CERC Guidelines for Power Projects

By

Dilip Mallick 10EX-013

Satyabrata Dash 10EX-045
Sunil Prabhu 10EX-051

Under the guidance of

Prof Gireesh Tripathy

Institute of Management Technology

Ghaziabad 201001

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 ACKNOWLEDGMENT

We would like to express our profound gratitude to Prof Gireesh Tripathy for giving us this
opportunity to work on CERC guidelines for Power Project, which give us a chance to study one more
aspect of Power Projects. We would also like to express our deepest gratitude and appreciation
towards IMT authorities and IMT library for extending the resources necessary for the project.

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 EXECUTIVE SUMMARY

Power projects are capital intensive and have long gestation period, therefore adequate long term
financing is a critical factor. Massive investment is needed for new projects, expansions, undertaking
of reforms and restructuring, debt refinancing and short term working capital needs and to fulfill this
capital needs, the companies generally raise money from lending institutions. Project analysis for
these kind of projects involves a thorough analysis of the ability of the project to fulfill the desired
objectives.

This report studies the overall financing of project and the parameters and methodology followed for
examining the overall potential of the promoters and project in line with CERC guidelines. Project
Appraisal structure share common features but since every project is unique and requires tailoring of
particular circumstances and features of the project. The project is examined to see if it meets the
financial, economic and social criteria that must have been set for investment expenditure. Thus,
different parameters like requirement of permissions, agreement & clearances, capital outlay,
profitability, payback period, internal rate of return (IRR) and other project related analysis is done.
The study of the financial background of the promoters and the project tells us about the ability of the
promoter to handle the project efficiently. The formal approval requires the acceptance of funding
proposals and agreement on contract document, including tenders and other contracts requiring the
commitment of resources. The project feasibility is checked assuming the worst case scenarios to
analyze the debt repayment capability of the company in these conditions. Integrated Project Rating
helps in evaluating the exposure limit, interest rate, and collateral securities against the loan to
individual borrower

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 Contents
ACKNOWLEDGMENT.......................................................................................................................1

EXECUTIVE SUMMARY...................................................................................................................3

Introduction...........................................................................................................................................5

INDUSTRY PROFILE......................................................................................................................5

Introduction to the Power Sector in India..........................................................................................6

Power Situation:................................................................................................................................7

CERC OVERVIEW..............................................................................................................................7

Mandate.................................................................................................................................................8

Mission Statement.................................................................................................................................9

CERC Guidelines for determination of capital structure, computation of capital cost and tariff for
power generation and transmission projects........................................................................................10

Capital cost of the project................................................................................................................10

Renovation and modernization....................................................................................................11

Capital Structure..............................................................................................................................11

Computation of Tariff......................................................................................................................12

Annual Fixed Cost...........................................................................................................................12

Return on equity..........................................................................................................................12

Interest on loan capital.................................................................................................................12

Depreciation................................................................................................................................13

Interest on working capital..........................................................................................................13

Operating and maintenance expenses..........................................................................................14

Secondary fuel consumption expenses.........................................................................................14

Computation and Payment of Capacity Charge and Energy Charge for Thermal Generating Stations
.........................................................................................................................................................14

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 PROJECT APPRAISAL AT PFC IN OBLIGATION TO CERC GUIDELINES (A CASE STUDY
ANALYSIS)....................................................................................................................................16

Objectives:...................................................................................................................................16

Methodology:..............................................................................................................................16

Calculation of tariff:....................................................................................................................17

Energy Cost:................................................................................................................................17

GUIDING PRINCIPLE FOR PROJECT APPRAISAL AT PFC................................................17

PROJECT APPRAISAL PROCESS AT PFC..............................................................................19

INTEGRATED PROJECT RATING..........................................................................................20

Appraisal Methodology:..............................................................................................................20

Scoring........................................................................................................................................21

LIMITATIONS...........................................................................................................................26

Other guidelines...............................................................................................................................27

Regulations......................................................................................................................................27

Regulation by the generating company............................................................................................29

Regulation by transmission licensee................................................................................................29

Learnings.............................................................................................................................................30

References...........................................................................................................................................30

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Introduction

INDUSTRY PROFILE

Indian Power Sector Bullish economic growth story of any country depends on a robust power
generation & delivery model. A weak power infrastructure impedes the growth potential & thus pulls
back the growth initiative. The National Electricity Policy envisages “Power for all by 2012” and the
per capita availability of power to be increased to over 1000 units by that period, which indicates an
average consumption growth of about 13.81% every year. It is easy to make such a rosy projection for
the future, but very difficult to attain it, especially when the capacity addition targets of every five
year plan falls short of expectations. In this back drop, there comes the need for increased private
participation in the power sector & initiating policies by more and more private companies to be self
reliant on power front.

Introduction to the Power Sector in India

Electricity is one of the most vital infrastructure inputs for economic development of a country. The
demand of electricity in India is enormous and is growing steadily. The vast Indian electricity market,
today offers one of the highest growth opportunities for private developers.

Since independence, the Indian electricity sector has grown many folds in size and capacity. The
generating capacity has increased from a meagre 1,362 MW in 1947 to more than 148,265.4 MW by
2003, a gain of more than 110 times in capacity addition. India's per capita energy consumption is
projected to grow from 6.2 million Btu in 1980 to 18.2 million Btu in 2010 -- a rise of almost 300
percent. Although, India's energy consumption per unit of output is still rising, but it is expected to
level off and to decline in the future. India consumes two-thirds more energy per dollar of gross
domestic product (GDP) as the world average.

