, Mitigation of Circular Debt

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Mitigation of Circular Debt

CIRCULAR DEBT ITS CAUSES AND REMIDY

Pakistani power and energy sector is beset with financial woes , this has tesulted in what is called circular debt .Circular debt is an issue that has various agency. a detailed study was commissioned by US AID ( March 2013), the study presented the causes, estimtes and remdies for the circualr debt issues. Ministry of Water and Power presented a policy paper in 2015 (Managing Cicrular Debt , Septemebr,2015)  . The paper presented an anlsysi if the ciauses of circular debt and prseseneted a plan to contin and mitigaite the circular debt issues. The Papers targres are presented as follows :

Circular Debt Flows B.Rs.
		Actual	Projected
Description		2015	2016	2017	2018
Sector Inefficiencies
Line Losses		49937	31950	17948	10533
Tube wells		33504	2328	2377	2253
FATA & Private receivables		41058	41398	25937	21280
Tariff induced  Inefficiencies
Late Payment Surcharge		8272	4971	3950	1658
Debt service Determination delays		22558
Fiscal & Govt Inefficiencies
Determination delays		10600	7600	4560	1824
AJ&K		15238
GST non refund		14296
Govt receivables		13831	3420	1893	1454
Total		209294	91667	56665	39002

 The Government / Power sector institutions have largely achieved the above stated targets. . This success , however, masks shortcomings like : continued subsidization of domestic cutomers by industrial cuatomers ; reduction in theft ; reduction of technical losses to regional and international norms ; 100% recoveries ; FATA and AJ&K power issues ; regulatory refoms ; and privatisation have not revieved the attention these desercved.

Way Forward

The PMLN Government took eradication of load shedding as their election manifesto and after the election resolved to fulfill this promise. This resulted in, more than usual, involvement of Government in affairs of Power Sector entities .This needs to change Government needs to:

1.      Distance itself from the governance of the power sector, control of  entities should be given to corporate bodies and given independence

2.      GoP needs to support NEPRA to put in place a more competitive power sector. A road map to a competitive, market must be approved across the political divide and the plan must be set rolling with c ear goal and timeline.

3.      Tariff and subsidy disputes between Provinces, CPPA and DISCOs need to be settled by negotiations or arbitration.

4.      Legislation making theft of electricity a crime with specific punishments mentioned .and specialized courts established to implement this .

5.      The selection criteria for appointment of DISCOs Board of Directors need to be improved. Members need to have high professional and technical capabilities , be independent of political influence and have full authority for decision making .Training to effectively monitor performance and enforce accountability needs to be imparted to prospective candidates of BoDs.

6.      Eliminate the tariff equalization regime and gradually move to Regulator determined tariff based on true costs. The current cross subsidy between better performing DISCOs and poor performing DISCOs need to be eliminated.

7.      Implement a strong program for energy conservation , demand side management  and efficiency

8.      Measures that promote local sources of energy need to be given special attention. Local coal, Hydropower, solar electrification of tube wells, solar panels for home use in rural and even urban areas needs to be pushed. There is also need to push used of solar for heating applications in Industry and homes, both are competitive. 

Background

Circular debt (CD) occurs when one entity in the power chain is unable to pay suppliers this affects others players as well who are also unable to fulfill their financial obligations. This results in increase in generation costs and unnecessary load shedding as many players in the power chain have defaulted and lest cost dispatch is not possible. Circular debt arises when one party not having adequate cash flows to discharge its obligations to its suppliers withholds payments. When it does so, the problem affects other entities in the supply chain, each of which withholds its payments, resulting in operational difficulties for all service providers in the sector, none of whom are then able to function at full capacity, causing unnecessary load shedding.

CD is the amount of payables within the Central Power Purchasing Agency (CPPA) that it cannot pay to power generation companies (Independent Power Producer (IPP), government owned thermal generation companies (GENCOs), the hydropower producer (WAPDA Hydel) and National Transmission & Despatch Company (NTDC). The revenue shortfall cascades through the entire energy supply chain, from electricity generators to fuel suppliers, refiners, and producers; resulting in a shortage of fuel supply to the GENCOs and IPPs and thereby reduce power generation and thus increase in load shedding.

The cause of circular debt includes:

1.      Poor governance

2.      Delay in tariff determination by an inadequately empowered regulator compounded by interference and delay in notification by the Government of Pakistan (GoP).

3.      A fuel price methodology that delays the infusion of cash into the system

4.      Poor recoveries of energy billed by DISCOs

5.      Delayed and incomplete payments by the Ministry of Finance on Tariff Deferential Subsidy (TDS) and Karachi Electric (KE) contract payments.  

6.      NEPRA sets tariff at 100% recoveries whilst DISCOS have managed to collect between 86% to 94% receivables in various years in the last 10 years or so.

7.      High power loss due to theft and the gap between NERA allowed losses in tariff setting and actual losses incurred by DISCOs and NTDC .

8.      Inability of DISCOs to pass entire fuel cost to customers due to court stay orders.

9.      Increase in receivable for both public and private customers.

10.  Lower efficiencies and higher O&M cost of publically owned generation companies (GENCOs) than those allowed by NEPRA in tariff setting.

11.   Payment of GST upfront in billed amount  

The circular debt numbers that get reported in the press tend to be the sum of the receivables of each organization which ends up exaggerating the amount, simply because of double counting. After all, one party’s payables are the other party’s receivables, and logically these should cancel out when we subtract one from the other. At worst the net amount should be much smaller.

