The REC Mechanism Viability of solar projects in India

Transcription

1 The REC Mechanism Viability of solar projects in India

2 CONTENTS 1. Overview The Renewable Energy Certificate 02 (REC) Mechanism 2.1. Background Solar RECs Lessons from the non-solar REC market Procedures and timelines Is the solar RECs market viable? Solar REC business models Business Model 1: APPC + REC Business Model 2: RESCO + REC Business Model 3: Captive + REC Regulations under discussion Conclusions and recommendations Annexure State-wise RPO Quotas ( ) Status of non-solar RPO compliance across different states 19 ( ) 7.3. Glossary of terms 20

3 LIST OF FIGURES Figure 2-1 RPO requirements of selected states in India 02 Figure Floor and forbearance prices 02 Figure Projects registered under the REC mechanism 03 Figure Registered REC projects by renewable energy resource 03 Figure Historical non-solar REC demand by consumer category 04 Figure History of demand-supply of non-solar RECs 04 Figure Historical price discovery of non-solar REC prices 05 Figure Process for the issuance of solar RECs 06 Figure Solar REC eligibility 06 Figure Details of the accreditation fees payable to the SLDC 08 Figure Details of the registration fees payable to the NLDC 08 Figure Details of the issuance fees payable to the NLDC 08 Figure 3-1 Expected solar PV capacity based on the REC mechanism 09 Figure 3-2 Derivation of expected solar PV capacity based on the REC mechanism (year-on-year) Figure 3-3 India solar and grid price projections 11 Figure 3-4 Assumptions for the projection of solar and grid prices 11 Figure 3-5 Solar REC price projections 11 Figure State-wise APPC prices (2012) 12 Figure Assumptions for determining EIRR APPC + REC 12 Figure Financial viability of APPC+REC projects 13 Figure Assumptions for determining EIRR RESCO + REC 14 Figure Financial viability of RESCO+REC projects 14 Figure Assumptions for determining EIRR Captive + REC 16 Figure Financial viability of Captive + REC projects 16 10

4 1. OVERVIEW Indian solar policies initially focussed on supply side measures. Now, solar RPOs are supposed to create a demand side pull. The Indian government has decided to incentivize the installation of solar PV in order to increase the energy supply of India, provide more energy security, offer de-central power solutions and create a future industry. The policy initially focused on supply side measures. It started with capital subsidies. Then, with the National Solar Mission (NSM) and the Gujarat solar policy, solar PV was supported through preferential feed-in-tariffs (FiTs). Now, solar Renewable Purchase Obligations (RPOs) for utilities as well as direct power customers (through Open Access ) and large captive power consumers are supposed to create a demand side pull to complement the supply side push. So-called obligated entities, who have to fulfill RPO quotas have four options. They can avoid fulfilling their obligations, in which case they could be penalized. Alternatively, they can purchase solar power from the market or generate their own solar power. The fourth option is to buy Renewable Energy Certificates (RECs) to meet the quota. Solar plant owners, who sell their power outside of preferential FiTs to the grid, generate these certificates. This offers a new type of project to solar project developers. They can find an off-take for their power under market conditions and simultaneously generate RECs. The REC mechanism comes with the risk of uncertainty of REC pricing. While there is a fixed REC floor price of 9,300 ( 143)* per REC (equivalent to 1MWh), there is some uncertainty on the pricing post GOOGLE estimates that REC prices will be in the band of 2,200 ( 34) per REC to 4,000 ( 62) per REC between 2017 and The most significant risk, is of the lack of enforcement of RPOs. This is allayed to a certain extent from the market data for non-solar RECs. Judging by the performance of the non-solar REC market and indications from the regulatory bodies, predicts that there will be a strong move by states to fulfill their RPOs. * All values are at 1 = 65 (long-term average rate)