India consumes only about 18 percent of the energy per person as the world average. Nearly 64.4 per
cent of India's electricity is produced in thermal facilities using coal or petroleum products. 25 per
cent electricity is generated by hydroelectric facilities.

In its quest for increasing availability of electricity, the country has adopted a blend of thermal, hydro
and nuclear sources. Out of these, coal based thermal power plants and in some regions, hydro power
plants have been the mainstay of electricity generation. Of late, emphasis is also being laid on non-
conventional energy sources i.e. solar, wind and tidal. India is one of the main manufacturers and
users of energy. Globally, India is presently positioned as the eleventh largest manufacturer of energy,
representing roughly 2.4% of the overall energy output per annum. It is also the world’s sixth largest
energy user, comprising about 3.3% of the overall global energy expenditure per year. In spite of its

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extensive yearly energy output, Indian Power Sector is a regular importer of energy, because of the
huge disparity between oil production and utilization.

India’s power market is growing faster than most of the other countries. With an installed generation
capacity of 141.5 GW, generation of more than 600 billion kWh, and a transmission & distribution
network of more than 6.3 million circuit Kms, I emerged as the fifth largest power market in the
world compared to its previous position of eighth in the last decade.

Power Situation:

Despite significant growth in electricity generation over the years, the shortage of power continues to
exist primarily on account of growth in demand for power outstripping the growth in generation and
capacity additions in power generation. The following table shows the long-term projected energy
requirement across various regions in the country.

CERC OVERVIEW
The conceptualisation of an independent Regulatory Commission for the electricity sector dates back
to the early 1990s, when the National Development Council Committee on Power headed by Shri
Sharad Pawar, the then Chief Minister of Maharashtra, recommended in 1994 the constitution of
“independent professional Tariff Boards at the regional level for regulating the tariff policies of the
public and private utilities”. The Committee reiterated that “the Tariff Boards will be able to bring
along with them a high degree of professionalism in the matter of evolving electricity tariffs
appropriate to each region and each State”.

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The need for constitution of the Regulatory Commission was further reiterated in the Chief Minister’s
Conference held in 1996. The Common Minimum National Action Plan for Power evolved in the
Conference inter-alia “agreed that reforms and restructuring of the State Electricity Boards are urgent
and must be carried out in definite time frame; and identified creation of Regulatory Commissions as
a step in this direction”.

Thus was enacted the Electricity Regulatory Commissions (ERC) Act, 1998 paving the way for
creation of Regulatory Commissions at the Centre and in the states.

The 1998 Act was enacted with the objective of distancing the government from tariff regulation. The
Act provided for Electricity Regulatory Commissions at the Centre and in the states for rationalization
of electricity tariff, transparent policies regarding subsidies etc. Under the provisions of this Act, the
Central Government constituted the Central Electricity Regulatory Commission (CERC) in July,
1998. The ERC Act, 1998 has since been replaced by the Electricity Act, 2003. The CERC created
under the provisions of the ERC Act, 1998 has been recognized as the CERC under the Electricity
Act, 2003.

The Commission functions in a quasi-judicial manner. It has the powers of Civil Courts. It consists of
a Chairperson, three full-time Members and the Chairperson of the Central Electricity Authority
(CEA) as an Ex-officio Member. In recognition of the need for a multi-disciplinary approach while
addressing issues related to independent regulation, the Act prescribes that the Chairperson and
Members shall be persons having adequate knowledge and experience in engineering, law,
economics, commerce, finance or management. It also prescribes a broad mix of disciplines to be
represented in the Commission. The Chairperson and Members are appointed by the President of
India on the recommendation of a selection committee constituted by the Central Government as
prescribed under the Act. The Act also provides for the appointment of a Secretary of the Commission
whose powers and duties are defined by the Commission.

The Electricity Act, 2003 has significantly enlarged the spectrum of responsibility of CERC. Under
the ERC Act, 1998 only the tariff fixation powers were vested in CERC. The new law of 2003 has
entrusted on the CERC several other responsibilities in addition to the tariff fixation powers. For
instance, the powers to grant license for inter-state transmission, inter-state trading and consequently
to amend, suspend and revoke the license, the powers to regulate the licensees by setting performance
standards and ensuring their compliance, etc.

Mandate
As entrusted by the Electricity Act, 2003 the Commission has the responsibility to discharge the
following functions:-

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 i. To regulate the tariff of generating companies owned or controlled by the Central
Government;
ii. To regulate the tariff of generating companies other than those owned or controlled by the
Central Government specified in clause (a), if such generating companies enter into or
otherwise have a composite scheme for generation and sale of electricity in more than one
state;
iii. To regulate the inter-state transmission of electricity;
iv. To determine tariff for inter-state transmission of electricity;
v. To issue licenses to persons to function as a transmission licensee and electricity trader with
respect to their inter-state operations;
vi. To adjudicate upon disputes involving generating companies or transmission licensee in
regard to matters connected with clauses (a) to (d) above and to refer any dispute for
arbitration;
vii. To levy fees for the purposes of the Act;
viii. To specify Grid Code having regard to Grid Standards;
ix. To specify and enforce the standards with respect to quality, continuity and reliability of
service by licensees;
x. To fix the trading margin in the inter-state trading of electricity, if considered, necessary;
xi. To discharge such other functions as may be assigned under the Act.
xii. To advise the Central Government on:
a. Formulation of National Electricity Policy and Tariff Policy;
b. Promotion of competition, efficiency and economy in the activities of the electricity
industry
c. Promotion of investment in electricity industry;
d. Any other matter referred to the Central Commission by the Central Government.

