Back in May 2020, Union Finance Minister Nirmala Sitharaman had announced plans to privatise seven electricity distribution departments/companies of the union territories (UTs). Going ahead with plans to privatise them by as early as 2020-21, an important update in September 2020 was the release of draft standard bidding documents (SBDs) to privatise discoms.
These SBDs provide guidelines for states that want to offer their electricity distribution utilities to private players to improve their operational efficiency and finances, as well as ensure standardisation across transaction structures, processes and bid documents. The draft SBDs are currently being finalised after incorporating the comments and feedback received from various stakeholders.
Interestingly, the SBDs come at a time when states have given a frosty reception to the idea of privatisation in the past few months. Most recently, in October 2020, the Uttar Pradesh government rolled back its decision, announced earlier in July, to privatise Purvanchal Vidyut Vitran Nigam Limited, one of its five power distribution companies, following protests by employees. Similarly, there has been strong opposition from the state legislatures and employees of power departments of the UTs of Puducherry and Jammu & Kashmir since the announcement of the central government’s decision in May.
A brief review of the key developments in the UT discoms’ privatisation process, the highlights of the draft SBDs, and the outlook on privatisation…
The draft SBDs were released on September 20, 2020. They have suggested several options regarding the state government’s stake in the power distribution company, with options ranging from zero (no involvement) to a minority stake of 26 per cent. Further, the draft contains the format for requests for proposals, shareholder agreements, share acquisition agreements, policy directions, and bulk supply agreements.
On the transaction structure, the draft specifies that the assets of the existing distribution licensee, other than land, will be transferred to the new entity at the net asset value approved by the state electricity regulatory commission (SERC).
On the protection of employee interests, it states that the employees of the existing distribution licensee should be transferred to the successor entity. The draft has also endeavoured to resolve unfunded terminal liability-related issues.
Another highlight of the draft is the control of power purchase costs, the largest cost component for private players, by transferring the power purchase agreements (PPAs) of existing distribution licensees to them. Only in specific cases where there is a significant gap between the average revenue realisation (ARR) and the average cost of supply (ACS), the draft states that PPAs may be retained in a state/UT government entity to structure a subsidised bulk power purchase cost for the successor entity for making it an independent, financially viable entity for a specified period.
Also, the successor entity will be provided a clean balance sheet, free of accumulated losses/unserviceable liabilities. Further, transition support from the state/UT government for a specified period (say, five to seven years) is proposed.
Two models have been suggested with regard to the shareholding pattern as per the draft. In the first, 100 per cent stake would be held by the investor, and this model can be adopted for utilities in densely populated urban areas, and if there is a financially viable utility and the retail tariff covers the cost of supply and there is no/limited need for subsidisation in retail tariffs. In the other model, 74 per cent equity stake would be held by the investor and 26 per cent stake by the government. This could be adopted for utilities in an urban-rural mixed geography, utilities that are strategic from a national security perspective and utilities that are expected to have a continued need for subsidisation in retail tariffs.
In terms of bid parameters, the draft states that in the case of discoms with medium/high AT&C losses of above 15 per cent, the bid parameter may be an AT&C loss commitment for the first five years. In the case of discoms with lower than 15 per cent AT&C losses (with no/negligible ACS-ARR gap), the bid parameter may be an upfront premium for equity consideration in the discom.
Union territories on offer
The UTs on offer are Puducherry, Chandigarh, and the Andaman & Nicobar Islands, for which the Power Finance Corporation (PFC) has appointed Deloitte to help with the sale process, as well as Dadra & Nagar Haveli, Daman & Diu, Jammu & Kashmir and Ladakh, for which SBI Capital Markets Limited has received the mandate. In the first lot, the UTs of Chandigarh, and Dadra & Nagar Haveli may be put up for bidding under the privatisation initiative. Depending on its success, bid documents for the other UTS would be finalised. As per reports, state-owned companies such as NTPC Limited and REC Limited are expected to participate in the bidding process. It is expected that NTPC will participate through its subsidiary, NTPC Electric Supply Company Limited, and power sector financier REC would do so through its entity, REC Power Distribution Company Limited. The process is also expected to attract domestic private and global players such as CESC Limited, Torrent Power, Greenko, Tata Power, and the Enel Group.
