect the risk to reward ratios of the regulated utility.

Future merger and acquisition activity will also impact each segment's access to financing. Thefinancing issues relating investments in different business models listed above are discussed

below.

WIRES' FUNCTIONS

The cost of wires service and metering and billing service account for approximately 20% of the

delivered cost of electricity. The 'Wires Only' model represents a utility that has approximately

15% of the capitalization of a traditional, vertically-integrated utility. While a Wires' utility has

substantially reduced capital requirements, its smaller size and lack of experience and

regulatory history may make access to capital more difficult and costly in the near term. Wires'utilities may find that they are competing with the generation, transmission sector and retail

marketing sector for available capital. Clearly-defined regulation and experience regarding

treatment of capital expenditures may improve Wires' utilities scope of obtaining finance from

investors seeking stable investment.

The magnitude of future investment in distribution capacity will depend on numerous factors

such as

1. Growth in the customer base2. Changes in the design of the distribution system (from a radial to a network design to

accommodate increased usage), and;

3. A need for better monitoring and control {investment in Supervisory Control And DataAcquisition (SCADA) of the network.

It is likely that utilities have under-invested in distribution assets in order to free up cash for

other activities in emerging competitive markets, thus increasing the need for better

investments in the near term. Countering these uncertainties is the reality that most customer

loads are stable or growing in a predictable fashion. Even dramatic changes in generation

dispatch that result from wholesale competition will have little or no impact on the physical

flows of power on the distribution network. Distribution utilities prefer more stable pricing of

distribution service. Regulation allowing fixed monthly charges for distribution service is likely

to increase investors' confidence.


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METERING AND BILLING FUNCTIONS

As with the Wires' only model, a M&B utility has substantially reduced capital requirements.

M&B utilities has a more accepted role to play in restructured energy markets as compared to

Wires' only utilities. More fixed monthly charges and fewer usage-based charges for

distribution service may reduce the need for additional metering function. This implies thatdesign of a simpler tariff structure lessens the need for improved metering capabilities. The

future metering needs resulting from restructuring involve some uncertainty. Investments in

new metering technologies may result from restructuring requirements for particular classes or

sizes of customers. For example, all customers above a particular load (say, one mega watt)

may require advanced metering capabilities. However, the impact on overall M&B utility

investment will not be significant unless there is a widespread call for enhanced metering for a

large number of small customers.

The willingness to invest in metering technologies may also be affected by regulatory policy

regarding recovery of stranded metering costs. However, investments in new billing systemswill be required to implement restructuring. The magnitude of these investments will be a

function of the specific market and regulatory decisions in respective States.

ENERGY PROCUREMENT, HEDGING AND SALE FUNCTIONS

In an enhanced power trading scenario, the electricity distribution companies are entrusted

with the responsibility of purchase of the commodity from the spot market (power exchange)

for resale to retail customers. While the selling price to the retail customers is fixed by

regulation, the purchase cost of the commodity of electricity is not fixed. The regulatory regime

designed for supply utilities in a restructured market has created a mismatch between risks and

revenue potential. Bulk Supply Tariffs are governed by existing PPAs, which will be allocated to

DISCOMS in Multi Buyer Scenario. The pass-through of increase in power supply costs will be

decided by the respective State Commissions.

FINANCING: ISSUES

STATE GOVERNMENT SUPPORT:

As a key stakeholder in the restructuring. of the industry, the extent of State Government

support is an important rating criteria for financing a Discom, at least in the initial stages. State

Government support manifests itself in various forms, with some of the most important ones

being as follows:

Takeover of liabilities of the erstwhile SEB by the State Government at the time of

operationalisation of Discoms to enable the new entities start operations on a clean slate.

Write-off of State loans against receivables from State bodies, and securitization of pastdues.


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Transitory subsidy support to the utilities to ensure stability of cash flows during theinterim period, i.e. before the entity attains commercial viability on a standalone basis.

It is clear that the gap between costs and revenues can be expected to be bridged only

gradually.

Implementation of anti-theft laws. Under the Accelerated Power Development and Refonns Programme

(APDRP),Government of India, makes available concessional funds, including incentives

linked to cash loss reduction, for undertaking Distribution Reforms. The timely release of

such funds by the State Governments to the Discoms is also a reflection of State

Government's sincerity in supporting them and carrying out the reforms.

PAYMENTS OF DUES BY GOVERNMENT DEPARTMENTS

Traditionally, the track record of payment by Government departments the utilities has been

unsatisfactory. Ensuring prompt payment of dues to a Discoms from these departments may

also be considered as indicative of State Governments' implicit support to the power sectorreforms and may improve creditworthiness of the Discoms for the bankers. However, the key

determination this regard will be the financial strength of the State and its track record of of

actual Subsidy vis-a-vis what is promised in the Financial Restructuring Plan (FRP).