Mission Statement
The Commission intends to promote competition, efficiency and economy in bulk power markets,
improve the quality of supply, promote investments and advise the government on removal of
institutional barriers to bridge the demand-supply gap thereby fostering the consumer interests. In
pursuit of these objectives, the Commission aims to

i. Improve the operations and management of the regional transmission systems through IEGC,
Availability Based Tariff (ABT), etc.
ii. Formulate an efficient tariff setting mechanism, which ensures speedy and time bound
disposal of tariff petitions, promotes competition, economy and efficiency in the pricing of
bulk power and transmission services, and ensures least cost investments.

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 iii. Facilitate open access in inter-state transmission.
iv. Facilitate inter-state trading.
v. Promote development of the power market.
vi. Improve access to information for all stakeholders.
vii. Facilitate technological and institutional changes required for the development of competitive
markets in bulk power and transmission services.
viii. Advise on the removal of barriers to entry and exit for capital management, within the limits
of environmental, safety/security concerns and existing legislative requirements, as the first
step towards creation of competitive markets.

Guiding Principle

To pursue the mission statement and its goals, the Commission is guided by the following principles:

i. Protect the interest of society including consumer interest and supplier interest while
remaining fair, transparent and neutral to all the stakeholders.
ii. Remain equitable in conflict resolution brought out to it through petitions after providing
sufficient and equal opportunity to participants to be heard.
iii. Maintain regulatory certainty by remaining consistent in views while being open-minded to
adopting changes in the evolving power sector.
iv. Adopt a stakeholder consultation and participative process in the formulation of its
regulations to ensure that they are in line with the expectations of the stakeholders.
v. Ensure optimal allocation of resources in the sector using regulatory and market-based
mechanisms.
vi. Encourage sustainable development by promoting renewable sources in power generation.

CERC Guidelines for determination of capital structure, computation

of capital cost and tariff for power generation and transmission
projects
Central Electricity Regulatory Commission (Terms and Conditions of Tariff) Regulations, 2009
defines the procedure for computing the capital cost and capital structure and the tariff structure for

i. Thermal generating stations

ii. Hydro generating stations
iii. Transmission of electricity on interstate transmission system

In this project report, we explain the procedure for thermal generating stations.

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Capital cost of the project

The capital cost of the project should include

i. The expenditure incurred or projected to be incurred, including interest during construction

and financing charges, any gain or loss on account of foreign exchange risk variation during
construction on the loan up to the date of commercial operation of the project.
ii. Capitalised initial spares subject to the ceiling rate (as a percentage of the original project
cost) of 2.5% of coal based/lignite fired thermal generating stations and 4% for gas
turbine/combined cycle thermal generating stations.
iii. Additional capital expenditure incurred or projected to be incurred, on the following counts
within the original scope of work, after the date of commercial operation and up to the cut-off
date may be admitted by the Commission, subject to prudence check:
a. Undischarged liabilities
b. Works deferred for execution
c. Procurement of initial capital spares within the original scope of work (within the ceiling
of capitalized initial spares)
d. Liabilities to meet award of arbitration or for compliance of the order or decree of a court
e. Change in law
iv. The capital expenditure incurred on the following counts after the cut-off date may, in its
discretion, be admitted by the Commission, subject to prudence check:
a. Liabilities to meet award of arbitration or for compliance of the order or decree of a court
b. Change in law
c. Deferred works relating to ash pond or ash handling system in the original scope of work

Renovation and modernization

Any expenditure for renovation and modernization of the project for the purpose of extension of life
beyond the useful life of the generating station shall be approved by the commission based on the
submission of proposal with a detailed project report detailing complete scope, justification, cost-
benefit analysis, estimated life extension from a reference date, financial package, phasing of
expenditure, schedule of completion, reference price level, estimated completion cost including
foreign exchange component.

Capital Structure

For the purpose of tariff determination, a maximum of 30% equity capital is considered. If the equity
actually deployed is more than 30% of the capital cost, equity in excess of 30% is considered as
normative loan.

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The premium, if any, raised by the generating company while issuing share capital and investment of
internal resources created out of its free reserve, for the funding of the project, shall be reckoned as
paid up capital for the purpose of computing return on equity, provided such premium amount and
internal resources are actually utilised for meeting the capital expenditure of the generating station or
the transmission system.

Computation of Tariff

The tariff for supply of electricity from a thermal generating station shall comprise of

i. Capacity charge for recovery of annual fixed cost

ii. Energy charge for recovery of primary fuel cost and limestone cost

Annual Fixed Cost

The annual fixed cost (AFC) of a generating station system shall consist of the following components

i. Return on equity
ii. Interest on loan capital;
iii. Depreciation;
iv. Interest on working capital;
v. Operation and maintenance expenses;
vi. Cost of secondary fuel oil (for coal-based and lignite fired generating stations only);
vii. Special allowance in lieu of R&M or separate compensation allowance, wherever applicable.

Return on equity

 Return on equity (ROE) shall be computed in rupee terms and as per the equity structure defined
under Capital Structure section.
 ROE shall be computed based on pre-tax basis at the base rate of 15.5%.
 An additional 0.5% will be allowed for projects commissioned on or after 01 April 2009,
provided they meet certain timelines decided based on the type of the unit, unit size, first unit or
subsequent units. For example, for a coal/lignite thermal power plant with unit size 200/210 MW,
qualifying time schedule is 33 months for the first unit and subsequent units at an interval of 4
months each.
 ROE = Base rate/(1-t)

Where t is the tax rate used for 2008-09 (MAT at 11.33% or corporate at 33.99%, whichever is
applicable). At @ 33.99% tax rate, rate of pre-tax ROE = 23.481%.

