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Distribution | August 2015

DFs the way

Often having received a step-brotherly treatment from various state governments, the distribution franchise is the only way out to make all state-owned electricity boards fall in line. Modification in the present DF model, could easily encourage serious private players, who are shying away from burning their hands in the overall distribution business.

What could be the worst situation for a nationalised or private bank than rising non-performing assets (NPAs), and that too from a sector, which has promised high returns, once implemented. Yes! We are talking about the power sector. The culprits may be many, but all guns point out only one´the state electricity boards (SEBs). As we write, a whopping Rs 53,000 crore exposure of Indian banks has already accounted as NPAs, with the observation being made by none other than the Reserve Bank of India (RBI). Going forward, a report published by ICRA suggests that, the debt-laden SEBs have accumulated losses that have widened by 58 per cent to Rs 3 lakh crore in the last two years. A whopping figure, that the Centre is trying to bring down with the help of debt recast, soon.

But, there are doubts mulling around whether the new round of debt recast may hail the ailing SEBs or not. To this, Shrirang Karandikar, CEO, India Power Corporation Ltd says, ´Unless we have competition in the business, the distribution reforms will not be successful.´

And, he said so rightly. POWER TODAY strongly feels that there should be growing competition in the distribution business, which every present (state) government in India, wishes to avoid, for their own political propaganda´vote bank politics.

DFs unplugged
There are several examples, why we are backing the most financially viable modes in the distribution sector. This is because, first, the Centre has drawn up a plan to cover 200 cities where the franchise model is to be implemented. This was purely due to satisfaction over the performance of DFs and private licensees in the states of Gujarat, Maharashtra, Uttar Pradesh, Odisha and Delhi. Earlier, Uttar Pradesh franchised out Agra and Kanpur, but in the latter, the franchisee was unable to take over due to strong resistance from state power staffers.

Now, Bihar and Madhya Pradesh have appointed DFs, while Jharkhand and Andhra Pradesh are following suit. However, there are many states that are yet to implement the model. Since, the last three to four years, the Union Ministry of Power (MoP) has been making it clear that in the future, Central government funding for upgradation of power infrastructure will only be provided if distribution losses are reduced. The best way of doing so in urban areas is the DF model.

But, while the MoP may feel that DF is a success, the ground reality is quite different. Most franchisees are running into losses. Some like GTL, which distributes power in Aurangabad, are not paying dues to the state-run discom MSEDCL. The Maharashtra government, which was at the forefront of appointing franchises, has put a full stop on its scheme.

However, in Muzaffarpur, the franchisee has improved service by leaps and bounds. In general, Bihar franchises are welcomed by consumers because the state discom's services were extremely poor.

Feedback Energy Distribution Co. Ltd (FEEDCO) operating in Puri, Balugaon, Khurdha and Nayagarah divisions of CESU, has managed to increase its coverage by 8-10 per cent with existing resources in the first year of its operations, and has reduced T&D losses by 5-7 per cent.

This is not the case with all states. Some have gone in for different type of franchisee models.

In Rajasthan's capital city Jaipur, contract of the collection and billing has been given to one private company and sub-contracts for operations and maintenance of transformers to another.

The overall AT&C loss of the country stood at 27 per cent. That means, 1 per cent reduction in such AT&C loss will lessen the need for building additional power generation capacity of 1,820 MW or Rs 10,000 crore of additional investment and environmental impact thereon. The mission of bringing down AT&C losses to 15 per cent at the national level is possible, if it is focused enough with concrete steps to encourage mechanisms like DF in the regions. Reducing such high magnitude losses requires high capital expenditure. Such requirement makes the franchisee set-up a desirable model. DF has a potential to bring down losses to 18 per cent in those cities which would account for around 40 per cent of the consumption.

The ground reality
While many distribution franchisee transactions were carried out and successful bidders have been identified, some of them have been delayed or cancelled for various reasons. The delays have been primarily on account of slow decision-making at the utility´s end. The delay in handover creates confusion and becomes a hurdle for future transactions. While there is significant interest from private players, delay and lack of action from utilities is emerging as a significant reason for the lack of progress in implementation of distribution franchises.

