Chapter-10

Determination of Tariff

10.1 ANNUAL REVENUE REQUIREMENT
    The Board has filed tariff application for revision of tariff rates to meet its Annual Revenue Requirement for the year 2004-05. ARR filings of the Board include revised ARR for the year 2003-04 also. The Board has projected revenue deficit of Rs.787 crores for the current year and revenue deficit of Rs.68 crores for the year 2003-04. It is proposed to recover only Rs.392 crores through increases in tariff during the current year. The balance deficit (if any) as determined by the Commission for the current year and the deficit of Rs.68 crores for the last year, are proposed to be converted into Regulatory Asset to be recovered through tariff increases in future years. The Commission has determined the ARR for the current year at Rs.7424.60 crores. After making adjustments on account of Non-Tariff Income and Revenue from tariff at existing level, the Revenue Gap assessed by the Commission for the current year is a surplus of Rs.270.53 crores. This is against deficit of Rs.787 crores projected by the Board in its ARR as already stated above.

    The Commission has also undertaken Truing Up Exercise for the year 2002-03. This was necessitated as the audited balance-sheet of the Board for that year has become available now. Initially, when the Commission fixed tariff for that year, the same was based on estimates which were in turn based on certain assumptions which may or may not have come out to be true during the year. Even at the time of reviewing of this order alongwith the Tariff Order for the year 2003-04, the orders of the Commission were based on pre-actuals for that year which were definitely a better indication of the final picture but not the exact one. As a result of this Truing Up Exercise, Net Revenue Deficit of the Board for that year is finally worked out at Rs.333.78 crores as against Surplus of Rs.39.18 crores originally approved by the Commission and revised to deficit of Rs.324.94 crores in its subsequent tariff order for the year 2003-04. Thus, Truing Up Exercise will imply adjustment of only Rs.8.84 crores in the ARR for the future years. The detailed discussion in this regard is contained in Chapter-2 of this order.

    The Commission has simultaneously taken up the Review of its Tariff Order for the year 2003-04. The logic for this is also similar to the one narrated above for undertaking Truing Up Exercise. As a result of this exercise, ARR for the year 2003-04 is revised to Rs.6558.39 crores against the original approval at Rs.7031.20 crores. After adjustment of non-tariff income and revenue from tariff at existing rates as well as Prior Period Adjustment, the Gap for the year 2003-04 is revised to surplus of Rs.262.43 crores against deficit of Rs.487.10 crores originally approved by the Commission. This is after including the impact of Truing Up Exercise for 2002-03 also. The detailed discussion in this regard is contained in Chapter-3 of this Order.

    Combining the results of all the three exercises, the Commission has come to the conclusion that there is no revenue deficit for the Board. This is true both for the current year 2004-05 as well as for the combined effect of the three exercises taken up by the Commission for the current year and the two previous years. The combined effect of all the three exercises is that the Board has surplus of Rs.438.29 crores with reference to revenue realization at the existing level of tariff. The average cost of supply now works out to 310.13 paise per unit against 312.89 paise per unit of the last year as discussed below. Thus, the Commission has come to the conclusion that there is no case for any increase in tariff. On the other hand, there is case for reduction in tariffs of various categories of consumers. Exact determination of tariff and related issues are discussed below in this Chapter.

10.2 COST OF SUPPLY & REVENUE GAP
    The issue of ‘cost of supply’ is a fundamental one for determination of tariff. This is as per the basic mandate of the Electricity Act, 2003. Section 61 of the Act lays down different factors to be kept in mind as the guiding factors by the Commission for specifying the terms & conditions for determination of tariff. Sub section (d) provides that the consumers’ interests are to be safeguarded while at the same time recovery of the cost of electricity in a reasonable manner is to be ensured. Further sub section (g) provides that tariff should progressively reflect cost of supply of electricity and also reduce and eliminate cross subsidies. Thus, from the Board’s point of view, cost of supply of electricity is to be recovered and from consumers’ point of view, tariffs are to progressively reflect cost of supply. It is clear that cost of supply is the ultimate goal towards which tariffs of different categories of consumers have to move over a period of time. The above discussion is meant to illustrate the importance of cost of supply in tariff determination.