The oil marketing companies sell oil to the IPPs or the Wapda-owned electricity generation plants (called Gencos) which produce electricity and sell it to the government-run distribution companies referred to as DISCOs (for example Lesco, Pesco, etc) which provide power to our homes and factories and bill us for this service. The tariff (price) at which the Gencos sell to the DISCOs and the tariff at which electricity is supplied to us consumers is determined by Nepra, after receiving government approval.

The first problem which results in the receivables not cancelling out payables is when the tariff is unable to meet the costs of its generation and distribution. For instance, if the price of oil goes up internationally and tariffs are not revised upwards to account for this increase, there is an element of subsidy whose cost the government has to pick up. So one component of what constitutes circular debt is the lower rate at which electricity is being charged to the consumer than the cost of its generation and distribution. By failing to foot this subsidy bill the government builds up the circular debt. The bulk of the issue arising from the failure to revise tariffs upwards on a timely basis has been resolved; the remaining adjustment required on this account is Rs100bn for this year, which also includes the cost of poor governance.

Next, three components, and the most critical ones, which raise costs, and feed the circular debt, are the following:

— The inefficiencies of government-owned generation and distribution companies, overstaffing , poor maintenance of plant equipment, obsolete technologies (resulting in technical losses), corruption, all of which simply add to the cost of electricity that consumers are being constrained to bear with equanimity through tariff increases.

— The massive issue of electricity theft — the cases of DISCOs in Hyderabad, Peshawar, Quetta and Fata are now well known; with literally no one paying in Fata.

— Poor collection of electricity bills. 

To summaries, the issues are failures to revise electricity tariffs on a timely basis; prevent electricity theft; and ensure collection of billings speedily and disconnecting those not paying their bills; disconnections will actually also reduce the extent of outages/load shedding. In other words, the principle issue is that of governance.

GENCOs

Publically owned power generation companies or GENCOs are allowed efficiencies that are lower than the actual de-rated efficiencies of their plants. The allowed tariff to these GENCOs, by NEPRA, does not in fact cover costs. GENCO tariffs are based on the heat rates of generating units. The heat rate is defined as the amount of fuel consumed for each unit (kWh) generated. Over time, as efficiencies of generating units have declined, heat rates have increased. The higher the heat rate of the plant, the greater the amount of fuel consumed per unit of electricity generated. There are some allegations of fuel thefts at the GENCOS, which also results in lower efficiency. However, for tariff determination, NEPRA uses lower heat rates versus the actual GENCO rates as shown in below:

HEAT RATES GENCOS and NEPRA ALLOWED HEAT RATES
			Diff
GENCOs	NEPRA	Actual	%
CPGCL (GENCO I)
Block 1	8,533	9,153	7.27
Block 2	9,481	10,200	7.58
Block 3	11,377	13,109	15.22
Block 4	12,189	14,041	15.19
NPGCL (GENCO III)
Unit 1-3 (TPS Muzaffargarh)	10,788	11,677	8.24
Unit 4 (TPS Muzaffargarh)	10,692	11,087	3.69
Unit 5-6 (TPS Muzaffargarh)	12,158	14,164	16.50
Units 1-2 (SPS Faisalabad)	14,368	14,156	-1.48
Units 1-4 (GTPS Faisalabad)	15,366	17,708	15.24
Units 5-9 (GTPS (Faisalabad)	11,701	10,259	-12.32
Unit 1-3 (Multan)	14,114	16,169	14.56
JPCL (GENCO II)
Unit 1 (Jamshoro)	10,655	11,505	7.98
Units 2-4 (Jamshoro)	10,862	12,930	19.04
Unit 1-2 (Kotri)	21,813	22,353	2.48
Units 3-7 (Kotri)	10,564	11,902	12.67

The price of power delivered by the GENCOs is underestimated as it does not reflect the true cost of fuel to the GENCOs. This reduces the GENCOs’ income, resulting in cash flow difficulties, which causes the GENCOs to postpone maintenance and other essential expenses, including payment to fuel suppliers. A heat rate audit needs to be conducted to establish new benchmark heat rates for NEPRA to use for tariff determinations. Until this audit is conducted, NEPRA cannot update its heat rate figures for use in setting tariffs for the DISCOs.  In recent rulings NEPRA has allowed GENCOs and KE plants to carry out independent efficiency audits , these tests are also to be supervised by NEPRA .

GENCOs O&M Rates

NEPRA does not allow the actual GENCOs O&M costs, this result in lower recoveries than cost by GENCOs.

NTDC LOSSES

The NTDC also failed in keeping its transmission losses for the 500/220 kV transmission network within NEPRA-approved limits Presented as follows

NTDC actual and NEPRA allowed losses
										Growth %	Growth %	Growth %
		2009	2010	2011	2012	2013	2014	2015	2016	FY 09-13	FY13-16	FY13-16
Allowed	%	2.5	2.5	2.5	2.5	2.5	2.5	2.5	2.5
Units for Trans	GWh	82702	87115	90575	88987	87080	94089	95979	100871	1.30	5.02	2.88
Losses	GWh	2959	2740	2740	2508	2656	2587	2620	2623	-2.66	-0.42	-1.71
Losses	%	3.58	3.15	3.03	2.82	3.05	2.75	2.73	2.60	-3.91	-5.18	-4.46
Diff		1.08	0.65	0.53	0.32	0.55	0.25	0.23	0.10	-15.48	-43.28	-28.76

 Had the high transmission losses been restricted to the regulatory target, the accumulation of circular debt in FY 2009, FY 2010, and FY 2011 could have been reduced by Rs11 billion and over 40 MW capacity released, reducing load shedding by this amount close to the Regulator allowed losses . The above suggests that there is increased economic activity in the period 2013 to 2016 than in the period 2009 to 2013 there has been a steady decrease in losses, with increased investment in transmission it is likely that transmission losses will be within the regulator set limits although transmission demand is also growing. and the regulator set losses targets are   moving targets ..

