Does UDAY have the potential to turn out to be a SURYUDAY for Power Sector in India ? :: An Analysis !!

The Ujjwal DISCOM  Assurance Yojna (UDAY), approved by the union cabinet on November 5, 2015 will not only improve the capability of distribution companies. Beside this , it will also account to capital savings around Rs.12,000 Crore for Public Sector Banks (PSBs) as estimated by the Credit Rating Information Services of India Limited(CRISIL).

Why UDAY: 

• The Overall losses of the power distribution companies were estimated to be around Rs.62,000 Crore as of March 2015(estimated by CRISIL). 
• This is mainly due to operational inefficiencies, discounted tariffs and subsidies, power thefts and leftover interest rates on the past debts. 
• The companies were facing a total debt of about Rs.4.3 Lakh Crore and most of them are on the verge of bankruptcy. So the scheme launched for financial restructuring for these companies.

How is it implemented: 

• According to this scheme the Union government allowed state governments to take 75% of the debt (as of September 30) of the distribution companies owned by them and pay back the lenders by selling government bonds and for the remaining 25% the concerned companies will be issuing the bonds. 

• The State governments will be provided incentives which will allow them to borrow more from the Bond Market. The bonds issued by the state government are offered at a coupon of 8-9% and the rest will be reprised at the minimum lending rate of banks plus 0.1percent.

Positive Outcomes ? : UDAY scheme 2015 for power DISCOMS

1.    It helps to reduce the financial pressure of the power distribution companies and reduction in cost of power.

2.    It helps in improving the operational efficiencies and to provide clean and 24×7 power supply across the nation.

3.    It enforces financial discipline in the companies.

4.    This prevents the standing loans from converting to Non-Performing Assets.

5.    It improves liquidity in the financial market.

6.    This Scheme has the potential to wipe out losses of DISCOMS in Andhra Pradesh Telegana and Haryana by 2018. For the states of Tamil Nadu, Rajasthan, Uttar Pradesh Jharkhand and Bihar, loses will reduce. But the total elimination will only happen by the improved performance of the companies.

Now the first question why DISCOMs have accumulated huge losses?

There are three chief reasons for the accumulation of the liability:

1.    Tariff hikes not keeping pace with the rise in costs.

2.    Pilferage

3.    Transmission losses.

How will UDAY improve the situation?

§  UDAY attempts to buffer the finances of the distribution companies, or discoms, from the subsidies that state governments may want to provide for power. This is done by asking states to issue bonds to banks as repayment for discom dues. The states will now have to directly bear on their budgets the entire cost of the subsidies.

§  It attempts to enforce discipline on States as it requires them to absorb a part of future losses of the discoms.

What is left out of UDAY?

UDAY is silent on improving the operational efficiencies.

Following ways can be adopted to improve the operational efficiencies:

§  Smart metering.

§  Upgrading of transformers.

§  Separating agricultural connections at the transformer level.

§  Use of efficient LED bulbs, agricultural pumps, fans & air-conditioners

(But it seems government is also working on this aspects !! )

Now lets move to ANALYSING the REFORM !!

lets go back a little !!

After the 2003 Electricity Act was passed by the Vajpayee government, the discoms were carved out of the monolithic state electricity boards across India at varying speed and efficiency. This last mile aspect of the power sector never had any central control given that electricity is an area of concurrent list in India. Since their creation, state governments running the discoms have routinely attempted to rope the central governments to underwrite their operational inefficiencies, given the importance of power supply as an instrument of politics. Twice the central governments have attempted to clean up the poor management of state discoms and both attempts were a failure.

• The first one came right at the time of generation, transmission and distribution functions decoupling which happened in the Vajpayee era. 
• The second attempt was made by the UPA-2 government in 2012, via Financial Restructuring Plan or FRP. .

Both the plans focused largely on capital infusion into discoms, but like black holes absorbing all mass coming towards them, discoms continued to burn all cash thrown at them without turning profitable.

So how is UDAY different ??

Firstly UDAY is about Financial Restructuring and Not a Bailout. 

• UDAY is not a simple central government driven bailout programme which just gives cash to discoms and states without accountability. 
• There’s a specific roadmap for debt restructuring and there are hard budget constraints imposed for participating in the programme. 
• Once on board, the states will not be able to back out and the only prudent course of action for them will be to keep their side of the bargain – which is around driving operational efficiencies.
• The centre is allowing states to relax their Financial Responsibility and Budget Management (FRBM) Act 2003.
• Under UDAY, participating states will take over their public discom (private discoms are not allowed to participate in the programme) debt over two years with the debt benchmarked to September 2015. In 2015-16, they can take over 50% and in 2016-17 25% of the outstanding debt on their books.

