Payment Security and Rajasthan RfP

One of the biggest risks faced by a developer is the offtaker risk. The Rajasthan state electricity board, much like the Tamil Nadu electricity board has traditionally been incurring significant losses over the years. The chief aim of the payment security mechanism proposed in the new Rajasthan RfP(Click here for more details of the RfP) has been to shield the developer (refered to as “seller” in the RfP). The RfP proposes that the buyer of the power will be RRECL as opposed to the debt ridden Rajasthan State Electricity Board thereby negating one of the major risk factors that affects the developer’s chances to secure funding for the project.
It should be noted that payment security is often viewed as one of the major stumbling blocks to secure financing. For instance a lot of wind energy projects in Tamil Nadu do not take off as the debt ridden TNEB is the offtaker for wind power in Tamil Nadu and in a majority of the cases, they have been unable to pay wind farm developers for their energy generated racking up dues which span multiple months to a year. This often dissuades lending institutions from financing said projects.
Letter of Credit – The first tier of security
RRECL proposes to provide the developer a letter of credit which is unconditional, revolving and irrevocable. The following details have been given with regards to the letter of credit

  • The letter of credit (LC) will be opened by RRECL in favour of the developer no less than one month before the start of electricity supply
  • LC will be active at least 15 days prior to the first payment due to the developer i.e. 15 days prior to the end of the first month
  • The LC will have a term of 12 months (1 year) i.e. RRECL would open the LC (an account with the bank if you will) which would have enough financial compensation to accommodate for all electricity that is likely to be generated in that year. This is likely to be calculated based on the annual CUF prescribed (19%).
  • The amount secured within the LC will be revised every year. It has been stated that the value of the LC will increase by 1.1 times the average of the monthly tariff payments of the previous contract year.
  • If the LC value falls short of the amount prescribed above at any point during the year i.e. due to a claim raised by the developer for compensation for a particular month where they have not recieved money, RRECL is obliged to top off the LC account so that the short fall is negated within 7 days of the withdrawal. This ensures that the specified LC value for a year is satisfied at all times during the year.
  • All costs relating to opening, maintenance of the LC will be borne by RRECL

What all of this translates to can be highlighted by a simple example. Assume that the developer of a project expects a monthly revenue of Rs. 1 lakh this would amount to an annual revenue of Rs. 12 lakh. RRECL thus is obliged to give an LC which is worth Rs. 12 lakhs to the developer. Should RRECL not be able to pay the developer for any month when the bill is due, then the developer enforces the LC thereby granting them a compensation of Rs. 1 lakh (or the equivalent to the electricity generated) for that month. RRECL then would have to top off the amount due by paying the bank a sum of Rs. 1 lakh (or the equivalent to the electricity generated for which the money has been claimed) thereby ensuring that the LC remains valued at Rs. 12 lakhs.
All of this would ensure that the cash flow for a project can be predicted entirely based on the output generated (through system modelling of the solar powerplant) and that the client is not in for any volatility or surprises in the cash flow situation. Also, monthly spikes in generation are covered as the LC value is annualized using the annual CUF of power plants thereby ensuring that the developer is always compensated for the sum they are entitled to.
The Safety Net
To further strengthen the payment security mechanism, RRECL also proposes to enforce what is known as a “Default Escrow Agreement” wherein a default escrow account is established in favour of the developer. What this account ensures is that, should RRECL be unable to fufil the terms dictated in the LC clause, then the developer would be entitled to a part of the revenues generated by RRECL as a result of power sale. For instance, the escrow agreement would come into effect should RRECL not be able to top up their LC account or if at any point in time the devveloper is unable to draw on the LC.
All in all, the payment security mechanism is likely to mitigate some of the risks faced by project developers in their quest to secure funding for their solar project. Furthermore, it highlights an alternate route (i.e. ensuring that the offtaker is the state nodal renewable energy agency as opposed to the state electricity board) that states with debt ridden electricity boards (such as Tamil Nadu, Bihar etc.) could take to ensure that their solar projects see the light of day.