    Revenue Gap for a particular year will undoubtedly have to be worked out after accounting for any carry forward impact of the prior period surplus or deficit, as the case may be. For the current year alone, the Gap has been worked out at surplus of Rs. 270.53 crores. In other words, this is the amount by which the aggregate revenue at the current levels of tariff, including non-tariff income, exceeds the aggregate revenue required to meet all the legitimate expenses including permissible rate of return for the Board. The Commission has further given concessions in regard to rural domestic consumers, PSTC Tubewells and reduction in the rates of Monthly Minimum Charges as discussed in paras 7.17 to 7.19 of Chapter-7. The total revenue impact of these concessions is reduction of revenue by Rs. 94.67 crores This brings down the surplus for the year to Rs. 175.86 crores. To this, the surplus of the previous year amounting to Rs. 262.43 crores is added to arrive at the total surplus of Rs. 438.29 crores. It is this figure which is most relevant for determining new tariffs. This is because the basic approach of the Commission is to ensure that there is a perfect balance between revenues and expenses of the Board. This will be clear from discussion in para 10.5 of this Chapter.

10.3. CROSS SUBSIDY

    Cross subsidy is another important factor in determination of tariff. As already stated above, Section 61 of the Electricity Act, 2003 mandates the Commission to reduce and eliminate cross subsidies. The Act further goes on to say that the cross subsidies should be eliminated within a period to be specified by the Commission.

    As the mandate of the Act is clear and specific and cross subsidy is one of the critical factors in determination of tariffs, it is important to understand its meaning. The common understanding of the term ‘cross subsidy’ is the excess contributions made by a class of consumers over and above the contributions justifiably to be made on their part. These excess contributions are utilized for cross subsidizing other categories of consumers who may be contributing below their justified share. Hence, the term ‘cross subsidy’ i.e. cross subsidizing of one section / category of consumers by another section/ category of consumers. The Commission has decided to go beyond this general understanding of the term ‘cross subsidy’ and has made a serious effort to define the same. Definition of the term ‘cross subsidy’ is important as the same is intended to be used by the Commission for laying down its tariff policy. From the consumer’s point of view, it is important as it will clearly define the goal of the Commission and its impact on tariff to be paid by him in future years. The tariff principles adopted by the Commission in this regard will make the possible variations in tariffs more predictable.

    A valid question that can arise at this point is whether average cost of supply or class-wise cost of supply should be taken into account for working out justified contributions to be made by a consumer class/ category. Both ideas have strong logic in their support. The Commission notes that the mandate of the Act in this regard is not very clear. The wording used in the Electricity Act, 2003 is ‘cost of supply’ and not ‘class-wise cost of supply’ or for that matter not even ‘average cost of supply’. As such, it depends on individual Commission to interpret the meaning of ‘cost of supply’. The matter has been considered in our Commission and we have decided to use ‘average cost of supply’ for this purpose at this stage. This is in view of number of factors (1) mandate of the Act not being clear as indicated above, (2) requisite data for working out class-wise cost of supply not being available with the Board, (3) the existing tariffs being so skewed even with reference to average cost of supply that the goal of tariffs reflecting cost of supply for all categories itself will be attained by the Commission after much effort. As such, for practical reasons, average cost of supply should remain the first goal, and (4) the issue is already sub judice before Hon’ble Supreme Court as the first Tariff Order passed by the Commission was challenged by a few consumers in the High Court of Punjab and Haryana. One of the pleas taken by the appellants was the principle of ‘average cost of supply’ adopted by the Commission rather than ‘class-wise cost of supply’. The Hon’ble Supreme Court has yet to decide the matter. Meanwhile, Supreme Court has abstained from staying the operation of the Tariff Order of the Commission and the two Tariff Orders of the Commission both for the years 2002-03 and 2003-04, which are based on average cost of supply principle, have been implemented.

    In view of all above, for working out cross subsidies in the system the Commission has decided to continue with the principle of ‘average cost of supply’ as being adopted by it hithertofore.

    Coming back to the question of defining the cross subsidy, the Commission has explored all the alternatives and analyzed each of them before arriving at its conclusions. The Commission considers that there are at least four possible ways of defining the cross subsidies in a system. These are as follows :-
      (a) difference in absolute terms between tariff rates applicable to a particular category of consumers and the cost of supply;

      (b) difference between tariff rates applicable to a particular category of consumers and cost of supply as a percentage of cost of supply;

      (c) difference in absolute terms between the revenue actually realized from a particular category of consumers and the cost of supply ;

      (d) difference between revenue actually realized from a particular category and the cost of supply as a percentage of cost of supply.

    It will be noted that while options at (a) and (b) relate to tariff rates, the options at (c) and (d) relate to total revenue realized. In other words, while the first two options ignore revenues other than tariff income realized from a particular category of consumers the last two options incorporate this aspect. Further, while the options at (a) and (c) are in absolute terms, the options at (b) and (d) are in percentage terms.

