Chronicle of a crisis foretold

Delhi Chief Minister Sheila Dikshit, it appears, has tried to fob off a tariff hike for electricity for quite some time now, and is very upset with the two distribution companies (though the real ire is reserved for the Anil Ambani-owned BSES) for not doing a good enough job to provide the capital’s citizens with better quality (and lower cost?) power, so much so that she’s written a letter to Ambani asking him to get his act together.

While that’s just the kind of thing you expect any caring politician to do, Dikshit may as well have written the letters to herself. For, it was evident that things would come to such a pass even three years ago when she privatised the erstwhile Delhi Vidyut Board (DVB).

Indeed, what is not so well-publicised, or at least remembered, is that the consultant hired by the Delhi government to do the privatisation exercise had envisaged something much worse.

The restructuring plan of the government, the Delhi regulator (DERC) tells us while delivering last year’s tariff order (this year’s order, though delivered on Friday is not going to be available till Monday!) envisaged a tariff hike of 10 per cent each year for the first three years, a 5 per cent hike in the fourth year and 3 per cent in the fifth.

That is, by now (Year 4) tariffs would have risen by 40 per cent. The actual hikes, on the other hand, are just around 11 per cent. In fact, in order to keep the tariffs hikes low, the Delhi government provided Rs 3,450 crore of taxpayers’ money to give BSES and North Delhi Power Ltd (the two companies which bought over DVB’s assets) power at a subsidised rate. Naturally, when this money ran out, the tariffs had to be raised.

There’s also been a little bit of a fudge here. Last year, to keep the tariff hike low, the Delhi regulator disallowed a certain amount of expenditure — that is, BSES and NDPL incurred this expenditure, but he didn’t allow them to build it into their tariff and it was carried over to this year. This has now been taken into account this year in the current hike!

Part of the problem, of course, is that while painting a rosy picture of the post-DVB world, the consultants got the figure for the investments that would be required to fix the system hopelessly wrong — once again, we have the DERC’s tariff order to thank for bringing this out so clearly.

In the case of BSES Rajdhani Power Limited (BRPL), one of the two BSES companies that supplies power to south-west Delhi, the consultants envisaged an investment of Rs 352 crore in the first five years — it was Rs 357 crore for BYPL (BSES for central and east Delhi) and Rs 310 crore for NDPL, the Tata firm which supplies power in north and north-west Delhi. BRPL alone has invested Rs 650 crore already and plans to invest Rs 1,400 crore more this year!

Why this matters so much is that consumers have to pay for it through higher tariffs. Roughly 12 per cent or so of the total amount has to be given to the company each year (3.75 per cent depreciation and another 8-9 per cent for interest on borrowings).

Every Rs 100 crore of investment extra thus requires the company to be paid Rs 12 crore — given that BRPL, for instance, will sell 545 crore units of power this year, that means customers have to pay 2.2 paise extra per unit of power or a figure of 0.5 per cent of their current tariffs. Since, in the case of BRPL, the total non-envisaged investment will be around Rs 1,700 crore by the end of this year (though it is true that all of it will not be factored into the tariff this year), that’s a pretty hefty increase.

The biggest problem, of course, remains that of the very high theft levels that hike costs dramatically. BRPL, for instance, will buy power at Rs 2.21 per unit this year but will sell it at Rs 4.35 while BYPL will buy at Rs 1.77 but sell at Rs 4.32. Similar orders of magnitude hold for NDPL. While that sounds like extortion, it is not.

The best way to see this is to assume CPM leader Prakash Karat owned BSES (it would no longer be an “extortionist” then!) and it bought 100 units of power at one rupee each — BSES would also sell the power for Rs 100 assuming no other costs.

But, if half the power is stolen as it was in the erstwhile DVB, Karat will have just 50 units to recover his Rs 100 of cost from and will have no choice but to sell each unit for Rs 2. Let’s say the theft is just 25 per cent, then Karat will have to sell his power for Rs 1.33 each.

To root the example in reality, BRPL will buy the power at Rs 2.21 this year from the government-owned Transco — assuming it has an average loss of 38.65 per cent for the year (the average of 2004-05 and 2005-06), it will need to charge Rs 3.6 per unit just to break even on the cost of purchase of the power.

This, in fact, is the biggest problem with the deal signed by Dikshit’s government in 2002 since, even five years after privatisation, the BSES twins and NDPL will still have losses of around 33-34 per cent — so, customers will end up paying 50 per cent more than what power costs even in 2007-08.

To put this in perspective, Mumbai has a loss level of around 11 per cent, Ahmedabad is around 14 per cent, Surat 15 per cent and the NDMC area in Delhi is around 16 per cent.

While both BSES/NDPL and the government of Delhi argue that the loss reduction agreed to in 2002 was the best they could have got since it was got by bidding and no company bid higher than this, this is contested by Gajendra Haldea, chief advisor on infrastructure at the National Council of Applied Economic Research (NCAER).

Haldea had argued then that when there were just two players left in the bidding process, the Delhi government changed the rules of the game — an additional loan of Rs 850 crore was provided to lower power supply costs, the minimum performance requirements were lowered by Rs 1,000 crore, among others — and had these been offered to everyone, there would have been better bids.

What of the other 80 paise or so that companies like BRPL get per unit of power (that is the sale price of Rs 4.35 approved of by the DERC minus the zero-loss Rs 3.6 just arrived at)? This is given to the companies by the DERC for salaries and other expenses including assured profits at a 16 per cent rate, not just on the equity but also on “free reserves”.

According to Haldea, this ensures the firms will earn 59 per cent on their capital base and this could go up to 181 per cent in case they are able to lower losses to the level of, say, NDMC! (To understand how this works, in 2002-03, NDPL had equity of Rs 368 crore but free reserves of another Rs 50 crore; in the next year, the equity has remained the same till date but the “free reserves” has gone up to Rs 224 crore.)

What makes the deal even sweeter is the incentives given for loss reduction. After a certain level of reduction (the 17 per cent or so reduction that the firms have agreed to over 5 years plus a few percentage points more), the firms get to keep half the gains from the reduction (this works out to roughly Rs 30 crore for every one per cent reduction in ATC losses).

While that’s meant to incentivise them to lower losses, the equipment installed to lower losses (more meters, transformers and so on) is in any case paid for by consumers as part of the tariff!

None of this is to say the companies aren’t working hard — BSES has even had employees stoned while trying to recover dues and the complaints about its meters running fast have been set aside by the Central Power Research Institute, which has tested them for complaints — but the fact is they have been guaranteed a great deal.

All this, of course, is in the past in the sense there is little that can be done about the original contract. What is now needed is to ensure competition is increased in the sector (BSES, for instance, has applied for a license to supply power in the NDMC area, so there’s no reason others shouldn’t get into the BSES/NDPL area). And to ensure the 16 per cent return on equity and free reserves is brought down in line with whatever the new tariff policy rules for the rest of the country.