Interest on loan capital

 Repayment of loan shall be equal to annual depreciation allowed

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 The rate of interest shall be the weighted average rate of interest calculated on the basis of the
actual loan portfolio at the beginning of each year applicable to the project
 For normative loans (where equity is in excess of 30% of capital cost) , use the weighted average
rate of interest of actual loans
 Generating company should make every effort to refinance the loan at a lower rate, if it results in
net savings. Net savings to be shared between the beneficiary and the generating company at the
rate of 2:1

Depreciation

 The value base for the purpose of depreciation shall be the capital cost of the asset admitted by the
Commission.
 The salvage value of the asset shall be considered as 10% and depreciation shall be allowed up to
maximum of 90% of the capital cost of the asset.
 Depreciation shall be calculated annually based on straight Line Method. Different depreciation
rates specified for different types of assets. For example, for IT equipments, the depreciation rate
is 15% and for cooling towers, the depreciation rate is 5.28%
 Depreciation shall be chargeable from the first year of commercial operation.

Interest on working capital

i. For coal-based/lignite-fired thermal generating stations, the working capital shall cover
a. Cost of coal or lignite and limestone, if applicable, for 1½ months for pithead generating
stations and two months for non-pit-head generating stations, for generation
corresponding to the normative annual plant availability factor;
b. Cost of secondary fuel oil for two months for generation corresponding to the normative
annual plant availability factor, and in case of use of more than one secondary fuel oil,
cost of fuel oil stock for the main secondary fuel oil.
c. Maintenance spares @ 20% of operation and maintenance expenses
d. Receivables equivalent to two months of capacity charges and energy charges for sale of
electricity calculated on the normative annual plant availability factor, and
e. Operation and maintenance expenses for one month.
ii. For open-cycle Gas Turbine/Combined Cycle thermal generating stations, the working capital
shall cover
a. Fuel cost for one month corresponding to the normative annual plant availability factor,
duly taking into account mode of operation of the generating station on gas fuel and
liquid fuel
b. Liquid fuel stock for ½ month corresponding to the normative annual plant availability
factor, and in case of use of more than one liquid fuel, cost of main liquid fuel.

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 c. Maintenance spares @ 30% of operation and maintenance expenses
d. Receivables equivalent to two months of capacity charge and energy charge for sale of
electricity calculated on normative plant availability factor, duly taking into account mode
of operation of the generating station on gas fuel and liquid fuel,
e. Operation and maintenance expenses for one month.

The rate of interest charged will be the short-term Prime Lending Rate of State Bank of India as 1st
April of the year. Interest on working capital shall be payable on normative basis notwithstanding that
the generating company or the transmission licensee has not taken loan for working capital from any
outside agency.

Operating and maintenance expenses

Norms published for expenses per Mwatt. These are based on

 Type of generating station

 Unit size
 No of units

For example, for 2009-10, for 200/210/250 MW sets, the operating and maintenance expenses are Rs
18.20 lacs per megawatts for each of the first 4 units. For the subsequent 2 units, O&M expenses per
unit is multiplied by a factor of 0.9 and for the remaining units, O&M expense per unit is multiplied
by a factor of 0.85.

These expenses are subject to an annual escalation rate of 5.72%.

Secondary fuel consumption expenses

This is calculated as SFC x LPSFi x NAPAF x 24 x NDY x IC x 10

Where

SFC – Normative Specific Fuel Oil consumption in ml/kWh

LPSFi – Weighted Average Landed Price of Secondary Fuel in Rs. /ml considered initially

NAPAF – Normative Annual Plant Availability Factor in percentage

NDY – Number of days in a year

IC - Installed Capacity in MW

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Computation and Payment of Capacity Charge and Energy Charge for
Thermal Generating Stations

The fixed cost of a thermal generating station shall be computed on annual basis, based on norms
specified under these regulations, and recovered on monthly basis under capacity charge. The total
capacity charge payable for a generating station shall be shared by its beneficiaries as per their
respective percentage share / allocation in the capacity of the generating station.

The capacity charge (inclusive of incentive) payable to a thermal generating station for a calendar
month shall be calculated in accordance with the following formulae:

Monthly Capacity charge = AFC x NDM / NDY x ( PAFM / NAPAF )

Where

AFC = Annual fixed cost

NDM = Number of days in the month

NDY = Number of days in the year

PAFM = Plant availability factor achieved during the month, in percentage

NAPAF = Normative plant availability factor in percentage (60% to 82% assigned for existing
plants, 85% for new plants)

The energy charge shall cover the primary fuel cost and limestone consumption cost (where
applicable), and shall be payable by every beneficiary for the total energy scheduled to be supplied to
such beneficiary during the calendar month on ex-power plant basis, at the energy charge rate of the
month (with fuel and limestone price adjustment). Total Energy charge payable to the generating
company for a month shall be:

(Energy charge rate in Rs./kWh) x {Scheduled energy (ex-bus) for the month in kWh.}
Energy charge rate (ECR) in Rupees per kWh on ex-power plant basis shall be determined to three
decimal places in accordance with the following formulae :

a. For coal based and lignite fired stations

CR = { (GHR – SFC x CVSF) x LPPF / CVPF + LC x LPL } x 100 / (100 – AUX)

b. For gas and liquid fuel based stations

ECR = GHR x LPPF x 100 / {CVPF x (100 – AUX)}

Where,

AUX = Normative auxiliary energy consumption in percentage.

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CVPF = Gross calorific value of primary fuel as fired, in kCal per kg, per litre or per standard cubic
metre, as applicable.

