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PRESS RELEASE

Insulate Utilities from State Interference to Help them Operate on Commercial Lines, says World Bank Study

February 26, 2015

Mohali, February 26, 2015: State governments in India need to give greater operational autonomy to their power utilities and regulators while holding them accountable for performance if the sector is to move to a higher level of service delivery, says a World Bank study.

More Power to India: The Challenge of Distribution, presented in Mohali today is a review of the Indian power sector across key areas of access, utility performance, and financial sustainability. The study, conducted at the request of the Government of India, recommends freeing state utilities and regulators from political interference, increasing accountability, and enhancing competition in the sector. It calls for a transition from administratively run to commercially run utilities.

The report notes that the landmark Electricity Act of 2003 put the spotlight on the need for improvements in the utilities’ operating environment – linking their corporate governance and the functioning of state regulators, to better sector performance.  However, despite the unbundling and corporatization of State Electricity Boards and the establishment of State Electricity Regulatory Commissions (SERCs) following the Act, a commercial operational culture has still not been achieved across a wide set of state utilities nor have the concomitant improvements in sector performance that were anticipated resulted.  

Lack of accountability, limited autonomy and constrained technical capacity have restricted the ability of the SERCs to create an independent, transparent and unbiased framework for the sector that balances consumer, investor, and utility interests. Electricity regulatory commissions exist in all states, but they face enormous challenges in regulating the state owned power utilities.      

At the same time, even corporatized state power utilities have generally struggled to achieve true autonomy from their state governments with the end result that they are run as administrative entities, lacking a service orientation and continuing to operate inefficiently, the study says.

More Power to India finds that operational and financial unbundling has still not been completed in many states, although this is necessary to clarify accountability in the sector. Experience shows that the stock exchange can be an effective monitoring and enforcement mechanism for sound governance of listed companies and a way of bringing about a commercial orientation.  In its absence, the study suggests that state power utilities be required to comply with the requirements for listing as a pre-condition for central or other support.  Among other aspects, this would ensure adequate representation of independent professionals as directors on their corporate boards, which is essential for their operations to be insulated from state interference.  The report points out that only 15 percent of 67 utilities studied (across India) have the Department of Public Enterprises (DPE) recommended share of independent directors, and several entirely lack independent directors. 

As of 2014, neither Punjab nor Himachal utilities had any independent directors on their boards; government directors were more than two in Punjab, Himachal and Haryana (consistent with the DPE guidelines). The report also suggests that utilities’ Articles of Association can be used to institutionalize an arms-length relationship between the board and the government and points to West Bengal as an example of a state where this has worked well.

More Power to India notes that regulatory initiative, including suo motu action, is essential to incentivize robust technical and financial performance of the sector. It underlines the need for clarifying and enhancing the accountability of regulators. It is also critical to increase key metrics of autonomy such as the share of regulators’ budgets that do not depend on the state and ensuring a minimum length of tenure for SERC chairman. The regulator needs enough professional staff and IT resources and greater transparency for improved public participation into the regulatory process. Data shows that regulators in Punjab and Haryana depend entirely on the state for their budget allocations, while Himachal Pradesh generates two-thirds of its budget from its own revenues.  Average chairman tenure in Haryana is less than three years while it is five for Punjab and Himachal.

The study reviewed SERC implementation of their mandates related to tariffs, protection of consumers, standards of performance, open access, renewable energy and regulations in selected areas. On an average, the states score 74 per cent on an index measuring implementation of regulatory mandates. Himachal is one of the higher ranked states on this index while Punjab and Haryana are below the average. The report caveats this finding saying that though most SERCs have notified the key regulations necessary to enact the Electricity Act 2003, many have yet to implement them fully.

“The crux of the matter is that distribution utilities are not run on commercial lines. Despite corporatization, their boards remain state-dominated and are rarely evaluated on performance. Regulators have not pushed them sufficiently to improve performance, in part because of limited regulatory accountability and also the difficulty of regulating a state-owned entity. And a history of state rescues has meant that lenders do not pressure distributors to improve their operational and financial performance, expecting to be paid back by the state,” said Sheoli Pargal, Economic Advisor, World Bank and author of the report.