.

Tariff Differential Subsidy (TDS)

NEPRA determines tariffs based on analysis for all customers in all DISCOs, these differ widely among DISCOs. , the Government deems it essential to have the same tariff for the same type of customer for all DISCOs. NEPRA law does not allow tariff be set above the one determined by NEPRA. This therefore requires that the tariff for each customer category class be set equal to the lowest such tariff determined by NEPRA. This also means that Government will have to pick up the difference. This subsidy to equalize tariff forms a major part of the circular debt since the government subsidy is not always equal to the requirement and it is not always paid in time. The following is an example of how TDS works.

TARIFF DIFFERENTAIL SUBSIDY - CALCULATION 2011-12
					Subsidy
Consumer	NEPRA	Gov	Subsidy	Subsidy	% Total
	Rs,/kWh	Rs,/kWh	Rs./kWh	M.Rs.	%
Domestic upto 50	3	2	1	2300	0.64
Domestic  01-100	9.9	5.8	4.1	54200	15.09
Domestic  101-300	13.1	8.1	5	55000	15.32
Domestic  301-700	15.5	12.3	3.2	12300	3.43
Domestic  over 700	17.2	15.1	2.1	2800	0.78
Domestic Total				126600	35.25
Commercial	14.4	11.4	3	12400	3.45
Industrial	12.9	10.3	2.6	54000	15.04
Bulk Supply	13.1	10.3	2.8	4000	1.11
Tube wells	12.6	9.4	3.2	28000	7.80
Others	14.1	10.8	3.3	7500	2.09
Total	12.57	9.55	3.02	359100

 Delay in Notification of the Decisions/Determinations of the Authority:

Upon intimation by the Authority and non-submission of the re-consideration request, the Federal Government pursuant to Section 31(4) of NEPRA Act, is required to notify the Authority’s approved tariff, rates, charges, and other terms and conditions for the supply of electric power services by generation, transmission and distribution companies, in the Official Gazette, within 15 days. As per NEPRA record, a large number of notifications (79Nos, in 2015) in respect of NEPRA’s determinations/decisions, were pending with Ministry of Water and Power, either for notification or of notified, 

Delays in tariff determination and notification contributed Rs72.19 billion11 to the circular debt for FY 2012. Tariff determinations for all nine DISCOs were delayed for nine months and it took an additional month for the notification to be published. Consumer tariffs in 2011-12 were largely based on 2010-11 tariff values whereas the actual fuel cost for 2012 was 52% higher than the previous year. Without new tariff values from NEPRA and the GOP, the DISCOs had no chance to receive the necessary cash required to meet their monthly wholesale power cost.

Once NEPRA determines the tariff, the GOP reviews it and officially notifies a tariff after modifications as deemed appropriate. Although NEPRA has reduced the time it takes to determine tariffs, the determination procedure still takes many months. In addition, tariff setting lacks independence, as the GOP notification process often results in a delay and/or reduction in the tariff due to political considerations.

Circular debt solution

The Government in 2015 issued a paper that intended to reduce Circular Debt. The objectives were:

1.      Maintain a cap of Rs. 314 billion on the Circular Debt  

2.       Reduce circular debt from Rs. 314billion ( end June 2015) to Rs 212 billion by FY2018 and

3.        Reduce PHCL debt from Rs 335 billion to Rs 220 billion by FY2018.

These objectives were to be achieved by the following measures:

Improved  Efficiencies.

The strategy for improving efficiency was based on a gradual decrease in the losses and increase in the collections from consumers. Working on the same strategy, collections have seen an improvement in FY 2015 in the range of 89.2% as opposed to the previous rate of recoveries in FY 2014 of 87%. Losses stabilized at 18.7% in the same period. The plan for management of CD until the end of FY 2018 is based on the same strategy and principles.

The objective has been partly achieved. Recoveries are presented as follows:

