With the entire power sector value chain witnessing a series of challenges in the face of the Covid-19 pandemic, the industry is now pinning its hopes on Union Budget 2021 for the revival of growth and viability of investments. It is also looking forward to more reforms in the sector. Power Line invited industry stakeholders to share their expectations from the upcoming budget…
What are the power industry’s expectations from Union Budget 2021?
The infrastructure sector, including energy infrastructure, should see significant directional signals coming in through the budget. Energy is the largest part of the National Infrastructure Pipeline. There is a significant funding need in the sector that must be met for new asset development across the value chain. Simultaneously, sector finances, especially in power, are precarious. Accordingly, we expect significant measures for enabling fundraising by entities such as the Power Finance Corporation and REC Limited, which are the principal lenders to the sector.
In terms of investments in capital gains bonds under Section 54EC, the present ceiling for investments of capital gains in long-term specified assets of Rs 5 million could be raised substantially. The industry is also hoping for the removal of Section 94B (thin capitalisation rules), which limits the deduction of interest expense incurred by an Indian company or Indian PE of a foreign company from a non-resident associated enterprise of such an entity where such interest expense exceeds Rs 10 million. Further, there is expectation of an increase in the set-off period for losses beyond the eight years currently permitted since many energy projects, especially renewable energy, face losses in the initial years of operation due to front-loaded costs. Finally, there is an expectation that companies availing of lower tax rates would be permitted to utilise the unused minimum alternate tax credits.
Beyond the tax provisions, I anticipate a push for the privatisation of public sector companies, promotion of InvITs and enhancement of public-private partnerships (PPPs) in the sector. These initiatives have faced challenges, but the government appears determined to push ahead to unlock value and get in private capital. Some of the barriers for the expansion of PPPs, including the poor project preparation regime and dispute resolution mechanism, may find a mention for evolving solutions to these unaddressed issues.
Gyan Bhadra Kumar
The key expectations from the upcoming budget are:
Incentives for revival of the hydropower sector
Neglect of the hydropower sector at the policy level during the past decade has brought investments to a complete halt. Even though the central government announced a series of measures in March 2019 to promote the sector, these have not been implemented even after two years.
- Funding support from the government for the cost of enabling infrastructure, that is, roads/bridges for hydropower projects; it is yet to be operationalised,
- Although the cabinet has approved the hydro power purchase obligation, it has not been implemented due to the absence of any policy,
- It is suggested that the provision of tax moratorium for the initial period, say, 10 years, will help in drawing investments to the sector,
- It is suggested that a subvention on interest on debt be given for the revival of the ailing hydropower sector,
- As per prevailing policies, developers have to incur huge corporate social responsibility expenses and an additional burden of 1 per cent of LADA has a direct impact on the tariff. Hence, it is suggested that the imposition of 1 per cent LADA on hydropower developers be done away with.
Reintroduction of mega power benefits (different tax exemptions) for revival of stress projects
- The central government should re-introduce a mega power policy for the stressed power sector. This would ease the liquidity crunch being faced by several project developers.
High surcharges for industrial consumers
- Open access, although one of the key objectives of the Electricity Act, 2003, is still not being implemented in the true sense due to bottlenecks such as cross-subsidy surcharge, additional surcharge and electricity duty being levied by states.
High tax burden on coal
- The tax burden on coal is very high, (in some cases it is even more than the actual cost of coal). This is resulting in higher power tariff, which is, in turn, putting undue burden on stressed discoms.
- It is suggested that the tax burden on coal be reduced. A reduction in levies such as cess will reduce the tariff and give relief. The intent of imposing such a cess was to support renewable energy sources. However, renewable energy technology has now achieved parity with conventional sources of power generation. Hence, the cess should be completely removed/reduced. The tax revenue can remain the same due to the enhanced sale of power.
The power industry, with an annual turnover of $80 billion, is supported by the government (both as an owner and a subsidy provider) with around $8 billion towards subsidies. Regulatory disallowances and inefficiencies have been stressed due to the impact of the pandemic on economic activity and the resultant tax revenues. Covid-19 had a significant impact on power demand as well as utility revenues and bottom lines during the first and second quarters of 2020-21. Companies are pulling all the traditional downturn levers, such as reductions in capital expenditure and cash conservation. Post the slump in April and May 2020, demand and cash collections recovered in September and October 2020. Yields on foreign-listed bonds of domestic power companies touched 11-13 per cent in May 2020, before recovering to 5-7 per cent. To mitigate the liquidity constraints of discoms, the government announced a package to infuse $12 billion in funds (a part of the disbursals are under way).
Generation capacity has expanded by about 7 per cent over the past five years, ahead of demand growth, which was around 4 per cent. This positions the sector well to meet the emerging needs of recently connected households and transport electrification. The share of renewable generation has grown from 6 per cent to 11 per cent in the past five years, making a credible and continued progress towards the country’s climate change commitments. The larger share of non-fossil fuel generation poses new challenges to state utilities, particularly the cost of maintaining baseload generation, and managing intermittency and transmission constraints.
