A tale of two tariffs: power and ports

By Neeraj Menon and Shruti Sahu, Trilegal
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Growth in the energy and infrastructure sectors has recently waned. We review the direction taken by recent tariff regulation and the potential growth impact in two sectors – power and ports.

The power sector

The past few years have seen a severe energy deficit, primarily because a coal supply shortage has impaired the ability of power companies to generate to their full capacity and to meet their power supply commitments under power purchase agreements with off-takers.

Following a presidential directive issued to Coal India Limited (CIL) in April 2012, the Cabinet Committee on Economic Affairs (CCEA) in June 2013 directed CIL to sign fuel supply agreements (FSAs) for a total capacity of 78,000 MW. A second presidential directive issued by Ministry of Coal called for CIL to sign the FSAs.

Neeraj Menon
Neeraj Menon

In July 2013 the New Coal Distribution Policy (NCDP) was modified and required FSAs to be signed for 65% to 75% of the annual contracted quantity for the remaining four years of the 12th Five Year Plan. The NCDP allowed CIL to import coal to meet the balance of its supply obligations under the FSAs and to supply the imported coal to power projects on a cost-plus basis. It also allowed power producers to directly import coal to meet the deficit in CIL’s supply obligations under the FSAs.

The Ministry of Power subsequently issued an advisory to the Central Electricity Regulatory Commission (CERC) and all state electricity regulatory commissions to consider, on a case to case basis, allowing the higher cost of import/market-based e-auction coal as a pass-through in the tariff. Recent decisions of the CERC suggest that it has favourably considered the government’s advice. While the pass-through proposal is likely to lead to an increase in power rates for consumers across the country, it appears to be a necessary evil to ensure that commissioned generation capacity is not stranded.

The port sector

The Ministry of Shipping (MoS) established the Tariff Authority for Major Ports (TAMP) in 1997, when 90% of maritime cargo was handled at the government-owned major ports. Today, the unregulated minor ports command a market share of about 42%.

The public private partnership (PPP) model is critical for capacity augmentation at major ports. The MoS sets aggressive targets for award of PPP projects but the rate of award has been abysmal. In the year ended 31 March 2013, the MoS awarded only 13 PPP projects, about 20% of the target. In addition to delays in environmental clearances, connectivity and dredging, a major reason for private sponsors to steer clear of PPP projects in the major port sector is rigid tariff regulation. Under TAMP’s 2008 tariff guidelines, TAMP determined the upfront reference tariff using a normative cost-based approach and a fixed return on capital employed of 16%. The annual escalation of the reference tariff was linked to 60% of the wholesale price index. The indexed reference tariff acted as a ceiling on the tariff that can be charged by PPP developers.

Shruti Sahu
Shruti Sahu

The cost-based and indexation norms followed by TAMP did not reflect reality. Further, the MoS sought bids for PPP projects based on the gross revenue share quoted. Such revenue share was not allowed as a pass-through. In order to sustain returns, a PPP developer could not reduce tariffs below the reference tariff ceilings, thus affecting its ability to compete with minor ports. Consequently, private sponsors have either stayed away or quoted low revenue shares, causing the MoS to frequently seek re-bids or to scrap projects.

Private sponsors have requested tariff deregulation for years. In October 2012, the High Level Committee on Financing of Infrastructure formed by the Planning Commission also recommended port tariff deregulation.

TAMP recently issued the Guidelines for Determination of Tariff for Projects at Major Ports, 2013, ostensibly to deregulate tariffs. As in the past, TAMP will determine a reference tariff. In addition, TAMP will prescribe performance standards. Bids will be invited based on the reference tariff. A PPP developer will be permitted to propose a higher or lower tariff from the second year of operations based on its performance evaluation, subject to the performance-linked tariff being capped at 115% of the indexed reference tariff. The PPP developer’s revenue share will be calculated on the applicable tariff for the year. While the new guidelines ease tariff determination to some extent, most of the earlier issues continue.

Ports are commercial ventures. Shipping lines will shift traffic to ports that are advantageously situated, offer competitive prices and provide efficient handling and good turnaround times. For these reasons, internationally port sector regulation is “light”. The remarkable growth of the unregulated minor port sector (with significant private sector participation) shows that competitive market forces eliminate the need for intensive tariff regulation.

Neeraj Menon and Shruti Sahu are both counsel at Trilegal. Trilegal is a full-service law firm with offices in Delhi, Mumbai, Bangalore and Hyderabad.

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