Recoveries : Billings and Collections DISCOs
	FY 2012-13				FY 2013-14				FY 2014-15				FY 2015-16				Growth
	Billing		Collection		Billing		Collection		Billing		Collection		Billing		Collection		Billing	Collection	Difference
DISCO	M.Rs	% share	M.Rs	% 0f Billing	M.Rs	% share	M.Rs	% 0f Billing	M.Rs	% share	M.Rs	% 0f Billing	M.Rs	% share	M.Rs	% 0f Billing	%	%	%
LESCO	163868	21.43	160340	97.85	226044	23.39	221239	97.87	225481	22.24	216190	95.88	233501	23.41	231638	99.20	9.26	9.63	0.38
GEPCO	63705	8.33	62588	98.25	86026	8.90	82708	96.14	90872	8.96	88272	97.14	96437	9.67	95863	99.40	10.92	11.25	0.33
FESCO	95606	12.50	94711	99.06	124665	12.90	124729	100.05	128180	12.64	128255	100.06	133330	13.37	133416	100.06	8.67	8.94	0.27
IESCO	84123	11.00	79445	94.44	110070	11.39	99519	90.41	109958	10.84	99967	90.91	113756	11.41	103460	90.95	7.84	6.83	-1.01
MEPCO	107932	14.11	99035	91.76	138621	14.35	133127	96.04	138646	13.67	141881	102.33	141677	14.21	141663	99.99	7.04	9.36	2.32
PUNJAB	515234	67.36	496119	96.29	685426	70.94	661322	96.48	693137	68.36	674565	97.32	718701	72.06	706040	98.24	8.68	9.22	0.55
Share %	67.36		69.26
PESCO	71749	9.38	60700	84.60	82921	8.58	71537	86.27	105933	10.45	93258	88.03	91672	9.19	81119	88.49	6.32	7.52	1.20
TESCO	15025	1.96	17948	119.45	15740	1.63	1264	8.03	15072	1.49	11472	76.11	4692	0.47	20507	437.06	-25.25	3.39	28.63
NWFP	86774	11.35	78648	90.64	98661	10.21	72801	73.79	121005	11.93	104730	86.55	96364	9.66	101626	105.46	2.66	6.62	3.96
Share %	11.35		10.98
HESCO	33944	4.44	27560	81.19	40199	4.16	31829	79.18	45714	4.51	35768	78.24	49009	4.91	35331	72.09	9.62	6.41	-3.21
SEPCO	33024	4.32	17708	53.62	33933	3.51	19875	58.57	36706	3.62	21222	57.82	36309	3.64	19923	54.87	2.40	2.99	0.59
SINDH	66968	8.76	45268	67.60	74132	7.67	51704	69.75	82420	8.13	56990	69.15	85318	8.55	55254	64.76	6.24	5.11	-1.13
Share %	8.76		6.32
Export to KESC	59026	7.72	84000	142.31	62409	6.46	60961	97.68	51572	5.09	36000	69.81	40639	4.07	38379	94.44	-8.91	-17.78
QESCO	36007	4.71	11461	31.83	44962	4.65	18968	42.19	65166	6.43	21223	32.57	55339	5.55	39640	71.63	11.34	36.37	25.03
Share %	4.71		1.60		4.65		2.19		6.43		2.37		5.55		4.21
IPPS	833	0.11	826	99.16	640	0.07	792	123.75	619	0.06	629	101.62	993	0.10	987	99.40	4.49	4.55
Total	764842		716322	93.66	966230		866548	89.68	1013919		894137	88.19	997354		941926	94.44	6.86	7.08	0.22

Collection figures for FYs 2017 shows further improvement in the recoveries position. Losses also have registered an improvement. Losses are presented as follows:\

T&D LOSSES
	units for	units	units	units
	Trans	billed	lost	lost
Year	M.kWh	M.kWh	M.kWh	%
2009	82702	62286	20416	24.69
2010	87115	68878	18237	20.93
2011	90575	71672	18903	20.87
2012	88987	71368	17619	19.80
2013	87080	70508	16572	19.03
2014	94089	76543	17546	18.65
2015	95979	78113	17866	18.61
2016	100871	81737	19134	18.97
Growth	2.88	3.96	-0.92	-3.69

The regulator allowed higher losses in FY 2015 than in FY 2014,  this is presented as follow:

COMPARASION OF LOSSES in FY 2014 and FY 2015
Description	LESCO	GEPCO	FESCO	IESCO	MEPCO	HESCO	PESCO	SEPCO	Total
Allowed losses
FY 2016 %	11.75	9.98	9.50	9.39	15.00	20.50	26.00	27.50	15.23
Actual losses
FY 2016 %	13.94	10.58	10.24	9.09	16.45	26.46	33.76	37.87	17.95
Allowed losses
FY 2015 %	11.75	9.98	9.50	9.44	15.00	20.50	26.00	27.50	15.30
Actual losses
FY 2015 %	10.80	11.20	9.10	9.80	15.70	27.90	37.40	36.50	19.70
Allowed losses
FY 2014 %	9.01	9.98	9.50	9.45	15.00	15.00	20.00	20.00	13.05
actual % allowed	91.91	112.22	95.79	103.81	104.67	136.10	143.85	132.73	128.76
allowed 2015 % 2014	130.41	100.00	100.00	99.89	100.00	136.67	130.00	137.50	117.24

 NEPRA issued the tariff determinations for FY 2014 for most of the DISCOs in January 2014. Allowed losses for DISCOs for 2013-14 were 13.02% compared to 18.7%. The 5.6% difference between determined loss and actual loss accumulated as CD of Rs 33.6 billion in FY 2014. The determinations for FY 2015 allowed 15.3% compared with expected losses of 18.70%, narrowing the gap between allowed and actual losses but will still result in accumulation of CD of Rs. 32 billion due to increase in generation.   . For the purposes of this CD management plan, it was assumed that reductions in losses will reduce the flow of CD from Rs. 32 billion to Rs. 11 billion  Losses for FY 2017 have been reported to be 16.3%.  

 

Surcharges:

Surcharges are levied under Section 31(5) of the Regulation of Electricity Generation, Transmission and Distribution Act 1997 (the NEPRA Act). Surcharges will be set at the level that will rationalize subsidies and allow recovery of full cost of supply of electricity. This, however, will not completely eliminate the subsidization of domestic sector by the industrial sector.

