Bidding Slowdown/ Need to reconsider the competitive bidding guidelines/ Pradeep Lenka CEO, -Power bBusiness, Aditya Birla

Group Arvind Mahajan Partner KPMG Kameswara Rao Executive Director Energy, Utilities, and Mining PricewaterhouseCoopers Kuljeet Singh Partner & Head (Infra), - Transaction Advisory Services, Infrastructure, Industrial & Consumer Ernst & Young Competitive bidding in generation is an essential element for the Indian power generation sector segment as it is the most transparent and objective way for of buying and selling of power. Lately, changes in taxation and changes in terms of trade in global energy markets as well as fuel scarcity in the domestic market have affected the competitive bidding scenario in the country. While no bids were awarded in the last year, the developers of some of the previously bid projects are have demandeding tariff re-negotiations. Power Line invited sector experts in the sector to voice their opinion on the declining pace of competitive bidding in generation in the country Has competitive bidding in generation lost its relevance Do you think that competitive bidding in

generation has lost its relevance, with in the context of the ongoing fuel scarcity crisis as well asand the need for tariff re-negotiations in several previously competitively bid projects? Pradeep Lenka: The Electricity Act, 2003 mandated competitive bidding with the twin objective of ensuring fair competition and transparency in procurement of power procurement. It also aims at bBesides providing low cost and reliable power to consumers, it aims at encouraginging private sector participation, and ensuringing optimal allocation of natural resources. In order to comment on the relevance of competitive bidding,s relevance we need to assess itsthe achievements of competitive bidding.. For instance, we can evaluate the performance of the four ultra mega power projects (UMPPs) that have been awarded by the route so far. If the concerns on related to fuel, land, statutory and regulatory issues and re-negotiations of power purchase agreements (PPAs) are not initiatedaddressed, bidding will would completely lose its relevance. Further, not many states are inviting case I and case II bids are now too limited. No such bids were awarded in 2011-12. Now, Iindependent power producers (IPP) with coal linkages will now have to sign twenty 20-year PPAs with discoms distribution companies (discoms) in order to enter into fuel supply agreements (FSAs) with Coal India Limited (CIL) to avail of coal linkages. With restrictions in fuel supply, aggressive competitive bidding and the ability to sell power at merchant prices is obliterated. It is unlikely that the merchant power market will have any growth, which may have an even adversely affect on power trading. To a large extent, project development through competitive bidding route has failed in the country.

Regarding With respect to fuel availability, allocation, distribution and pricing, what comes as a dampener is the inability CILs inability to honour executed FSAs and the letters of intent (LOIs). The gas supplies are no better. A government company like CIL is ideologically committed to purpose and intent, as well as honouring contracts and commitments, but it has failed to do so. CILs balance sheet is a reflection of financial good going has posted healthy financials even though the when the sector is in distress. Ironically, the central government permits e-auction of coal is permitted while merchant sale of power is prohibited. This sends out a confusing signal message to the developers. A new set of standard bid documents (SBDs) for case II bids are now open forto stakeholder comments and suggestions of stakeholders. The matrix of riskreward after Post the latest amendments amendments to the risk-reward matrix have madekes the SBD an agreement inequitablebetween un-equals. SBD attempts to penalise and rein in developers ability to quote better tariffs while arbitrarily passing all exposing them to all the risk. to the developers. Today, the biggest risk is the government policy environment and changing ideology are the major threats faced by developers. Earlier, SBDs had the provisions for renegotiatingon on specific clauses. The modified SBDs does not have any such provision for renegotiation. It may be recalled that during 1997-2005, several the many state electricity boards like those of Maharashtra, Gujarat, Andhra Pradesh and Tamil Nadu had renegotiated their PPAs during 1997-2005. In order to resolve the issues related to UMPP imported coal for UMPPs issue, fforeign exchange issue, domestic coal price srise, delay in clearances, issues there is a need to renegotiate PPAs. For example, country

specific negative custom duty can be fixed to solve the Indonesian coal indexation issue. Alternatively, Another option would be to eliminate the renewable cess of Rs 50 per tonne of imported coal be eliminated for imports. For instance, Recalling one of the competitively bid 1,320 MW projects for a 1,320 MW project which was won with very low margins. was an achievement. The euphoria was over in a fortnight after CIL announced a first ever 10 per cent increase in basic prices of coal, while bid was submitted with the caution oftaking in to consideration CILs historical compound annual growth rateCAGR of of CIL for the last ten years was at 3 per cent for 10 years. What should a bidder do in these circumstances?In order to avoid such a scenario, The coal companies could evolve a multiyear pricing mechanism. In future bids, Tdevelopershe competition will are likely to shift focus on from race for capacity to sustainable tariff in future bidss rather than capacity. No more dThey evelopers will would compete on not on the basis of the projects merit but on perceived risks and rewards. Going forward, the The tariff range will be high and wide now onwards. Till now, If if a developer quoted a tariff quote is remunerative to bidder, the procurer either showsed you him the door or the bid iwass cancelled with controversy. The new draft SBD has some basic issues as they are not addressing the risk areas. The Ministry of Power must address the PPA-related areas issues related to such as PPA term, tenure, introduce provision for renegotiation for specifics (sovereign risks), elaborate change in law for policy changes, address currency issue, issue of protracted delays for grant of approvals etc. The governance issues include

