In recent years, multiple efforts have been initiated to address the financial health of discoms. Among these, regular tariff determination processes by regulators, the publishing of audited annual accounts, improvements in subsidy payment discipline by state governments and timely payment of dues to generators have helped address the financial pressure on discoms.
Another key aspect of the reforms has been fuel surcharges. Discoms recover revenue from consumers through tariffs that are approved by state electricity regulatory commissions (SERCs). These tariffs are based on estimated costs for the year, but often, there are discrepancies between the approved and actual costs incurred. A significant portion of this difference arises from power procurement costs, which account for more than 75 per cent of discoms’ total expenses. To manage such cost fluctuations, discoms introduced a fuel surcharge on consumers’ bills. This surcharge is an additional charge applied on top of the base fixed and energy charges, collected on a per unit basis every month. The fuel surcharge is essential due to the growing volatility in power procurement prices and the fragile financial condition of many discoms. It helps them recover the varying costs in a timely manner–either monthly or quarterly.
Without the fuel surcharge, any discrepancies between the actual and approved costs would have to be adjusted through consumer tariffs at the end of the year, with an added carrying cost. By levying the surcharge periodically, discoms can mitigate the need for large tariff adjustments at the year end, reducing the impact on consumers. Additionally, periodic cost recovery through the surcharge helps avoid working capital strain for discoms, contributing to their overall financial stability.
Several states initiated the levy of fuel surcharges following amendments to the Electricity Rules in 2022. While this has helped discoms recover costs for power purchases more efficiently, the process is being reviewed to address the gaps in the current mechanism and shield consumers from tariff hikes. In this context, the Central Electricity Authority (CEA) recently released a background note on an alternative mechanism, such as imposing a surcharge along with the tariff, instead of a periodic fuel and power purchase adjustment surcharge (FPPAS).
Power Line takes a quick look at the current FPPAS mechanism, its implementation and adoption so far, the
rationale for reviewing it and the proposed improvements…
Background of FPPAS
To bring uniformity in the recovery of FPPAS across states, the Ministry of Power (MoP) introduced Rule 14 under the Electricity (Amendment) Rules, 2022, in December 2022. The rule establishes a formula and procedure for the automatic pass-through of fuel and power procurement cost variations. Regulatory commissions are required to define a price adjustment formula based on this rule, and FPPAS adjustments are to be made on a monthly basis. If the FPPAS is less than or equal to 5 per cent, the full cost of the fuel and power purchase adjustment can be recovered automatically. However, if the FPPAS exceeds 5 per cent, only 5 per cent of the surcharge is recoverable automatically, with the remaining 90 per cent recoverable via the formula, subject to approval by the SERC during true-up.
Following the introduction of this rule, 25 states/union territories (UTs) have issued regulations in line with Rule 14, and 33 states/UTs allow the automatic adjustment of FPPCA charges. However, three states (Tamil Nadu, Uttar Pradesh and West Bengal) do not permit automatic adjustment. Additionally, 18 states have adopted the computation formula specified in Rule 14, and 25 states/UTs have incorporated a monthly pass-through provision for FPPAS.
Later, a committee formed by the MoP and the CEA proposed certain amendments to Rule 14 of the Electricity (Amendment) Rules, 2022 to address the timely recovery of power purchase costs by distribution licensees. A key suggestion was the establishment of an FPPAS stabilisation fund to mitigate the impact of fuel price fluctuations on consumers’ bills and prevent tariff shocks. Under this proposal, any negative FPPAS for a particular month would not be passed on to consumers. Instead, it would be accumulated in the stabilisation fund, and this carry-forward of negative FPPAS would continue until it reaches 20 per cent of the monthly tariff revenue approved by the appropriate regulatory commission. Meanwhile, any positive FPPAS exceeding 10 per cent of the average billing rate would be adjusted against the fund to avoid sudden tariff hikes.
The MoP reviewed these proposed amendments and identified the need for an alternative mechanism to shield consumers from sudden tariff hikes. One suggestion was to explore the possibility of imposing a uniform surcharge along with the base tariff, instead of applying a periodic FPPAS. This fuel adjustment surcharge (FAS) could be determined by the SERCs based on historical data from previous years, with a ceiling limit to prevent excessive charges. The FAS would be collected into the FPPAS fund, which would be used to manage fluctuations in fuel costs, thus reducing the need for frequent adjustments in tariffs. Under this mechanism, a separate FPPAS pass-through would not be required, simplifying the process and providing more stability for consumers.
Case study – Gujarat and Maharashtra
In Gujarat, the ERC approves a fixed fuel surcharge, known as the base FPPPA, to be charged to consumers monthly. This rate is determined based on the average fuel surcharge levied in previous years, though it is not specified in the regulations. A significant portion of the fuel surcharge is fixed at the beginning of the year through the base FPPPA. Additionally, any variations in fuel costs are recovered via an incremental surcharge, which is determined quarterly.
The base FPPPA is calculated based on past data and does not consider anticipated cost deviations for the current year. If cost deviations remain relatively consistent from year to year, the base FPPPA approach could offer tariff stability and predictability for consumers.
Further, to stabilise tariffs and minimise fluctuations in the fuel adjustment charge (FAC), the Maharashtra ERC has approved the creation of an FAC fund with the distribution licensee. This fund can be built up over time and used to settle FAC bills with generating companies without immediately passing the costs on to consumers, thus reducing the impact of FAC fluctuations. Negative FAC amounts are carried forward to the next billing cycle, along with holding costs, and are adjusted against the FAC for the following month. If any balance remains, it is carried forward again until the accumulated negative FAC reaches 20 per cent of the monthly tariff revenue approved by the ERC, or Rs 15 billion for Maharashtra State Electricity Distribution Company Limited. Any amount above this limit is refunded to consumers through the FAC mechanism. If the FAC fund is insufficient or not yet generated, the distribution licensee can levy the shortfall on consumers, subject to prior approval from the ERC. To maintain transparency, the distribution licensee is required to keep a monthly record of the FAC fund and publish it on its website for the information of stakeholders.
Proposed changes
Given the monthly variations in FPPAS, some regulatory commissions have adopted innovative strategies to stabilise tariffs for consumers. One such proposal suggests that a fixed percentage of the FPPAS, as approved by the commission for the financial year, be collected from consumers along with their monthly bills. This collected amount can then be adjusted against the actual FPPAS, helping to avoid tariff shocks and providing a more stable tariff for consumers while allowing discoms to recover FPPAS in a timely manner.
The proposal entails that the distribution licensee should collect a base FPPAS not exceeding a certain percentage (x per cent) of the monthly average billing rate, which will be decided by the SERC based on the weighted average FPPAS of the past three years and the approved recovery plan.
The collected FPPAS will be deposited into a separate FPPAS stabilisation fund, with any interest earned also added to the fund. The licensee will maintain an account of the accumulated FPPAS and use the stabilisation fund to meet actual FPPAS demands.
If there is a surplus in the fund equivalent to two months’ FPPAS demand, the licensee will pass on the surplus to consumers by reducing the base FPPAS rate in subsequent periods. This approach aims to provide tariff stability for consumers while ensuring the timely recovery of FPPAS for discoms.
Conclusion
With rising power procurement costs, volatility in prices and the precarious financial position of many discoms, the timely recovery of costs through fuel surcharges is critical to the power distribution segment. Understanding implementation practices across states and developing a transparent recovery mechanism of prudent costs through a participative process is expected to enable planning, ensure cost and tariff certainty, and incentivise efficiency improvements.
Aastha Sharma