REGULATORY PROCESS

The transparency, predictability and consistency of the regulatory process have a key influence

on the cash flows. of a Discom. The key aspects of the regulatory process that require

evaluation are classified as below:

Ideally, tariff orders should be passed and implemented by the first month of a financial year sothat Discoms know clearly the efficiency parameters that are expected to be complied with, as

also avoid the problems associated with implementing tariff orders with retrospective effect.

The other related issue is the implementation of tariff orders, especially relating to increases in

agricultural tariff, which many State Governments have routinely delayed.

EFFICIENCY IMPROVEMENT TARGETS:

Under the existing cost-plus tariff setting process, the distribution network cost is a pass-

through, subject to certain operating efficiency targets being met. The actual efficiency levels

may be at variance with the ones assumed by the Electricity Regulatory Commissions (ERCs),which would mean that the Discom is not able to recover, through tariffs, the costs it has

incurred. The most contentious issue is that of distribution losses that are allowed by the ERCs

vs the actual, and the feasibility of meeting the distribution loss reduction targets that have

been set by the ERC.


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MULTI-YEAR TARGETS

Lack of predictability in the tariff setting process is a key uncertainty from the credit

perspective. Multi-Year Tariff policy (with incentives and cost pass through factors) goes a long

way in mitigating such uncertainties, and initiatives by certain

ERCs in delineating the broad contours of a Multi-Year Tariff Policy are a welcome sign in thisdiscretion.

DEMOGRAPHIC PROFILE

The demographic profile of the license area that a Discom serves, determines the quality of

cash flows, as well as the extent of likely threat from competition. Given the level of cross-

subsidy currently prevalent in the tariff structure, a high proportion of agricultural consumption

inevitably implies relatively higher levels of cross-subsidy and far greater burden of subsidy

payment on the State Government. On the other hand, a higher proportion of Commercial and

High Tension (HT) segment in the consumer mix means greater vulnerability to competition in a

liberal regime allowing captive power plants (CPPs) as well as freedom to consumers to source

power from alternative sources in an Open Access Scenario. The key determinants of

demographic profile are:

Proportion of various consumer segments Growth rates in different segments Extent of agricultural consumption

GEOGRAPHICAL DISPERSION OF HT CONSUMERS

The extent of geographical dispersion within the HT segment is an indicator of concentration

risk and hence threats of competition. Initiatives by the State Governments to minimise theimpact of high-paying consumers switching from the incumbent licensee will improve their

rating. For instance, Discoms in some States have initiated supply of power to HT industrial

consumers through a special incentive scheme of tariffs which are substantially lower than the

normal tariff applicable to such consumers. Further, some State Governments have been

levying taxes on captive power generation, which also mitigates the threat from CPPs to some

extent, although questions remain about the sustainability of such measures.

Different Discoms, even within a State, can have greatly varying consumer mixes, and

consequently, different levels of cost coverage from revenues, implying divergent credit

profiles. It may be noted that despite the progress of reforms, it is unlikely that many Discomswill be able to attain 100% coverage of costs from revenues: in the immediate future.

Therefore, the issues of relevance are the extent of the gap between the Average Cost of

Supply (ACS) and Average Revenue Realisation (ARR), the trends in this gap, and the way the

gap is bridged.


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COST COMPETITIVENESS

With an increasingly liberalized environment emerging in the country's power sector, the ability

to withstand competition depends largely on cost competitiveness. Cost competitiveness, in the

case of a Discorn, is a function of two factors:

Power purchase cost Operating efficiency

Presently, power purchase cost is beyond the control of an individual Discom, governed by

long-term PPAs with the Transcos. Besides, power purchase cost is normally allowed as a full

pass-through for recovery through tariffs. However, with the implementation of the Electricity

Act, 2003, Transcos are not allowed to trade in power and Discoms have to contract directly

with the generating units. Several Discoms are likely to explore opportunities to procure power

more profitably, either by acquiring their own generating stations or buying power from

cheaper sources even outside the State. Power purchase costs also may then be scrutinized

more rigidly by the ERCs.

The key determinants of a Discom's operating efficiency are as follows:

Trends in Aggregate and Technical Commercial (AT&C) losses. Employee per 1,000 consumers served. Distribution costs per unit energy procured/distributed. Proportion of metered sales. Quality and reliability of service.