frequent policy changes, new tax laws and interventions, fuel allocation, distribution, pricing areas etc. The ministry must consider making few clauses equitable, for example, why a discom should should not be penalised or offered for privatisation for repeated defaults?. Why a discom should It should not be barred from procuring capacity when if it defaults in payment obligation in past for 5 years, when such counter clauses are applicable to developer? . A proactive government can rekindle the dying interest of developers in power sector. Arvind Mahajan: To answer this question we need to understand the objective of competitive bidding for procuring power in the first place and whether it has benefitted the sector. Tariff Tariff-based competitive bidding was with view introduced to ensurineg that power tariffs are kept as low as possible through a competitive process to avoid Enron-type cost plus scenarios, where high tariffs discovered encouraged utilities to load shed rather than procure power. What was However, positive from the bidding process was that competition helped discover tariffs which that were much lower than through those discovered through the memorandum of understanding (MOoU) process, especially in the first few years. However,In order to win bids private players to win bids, which were only possible if they proposed the lowest tariff, were encouraged to take greater risk in-house rather than transfer risk to others. For instance, How did they do this? Firstly, the fuel risk on imported coal was not fully indexed while bidding but mitigated by acquisition of coal mining business or stakes in overseas coal mines and back back-to to-back long long-term contracts. However, tThis required power generation companies to build new capabilities (mining, shipping and

logistics, etc) as well asand thus exposeded these companies to different types of risks (country, supply chain, mine development, etc), which they had no experience in managing. Similarly, Secondly, ppower equipment costs and lead times were reduced by sourcing equipment from Chinese original equipment manufacturers (OEM). Again, bidders were required to build new capabilities were required to be built by bidders from like sourcing, vendor management,, which exposed them to etc perspective as well as mitigating risks associated with equipment that Indian engineers were not familiar with did not have experience in, especially since it was untested with Indian coal., which has different specification from Chinese. ThirdlyFurther, to reduce costs, in many cases Indian power companies didnt did not appoint an engineering, procurement and construction (EPC) contractor (to transfer project management risk), but appointed separate vendors for multiple split contracts and chose to do the integration themselves. However, the experience of the last few years has shown that some of these risks the bidders have not been able to manage well i.e. they underpriced them in their bid and are now hurting with low priced PPA which they cannot execute profitably.

However, the last few years have shown that the bidders have not been able to manage some of these risks well. In other cases, the domestic coal sectors failure to meet its obligations as well as changes in regulatory regimes of coal exporting countries could not have been anticipated. As a result, the developers underestimated these risks in their bid and are now stuck with low priced PPAs that they cannot execute profitably.

So This does that not mean imply that the governments policy of competitive bidding policy was wrong should be discontinued.? The answer according to me is no. Tariff -based competitive bidding has helped fuel innovation in the power sector, and forced made companies to look at new ways to reduce costs with a view and to keeping tariffs as low as feasible so as to win bids. Because Due to of this many of the power producers have now built capabilitiesy for sourcing imported coal and understand that the business better. Similarly, Indian companies now have significant experience in sourcing power equipment from China and in some cases also access to cheaper RRenminbi financing from Chinese Banks. They are learning to cope with project management risks. Unfortunately, the learning curve has been very steep for them as they have moved from no or limited experience in developing and operating coal-based power generation plants to multiple projects of significant scale and complexity. and the need to build capability on multiple fronts. It They are is still at an early stage in their learning curve but they now have a clearer view on which risks to price consider inin future competitive bidsding. This is reflected in the results of recent bids,ding where the price discovered has been on the way upy has risen. Having said that, there is has been a visible slowdown in the bidding by state governments as a result of which developers are now in a spot with regard to tying up, as to where to tie up the power. Clearly, the bidding regime needs some modifications to address some of the challenges faced by both distribution utilities as well as developers. These modifications include the following:

Better indexation of fuel. Although bidders can quote a base rate and depend on the Central

Electricity Regulatory Commission (CERC) notified escalation components, the CERC index itself is not can be made more robust enough and as it currently only takes into account only select fuel sourcing options Protecting bBidders need to be protected from changes in regulations in resource exporting countries.. A case in point is the is issue of changes in the regulatory changes ions in the pricing of Indonesian coal. The bidders ability to manage these risks is limited. Give more flexibility and eEmpoweringment to state utilities to modify the standard documents SBD as well as the standard bid structure without regulatory approval as long as the principles guidelines of competitive bidding are followed. Bring in greater predictability in the bid process by a penalty mechanism on utilities for unreasonable delays in the bid process. Lastly, cCompetitive bidding should be accompanied by alternate forms of procurement. MoU MoU-based negotiated contracts should be allowed as long as there is a market price benchmark.