Recent state-level developments
In October 2020, the Uttar Pradesh government agreed to take back the privatisation proposal of Purvanchal Vidyut Vitaran Nigam Limited, which supplies electricity to 8 million consumers. The discom’s AT&C losses stood at a significant 39.64 per cent in 2018-19. As per the agreement with the state government, the state discoms will strive to improve power supply and operational efficiencies within the existing framework and any privatisation proposal in the future will be made after taking the employees and authorities into confidence. Also, in October 2020, worker union protests have erupted in parts of Assam over concerns regarding the privatisation of Assam Power Distribution Company Limited.
Meanwhile, on the UT front, the Ministry of Power has turned down the majority of proposals made by the Chandigarh administration to the ministry for consideration, and asked it to kick off the process of privatisation of power distribution in the city. It has declined the UT’s request to directly float requests for proposals for privatisation and has directed it to first go for corporatisation by forming the company.
The way forward
Explaining the relevance of the draft SBDs, Padam Prakash, director, power and utilities, PwC, notes, “It is necessary that policy directions should be issued as appropriate throughout the licence period and ensure that the SERCs continue with a reformist mindset. Delhi, which was touted as a success story across all parameters by 2013-14, is grappling with increasing regulatory assets.”
He, however, adds that there are certain proposals that are likely to face challenges from the states. “Some of the issues that will generate debate include providing a clean balance sheet to the successor entity and the responsibility for funding terminal liability obligations of existing employees. Given the liabilities and accumulated financial losses on the books of utilities, the subsidy commitments and the stressed condition of state budgets, it is going to be an arduous task. States are also worried about the lack of central support if the private investor is unsuccessful – Odisha did not get the benefit of many central schemes and the state government had to pitch in with significant investments. Most of the distribution franchisees across states are also engaged in large arbitration proceedings against private operators, denting confidence further.”
There are also certain core issues in the SBD that require clarity, says Amit Kapur, joint managing partner at law firm J. Sagar Associates. “To succeed, privatisation of the distribution segment requires a clean opening balance sheet with identified liabilities, assets, employees, claims et al that are going to move with the discom and the elements that will be taken over by the government or its wholly owned subsidiary or other vehicle. The liabilities being passed on to an SPV have not been clearly defined. The state government will need to put in place a comprehensive financial restructuring plan for the distribution undertaking, encompassing various aspects including transition financial support, cleaning up of the balance sheets of the discom, transfer of assets and employees, funding of unfunded and contingent liabilities including pensionary and retirement benefits, vesting of existing power procurement contracts and transmission contracts, defined level of subsidy in terms of Section 65 read with Sections 131 to 134 of the act.”
Also, Kapur explains that the discoms have various claims of outstanding dues payable by consumers, in particular, governmental and public entities such as municipal corporations. The efficacy and sanctity of the cut-off date and taking over of defined liabilities would necessarily require an actuarial valuation as close to the date of transfer as possible of such contingent and crystallised liabilities so that bidders are aware of what they are bidding for. There also needs to be operational freedom for the privatised utility, he adds. “Privatisation of the distribution segment requires adequate freedom to be given to the successor discom to undertake its activities based on economic prudence, commercial viability and the requirements of business.”
These issues are hoped to be addressed in the final guidelines, which are expected to be released shortly.
What is the privatisation outlook for 2020-21? “We might see successful conclusion of the privatisation of four discoms in Odisha – CESU has already been taken over by Tata Power in June 2020 and significant progress has been achieved on process timelines for privatising three other discoms in Odisha. We might also see two to three UTs come up for privatisation in financial year 2021, although the process conclusion may take place in financial year 2022,” comments Prakash.
Net, net, while the central government’s SBDs would be critical to set the reform agenda, it is the state governments’ support that will be the decisive factor.