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May 2012

May 2012 ICRA Rating Feature Steady growth in small hydro power; however significant challenges remain... Contacts:

ICRA Rating Feature

Steady growth in small hydro power; however significant challenges remain...



Anjan Ghosh

  • While India‘s total installed capacity for small hydro power (SHP) units reported a significant increase from 1,909 MW as in March 2006 to 3,300

  • m MW as in January 2012, thereby taking up SHP‘s share of the country‘s total installed renewable energy (RE) capacity to almost 15%, considerable potential1 still remains untapped across States with favourable SHP potential.







Avneet Kaur

  • The low utilisation of the country‘s SHP potential is attributable to several factors, including: challenges in setting up plants in difficult and remote terrain; delays in acquiring land and obtaining statutory clearances; inadequate grid connectivity; and high wheeling and open access charges in some States.


+91-124- 4545319

  • SHP plants have certain inherent advantages: they generate ―clean energy‖ at a competitive cost; they have features that make them suitable for peaking operations; they are less affected by rehabilitation and resettlement (R&R) problems vis-à-vis large hydro power plants; they can meet the power requirements of remote and isolated areas; and they use mature and largely indigenous technology.

  • In ICRA‘s view, the demand for SHP is likely to go up significantly, given the support now available from improved fiscal and regulatory measures:

May 2012 ICRA Rating Feature Steady growth in small hydro power; however significant challenges remain... Contacts:

The Government of India‘s National Action Plan for Climate Control

(NAPCC) has set the minimum share of RE in the overall energy procurement of utilities at 10% by 2015 and 15% by 2020. Thus, even if SHP were to maintain its current 15% share of the total RE capacity, the additional demand in the medium term would be significant.

  • The Central Electricity Regulatory Commission (CERC) has come out with several measures, including: generic tariff norms for SHP projects; norms and pricing framework for RE certificates; and an

1 The Ministry of New and Renewable Energy (MNRE) estimates total potential at 15,380 MW

amended grid code to ensure smoother offtake and transmission of RE power by utilities.

  • Under the Central Financial Assistance (CFA) Scheme of the MNRE, capital subsidy is now provided to both private and State projects and for renovation & modernisation of SHP plants. Besides, technical support is being provided to SHP units through Alternate Hydro Energy Center (AHEC), IIT, Roorkee.

  • Notwithstanding these inherent advantages and the regulatory support available, several constraints continue to impede growth of the SHP sector:

amended grid code to ensure smoother offtake and transmission of RE power by utilities. Under the

The single biggest challenge is the construction risk, given that most SHP projects are located in remote, hilly/mountainous regions with severe infrastructural constraints. The locational hurdles also serve to prolong the gestation period and push up the per-MW capital costs even as the power evacuation and transmission facilities at the sites remain inadequate. Further, the preferential tariff being offered to developers in some states are not attractive enough for developers. Timely adjustment of power tariffs by regulators to ensure that the tariffs fully cover the capital costs likely to be incurred by developers would remain critical for the viability of SHP plants.

  • The lack of consistency in SHP tariff norms across states hinders investments in the sector with several states having tariffs which do not ensure adequate returns on investments. Besides, Renewable Purchase Obligations (RPO) regulations also vary across states. While the Renewable Energy Certificate framework should now enable the obligated entities (such as distribution utilities and open access customers) to meet the national level RPO as recommended by NAPCC, it is still in the initial stages of implementation. Hence, the extent to which the SERCs make efforts to align their respective RPO norms with the NAPCC recommendation and strictly monitor and impose penalty for shortfalls in RPO would have a critical bearing on the implementation of the Renewable Energy Certificate framework. While the Renewable Energy Certificates are being traded on the power exchanges for market-based price discovery (with the ceiling and floor levels as set by CERC), the overall risk profile for SHP projects adopting the REC framework remains high, given the absence of a strong enforcement and penalty mechanism for ensuring RPOs by several SERCs as of now.
    Post-commissioning the biggest risk that SHPs face is hydrological risks, that is, the risk of availability of adequate water flow for generating power. This is so because the revenues of SHPs are linked to the actual units generated and sold. Hydrological risks arise mainly because of three factors: faulty estimates, environmental changes, and diversion of water upstream.