5 2. THE RENEWABLE ENERGY CERTIFICATE MECHANISM Every MWh of solar energy produced generates one REC. RECs are traded on the Indian Energy Exchange (IEX) and the Power Exchange of India Ltd. (PXIL). 2.1 BACKGROUND RECs are a market mechanism to facilitate the compliance of RPOs. RPOs are enforced on three categories of power consumers distribution licensees, Open Access consumers and captive consumers. The obligations are driven by the National Action Plan on Climate Change (NAPCC) that aims at 15% renewable energy in the overall energy mix of India by There are two categories of RPOs solar and non-solar. States in India are free to set their own RPOs in line with the recommendations from their State Electricity Regulatory Commissions (SERCs). The table below lists the major states with solar-rpo quotas 2. Figure 2-1: RPO requirements of selected states in India State Solar RPO ( ) Andhra Pradesh 0.25% Gujarat 1.00% Haryana 0.50% Himachal Pradesh 0.25% Karnataka 0.25% Kerala 0.25% Madhya Pradesh 0.60% Maharashtra 0.25% Punjab 0.07% Tamil Nadu 0.05% Uttar Pradesh 1.00% Uttarakhand 0.25% Renewable energy resources are distributed differently across each state in India. The RECs are aimed at addressing this mismatch between the availability of renewable energy resources in states and their RPO requirements. Obligated entities have the option of purchasing RECs to fulfill their RPOs. 2.2 SOLAR RECS In line with RPOs, there are two categories of RECs solar and nonsolar. Solar RECs include both PV and CSP technologies. Non-solar RECs include a basket of renewable energy technologies such as wind, biomass, biofuel cogeneration and smallhydro. RECs are traded on the Indian Energy Exchange (IEX) and the Power Exchange of India Ltd. (PXIL). The IEX currently has a leading market share of 91%. 1 REC = 1MWh Every MWh of solar energy produced generates one REC. Solar RECs are traded once, on the last Wednesday of every month. The trade price is discovered based on their demand and supply. In addition, and in order to provide a minimum of certainty on REC prices, the Central Electricity Regulatory Commission (CERC) has fixed a floor and forbearance price for the period 2012 to 2017 between which the RECs can be traded. Figure 2-2-1: Floor and forbearance prices 3 Floor Price 9,300 ( 155) Forbearance Price 13,400 ( 223) Although the REC market was established on February 2011, the solar REC market has been largely inactive. The first trading of solar RECs was in the session of May The demand for solar RECs was 1,637, far greater than a total of 149 available on the supply side. 1 Government of India, The Prime Minister s Council on Climate Change, National Action Plan on Climate Change 2 State Electricity Regulatory Commission Orders. For a complete list, see Annexure 1 3 REC Registry

6 The lack of activity on the solar REC market can be attributed to the lack of solar REC projects supplying the certificates. None the less, there were only five RECs traded at a price of 13,000 ( 200), indicating that the selling price bid was far too high. The lack of activity on the solar REC market can be attributed to the lack of solar REC projects supplying the certificates. India s first solar REC project to start trading is a 2MW project in Madhya Pradesh developed by M&B Switchgears Limited. Going ahead, the supply of solar RECs is likely to be bolstered by six additional projects that are currently registered. 2.3 LESSONS FROM THE NON-SOLAR REC MARKET While the solar REC market has just taken off, the non-solar REC market has been active since May On the supply side, the non-solar REC market is primarily driven by wind energy projects (50% at 1,332MW), followed by bio-fuel cogeneration (23% at 622.5MW) and biomass (20% at 542MW) 7. Figure 2-2-2: Projects registered under the REC Mechanism (August 2012) 4 Project State Capacity (MW) Jaibalaji Business Corporation Pvt.Ltd. Maharashtra 1.0 Omega Renk Bearings Pvt.Ltd. Madhya Pradesh M/S Gupta Sons Madhya Pradesh 0.5 Jain Irrigation Systems Ltd. Maharashtra 8.5 Kanoria Chemical & Industries Ltd. Rajasthan 5.0 While the solar REC market has just taken off, the non-solar REC market has been active since May Numeric Power Systems Ltd. Tamil Nadu M&B Switchgears Ltd. Madhya Pradesh 2.0 Figure 2-3-1: Registered REC projects by renewable energy resource 8 1% 23 % Wind 50 % Small Hydro Biomass Bio-fuel Cogeneration Solar PV 20 % 6% 4 REC Registry KW 6 The REC Registry lists this project as 1.055MW 7 REC Registry 8 REC Registry

7 Feb-11 Mar-11 Apr-11 May-11 Jun-11 Jul-11 Aug-11 Sep-11 Oct-11 Nov-11 Dec-11 Jan-12 Feb-12 Mar-12 Apr-12 May-12 Jun-12 Jul-12 Aug-12 NUMBER OF RECs Apr-11 May-11 Jun-11 Jul-11 Aug-11 Sep-11 Oct-11 Nov-11 Dec-11 Jan-12 Feb-12 Mar-12 TOTAL DEMAND The months of June and July saw demand falling below supply for the first time. On the demand side, distribution companies (DISCOMs) contributed to nearly 76% of the demand for the financial year followed by captive power producers at 13% and open access consumers at 11% 9. The maximum demand for non-solar RECs occurred towards the end of the financial year between the months of January and March This suggests that there would be a rush to fulfill the RPOs at the year-end to prevent being penalized. The penalty equals the forbearance price for solar or non-solar RECs. DISCOMs, driving the demand for RECs currently, are uncertain with regards to the enforcement of the RPOs by their SERCs. Compliance is mandated annually and DISCOMs prefer to weigh their options until the very end of the year. As a result, there is a yearend spike in the demand for RECs by DISCOMs looking to make a rush to fulfill their RPOs. The months of June and July saw demand falling below supply for the first time with relatively lower demand from the DISCOMs early in the financial year. Figure 2-3-2: Historical non-solar REC demand by consumer category , ,000 The maximum demand for non-solar RECs occurred towards the end of the financial year between the months of January and 150, ,000 50,000 0 Captive Power Producer Open Access DISCOM March Figure 2-3-3: History of demand-supply of non-solar RECs , , , , ,000 Demand Supply 100,000-9 Indian Energy Exchange 10 Indian Energy Exchange 11 Indian Energy Exchange 4