CVSF = Calorific value of secondary fuel, in kCal per ml.

ECR = Energy charge rate, in Rupees per kWh sent out.

GHR = Gross station heat rate, in kCal per kWh.

LC = Normative limestone consumption in kg per kWh.

LPL = Weighted average landed price of limestone in Rupees per kg.

LPPF = Weighted average landed price of primary fuel, in Rupees per kg, per litre or per standard
cubic metre, as applicable, during the month.

SFC = Specific fuel oil consumption, in ml per kWh.

The landed cost of fuel for the month shall include price of fuel corresponding to the grade and
quality of fuel inclusive of royalty, taxes and duties as applicable, transportation cost by rail / road or
any other means, and, for the purpose of computation of energy charge, and in case of coal/lignite
shall be arrived at after considering normative transit and handling losses as percentage of the quantity
of coal or lignite dispatched by the coal or lignite supply company during the month as given below :

 Pithead generating stations : 0.2%

 Non-pithead generating stations : 0.8%

The landed price of limestone shall be taken based on procurement price of limestone for the
generating station, inclusive of royalty, taxes and duties as applicable and transportation cost for the
month.

PROJECT APPRAISAL AT PFC IN OBLIGATION TO CERC GUIDELINES (A CASE

STUDY ANALYSIS)

Objectives:

Project Appraisal of thermal power project: 2x660 MW Coal Based Super critical Thermal Power
Project.
Assigning Integrated Project Rating to the project.

Methodology:

Project Appraisal: To evaluate the project rating and conducting the feasibility report of a project
based on the DPR/information memorandum/application form and other related materials submitted
by the borrower.
Assesses the capital needs of the business project and how these needs will be met.
Calculation of DSCR, IRR and sensitivity analysis.

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Calculating the cost of generation and relevance.
Entity Appraisal: To assess the financial health of organizations that approach PFC for credit for
power projects. This would entail undertaking of the following procedures:
Analysis of past and present financial statements
Examination of Profitability statements
Integrated Rating: Financial feasibility of the project is checked by the calculation of IRR and DSCR,
various cost estimates, tariff calculation, Interest during Construction, working capital requirement,
levellised tariff, etc. On the basis of above data, sensitivity analysis is done at different input
conditions. With the help of these data project is rated and then composite with entity rating to reach
at Integrated project rating.
To assess the suitability of the company for disbursement of credit. This would involve the following
actions:
Quantification & Assessment of risks
Determination of interest rate, exposure limit and collateral security.

Calculation of tariff:

The tariff for supply of electricity from a thermal generating station shall comprise two parts, namely,
capacity charge (for recovery of annual fixed cost consisting of the components) and energy charge
(for recovery of primary fuel cost and limestone cost where applicable).
Annual Fixed Cost: The annual fixed cost (AFC) of a generating station or a transmission system
shall consist of the following components
Return on equity: 15.5% tax free return on total equity. Only 30% of the project cost can be treated as
equity.
Interest on loan capital: Year to year loan interest is calculated on full debt amount by weightage
average rate of interest.
Depreciation: Depreciation up to 90% of the capital cost of asset is allowed. Depreciation shall be
calculated annually based on Straight Line Method and rate defined in CERC guidelines.
Interest on working capital: Working capital shall include
Cost of coal or lignite and limestone, if applicable, for 1½ months for pit-head generating stations and
two months for non-pit-head generating stations.
Cost of secondary fuel oil for two months.
Maintenance spares @ 20% of operation and maintenance expenses.
Receivables equivalent to two months of capacity charges and energy charges for sale of electricity.
Operation and maintenance expenses for one month.
Energy Cost:
It is also calculated on norms of CERC, the yearly consumption of primary fuel and secondary fuel is
taken for the calculation
Other parameters like escalation, discounting, exchange rate are taken as per latest CERC norms.

GUIDING PRINCIPLE FOR PROJECT APPRAISAL AT PFC

“Offering credit is an operation fraught with risk. Before offering credit to an organization, its
financial health must be analyzed. Credit should be disbursed only after ascertaining satisfactory

17
financial performance. Based on the financial health of an organization, PFC assigns credit ratings.
These credit ratings are used to fix the interest rate, exposure limit and security criteria.”
Entity Eligibility Criteria: While considering the eligibility of an entity, last two year Auditor’s
report and notes to annual accounts along with Income tax assessment order for last three years be
also examined. Type of securities and mode of repayments is also to be suggested by the help of entity
rating.
Statutory Clearances: All statutory clearances requires at Central/State level for the implementation
of the project are to be ensured. Depending on the cost of project, techno economic clearances of
CEA/SEB may be asked.
Clearances/Agreements required for implementation of project:
1. Land Acquisition
2. Water Availability
3. Stack Height: Airport Authority of India
4. Forest Clearance: Such that no sanctuary, reserve, national park within the project
5. No defense establishment
6. Ministry of environment and Forest
7. Fuel Supply Arrangement/Agreement through various coal linkages
8. Fuel Transportation Arrangement
9. PPA for selling Electricity
10. Transmission agreement with Transmission agency
11. Pollution Control Board
Cost Estimate: The base date for estimation of cost shall not be more than six month old at the time
of talking up the project for appraisal. Physical contingencies shall be limited to 3% of the base cost
and the price contingencies provision of 7%, 12%, 16%, 19% and 22% shall be made depending on
the project completion period of 1,2,3,4 and 5 years as per PFC guidelines. Also IDC, to be
considered to arrive at project cost.
Project Cost-Benefit Analysis: Calculate FIRR and EIRR. Techno-economically sound with FIRR
and EIRR not less than 12%. Sensitivity analysis is also done.
Integrated project Rating: The project is evaluated on various parameters and then ranked according
to the PFC guidelines. The method is explained later on.

