Power Distribution Note

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ICRA Rating Feature STATE-OWNED ELECTRICITY DISTRIBUTION COMPANIES: Some positives, though several concerns remain... Anjan Ghosh Head–Corporate Ratings aghosh@icraindia.com +91-22-30470006 Sabyasachi Majumdar sabyasachi@icraindia.com +91-124-4545304 ICRA estimates the losses for discoms (before accounting for government subsidy) in the country at Rs. 80,000 crore in FY 2012, up from around Rs. 63,500 crore in FY 2010. The estimate is based on our study of distribution companies (Discoms) fun
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    STATE-OWNED ELECTRICITY DISTRIBUTION COMPANIES: Somepositives, though several concerns remain... Anjan Ghosh Head  – Corporate Ratingsaghosh@icraindia.com+91-22-30470006 Sabyasachi Majumdar sabyasachi@icraindia.com+91-124-4545304 Girishkumar Kadam girishkumar@icraindia.com +91-22-30470032   ICRA estimates the losses for discoms (before accounting forgovernment subsidy) in the country at Rs. 80,000 crore in FY 2012,up from around Rs. 63,500 crore in FY 2010. The estimate is basedon our study of distribution companies (Discoms) functioning ineleven Indian states. ICRA expects the overall subsidy support fordiscoms at around Rs. 43,000 crore in FY 2012, which representsan increase of 13% y.o.y. from FY 2010.Taking the subsidy into account, the total book losses for discomsare estimated at Rs. 38,000 crore in FY 2012. As per ICRA’s estimates, six states namely Uttar Pradesh, Tamil Nadu, MadhyaPradesh, Rajasthan, Punjab and Haryana would account for about70% of the total losses in FY 2012. Such losses have largely beenfunded through bank borrowings (mainly short-to-medium term innature) and stretched payments to power creditors, mainly state-owned generating companies. However, with increasing concernsover the credit quality of discoms, the availability of bank fundingfor such losses has been affected from FY 2012 onwards, thusresulting in a stretched liquidity position. This has affected debtrepayments and resulted in delays in payments to power and fuelsuppliers. Consequently, debt restructuring is being done for someof loans on the books of the discoms in the states of Rajasthan,Haryana and Uttar Pradesh.The ruling of the Appellate Tribunal of Electricity (ATE) is aimed atregulatory discipline by State Electricity Regulatory Commissions(SERCs) for timely and cost-reflective tariff determination. ICRAviews this as a positive development. The Shungulu Committeehas suggested measures to improve the viability of thedistribution segment, which is critical for the entire power sector.However, ICRA expects the implementation of therecommendations to be particularly challenging, given thatseveral stakeholders such as discoms, state governments andregulatory entities (SERCs) will have to be involved.ICRA has observed that tariff revisions have been carried out fordiscoms across many states for FY 2012. However, the quantum of hikes is well short of what is required for full recovery of costs inmost states and is also accompanied by significant delays. Evenwith respect to tariff petition for FY 2013 and true-up for pastperiods (upto FY 2011), ICRA observes that petitions are yet to befiled by discoms in some states, which is against the spirit of theATE ruling. Also, while Fuel & Power Purchase Cost Adjustment(FPPCA) principles have been implemented across states, theycontinue to vary with a significant lag period for recovery in someof these states, which in turn adversely affects the liquidityposition of the discoms. Nonetheless, ICRA derives comfort fromthe fact that several states, including some of the most vulnerableones, have obtained fairly stiff tariff hikes for FY 2012 or filed for   ICRA Rating Feature MARCH 2012  very large tariff hikes in a reasonably timely manner. Thus, the overall trajectory in terms of tariff trends ispositive. Key Trends & Concerns We have assessed the key trends in the operating/regulatory environment and the financial position fordiscoms in eleven key states, which approximately contribute to about 82% of the overall power consumptionin the country. These states are Gujarat, Maharashtra, Andhra Pradesh, Karnataka, Punjab, Haryana,Rajasthan, Uttar Pradesh, Madhya Pradesh, Tamil Nadu and West Bengal. Overall, the discoms in many statescontinue to face challenges arising from inadequate tariffs as compared with their cost of supply, rising subsidydependence and high operational in-efficiencies. Discom losses before accounting for subsidy support estimated at Rs. 80,000 crore for FY 2012 ICRA expects the overall financial losses (without accounting for subsidy) for the discoms in India to be ataround Rs. 80,000 crore in FY 2012, which is an increase of 14% over FY 2010. As in the past, losses arecontributed by several factors such as increasing subsidy dependence; inability to meet distribution loss levelsas per targets laid by SERCs and rising power purchase expenses, which are not being passed on through tariff  revision/FPPCA. In ICRA’s view, these losses have increased in FY 2011 