8 A negligible portion of the obligated entities are currently fulfilling their RPOs. While strong demand in the initial stages of the market is encouraging, some concerns remain. An analysis of the RPO compliance through the purchase of RECs indicates that only 2.49% of the required non-solar RPO is being met (See Annexure 7.2) 12. This indicates that a negligible portion of the obligated entities are currently fulfilling their RPOs. It remains to be seen if this trend continues into the future. Moreover, the urgency to fulfill their RPOs is least at the beginning of the financial year. Non-solar RECs demand fell sharply by 24% by the beginning of the current financial year leading to a consequent fall in prices. For project developers, this leads to a significant cash-flow problem. The CERC is looking to amend the RPO regulations to make the RPO fulfillment mandatory on a quarterly basis rather than annual. the financial attractiveness of REC projects, one can expect the solar REC market to gain momentum in the next six to nine months. There is a likelihood that DISCOMs will purchase solar power or rely on their corresponding generation arms to meet their solar RPOs. Purchasing solar power will ensure that RPOs are met and more importantly that the DISCOMs receive much needed power. Tata Power and MAHAGENCO in Maharashtra have already shown an indication to put up their own power plants to help meet their corresponding DISCOMs RPOs. However, most states might not have adequate solar resource to incentivize power producers to set up solar projects. Further, setting up solar capacity requires considerable policy support from state governments that is Figure 2-3-4: Historical price discovery of non-solar REC prices 13 The lack of supply in the REC market is likely to correct itself with the registration of India s first solar REC project. 4,500 4,000 3,500 3,000 2,500 2,000 1,500 1, Feb-11 May-11A ug-11 Nov-11F eb-12 May-12 Aug-12 Price Floor Price Forbearance Price Judging by the performance of the non-solar REC market, one can draw parallels to the solar REC market. On the demand side, there is an indication of a possible push to fulfill the RPOs from all the three categories of obligated entities. The supply, which has hitherto been the bottleneck, is likely to correct itself with the registration of India s first solar REC project. Six other projects are registered and are likely to start active trading in the next 6-9 months. In addition to these factors and currently lacking in many states. Many DISCOMs would have to rely on the RECs to meet their RPOs. Captive and open access consumers are relatively smaller players with little or no experience in solar power generation. They would have liquidity concerns since investing in solar plants would mean directing liquidity away from their core businesses. They too would prefer buying RECs. 12 There is insufficient data from the solar REC market to draw conclusion on solar RPO compliance. However parallels can be drawn 13 Indian Energy Exchange

9 2.4 PROCEDURES AND TIMELINES The process of registering a project under the REC scheme is divided into two distinct phases accreditation and registration. The entire process consists of four steps which can (almost completely) be undertaken online. The process of accreditation and registration takes a minimum of 45 days. The issuance of RECs is a recurring activity which takes a maximum of 15 days from the date of application. Step 1: Fulfill Prerequisites There are three categories of projects that are eligible for RECs: 1. Projects for captive consumption (self-use) 2. Projects for third party sale (RESCO) 3. Projects with a Power Purchase Agreement (PPA) with a DISCOM Figure 2-4-1: Process of issuance of solar RECs FULFILL PREREQUISITES 0 ACCREDITATION (SLDC) 30 REGISTRATION (NLDC) 45 day days days Figure 2-4-2: Solar REC eligibility

10 The NLDC has not fixed the minimum size for REC projects. It has allowed the state nodal agencies to decide on this. The NLDC is responsible for the issuance of RECs. In order for any of the three categories of projects to be eligible, the following pre-requisites must be fulfilled: 1. The project does NOT have any power purchase agreement to sell the electricity at a preferential tariff or FiT. For example, projects under solar policies, such as the National Solar Mission (NSM) or the Gujarat Solar Policy. 2. The project sells the electricity generated to either: a. The distribution licensee of that area at a price NOT greater than the average pooled cost of power (APPC) of such a distribution license. b. To any other licensee, an open access consumer or any other consumer at a mutually agreed price or through a power exchange 3. The project must be grid connected (in order to facilitate independent metering) The NLDC has not fixed the minimum size for REC projects. It has allowed the state nodal agencies to decide on this. Only Maharashtra, Orissa and Jammu and Kashmir have set the minimum size as 250kW. All other states do not specify a minimum size for REC projects Step 2: Accreditation with a State Load Dispatch Center Application for accreditation must be submitted to the State Load Dispatch Center (SLDC). Every state has a designated SLDC which is responsible for scheduling the demand and supply of power in that state. Projects cannot apply earlier than six months prior to commissioning. The accreditation is valid for five years after which the project must reapply. The process typically takes 30 days from the date of application provided all documents are in the correct order. The project receives a certificate of accreditation. Step 3: Registration with the National Load Dispatch Centre After successful accreditation, the project must be registered under the National Load Dispatch Center (NLDC). Projects cannot apply for registration prior to three months from the date of commissioning. The certificate of registration is valid for five years from the date of registration. Step 3: Issuance of RECs The NLDC is responsible for the issuance of RECs. Projects must apply for the issuance within three months of generation of the power. Applications for issuance can be made fortnightly i.e. the 1 st and 15 th of every month. The RECs must be sold within one year from the date of issuance, failing which the RECs will lapse.

