Investing In India with Dr. Uday Lal Pai

Power Sector - India is waiting for more investments

By Dr. Uday Lal Pai
Exclusively for InvestorIdeas.com
posted August 01, 2006

The rapid growth in Indian economy would require an exponential growth in the Power generation. With economic development and a decline in the population below the poverty line, per capita electricity consumption is bound to increase.

India's power market is growing faster than most of the other countries. With an installed generation capacity of 123 GW, generation of more than 600 billion kWh, and a transmission & distribution network of more than 6.3 million circuit kilometers, India has today emerged as the fifth largest power market in the world.

Power Sector - India is waiting for more investments

It is estimated that per capita consumption of Power per year would increase from 650KWH in 2006 to 1000 KWH in 2012 growing at a rate of 7.41%. At the same capacity power generation would also increase from 124.31 thousand MW to 205 thousand MW.

In the past, the power sector growth has not kept pace with the economic expansion and this has resulted in India experiencing a 13 percent shortage in peak capacity and 8 percent in energy terms, on an overall basis. Although India currently has a very low per capita consumption of power, the current capacity is not adequate to meet the demand. Significant investment opportunities exist in all segments within the power sector.

So keeping in mind the socio-economic factors in the country, it is projected that India will need to target doubling its generation capacity from 2002 to 2012, with an associated increase in transmission and distribution infrastructure. The investment requirement in the sector is projected at over US$ 300 billion over this period.

The power industry structure in India

The power system in India is organized as five geographical regions for administrative purposes, management of transmission systems (regional grids), load dispatch functions and for the purpose of balancing & settling of inter-state energy transactions. The five regional grids are connected by high voltage AC & DC transmission lines thus forming a unified national grid catering to the inter-state & inter-region transfer of electricity.

The Sector has been receiving adequate priority ever since the process of planned development began in 1950. The Power Sector has been getting 18-20% of the total Public Sector outlay in initial plan periods. Remarkable growth and progress have led to extensive use of electricity in all the sectors of economy in the successive five years plans.

During the four and a half decades since independence Power generating capacity in the country has increased by more than thirty times. Electricity generation has increased more than fifty times. About 15 million farmers use subsidized electricity today and about 50 million Indian households' are electrified. The number of consumers connected to the Indian power grid is 75 million which the pre-independence figure is Fifty times.

The most important cause of the problems being faced in the power sector is the irrational and non-remunerative tariff structure. Although the tariff is fixed and realized by government's state electricity boards (SEBs), the State Governments have constantly interfered in tariff setting without subsidizing SEBs for the losses arising out of State Governments' desire to provide power at concessional rates to certain sectors, especially agriculture. Power Supply to agriculture and domestic consumers is heavily subsidized. The SEBs, in the process, have been incurring heavy losses.

Facts and figures about the physical growth of India's power system may sound hollow and deceptive in the background of common perceptions about the proverbial inefficiencies of the SEBs, the financial losses incurred by them and the perpetual power crisis that is being endlessly debated all over the country. If the SEBs were to continue to operate on the same lines, their internal resources generation during the next ten years will be negative, being of the order of (-) $ 18 billion.

Average transmission and distribution losses (T&D) exceed 25% of total power generation compared to less than 15% for developing economies. The T&D losses are due to a variety of reasons, viz., substantial energy sold at low voltage, sparsely distributed loads over large rural areas, inadequate investment in distribution system, improper billing, and high pilferage. It is true that there are crippling electricity shortages pan-India and an ever lengthening investment back-log to boot. But reform of distribution is critical for turnaround in power. Already, annual distribution losses are in the tens of thousands of millions, almost 1.5% of GDP. A recent report in fact estimated overall billing efficiency at no more than 55%, and collection efficiency at an atrocious 41% of the total power generated!

Driven by the requirement to enhance the budgetary allocations to social sectors to meet the emerging requirements of sustainable growth, the Government has envisaged a manifold increase in the role of the private sector in the financing and operations of the power sector.

