The surging environmental concerns across the globe have resulted in high demand amongst nations to make an effort to reduce their carbon footprint and in order to achieve the desired goal, there is rapid increase in the demand of renewable electricity, as it one of the simplest and efficient way to reduce the carbon intensity of power.
However, the rapid surge in the demand of renewable electricity had posed a substantial question for governments that, how will they switch from conventional fossil fuels to renewable electricity and fulfil the demand of electricity in an efficient manner. The answer to the same is Virtual Power Purchase Agreements (“VPPA”)
The VPPA is basically a financial instrument that allows the power generating company (“Seller”) to sell electricity in open market to its consumer, which can either be a state owned electricity distribution company (“DISCOM”) or a Private company.
In VPPA, the price of the transaction is decided based on the difference between the market price and the strike price, which creates a smooth process of procurement of power with financial and strategic advantages, as it allows the parties to assess the risks, overcome the price volatility of the electricity market, determine the settlement mechanism and help the consumer fulfil their demand of renewable energy consumption beyond the physical purchase of electricity.
However, since the value of the contract is derived from the sale of electricity from an underlying asset, VPPA are typically “Derivative Contract”. Therefore, from the legislative perspective the jurisdictional component regarding the regulatory framework applicable to VPPAs in India is still unclear.
Although in VPPA, there is no physical transfer of electricity, the effect of the underlying financial arrangement in such VPPA is such that the Seller company will always expect to receive, and its consumer (“Buyer”) will always expect to pay the strike price as agreed upon at the time of inception of the Agreement.
Despite VPPAs being “Derivative Instrument” in essence, it offers some additional advantages for both buyers and sellers of renewable energy.
ADVANTAGES FOR BUYERS
Typically, when a Seller produces renewable energy in excess of the compliance requirements an Energy Attribute Certificate (“EAC”) or Renewable Energy Certificate (“REC”) is issued to them by a designated agency for each additional megawatt/hour of electricity generated or purchased.
Now, such EACs or RECs can be treated as Renewable Energy (“RE”) under a specific regulatory regime. Therefore, in case such EACs or RECs can be transferred to the Buyer under the guise of VPPA, then such VPPAs can be helpful for those entities that are mandated to comply with such mandates by law or policy, especially in locations where renewable resources are unevenly distributed or intermittently available.
ADVANTAGES FOR SELLER
The ability to sell the RE and the EACs or RECs associated with it under the VPPA, will help provides a level of guaranteed revenue and maintain the economic viability of such RE projects.
The exact amount the customer receives or pays to the project developer at the time of settlement depends on the difference between the “strike price” or contract price for the power set down in the VPPA and the price of electricity already available on the local market .
That in case the market wholesale price is high the electricity cost would also be high. However, the same can be set off by the additional amount that one receives from the VPPA transaction. The inverse is also possible for the same. Therefore, such benefits associated with a VPPA have led to a growing number of stakeholders committed to a sustainability-driven platform.
Furthermore, the ability to acquire EACs or RECs under VPPA will help buyers use such EACs or RECs for its own benefit i.e., for compliance or branding purposes.
TUSSLE FOR JURISDICTION: THE REGULATORY FRAMEWORK
The dispute regarding the jurisdiction of VPPA first arose in the case of Multi Commodity Exchange of India Limited & Another v/s Central Electricity Regulatory Commission & Ors. [WRIT PETITION NO. 1197 OF 2010], wherein, the Securities and Exchange Board of India (“SEBI”) argued that the futures and forward contracts i.e. the derivative agreements like the VPPA cannot fall within the jurisdiction of the Central Electricity Regulatory Commission (“CERC”) since VPPA’s are purely ‘financial contracts’ and such contracts should be under the jurisdiction of a ‘specialized body’ made for the regulation of such ‘purely financial contracts’.
On the contrary, CERC argued that Section 66 read with Section 178(2)(y) of the Electricity Act enables CERC to regulate the development of energy market. Such development should be inclusive of the trading of futures and forwards dealing with electricity.
The Hon’ble Supreme Court in the case of Power Exchange of India Ltd. through Vice President vs. Securities and Exchange Board of India etc. [CIVIL APPEAL Nos.5290-5291 OF 2011] finally resolved the long-standing turf battle between the SEBI and the CERC with respect to the regulatory jurisdiction with regard to forward and derivative contracts in the electricity sector.
Pursuant to the decision of the Hon’ble Supreme Court, the CERC and SEBI decided that the former would regulate physical delivery-based forward contracts, while financial and commodity derivatives in electricity would be regulated by the latter.
The settlement between CERC and SEBI in the subject matter demarcated the following:
The physical and financial components of VPPA-based transactions in India may have been addressed, but as of this pronouncement, it is still uncertain if they have been adequately covered.
Due to this uncertainty, the CERC and SEBI might work together to clarify the proper regulatory authority with regard to VPPAs, including by issuing additional regulations in this area, if necessary.
CHALLENGES AND RISKS
According to estimates based on the ease of regulatory compliance, India’s overall demand for VPPAs by 2030 may be in the range of 20–90 GW. This would assist in reaching the 450 GW renewable energy target by 5 to 20 percent.
However, conflicting regulatory responsibilities between the CERC and SEBI has placed the implementation of VPPA in jeopardy (to monitor the instrument in power markets). According to the 2019 recommendations of the committee of Ministry of Power (“MoP”) on “Efficient Regulation of Electricity Derivatives,” the financial transaction of power would be governed by SEBI, while the physical transaction of power will be governed by the CERC.
This was reaffirmed in the judgement of Power Exchange of India Ltd. through Vice President vs. Securities and Exchange Board of India etc [Supra] wherein, the Hon’ble Supreme Court gave go-ahead to this suggested arrangement, opening the gateway for power derivatives in India.
The jurisdictional problem with a VPPA has not yet been totally resolved by this ruling.. As a result, the following questions remain unanswered:
This also indicative of other persistent problems, namely:
The concept of VPPA, which has gained popularity in recent years, is now the transaction structure with the greatest growth. It enables participation from smaller buyers and businesses without extensive experience in energy trading.
Numerous businesses have been able to get quickly and significantly closer to their ambitious renewable energy objectives, because of the developments in VPPA. However, the power to adjudicate disputes arising from the transactions taking place under an agreement like a VPPA is still under contemplation.
Although the judiciary has attempted to disintegrate powers between SEBI and CERC, the regulatory mechanism stipulated under the statutory framework does not provide a comprehensive mechanism, which has answers for all the queries raised by the implementation of this flawed mechanism.
– Team AMLEGALS
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