11 FEES AND CHARGES Figure 2-4-3: Details of the accreditation fees payable to the SLDC One-time application processing fee (paid to state agency) 5,000 ( 77) One-time accreditation charge (paid to state agency) 30,000 ( 462) Annual charge (to be paid by April 10 th ) 10,000 ( 154) Revalidation/Extension (end of 5 years) 15,000 ( 231) Taxes and duties 12.36% Figure 2-4-4: Details of the registration fees payable to the NLDC One time registration fees 5,000 ( 77) One time application processing fee 1,000 ( 15) Annual charge (to be paid by 1st April) 1,000 ( 15) Revalidation/Extension fees (End of 5 years) 5,000 ( 77) Taxes and duties 12.36% Figure 2-4-5: Details of the issuance fees payable to the NLDC Application for issuance 10 per REC ( 0.15) Taxes and duties extra 12.36%

12 EXPECTED DEMAND (MW) 3. IS THE SOLAR REC MARKET VIABLE? The enforcement of RPOs remains the weak link in the REC mechanism. The viability of the REC market is linked to three crucial factors: demand, supply and the price visibility for solar RECs. The demand for solar RECs is driven by the enforcement of RPOs on the obligated entities. Although official data on RPO compliance is yet to be released, the performance of the nonsolar REC market shows that demand is robust but limited. A few DISCOMs, for example those in the state of Punjab, have not met their RPOs for the financial year The Punjab Electricity Regulatory Commission (PERC) allowed the Punjab State Power Corporation Ltd to carry over the obligations to the Financial Year (April to March) 14. The enforcement of RPOs remains the weak link in the REC mechanism. The CERC has allayed concerns to suggest that RPOs will be enforced strictly. The RPOs stem from the NAPCC s target of generating 15% renewables in the overall energy mix by There is an ongoing effort by the CERC through the Forum of Regulators (FoR) to convince SERCs to comply with the regulation. analysis indicates that the total capacity of REC projects would be 868MW by It is assumed that only 25% of the RPO requirements will be fulfilled through the REC mechanism. The remaining 75% is assumed to be fulfilled by obligated entities through the direct purchase of solar power. This projection is based on the total solar RPO requirement of each state and a probability factor that obligated entities will achieve their RPO. Figure 3-1: Expected solar PV capacity based on the REC mechanism (year-on-year) Analysis indicates that the total capacity of REC projects would be 868MW by The Hindu - Punjab ERC allows state DISCOM to carry forward renewable purchase obligations. Dated 17th May Source: Google

13 the total number of RECs traded is likely to touch 480m by the year Figure 3-2: Derivation of expected solar PV capacity based on the REC Mechanism (year-on-year) 16 Year I. Total solar RPO requirement II. Solar RPO fulfilled through policies 17 III. Remaining solar RPO requirement (I-II) IV. Solar RPO fulfilled through the direct purchase of solar power V. Remaining solar RPO requirement (III-IV) 2,027 2,985 3,944 4,788 5, ,728 2,558 3,533 4,543 1,099 1,257 1,386 1,255 1, , , Probability Factor 18 10% 35% 50% 70% 95% Expected/required solar REC projects expects that the total number of solar RECs traded is likely to touch 480m by the year 2016 based on the aforesaid assumptions. On the supply side, the solar REC market has recently commenced trading and not enough data is available to draw conjecture. With seven solar REC projects already being registered, the supply issue should correct itself in the next six to nine months REC prices post 2017 until the current control period ( ) comes to an end. In such a case, projecting REC prices becomes very important in order to estimate the financial viability of solar REC projects. The REC price band is determined by CERC through the following formula: Floor price = LCOE of solar energy (at 0% ROE) minimum APPC Forbearance price = LCOE of solar energy (at 16% ROE) minimum APPC The CERC is unlikely to announce solar REC prices post 2017 until the current control period ( ) comes to an end. The financial viability of REC projects strongly hinges on the REC prices over the lifetime of the project. The CERC has provided some visibility on the REC prices by fixing the floor and forbearance price between 2012 and While this instills some confidence, investors and banks are still cautious. REC prices ( ) Although the REC price range has been fixed until 2017 by the CERC, there is considerable concern over REC price visibility post The CERC is unlikely to announce solar The floor price is calculated based on the difference between the cost of generating solar energy at 0% Return on Equity (RoE) and the state with the least APPC. The forbearance price is calculated based on the difference between the cost of generating solar energy at 16% ROE and the state with the lowest APPC. In order to project REC prices post 2017, APPC and solar LCOE prices have been projected. GOOGLE s analysis shows that grid parity is likely to be achieved by 2022 across all the states in India. 16 Source: GOOGLE analysis 17 Through the state policies and the National Solar Mission. 18 It is assumed that only 10% of the obligated entities will fulfill their RPO in 2012 which will slowly ramp up to 95% by 2016.