Opening up and conducive policies

Significant structural and regulatory reforms have paved the way for increased private sector participation in all aspects of the sector. Many of the legal and regulatory requirements to enable this are in place, while the operational provisions are in different stages of implementation in different states.

These policy initiatives are expected to improve conditions for attracting private investment, and Foreign Direct Investment, in the power sector. Broadly, 100 per cent foreign equity participation is allowed under the automatic approval route in all segments of the industry viz. generation (based on coal, gas, or hydro), transmission and retail distribution. For large generation projects, the Mega Power Policy extends incentives, such as capital import duty concessions, and the waiver of local levies to improve cost attractiveness.

All power projects are extended a tax holiday viz. the Income Tax Act which permits the deduction of 100 percent of profits of the generation, transmission or distribution company, for a period of 10 consecutive years out of 15 years from commencement, or from undertaking a substantial renovation or modernization of existing transmission lines. Thus, the policy provides the benefit of 100 per cent foreign investment in all segments of the industry, certain fiscal benefits, and a tax holiday.

The Electricity Act provides the necessary framework for broader participation in the power sector. Apart from the incumbent utilities, the new partners in developments are expected to be the captive generators, merchant plants, power traders, open access consumers, second distribution licensees, rural network operators, franchisees, etc.

The Electricity Act 2003 requires the Central Government to formulate, inter alia, the National Electricity Policy in consultation with the Central Electricity Authority (CEA) and state governments for the development of the power system based on the optimal utilization of resources such as coal, natural gas, nuclear substances or materials, hydro and renewable sources of energy.

Installed generation capacity has to increase by about 60,000 MW (from 125,000 MW to 185,000 MW), of this about 20-30,000 MW hydro. Investment programs estimated to cost US$100 billion, Generation - US$60 billion, Transmission & Distribution - US$40 billion. In addition, India has about 20,000 MW of existing thermal capacity to be rehabilitated and modernized, distribution networks to be upgraded and MIS strengthened and human resources to be revitalized.

In FY2005, the total power generation figures stood at 520 billion units as compared to 519 billion units in FY2004.

Private sector

Out of a total of 123,010 MW of power generation, the private sector contributes about 12,930 MW (10.55 per cent). The majority of the distribution businesses in the metros of Ahmedabad, Mumbai, Delhi, Kolkata and in most parts of the state of Orissa are owned by the private sector.

India has made significant efforts to attract private investment (particularly FDI) in the generation sector. A lot of interest was exhibited by foreign investors and some activity also took place in the form of the announcements and initial investments made. Some of the global giants who showed interest include Enron, GE, Bechtel, AES, Cogentrix, PSEG and El Paso Energy. Some of these (e.g. AES, CLP) continue to have investments in India and are evaluating opportunities in the post E-Act scenario. At different stages, the policy attracted considerable investor interest.

The policy changes with respect to open access and competition have attracted the interest of private capital in the sector. The investor community has demonstrated its confidence in the expected outcomes of the Electricity Act and related policy initiatives in the secondary market.

About 10 private sector power projects have achieved financial closure since the passage of the Electricity Act, and many Indian investors have drawn up plans for significant investments in the sector. More than 50 large private domestic companies are pursuing investments in the power sector.

For instance, Reliance Energy proposes to develop 5,600 MW gas based generation at Dadri (Uttar Pradesh), and 4000 MW gas based generation at Shahpur (Maharashtra).

Tata Power plans to set up 4,000 MW projects in Jharkhand. A 1,500-MW gas-fired project in Hazira, Gujarat proposed by Essar Power. Essar Group has also signed a MoU with the Madhya Pradesh government to set up a 1000 mw power plant.

1,115 MW Nagarjuna Power project by Nagarjuna group in Karnataka. 1,050-MW project in Surat (Gujarat) by Torrent group. The project has achieved financial closure, with IDFC lead-arranging the debt. Jaypee Group is setting up a 1,000 MW thermal power plant in Sidhi, Madhya Pradesh.