    The Commission notes that options at (a) and (c) representing variation in tariffs/ revenue in absolute terms are not the best options for defining and assessing the level of cross subsidies. This is because both these options ignore the base level over which these variations are spread. To illustrate, 10 paise difference in average cost of Rs.2 is not the same as 10 paise difference in average cost of Rs.4. As such, base level of rate / revenue is as important as the variation in absolute terms in rate/ revenue. In view of this discussion, the Commission considers that option at (a) and (c) can be ignored.

    Regarding options at (b) and (d), the main difference is whether the cross subsidies should indicate variation in tariffs or in revenues realized. There is no denying the fact that what an individual consumer will be interested in is not merely the tariff rate applicable to him but also the revenues realized from him in totality. Similar is the position for the Board. As such, the Commission feels that the cross subsidies can be defined as per option at (d). In conclusion, the cross subsidy means “difference between revenue actually realized from a particular category and cost of supply expressed as a percentage of cost of supply.”
10.4 TARIFF PROPOSAL OF THE BOARD
    The tariff proposal of the Board is contained in Chapter 5 of this order. The detailed tariff schedule proposed by the Board is also contained in Annexure-I of that Chapter. Salient features of the proposal are narrated in Para 5.3 of that Chapter. Tariffs proposed by the Board indicate increases ranging from 2% to 33% in tariffs of different categories of consumers. Further, the Board has proposed Two Part Tariff for Large Supply and Railway Traction categories as against the Single Part Tariff presently applicable to these categories. It is, therefore, not possible to work out the proposed increases in tariff in these categories. Further, the Board has not covered MS and other categories for introduction of Two Part Tariff. The Board has also proposed increase in slabs of the domestic consumers. The present three slabs in this category are proposed to be increased to four slabs by dividing the first slab into two -- one slab upto 50 units and another slab of 51-100 units. Merger of PIUs and Arc Furnace units into one category is also proposed. Besides, some incentive for improvement in power factor is proposed. The Board has also proposed higher rebate for supply at 33 KV and above. Recovery of charges for transmission and system operation activities of the Board has been proposed separately from distribution business and on monthly basis. This was in view of the impending unbundling of the Board into separate generation, distribution, transmission and system operation utilities.

    The detailed discussion on each issue related to tariff is contained in Chapter-9 of this Order.

10.5 DETERMINATION OF TARIFF
    For determination of tariff, the Commission is guided by the principles enshrined in the Electricity Act, 2003. Section 61 of the Act lays down the various guiding principles in this regard. These are reproduced below for quick reference :-
      (a) the principles and methodologies specified by the Central Commission for determination of the tariff applicable to generating companies and transmission licensees;

      (b) the generation, transmission, distribution and supply of electricity are conducted on commercial principles;

      (c) the factors which would encourage competition, efficiency, economical use of the resources, good performance and optimum investments;

      (d) safeguarding of consumers’ interest and at the same time, recovery of the cost of electricity in a reasonable manner;

      (e) the principles rewarding efficiency in performance;

      (f) multi-year tariff principles;

      (g) that the tariff progressively reflects the cost of supply of electricity, and also, reduces and eliminates cross-subsidies within the period to be specified by the Appropriate Commission;

      (h) the promotion of co-generation and generation of electricity from renewable sources of energy;

      (i) the National Electricity Policy and tariff policy.

    For working out the ARRs, the Commission has kept these principles in mind. For tariff determination, the main principles are contained in sub section (d), (f), (g) and (i) above. However, National Electricity Policy and Tariff Policy are yet to be finalized by the Government of India. Only Draft Papers have been received by the Commission recently inviting comments from various parties and as such, cannot be taken as finalized documents. Also, the multi-year tariff principles for our Commission are still being developed. The Commission has, therefore, been guided mainly by the remaining two principles at (d) and (g) enshrined in the Act. The Commission has also been guided by the philosophies and principles adopted by it in the earlier two Tariff Orders. Besides, the Commission has taken a considerate view of the consumers’ genuine grievances and made special efforts to redress the same to the extent possible.

    Regarding the methodology for exact determination of tariffs for various categories of consumers, the Commission has firstly worked out the ARR for the current year. After adjustment of ‘Other Income’ and ‘Revenue from Tariff’ at the existing rates, the Commission has arrived at the revenue gap for the current year as already worked out in Table 7.44 of this order. Adding prior period surplus, the total surplus available with the Board works out to Rs.438.29 crores as given in Table 7.44. While working out this surplus, Regulatory Asset of Rs.150 crores created earlier has also been liquidated.

    The surplus amount available with the Board represents the surplus funds that will be available with the Board in case the existing level of tariff continues for the whole of the current year. The Commission has firstly decided to work out the impact of adjustments of this surplus over the whole year. The issue of annualisation of this tariff or giving retrospective effect to the same is discussed separately in this Chapter itself.

