On 13th April, the Centre as a part of providing stimulus to the ailing Indian economy had announced series of measures. One of them being infusion of Rs 90,000 crore in ailing Electricity Distribution companies to help them repay their dues to the Generation companies. The step seems in the right indirection indeed, but there are caveats to it which would add more stress rather than helping them out from drowning.

Let’s discuss it in detail.

There are three stages before which the electricity is consumed by the end consumer.

First stage being the Generation Companies (Gencos)

Second being the Transmission Companies (Transcos)

Third being the Distribution Companies (or Discoms).

It’s through the state run or privately owned Discoms that the electricity reaches the end consumer. The discoms were struggling to make up for the deficit even before the COVID-19 crisis due to piling of huge debt and shortfall in revenue. The lockdown resulted in consumption taking a plunge and thereby Discoms not able to tide up with the revenue collection. Many industrial consumers were trying to invoke a force majeure clause (non performance of their obligation to buy electricity due to impossibility of functioning) for the lockdown period. Subsequently the Discoms referred to invoke Force majeure clause in its Power purchase agreement signed with the Gencos or Transcos. However Gencos refrained discoms from resorting to such action and rather than asked them to clear off their pending dues. Thus it was pertinent for the government to step in at the right time and bail out the ailing PSUs.

But there is a twist here. Would the government resort to tax payer’s money to bail them out as usual? Government will fire the bullets from the two PSUs enjoying the Navratna status; the PFC (Power Finance Corporation Ltd) and the RECL (Rural Electrification Corporation Ltd). It is claimed that these two companies are financially strong with adequate cash flows in place. However the Debt Equity ratio as per the published financial statements as at Sept,30,2019 is 6.6 and 7.66 times respectively for PFC and RECL which itself suggests that the companies are heavily indebted. A reader may question What’s wrong in utilizing the reserves to bail them out. But the point here is PFC, RECL being already overleveraged. Adding more leverage to these PSUs just for bailing out the ailing ones is keen to adding more fuel to the fire. It’s said that infusion of funds into such discoms by the PSUs will be at spread of 1.5%, gaining around approx 1350 crore. But what if the discoms fail to deliver and start defaulting on its loan repayments? Subsequently such PSUs would default too (unless there is refinancing of debt or external financing) and banks will face with huge NPAs in coming years.

The reason as to why Discoms may default?

The amendments in Electricity Act (currently not approved by either houses of Parliament), has amended the powers of State Electricity Regulatory Commissions (which had powers to fix tariffs) and instead set up Electricity Contract Enforcement Authority (ECEA) having the powers of Civil court to settle the disputes. However the power to determine the tariffs is now under the ambit of Central government. The central government has inserted a clause in the Electricity Act (amended) that the tariffs would be fixed without taking into consideration the subsidies given by respective states. This means that centre would fix the tariffs on the basis of cost of producing services and the States would later grant subsidy in this regard in the form of Direct Benefit Transfer. To conclude the prices of electricity would be increased. It has been brought out that the discoms suffered a very poor collection rate from rural customers especially even though the tariff was subsidized (i.e prior to amendment in the Act). However post the amendment, the collection ratio would be further impacted as prices would increase as explained earlier thus adding more woes to the already struggling Discoms. One cannot claim that the tariff in real terms is lower (after considering subsidies). This is because one cannot justify that the subsidies lent through DBT will be used only for the payment of Electricity bill. Thus Discoms may face a further shortfall in revenue.

People may argue that the Loans extended by PFC or RECL are backed by guarantees.

However the catch lies here. The guarantees would be extended by the states and not by the centre. What’s the problem though!

 The guarantees extended by the states would be a contingent liability in accounting terms while in economic terms this increase in estimated expenditure would widen the deficit gap thus giving rise to a splurge in % of fiscal deficit to GDP. It is pertinent to note that the current target for fiscal deficit as a % of GDP is 3%; while most of the states have almost reached this mark, a further increase would entail an amendment in FRBM Act (Fiscal Responsibility and Budget Management Act) as the act doesn’t permit states for a 0.5% relaxation in fiscal deficit unlike the centre which enjoys such relaxation. Thus states are unlikely to extend this guarantee and discoms may not benefit with the announcement of liquidity infusion announced by the centre.

    Further under the UDAY scheme (Ujwal Discoms Assurance Yojana), Discoms are allowed to withdraw only 25% of their previous year’s working capital from the banks and financial institutions. Thus it is argued that the discoms that have already breached this mark, the infusion under this scheme would only be to the extent of the receivables in the form of subsidies and dues owed to them by the respective states. (Source: Economic times)

  Thus unless the guarantee is backed by the Centre or the government has alternative mechanisms in place to revive the discoms by monetizing the receivables of Gencos, the discoms would continue to be overridden by debt. It’s equally important to establish and sustain the strong practices of corporate governance in place to ensure that Animal Spirits are not dimed and public confidence in the working of PSUs is enriched. A provision recently introduced in the Amendment to the Electricity Act suggests of a Franchisee and a sub-franchisee revenue model thereby enabling private participation is in the best interests of stakeholders and would raise the so called Animal Spirits.

The Proof of the Pudding lies is in its eating!!

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April 2021