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PROJECT APPRAISAL PROCESS AT PFC

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INTEGRATED PROJECT RATING

The integrated rating exercise is carried out at the end of the detailed appraisal of projects. The
integrated rating model is intended for arriving at a relative measure of merit for the project. The
integrated rating model involves:
1. Entity rating
2. Project rating
3. Integrated rating: Through combination of above two.

Appraisal Methodology:

Analysis and critical comments on the strength and weakness of organization, management, its
working result, financial position etc. are made on the basis of organization set up, capital/financial
structure, operating/working results, credit worthiness, financial result, entity related risks and
mitigation measures proposed. Power Sector entities are evaluated with reference to a set of
qualitative and quantitative factors to arrive at the Aggregate Entity Score. In addition to the
performance parameters, milestones giving weightage to core reform activities have also been
included in the overall grading mechanism. Both the public and private entities are evaluated
separately on different set of measures.
Policy of State/Central Sector Entities: These entities are ranked on the basis of following parameters
EXTERNAL FACTORS:
State Government support (equity, subsidy, etc.)
Formulation of Business Plan/FRP
Implementation of Electricity Act 2003 – Corporatization of entities
Regulatory safeguards of SERC
Investment support from State government (equity)
INTERNAL FACTORS:
Reduction trend between Average Revenue and Average Cost of supply
DSCR, Net worth
Receivables, AT&C Losses
Debt servicing record
PLF/Plant Availability
Availability of Audited Annual Accounts
Capacity Addition / Increase in Capital expenditures
Metering (DISCOMS), Payables (DISCOMS)
These milestones/parameters have been classified as External and Internal Factors with following core
allocation:

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Scoring

Quantitative Factors:
The scoring of all the factors is on a six- point scale, with 6 being the best and 1 being the worst. It
involves analysis under 2 categories:
Business analysis
Financial flexibility
Business Analysis:
Business analysis evaluates the performance of the present business of the promoters. The analysis
involves evaluation of the market position and financial position of the company along with a view on
management expertise and integrity of the promoters.
The parameters and factors used in business analysis have been enumerated below:
Market Position (20%)
Here relative market share of the company is determined. It is calculated as the ratio of the turnover of
the promoting company divided by the turnover of the market leader in the business. In case of
diversified companies the same process is repeated for each division.
Financial Risk (80%)

It evaluates the past financial performance of the promoting companies. Performance of at least the
last three years is evaluated. Financial risk parameter is represented by 5 ratios, which cover various
aspects of company’s financial performance:

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Return on Capital Employed (ROCE)

ROCE = PBIT/ Opening capital employed

Here, Capital Employed = (Capital + Reserves + Short term debt + Long term debt – Revaluation
reserves –Capital work in progress)

ROCE is scored as a simple average of the last three years but if the latest ROCE is lower than one for
the preceding year then the latest ROCE should be used for calculation instead of the average.

Operating Margin

OM = Operating Profit before Depreciation, Interest and Taxes/ Income from operations

Debt Service Coverage Ratio (DSCR)

DSCR = (PBIT – Taxes)/ (Repayment due to Long term Loan + Interest on long term and Short term
loans)

Total Debt/Total Net Worth

Total debt/ total net worth = (Long term loans + Short term loans + Working Capital loans)/

(Capital + Reserves – Revaluation reserve – Loss brought forward – Intangible Assets)

Cash Flow from Operation / Total Debt

Cash flow from operations/ Total debt = Cash flow from Operations/ (Long term loans +

Short term loans + Working Capital Loans from Banks)

Detailed Entity Appraisal:

After preliminary appraisal, a detailed appraisal is taken place according to the following process:

Business Analysis: In addition to the risk parameters included in preliminary evaluation, detailed
evaluation also included industry risk score.

Industry Risk:

The industry risk score measures the competitiveness of the industry in which the promoting company
is operating. The industry factor would be a qualitative factor to be scored on a six-point scale. The

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industry expertise for scoring the industry risk factor can be developed internally or alternatively the
score for the industry risk can be outsourced from an independent agency.

Financial Risk:

In detailed evaluation, the projections of future financial performance are also evaluated with past
financial performance. The projections for the next two years are taken into account. The above five
ratios are keeping same in both the cases. But the ratio in their past and future is as follow:

Equity Funding Potential: A Promoting company can contribute equity to the project by raising debt
on its books or raising equity or through cash surpluses in the books. The equity funding potential is
the aggregate of:

Ability of company to raise debt up to certain debt-equity ratio (1.5:1) and DSCR of 1.5

Ability to raise equity from the markets by diluting the equity of the promoting company. Up to 10%
of the average market capitalization of the company may be diluted. (The average market
capitalization is calculated as the average of last 1year)

Ability to use marketable securities to raise equity for the project

Any other source of injecting funds to contribute equity to the project

The aggregate amount that can be raised by the above methods as a percentage of the equity
contribution of the company is compared to the benchmark to arrive at a score on a six-point scale.

Bridge Financing Ability:

This parameter basically judges the ability of company to fund short term cash flow imbalances in the
project. This attribute is useful to prevent delay in project implementation due to small disbursals
from the institutions.

Cash surplus = cash flow from operation + marketable securities

Here, Cash flow from Operations = PAT + Depreciation + Non Cash Expenses in Working Capital
Requirements.

In this quarterly cash surplus of the promoting company is calculated as a proportion of the project
cost of the company and comparing it with the benchmark to arrive at a score on the six point scale.