The prices of short-term electricity traded on the power exchanges remained steady over a moderate range (12 per cent) during the year. Trades on the exchanges have outstripped demand and supply growth, clocking about 19.4 per cent in the past eight years.
The privatisation of utilities saw an uptick with the privatisation process for three distribution licensees receiving closure in Odisha. CESU was handed over to the private investor in June 2020 while WESCO and Southco are expected to see a handover before March 2021. The union territories (UTs) of Chandigarh, Dadra & Nagar Haveli, and Daman & Diu also initiated the process of privatising their discoms.
Only a few states are implementing real tariff increases. As a result, for most state utilities, unit revenue lags behind cost by 5-16 per cent, leading to delayed payments across the value chain. Further, renewable tariffs keep reaching several new milestones. Solar tariffs reached Rs 2 per kWh, the first-ever round-the-clock electricity contract using renewables, and storage technologies clocked Rs 2.90 per unit (3 per cent escalation in the first 15 years and then flat out), and efforts are under way to blend renewable and conventional power. The government launched its ambitious production-linked incentive programme for battery energy storage manufacturing, to make India a manufacturing hub.
The launch of several big-ticket reforms is also under way, including legislative reforms – power market regulations; and market reforms – launch of a pan-Indian real-time electricity market; and initiation of consultations on market coupler and derivatives in power.
The key issues that could be addressed in the budget include:
- The pace of implementation of amendments to the Electricity Act, 2003, tariff policies, and the recommendations of the high-level empowered committee to address the issue of stressed power assets needs to be expedited in order to attract investors across the value chain.
- There is a need for regulatory strengthening in terms of organisation capacity and technology enablement, as well as tariff rationalisation to correct the skewed tariff vs cost structure of downstream distribution utilities, and optimisation of the cross-subsidy trajectory to create competitiveness in the industry.
- Encouraging the state governments to expedite the implementation of actions to improve the operational performance of distribution utilities with the roll-out of smart meters, digitalisation and private participation.
- Apart from the renewable energy scale-up programme, it would be useful to run a programme for discontinuing the renewal of power purchase agreements of fossil fuel-based power plants that have crossed their economic life of 25 years and focus on repurposing assets.
- Directional, budget and financial support are needed to promote investments, turn around the ailing distribution segment and incentivise investments in R&D in renewables and storage.
- Dispute resolutions drag on for years, leading to challenges in cash flows for companies across the electricity value chain. The government needs to implement a mechanism that allows time-bound dispute resolution to reduce risks for upstream investors.
I believe that the power sector could play a crucial role in India’s economic revival in the post-pandemic world. Recent policy measures such as the privatisation of discoms in the UTs, the special liquidity infusion of Rs 900 billion into the distribution space and the increased focus on consumer rights reflect the central government’s strong intent to transform the power sector and provide reliable power for all.
As the sector continues to recover from the pandemic, I would expect the budget to propose conducive policy measures to address the existing systemic challenges, particularly in the distribution space. As a major link between the power generation sector and the last-mile consumer, the discoms would require continued government support both in terms of policy action and necessary stimulus packages to build greater financial resilience and operational efficiency in the long run. A healthy distribution sector, in turn, will enhance the quality and reliability of power supply, prompting economic activities, employment generation and social development‚ especially in rural communities.
As laid out in the past year’s budget, the focus should also continue to remain on technology adoption such as smart meters to reduce aggregate technical and commercial losses. I also believe that corrective measures in processes such as metering, billing, and collection will not only improve the overall power demand but will also have a significantly positive impact on discoms’ revenue generation and profitability.
Hence, I expect strong policy measures and a higher allocation of funds for discoms in the upcoming budget as this would help the sector strengthen its existing infrastructure and adopt best practices for improving power delivery to the unserved and underserved communities in the country.
The union budget is not only a platform to drive tax and financial reforms in the country but is also an efficient enabler to bring about transformative policy action. The budget for 2021 comes at a crucial juncture where not only the economy needs a balm as it recovers from Covid-19, but also at a time when the power sector is in dire need of a complete overhaul.
Over the past few years, the power sector has undergone a significant change through path-breaking policy initiatives such as UDAY, Power for All, UJALA and the IPDS. While in 2020 the government had proactively introduced measures such as the Electricity (Amendment) Bill, draft Electricity (Rights of Consumers) Rules and payment security mechanisms and announced the privatisation of UT discoms, structural reforms in the power sector should be introduced throughout the supply chain to ensure that the dynamics of competition and transparency get imbibed in the administrative DNA.
Economically viable and sustainable power transmission and distribution (T&D) is the fundamental need for improving the reliability and quality of power supply in India. While higher budgetary allocation is expected to support the financial distress of state discoms, the focus of Union Budget 2021 is expected to be on strengthening the T&D network, supportive measures for renewable energy, and improving the availability of long-tenor financing avenues for such projects.
