Power Tariff Analysis – A perspective on JSW and Suzlon

                            By Vishwanath Pandey

TAPMI- PGDM 1st year, Sec 1

After the dual shock of Demonetisation and GST, the power sector finally showed some signs of recovery this August. The industrial output which showed negative growth in June 2017 due to GST had negatively impacted the bottom lines for power majors.

With the spot power rates spiking up to INR 9 per unit, the power companies could recover some of their costs.  More importantly power demand has shown a gradual improvement since the implementation of GST on July 1st. The demand grew by 5.3% in July and 6% in August. This was a result of unusually warm weather in the northern states as well as the rise in the industrial output of the country.

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Figure 1: Increasing production levels of electricity helped boost the losses

Because of this industrial activity the average spot power tariff has increased to around INR 3-3.5 per unit, which is 75 percent higher than the average levels of INR 2.19 per unit seen in August last year. This increase of about INR 1 may seem marginal but for power generating units its nothing short of a wind fall. For companies like JSW Energy that has close to 6000 MW of power generation capacity, a one-rupee improvement in the overall realization would mean an annual increase of INR 2454 crores in sales based on annual generation of 2454 crore units. This is an incremental growth of 30 percent on FY17 sales. This additional income which after tax deduction is about INR 1717 crores would add to company’s profits. JSW made a profit of INR 622 crores in FY17.

Suzlon Energy is another company enjoying the benefit of this resumed demand as well as greater emphasis on green technology. In FY17 it saw a 49% increase in delivery volumes to 1682 MW, including 109 MW in solar. The company earned revenues of INR. 12,693 crores as well as 64% growth in its EBITDA. Suzlon is banking upon high volume delivery instead of high per unit price to maintain its profitability. They plan to sell power at INR 3.50 per unit when the market size reaches 10 gigawatts.

Therefore, based on these current trends the companies to look out for in the power sector, would be –

  • JSW Energy
  • Suzlon Energy

DISRUPTION – A BROADER VIEW

By Viswanathan Iyer

Disruption is a topical subject and the term in recent times has been mostly used in a manner to suggest that it only afflicts new age industries or sectors, more particularly those with a touch point to high end technology. It is, however, useful to see business disruption through a broader prism, which will help us explain in a better fashion the churn happening in even some of the traditional manufacturing sectors, which seemed rather dour and unassailable till now. To my mind, a distortion in the business model with a significant redundancy of the long term business forecasts would qualify as a disruption for that particular sector. In addition to the oft mentioned factor of technological innovation; aspects related to regulation, globalization, protectionism, and even esoteric factors like climate change contribute to disruption. A few examples culled out from recent developments will hopefully buttress this point.Picture1

The power sector in India was long considered a sunrise sector in many ways, given the growing demand for power aided by both demographics and strong economic growth. This meant a solid business case which not surprisingly led to an investment binge in the thermal power sector during the second half of the previous decade. That optimism seems distant memory today, with the sector lying in shambles almost across the board. Solar power threatens to corner the new demand requirements, state utilities are unwilling to buy power due to stretched finances, coal supply linkages only exist on paper and for some of the fixed tariff based plants, the feedstock price which was supposed to be fixed escalated overnight due to regulatory changes in a distant country.

The global thermal coal sector which attracted investments by the droves till very recently is now been pronounced as a sunset sector. A business case built for investment in this sector even 5 years back would be redundant today. Some of those lofty investments planned in developing gigantic coal mines to cater to the demand from China appear wobbly, given that China itself is moving towards cleaner forms of energy and cutting its reliance on thermal coal. Closer home in India, the sector also got wildly disrupted when a judicial decision to correct a perceived regulatory anomaly ended up cancelling all coal licenses granted to private operators over the past 25 years.

There has been a dramatic change or a reversal in fortunes of the Oil industry. The price movements over the past couple of years, the demand/supply balance and irrelevance of OPEC cuts has turned the sector’ fortunes on its head. The term “peak oil” as a term was in wide use just about a decade back to explain the supply side of oil when prices were soaring. The same term is used today but with an exactly opposite connotation; various estimates now suggest that we will hit “peak oil” by 2030 but on the demand side. A world which seemed to be running out of oil a decade back is expected to be awash with oil by 2030. Shale, renewables, electric cars, greater energy efficiency are the factors which will drive this profound change of fortunes for the once unshakeable oil sector.

The last of the examples is the telecom sector in India. It has been a fall from the cliff for the sector from the heady years of the early 2000s. From more than ten players we are down to potentially four players over the coming year, and in terms of valuation, the sheets are full of red. Regulatory uncertainty, a greedy exchequer and more recently the entry of one large and resourceful player has broken the back of most of the incumbents who tragically are also overburdened by debt.

