To improve the cash flow in the power sector and introduce payment discipline among discoms, the Ministry of Power (MoP) recently issued the Electricity (Late Payment Surcharge and Related Matters) Rules 2022, which allow discoms to repay their outstanding dues, including principal amount and LPS, to generation and transmission companies in equated monthly instalments (EMIs). Accordingly, the total dues will be rescheduled and the due dates will be redetermined for payment by a discom. Industry experts share their views on the new rules, the need for liquidation of past discom dues and the long-term strategy to avoid a build-up of discom dues in the future. Excerpts…
Do you think the distribution segment needs another round of liquidation of past dues? What should be the long-term strategy for avoiding a build-up of discom dues in the future?
Delays in payment against power purchase by distribution companies (discoms) is the biggest reason for the liquidity stress in generation companies (gencos). As per the data available on the PRAAPTI portal of the Government of India, the overdue debtors contribute $12 billion to the total outstanding dues of $15 billion of the discoms towards gencos as of May 30, 2022. To put this in perspective, the government had infused around $14 billion in the power distribution sector in 2020-21 through financing from central power non-banking financial companies, namely, Power Finance Corporation Limited (PFC) and REC Limited, to the eligible discoms. The current overdue indicates that we are going back to square one, and hence, another round of liquidation of past dues is necessary.
Unlike the previous schemes where financing was arranged or liabilities were taken over by state governments, the recent EMI notification is more of a measure to ensure payment discipline among the discoms. The scheme takes cognisance of the discoms’ inability to make huge payments to clear overdues because of their weak financial position and aims to reschedule their liabilities towards select creditors. As per the June 3, 2022 notification by the Government of India, the total outstanding discom dues, including late payment surcharge (LPS) up to the date of the notification, will be rescheduled and the due dates redetermined for payment by discoms in several EMIs. Discoms with larger overdues will be allowed to pay in a higher number of EMIs capped at 48 months. These discoms will communicate, in writing, within 30 days of the promulgation of these rules to the genco/transmission company/energy trader about the outstanding dues and several instalments in which the outstanding dues will be paid.
One important part of this notification that is a meaningful deterrent is that in case of a delay in the payment of an agreed instalment by a discom, LPS shall be payable on the entire outstanding dues as on the date of notification of these rules. Also, the non-payment of instalments will invite the regulation of power including, but not limited to, restricted access to power exchanges. Akin to the August 2019 rule, which made the issuance of a letter of credit (LC) mandatory for discoms against the power purchase from gencos, these rules will bring in a much-needed payment discipline in the power distribution sector. From a discom’s angle, these rules provide respite from the relentless accumulation of LPS. While reduced from the earlier LPS rate of 18 per cent to the current rate of approximately 12 per cent (State Bank of India marginal cost of lending rate plus 5 per cent), the weak cashflows meant continuous addition of interest liability. With this rescheduling, the LPS meter would be paused till the agreed instalments are cleared.
Over the past two decades, the power distribution sector has witnessed a plethora of schemes aimed at fixing the financial stress. This involved the takeover of discom liabilities by the state governments, infrastructure upgradation, aggregate technical and commercial (AT&C) loss reduction and elimination of the gap between the average cost of supply and average revenue realised. All such schemes, while strong on intent and partially delivering on execution, have not been able to turn around the distribution sector. The rules above discussed are also just a band-aid without treating the deeper malaise. The single most important factor for the success of any scheme would be the political will to take up sectoral reforms in the state. These days, apart from the old issues of high AT&C losses, high power purchase and employee costs and political interference in running the utilities on professional lines, are affecting the discoms’ cash flows due to delayed payment of subsidies by the state governments, delayed or non-payment of dues by the state department/ministries, inadequate and delayed receipt of the tariff order. In my view, stricter enforcement of the August 2019 LC rules and the June 2022 EMI payment rules should be able to address the build-up of discom dues in the long term. Having said that, none of the schemes and rules can work unless the fundamental issue is addressed, that is, to operate discoms on commercial principles without interference from their political masters.
While the Covid-induced delay in payments to discoms and increase in power procurement costs due to issues with coal availability are triggers that have brought the financial issues of discoms to the fore, it must be noted that the issues with discom finances have persisted over decades. In fact, the distribution sector seems to require a bailout every five to seven years due to a build-up of short-term loans. The build-up of liabilities, close to Rs 4,500 billion post the Ujwal Discom Assurance Yojana (UDAY), is primarily due to the rising cost of inputs and supply, as well as due to inefficiencies in planning, operations and procurement.
To address the build-up of liabilities, debt takeover by the state government at the scale of UDAY would be required. However, to ensure sector sustainability, it must be ensured that:
- The debt takeover is not one time but continuous such that the state government takes over the liabilities in a phase-wise manner in perpetuity. This will ensure there is pressure from the state government for the discoms to ensure efficiency in operations so that liabilities and debt takeover reduce over time.
- All pending subsidies and dues from the state departments are cleared. Further, measures need to be taken to prevent a build-up of such dues over time. For this purpose, the mandate under the Electricity Act for the advance payment of subsidy and timely payment of consumer bills/dues should be strictly enforced. Further, to increase collection efficiency from public bodies and essential services, innovative approaches such as allowing virtual net metering for public bodies should be considered.