Historically, investments in the power sector have been lop sided towards generation, which have led to a gaping hole in the supply chain, as effective transmission and distribution is imperative to ensure that power reaches every nook and corner of the country. With the renewed focus of the government on alleviating congestion, providing reliable power to all and strengthening interregional grid availability, transmission capacities are expected to grow at a robust pace in 2021. Significant investment in the transmission sector will also be necessary for meeting the aggressive renewable energy targets to create adequate grid availability for the sector. In addition, with the growing focus on electrification of the mobility sector, a proportionate expansion of the transmission network would be required to meet the increased energy demand. Hence, while the virtuous cycle of incentives is expected to continue for the renewable energy sector in Union Budget 2021, policy action towards strengthening grid availability, ensuring compliance of power purchase agreements and undertaking measures to strengthen the payment security mechanism are also expected to ensure equilibrium in the supply chain.
In addition, to free up government capital and promote efficiency in the industry, a privatisation drive for state transmission companies should be envisaged in line with the privatisation of discoms. The government may also consider re-initiating discussions around “carriage and content separation” as this would effectively allow end consumers to choose who they want to buy electricity from, similar to the telecom sector.
Apart from administrative issues at the discom level, the other major challenge for the sector is the lack of private participation and limited financing avenues. In order to increase capital investment in the infrastructure sector, government intervention would required not only be in the form of increased public spending, but also through sweeping policy reforms to provide a conducive environment for PPPs.
In earlier budgets, the monetisation of assets through PPP concession models, InvITs, real estate investment trusts (REITs) and TOT models was identified as a to attract private capital. However, these have had limited success so far due to lack of commensurate policy action. It is expected that in 2021 facilitative policy actions will be announced in the budget to deepen the availability of capital for these instruments and make them competitive with other asset classes.
Policy directives around reduction in lot size, effective tax breaks, easier access to foreign capital, etc. are expected to be announced to help alternate asset classes reach their maximum potential. Tax incentives such as InvITs and REITs as part of the original asset under Section 54EC of the Income Tax Act (to provide the benefit of exemption in case the transferor/investor invests in capital gain-exempt bonds), relaxation of withholding tax provisions for InvITs/REITS, and reduction in the holding period for long-term capital gain eligibility to 12 months (instead of 36 months) must be implemented to attract private capital and allow these instruments to achieve their intended purpose.
Traditional banking sources are inadequate to fund the mammoth infrastructure requirements given the current stress in the banking system and the asset-liability mismatch involved in the funding of long-term infrastructure projects. While a new class of funding institutions have emerged in the form of mutual funds, alternative investment fund, non-banking financial companies, etc., their evolution and size is insufficient to fund the requirement of infrastructure capital. Other large institutional pools of capital – insurance and pension funds – have limited exposure to infrastructure projects because of regulatory and credit quality-related constraints. Moreover, the depth and liquidity of debt capital markets is low and the same are not best suited for the long-term financing of infrastructure assets. Hence, measures such as automatic approval for InvITs for raising external commercial borrowings, expanding investment opportunities for insurance and pension funds, and operationalising debt subscription by foreign portfolio investors should be considered to expand the sources of capital for the infrastructure sector through InvITs and REITs, and ensure that the economy is geared to actualise the vision of a $5 trillion economy by 2025.
The finance minister should put in place a comprehensive policy and regulatory framework to encourage firms to invest more in innovation and technology with the larger objective of bringing about a transformation in the power sector. The skewed tariffs of downstream distribution utilities should be rationalised vis-à-vis the cost structure to optimise cross-subsidy and create competitiveness in the industry. Measures to facilitate timely payments from states to upstream utilities will take care of cash flow constraints. We also expect the finance minister to incentivise investments in research and development in renewables and storage technologies. The government should create a robust ecosystem for indigenous solar manufacturing through the allocation of more funds, extension of financial assistance on term loans, upfront central financial assistance on capex and exemptions in basic customs duty to units in special economic zones to realise its vision of Atmanirbhar Bharat. It should create a separate category for renewable energy under priority sector lending to enable independent power producers to get more funding from banks. Let us build on the Indian Renewable Energy Development Agency and create a specialised infrastructure funding institution that can refinance operating assets at competitive rates.
The power sector is looking forward to measures for improving viability. Efforts to reform discoms are needed to address the core issue of improving finances. The implementation of the Electricity Act amendments is urgently required for expediting dispute resolution, along with measures to ensure cost-reflective tariffs and encourage operational efficiency. New models of renewable energy integration, storage technology, smart metering and smart grids will help accelerate India’s green energy transition. Broadly speaking, the government should focus on buoyancy in tax collections, disinvestment and borrowings to raise funds. The industry is looking forward to increased spending on infrastructure that can generate employment and have a higher multiplier effect. Incentives for the manufacturing sector, measures to enhance foreign direct investment, and steps to simplify the goods and services tax will help revive the economy.