As an aside, what does all this mean for conventional debt financing for greenfield projects in traditional manufacturing sectors in the years to come. If the threat of disruption (in the broad sense as articulated earlier) is as prominent in these sectors as the new age ones, can debt finance be a viable source for funding such projects? All startups as we know them today, are almost entirely funded by equity or similar instruments. The uncertainty in the business model and the resultant impact on cash flows makes debt financing unviable. If traditional manufacturing sectors start falling under the same bracket, we might need to tweak the norms for debt financing even for such projects. Possibly the equity component in financing such projects will need to go up to reflect the increased uncertainty, or the debt providers may also need to get some equity flavor to ensure a share in any potential upside at a later date. After all, why would you lend to a project (loaded with uncertainty and risk) for a fixed coupon without any potential upside, when the potential loss for you and the equity holder is going to be practically the same. But that’s a separate discussion for another day as it opens a myriad of possibilities and financial engineering!

About the Author:

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Mr. Viswanathan Iyer is the Director of Charoite Carist Private Limited. The firm provides advisory services to financial institutions and mid sized corporates in ares related to Capital, Risk and Strategy.

Budget Series 2017-18 #6 Impact on Energy & Power Sector

  By Ishan Kekre

Union Budget 2017-18 has been tabled. It has come as a mixed bag for power and energy sector. Major announcements have been made in areas of rural electrification, oil and gas industry and renewable energy, not much has been done for areas like thermal, nuclear and tidal energy.

Key Energizers:

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Apart from above initiatives, Arun Jaitley, the finance minister proposed to create a global colossal public sector “oil major” by merging Indian state oil companies. The finance minister also said that two more strategic crude oil reserves will be developed at Bikaner in Rajasthan and Chandikhole in Odisha to elevate the domestic reserves to 15 MT.

In areas of rural electrification, the government promised that its focus will be on 100% electrification of villages by May 2018. This was complemented by increasing the total allocation for Deen Dayal Upadhyay Gram Jyoti Yojana to ₹ 4,814 crores.

Some of the Misses:

  • No mention of thermal power and coal.
  • Economic Survey, released on Jan 31, had pointed out the difficulties being faced by the private power generation sector due to falling tariffs which are unlikely to rise in the short-term.
  • No relief in terms of corporate tax and minimum alternate tax (MAT) for the power sector.
  • Experts also flagged the lack of major provisions for hydro or nuclear energy.

Implications:

  • The reduction in import duty on solar tempered glass will improve cost efficiency in manufacturing of key solar equipment like solar cells, panels and modules and will enable companies to reduce capital costs, ultimately benefitting the consumer.
  • The new strategic oil reserves will ensure that there is enough oil reserves in case of any disruption in crude oil supplies to the country in the event of any geopolitical tension.

Solar energy, now with the help of government policies and the falling global prices, can compete on its own against other forms of energy.

Revolutionizing India: The Solar Way

By Sachit Modi

India is endowed with a landscape that could easily generate 5000 trillion kWhr of solar energy. Even then, since its inception, the National Solar Mission has been termed as an “over-ambitious” project. The project would require a capital outlay of Rs. 6 lakh crore and the government has already bailed out Rs 5036 crore in the latest budget. But along with this, support from the foreign players is a must in order to achieve the target of 100MW. In line with this, Finland’s Fortum Finnsurya Energy recently quoted the lowest ever solar bid of Rs. 4.34/kWhr, leaving most in the industry scratching their heads about the viability of the tariff.

The economics behind the falling bids

The solar bids have seen a decline of over 50% in the last 5 years and each year the bids appear to be more profitable than the previous ones. The analysts are predicting an IRR of 10.7% on the latest bid. The major factor leading the fall in bids has been the decreasing cost of the PV panels, which contribute to around 60% of the total cost of solar plant. Other factors have been the high Capacity Utilization Factor of the plants, declining cost of debt and the dipping land prices. Companies like ACME Solar, Solairedirect and others have been involved in fierce bidding, each staying on its toes trying to develop solar power at the lowest prices.

Policy measures taken by the government

In order to attract investors, government has already subsidized the PV by 40% and increased the rooftop subsidy outlay to Rs 50bn. It is planning to build an INR 430bn Green Energy Corridor and giving away financial aid of Rs 2mn/MW under the Solar Park Policy. The government has also provided an option of using Viability Gap Funding and Capital Subsidy Model along with accelerated depreciation to the bidders.

India, as a member of the International Solar Alliance, is on the right track to bring in a solar revolution. The government is supporting it and we have been able to attract the investors from around the world.  But at the same time we need to be cautious about the negative surprises (fluctuations in the INR rate, land cost and cost of debt) that may creep in anytime.