- Working capital loans from PFC and REC should be strictly limited to 25 per cent of the average revenue requirement in the first year, as was planned under UDAY and gradually reduced over time to 10 per cent in five years. Over and above this, if financing is required, it should be via discom bonds or state government subsidies.
- There is a transparent, public tracking of all invoices/power purchase payments to generators by discoms and that penal provisions to ensure payment discipline instituted in the Late Payment Surcharge Rules, 2022 are followed.
To avoid a build-up of future liabilities, it is important to take measures to reduce the discoms’ cost of supply. The steps can be taken towards:
- Meeting most of the agricultural demand through dedicated solarised feeders: This would ensure daytime, fixed price, low-cost of supply for farmers, cutting the power purchase cost and government subsidy bills in half.
- Meeting all demand increase via renewables: Given the current growth rates, demand is set to almost double in the coming decade. With calibrated planning and timely investments, most states can ensure that all new/ incremental demand is met through relatively low cost, fixed price renewable energy. Towards this, states should ensure that long-term renewable purchase obligation trajectories are announced early, and timely investments take place in promoting energy storage technologies.
- Power procurement planning by discoms focuses on catering to small, poor consumers: Providing freedom to 100 kW+ consumers to procure power via open access and captive sources on a medium/long-term basis would result in competitive tariffs. At the same time, the measure would limit the risks faced by discoms in procurement planning for consumers who have access to various market options to meet the demand.
- Adequate compensation for all discom services: With choice, many grid users, even with access to market options to meet most of their demand, would continue to rely on discoms for standby power, balancing services and last resort services. Having cost-reflective renewable energy banking services, time-of-day tariffs and standby charges is necessary. In addition, with rapid sales migration and given that discoms will continue to incur significant costs in the medium term, measures to ensure the recovery of revenue via surcharges on migrating consumers for a five to seven-year period would be required.
- Deliberative, phase-wise changes through incentives and support: The state governments and utilities have to fundamentally change their business models and modes of operation in the coming years. To support such changes, adequate support can be provided by the central government through enabling mechanisms, incentives and transition frameworks, which can be adopted to suit the state realities.
India is the third-largest producer and second-largest aggregate consumer of electricity in the world. The current generation of power sector restructuring reforms was fashioned by the Electricity Act, 2003, and policies framed thereunder over the years. Having entered its 20th year on June 10, 2022, it is a good time to evaluate where we stand, as we look at the issues posed by the unresolved dues owed by discoms. The best touchstone to examine this is the stated objectives of the Electricity Act to attract private sector investments across all segments of the sector by creating a level playing field.
It is undeniable that India attracted significant investments. The installed generation capacity grew fourfold from 105,046 MW in March 2002 with 10,000 MW (less than 10 per cent) in private ownership to over 400,000 MW with 196,000 MW (49 per cent) in private ownership in March 2022. However, the average plant load factor of the installed capacity has fallen from 77.5 per cent in 2010 to 58.9 per cent in 2022, a nearly 19 per cent drop in capacity utilisation, which makes every unit of electricity produced more expensive. To exacerbate the situation, often the state governments have withheld the payment of announced subsidies to the distribution licensees while state-owned enterprises appear to hold back payment of their electricity bills such that around Rs 900 billion is owed under these two heads to discoms. State-owned distribution licensees do not file for their tariff revision in a timely manner due to populist policies. As a result, in spite of subsidy and cross-subsidy, there is a shortfall of around 60 paise per unit, which rises to over Re 1 per unit if subsidies and cross-subsidies are transparently accounted for.
With national average aggregate technical and commercial losses of over 20 per cent, the accumulated losses are over Rs 5,200 billion. Distribution licensees owe around Rs 1,500 billion to generators (of which a 67 per cent burden falls on independent power producers who have 49 per cent installed capacity), without accounting for LPS. As a result, generators are now required to work with a working capital provision of 22-24 months when the tariff design is premised on a mere two-month working capital. This situation has emerged in spite of the special liquidity infusion scheme for discoms announced in June 2020 culminating in the overall disbursal of Rs 1.25 trillion. A challenging reality is the fact that while the fuel suppliers and engineering, procurement and construction (EPC) contractors demand payments upfront, generators and distribution entities have to wait for much longer to get paid for the power generated and supplied. This disconnect can have an exacerbating impact on the sector’s viability.
The Government of India has taken a series of policy initiatives to strengthen the Indian power sector. These include increased electrification with schemes like the Deen Dayal Upadhyay a Gram Jyoti Yojana, UDAY, the Integrated Power Development Scheme and now the Revamped Distribution Sector Scheme (RDSS). As such, the RDSS is a Rs 1,000 billion conditional loan scheme of the centre where state distribution utilities get entitled to draw on soft transition financing facility with deferred repayment so long as the states fulfil reform-linked conditionalities. The scheme aims to enable states to undertake time-bound reforms and pay their dues in time, thus saving cost of delayed payment and resolving liquidity issues of the sector. It is not the first such scheme where reform steps are condition based. If implemented strictly, it can go a long way in addressing the liquidity/credit risk of the sector.
