Reneging on contracts

Discoms renegotiating PPAs is a worrying trend

The central government has set ambitious targets for renewable energy generation in India. It has said that by 2022 India will have 175 GW of renewable energy installed, and that by 2030, 40 per cent of power will come from non-fossil fuel sources. The constantly falling unit price of renewable energy – partly as a consequence of technological innovation – has led to considerable investment in the sector, and an expansion of purchase of power from renewable energy sources by distribution companies (or discoms). However, there is a darker side to the price fall as well. Some discoms are attempting to get out of existing power purchase agreements. This is a worrying trend with severe implications for the health of the sector, of banks, and even for the rule of law, and so it must be speedily checked.

Prices for power from wind energy projects discovered through open bidding fell earlier this year to below Rs 3.50 a unit, and from solar energy projects to below Rs 2.50 a unit. In the months since these fresh lows were hit, discoms in states as far apart as Gujarat, Jharkhand, Tamil Nadu, Karnataka and Uttar Pradesh have sought to renegotiate power purchase agreements (PPAs) for a better deal. Some of these PPAs were already in effect, others were about to be signed, but the price had already been discovered. The discoms argue in their defence that they are under pressure to achieve financial sustainability. When PPAs have already been decided at a per-unit cost that is several times these new prices, that means that there is scope for renegotiation, they argue. In some cases, this logic has been extended also to PPAs for new thermal power plants – by Uttar Pradesh, for example.

But the discoms’ argument does not stand up to scrutiny in most cases. Capital costs are falling rapidly in the renewable space in particular. If the winning bidder for a PPA had bought, or contracted to buy, photovoltaic modules at a particular price, and then the price fell later, they cannot be subsequently penalised. Indeed, even if in some cases the modules have not yet been bought and the winning bidder is likely to make a windfall gain from the falling price, which is an inherent part of the contract. If contracts are not to be cancelled or renegotiated when the price of inputs increases – as when coal becomes more expensive, for example – why should that happen when input or capital prices fall?

The Indian Banks Association has reportedly written a note to the finance ministry arguing that rampant renegotiation has the power to turn some of these projects, which have already been financially closed, unviable. This will add to the burden of non-performing assets in the sector, loans to which are already prominent among banks’ stressed assets. A culture of renegotiation will also impair the ability to drum up more investment for renewables, and thus hamper India’s ability to achieve the targets it has set for itself. And, finally, renegotiation of bids once an auction has been concluded undermines the entire process. It means that future bids in other auctions will be tainted, and fail to discover an efficient price. The central government must swiftly step in to see these renegotiations go no further.