Improving financial viability of distribution companies will spur investments in power
One of the biggest challenges for the power sector in India is to find urgent solutions to the dismal financial health of distribution utilities. A stark realisation for all stakeholders in our country’s economic development is about the drastic reform and modernisation required for India’s power sector. Any rationalisation and modernisation of the policy regime in this sector will set an example for other infrastructure sectors.
The clear lesson from the recent Indian experience is that the most critical challenge faced by the power sector lies at the distribution end of the generation-transmission-distribution value chain. The dismal and deteriorating financial health of power distribution entities is seen to be the key factor that has led to inadequate investments in the sector. This, in turn, has led to serious power shortfall, and poor quality of supply, that are both serious constraining factors on overall economic output.
In 2011-12, the combined financial losses of all the power distribution companies were estimated at a staggering Rs 1,20,000 crore, or nearly 1.5% of the country’s GDP. These losses were due to the rising gap between average cost of supply and the average realisation; going by which distribution companies lose Rs 2 for every unit of electricity sold by them (see accompanying graph).
Timely tariff hikes in the power sector are probably its most politically-sensitive issue. The glaring fact is that many states have not revised tariffs in the last 5-6 years, and some for over a decade. With average cost of supply growing at over 7% CAGR in recent years, the situation has become untenable.
Today, distribution entities across the country, whether in public or private sector, urgently require tariff hikes of 50-60% to meet their operating costs. An increase of this magnitude will seem staggering to the political leadership and the consumer, but the stark fact is that this hike would still leave unattended the issue of past accumulated losses due to irrationally-low tariffs.
But the fact that governments and policy-making establishments have started acknowledging the dire necessity of tariff reform is a positive sign. Before the start of 2012-13, seven states – Tamil Nadu, Haryana, Andhra Pradesh, Bihar, Orissa, Tripura and Madhya Pradesh – revised tariff by 7-37%.
Nine more states have filed tariff-revision petitions and are expected to announce new rates for sale of power in near future. One factor that has led to this more rational view is to do with stringent measures made mandatory by banks and NBFCs for disbursal of any fresh loans to the distribution companies, and the empowerment of state power regulators to revise tariffs by the relevant appellate tribunals.
Of course, the logic behind rationalisation of power tariffs has to be put to work on a perennial basis. This implies that permanent mechanisms and practices to pass-through to consumers any variation in power costs must be in place. The critical consideration here is that purchase costs for power constitute up to 80% of the total cost of the distribution operation.
Since the ‘truing-up’ process, involving a fix on the gap between cost of power purchases and revenues from sales, can take a few years for reasonable estimation, it is important to institute and implement mechanisms that enable immediate pass-through of any variation in power costs