The impact of surcharges on tariff determinations is illustrated by the following:

Variable charge FY 2016 to FY 2020 for B-3 Consumers. Rs./kWh
	LESCO	FESCO	MEPCO	GEPCO	IESCO	PESCO	HESCO	SEPCO
peak	13.85	14.55	14.50	15.80	14.30	15.70	15.45	19.60
off peak	6.85	6.25	6.80	9.50	6.70	9.65	9.25	12.75
Re-determined Tariff
peak	14.87	14.48	13.32	15.22	14.85	18.90	18.49	20.56
off peak	7.97	6.51	7.32	8.42	7.05	13.05	12.50	14.31
Latest consumer tariff
peak	16.04	16.23	16.37	15.36	16.63	19.82	21.96	22.45
off peak	9.16	8.26	10.37	8.56	9.03	13.97	16.06	16.20
Latest tariff 5 of original tariff determined
peak	15.81	11.55	12.90	-2.78	16.29	26.24	42.14	14.54
off peak	33.72	32.16	52.50	-9.89	34.78	44.77	73.62	27.06

The government is expected to increase the tariff by more than Rs2 per unit with the addition of surcharges to make the tariff uniform for all Discos because tariffs for SEPCO, HESCO and PESCO are very high.  Although this will significantly reduce the deficit   the inherent cross subsidization of domestic consumers by Industrial consumers will not be mitigated. An analysis of tariffs on marginal cost basis and on financial basis is presented as follows:

The Initial development of LRMC has been made without the use of WASP simulation model. The capacity LRMC at generation level is based on the assumption that the plant at the margin will be an Open Cycle Gas Turbine (OCGT).  The WAPDA System is evolving from an `energy constrained’ system into a `demand constrained’ system. Un-served energy and demand which was a result of failure to provide firm energy in the water dry (winter) months is now occurring due to system inadequacies during high demand periods. Periods of annual demand and daily demand will in future occur when the system is at the maximum strain the least cost response to demand increment can be summarized as follows:

.                  LRMC estimates are derives on basis of: Capital cost of the plant at the margin, which is believed to be an OCGT; Cost incurred due to enhanced un-served energy due to the fact that in early plan periods Benefit in terms of energy cost savings due to advancement of base load thermals and hydel plants in response to increase in demand and consequent decrease in total energy cost. This results in the capacity marginal cost at generation level to be about 90% the cost of an open cycle gas turbine. LRMC estimates at an oil price of 52$ /bbl are as follows :

Table - : LRMC Estimates
(Based on oil price of US$52)
Voltage Level	Capacity	Peak Energy	Off Peak Energy
	$/kW	c/kWh	c/kWh
Gen	417	10.24	6.39
500 kV	506	10.41	6.51
220 kV	540	10.59	6.58
132 kV	623	10.91	6.74
66 kV	718	11.23	7.00
11 kV	755	13.72	8.96
0.4 kV	970	16.35	10.25

                       Tariffs for a B-1 industrial consumer (load factor 0.4, coincidence 0.40),, a medium consumption domestic consumer( load factor 0.35%, coincidence 0.95) and a higher consumption commercial customer(load factor 0. 55, coincidence 1.0) is presented as follows :

Tariff : Financial vs. Marginal
		Tariff Rs./kWh
Customer				Financial
Category		Financial	Marginal	% Marginal
Industry		13.46	11.59	16.19
Domestic		10.25	15.29	-32.98
Commercial		16.30	15.14	7.65

                  The above is based on financial tariffs that are still under revision. The domestic customer is subsidized by industrial customer. The high industrial tariff has repercussion in industrial production and upon exports.

Privatization Receipts:

With the majority of DISCOs in the privatization plan of the GOP, the receipts from privatization will be partially used to reduce/offset the stock of the PHCL debt and will reduce the need for budget to finance costs that cannot be met from other revenue sources. The CD management plan is thus dependent on the privatization of the DISCOs and GENCOs. There has been no progress on this count. Government in recent moves has indicated bifurcation of four DISCOs to make these more attractive to investors.

Low Collections by DISCOs from Private and Government Consumers

Collections from private sector in most of the DISCOs have been an issue which contributed to the buildup of CD. Actual recovery fluctuates between 89-91% for the financial year 2015, whereas tariff determinations assume 100%. Low collections have created a shortfall of Rs. 114 billion from private consumers since the clearance of CD in July 2013. This less than 100% collection is more pronounced in the five poorest performing DISCOs namely PESCO, TESCO, HESCO, SEPCO and QESCO.

  The plan was divided into three parts. For all five distribution companies, recoveries will be managed through power rationing. Experience in K-Electric has shown that this kind of approach can improve collections significantly and quickly. For all DISCOs, the aggregate technical and commercial losses (ATC) for each feeder will be categorized by feeder into four: low (<10 and="" atc="" high="" medium="" very="">40% ATC). The second part of the plan is to outsource to the private sector collections of bills in areas where recoveries are weakest, based on the same categorization mentioned in the preceding paragraph. This will build on experiences in K-Electric, LESCO, MEPCO and PESCO areas. 

The third part will address collection of Federal and Provincial government bills. For all Federal accounts, MOWP will notify DISCOs that non-payment beyond the billing cycle of 45 days should result in disconnection, per commercial procedures. MOWP will move a summary to the Council of Common Interests (CCI) proposing more stringent requirements for Provincial departments.   It will request CCI to approve 100% deduction at source in the case of non-payment and disconnection for non-payment beyond normal commercial terms. MOWP will require DISCOs to take more rigorous action following disconnection, requiring prepayment for electricity before reconnection is approved

The Government has already started action of collection from private consumers including initiation of revenue based load shed mechanism based on feeder wise AT&C losses. If the recovery is not affected, then the recovery will be ensured through law enforcement agencies (NAB and FIA) and incentive packages. The rationing system was introduced from August 1, 2015. Recoveries have in fact shown an improvement , FY 2015 recoveries were  94.4% .