The most important efficiency parameter for a Distribution Licensee is the success in reducing

AT&C losses, especially in relation to the regulatory targets that have been set. The AT&C loss,

besides the T&D losses, is a reflection of the impaired Collection efficiency, which is an

important efficiency indicator for a Discom. Since collection efficiencies typically tend to be on

the lower side, especially where the service area bas a large proportion of agricultural

consumers. Manpower cost is also an important element of a Discom's cost structure. However,

several Discoms have been taking steps to outsource a part of meter reading, billing and

collection function to lower the manpower intensity of operations. The other key components

of a Discom's cost structure are essential Operation & Maintenance (O&M) costs (largely

inflexible), depreciation, and interest charges. Interest charges are a function of the debt stock

with which a Discom start its operations, the extent of uncovered deficit that needs to be debt

funded and the working capital requirement.

The proportion of metered sales is a crucial indicator of a Discom's operating efficiency since it

directly impacts a Discom's ability to appropriately recover costs through tariffs. However,

universal metering at the consumer end is an expensive process, and a key challenge for

Discom is, therefore, to balance the conflicting requirement of minimising capital expenditure

and reducing losses. Quality and reliability of service have to be measured with respect to


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variables like Distribution Transformer Failure Rate, Interruptions, Outages, an9 Reliabi1ity

Index.

The current financial position of a Discom is reflected in its capitalisation, debt servicing and

profitability. The key parameter for assessing profitability is coverage of costs by revenues,

without subsidy support from the State Government. However, to the extent that agriculturalconsumption is subsidised on specific directives from the Government, the subsidy component

has to be factored assuming that it has been received in a timely manner. Excessive

dependence on such subsidy support has to be viewed as a negative aspect from the financing

perspective, given the concerns over sustainability and timeliness of subsidy inflows.

The other indicators of financial position include the ratio of debt to net worth, debt service

coverage, interest coverage, and ratio of cash flows to total debt. Given that a Discom's cash

flows are usually stable and predictable, it would be in a position to support a larger debt on its

book as compared with an entity operating in a cyclical industry. However, a Discom's ability to

start operations with moderate capitalization is almost wholly dependent on the State

Government support extended during operationalisation and the transitory phase.

CASH FLAW ADEQUACY

Cash flow projections have to be examined to determine its adequacy in relation to the debt

being serviced. The key variables that have an impact on a Discom's debt servicing ability are:

Ability to attain the AT &C loss targets specified by the ERC Capital expenditure that will be required to meet projected load growth, improve

service and lower distribution losses

The ability of a Discom to meet distribution loss targets hinges on progress in areas like: Achieving metering at all levels, viz. 33 KV and 11 KV, distribution transformers and consumers, which facilitates the process of energy audit to Identify high-loss feeders / areas. Other steps like improving the proportion of HT lines, introducing High Voltage Distribution System (HVDS), rationalization of load profile and strengthening of

transformers.

Strict implementation of anti-theft laws. Using Information Technology (IT) systems like SCADA2.

Discoms usually have to incur large capital expenditure to meet the projected load growth,reduce losses and improve the quality and reliability of power. The major sources of funding are

consumer contribution, retained earnings (if any), funds under APDRP scheme, and commercial

loans from banks and financial institutions (FIs). The cash flow analysis therefore factors in the

likely funding requirements, the sources of funds, and the maturity profile of loans expected to

be contracted.


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RISKS ASSOCIATED WITH INDIAN POWER SECTOR

Historically, since its commencement of economic liberalization in 1991, Indias increasingly insatiable power needs,

along with its general trend toward economic liberalization, led to much interest among foreign investors in

establishing IPP projects in India. While dozens of projects were approved, and the foreign and Indian private

sectors constructed several such power plants between 1992 through 2004, most of the largest projects have beenstalled by considerable payment risk issues. A number of factors in the power sector hampered IPPs from attaining

financial closure. These factors include, but are not limited to, the following:

1. Lack of credit worthiness of the SEBs.2. Substantial cross-subsidies and politicized tariff setting.3. Inadequate off-take and payment guarantee mechanisms.4. Inadequate fuel supply and transportation agreements, with the significant issues involving how to cover

risks between the SEBs, Coal /Gas supply.

PROJECT EVALUATION AND RISKS

A credit analysis on the sponsors is conducted for every project before finances can be arranged. These reviews are

often conducted according to a process that differs from one bank to another, but certain fundamentals are

constant. Typically, a separate credit department that uses a rigorous set of criteria to determine the

creditworthiness of the project, the sponsor, and the off taker performs the analysis. Power has always been used

as a Political handle in the country due to its wide spread economic implications both for the industrial as well as the

agricultural sector. Thus the major risks in the Indian Power Sector would be country, political and economic risks,

lending risks and project risks. Also an analysis is warranted for company management. The following risks are

typical of the Indian scenario:-

1. Permitting risk and Political opposition to the project.2. Inability to obtain a financeable power purchase agreement, either because the power price is too low or

the terms are not acceptable.

