The Supreme Court verdict disallowing Tata Power and Adani Power any relief on the loss of tariffs resulting from higher cost of imported coal will come as a big blow to both power producers. The serious financial implications for the two companies, apart, the court’s decision will create risks for several of the country’s banks. Indeed, the verdict raises several questions relating to the role and responsibility of regulators in interpreting and enforcing contracts – while contracts are, generally sacrosanct, when unforeseen events take place, it is the job of governments, regulators and even bankers to renegotiate them. The biggest and most pertinent issue is one of whether costly assets, built at a huge cost and created for the public good, can be allowed to go waste.
In setting aside the orders of APTEL (appellate tribunal) which had ruled the CERC (regulator) could, in fact, allow compensatory tariff, the apex court observed a Power Purchase Agreement (PPA) is sacrosanct. The Supreme Court believes there is no room, in this instance, for a force majeure clause to be invoked though APTEL was of the view it could be. Indeed, in its original ruling in 2013, CERC was also of the view that the force majeure clause did not apply. While doing so, however, in an enlightened decision, CERC chose to use its powers under section 79 (1) (b) of the Electricity Act, 2003—the power to regulate tariffs–to try and protect the assets which it argued was in the public interest.
It is unfortunate CERC’s judgement to award compensation was not heeded and that the case has been allowed to drag on for more than five years. The fact is that even if Tata Power is allowed a compensation of, say, 40 paise per unit for its Mundra unit, it would still be in a position to sell power at a tariff of about Rs 2.70 per unit. That is lower than the tariff of many other power plants in the country today, including those belonging to the state-owned NTPC; private sector tariffs for bids received in the last few years have been as high as Rs 5.4 for a 1300MW unit in Rajasthan and Rs 4.57 for a 2400MW unit in Andhra Pradesh.
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For those that argue Tata Power should have been more prudent while bidding, the company didn’t exactly throw caution to the winds. Its bid was based on a 45% escalable component with the remaining 55% being non-escalable. That’s because its research showed coal prices had risen by an average of just 2.5% annually in the previous 15 years and that no government in any country had intervened in coal pricing in 50 years. It is therefore, unfortunate that the Mundra project should not be allowed to run profitably. The project will clock annual losses to the tune of Rs 800-900 crore; the accumulated losses are in the region of Rs 3,600 crore. In fact, even after taking into account the compensation of 40 paise per unit, Tata Power’s tariff remains the lowest among all those who had originally bid for the Mundra plant. In all likelihood, Tata Power will not default on its loans but a lesser company would have put the exposures of lenders in jeopardy. At a time when the country needs infrastructure and banks are turning risk averse, saddled as they are with toxic assets, ruling by contract cannot always be the solution. Just as PPPs need resolution mechanisms and bad loans need to be restructured, other contracts too need to enforced with some flexibility. This is not to say one should not safeguard against moral hazards but to reinforce that ground realities must be recognized.