  • ICRA also notes that while SHP projects could potentially benefit from Certified Emission Reduction (CER) units, uncertainties still remain over the approval and registration of such projects, given the clause of ―additionality‖ in the Clean Development Mechanism (CDM)2. Moreover, there are uncertainties over the pricing of the CERs post-2012 as well, since the commitment period of the Kyoto Protocol ends in 2012.


Hydropower represents use of water resources towards generation of pollution free and inflation free energy due to absence of fuel costs. Apart from the clean and cost economic nature of power, the other key advantage includes an inherent ability for instantaneous starting, stopping and load variations which helps in improving reliability of power system. Hydro power projects are generally categorized in two segments i.e. small and large hydro. Small hydro 3 refers to hydro electric projects with capacity generation less than 25 MW, which are typically canal based or run of the river type, while large hydro refers to projects of greater than 25 MW and are located on rivers and can be either of run of the river type or associated with large dams.

A planned development of hydropower projects in India started only in the post independent era, with the first 50 years after independence seeing a hydro capacity addition of 21,644 MW, most of them being large hydro. Since the development was mainly in the Central sector and the State Electricity Boards (SEBs) were more or less tuned to the central planning system, relatively less importance was given to small projects.

2 Project owners need to prove non-viability without the CDM benefits. 3 Small hydro power projects are further classified as:

Micro Hydro

Up to 100 kW

Mini Hydro

101 kW 2 MW

Small Hydro

2 MW to 25 MW

ICRA Rating Feature

In order to provide focused attention to small size projects, the subject of small hydro was brought under the purview of renewable energy. The decade of 90s saw a firm footing for the development of small hydro in India. Demonstration projects were supported throughout the country with new technical and engineering concepts to harness small, medium and high heads for SHP projects in hills as well as canals. Database of potential SHP sites on small rivers and canals was concurrently developed. A preinvestment study was carried out under the auspices of the Energy Sector Management Assistance Program (ESMAP) jointly supported by UNDP and World Bank with an objective to prepare an investment program to develop irrigation/ canal based hydro schemes. Alongside, manufacturing base for SHP equipment was strengthened. With the liberalized policy of the Government announced in 1995, there was a shift in the State Government policies to exploit small hydro potential through private sector participation. In view of the Electricity Act 2003 and National Electricity Policy 2005, 23 States announced policies to invite private sector to set up SHP projects.

SHP projects are economically viable, environmentally benign and need a relatively shorter time for implementation (vis-a-vis larger sized hydro or thermal projects) and are less affected by the constraints or disadvantages associated with large hydro projects- namely deforestation and resettlement. The projects have potential to meet power requirements of remote and isolated areas where alternate sources of power are not available or are very expensive to use. These factors make small hydel as one of the most attractive renewable source of grid quality power generation. While Ministry of Power in Government of India deals with large hydro projects, the responsibility of small hydro development rests with Ministry of New and Renewable Energy (MNRE).

Currently, most SHPs are supplying power to state utilities under long-term PPAs signed with state utilities. However, in the recent past a number of SHPs have opted to supply power under the merchant route or under the group captive route to HT consumers where typically the realisations are linked to a mutually agreed discount to HT tariffs.

Growth in capacity addition has been moderate, although in line with targets has picked up during the eleventh year plan ....


capacity addition

450 Jan, 12) FY12 (31 FY11 FY10 FY09 FY08 FY07 FY04 500 Chart 1: Small hydro
Jan, 12)
FY12 (31
Chart 1: Small hydro capacity: year wise installations
250 249
Cumulative capacity (MW)-RHS
Actual addition (MW)
Target addition (MW)

Source: Ministry of Renewable Energy Total Renewable Energy (RE) capacity- 23130 Mw

70% 5% Small Hydro, 14.3% 2.4% Wind,




Others ,

Chart 2: Mix of installed renewable

capacity (as on Jan 31, 2012)

As seen from Chart I, SHP capacity in the country has reported a cumulative annual growth rate (CAGR) of 10% over the period 2004-05 to 2011-12 to reach 3300 MW by January 2012. A capacity addition target of 1400 MW, about 133% higher than the previous plan target was set for the eleventh plan period (2007-12), of which 1325 MW has already been added. Further, as can be seen from Chart 2, small hydro installations comprise the second largest share of ~ 15 % (after wind energy which accounts for almost 70%) of the total renewable energy installed in the country.

