Parallel licencing in electricity distribution in Mumbai: Muddle or model?

Network industries, including electricity, natural gas, rail transportation and telecommunications, consist of potentially competitive activities, such as electricity generation, with naturally monopolistic ones, such as transmission and distribution of electricity. This combination produces a unique set of challenges to competition law and policy in designing a market structure and regulatory framework which maximise the benefits of liberalisation while effectively controlling any tendencies to monopolistic abuse. Mumbai, India where parallel licencing in electricity retail was introduced unintentionally illustrates this challenge.

Parallel Licencing

The Electricity Act 2003 (EA 2003) provides for opening up electricity distribution to the private sector. Section 14 of EA 2003 which allows parallel licencing states that “the appropriate commission may grant a licence to two or more persons for distribution of electricity through their own distribution system within the same area, subject to the conditions that the applicant for grant of licence. The grant of the licence within the same area, subject to the conditions that the applicant for grant of licence within the same area shall, without prejudice to the other conditions or requirements under this Act, comply with the additional requirements (including the capital adequacy, credit-worthiness, or code of conduct) as may be prescribed by the Central Government, and no such applicant who complies with all the requirements for grant of licence, shall be refused grant of licence on the ground that there already exists a licensee in the same area for the same purpose”.

Parallel licensing in Mumbai was initiated not through policy or a careful reading of Section 14 of EA 2003, but through litigation over power purchase agreements (PPAs) between existing players when EA 2003 was enacted. Analysis of the outcome may be seen both as a muddle or a model for delicencing electricity retail across India in the future.

Muddle

The “muddle” lens of the electricity delicencing experiment in Mumbai exposes sub-optimal outcomes for customers and complex challenges for regulators, who need to balance the interests of the licensees and those of the consumers, and also for the judiciary that has to interpret Section 14 and related provisions of EA 2003. Despite multiple regulatory and judicial interventions since 2008, expected outcome of competitive tariff for consumers has not materialised. In addition, issues of cherry picking of consumers by one distribution licensee (DL) in the area served by the other, disputes over duplication of distribution networks, cherry picking of consumers, use of networks owned by one licensee by the other, and over cross subsidies over use of the distribution network, power purchase agreements (PPAs) continue to persist along with other challenges.

Since the introduction of parallel licencing in 2008, Tata Power Corporation—Distribution (TPCD) and Reliance Infrastructure Distribution (erstwhile Bombay Suburban Electric Supply Limited or BSES, later acquired by Reliance Infrastructure limited [Rinfra] which was taken over by Adani Electricity Mumbai Limited [AEML] in 2017), the Brihanmumbai Electric Supply & Transport [BEST] and Maharashtra State Electricity Distribution Corporation Limited [MSEDCL] have indulged in legal conflict over the interpretation of provisions in section 14 of EA 2003.

In 2008, the Supreme Court held that TPCD, that was a bulk supplier of electricity in Mumbai and was entitled to supply electricity in retail, directly to all consumers within its area of supply, as stipulated in its licences following provisions of EA 2003. Subsequently, the Maharashtra Electricity Regulatory Commission (MERC) confirmed TPCD as a DL for the entire city of Mumbai, covering the licence areas of both BEST and Rinfra. TPCD’s distribution licence was valid up to August 2014. In 2014, TPCD secured a licence to distribute electricity in the entire Mumbai district, part of the Mumbai suburban district and the entire municipal corporation area(legally contested). The distribution licence (DL) was granted for a period of 25 years effective from August 2014 till August 2039. The DL covered an area overlapping the entire licensed area of Rinfra, BEST and MSEDCL.

As TPCD had access to low-cost power, it was able to offer lower tariffs to consumers in areas where it was a parallel licensee.

Historically, TPCD was a power generator and bulk supplier of power in Mumbai.  One of the bulk power purchasers with whom TPCD had signed PPAs was Rinfra. This relationship created unique challenges when TPCD entered distribution.  As TPCD had access to low-cost power, it was able to offer lower tariffs to consumers in areas where it was a parallel licensee. This facilitated bulk consumers and eventually also domestic consumers to switch suppliers from Rinfra to TPCD. This was an intended outcome. However, TPCD had no incentive to supply power to Rinfra at competitive rates. This imposed additional costs on Rinfra in securing PPAs with alternative suppliers. For its part, Rinfra could impose wheeling charges on TPCD for transporting electricity on behalf of TPCD on its distribution network. These issues were part of the legal conflict between the players in the arena. The prospect of TPCD building its own distribution network, thus duplicating the existing network controlled by Rinfra was another contested issue. The result was a patchwork of temporary solutions imposed by the regulatory and other institutions such as cost plus mechanism for tariff determination. The cost-plus mechanism allowed parallel distributers in Mumbai to source expensive power purchased through short-term power markets and pass on the costs to the consumer. Customer interest was compromised as the cost of power procured through short-term markets was typically higher than that of power purchased through long-term PPAs. Customers also had to bear the risk of uncertainty in tariffs when a large share of the power supplied was procured through short-term markets. Structural barriers such as limitation in transmission capacity limited low-cost power procurement from outside the Mumbai area through competitive bidding. This meant a higher average tariff for consumers. When regulated tariff did not permit full cost recovery, DLs transformed unrecovered costs into regulatory assets, essentially costs recoverable from customers in the future through regulated tariffs. This was not an intended outcome of competition in retail electricity. Seen through the “muddle” lens, parallel licensing in Mumbai highlights inequitable outcomes for consumers reflected in high and uncertain tariffs and sub-optimal consequences of regulatory inadequacy reflected in incessant litigation. This is not an outcome that one would expect in Mumbai which exhibits high household density (number of consumers per unit area), a distribution network that is mostly underground that reduces losses, few agricultural consumers and higher household incomes compared to most of the rest of India all of which contribute to lower distribution losses and greater tolerance for higher electricity tariff. And yet parallel licencing has not been a great success.