Call for investment

As said above, India's blueprint for the power sector envisages a capacity addition of 100,000 MW between 2002 & 2012, and a required associated investment for the transmission and distribution network. A similar substantial capital investment is required to develop the national grid, for renovation and modernization of inefficient and aging generation plants and network, for electrification of rural areas, and to improve adequacy, reliability and the quality of power supply.

An investment requirement of US$ 90 billion in generation of which US$ 19 billion is expected from the private sector . An investment requirement of US$ 90 billion in transmission and distribution of which nearly US$ 15 billion is needed for the National Grid . An investment of US$ 6 billion for the National Grid is expected to come from the private sector, the rest from the Central sector . The rest of the investment in transmission and distribution will be financed through a mix of the state and the private sector . Implies at least US$ 25 billion of investments from the private sector

The large capital and knowledge requirements cannot be met by the Government alone. Further, given the magnitude of actual and opportunity loss, these investments and efforts must be brought in at the earliest. A partnership and private & foreign investment is necessary to meet the rapidly growing demand and to achieve global standards in operating efficiency and quality of supply.

Need for foreign investments

Given its market opportunity and competitive positioning, India today is an attractive destination for foreign investment. Projects for electric generation, transmission and distribution are permitted foreign equity participation up to 100 per cent on the automatic approval route.

To facilitate the setting up of large sized power plants in the country and in order to derive the economies of scale, all inter-state projects with a capacity of 1000 MW and above for thermal and 500 MW and above for hydel projects are being treated as mega power projects, subject to the fulfillment of required terms and conditions, and will be extended the concessions of 'Zero' customs duty on the import of capital goods.

Two routes have been identified for encouraging private sector participation in transmission i.e. Joint Venture (JV) and Independent Power Transmission Company (IPTC) routes.

Major investors in the Indian power include CMS Energy, Unocal, Woodside Petroleum, Siemens, ABB, AES Transpower, Powergen, CLP, PSEG, Tractabel. CMS holds around 20 per cent stake in 235MW gas/naphtha fuelled combined cycle power project promoted by GVK Reddy group at Jegurupadu in Andhra Pradesh. This was the first fast track Independent Power Producers project to start operations in India.

CMS Energy and ABB are the major promoters of the 250MW lignite based power project at Neyveli, Tamil Nadu. The project has been commissioned in December, 2002. CMS Energy, along with Unocal, Woodside Petroleum and Siemens are part of a consortium which plans to set up a 1,885 MW LNG based power project at Ennore, Tamilnadu.

Conclusion

The power sector related stocks have significantly outperformed the CN Nifty (National Stock Exchange index), indicating the interest in the secondary capital market. The capital market has been successfully tapped by both public sector companies (NTPC Ltd. and Power Trading Company) and private sector ones (Jaiprakash Hydro-Power Limited).

The biggies of the power sector are warming up to the idea of investing in the hinterlands. State-owned NTPC Ltd and Reliance Energy Ltd are setting up electrification projects in the rural parts of the country, an area hitherto untouched by the bigger players.

According to market observers, India could hardly afford to stall the power sector reforms. "Political posturing apart, it is widely recognized that the sheer economic needs would drive the nation to overcome deficiencies in generation, transmission and distribution. China has also gone through the dilemma of preferences between power and the poor.

The large and rapidly growing power market in India has undergone a radical change in sector structure and form of regulation, opening immense investment opportunities. A large number of private power projects are in the pipeline.

The macro environment in the domestic power sector appears positive. With positive tariff policies and opening up of the private sector for transmission and distribution, the sector is likely to see heightened activity over the next couple of years.

Disclaimer
Dr. Uday Lal Pai is an independent columnist for this web site. Dr. Uday Lal Pai may hold long or short positions in any of the stocks mentioned in this article and those positions can change at any moment. InvestorIdeas.com Disclaimer: www.InvestorIdeas.com/About/Disclaimer.asp, InvestorIdeas is not affiliated or compensated by the companies mentioned in this article. Dr. Uday Lal Pai is a freelance writer. Nothing in the articles should be construed as an offer or solicitation or recommendation to buy or sell any specific products or securities. Past performance does not guarantee future results.

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