Although the actual addition has been more or less in line with the targets set, the pace of capacity expansion has increased only recently, with a sizable increase in capacity has been witnessed in last four financial years supported by favourable fiscal policies (such as accelerated depreciation benefit, tax holiday under section 80 IA soft loans by Indian Renewable Energy Development Authority, IREDA and nil/concessional customs/excise duty benefits), state level incentives (detailed later), financial support from MNRE 4 , improving tariffs and CDM revenues. Besides these incentives, inherent advantages like short

4 In order to accelerate development of small hydropower in the country, MNES is providing incentives like financial support for Detailed Project Report preparation & survey & investigation activities (to the Government Department & Agencies);For renovation, modernization and capacity up-rating of old SHP stations (to the Government sector); for development/up-gradation of water-mills; capital subsidy and interest subsidy for commercial projects.


ICRA Rating Feature

gestation period, mature technology, low O&M costs, no R&R issues (unlike large hydel projects) and no fuel uncertainty has seen commercialization of small hydro power , with most of the capacity addition now coming through private sector projects. According to MNRE estimates, as on 31st October 2011, around 358 projects totaling about 1046 MW are under implementation, mostly by private developers.

However, significant untapped potential still remains ...

While the current installed capacity of SHP accounts for 21.5% of the total potential capacity of 15384 MW, MNRE has plans to increase the total installed capacity to 8500 MW (~60%) of the estimated potential of SHP capacity by 2021. A major part of capacity addition and exploitation of small hydro power (SHP) potential in future is expected from private sector projects. Taking in to consideration the allotment of sites made by the States, project implementation schedules and with a reasonable growth rate in the sector, MNRE plans to add about 2000 MW capacity during 12th Plan and about 3000 MW during the 13th Plan period.

Out of this potential capacity of 15380 MW, about 50% lies in the states of Himachal Pradesh, Uttarakhand, Jammu and Kashmir and Arunachal Pradesh which have perennial Himalayan rivers. Outside the Himalayan region, Maharashtra, Chhattisgarh, Karnataka and Kerala also have sizeable potential. Despite

the majority of India‘s SHP potential being concentrated in the northern states, Karnataka leads in terms of

installed capacity, constituting about 26.8% of the total capacity. Himachal Pradesh follows with a 13.8% share. Other major states include Maharashtra, Andhra Pradesh and Punjab. These five states together constitute 60% of the total installed SHP capacity. Uttarakhand, Jammu & Kashmir, Kerala, Tamil Nadu, West Bengal, etc contribute the remaining capacity.

Since January 2011, SHP projects totalling over 131 MW have been set up in the state of Karnataka. A supportive policy framework has been one of the key factors for achieving this rapid pace of project development. The Karnataka Renewable Energy Policy 2009-14 envisages 600 MW of SHP capacity additions by 2013-14, requiring 100-150 MW of addition every year. Himachal Pradesh has added about 66 MW of capacity in the past 10 months. The state has attracted investors by streamlining the processes involved in the award of projects and subsequent clearances. Meanwhile, project development in the other three Himalayan states, Uttarakhand, Jammu & Kashmir and Arunachal Pradesh, has been slow with about 14 MW of capacity being added since January 2011.

Table 1: SHP capacity as on 31 Oct, 2011 vs Gross potential





Andhra Pradesh



in MW

Installed capacity (as on Oct 31, 11)

% share of state wise capacity






Himachal Pradesh








NE states


























Source: Ministry of Renewable Energy

Kerala, 5% Pradesh, 15 Himachal % states, 9% , 8% % Pradesh, 10 Arunachal J&K, 11%
Kerala, 5%
Pradesh, 15
states, 9%
, 8%
Pradesh, 10
J&K, 11%
d, 12%
potential (12186 MW)
Chart 3: State wise % share of untapped
Other NE
a, 4%
Nadu, 5%
Pradesh, 6

Execution and evacuation challenges are relatively high for SHP plants; with procedural delays, inadequate evacuation and access infrastructure and lack of good quality data being the major barriers in development of SHP potential ....