    The surplus of Rs.438.29 crores when spread over the ‘Revenue from Tariff’ at existing level i.e. Rs.7333.13 crores, represents 6% of that amount. Thus, for the surplus to be adjusted, the ‘Revenue from Tariff’ of the Board needs to be decreased by 6% on an average. In other words, the tariffs of consumers need to decrease by 6% on an average. However, presently variance of tariffs of various category of consumers from average cost is widely differing. As such, the Commission has decided that the decrease cannot be equal for each category of consumers. The percentage decrease allowed by the Commission for each category of consumers is as given below. The justification for allowing this level of decrease is also discussed further in this para.

    Category

    Decrease in tariff allowed

    AP

    3%

    Domestic

    3%

    SP

    3%

    MS

    6%

    LS

    8%

    NRS

    8%

    Bulk supply

    8%

    Public lighting

    8%

    Railway Traction

    10%


    In order to achieve the goal of moving the consumers towards average cost of supply and to reduce subsidies in the system as enshrined in the Act, the Commission has decided to reduce the tariffs of the subsidizing categories at a level much higher than for the subsidized categories of consumers. The Commission has also decided to pass on at least marginal relief even to subsidized categories and not to retain their tariff levels at the existing ones. This is because, only the AP consumers and DS consumers consuming electricity upto about 450 Units per month have tariffs below the average cost of supply now determined by the Commission. The quality of supply to AP consumers is definitely not at par with quality of supply to other categories of consumers. Also, this category of consumers was getting free supply of electricity till the first Tariff Order of the Commission when tariff of Rs.2 per unit was imposed on them against cost of supply of Rs.3.11 per unit implying over 60% recovery of cost from them overnight. Further, the tariff applicable to AP consumers in Punjab is among the highest as compared to other states in India. In view of all above, the Commission has not only decided not to increase the tariff of this category any further but also to pass on marginal relief from the surplus now available with the Board. As regards the lowest slab of Domestic Supply consumers, any increase in tariff in this category will hit the weakest section of the society most harshly. Tariffs applicable for the remaining two slabs of DS consumers are much higher than the average cost of supply. The consumers consuming above 450 units per month do generate cross subsidies and reduce cross subsidy requirement for the domestic category as a whole to some extent. The Commission has also endeavoured to ensure that cross subsidies in DS category as a whole reduce even after passing on marginal benefit of surplus to the lowest slab in DS category.

    Keeping in view the above and the requirement of average reduction in tariff of 6%, the Commission has broadly decided to grant 8% relief in tariffs to the subsidizing categories and 3% relief in tariff to the subsidized categories. The variations in this principle are discussed below.

    In case of SP category, the relief granted is only to the extent of 3% equivalent to subsidized classes. This is so because if higher relief is granted, a marginally subsidizing category (with reference to current year’s cost of supply) would have got converted substantially into subsidized category which would not have been in accordance with the mandate of the Electricity Act, 2003. Granting a higher level of relief than other subsidized consumers would, therefore, not have been appropriate. Denying this level of relief would also not have been justified as this relief is granted even to subsidized class of consumers paying tariff at much lesser rates.

    For MS category, only 6% relief has been granted to equate their tariff rates with those of LS. This would also be a very welcome step in the direction of reducing number of categories within industry. The rates of consumption of electricity are now equal for LS and MS category consumers. However, these will continue to exist as separate categories atleast for some time more due to the difference in their base voltages of supply. This issue will be further discussed by the Commission while making Regulations and determining other charges.

    Railway Traction has been granted 10% relief in view of the prevailing high tariff applicable to them. In fact, the tariff paid by them in Punjab is perhaps the highest in the country. The same at 447 paise per unit is much higher than the next highest tariff of 417 paise per unit in respect of NRS and Public Lighting and 388 paise per unit of Bulk Supply. It is true that the supply to Railway traction is a continuous supply and is not governed by peak load hour restrictions and weekly offs and generates adverse harmonics in the power system. Even these factors, however, do not justify the increment in the tariff already applicable for Railways as compared to other categories. Even Arc Furnaces and PIUs which generate similar harmonics in the power system, pay tariff of 366 paise per unit only. Hence the higher relief to Railway Traction.

    In addition, Monthly Minimum Charges for all categories of consumers have been reduced by 10% across the board as per discussion in para 7.17 of Chapter-7. Also, MMC for Ice Factories & Ice Candies and Cold Storages has been equalized.

    Based on the above principles and logic, the existing tariffs, the tariffs proposed by the Board and the tariffs approved by the Commission in respect of various categories of consumers are given in Table 10.1 below.



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