GENCO Heat Rates

 Recent moves by the regulator have allowed some relief. Adjustment on Account of Calorific Value (CV) of fuel, GENCOs were directed, to maintain and submit, on quarterly basis, a detailed record of consignment wise CV of the oil received and consumed for power generation, for the adjustment on account of variation against the reference CV, duly supported with copies of test reports, certified by fuel supplier: and provision for part load operation. Allowed part-load adjustment by approving partial loading curves for TPS Jamshoro and TPS Muzaffargarh, and allowed the adjustment on account of partial loading, if the units are partially loaded in instructions of system operator (NPCC). In order to safeguard the interest of end-consumers, the Authority has decided to treat availability of GENCO power plants, on similar lines as the IPPs. Therefore it has directed the power purchaser not to pay capacity charges to the GENCO power plants in case the power plant is not available as per PPA’s requirement.

Conclusions

The issue of financial non-viability of the power sector structure has existed for a long time and is, historically, the result of poor governance, delays in tariff determination and notification process, gap in performance of DISCOs to achieve the targets set by regulator and prolonged stays on fuel price adjustments (FPAs) granted by the courts. There are other factors too which contribute to the continuous growth in the Circular Debt. Successive governments have made efforts to improve the power sector cash flows through various measures including reducing litigations on FPA determination and notification process, improving governance through re-constitution of Boards of Directors (BODs) with more representation from private members, signing of performance contracts with BODs and tariff rationalization. However, despite all the reforms, power sector cash flows remained under pressure and resultantly delayed the payment to power generators and fuel suppliers. Despite the clearance of Circular Debt through a one-time Government grant of Rs 480 billion in 2013, the outstanding arrears to power companies had once again climbed back up to reach Rs. 850 billion by May 2018.

The accumulation of arrears towards power generators and fuel suppliers resulted in less than optimal utilization of power plants and caused massive power deficit in the country. For the first time in 2014, the Economic Coordination Committee of Cabinet (ECC) defined the term “Circular Debt” as the amount of cash shortfall in CPPA-G that it cannot pay to power supply companies. This shortfall is the result of (a) the difference between the actual cost of providing electricity in relation to revenues realized by the power distribution companies (DISCOs) from sales to customers plus subsidies; and (b) insufficient payments by the DISCOs to CPPA out of realized revenue as they give priority to their own cash flow needs. This revenue shortfall cascades through the entire energy supply chain, from electricity generators to fuel suppliers, refiners, and producers; resulting in a shortage of fuel supply to the public sector thermal generating companies (GENCOs), a reduction in power generated by Independent Power Producers (IPPs), and an increase in load shedding. Table below briefly lists some of the reasons for accumulation of Circular Debt and recommendations for addressing them.

Table: Proposed Solutions for Reducing/Eliminating Circular Debt (CD)

Issue	Recommendation	Rationale
Lingering Tariff Dispute with GOAJK	·  In order to stop the accumulation of receivables in future, the Tariff for GoAJK should be determined as Rs. 5.79 / KWh as agreed by AJK and the same may be notified by GOP. ·  Modalities to be finalized between Ministry of Finance and Ministry of Energy for settlement of outstanding receivables	To reduce the CD accumulation
Non-Settlement of Issues with FBR and blockage of refunds	·  Recovery of blocked refunds from FBR and out of court settlement of all the disputes with FBR. ·  Zero Rating for Power Sector to stop the blockage of refunds in future	To improve financial viability of DISCOs and payments towards CPPA
Delay in Tariff Notification	·  Notification of pending determined tariff Including Multiyear Tariff	To ensure recovery of tariff from either consumer or through subsidy as per determined cost
Line Losses & Recovery difference with NEPRA Target	·  Review of targets by Regulator ·  DISCOs to take necessary measures to control the line losses and improve recovery	To reduce the CD accumulation
Receivables Issues related to FATA  & Baluchistan Tube Wells	·  Policy measures planned in 2015 to be implemented ·  Ministry of Finance to allocate sufficient subsidy budgets for FATA & Baluchistan Tube wells to stop the flow.	To reduce the CD accumulation

Other needed measures

·      Implementation of at-source deduction mechanism for recovery from Government Departments as per CCI decision

·      Implementation of Cost of Service based Tariff to eliminate cross subsidies

·      Improvement in the overall generation mix by inducting less costly power plants

·      Improving governance leading to phase wise privatization of all DISCOs & GENCOs

Update: Jan., 2, 2019: The Ministry of Power Division on Tuesday informed the Public Accounts Committee (PAC) that the amount of circular debt had reached Rs755 billion

Power Division has submitted the following recommendations in order to resolve the long outstanding issues: (i) Nepra's determined tariff for 1-100 unit slab of domestic category will be applicable for AJ&K from January 1, 2018, currently which is Rs 5.79/kWh. Difference between bulk supply tariff and 1-100 unit tariff will be provided by Finance Division. The arrangement will continue till next Nepra tariff determination of 2018-19; (ii) bulk power supply to AJ&K may be made from CPPA-G as is being done in case of K-Electric as per tariff determination by Nepra; (iii) Finance Division may provide sufficient budget for AJ&K electricity bill. Appropriate provisioning in AJ&K budget will eliminate any financial built up or need for electricity subsidy for AJ&K and; (iv) Finance Division may frame a mechanism for clearing the stock of dues which have piled up from 2011 onwards.