The execution and evacuation challenges faced by SHP projects are much higher than other renewable energy sources for a variety of reasons. Firstly, water being a state subject, the SHP projects are governed by state policies and the potential sites are allotted by the State Governments to private developers. The projects involve time consuming process for allotment of sites by states and statutory clearances including land acquisition, forest clearance, irrigation clearance etc in the absence of any provision for a single window clearance. In addition, the projects have relatively longer gestation period in completing the projects (vis-a-vis other RE sources like wind, biomass, solar or cogen) due to difficult terrain and limited

ICRA Rating Feature

working season 5 . Secondly, as SHP plants are very site specific and these tend to be in hilly regions, lack of adequate access and evacuation infrastructure can become major issues. Very often, infrastructure such as roads, bridges and transmission lines from the plant site to the nearest motorable road/grid station has to be built by the developers themselves which increases both the gestation period as well as cost/MW. In fact most of the economically attractive potential for SHP in Himalayan and Northern eastern states remains untapped because of lack of adequate grid interconnections facilities and approach roads, which increase the risks involved in transporting heavy equipments to the sites. Thirdly, lack of reliable hydrological data required to assess the viability also remains a major issue. Fourthly, since projects are usually located in hilly and often seismically active regions, they are often impacted by natural calamities such as flash floods, landslides and earthquakes- these calamities can result in significant cost and time overruns. Finally, sometimes SHP developers face objections from the local community. Normally, the issues relate to land, employment of local people and contribution towards local area development. To address these issues State Governments have specific provisions in their policies. For example: the State of Himachal Pradesh require 1% of the project cost to be deposited by the developer for local area development. This apart the SHP developer also engages local residents during construction of the project and as their employees. However, in spite of the measures, a number of SHP projects have faced resistance from local communities.

Although capital costs are typically higher for SHP plants vis-a-vis other RE sources (barring solar), cost of generation is usually competitive; superior also with respect to scheduling

The capital investment required for setting up of power projects from renewable energy sources and consequently the economic viability of such projects is highly resource and site specific. It depends on several factors such as the available potential at selected project site, site specific conditions and size of the project.

Table 2: Capital cost and typical PLF ranges for plants based on different renewables


Capital cost (Rs cr/MW)

PLF (%)

Electricity generation cost (Rs/kwh)









Small Hydro




Solar PV








* assuming purchased bagasse

* assuming purchased bagasse

Source: Ministry of Renewable Energy, ICRA estimates

Capital costs for new SHP plants typically tend to be between Rs. 8-10 crores for plants in Himalayan and North Eastern region and between Rs. 6-8 crores/MW for other regions.

The levelised energy cost for SHPs tend to be in the Rs 3.5-4.5/unit which is comparable with wind (and also coal based power plants not having captive mines) but lower than biomass and solar projects. This arises out of the fact that PLFs tend to be higher for SHP- between 30-40% in Southern India and between 40-60% in the Himalayan and NE regions- as compared to wind or solar. While biomass plants tend to have better PLFs this is offset by the fact that such plants have relatively higher fuel & O&M costs and higher auxiliary consumption which makes biomass power much more expensive.

Apart from cost competitiveness, the other major advantage of SHPs is flexibility with respect to scheduling. Firstly, SHPs typically have an inherent ability for instantaneous starting, stopping and load variations (solar and wind have similar flexibility but not so with biomass and cogen). Secondly, SHPs usually have a limited pondage capacity thus in off seasons when they are generating less than full capacity water can be stored during off-peak hours and utilised during peak hours thus making them suitable as peaking capacities (in peak season they usually run as base loads). Further, for SHPs their maximum power production is in the summer and monsoon months, and a significant part of the generation season coincides with peak seasonal demand in India. Thus subject to adequate hydrology, SHP plants can be operated as peak load stations and are well-suited for merchant operations.