Structural barriers such as limitation in transmission capacity limited low-cost power procurement from outside the Mumbai area through competitive bidding.

Model

The “model” lens highlights the introduction of private players in electricity distribution and the consequent improvement in the financial and technical efficiency of their operations. Even small improvements in the economic and technical efficiency of operations of private licensees’ stands in contrast to the persistent underperformance of state-run distribution companies (discoms) that are forced to carry social burdens (sustaining employment and subsidies). The annual integrated rating and ranking of power sector utilities by power finance corporation (PFC) rates distribution companies on parameters based on (i) financial sustainability (average cost of supply[ACS]-annual revenue realised [ARR], days receivable, days payable to gencos and transcos, adjusted quick ratio, debt service coverage ratio, leverage [debt/earnings before interest, tax and amortization]) (ii) performance (distribution loss, billing efficiency, collection efficiency, corporate governance and (iii) external environment (subsidy realised, loss taken over by state government, government dues, tariff cycle timelines and auto pass-through of fuel costs). In the 12^th annual rating and ranking of distribution companies for 2023, six out of the top ten ranks go to private companies and the top rank and rating goes to one of the parallel licensees in Mumbai, Adani Energy Mumbai Limited (AEML). AEML serves 7 divisions of Mumbai city and serves over 3 million retail customers. It has no agricultural consumers and over 14 percent of its customers are from the commercial & industrial segments. AEML had a billing efficiency of 93.7 percent and collection efficiency of 99.8 percent. Its days receivable was 17 and days payable was 38. The aggregate technical and commercial losses (AT&C) in the areas served by AEML fell from 11 percent to about 6 percent over 5 years. AEML also claims that it has increased the share of renewables from 3 percent to over 30 percent with 50,000 green tariff customers. In 2023, applications of Adani Electricity Navi Mumbai (AENML) and Torrent Power Ltd (TPL) were pending before MERC for parallel licences in the jurisdiction of the MSEDCL illustrating the attractiveness of the business for private players.

Takeaways

Since the implementation of parallel licencing in Mumbai, structural issues that contributed to the “muddle” have improved substantially.  There are a number of options for retail distributers to source power as constraints in transmission have been resolved. This has eliminated the need for cost-plus regulation of tariff. Overall tariff and uncertainty over tariff have reduced for domestic retail consumers. Consumer experience with billing and exercise of choice has also improved substantially with introduction of new technology. Separation of carriage (wires) and content (electricity) is yet to materialise physically but it is functioning in practice with the use of distribution network common to all the DLs who pay wheeling charges. The two private parallel licensees TPCD and AEML have no regulatory assets as of 2022, and their financial sustainability is among the best in the country.  However, this does not mean that the parallel licencing muddle is now a model for the rest of the country.  Unique features of Mumbai city that include high density with no agricultural consumers, greater incomes that can accommodate higher tariff and a long history of private sector presence in generation and distribution that are critical to accommodating parallel licencing cannot be replicated across the country. In many states agricultural or subsidised consumption of electricity is dominant and incumbent distribution companies are saddled with high levels of debt. The Mumbai model demonstrates the tendency of DLs to “vertically integrate” with their own sister concerns that generate power. This has the potential to limit the benefits of competition in retail particularly in the context of reducing tariff. The fact that there is no fully evolved wholesale market for power procurement along with the fact that there is no market for fuels (coal, natural gas, hydro, nuclear, renewables) has limited reduction in tariff, one of the key benefits of competition.

Unique features of Mumbai city that include high density with no agricultural consumers, greater incomes that can accommodate higher tariff and a long history of private sector presence in generation and distribution that are critical to accommodating parallel licencing cannot be replicated across the country.

Regulation is necessary because in most cities or states in India, no more than two or three DLs are likely to compete. This would be oligopolistic competition with limited benefits. The complexities in sourcing power in the early stages of introducing parallel licencing in Mumbai clearly highlights that wholesale competition must be in place before retail competition is introduced across the nation. In the case of Mumbai, retail competitor Rinfra was dependent upon its retail rival TPCD for its electricity supply. This created a price squeeze situation. Judiciary and regulatory interventions were inadequate in addressing price squeeze.  Competition continues to be limited to a struggle for customers between privately owned and publicly-owned DLs in Mumbai. The arena for competition should be expanded, as the wireless telecommunications industry illustrates, to offer benefits to consumers not obtainable from regulation alone. Studies have shown that the only successful regulation of electric utilities has been to introduce competition and competitive interaction that eliminates the need for regulation. In mature electricity markets, distribution utilities exposed to true competition have lowered prices and gained sales. More crucially, their finances have met the regulatory test of attracting capital for expansion. In a number of cases, rates of return have risen and exceeded those of comparable companies not under competition. The key lesson from the Mumbai muddle is for legislators, regulators, and courts to recognize that regulation is not a substitute for competition, but rather is an adjunct to competition.

Source: Central Electricity Authority

Lydia Powell is a Distinguished Fellow at the Observer Research Foundation.

Akhilesh Sati is a Program Manager at the Observer Research Foundation.

Vinod Kumar Tomar is a Assistant Manager at the Observer Research Foundation.

• Energy
• India
• competition law
• discoms
• DLs
• Electricity
• Financial efficiency
• Mumbai
• Network industries
• Parallel licensing
• PPAs
• Private players
• regulatory framework
• Sustainability
• Telecommunications

The views expressed above belong to the author(s). ORF research and analyses now available on Telegram! Click here to access our curated content — blogs, longforms and interviews.

PREV NEXT