The Hindu Business Line : Power project promoters avoid vendor credits to keep tariffs down

Sources said not many promoters, either in the private or public sectors, were keen to source vendor credits from foreign suppliers. They said the major reason for the reluctance to access vendor credits stemmed from the high cost of obtaining deferred payment guarantees (DPG) from domestic financial institutions and rising international interest rates.

DPGs are a mechanism whereby financial institutions (FIs) provide guarantees on debt service payments by borrowers to external lenders/vendor creditors. The guarantors, in turn, have a charge on the project assets. For such guarantees, the fee ranges from 1.5 per cent to 3.25 per cent, depending on the payment security mechanisms in place. But sources said since most of the power projects under implementation were only backed by sub-sovereign guarantees and an assignment of project revenues, the guarantee commissions charged by the FIs were on the high side. This, in turn, escalated the fixed costs and kept tariffs high.

Besides, the sources said, most of the long-term external trade credits available were on a floating rate basis. Only a small component is on fixed rate terms. The floating rate funding terms are linked to the London Inter-Bank Offered Rate (Libor). Such funding is attractive when international interest rates are low and domestic borrowers are in a position to command fine spreads over the benchmark.

However, the sources said, Libor itself had undergone a substantial increase over the last year. For instance, it is currently at the 3 per cent plus level. One year ago, Libor was under 2 per cent, which had made it an attractive funding option, even assuming a spread of 250 basis points and hedging costs of 3 per cent.

These spreads and hedging costs, the sources said, have undergone little change since then. But with the rise in benchmark rates, the costs of vendor credits have escalated close to 10 per cent. This is at least 2.5 per cent more than what domestic FIs are prepared to advance to power projects.

Accordingly, the sources said, in such a situation, power tariffs would escalate well over the targeted Rs 2 per unit. In fact, it is feared that increase in financing costs alone would push up the fixed component of power tariffs by about Rs 1.75 a unit.

The preference is, therefore, for sourcing funds from Power Finance Corporation and Rural Electrification Corporation, which are already advancing loans to power utilities at rates as low as 7.5 per cent, taking advantage of the lower rates without any DPG support.

The power utilities that have opted for external borrowings are Karnataka Power Corporation and the Nagarjuna group promoted 1015-MW Mangalore Power Project. Both these projects have opted for funding their projects entirely from domestic banks and financial institutions.

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