CERC’s tariff regulations for SHP plants are a key positive from the regulatory perspective;

5 Limited work can be carried out in the monsoon season which is usually at least 4 months and also in winter season in the upper reaches of Himalayas


ICRA Rating Feature

For small hydro projects, CERC has prescribed a set of tariff norms, depending on the capacity and location

Table 3: CERC tariff norms for FY2012-13

3.82 4.16 -0.34 5.50 30% 5 MW to 25 MW states Other Below 5 MW 30%
4.16 -0.34
5 MW to 25 MW
Below 5 MW
Uttaranchal 3.25 3.54 -0.29 7.00 45% 5 MW to 25 MW State Normative CUF Capital costs
3.54 -0.29
5 MW to 25 MW
Normative CUF
Capital costs
Levellised Tariff
AD Benefit
Net Levellised
Tariff (Rs./Unit)
Below 5 MW
& NE states

Source: CERC tariff regulations dated 28 February 2012

Some of the key tariff norms are presented in the following bullet list:

  • Generic tariff estimation based on effective Capacity Utilisation Factor (CUF‘s) across various states in India and normative capital and operating cost parameters; option open for project- specific tariff for new RE technologies.

  • Single part levellised tariffs, that is, uniform across the tariff period.

  • Fairly remunerative 21% ―pre-tax return on equity‖ (20% for the first 10 years and 24% thereafter), over the useful life of 35 years

  • Depreciation per annum shall be based on ‗Differential Depreciation Approach' over loan period beyond loan tenure over useful life computed on ‗Straight Line Method‘. The depreciation rate for the first 12 years of the Tariff Period shall be 5.83% per annum and the remaining depreciation shall be spread over the remaining useful life of the project from 13th year onwards. 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.

  • Availment of tax benefit under the Accelerated Depreciation (AD) route is suitably factored in so as to keep the overall pre-tax return on equity from the RE assets at an average of 21%.

  • Upside potential from CDM benefits be retained by the generator to some extent; this could add to project returns.

However adequate hydrology (thus maintaining normative CUF) and ability to limit capital costs at normative levels remain key viability factors ...

While these norms are a positive from the regulatory perspective, SHP projects remain exposed to many

risks. First, the actual pre-tax project IRR that such projects would earn will remain contingent on the key

variables (such as CUF, capital cost, funding pattern and cost of funding) conforming to the CERC‘s assumptions. Any negative deviationsfor instance, the actual CUF being lower than the one assumed in the CERC guidelines or the capital cost being higher than the normative costare likely to have an adverse effect on returns, given the single-part nature of tariffs.

In case of small hydro projects, CUF is an important parameter and is a measure of the estimated energy likely to be generated as a percentage of maximum energy that could have been generated with full capacity utilization of the installed capacity of the project. The CUF for a hydel project would depend to a large extent on parameters such as the prevailing hydrology in the river basin and rainfall (or snowall) in the catchment area. Thus, project developers are exposed to the risk (referred to as hydrology risks) that if in a particular year water availability falls below normative levels, which is not unusual, the developers revenues will fall short of what is required for earning the stipulated returns given that revenues are linked to actual generation.

In ICRA‘s experience, hydrological risk is the single largest risk that a SHP faces post commissioning and a number of SHPs rated by it have seen underperformance with respect to design energy 6 . This underperformance typically arises from two reasons. Firstly, because of inaccurate estimates about design energy in the first place 7 . Secondly, because of natural factors such as adverse weather patterns affecting rainfall (and/or) snowfall or environmental degradation resulting in either reduced waterflows or flooding or excessive siltation which affects plant performance. Finally, in some cases diversion of water upstream for irrigation or other uses.

  • 6 Design energy is the energy which is expected to be generated in 90% of the years of the project’s operational life.

  • 7 Estimation of design energy is usually based on hydrological data provided by bodies such as WAPCOS, CWC and State Irrigation Deptts.


ICRA Rating Feature

The adjoining chart illustrates the adverse impact on IRRs in the scenario of less-than-normative CUFs. At the same time, the single part tariff structure could result in an SHP developer earning much higher returns if actual generation is in excess (which should be deemed as an incentive for higher generation/productivity).