14 IN R/kWh Figure 3-3: India solar and grid price projections APPC Tariff LCOE of solar The state of Kerala will be the last state to achieve grid parity in 2022 based on the current APPC price of 1.9 ( 0.02)/kWh. States like Tamil Nadu will see grid parity being achieved much earlier, around 2017 due to higher APPC prices of 3.38 ( 0.05)/kWh 20. The state of Kerala will be the last state to achieve grid parity in 2022 based on the current APPC price of 1.9 ( 0.02)/ kwh. Since the floor and forbearance price is based on the state with the lowest APPC, the REC prices are likely to be defined by the CERC until REC pricing model shows that projected REC floor and forbearance prices for the control period are: Figure 3-4: Assumptions for the projection of solar and grid prices Assumptions Figure 3-5: Solar REC price projections 24 Annual APPC escalation 5.00% 21 CERC solar tariff ( /kwh) CERC CAPEX consideration (2012) ( m per MW) 100 CAPEX falls by 40% ( ) CAPEX falls further by 30% ( ) 23 ( ) ( ) (2022- ) Floor Forbearance Floor Forbearance Floor Forbearance 9,300 ( 155) 13,40 0 ( 223) 2,20 0 ( 34) 4, ( 62) Given the projection for solar REC prices, the financial viability of REC projects can be modeled over the lifetime of the project. The financial viability for different business models under the REC mechanism is explored in the next section. 19 Source: GOOGLE analysis 20 CERC. Petition number 142/2011. Determination of forbearance and floor price for REC framework. 21 Average annual increase in APPC prices across India between the years Terms and Conditions for CERC, Tariff determination from Renewable Energy Sources Regulations, Published McKinsey: Solar Power - Darkest Before Dawn; Source: GOOGLE analysis

15 4. REC BUSINESS MODELS This model is viable for the state of Tamil Nadu for a financial investor looking for a minimum of 15% EIRR. 4.1 BUSINESS MODEL 1: APPC+REC In this model, the project sells power to the DISCOM at the APPC and in addition avails RECs. The viability of such projects is strongly linked to the APPC in the state in which such a project is being considered. The APPC (2012) across major states is listed below. Figure 4-1-1: State-wise APPC prices (2012) 25 State Kerala 1.99 Madhya Pradesh 2.09 Himachal Pradesh 2.23 Uttarakhand 2.34 West Bengal 2.43 Andhra Pradesh 2.50 Rajasthan 2.60 Maharashtra 2.62 Uttar Pradesh 2.62 Karnataka 2.66 Punjab 2.71 Haryana 2.77 Gujarat 2.98 Tamil Nadu 3.38 APPC ( /kwh) In order to arrive at the Equity IRR (EIRR), the following assumptions have been considered. Figure 4-1-2: Assumptions for determining EIRR APPC + REC Assumptions Annual APPC escalation REC prices 5.00% ,300 ( 155) ,200 ( 223) (grid parity achieved by 2022) CAPEX (per MW) 26 88m ( 1.3m) Debt interest rate 6.00% 27 CUF 18.00% The APPC escalation is in line with the average escalation of APPC prices across different states in India. The CAPEX is based on current price trends in the market and is conservative, leaving much room for discount. Debt interest rates are indicative of the financing options that can be availed from international banks that provide export finance. An average Capacity Utilization Factor (CUF) of 18% is considered, which is again conservative and lower than the national average CUF considered by CERC (19%) 28. analysis shows that this model is viable for the state of Tamil Nadu for a financial investor looking for a minimum of 15% EIRR. Other states such as Gujarat, Haryana, Punjab, Karnataka, Uttar Pradesh, Rajasthan, Maharashtra and Andhra Pradesh are all attractive to investors who are looking at solar energy strategically (EIRR expectation of 8 to 15%). This model proves unattractive in the states of Kerala, Madhya Pradesh, Himachal Pradesh, Uttarakhand and West Bengal (EIRR of less than 8%). 25 CERC. Order on floor and forbearance price CAPEX prices as of July Considering un-hedged loan from a foreign bank. 28 CERC. Tariff Order for Renewable Energy. 2011

