India Utilities Sector: Key factors to watch from SLC meeting

India Utilities Sector: Key factors to watch from SLC meeting

● The Standing Linkage Committee (SLC) meeting is scheduled to
be held on 14 Feb 2012, after a long gap of 10 months.
● Most importantly, SLC would decide fate of coal supplies to 44 GW
of capacity, where developers have missed project completion
milestones. Confiscation or increase of performance guarantees or
cancellation of LoA would be negative for power developers.
● Coal India has already issued LoAs for 109 GW capacity but based
on its XII Plan production targets, it will not be able to meet its entire
coal requirements. Assuming a part of this capacity is likely to be
shelved (for various reasons), SLC plans to finalise a list of projects
that are likely to be implemented over the next five years.
● However, this indicates Coal India’s limited ability to meet coal
requirements of any incremental project. But, pipeline projects
awaiting LoAs form a sizeable share of most developers’ planned
capacity. Lack of fuel visibility for new projects does not augur well for
BHEL’s business model. We reiterate UNDERPERFORM on BHEL.

SLC meet to decide fate of coal supply for 44 GW of
delayed projects
Under the current New Coal Distribution Policy, 2007 (NCDP), coal
supply (from Coal India) is provided to a power project developer only
based on a contractually binding Fuel Supply Agreement (FSA). The
procedure to procure a FSA is highlighted in Figure 1.

Obtaining a letter of assurance (LoA) is a pre-cursor to procuring an
FSA and has several implementation milestones that need to be
achieved in a time-bound manner. Inability to meet these milestones
on time attracts financial penalties and also risks cancellation of the
LoA. We note that of the total capacity of 109 GW that has been
allocated LoAs, about 44 GW has been delayed (was expected to
commission by Dec 2011) and is at risk of penalties/LoA cancellations.
Lanco, in our coverage, is at highest risk.

Coal India is unlikely to meet commitments made to all
projects under LoA…

Coal India has currently entered into 172 LoAs totalling 109 GW
power capacity. These projects are demanding/are likely to demand
90% coal supply guarantees from Coal India on conversion of their
LoAs into FSAs (like FSAs entered by Coal India for projects
commissioned till Mar 2009). However, being cognizant of the fact that
it cannot meet the requirement of all these projects at 90% assurance
level, Coal India is currently proposing to enter into FSAs with 50%
coal supply guarantees, which is not acceptable to developers,
resulting in most of the over 28 GW capacity commissioned after
March 2009 not entering into FSAs.

… implying no coal visibility for new projects. Sell BHEL
Assuming a part of the 109 GW capacity is likely to be shelved (for
various reasons), SLC plans to finalise a list of projects that have high
implementation visibility over the next five years and would require
coal. As per the SLC, this will enable Coal India to plan its coal
production targets more appropriately.

However, we note that currently about 150 GW of coal capacity is
already under construction, of which Coal India has so far awarded
LoAs to only 109 GW projects. Coal India’s inability to meet coal
requirements of even 109 GW projects implies almost no fuel visibility
for incremental projects that are still awaiting LoAs. Lack of fuel
visibility for new projects does not augur well for BHEL’s business
model (would result in decline in BHEL’s order inflows). We thus
reiterate our UNDERPERFORM rating for BHEL.

Recommendation to restore 30% linkage for imported coal
projects is positive for Adani Power, if implemented
The SLC in its meeting held in Jan 2010 had recommended meeting
30% coal requirements for imported coal based power projects,
through linkage coal from Coal India. However, Coal India objected to
this keeping in view the rising coal deficits. The Ministry of Power has
recommended meeting such requirements at least for power projects
commissioned until Mar 2012. However, keeping in view the coal
deficit situation, the SLC in its April 2011 meeting, cancelled such coal
allocation.

Subsequently, in Dec 2011, the Ministry of Power again requested for
restoration of such coal supplies to imported coal-based power
projects commissioned till Mar 2012. If accepted by the SLC, this
would be positive for Adani Power as 30% of coal requirements for its
2.64 GW Mundra I&II imported coal based projects would be met
through cheaper domestic coal.

India Utilities Sector Valuation metrics

Procedure to procure FSA for a power project