Update: Jan., 5, 2019: circular debt   has now crossed about Rs1.4tr. In August 2018, this would mean that the circular debt has climbed by more than Rs200bn in the 137 days since August 2018.  For perspective, consider that the same figure stood at Rs922bn at the end of November 2017, meaning that the size of the debt increased faster from August till today than it did in the preceding ten months. At the moment, increasing quantities of power sector inefficiencies are being passed onto the consumer through miscellaneous surcharges and an elevated target for losses allowed by NEPRA. The power sector is crying out for proper leadership, and the costs of inaction are rising by the day.

Circular Debt; May, 7, 2019: Circular debt, which increased by Rs450 billion during 2017-18, would be eliminated by next year; Prime Minister was informed on Monday. Circular debt, caused by debt piled up due to electricity leakages, theft and low recovery of bills from many state-owned offices, schools, police stations, mosques, monuments and others, has crossed the Rs1.4 trillion mark. The meeting was informed that circular debt would be brought down to Rs293 billion during the current year and to Rs96 billion by 2019-20. It was told that the ministry’s drive to curb power theft and recovery of dues had brought in positive outcomes. Within four months, the additional power dues worth Rs48 billion had been recovered that would touch Rs80 billion mark by year end and Rs190 billion till June 2020. The prime minister was told that the special focus given to handling the losses caused by theft, technical and transmission issues was coming to fruition. As a step to curb power theft, 27,000 first information reports (FIR) had been registered against those involved, while 4,225 people had been arrested including 433 officials of the power sector. Moreover, another 1,467 officials had been charge-sheeted.  

Circular Debt: Tube well conversion to Solar: May, 10, 2019: The Baluchistan government has decided to switch tube-wells installed in the fields in the province to the solar system. There are around 29,000 agriculture tube-wells running on electricity across the province. It was decided that the geo-testing mechanism will be adopted for the verification of tube-wells. 

Circular debt retirement; July, 30, 2019: The government will be raising about Rs200bn through Islamic bonds next month to reduce circular debt after securing about Rs11bn relief from independent power producers (IPPs )

The government has now finalised those negotiations under which the 10 IPPs, which had won international arbitration against the government, have agreed to reduce their mark-up payments on overdue arrears from Kibor plus 4.5 per cent to Kibor plus 2pc. They have also agreed to apply mark-up after 90 days of non-payment instead of the existing 35 days, while the mark-up will now be payable on the outstanding amount once instead of compound interest rate. As a result, the government is estimated to get a financial relief of about Rs11bn against the original cost of about Rs34bn awarded in favor of the IPPs by the LCIA. The two sides are expected to sign the settlement agreement over the next couple of weeks.

 Power division had started negotiations with the 10 IPPs set up under the 2002 power policy for out-of-court settlement of originally Rs16bn award allowed by the LCIA. The arbitration cost had increased to Rs34bn on account of interests and other costs. An official in one of the IPPs said the government might be overestimating the relief because the negotiations were limited to the extent of interest payments. It might be a couple of billions of rupees and nothing like Rs11bn, he said, adding that the out-of-court settlement would be a time-bound discount and in case of non-clearance of dues within 45 days, the original mark-up would get revived.

Simultaneously, officials are expecting that Rs200bn Sukuk financing will also be approved by the Economic Coordination Committee (ECC) of the cabinet later this week to ensure timely clearance of not only the arbitration liability to the litigants but also other outstanding dues to all the IPPs and fuel suppliers suffering cash flow problems because of around Rs1.4 trillion circular debt.

An official said the ECC had approved in principle up to Rs400bn Islamic financing for the power sector in February this year in two phases, but a fresh approval by the ECC as well as the cabinet was required for the second tranche because of changed financing costs arising out of more than 500 basis points increase in the central bank’s policy rate to 13.25pc under the IMF programme.  Pakistan.

The assets belonging to a number of public sector power companies have been mortgaged in favour of the financiers as well as the previous bond backed by a government guarantee with a 10-year maturity at a rental return of Kibor plus 80 basis points. The bonds entail half-yearly rental repayments from the date of draw-down and repayments are made directly by the central bank on the basis of a budgetary allocation by the finance ministry on its standing instructions to direct debit for return and maturity repayment at the SBP counter.

The boards of directors of all power distribution and generation companies have agreed to pledge the properties/assets in the trust for banks. Some additional properties and assets have been selected in the distribution and generation network as collateral against rental payments.

At present the National Electric Power Regulatory Authority, National Accountability Bureau and newly created Inquiry Commission on Debt are probing the IPPs financials for purported higher than normal profits. The government is also considering appointing a specialized commission comprising international engineering, legal and financial experts on the issue.

Losses decreased: Aug., 12, 2019: The power sector has achieved in its revenues a record increase of over Rs121 billion while curtailing line losses worth Rs16bn, or 1.4 per cent.The initiatives include both administrative and technical measures pertaining to system augmentation and upgradation. Under the campaign to curb electricity theft, Rs1,368 million was recovered from 5,318 power thieves after registering 36,000 FIRs against them.   The Aerial Bundled Cable is another project to control and pre-empt illegal connections through direct hooking, thereby controlling the menace of kundas and reducing line losses in high-loss areas. The Peshawar Electric Supply Company and Sukkur Electric Supply Company have already started installation of these cables as and where they clear feeders in their anti-theft campaign. The anti-corruption and anti-theft drive has shown positive effects on recovery of outstanding dues as well. It has motivated the consumers to pay the bills in time. Discos’ recovery has shown an improvement of 1pc since the launch of the campaign.