and FY 2012 as compared to FY 2010because of higher power purchase costs and interest burden without commensurate tariff increases. Afterfactoring in subsidy receivable from the respective State Governments, the overall book loss levels for FY 2011-12 are estimated at about Rs. 38,000 crore. About 70% of these losses are expected to be contributed bydiscoms in six states, namely, Rajasthan, Tamil Nadu, Uttar Pradesh, Haryana, Punjab and Madhya Pradesh,which consume around 40% of power in the country. The main reason for the losses is either limited orabsence of tariff revision for prolonged periods besides inability to control distribution loss levels in some of these states. Subsidy dependence for discoms estimated at about Rs. 43,000 crore in FY 2012 ICRA expects the overallsubsidy dependence fordiscoms on an all-India basisat about Rs. 43,000 crore inFY 2012, which represents anincrease 1 of 13% from FY2010. Also, the overallsubsidy dependence as apercent of revenuesapproved by SERCs for FY2012 is significant at about20%. However, this varieswidely across the states :from a low of 5% in WestBengal to a high of 50% inRajasthan. Given such highsubsidy dependence fordiscoms, ICRA notes thattimely and adequate receipts of subsidy from State Governments remains extremely critical for the liquidityprofile of the discoms. There have been delays in many states such as Rajasthan, Punjab, Karnataka andAndhra Pradesh, which in turn, has adversely affected the financial and liquidity position of the discoms in suchstates. Given that the extent of subsidy declared by the State Governments towards certain consumercategories is unlikely to come down, timely receipt of subsidy would be a key factor in terms of liquidityprofile. 1   This is mainly contributed by continued power supply at either heavily subsid ised rate or free power (as per the State Government’s directives) to agriculture category and certain small sections of domestic category and rising fuel and power purchase costs.  ICRA Rating Feature   3 Large-scale restructuring expected The losses of discoms have largely been funded through bank borrowings (typically short-to-medium term innature) apart from delaying payment to power and fuel creditors with state owned gencos typically bearingthe brunt of these delinquencies on creditors. ICRA expects the discoms in the most vulnerable states of UP,Tamil Nadu, Rajasthan, MP, Punjab and Haryana to account for over 70% of the total debt of discoms in India.However, with increasing concerns over the credit quality of discoms, the availability of bank funding for suchlosses was adversely affected from FY 2012, resulting in stretched liquidity situation, which in turn has led toincreased levels of delays on payments to power and fuel suppliers. Consequently, debt restructuring is beingdone for some of the loans on the books of discoms in the states of Rajasthan, Haryana and Uttar Pradesh.ICRA believes that in some of the most vulnerable discoms, financial restructuring is thus inevitable, whereby,debt restructuring and support from State Government for cleaning up the balance sheets would be requiredapart from operational efficiency measures and timely tariff revisions for maintaining the sustainability of stateutilities. Tariff revisions in several states in FY 2012, although with delays As may be seen in Chart 2, severalstates have seen tariff revision inFY2011. While this is a positive,ICRA notes that the bulk of thesetariff revisions (for FY 2011-12)happened well after the due datewhich is 31 March 2011. Further, insome of the states such as UttarPradesh, West Bengal,Maharashtra, Karnataka andMadhya Pradesh, tariff/ARRpetitions for FY 2012-13 and true-up petitions for FY 2010-11 (as perMYT regulatory framework) are yetto be filed with SERCs, whereas thesame should have been filed by 30November 2011. There have alsobeen instances of roll-back of previous tariff-hike during FY 2012,as observed in the state of WestBengal, which led to adverseimpact on the financial and liquidity position of its distribution utility. Such regulatory uncertainties cannot beruled out for other states in the future. Also, the extent of tariff revision has been varied from as low as 0.4%to 24%; and is inadequate to meet the actual cost of supply in many states, thus resulting in large, uncoveredrevenue deficits. Tariff hike required to cover existing revenue gap itself is on higher side; Further, unsustainablelevels of regulatory assets cause concern in some of the states  ICRA Rating Feature   4 ICRA has observed that SERCs have not allowed full recovery of costs (including arrears for past years andreturn on equity (RoE) element) in several states in order to avoid tariff shock to consumers, which in turn hasresulted in continued deficits. This uncovered revenue deficit, which is however recognised by SERCs and proposed to be covered through future tariff hikes, is also termed as ‘regulatory asset’ (RA) 2 . As seen above inTable 1, tariff hike required so as to cover the existing revenue gap (i.e. gap between revenue requirement andcost of supply even