3. Regulatory disapprovals.4. Frequent Change in law.


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CONCLUSION

In the medium term, the energy demand is to increase at a CAGR of 7.7%. After factoring in the

trend in reduction in T&D losses, the requirement of energy is expected to increase at a CAGR

of 6.6%. By 2009-10, the requirement is expected to be the highest in the Northern and

Western region accounting for 32% and 36%, respectively, of the total requirement for power.

This will be followed by Southern region (22%) and Eastern region (around 9%) and NE region

(1%). For the same year, around 30 per cent of energy supply is likely to come from both

Northern and Western regions and around 25% from the Southern region. The Northern,

Western and North-Eastern regions will continue to witness a deficit situation. The Eastern and

Southern regions are expected to be surplus in power.

Thus, in the context of enhanced scope of power trading, Discoms will be sourcing power from

surplus regions, for distribution in the deficit regions. Financing of Discoms will depend on the

following factors:

1. Demographic & Demand factors: Proportion of various consuming segments Growth rates in different segments Extent of agricultural consumption Geographical dispersion of ill consumers

2. Ownership: State Government owned Private owned Franchisee

3. Business model: Wires only utilities Wires plus metering and billing (M&B) utilities Wires, M&B plus supply utilities (that is, power procurement, hedging and sale to

retail customers}, and

Wires, M&B, supply, plus generation utilities (also referred to as a vertically integrated utilities)

4. State Government and Regulatory Framework: Treatment of past assets/liabilities Treatment of regulatory assets Progress in regulations regarding Multi Year Tariff policy, transfer of trading and

power procurement to distribution licensees, competitive bidding for power

procurement, performance standards of licensees, Grid Code, intra-State ABT and

captive power policy

Transparency, predictability and consistency of the regulatory process.


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Release of concessional funds under the Accelerated Power Development andReforms Programme (APDRP) to States.

Payment / Securitization of past dues of SEBs5. Presence of Competitive Forces:

Entry of Parallel licenses which in turn depends of cherry picking and universalobligation issues.

Power market will take time to evolve. Migration from a Single Buyer Model to MultiBuyer Model will transfer the buying power to Discoms. However the purchase of

power will still be governed by the past PPAs and hence true price. discovery as can

be obtained form a fully developed power market will not be possible till sufficient

power (in terms of volume and transactions) is traded in the market.

6. Tariff Issues: Restrictions on Retail Tariff as regulated by respective Regulatory Commissions. Volatility in Bulk Supply Tariff (Contracts and price discovery through markets).

PRIVATIZATION OF DISTRIBUTION

The Private distribution companies have already been operating in various parts of the country, namely Calcutta

Electric Supply Company (CESC) in Kolkata, Ahmedabad Electricity Company Limited in Ahmedabad, Surat

Electricity Company Limited in Surat, Tata Power Company and Bombay Sub-urban Electric Supply Company

Limited in Mumbai and Noida Power Company in Greater Noida. These companies have been functioning

smoothly over a period of time. Consequent to enactment of the Reform Acts, Orissa and Delhi have privatized

distribution in their States. Distribution was privatized in Orissa in 1999 and in Delhi in July 2002. The Reforms actprovide for constitution of Electricity Regulatory Commission, restructuring of electricity industry and increasing

avenues for participation of private sector for taking measures conducive to the development and management

of the electricity industry in an efficient, commercial, economic and competitive manner.

IMPACT OF PRIVATIZATION ON DISTRIBUTION

Delhi is seen as the future model for privatization of distribution in the country and the impact of the privatization

was immediate on the performance. The Delhi power scenario in itself has been rated the best in the country

according to CRISIL and ICRA [CRISIL and ICRA, 2004]. Prior to privatization, the Aggregate Technical and

Commercial (AT&C) loss level was 50.7 per cent. A loss reduction path of 17 percentage points was charted for theprivate distribution companies over a period of five years. These private companies have strong incentives to

outperform these targets, since the loss reduction would be equally shared between consumers and the

distribution companies. Distribution has been a tough business from the borrowers experience unless there is

adequate support from state govt. The non-financial aspects of the Discom business include a constant need to

keep pace with everything related to business in terms of technology, regulatory changes, legal issues etc. Past

experience has suggested that it is tough to get appreciated. The financial aspects of the business include a

necessary time of 3 years for the business to stabilize. The returns are also not that attractive compared to the risk


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involved. What makes business sense to the players is the fact that they can takeover Discoms to protect their

generation. So we can expect players like Reliance Energy and Tata Power to move aggressively to take over

Discoms in UP and Maharashtra, where they have generation interests.

