The demand for coal continues to rise, with it accounting for 66% of total electricity generated in FY11.
Fitch Ratings says that India's power generation companies could be adversely affected by coal shortages, which are likely to persist over the short-to-medium term. The comment comes after a recent government decision to prioritise coal supplies to generators which sell electricity through power purchase agreements over merchant generators or those that run on 30% imported coal. Hence, state-run power producers including NTPC Limited and Damodar Valley Corporation are likely to benefit from this decision.
"Coal demand has increased significantly with the commissioning of new coal-fired generation capacity. Given India's chronic power deficit, this trend is likely to continue. A lower-than-expected increase in domestic coal production, particularly due to delays in the development of captive coal blocks allocated to the power generators, has added to the demand-supply gap," says Salil Garg, Director in Fitch's energy and utilities team.
Fitch notes that coal will remain the dominant fuel for the Indian power sector, given the lower-than-expected gas production from existing fields and no new major gas discoveries. Additionally, the majority of the future generation capacity additions will be coal-fired. Coal accounted for 54% of total power capacity at end-April 2011 and 66% of total electricity generated in FY11.
Government-owned Coal India Limited dominates the domestic coal supply market with a 80% market share, although some industrial consumers, typically in the power and steel sectors, have access to captive mines. CIL's non-coking coal production has grown by 3.7 % CAGR over FY07-FY11, below the rate of coal-fired capacity additions (7.2% CAGR over the same period).
Its production target for FY12 is 452 million metric tonnes, only marginally up from 431mmt recorded in FY11, as the development of some new fields has been hindered by environment ministry concerns. Environmental issues have also led to most consumers' captive mine blocks lying idle. As a result, the coal ministry projects a coal supply shortfall of up to 142mmt in FY12.
Power Finance Corporation Limited's government-backed initiative to set up ultra mega power projects has been delayed as bidding for two 4 gigawatt plants in Orissa and Chattisgarh has been postponed as captive mines earmarked for the projects fall in areas barred from mining by the environment ministry.
Fitch notes that the increasing dependence on imported coal is a challenge for the Indian companies. First, the price of imported coal is higher than the price of domestic coal bought from CIL under fuel supply agreements, although this only affects generators which cannot pass-on fuel costs through PPAs. Secondly, the weak coal transportation infrastructure between ports and power plants can lead to supply shortages affecting generation output.
In FY11, coal shortages were largely responsible for thermal power generation missing its 690 terawatt-hour (TWh) target by 35TWh. Thirdly, boilers are designed for a particular coal quality range and deviations in quality adversely affect generators' performance and efficiency. For this reason, most Indian power plants cannot use more than 30% imported coal. Lastly, realising the increasing demand from India and China, governments of coal exporting nations such as Indonesia and Australia have been looking at policy actions that might restrict exports or increase the export price.
Fitch believes that both the Indian government and the coal industry will need to take action to mitigate the near-term coal availability and price risks. As part of these efforts, CIL is planning quick liquidation of pit-head coal stocks and prioritised allocation of coal. Relaxation of the environmental constraints currently preventing mine development could open up more areas for mining.
Fitch believes that in the near-to-medium-term, credit metrics of the merchant power and imported coal-fired generators might come under pressure due to fuel cost increases and supply constraints. Generators which are able to pass-through fuel cost increases could face increased off-take risk as state power utilities may have limited appetite to buy expensive power. Fitch notes that the increase in the coal-fired generation sector's risk profile has led to a reduction in investor interest and higher target investment returns for new power plants.
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