16 APPC (INR/KWh) Figure 4-1-3: Financial viability of APPC+REC projects TN KL MP HP UK WB AP HR MH UP KA PB GJ % 4.0% 6.0% 8.0% 10.0% 12.0% 14.0% 16.0% 18.0% Equity IRR (%) One of the key advantages of this business model is the scale of projects. The major drawback in this model is the poor financial state of most DISCOMs in the country. Upsides - From a regulatory point-ofview, this business model is relatively easier when compared to the other business models. In general, most DISCOMs are faced with a genuine shortage of power and would be willing to purchase solar power at APPC. This is much lower than the price of solar power under the NSM and various state policies. One of the key advantages of this business model is the scale of projects. Individual project sizes can be very large (5MW and above), which can bring significant cost advantages. Believes that this business model will be popular with developers who have considerable leverage with the DISCOMs. This is critical in order to secure a long-term PPA with the DISCOM. Risks - The major drawback in this model is the poor financial state of most DISCOMs in the country. This seriously jeopardizes the ability of the DISCOMs to adhere to the PPA and ensure timely payments. 4.2 BUSINESS MODEL 2: RESCO+REC In this model, the project enters into an independent PPA with a third party (excluding DISCOMs) and, in addition, RECs are availed. The third party can typically be an industrial, commercial or residential consumer of electricity. The project can either be set up on the customer s premises (land or rooftop) or at another location. In both cases, the project must go through the open access route for a third party sale of power. The viability of such projects is strongly linked to two factors: 1. PPA price The negotiated price of power hinges on the current price being paid by the third party. Commercial consumers pay the highest prices for electricity followed by industrial consumers and then residential consumers. The project developer must offer the third party a tariff that is lower than what the consumer pays currently in order for this solution to be attractive. 2. Strength of the third party to adhere to a long term PPA from a financing perspective, this is a key question. To obtain the Equity IRR, the following assumptions and PPA prices have been considered. It must be underlined that the assumptions are fairly conservative. The REC prices considered post 2017 are from REC price forecast (see previous section).

17 GRID PRICE (INR/kWh) Figure Assumptions for determining EIRR RESCO + REC Assumptions 30 Tariff escalation 5.00% REC prices CAPEX (per MW) ,300 ( 155) 2,200 ( 223) 0 (grid parity achieved by 2022) 88m ( 1.3m) Debt interest rate 12.00% 31 CUF 18.00% In cases where supply exceeds demand, there must be an option of injecting the excess electricity onto the grid during times of peak demand. Figure 5-5: Financial viability of RESCO+REC projects EIRR % 5% 10 15% 20% 25% Equity IRR (%) The current regulations do not allow the connection of such REC projects at the consumer side of the bus. Risks - From a regulatory standpoint, there are several bottlenecks in implementing this model currently. 1. Absence of a net metering policy Since this model involves signing an independent PPA, it must be assured that the third party consumes 100% of the power generated. In practice, this is not feasible since demand varies with time and season and does not match the generation profile of a solar power plant. In such cases where supply exceeds demand, there must be an option of injecting the excess electricity onto the grid during times of peak demand. The regulations for net-metering are under discussion with the CERC and will not be implemented before mid Interconnection and open access The current regulations do not allow the connection of such REC projects at the consumer side (LT side) of the bus. Projects must be connected at the high voltage level at the DISCOM side. For projects that are connected at high voltage under current regulations, any third party sale of power must be registered under open access. However, open access is not an efficient solution when the point of generation and the point of consumption are the same 30 Source: GOOGLE analysis 31 Considering debt from an Indian bank.

18 For the CSS to be completely discarded, the DISCOMs expect an even pricing of power across all consumer categories. In the captive + REC model, commercial or industrial consumers of grid electricity set up a solar project for the self-consumption of solar power. (example: rooftop power projects). Open access involves wheeling charges, banking charges and grid losses for using the distribution network of the DISCOM. These additional costs reduce the viability of such models. The CERC is currently discussing the option of implementing such third party PPA models as off-grid or semi off-grid models, thereby circumventing the need to go through open access. But at the moment there is no clarity on when such regulation will be framed or implemented. 3. Cross Subsidy Surcharge (CSS) Electricity prices in India are not uniform. Commercial and Industrial consumers subsidize the residential and agricultural consumers by paying higher tariffs. When such high value consumers are lost to other electricity providers, the DISCOMs face disproportionate losses. In order to compensate for this, a CSS is levied. The CSS varies across DISCOMs and is typically in the range of 0.30 to 1.5 per unit. Although there is a strict mandate to reduce the CSS over time, in practice this has not happened and is unlikely to happen in the near future. For the CSS to be completely discarded, the DISCOMs expect an even pricing of power across all consumer categories. This is a politically sensitive matter and is unlikely to be implemented in the near future. In some cases, to promote the development of renewable energy technologies, the CSS can be waived. However, the regulations clearly state that all concessions must be waived off in order to be eligible for REC projects. 4. Wary DISCOMs Most DISCOMs are wary of losing their high value consumers. Since DISCOMs are authorized to approve such projects, most projects are delayed unnecessarily. This is one of the major barriers to the successful execution of this business model. Upsides - One of the key advantages of this business model is the independence from the DISCOMs. The PPA risk now lies with the power consumer, which can be managed through strong financial diligence. Although the maximum project sizes will not likely be greater than 2MW, the model is scalable across the country. GOOGLE develops its own RESCO+REC based projects for industrial and commercial consumers of power. Risks - One of the key challenges for small to medium companies is to manage a geographically distributed portfolio of projects. 4.3 BUSINESS MODEL 3: CAPTIVE + REC In this model, commercial or industrial consumers of grid electricity set up a solar REC project for the selfconsumption of solar power. The amended regulations allow RECs for self-consumption projects. The following criteria must be satisfied as per the Electricity Act 2003, in order to be considered as a captive user: 1. Minimum of 26% stake in the project from the power consumer 2. Minimum of 51% of the electricity should be self-consumed The financial viability of such projects is linked to the current grid tariff which the consumer pays to the DISCOM. The return on investment for such projects is based on the difference between the cost of generation of solar power and the grid price. In addition, RECs are the crucial trigger for the financial viability of such projects. The following assumptions have been considered to estimate the financial viability of such models.