DISTRIBUTION REFORMS AND PRIVATIZATION

Most of the ills of the Indian power sector find their origin in the distribution segment. The distribution segment has

lagged both in terms of operational efficiency as well as financial performance. The slow pace of investment

generation as well as distribution segment can be attributed to the severe cash flow problem associated with the

under-recovery of costs and poor collection efficiency. Poor operational efficiency further aggravates the situation.

Recognizing the need to accelerate reforms in the distribution sector the central government introduced the

Accelerated Power Development Programme (APDP) in200001 to restore the commercial viability of the

distribution segment. To encourage reforms in the distribution sector, it was rechristened the Accelerated

Power Development and Reforms Programme (APDRP) during 200203. Additional emphasis was placed on

milestones for reforming the ailing distribution segment in the states. The main objectives of the programme

include improving the financial viability of state utilities, reducing of aggregate technical and commercial (AT & C)losses, improving customer satisfaction, and increasing the reliability and quality of the power supply. The scheme

also encourages the establishment of SERCs, metering of 11 kV feeders and of all consumers, and energy audits at

the 11 kV level. A number of state utilities gained from the APDRP scheme by reducing cash losses and securing

equivalent grants from the central government.

The reform linked investment component also motivated restructuring and initiation of regulatory reforms in

various states. The privatization plan for distribution zones in Delhi specified a five-year tariff profile, agreeable to the

regulator (Delhi Electricity Regulatory Commission). This helped in mitigation of regulatory risk by ensuring tariff

certainty and performance milestones for a five-year window. Even so, the privatization scheme was made possible

by a substantial subsidy budgeted by the state government over the five year period. This would not be easy to

replicate in other states. The Planning Commission has estimated that if the privatization of distribution in other

states is carried out in line with the Delhi model, it would translate into a huge viability gap financing. In the

privatized distribution zone of Orissa and Delhi, T&D losses remain above 33% and 25% respectively. Given the not-

so-successful experience to date, the Planning Commission has suggested alternatives such as last mile privatization

involving metering, meter reading, billing and collection.

RECOMMENDATIONS FOR MAKING DISTRIBUTION SECTOR A LUCRATIVE

INVESTMENT OPTION:-

Total revenue in the power sector (including the revenue for generators, fuel suppliers, transmission, and

distribution) has to come from the consumers, channelized through Distribution/Supply Licensee and open access

to the consumers. Therefore,

Interface with consumers needs highest attention. Preparation of Road Map for reduction of losses and cross subsidies through efficiency improvements by

way of privatization.

Success and Strength of Distribution is the key for catalyzing investment in power sector.


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Power Distribution and Supply business need to be streamlined and strengthened for catalyzinginvestment.

Separation of Distribution and Supply business. If power supply is to be subsidized, it should be done by the government and not at the cost of others

through cross subsidy.

Create awareness among Distribution Utilities; provide them appropriate Govt./Regulatory flexibility andsupport.

The Electricity Act, 2003 aims to bring in more competition in the power sector in India to increase the efficiency of

the system in general and the State Electricity Boards in particular. Yet thus far, the pace and implementation of

reform has not proved successful in raising tariffs to cover costs, and although some states have made progress,

work must still be done to improve abysmal bill collection rates. There negotiation and cancellation of PPAs in India

reflected these failures of reform by forcing heavily burdened SEBs and regulators to squeeze private investors

when facing a budgetary impasse, which was aggravated by political transitions. But unless the next few years

continue corporatizations and subsequent privatizations of the SEBs, the good intentions may never materialize.However, with the retreat of global energy investors and contractors, well established domestic electricity and

infrastructure companies such as Tata and Reliance have partially filled the gap and may continue to hold the

competitive advantage. The Ministry of Power needs to accelerate the development of the National Grid because

the lack of Transmission capacity is harming the cost effectiveness of delivered power. As for financing the sector,

the Inter-Institutional Group needs to start working on the Public Private Participation model wherein the Private

entrepreneurial skills a reactively supported by public funds not just in the form of debt financing but also equity

participation. Direct incentives should also be provided to the Independent Power Producers in terms of lowering of

Customs and Excise duties on project imports for IPPs. To improve the inherent financial viability of the sector the

government needs to introduce multi-year tariff regime to improve predictability of investment outcome and also

eliminate cross subsidies that hamper rationalization of tariffs.

Documents

Report on Finance in Distribution in India