India has been discussing dollar dominated bids for solar projects in the country for some time now. The rationale is to attract low cost international capital and reduce hedging costs by pooling currency risk with the ultimate objective of reducing the cost of solar power. An initial allocation for 1 GW of projects is believed to be in planning stages and guidelines on bidding process are expected within the next couple of months.
- The government hopes to lower the cost of solar power by around 10%
- BRIDGE TO INDIA analysis shows that cost reduction may be slightly less at about 5% but these projects may attract new capital to the sector
- It is worth going through the added complexity of Dollar dominated bids only if the government is confident of using this mechanism for much larger capacity, say 10 GW or more
Under this structure, National Thermal Power Corporation (NTPC) hopes to buy solar power at a fixed tariff of about USD 5.6 cents/kWh (INR 3.6/kWh) using auction process and sell to distribution companies (DISCOMs) at around INR 5/kWh, about 10% lower than current cost. This leaves INR 1.40/kWh to cover hedging risk.
BRIDGE TO INDIA analysis shows that this is a sensible move as there is already very strong demand from international investors for Indian solar projects. But the actual tariffs realized under Dollar denominated bids will likely be less than 10% because procuring currency hedging for 25 years is not possible and it is not clear who will maintain this hedging corpus and bear the residual risk. This unhedged risk, which increases with time, is very difficult to quantify and will result in higher hedging cost.
It is important to highlight that the Dollar tariffs will remove exchange rate risk for developers and investors, but they will still bear all other India project development risk including offtake, dispatch, policy and other operational risks. Hence, developers expecting 10-11% return on projects in the USA, for example, will still expect a return premium for Indian projects to compensate for extra risks. And will the international lenders who anyway do not take any currency risk see these projects differently? The government should finesse the structure after thorough consultation with developers and lenders, distribution companies and NTPC, which is expected to be the project procurement agency. It might take another 6-8 months before all the kinks are ironed out and India actually moves forward with the first round of dollar dominated bids.
It is worth going through the added complexity of Dollar dominated bids only if the government feels confident of using this mechanism for much larger capacity, say 10 GW or more. The clear objective should be to attract large international developers for larger projects and reduce project procurement time and costs in addition to hedging costs.