The distribution companies (Discos) are facing revenue shortfalls. In 2018-19, about 93,887 million units worth Rs1.342 trillion were billed to consumers against which recovery of Rs1.061tr was made indicating a recovery percentage of 79.06pc.

The shortfall resulted in less receipt of revenue by the Discos, showing `managerial inefficiencies and policy bottlenecks constraining the Central Power Purchasing Agency (CPPA) to pay-off its energy procurement liabilities.

Compared with the last financial year, there was an improvement of 1pc in revenue recovery. Still, the recovery shortfall of 21pc posed a significant operational challenge for Discos. Recovery in Hyderabad, Tribal, Quetta and Sukkur companies was 54.17pc, 18.92pc, 24.29pc and 38.54pc respectively only in 2018-19.

Losses beyond the limit set by Nepra meant financial losses for the company as well as a cyclic increase in the CPPA receivable amounts pertaining to Discos.

The rest of T&D losses in Discos and the financial impact thereof amounted to Rs37.5bn and Rs35.8bn in 2017-18 and 2018-19.

This implies that the performance of Discos in reducing T&D losses remained unsatisfactory. Moreover, it also shows that the development initiatives being made in these companies for enhancing the power transmission and distribution system are yet to make any appreciable impact.

Huge receivables from running and dead defaulters remained another major challenge. Over the years the volume of receivables from running and dead energy defaulters have increased significantly and it has become an important cause for power sector debt accumulation. As of June 2019, the total receivables from running and dead defaulters amounted to Rs572.179bn. Of this, Rs476.932bn pertained to running defaulters and Rs95.247bn to dead defaulters. Such a huge amount of receivables has added to the financial crunch in the power sector that demands immediate consideration and intervention.

Due to late payment of government subsidies like tariff differential subsidy, agricultural subsidy for tubewells, other provincial government subsidies, subsidy to Azad Jammu and Kashmir government and outstanding payments from K-Electric, Rs.549.2bn were held up as of June 2019. These receivables are adding up into the overall circular debt of the power sector. As on June 30, 2019, the total amount of circular debt stood at Rs.1.517tr including Power Holding Private Limited loans of Rs809.840bn from Rs1.160tr in 201718, registering an increase of Rs357.378bn or 31pc in the one financial year.

The electricity generation in FY19 grew barely 1 percent year-on-year to 122 billion units, which translates into 103 billion units of actual consumption, after factoring in the system losses. The losses have continued to be high, close to 20 percent, and in cases of some discos, even higher than easier thresholds. The regulator's inability to have a tighter control and instead allowing far more than threshold losses as part of final tariffs, has been a massive problem, and there was no progress on this front.

  Nonetheless, the improvement did come in FY19 as the share of furnace oil based generation was reduced to single digits, while that of imported LNG and coal based generation reached new highs.

It would have been much nicer, had the benefit of a much improved generation mix been transferred to the consumers. But in fact the tariffs kept on increasing as Pakistan entered yet another IMF programme. The tariff increase was made a structural benchmark, in order to reduce the cost differential and put a lid on the ballooning circular debt, which had crossed Rs 1 trillion.

The tariffs have been increased across user categories, barring domestic consumers using up to 300 units a month. This in itself is more of a problem, as nearly 80 percent of domestic power consumption is exempt from tariff increase, and the allocated subsidy of nearly Rs150 billion in the budget, does not cover up for the same.

The rise of unfunded subsidy has been a major problem, and the issue exacerbated with the government's relief scheme for industrial users in general and export industries in particular. That takes out another 25 percent of total power consumption out of the tariff hike, instead this requires room for more subsidies, which have not been allocated. Either the government will have to roll back some of it, or will end up running higher subsidies, or in case of delayed payments, another round of circular debt may well be in the offing.

  the capacity payments. Not that the government is not looking to recover the difference between price and cost, but there is little debate on the elephant in the room, that is the capacity payment component. The amount of upwards adjustment that may be required for FY19 determinations for respective discos, could be too hot to handle. The IMF is not the worry as far as the power prices are concerned, capacity payments are.

The capacity payments in FY16 were Rs280 billion or Rs3.4 per unit sold. This increased to Rs644 billion or Rs6.2 per unit in FY18, constituting almost 60 percent of the power purchase price

The dependable generation capacity in FY19 went up by almost 20 percent year-on-year to 31000 MW. The demand did not grow. The RLNG plants are fully available, among many others from the CPEC projects. No demand growth and higher generation availability, with contracts based on take-or-pay, it is estimated that the capacity payments component for FY19 would be north of Rs900 billion. The currency devaluation has also played its role.

Now with almost Rs9 per unit as capacity payment, it is obvious that the benefit of lower fuel price and improved generation mix was never going to materialize. And there is more to come in lieu of tariff adjustments. The latest IMF programme, like any other IMF programme, is overly focused on price as the key to reforms. Yes, price is an integral part of the power sector reforms, but it is surely not the only one. It did not work back then, it will not work now. The government is due to announce the revised tariffs for FY19 by September end, as per the IMF's structural benchmark. And the budgeted subsidy may not be enough to cater for the increase.

The governance reform, the focus on transmission, privatization of DISCOs and commercially opening up the market are all key component of the reform, which have sadly taken a backseat, as price becomes the focus. The first year was a missed opportunity; the second could be a disaster, if they don't look beyond pricing as means of reforms.