Track Record of Fund Raised: This technique is basically used to judge the promoter’s ability to
achieve financial closure and tie up funds for the project. This factor is scored by comparing the

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aggregate fund raised in the last ten years as a proportion of the project cost with the benchmark, to
arrive at a score.

Aggregate Project Cost: This factor evaluates the ability of the promoters to manage new project.
Scoring is done by comparing the aggregate cost of the project implemented by the promoting group
in the last years as a proportion of the cost of the present projects with the benchmark, to arrive at a
score.

Quantitative Factor Grade: Thus various scores obtained from various parameters are multiplied by
their respective weights (weights are predefined by the scoring authority) to come at final score. The
benchmark of scores for the different grades is given below:

Project rating:

The project is rated against a set of qualitative and quantitative parameters. The qualitative parameters
being Cost/MW, first full year of generation, levellised cost of generation and DSCR. The qualitative
parameters are type of implementation structure, security of fuel, power sale agreement and
satisfactory operation and maintenance. The weightage of parameter in calculating the score of
qualitative and quantitative parameters is assigned on the company norms and policies.

The upper and lower limits of qualitative and quantitative parameters are fixed and then on basis of
pro-rata basis, assigning of rank is done. The parameter’s point and their allocation are also discussed
on the set of standards.

Quantitative Parameters:

First full year cost of generation w/o RoE: A range of 1.9-2.75 is taken as standard and then allocation
of score is done on that basis.

Levellised tariff/ cost of generation with RoE and tax: 2.35-3.50 is a set of standard range and then
scoring is further allocated.

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Average DSCR: Less than 1.0 is taken as bad condition of loan recovery while the value greater than
1.0 is rated high.

Qualitative Parameters:

Power off take

IPP- Status of PPA & PSM and/or Captive- Payment Security Mechanism

Buyers rating

Fuel supply

Long term agreement

Short term agreement

Captive Coal mine

Transportation facility

Construction Contract

Warranty

Market standard

Performance

Type of contract and bidding

Competitive Bidding

Equipment Supplies

Experience of the EPC contractor

Commercial terms of Contract

O&M

Past Experience

Management Team and efforts

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Weightages to various parameters in project rating:

LIMITATIONS

This analysis is limited to an examination of annualized expenses and revenue and represents a
prototypical year of operations in base year dollars. The development of a complete financial plan
must include consideration of cash flows for expenses and revenues, both capital and operating, on a
year-by-year basis from the current year through and beyond the design year selected for the
estimation of tariff. This analysis should examine alternative pay as-you-go and debt financed
scenarios, be conducted in year-of-expenditure dollars, and address the underlying uncertainties
associated with inflation, interest rates, project cost (exclusive of inflation), foreign exchange rate,
grant funding levels and rates of payment, and other factors over which the project sponsor will have
no direct control.

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The assumptions and sources of information underlying the development of the capital and operating
cost estimates are an integral part of the financial analyses documented in this report. Uncertainties
associated with fluctuating economic conditions and other factors may result in the actual results of
the financial program varying from the projections in the financial analyses, and the variations could
be material.

Some of the major limitations and issues regarding the project appraisal are as follow:

1. The rate of escalation is taken as constant over the life of the project (about 25 years); being the life
of project large it is not easy to predict the actual cost and inflationary effect on the price of fuels and
other inputs with the change in market conditions.

2. Cash flows not really known until the project is in service – no history of cash flows

3. Value of debt and equity driven by cash flow.

4. Measure the value of different securities supported by project cash flow

5. Risk analysis depends on contracts used to allocate risk to different parties

6. Foreign exchange rate is taken on regular depreciation of rupees and this will be a limitation to the
model.

7. Monthly analysis of construction is used for accurate representation of IDC, but; the expense
schedule is given on annual basis. So, proper distribution of expense on monthly basis and allocation
of funds (using debt, equity or sub-debt) is a problem.

Other guidelines

The regulation also defines the norms of operations and the guidelines for scheduling, accounting and
billing.

Regulations

i. Case in case of the outstanding dues or in case the required Letter of Credit or any other
agreed Payment Security Mechanism is not maintained as per the Agreement, the generating
company or the transmission licensee, as the case may be, may serve a notice for regulation of
power supply, on the Defaulting Entity, for reducing the drawl schedule in the case of the
generating company or with-drawl of open access/access to Inter State Transmission System
in the case of the transmission licensee.
ii. A copy of the notice under Regulation 1 shall be forwarded by the Regulating Entity to the
Regional Load Dispatch Centre or State Load Dispatch Centre in whose control area (s) the
Regulating Entity is situated with a request to prepare implementation plan. Copies of the