19 GRID PRICE (INR/kWh) Figure 4-3-1: Assumptions for determining EIRR Captive + REC 33 Assumptions Tariff escalation 5.00% REC prices ( ) , , (grid parity achieved by 2022) CAPEX ( m) 88 Debt interest rate 12.00% CUF 18.00% Figure 4-3-2: Financial viability of Captive + REC projects % 5.00% 10.00% 15.00% 20.00% 25.00% 30.00% 35.00% Investor Expectation Equity IRR (%) Upsides - The key advantage of this model is that it significantly reduces the PPA risk since the power consumer is invested in the project. Tax incentives such as accelerated depreciation can be availed by such captive consumers which will drive this segment. Innovative business models with a group of investors (group captive) would also become feasible. Risks - From a regulatory standpoint, this model is easier to implement compared to the RESCO+REC model. None the less, the following challenges exist: 1. Absence of a net metering policy (as discussed in the previous section) 2. Inability to connect the plant at the consumer side of the low voltage (415V) means that the output from the solar plant will have to be stepped up to at least 11kV. This creates additional costs of transformers and switch-gears which would significantly reduce the viability of such models 33 Source: GOOGLE analysis 34 Source: GOOGLE analysis

20 5. REGULATIONS UNDER DISCUSSION One of the major concerns is that REC prices over the lifetime of the project must reflect the current capital cost. Currently offgrid projects are excluded from the REC mechanism. The REC mechanism is relatively new in India and several regulatory loopholes remain. The CERC is considering several changes to the regulations which would be implemented in the coming months. Some of these are: 1. Vintage based multiplier: One of the major concerns is that REC prices over the lifetime of the project must reflect the current capital cost. REC prices would depreciate over time, reflecting the falling cost of capital of a solar plant. This would unfairly disadvantage REC projects since the capital costs are made upfront. To circumvent this problem, the CERC is mulling a vintage based multiplier. In this mechanism the solar REC projects commissioned in the period will be issued a multiplicative factor. This factor would be equal to the fall in CAPEX from 2012 to This factor would be used to issue additional RECs. Assuming that the capital cost falls by 50% in 2017, every REC issued in 2012 would be worth two RECs in Quarterly fulfillment of RPO: In order to ensure a smoother cashflow, the CERC is considering a quarterly implementation of the RPOs. This would distribute more evenly throughout the year and prevent year-end spikes in the REC prices. Such a regulation would be beneficial to both project developers (cash-flow) and the obligated entities (year-end high prices). 3. Net Metering: The net-metering scheme being considered by the CERC includes the following topics: a. Connection of renewable energy source to the grid at lower voltages b. Accounting and billing c. Safety standards and technical requirements d. Taxes and duties (or waivers) for self-generated electricity e. An overarching policy framework for distributed energy generation These regulations would ensure that there is a well-defined policy framework for connecting small scale solar power projects onto the grid. This will reduce the likelihood of unnecessarily delays and complications in such projects. Secondly, one of the major concerns for such REC projects is over-generation. Instances when the supply exceeds the demand (building is empty, holidays, exceptionally sunny days, etc.), the excess power can be fed into the grid and consumed at a later stage. Such banking regulations are also under discussion and would come as a boon to solar project developers under the REC mechanism. 4. REC for off-grid: Currently offgrid projects are excluded from the REC mechanism. However, with a comprehensive metering policy, the CERC intends to include off-grid projects under the REC mechanism. The main issue with off-grid projects is that responsibility cannot be assigned to the DISCOM for a periodic reading of the solar meter, accounting and reporting the power generated to the SLDC. The DISCOM is currently incentivized to carry out these functions only if the project is grid connected.

21 6. CONCLUSIONS AND RECOM- MENDATIONS Enforcement of RPOs remains the weak link in the entire REC mechanism and must be addressed immediately by the CERC. The financing of REC projects is another weak link as Indian banks remain wary of the REC mechanism. Going ahead, it remains to be seen if obligated entities will fulfill their RPOs through the REC mechanism or by directly purchasing solar power. Since DISCOMs have contributed to nearly 76% of the demand, there are questions raised if the demand for solar RECs will continue to remain. There is no clarity on this issue at the moment. Enforcement of RPOs remains the weak link in the entire REC mechanism and must be addressed immediately by the CERC. There is definite resistance from the DISCOMs in meeting their RPOs due to the additional burden placed on them. A recent report released by the FoR concludes that the additional burden caused by the implementation of RPOs is less than 1.0 per unit 35 which indicates that the resistance is purely notional. REC based models will define the distributed solar landscape in India in the coming years. Endorses the RESCO+REC model and is currently developing a pipeline of such projects across India. The weakest link in executing this model currently is the absence of clear regulations on connectivity and metering. The CERC is actively tabling these regulations. However, the window period ( ) for the REC floor and forbearance prices is running out. This period of REC prices is guaranteed only until March Every month s delay in announcing these regulations will seriously jeopardize the financial viability of REC projects. First movers in this space have a significant advantage since REC prices are surely going to reduce post The financing of REC projects is another weak link as Indian banks remain wary of the REC mechanism. The market will start with smaller kilo-watt scale projects being fully leveraged (100% equity). Once sufficient data is available from the REC market and a proof of concept is established through working models, this situation is likely to change. Banks currently prefer a wait-and-watch approach to take a call on the REC mechanism. Despite these challenges and risks, the REC mechanism remains an attractive off-take option for project developers in the medium term (2012 to 2022). The REC market remains a key off take-option as the market moves away from subsidies to commercially viable models. 35 Forum of Regulators. Assessment of achievable potential of new and renewable energy resources in different states during 12th plan period and determination of RPO trajectory and its impact on tariff