This trend needs to change, so that the whole transaction process is carried out with complete transparency in a time-bound manner. Significant efforts are required to ensure that the transaction documents are carefully drafted, adequate data room facilities are created for the bidders to evaluate the opportunities, and above all, once selected there should be a handover timeline which is implemented without delay.

While the competitive bidding mechanism for appointing a franchisee ensures that the intended efficiency benefits are passed on to the licensee, licensees have started to put additional clauses in such agreements, giving specific targets to the franchisee on AT&C losses, minimum capital investment, metering levels, and call centers and complaint management systems. But this ´micromanagement´ by the licensee may dampen the enthusiasm of participants in later bidding rounds.

There needs to be strict penalties for players who are unable to perform, to ensure that only capable players get into the sector and create success stories for all the stakeholders. This should be achievable, given that the country has about 10 years experience in creating and implementing the model and has taken away sufficient learnings from the transactions that did not create value for stakeholders. With the focus the government has in ensuring 24x7 supply, we will see the trend reversing with many more successful implementation of distribution franchises across the country in the near future.

Having said this, almost all the auctions put up by the utilities saw good response from bidders, except where the base numbers were aggressive or there were issues with respect to the quality of data. Hence the key reasons for the model not being able to catch up to speed have been the unavailability of quality deal flow pipeline and inordinate delays in handing over franchises where the transactions have been completed. While the basic framework is time-tested and transaction documents are in place, the key would be to incentivise the utilities to identify where they require the franchisee intervention for improving their finances and putting them up for private participation.

POWER TODAY suggestions
DFs are capable of being implemented in small scale to reduce distribution losses.
Franchising of 255 towns from among those covered in R-APDRP town listing to bring down losses in duration of 3-4 years from present levels for around 18 per cent.
Model agreement for large scale DF roll-out.
While giving financial assistance to states and discom, franchising of towns can be made an essential precondition.

Purchase Strategy
We have just emerged from the period of shortages. Currently, our installed capacity is 273 GW against peak demand of 144 GW (as of May 2015). Despite various challenges like coal, gas and transmission infrastructure shortages, there are still enough resources available to choose from and optimise the costs for a distribution company.

Earlier, it was common for discoms to exhaust long and medium term resources first, and then use short-term markets to fulfill residual demand. However, sufficient resources available in the short-term market constituting hydro, newer efficient Ultra Mega Power Projects (UMPPs) and merchant power plants with very low variable cost, have enabled cheaper marginal cost generation in energy exchanges as compared to long-term power.

It is now therefore, time to strategise power procurement on the basis of merit order stack, where some resources from short-term markets or power exchanges can be raised higher.

State discoms procure power from generation stations via long term and medium term PPAs, paying fixed cost as per their existing PPAs and energy cost as per the volume scheduled.

Residual demand is met from short term markets via bilateral or Day-Ahead Markets (DAM), or collective transactions. The power prices at key exchange DAM (IEX) has been observed declining from Rs 7.29/kWh to Rs 3.51/kWh over the past seven years, as the market builds up.

While market price discovered in exchange DAM now varies between Rs 2-4.5/kWh, long-term power carries an average marginal cost varying from Rs 1- 6/kWh.

Coal-based generation dominates in power generation with its share in the total installed capacity, which is about 60 per cent as of May 2015. Coal-based generation has energy cost ranging from Rs 3-7/kWh, depending upon factors such as type of fuel and technology. There are many generating stations which have energy charge well above Rs 3.5/kWh. (Refer Table 1 for some such stations).

This paper delineates an anomaly, where many discoms have been observed continuing to buy costlier LT power, despite cheaper power being available in short-term or exchange-based markets. The Indian Electricity Grid Code (IEGC) specifies that power procurement should be on the basis of merit order dispatch. In view of the above, the below mechanism can be adapted to optimise its power procurement without any major risks.

Availability of capacities foreseen for the next day is available with discoms on day-ahead basis. This gives sufficient window for discoms to optimise their power procurement strategy. For instance, at IEX, the area price for a discom ranges from Rs 3/kWh. Keeping this price as benchmark, generating stations exceeding energy charge above Rs 3/kWh can be substituted by purchasing power from IEX.