It is noteworthy that the 2002 tripartite agreements with the Reserve Bank of India guaranteeing payment of dues from the planned fund allocations was limited to the payment of dues by the state discoms to central public sector undertakings. When the policy introduced competitive procurement in 2006, public sector generators were exempt from competitive procurement. In this backdrop, certain structural reforms were being contemplated with the proposed amendment to the Electricity Act as also the revised tariff policy. These structural challenges must be addressed in mission mode. If unaddressed, they will create a hurdle in the effort to revive and restore economic growth post-Covid, to bolster employment opportunities and restore the competitiveness of our industries’s. The answer lies in building and enforcing a national consensus à la Vajpayees’ reform initiatives in 1996 and 2001, balancing the social (welfare), economic and environmental needs. Such consultation must also engage the regulatory institutions to align their objectives and evolve solutions such as creditworthiness, capacity, risk management and expedited enforcement. These include:
- Diligent implementation of the milestones within the RDSS.
- Timely implementation of projects, salvaging stranded capital and stalled projects, and tackling delays in adjudicating regulatory and contractual disputes.
- Aligning the payment cycle across the value chain of the power sector – generation, transmission, digitalisation, fuel supplies and banks.
- Enforcement of contracts to instil investor confidence with regulatory certainty, with a far more effective coordination between the centre and the states, as also the governments and the regulators, something that has been sorely lacking.
- Implementation of a comprehensive market design with a robust ancillary services market and unconstrained market-based economic desptach.
- Tackle barriers to open access and market access with protective cross-subsidy surcharge and additional surcharge.
- Steady replacement or retirement of old, derated and inefficient coal plants that have completed over 25 years of life with more efficient, less polluting plants.
- Accelerated creation of green corridors for the evacuation of the surplus power generated.
- Privatisation of ailing discoms on priority.
State-owned distribution utilities (discoms) continue to be in fragile financial health due to the high level of AT&C losses, inadequate tariffs in relation to the cost of power supply, delays in subsidy support from the state governments and delays in receiving payments from the state government bodies. This in turn has resulted in a high debt burden and a high level of payables to power generating companies. In this context, the Electricity (Late Payment Surcharge and Related Matters) Rules, 2022 notified by the MoP on June 3, 2022 offer a one-time relaxation to discoms. As per the rules, the amount outstanding, including the principal amount and LPS accrued as on the date of notification of the rules, can be repaid by the discoms through monthly instalments of 12-48 months (tenure is linked with the extent of total dues), without further imposition of LPS. However, a delay in payment of any instalment by a discom would attract LPS on the entire outstanding dues. The discoms have to decide on adopting this payment mechanism within 30 days from the notification of these rules and inform the power generating companies.
The implementation of the instalment scheme would improve the cash flow visibility for the power generating companies. However, a longer instalment cycle of 36-48 months would keep the working capital cost elevated for the generating companies. Moreover, the timely payment of these instalments by the discoms remains linked with the improvement in their financial position, which in turn, hinges on efficiency improvement measures, timely tariff revisions and a mechanism to ensure timely electricity bill payments by government bodies and subsidy payments from the government.
In its budget 2021-22, the central government had announced the launch of a “reforms-based and results-linked” scheme for the distribution sector with the objective of improving the financial health and operational efficiency of discoms by reducing their AT&C losses. Subsequently, the RDSS was notified in July with an overall outlay of Rs 3.03 trillion. As of April 2022, the government has approved proposals of 13 states under this scheme with a financial outlay of around Rs 1.62 trillion. The timely implementation of the projects under the scheme including the smart metering programme remains key to improving discom efficiencies.
On the whole, focus on improving operational efficiency, timely issuance of tariff orders with adequate tariff revisions and timely subsidy payouts is necessary to ensure the financial sustainability of discoms. Besides, a strong political will and support from the state governments are needed to achieve this objective.
Professor S.L. Rao
It is unfortunate that the discoms are not controlled regarding their financial efficiencies since they are dealing directly with electricity consumers. The state governments that own them fix electricity tariffs that do not cover the costs. When discoms go to the state regulator for approvals, there is no pressure on them to cover costs. Since their owners are the state governments, they are expected to cover the deficits. This results in discoms being perennially short on cash. This makes it difficult for them to pay their bills, especially to electricity generating companies, in time and in full. The state electricity regulators should demand the discoms to fix tariffs in such a way that they cover costs, which is not happening.
The other major problem is that discoms do not have the freedom to buy electricity from the cheapest source. Open access, that is purchasing from any choice of their own, is not available to discoms. They are compelled to buy primarily from the state generating companies and these companies are many times not efficient, and the tariffs are probably high. What is required is that discoms should be free to purchase electricity from the cheapest and most efficient source even if it is from another state in the country.
Being state owned, the discipline and efficiency of the discoms’ employees is not always as it should be. This also reduces their financial efficiency. Thus, a major problem that shows no sign of resolution is that of ownership of discoms. So long as the state governments are the owners and there is no compulsion on them to cover costs and run efficiently, the discoms will remain heavily indebted to their suppliers.