India’s electricity companies have surplus power – and that’s a big challenge

Last year, the Central Electricity Authority reported that India is on the verge of being a power surplus nation. For a country accustomed to power shortages, this may appear to be a major step towards reliable electricity supply. But surplus power has not eliminated shortages. In particular, rural India continues to face power cuts.

What explains this paradox?

Surplus power occurs when the power available with distribution companies at a given time exceeds the demand for electricity. A surplus could arise due to a fall in the demand for power, for instance, during an industrial slowdown. Or it could result from an increase in power supply, for instance, when a new generating station is added. Insights from various states show that the burgeoning surplus is more due to an increase in power supply, as we explain in a subsequent article.

But first, we explain why surplus power is a problem. To start with, it has put a significant financial burden on distribution companies and may adversely impact their already precarious financial positions.

Cost of power

Most power procurement by distribution companies is done through long term, 25-year contracts with power generating companies. These contracts legally bind the distribution companies into paying the generating company a lump sum annual amount for fixed costs, and a per-unit charge to cover variable costs (mostly for fuel).

Distribution companies have to pay the fixed charges even if they do not draw power from the generating company for a particular time period. If such surplus cannot be sold, it is backed down, which means power generators lie idle at that time, incurring fixed costs, but generating no electricity.

The table below shows the financial impact of backing down in five states.

In effect, states are paying for surplus power that they do not use. Fixed cost payments to power generators due to backing down are as high as 15% to 35%. In Gujarat, the payments are more than three times the agricultural power subsidy, and in other states, they amount to about 40% to 60% of power subsidies by the state government.

Such costs are eventually borne by the electricity consumers.

A problem of contracts

As distribution companies with surplus power have entered into long-term, legally-binding contracts for power, it is difficult to surrender or re-allocate such capacity. Therefore, the most common strategy to mitigate the cost of surplus power is to ensure its sale.

As surplus power is high-cost and seasonal, there are not many takers for it, especially when cheaper power is available in the short-term power market on a day-ahead basis. It is equally true that many distribution companies have not made adequate efforts to sell surplus power on a seasonal or medium-term basis to states that are still facing shortages.

The power surplus Maharashtra State Electricity Distribution Company recently agreed to supply electricity for two months to distribution companies in power-deficit Uttar Pradesh. Similar efforts need to be taken by other companies as well, possibly using enabling platforms such as DEEP, or Discovery of Efficient Electricity Price, launched last year by the Union government to facilitate short-term bidding for power.

The variable cost of surplus capacity ranges from Rs 2.7 per kilowatt-hour to Rs 3.3 per kilowatt-hour, and the tariff for newly-contracted capacity in states with shortages is in the range of Rs 4 per kilowatt-hour to Rs 5.7 per kilowatt-hour.

Therefore, the sale of surplus power can generate some revenue for distribution companies in surplus power states, and at the same time help reduce the cost of power procurement in states with power shortages.

Regulators overproject

State Electricity Regulatory Commissions, which are responsible for determining the tariffs that distribution companies can charge consumers, usually approve the sale of surplus power at a pre-determined rate for the coming year. In order to do this, the regulatory commissions often project generation from power plants based on norm-based performance rather than actual past performance. Thus, in the case of many plants, the regulatory commissions assume higher generation than achieved previously. This results in an optimistic projection of surplus for sale.

Despite the availability of cheap power in short-term markets, the regulatory commissions also assume that surplus power is sold at high rates to enable cost recovery. The assumed revenue from such optimistic sales is used to reduce projected costs and offset tariff increase required from consumers.

Tariffs are approved by the regulatory commissions to meet the expenses of the distribution company for the coming year. Any additional expense in the course of the year that is not recovered through sales ends up contributing to the losses of the distribution company.

By projecting the sale of surplus capacity, many states have managed to reduce the tariff increase required by half for the coming year. For 2014-’15, using this strategy, Madhya Pradesh was able to avoid a tariff increase altogether. However, audits have shown that only 20% to 50% of the assumed revenue from the projected sale of surplus capacity is recovered from the actual sale.

This is because the surplus power available for sale is significantly less than the surplus projected by the regulatory commissions. Second, the price at which the surplus was sold is also lower than the price assumed by regulators.

Unable to earn projected revenues, distribution companies are stuck with losses, which, if not recovered through tariff increases, contribute to accumulating debt. The debt eventually necessitates bailout packages, the most recent being UDAY, or Ujwal DISCOM Assurance Yojana, which the Union government had launched in 2015.

If a realistic surplus is projected for sale at probable prices, the regulatory commissions can nudge distribution companies to ensure the sale of power. However, in the current case, it is likely that the regulatory commissions are projecting significant revenue from sale of surplus to defer the tariff increase required that year rather than manage their power surplus.

Such practices are detrimental to the finances of the utility, hinder the success of programs like UDAY, and reduce the legitimacy of regulatory decisions.

Surplus power here to stay

Today, more and more industrial consumers are migrating away from distribution companies and directly obtaining power from generators of their choice. Additionally, renewable energy capacity, which is not usually backed down, is growing rapidly with falling prices. Therefore, surplus power with distribution companies is bound to grow and substantial thermal capacity will be backed down in the near future.

Already, several recently commissioned plants are being backed down across states. In fact, distribution companies in Gujarat and Maharashtra have even projected backing down of power plants that are yet to be commissioned in the coming years. It is safe to say that many of the recently contracted plants are being built only to be backed down.

Unless urgent attention is given to the management of surplus power, it will join the ranks of excessive transmission and distribution losses and excessive cross subsidies as one of the intractable, long standing problems before the electricity distribution sector in India.

In the next article we will look at the reasons for the rapid transition from shortages to surplus and discuss ways to prevent the build-up of future surplus.

This article is based on The Price of Plenty: Insights from ‘surplus’ power in Indian States, a recently published report by Prayas (Energy Group). The authors are researchers with Prayas.