Chart 4: IRR sensitivity to CUF levels (<5MW) MW)

27.0% Pre tax IRR sensitivity to CUF levels- for (less than 5MW SHPs) 25.0% 23.0% 21.0%
Pre tax IRR sensitivity to CUF levels- for (less than
40% CUF (N-5%)
45% CUF
50% CUF (N+5%)
Project IRR
Equity IRR
Pre -tax IRR

Source: ICRA estimates

Chart 5: IRR sensitivity to CUF levels (5-25

27.0% Pre tax IRR sensitivity to CUF levels- for (5-25MW SHPs) 25.0% 23.0% 21.0% 19.0% 17.0%
Pre tax IRR sensitivity to CUF levels- for (5-25MW
40% PLF (N-5%)
45% PLF (Normative)
50% PLF (N+5%)
Project IRR
Equity IRR
Pre -tax IRR

Another risk, in ICRA‘s view is the ability of the project developer to contain the capital costs within

normative levels. This risk is more pronounced in case of SHPs located in north and north eastern states

given the mountainous terrain, comparatively higher cost of transportation and long interconnecting transmission lines from project site to the interconnecting sub-station. Considering this, CERC has fixed the normative cost of Rs 6-6.7 crore/MW for HP, Uttaranchal and NE states, while setting the normative cost of Rs 4.8-5.2 crore/MW for other states. Unlike other RE technologies, a hydel power project does not incur variable costs (typically corresponding to usage of fuels bagasse, biomass, etc.). The fixed costs such as depreciation, RoE and interest are derivatives of the capital cost. Even O&M costs can be determined as a percentage of the capital cost. The charts below depict the IRR sensitivity (based on CERC norms) to plant capital costs:


ICRA Rating Feature

Chart 6: IRR sensitivity to Capital costs

Pre tax IRR sensitivity to Capital costs 18.0% 17.0% 16.0% 15.0% 14.0% 13.0% 12.0% 11.0% 10.0%
Pre tax IRR sensitivity to Capital costs
Project IRR
Equity IRR
Pre-tax IRR

Another issue with SHPs with respect to debt

servicing arises out of the fact that while

generation and hence cashflows are highly

seasonal, debt repayment is usually spread

over the entire year relatively evenly which

results in possibility of seasonal mismatches.

Source: ICRA estimates

Recent amendments to grid code augur well for SHP plants

In the matter of grid integration, the recent amendments in Grid Code are a positive for SHP plants with less than 10 MW capacity. As per the amendments, renewable energy power plants including SHP plants with installed capacity of less than 10 MW (excluding higher capacity SHP plants and non-fossil fuel based

cogeneration plants) will be treated as ‗MUST RUN‘ power plants and will not be subjected to ‗merit order dispatch‘ principles. Also, the allowed variation of up to (+/-) 30% of the schedule and the burden of applicable Unscheduled Interchange (UI) charges to be shared among system users on an all-India basis and not on project developers and permission to fine-tune schedules (based on the forecast) as close as three hours before the actual generation should facilitate further integration of SHP projects.

Present tariff regulations across states are inconsistent are inadequate ...


tariffs in some of the key states

Table 4: SHP Tariff Rates for FY 2012-13- Key States



Date of latest SHP order by SERC

Normative capital cost

Normative PLF



SERC tariff (Rs/unit)


Himachal Pradesh


for <5MW- upto 12 yrs-nil; next







18yrs-12%;balance life-18%



projects comm before Mar 07- Rs 5.5 cr; projects comm during FY08 & FY09- Rs 6 cr; projects comm after April 09-





Pre-tax, 19% p.a. for 1st 10 yrs; Pretax 24% p.a 11th yr onwards


upto 12 yrs -nil; beyond 12 yrs- 15%; beyond 16 years-18%



Rs 3.4/unit for the 1st 10 yrs, without any










> 1 MW and upto and including 5 MW: Rs 5.52 crore/MW; >5 MW to 25 MW:


Pre-tax, 19% p.a. for 1st 10 yrs;




Rs 5.02 crore/ mw


Pretax 24% p.a 11th yr onwards








2.94 for 25 years


Source: SERC's tariff orders and ICRA Research

Note: #: this is for FY 2012-13

While the CERC has put in place tariff norms for SHP plants, State Electricity Regulatory Commissions (SERCs) have been deciding tariff in their respective States. Power being a concurrent subject, 23 State Governments have so far announced policies for private sector participation for the development of SHP projects and setting of tariffs. The SHP tariffs set by the SERCs, being single part, vary widely across States, as Table 4 shows. The divergence is attributable mainly to the varying normative assumptions made for the key parameters, like capital costs, capacity utilisation factor (CUF), O&M expenses, water royalty charges and grid connectivity.