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 notice shall also be served on other concerned Regional Load Dispatch Centres, State Load
Dispatch Centres, and Regional Power Committees.
iii. Upon receipt of the notice under Regulation 4 and within 3 days thereafter, the concerned
State Load Despatch Centre/Regional Load Despatch Centre, in whose control area the
Defaulting Entity is situated, shall make a plan in writing for implementing the regulation of
power supply and shall inform the Regulating Entity, Regulated Entity, concerned State Load
Despatch Centres, Regional Power Committees, and Regional Load Despatch Centres of the
said Plan and shall post the implementation plan on its website.
iv. The plan for implementation shall be prepared by concerned Regional Load Despatch Centre
or State Load Despatch Centre, as the case may be, in such manner that the amount of
reduction in drawl schedule shall be progressively increased in quantum in accordance with
the notice given by the Regulating Entity. Such progressive increase shall be in accordance
with the Agreement, if so mentioned in the Agreement.
v. The regulation of power supply for the Regulating Entity shall be implemented from the
fourth day of the notice as per plan prepared by the Regional Load Despatch Centre/State
Load Despatch Centre unless the Regulating Entity requests cancellation of the regulation of
power supply.
vi. In case the Regulating Entity decides to withdraw or postpone the regulation of power supply,
it shall communicate its decision in writing to the concerned Regional Load Despatch Centre
or State Load Despatch Centre, as the case may be, and the Defaulting Entity, along with
reasons thereof.
vii. Where the Regulated Entity has defaulted in making payment to both Generating Company
and Transmission Licensee, the regulation of power supply on the Regulated Entity for these
defaults shall be implemented concurrently. The adjustment towards the Outstanding Dues
shall be in accordance with Regulation 17 of these regulations.
viii. During the period of regulation of power supply, the Regulated Entity shall restrict its drawal
to the revised schedule given by the Load Despatch Centre and the deviations, if any, from
the drawal schedule shall be subjected to unscheduled inter-change charges in accordance
with the Central Electricity Regulatory Commission (Unscheduled Interchange charges and
related matters) Regulations, 2009 as amended from time to time.
ix. The Regional Load Despatch Centre or State Load Despatch Centre, as the case may be,
during the period of regulation of power supply, shall consider the regulation of power supply
taking into consideration grid security, and may temporarily suspend implementation of the
plan of regulation of power supply, if in its opinion; grid security is in imminent danger.
x. The concerned Regional Load Despatch Centre shall keep Member- Secretary, Regional
Power Committee of the region informed of the implementation of the regulation of power
supply.

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Regulation by the generating company

i. The generating company shall be entitled to sell the power rendered surplus due to regulation
of power supply, to any person, including any of the existing beneficiaries, during the
regulation of power supply, subject to grid security, as ascertained by the concerned Regional
Load Despatch Centre, or may reduce generation in case any of the above options is not
possible. The Generating Company shall inform the Regional Load Despatch Centre or the
State Load Despatch Centre, as the case may be, the Defaulting Entity and Member-
Secretary, Regional Power Committee of the region, of the quantum, duration and rate of such
sale.
ii. Open access in case of diversion of power shall be regulated in accordance with the Central
Electricity Regulatory Commission (Open Access in Inter-State Transmission) Regulations,
2009, and Central Electricity Regulatory Commission (Grant of Connectivity, Long-Term
Access and Medium-Term Open Access to the inter-State Transmission and related matters)
Regulations, 2009, as amended from time to time.
iii. The amount received from sale of surplus power by generating company due to regulation of
power supply, shall be adjusted against the outstanding dues of the Regulated Entity, after
deduction of energy charges, trading margin and other incidental expenses borne by the
Generating Company, if any, and the remaining amount, if any, shall be passed on to the
Regulated Entity.

Regulation by transmission licensee

i. On the request of a Transmission Licensee for Regulating the power supply, the Regional
Load Despatch Centre may, under intimation to the concerned generating company, curtail
the medium-term open access or long-term access of the allocated power or power supply
contracted by the Defaulting Entity, on account of regulation according to the notice served
under Regulation 1 of these regulations, preferably from the cheapest generating station in
that corridor. The Regulating Transmission Licensee may decide the quantum and duration of
denial of open access/ access in consultation with any of the concerned generating companies
who have a contract to sell power to the Regulated Entity and the concerned Regional Load
Despatch Centre. The Transmission Licensee can propose the quantum and duration of
regulation of power supply based on an estimated price, indications of which can be taken
from the Power Exchange Uniform Market Clearing Price and the prevailing price of
electricity sold through traders directly.
ii. The generating company, as a result of reduction of open access shall be entitled to sell the
power rendered surplus due to regulation of power supply, to any person including any of the

29
 existing beneficiaries, during the regulation of power supply. The revenue received on
account of sale of this power shall be utilised in following sequence:
a. To pay the energy charges and any incidental expenses, including
b. Trading margin if power is sold through a trader, of the generating
c. Company
d. To pay the outstanding dues of the transmission licensee.
e. Any remaining amount to be passed on to Regulated Entity.
iii. In case of such reduction of drawl schedule, the liability of payment of capacity charges for
its original share in the generating station shall remain with the Regulated Entity.
iv. During regulation of power supply, through a hydro generating station, in order to avoid
spillage of water, if a buyer cannot be found or is not found for the full quantum of power
rendered surplus, the generating station can inject power under Unscheduled Interchange (UI)
mechanism, if grid conditions allow, with the permission of the Regional Load Despatch
Centre in which it is located, subject to the stipulations in the Central Electricity Regulatory
Commission,(Unscheduled Interchange charges and related matters) Regulations, 2009, as
amended from time to time. The loss of energy charge, in case of spillage of water, shall be
made good from the revenue earned through sale of power and/or UI from injection of power
rendered surplus due to regulation, on first charge, and the balance amount shall be adjusted
v. In case the Regulated Entity owes outstanding dues to a Generating Company and a
Transmission Licensee simultaneously, the payments received from sale of power, after
adjustment of energy charges and incidental expenses of the Generating Company shall be
shared by the outstanding dues, till the dues are neutralized and the balance amount, if any,
shall be passed on to the Regulated Entity.

Learnings

 CERC guidelines for power projects

 Learnt about investment scenario in power generation.
 Know about various complicacies in power generation and their mitigation.
 Learnt financing aspect of various investment related parameters.
 An exposure to project appraisal processes.

References

 www.cerc.gov.in
 PFC website: www.pfcindia.com
 A Report on Indian Energy Sector by SBICAP

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