without considering recovery of outstanding regulatory assets) for utilities remains onsignificantly higher side for discoms in states such as Tamil Nadu 3 , Rajasthan 4 and Madhya Pradesh. As perprovisions of the EA and ATE ruling, such RAs ought to be recovered over a three-year period. There has beensubstantial regulatory asset build-up for discoms in many states such as Tamil Nadu, Rajasthan, Punjab, UttarPradesh, Haryana, Delhi and West Bengal, resulting in huge debt burden to fund the deficits. Should SERCsprovide for this, overall tariff-hike requirement would be even higher for FY 2013 than the above estimatesresulting in a tariff shock. Under these circumstances, ICRA believes that recovery of RA is likely to bestaggered over a much longer time horizon. In our opinion, this poses a challenge for SERCs for adequate tariff determination in these states, given the critical need for tariff revision to improve the financial position of theutilities, and also in view of the interests of the consumers to avoid any tariff shock. ATE’s directive to SERCs for timely tariff determination: a key positive development The Appellate Tribunal for Electricity 5 (ATE) issued a judgement in its order dated 11 November 2011 6 and inits judgement has directed all SERCs to initiate suo-moto proceedings for tariff determination in case of delaysby the utilities in filing their tariff petitions. The k ey features of ATE’s directive are mentioned in Box 1.  We note this as a very positive development on the regulatory front for the power distribution sector.However, the impact of this judgement by ATE on the financial position of the utilities will hinge upon itsimplementation by SERCs in an independent manner without any kind of influence from the stategovernment/utility. In addition, poor data availability, given the significant delays in the finalisation of accounts as well as operational in-efficiencies in energy audit system, in some cases, could constrain initiationof such tariff proceedings by SERCs. 2 Regulatory asset  is cost item (as approved by SERC) which is allowed to be recovered in future tariff determination. The cost of carrying of theregulatory asset is also an allowed expense for estimation of ARR or cost of supply.   3   For the distribution utility in Tamil Nadu , the accumulated losses till end of FY 2010 will be treated (as notified by State Government) as part of financial restructuring in the final transfer scheme associated with transferring the assets and liabilities of erstwhile TNEB to successor entities (i.e.TANGEDCO, TANTRANSCO and TNEB Limited). (Source: Tariff Petition dated November 15, 2011). Regulatory asset estimate is for FY 2011 and FY2012, as estimated by TNERC in its tariff order dated July 2011.   4   For the discoms in Rajasthan , unrecovered revenue deficits pertaining till FY 2009 are funded as agreed by State Government and hence, notconsidered in estimation of regulatory asset by SERC ( Source : Tariff Order dated September 8, 2011). Regulatory asset estimate is thus for FY 2010,FY 2011 and FY 2012.5 In line with the provision of Electricity Act (EA)  – 2003, the Central Government has established an Appellate Tribunal to be known as theAppellate Tribunal for Electricity to hear appeals against the orders of the adjudicating officer or the Appropriate Commission. As per the section121 of EA-2003, The Chairperson of the Appellate Tribunal shall exercise the general power of super-intendance and control over theAppropriate Commission. 6 A suo-moto request petition was initiated by the Ministry of Power, Government of India to ATE in January 2011 so that ATE can exercise itsregulatory authority under section 121 of the EA-2003 to provide directions to all SERCs. Box 1: Salient Features of ATE’s Order dated 11 November 2011 It should be the endeavour of every State Commission to ensure that the tariff for the financial year isdecided before 1 st  April of the tariff year  , for which tariff petition should be filed by the end of November of the previous year. Truing-up should also be an annual exercise.  In the event of any delay in filing the ARR , truing-up and Annual Performance Review, one month beyondthe scheduled date of submission of the petition, the State Commission must initiate suo-moto proceedings for tariff determination.The recovery of the Regulatory Asset (RA) should be time-bound  and within a period not exceeding threeyears at the most and preferably within the control period. The carrying cost of the RA should be allowed tothe utilities in the ARR of the year in which the RA are created to avoid the problem of cash flow to thedistribution licensee.Fuel and Power Purchase cost is a major expense of the distribution company, which is uncontrollable. The Fuel and Power Purchase cost adjustment should preferably be on a monthly basis but in no case exceed aquarter. Any State Commission that does not already have such a formula/mechanism in place must put inplace such a formula/ mechanism within 6 months of the date of this order.
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