While making an urgent call for change, the study recognizes the many impressive strides that the sector has made over the years. Generation capacity has tripled between 1991 and 2012, boosted by the substantial role played by the private sector. A state-of-the-art integrated transmission grid now serves the entire country. Private distribution utilities in Kolkata, Mumbai, Surat, and Ahmedabad, which have been owned and operated by the private sector since before Independence, point to potential gains from private participation. Grid-connected renewable capacity has risen from 18MW in 1990 to 25,856 MW in March 2013. And more than 28 million Indians have annually gained access to electricity between 2000 and 2010.

However, according to the study, the financial health of the sector is fragile, limiting its ability to invest in delivering better services. Total accumulated losses in the sector stood at Rs 2.88 trillion or 3% of GDP in 2013. Over the last two decades the sector has needed periodic rescues from the central government -- a bailout of Rs 350 billion in 2001 and a ‘restructuring package’ of Rs 1.9 trillion that was announced in 2012.

Several factors have contributed to the losses in the distribution sector, the report says. The cost to discoms of purchasing power has risen faster than revenues, primarily due to fuel shortages; rising interest expenses have contributed to rising costs; also, tariffs have not kept pace with costs. Projections show that even if tariffs rise 6 percent per year to keep up with the cost of supply, annual losses in 2017 will likely amount to Rs 1,253 billion (US$ 27 billion).

Mounting Subsidies: High Opportunity Cost, Weak Targeting

Utilities face pressure to provide below-cost power to agricultural and rural residential consumers for which they are reimbursed through subsidy payments by state governments. Since 2003, in fact, subsidies booked have grown by 17 percent per year, and subsidies received by 12 percent per year; the cumulative gap between them was Rs 450 billion for 2003–13. This has had a crippling effect on the already struggling financials of the utilities, the study says.

“State financial support, which has become essential to keep many utilities afloat, has a high opportunity cost. Our study estimates that 15,000 hospitals and 123,000 schools could have been developed in 2011 if the power sector had not pre-empted these funds. Our recommendation is that states should compensate their utilities transparently and upfront if they are required to provide free or below cost power to specific consumer categories,” said Sudeshna Ghosh Banerjee, Senior Economist and co-author of the report. 

As noted above, More Power to India recommends that the sector develop a commercial orientation -- once there are clear signals of political will to run the sector in a commercial manner, with transparent subsidies going to only those who are eligible for such support, then day-to-day operations should be turned over to professional managers whose pay is linked to the performance of the utility, the study suggests.

The study also highlights the need for better targeting of domestic subsidies. Lack of effective targeting of such subsidies has led to anomalies such as economically weaker sections of the population ending up paying more for consuming less power. In fact, in 2010 some 87 percent of the domestic electricity supplied India-wide was subsidized. Over half of subsidy payments (52 percent) India-wide went to the richest 40 percent of households in the country in 2010, the study adds.

Key recommendations:

·         Utilities must be freed from government interference and their management professionalized so they develop a commercial service orientation.

·         Banks/lenders should hold utilities accountable for efficient operation and apply collective pressure to not lend to those that are not credit-worthy.

·         Regulators should go beyond the technical review of tariff petitions and focus on maintaining the health and integrity of the operations of the sector.

·         Central government should pledge no future bailouts, give regulators autonomy and adequate resources, and hold them accountable for their performance. It should also allow competition to create pressure for efficient operation.

·         State governments should pay subsidies transparently, fully, and on time, when they mandate free power supply. They should insist on evidence that the subsidies are going only to intended recipients.

•       Utilities need to improve operational efficiency, e.g., by tracking the delivery of power from purchase to delivery; ensuring that revenues are collected; facilitating payment of bills through different channels; ensuring that customer service issues are addressed in a timely manner; undertaking operations and maintenance activities routinely, etc.  This is essential to ensuring their financial sustainability and that of the sector.



Media Contacts
In Delhi
Nandita Roy
Tel : 91-11-41479220
nroy@worldbank.org


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