The discom can place bids in the DAM, and the portfolios of bids can be placed under IEXG´s single bid option in multiple sequences of price and quantity pairs. The quantity is assumed to vary linearly between two price pairs.

This option would lower the risk for discoms, so that even if all the bids in the portfolio are not cleared or able to substitute for all the generating stations, the discoms can purchase power from the ISGS or the SGSs indenting power with 1-+ hour notice.

Area Clearing Price (ACP) at IEX also varies from peak to off-peak hours, when prices are low. This gives discoms an opportunity to displace coal-based power plants with energy charge higher than the off-peak prices prevalent at IEX.

Say, a state has daily energy requirement of about 30 MU. Generating stations of the state declares capacity availability for the next day. The discom stacks the availability as per merit order (Refer Figure 3). The total power procurement cost to the discom is in the order of Rs 230.11 crore, in addition to the fixed cost of power plants for a month.

Discoms can optimise power procurement to derive least cost option. In view of this, they may track prevailing clearing prices of IEX throughout the day. Assuming, the ACP at IEX is Rs 3.45 per kWh and during off-peak hours it is about Rs 2.50/kWh. Power plants with energy charge greater than the prevailing ACP i.e. Plant F, G and H can be substituted by power from IEX at Rs 3.45/kWh (Assuming all OA charges for both LT and PX transactions are same).

Further, cost savings can be achieved by substituting power from power plants with energy charge over Rs 2.50/kWh during the off-peak hours. Therefore, power from Plant D, E, F, G and H can be replaced during the off-peak hours by placing bids at IEX. A typical bid placed at IEX for a 15-minutes time block is illustrated in Table 2. The discom can place bid for 400 MW at price range of Rs 3.00-3.45/kWh to bring down its power procurement cost. Furthermore, discoms can achieve maximize cost savings during the off-peak hours, where it can place bids for 520 MW at price below Rs 3.00/kWh.

Using this approach, discoms can optimise power procurement for the day by replacing long-term power procurement with IEX (Refer Figure 3). This estimated savings in the given example is about Rs 20.45 crore, against total energy charges of Rs 209.66 crore, in addition to the fixed cost liability.

Figure 3: Cost Optimisation for Discom
  Type Dispatch
Plant A Hydro Must Run 100 0.00
Plant B Hydro Must Run 150 0.00
Plant C Nuclear Must Run 500 2.80
Plant D* Coal Merit 120 3.00
Plant E** Coal Merit 120 3.20
Plant F** Coal Merit 100 3.50
Plant G** Coal Merit 90 3.80
Plant H Coal Merit 90 4.00
Merit Based Capacity (MW)                                                                                                        520
Assumptions: 12 number of hours are considered in off-peak hours
* Plant D - Substituted with power @ INR 2.50 during off peak hours from IEX
** Plant E to G - Substituted with power @ INR 3.45 from IEX

Table 1: Energy Charge of Central and State Generating Stations
Power Station Energy Charge (Rs./kWh)
Kayamkulam -Naptha 10.18
Badarpur TPS 5.09
Bajaj Hindusthan 4.74
Pragati-I 4.58
Badarpur TPS 4.41
Auraiya 4.36
Dadri Gas 4.27
Jhajjar 4.21
IGPCL Gas Turbine 4.20
NCTPP Dadri 4.18
KBUNL Stage 1 U-1 4.06
Barh STPS II 4.06
Rosa Power Project II 3.93
Rosa Power Project I 3.91
Mauda 3.89
IGSTPP, Jhajhar 3.81
NCTPP Dadri-II 3.81
Tanda 3.63
Panki 3.55
Anta 3.55
Source: Extracted from Annual Revenue Requirement Petition of various Discoms

Table 2: Typical bid at IEX for 15-minute time block
Price (INR/kWh) 0 3.00 3.20 3.50 3.51
Buy Bid (MW) 520 520 400 280 0
Sell Bid (MW) 0 0 0 0 0

- Authored by IEX

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