Solar mission phase II: viability gap funding not the best way to subsidise solar photovoltaic plants, say analysts

It may lead to setting up of inefficient solar projects under National Solar Mission

Photograph by Jonas Hamberg

The guidelines released by the Union Ministry of New and Renewable Energy (MNRE) to set up 750 MW of solar photovoltaic projects in the country may just defeat the purpose of the Jawaharlal Nehru National Solar Mission (JNNSM). This 750 MW solar energy capacity would be installed under batch one of phase two of JNNSM. The guidelines were released on April 18 and comments from public were invited till April 30. Viability gap funding (VGF), which has been introduced as a financing mechanism to fund the solar projects, is the main bone of contention. Renewable energy policy analysts fear that VGF may lead to setting up of inefficient solar projects.

Divided in three phases, JNNSM aims to install 20,000 of grid-connected solar power by 2022. Phase one of JNNSM ended in March this year; phase two will last till 2017.    

Viability gap funding is a capital subsidy that bridges the gap between the project cost dictated by the prevailing electricity rate and the price quoted by a developer. As per the guidelines, VGF would be given on reverse bidding basis. So, whoever asks for the lowest VGF will get the project. The tariff to be paid to the developer has been fixed at Rs 5.45 per unit for a project period of 25 years. Now, suppose the cost of a project comes to Rs 5.5 crore per MW and developer (X) quotes Rs 7 crore per MW for the project based on use of cheap, substandard products, while another (Y), ready to use high-quality equipment, projects a cost of Rs 8 crore per MW. As per VGF, the developer who asks for lesser subsidy (gap) gets the project. In this case, X will get the project since he is asking for Rs 1.5 crore as against 2.5 crore by Y.

Highlights of proposed guidelines for solar photovoltaic projects
The minimum capacity of the project should be at least 10 MW and the maximum capacity shall be up to 50 MW.

The total capacity to be allocated to a company including its parent, affiliate or any group company shall be limited to 100 MW.

The project developer shall provide the bank guarantees of Rs 30 lakh to SECI.

The project developer shall report financial closure within 180 days from the date of signing Power Purchase Agreement (PPA).

Project commissioning deadline is 13 months from the date of signing PPA.

Part commissioning is accepted to the condition that the minimum capacity for acceptance of part commissioning shall be 10 MW and in multiples thereof but with penalty which will be encashed in phased manner. A period of 24 months is given to commission the project, failing which the project will stand terminated.
Then there is also an option of availing accelerated depreciation (AD) for the project. AD is a tax benefit which allows companies to write off about 80 per cent of invested capital in the first year. In this case, the tariff will get reduced by 10 per cent to Rs 4.95 per unit. If developer (X) avails AD which is 80 per cent of the project cost, he can immediately pocket Rs 4.4 crore of his total investment. So, with capital support in the form of VGF coupled with the incentive of accelerated depreciation, the developer would have recovered a substantial amount of his investment in the first year itself. “This leaves little incentive for the developer to stay invested in a project with a tariff of just Rs 4.95 per unit for 25 years,” says Ashwin Gambhir, renewable energy policy analyst with Prayas Energy, a Pune based non-profit. The draft says that a maximum of 30 per cent of the project cost will come from VGF. The remaining amount can be raised as loan from any source by the developer. “VGF-based grants may remove focus of the developer from long-term performance of the project. Also, given the wide range of solar technologies and configurations with differing capital costs, developers may only focus on lowering capital costs,” adds Gambhir.

No safeguards

No real safeguards have been provided to ensure the quality of production, reads an analysis done by Bridge To India, a Delhi based consultancy on solar power projects. “This mechanism not only has the potential to derail the policy motives but will also put the lenders in doubt about the developer’s intentions,” says Mohit Anand, senior consultant, Bridge To India. 

Even the earlier draft policy document released by the ministry in December 2012 notes that the biggest concern with VGF is severing the link with long-term project performance. It further states that there would be no penalty on lower generation or unsatisfactory performance on selected projects.

Tarun Kapoor, joint secretary, MNRE, clarifies, “VGF is one of the financing options that we are trying out as we tried bundling in the first phase of JNNSM. This is to demonstrate how different financing models work. Besides, it is only for 750 MW of projects. We may try other financing models like GBI in the coming batches. We have also put in safeguards.”

According to the draft guidelines, VGF will be released in three steps. Of the total VGF, 25 per cent will be released at the time of delivery of at least 50 per cent of the major equipment followed by inspection by an MNRE committee. Then, 50 per cent will be released on successful commissioning of the full capacity of the plant and the balance 25 per cent after one year of operation and meeting requirements of generation. What exactly MNRE means by “requirement of generation” is not clear, as in whether some efficiency has been considered here.

Also, what happens if the developer decides to dismantle the plant or sells it to somebody else after recovering his profits? “We don’t mind if a developer sells the project to somebody else as long as the project is running properly. However, in case of dismantling we are considering legal action,” says Kapoor. If the project fails to generate any power continuously for one year within 25 years or its assets are sold or the project is dismantled during the tenure of the project, Solar Energy Corporation of India (SECI) will have a right to claim assets equal to the value of VGF granted and paid, reads the guidelines. SECI is a government of India enterprise which will sign power purchase agreements with developers. 
A better mechanism

Policy analysts say generation-based incentive (GBI) is a better mechanism to finance solar projects. GBI is an incentive given for every unit of energy generated. For example, in case of wind energy, the government used to give 50 paisa extra for every unit of energy generated. “GBI encourages the developer to put efficient systems and sustain it till the end to avail benefits,” says a developer seeking anonymity. Kapoor clarifies: “MNRE is not averse to other financing mechanism but for now we want to try VGF.”

Since funds for VGF will come from National Clean Energy Fund (NCEF), this gives rise to another concern. NCEF sources money from a cess of Rs 50 on each tonne of coal in the country. Analysts points out that if a project has availed NCEF then it cannot take any other grant. Therefore it is not clear that whether in future these projects would be able to sell Renewable Energy Certificates (REC) in the market or not. If not? Would the energy generated be considered in Renewable Purchase obligation of states or not?

Financial health of state electricity distribution companies is another concern since SECI will enter into power sale agreement with states “willing” to procure the power at Rs 5.45 per unit. “This is a major loophole. Given the fact that most discoms are in huge debt, how will the government ensure that the power is be bought,” said a developer seeking anonymity. In the first phase, NTPC Vidyut Vyapar Nigam Limited was the power purchasing body. “So our returns were assured,” he added. There could be a scenario in which all the developers opt to set up projects in Rajasthan but Rajasthan is unwilling to buy this power. For such a situation, there is no clarity on how the SECI will ensure the off-take of the power to states across the country that might be willing to buy the power, says Anand. 

Another concern is domestic content requirement. According to the draft guidelines, some percentage of 750 MW would be reserved for domestic content requirement. But how much it would be is still not decided. “But we are clear that domestic content would be technology neutral. Be it crystalline silicon or thinfilm technology, cells and modules of both will have to be manufactured in India,” says Kapoor. While this has brought relief to manufactures, developers say that they should be allowed to procure quality product from anywhere to reduce the cost of power.

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An unviable route

An unviable route

Draft of national solar mission’s second phase fails to learn from past mistakes

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  • Hi Ankur. Your article is

    Hi Ankur.

    Your article is really intresting.

    Can you please explain a bit of AD.Since you have mentioned developer X can pocket 4.4Cr.How do you reach the calculation.

    As the project cost for developer X is 7 Cr with 80% depreciation and 30% tax 7*0.8*0.3=1.68 Cr he can benefit directly.


    Posted by: Anonymous | 4 years ago | Reply
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