Tata Power’s Dilemma May Be Paradoxically Good

Although Tata Power’s financial mess is outpacing its resolving ability, early realisation of uncertainty is what they have to thank the market forces for.

Tata Power, a prominent player in generating and distributing power to Indian businesses and homes, is falling prey to uncertain market forces. The firm is currently staring at a conservatively assessed loss of 47,500 crore for the 25-year period, for which it has signed power purchase agreements with utilities through competitive bidding. The irony lies in its inability to subvert the loss after the Supreme Court denied any sympathy.

Tata Power owns the 4000 MW Mundra power plant through a subsidiary, Coastal Gujarat Power Ltd, from which it has tied up coal purchases from Indonesia. For its comfort, Tata Power bought coal mines in Indonesia to fuel-feed the Mundra plant functioning for the 25 year period of power purchase agreements with states like Haryana, Maharashtra, and Rajasthan. Indonesia, in 2010, declared that export coal prices required to be linked with international coal prices, and any upside above the local price made from coal sale must be retained in Indonesia. This was a significant, unexpected blow to the firm. It sought help from the Central Electricity Regulatory Commission (CERC), which offered relief by allowing “compensatory tariff” to be charged to the utilities. It then petitioned the Appellate Tribunal for Electricity (APTEL) which, while favouring some compensation, questioned CERC’s method of calculating the “compensatory tariff”.

Stressing repeatedly and precisely on the sanctity of a bidding process and the value of commitment, and on the reluctant increase in cost absorption for 25 years, the utilities along with civil society representatives challenged the tariff rise in the Supreme Court. The apex court denied any compensatory tariff for Tata power. With the ruling comes the assessment of accumulating losses over the 25-year agreements. Doubts remain whether the highest court has kept a window open for remediation possibilities. The ruling highlights and clarifies the blatant misuse of the “force majeure” clause in agreements, which Tata Power, along with Adani Power, used to seek compensation. The change in Indonesian law was never an “act of God”, the primary safeguard used by multinationals as “force majeure”; it was conceptually foreseeable in an interconnected world.

The court ruling would impact debt treatment from lenders, who could be expecting a debt restructuring proposal from Tata Power. Any move from now on could decide Tata Power’s future, and of power producers’ abilities to secure favourable contract positions and restricting losses arising from uncontrollable market forces. A reputational risk looms large for Tata Power if it attempts to exit the current power purchase agreements.

With the flexibility in tariff determination method, which includes provisions for fixed costs and variable costs differently, Tata Power could become innovative in arranging its cost structure to secure the combined fixed costs of debt service, maintenance, taxes, fuel purchase, insurance and returns. It can start utilising 100% capacity of the plant from the current 75% and curb avoidable cost incurrence. There could be a way of exiting the power plant itself, although the price assessment could demotivate the option. Assuming subdued coal prices in a recovering market for the next few years, Tata Power has certain windows of escaping the dismal scenario that it could face, if it continues to operate at a loss.

Investors are looking at the situation with mixed feelings of hope and fear of a slippery slope, and Tata Power is liable for addressing shareholder concerns. Although the company displays stability in other power projects, coming to realise the effect of uncontrollable market forces may be one of strongest medicines to converting lethargic companies like it, into agile multinationals.

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