ICRA Rating Feature

Barring MERC and UERC, the SERCs are yet to follow the CERC‘s guidelines on tariff norms. Even in the state of Uttaranchal, the year on year basis variation in capital cost during the control period is not considered, which means that project commissioned at the beginning of control period will have same capital cost as the projects to be commissioned at the end of control period, providing no mechanism for considering the inflation impact in the capital cost. Thus, while CERC has taken lead in providing guidelines for harmonised tariff norms, a fine tuning on project costs assumptions, O&M costs and capacity utilization factor could provide some comfort for convergence in norms.

MNRE’s financial and technical assistance scheme boost private sector participation in small hydro ...

The MNRE has been providing upfront capital subsidy for SHP development over the past 20 years. In December 2009, the ministry revised its guidelines for releasing subsidy to projects set up by private developers. This would continue till March 2012. Previously, the subsidy was release after successful commissioning of the project. Now, it is released in two tranches 50% is disbursed after the order for equipment is placed and the remaining after performance testing of the project. For state sector projects, the subsidy is disbursed in four tranches depending on the progress of the projects. Facilities located in the north-eastern states, Jammu & Kashmir, Himachal Pradesh and Uttarakhand receive a higher level of financial assistance from the ministry. Central Financial Assistance (CFA) is available for renovation and modernisation of old SHP projects as well. The MNRE also provides financial support for promoting technologically advanced watermills and micro hydel projects. In addition to providing financial support, MNRE is also organizing technical support towards survey and investigation, preparation of DPRs, project monitoring and training through Alternate Hydro Energy Center (AHEC), IIT, Roorkee.

Recommended RPO norms and RECs could boost returns over the long term; however strict enforcement of RPO targets and penalty framework remain extremely crucial ...

The NAPCC has stipulated the minimum renewable energy procurement target at 6% of the total procurement in 2010-11, with a 1% year-on-year (yoy) increase for the next 10 years. Thus, if the overall RPO were to be in line with the NAPCC‘s recommendations, the incremental requirement of SHP capacity would be around 5874 MW by FY 2015 assuming the share of SHP in the overall renewable energy remains at 15%. This represents a CAGR of 39% until FY 2015. Another positive development for the renewable energy sector as a whole is the promulgation of CERC regulations for Renewable Energy Certificates (RECs) 8 with the objective of promoting the development of renewable energy and thereby facilitate its inter-State flow. This would enable the obligated entities (distribution utilities and open access customers) across states to meet the RPO target as recommended by NAPCC. Under this framework, states that are unable to meet their renewable energy off-take targets can plug the shortfall by purchasing RECs from renewable energy generators in other states. Thus, states which have already met their RPO targets will have continued incentive to further develop renewable energy projects, given that the entities setting up units there would be able to sell their surplus RECs (that is, in excess of the RPO target) to others.

Further, the commencement of trading of RECs (Non-solar) in March 2011 on the Power Exchange of India Ltd as well as the Indian Energy Exchange Limited is a key positive. Both the traded volumes/price of RECs (combined for both the power exchanges) have improved significantly to 105,000 (@ Rs. 2.9/Unit) in November 2011 from 150 (@ Rs. 1.5/Unit) in March 2011, which further signify a growing demand to meet RPO requirements from the obligated entities and the quarterly compliance requirements as stated in RPO regulations by SERCs in some states. Further, long-term certainty over the pricing range (floor/cap) for REC as per the order issued in August 2011 by CERC is a positive development. The floor price remains unchanged and the same along-with average power purchase cost (APPC) is likely to ensure the economic viability of SHP assets in key states with high hydro potential under the normative assumptions of the CERC.9 However, the benefits of RECs would accrue only to those renewable energy players, which are selling either on the merchant route or selling to utilities at the average pooled power purchase costs (APPC).