22 7. ANNEXURE 7.1 STATE-WISE RPO QUOTAS " # 36 State Non-Solar RPO Solar RPO Andhra Pradesh 4.75% 0.25% Arunachal Pradesh 4.10% 0.10% Assam 4.05% 0.15% Bihar 3.25% 0.75% Chhattisgarh 5.25% 0.50% Delhi 3.25% 0.15% Goa and Union Territories 2.60% 0.40% Gujarat 6.00% 1.00% Haryana 1.50% 0.50% Himachal Pradesh 10.00% 0.25% Jammu and Kashmir 4.75% 0.25% Jharkhand 3.00% 1.00% Karnataka % 0.25% Kerala 3.35% 0.25% Madhya Pradesh 3.40% 0.60% Maharashtra 7.75% 0.25% Manipur 4.75% 0.25% Meghalaya 0.60% 0.40% Mizoram 6.75% 0.25% Nagaland 7.75% 0.25% Odisha 5.35% 0.15% Punjab 2.83% 0.07% Rajasthan 7.10% NA 38 Tamil Nadu 8.95% 0.05% Tripura 0.90% 0.10% Uttar Pradesh 5.00% 1.00% Uttarakhand 4.50% 0.025% West Bengal 4.00% NA STATUS OF NON-SOLAR RPO COMPLIANCE ACROSS DIFFERENT STATES " # 40 State Non-solar RPO (million kwh) Andhra Pradesh 3, Assam 137 Bihar 172 Chhattisgarh 276 Gujarat 3, Source: National Load Dispatch Center. Renewable Purchase Obligations and its compliance (RPO Regulations) by SERC. 37 For BESOM, MESCOM and CHESCO. For other DISCOMs Non-solar: 7% and solar: 0.25% 38 Satisfied through 100MW of PPA under the NSM 39 West Bengal does not recognize RECs 40 Source: National Load Dispatch Center. Renewable Purchase Obligations and its compliance (RPO Regulations) by SERC. 41 Based on the RPO quotas given in Annexure 7.1 and the total electricity demand of each state (CEA).

23 Haryana 929 Himanchal Pradesh 741 Karnataka 5,180 Kerala 576 Madhya Pradesh 888 Maharashtra 7,477 Punjab 319 Rajasthan 2,089 Tamil Nadu 2,433 Uttar Pradesh 3,016 Uttarakhand 404 West Bengal 1,279 Orissa 311 Delhi 432 Total non-solar RPO (MWh) 33,534,056 Total non-solar REC traded on exchange Percentage non-solar Achieved/ Fullfilled through purchase of REC 834, % 7.3 GLOSSARY OF TERMS APPC Average Pooled Purchase Cost CAPEX Capital Expenditure CEA Central Electricity Authority CERC Central Electricity Regulatory Commission CSP Concentrated Solar Power CSS Cross Subsidy Surcharge CUF Capacity Utilization Factor DISCOM Distribution Company EIRR Equity Internal Rate of Return FiT Feed-in-Tariff FoR Forum of Regulators IEX Indian Energy Exchange LCOE Levelized Cost of Electricity LT Low Tension NAPCC National Action Plan on Climate Change NLDC National Load Dispatch Center PERC Punjab Electricity Regulatory Commission PPA Power Purchase Agreement PXIL Power Exchange India Ltd. REC Renewable Energy Certificate RESCO Renewable Energy Service Company RoE Return on Equity RPO Renewable Purchase Obligation SERC State Electricity Regulatory Commission SLDC State Load Dispatch Center

24 IDENTIFICATION DEVELOPMENT CONSTRUTION & OPERATION Site identification & assessment Techno-commercial feasibility studies Detailed Project Report (DPR) preparation Project registration Bid strategy preparation Land securitization Power Purchase Agreement (PPA) facilitation Management of permits and approvals Renewable Energy Certificates (REC) consulting Technology evaluation & selection EPC tendering and selection Project structuring and documentation Site supervision Quality management Stakeholder management Cost controlling and reporting If you would like to discuss our project development services, please contact: Mr.Yogendra Reddy Technical Consultant (86)