To conclude, we need to use the learning from the last few years to modify the competitive bidding process and provide flexibility to utilities to use alternative forms of procurement as well. Kameswara Rao: Competitive bidding remains as relevant ever,, but is experiencing a critical evolutionary step. but it is still evolving. This Its evolution has become inevitable as global energy markets are witnessing major changes from different directions such as viz., changes in taxation and changes in terms of trade, climate change, and resource nationalism. This These changes are has reflected in higher taxes, carbon levy, transfer pricing provisions, ownership limits, and so on. These are not predictable events, and when they

happen are very contagious meaning that it is impossible for investors to hedge risks by if they have geographically diversifiedying asset ownerships. The only choice iIn such situations cases, is for downstream sectors need to adapt, and for governments need to reassess their energy policies. In addition to these global unforeseen global trends, power plant developers are now pricing in local risks that they under-estimated earlier such as viz., of project development, and land acquisition costs, as well as availability of primary fuels and logistics congestion and so on. A third issue is the lack of clarity and uncertainty from on discoms part. This is a significant problem, and in several states, case 1I bids were conducted but not signed on. A more disciplined approach is neededrequired. Regulators should require mandate utilities to prepare and publish prospective power procurements plans so that state-owned and private generators and as well as suppliers can undertake advance preparations, which will would improve ensure timely completion of deliverability of projects and gain from cost savings too. The current approach is not properly planned and hence, tends to fail or run into renegotiations. Kuljeet Singh: Competitive bidding is extremely important crucial tofor the Indian power sector as it is the most transparent and objective way for both state electricity boards (SEB) and developers to buy and sell power to each other. While competitive bidding results in low tariffs for the buyer SEBs, for developers for the seller developers thereit is provides greater clarity on with respect to the rights and responsibilities of the developer and the SEBboth the parties. In the pPost the 2G controversy era, competitive bidding also protects the buyers and

sellers from post post-bid regulatory and judicial scrutiny. In the Indian context however, competitive bidding has begun to faces its own several challenges. One major issue is that Firstly, ccompetitive bidding is, at times being, structured in a manner so as to reduce its transparency and objectiveness. This is being undertaken done primarily by setting some prequalification criteria that are so specific and unusual that they can be met only by a few select developers. Further, there is at times a tendency of the bid process agency tends to either cancel the bid process post opening of financial results or of indefinitely delaysing the award of LOI or signing of PPAs at the end of the bid process indefinitely. Moreover, Secondly, ttill date, most regulatory commissions have not asked the SEBs to come out with midterm (say for five years) power procurement plans. whereby a target is set for power procurement during each year of such midterm plan. If such midterm plans were prepared and enforced for all SEB'ss in India, there would be considerable clarity for the developers on how much with regard to the amount of capacity that will would be tendered. each year. Thirdly,Besides, there is a tendency for the government tends to become intervene involved in the power procurement process by trying to go around the dispute resolution mechanism that may have been prescribed in the bid documents. Disputes in contracts are normal; however, what is not normal is for such disputes to be addressed through extracontractual measures such as formation of special government committees etc. This violates the basic sanctity of a contract and needs to be avoided.

FourthlyFurther, there is now a recently, trend to various developers have resorted to demanding a renegotiation of tariffs by various developers post their winning the award of the projects. This vitiates the entire competitive process and needs to be dealt with by applying the appropriate provisions in the PPAs. It has been observed in several power projects (same trend observed in and in other infrastructure sector such as roads, and ports etc.), that bidders bid quote very low prices initially and, later, then are unable/unwilling to actually develop such power projects without the government agreeing, post award, to offer additional concessions, to them which were not there in the original bid documents, post award. This leads to a substantial delay in the supply of power capacity in future and also ends up wasting a lot of the time of the tendering agencies (a bid process may takes anywhere between about 6 six to 12 months to complete). It needs to be understood that a relatively high priced project (based on reasonable assumptions) that actually gets developed is far better than a relatively low priced project (based on questionable assumptions) that gets developed very late or never gets developedfails. Hence, to give the correct signal to the market, any changes in the bid documents in for competitive bidding need to be applied on a prospective basis. If the bidders are given get the impression that post post-bid changes are possible, then they will make every effort to try to extract the maximum concessions from the buyer by (over)stating their "losses" to their best ability and they will come up with the most compelling arguments (domestic fuel shortage, changes in foreign law etc. - all not due to most which are not the developers fault of the developer) to justify their claims. What needs to be appreciated is tThat every business has a risk

element (some foreseeable and some unforeseeable) attached to it and power business is no different, has to be taken into consideration. Competitive bidding is an extremely good development for the Indian power sector. But However, if the Indian power sector is looking intends to get the full benefits of competitive biddingthis mechanism, then it is important that the above issues are addressed in an expeditious manner.