While the aforesaid developments are a positive in the long run, there are major lacunae that prevent the realisation of the intended benefits of these measures currently. Firstly, RPO requirements are inconsistent across the states10 and as of now none of the states, including those where the RPO is in any case lower

  • 8 CERC announced the regulations for Renewable Energy Certificates (RECs) in January 2010, and in June 2010 issued orders both for the

floor/cap pricing framework for RECs and the detailed operating procedures for the REC framework. Another order in Aug 2011 was issued for the floor/cap pricing for RECs.

  • 9 Please refer to ICRA’s note on wind energy published in January 2012 for greater details on the REC mechanism. 10 SERCs in 22 states, namely, Andhra Pradesh, Chhattisgarh, Delhi, Gujarat, Haryana, Himachal Pradesh, Karnataka, Kerala, Madhya Pradesh, Maharashtra, Punjab, Rajasthan, Tamil Nadu, Uttar Pradesh, Uttarakhand, and West Bengal came out with their RPO regulations by the end of FY 2007-08 in line with the requirements of the Electricity Act,-2003 and the National Tariff Policy, 2006, the RPO targets laid


ICRA Rating Feature

than the NAPCC norms, have put in place strict enforcement mechanism (especially penalties for underperformance) for ensuring meeting of RPO norms. The variation in RPO targets as well as inability to enforce penalties on failure to meet RPO norms can be attributed mainly to the lack of an operational regulatory framework to facilitate purchase of renewable energy from outside the state, thus constraining SERCs to build in targets on the basis of the locally available estimates of renewable energy. In fact, it is observed that SERCs in a few states such as Chhattisgarh, Haryana, Kerala, Tamil Nadu, Uttar Pradesh and West Bengal have revised their target RPO levels significantly downwards (varying between 27% and 85%) for FY 2012 from the earlier levels set in FY 2010, given that the earlier target levels were quite aggressive in some of these states. Secondly, the REC framework is still in the initial stages of development and is yet to be uniformly adopted by the SERCs. Further, the actual price discovery of REC on power exchange would be market-linked, and would depend on the RPO requirements of the State concerned, the availability of such energy sources, and the extent of enforcement mechanism for penalty for any shortfall in RPO as put in place by the SERCs.

Currently, in most of the states with high SHP potential, APPC + REC or merchant realisations + REC tend to be higher than the preferred tariffs, thus ICRA expects in the long-term more SHPs to opt for the REC route as compared to the preferred tariff route.

Going forward, issuing of RPO guidelines across all states for the long-term; convergence of the same with NAPCC targets; putting in place strict penalties for underperformance on meeting RPO targets and issuing of consistent REC guidelines by SERCs will be crucial for boosting renewable energy capacities including small hydro power.

Upside from CER benefits exist for small hydro plants; however uncertainty continues over Kyoto Protocol Mechanism post December 2012

With CDM in place under the Kyoto Protocol since 1997, the registration of the projects eligible for such

CDM benefits from India by CDM‘s Executive Board as in September 2011 stood at 728, accounting for

about 20.8% of the registered projects with the national authority (for host country approval). Of these projects, biomass-based power plants accounted for 29%; wind energy plants accounted for 20%; waste gas/heat recovery plants accounted for 13%; small hydroelectric projects accounted for 13% and energy efficiency projects accounted for 11%. These projects have already been issued 118.18 million Certified Emission Reduction (CER) units as in September 2011; wind energy projects account for about 10% of the same. (Source: IGCS CDM Project Database).

While the CER benefits are expected to be shared with the beneficiaries (being the distribution utilities) in

accordance with the CERC‘s framework, the incremental IRR should be higher by an average of 1.5% for

the projects over that for projects not enjoying CER benefits (assuming a CER price of euro 10/unit, all other things being equal). However, uncertainties still persist over the approval and registration of such

projects, considering the clause of ‗additionality‘ in the CDM mechanism (the clause requires project

owners to prove non-viability without the CDM benefits).

Further, the first commitment period under Kyoto Protocol is about to end in December 2012 and member countries under Kyoto Protocol are yet to either ratify the existing mechanism or devise any new with a binding commitment period for emission reduction targets post 2012. As a result, there remains a regulatory uncertainty over the continuity of Kyoto Protocol and this coupled with difficult economic conditions/sovereign debt crisis in EU countries is likely to negatively impact the demand potential of CERs and thus, keep its price level sub-dued at the current level (8~10 Euro/CER) in the medium term.

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