State government BONDS as State Development Loans and not as Statutory Liquidity Ratio !

• Another great point about this plan with respect to the banks is that these state government bonds cannot be counted against banks’ statutory liquidity ratio (SLR) requirements – presumably the RBI was roped in for this provision already. 
• While this will classify these bonds as state development loans (SDLs) available for sale in the bank books – currently overwhelmed by similar securities – over time, they can create a tradable market in these securities. 
• This can be a good template for future, with a degree of market tempering built into what the discoms can borrow.

Regarding Value Chain reform !!

• Indian power sector has a very complex value chain – which involves fuel, fuel linkages, power generation, power transmission, power trading and financing, distribution, and end consumption. 
• Different steps in the chain are owned by different parts of the central and/or state governments. 
• UDAY ensures that the discom reforms are not just distribution centric, but positively impact various inputs and outputs to the distribution function, even those which are not owned by the centre directly. 
• This is a big positive vis-à-vis the past discom reform packages.

Reforms relating to Operational Efficiency 

• UDAY compels the discoms to improve operational efficiency. 
• The financial restructuring package will be based on a loss trajectory agreement where the discoms will sign up for ensuring their cost of operations reduces and their revenue from operations is sufficient to cover their cost of supplies.
• The UDAY package will need the states to bring their AT&C losses to 10% or 15% (customized for each state) by 2018-19. 
• This is a huge ask, but if the states achieve this, they will get the additional benefits of better infrastructure and technology via the centrally sponsored schemes. 
• The central government will be monitoring the progress on this parameter regularly – a clause built in the UDAY MOU. 

(Case Study :- Rajasthan which has been blazing a reform trail of its own may well be the first state to commit to hard AT&C control targets – the state is considering monitoring these losses not for the state as a whole, but at circle level – for better accountability of individuals in the state electricity board.)

The Carrot and Stick policy !!

• The action on this count by the states will be the single biggest driver towards the “power on tap” dream – and for the first time, there will be carrots and sticks for the states to act on this. 
• Even if the bigger culprit states get in the region of 20% AT&C losses in the next 4 years, it will move the needle significantly.

The right to select and switch  DISCOM of own choice !!

• The central government has promised legislative changes required to ensure consumers choose their discom and switch, letting multiple discoms operate in the same region. 
• This will require amendments to the Electricity Act, so the enforcement may be delayed, but even talking about separating content from carriage and encouraging last mile competition is a bold move given the state of the power sector today.

Operational bottlenecks  on the generation side....!!

• The UDAY plan provides for easier transferring coal linkages from old to more modern plants, and incentives for creating large plants running at an economy of scale rather than operating small sub 200 MW plants. 
• Additionally, UDAY will involve incentivizing 11 top industries which consume almost 50% of all industrial power to improve their operations. 

Focus on Renewable energy

• As part of the 2012 FRP, discoms had signed up for a Renewables Purchase Obligation (RPO), which then was never enforced as the FRP itself fell apart. 
• UDAY brings back the focus on this RPO again, although no dates are mandated. This is a significant step especially in light of the recent Sun Edison bid for an Andhra Pradesh solar power plant at sub Rs.5 / unit. 
• If discoms start mandating purchase via renewable sources as per their respective RPOs, it will give a big boost to the renewable sector.
• (we will see this in  detail in our other post which will be regarding the new POWER TARIFF POLICY !! )

Towards Cooperative Federalism !

• The power sector reforms have traditionally been marred by the “centre knows best” approach. 
• UDAY however creates enabling provisions across the power value chain for states to choose and do what fits them, with the view of reaching the committed operational goals. 
• There are incentives at various stages of the value chain, and each state will find value in choosing different paths and different speeds of implementation. 
• The only binding part will be reducing the AT&C losses i.e. improving the law and order situation enough to ensure there is no pilferage.

MORAL of the STORY !!

UDAY seems to be a well thought-out, scalable, future proof-reform and restructuring programme for the struggling power distribution companies.While there is nothing certain in a democracy laced with electoral populism and constantly edgy centre-state relations, this plan may well be the “now or never” stage for discom revival. UDAY addresses a range of issues rather than doling out cash and hope things will improve operationally. It is broad-based and comprehensive, “ready for future” and agreed in principle by the states. These factors make this plan turn out to be OPTIMISTIC for us !