A growing financial imbalance is placing electricity distribution companies in the country under mounting strain, highlighting the need to redesign retail electricity tariffs, the Central Electricity Authority (CEA) has flagged in a new report.

The strain is mainly because of the widening mismatch between the fixed costs incurred by electricity distribution companies, or DISCOMs, and the fixed charges they recover from consumers through electricity bills, the report noted.

While a large share of a DISCOM’s expenditure remains fixed and must be paid regardless of how much electricity is sold, the bulk of its revenue continues to depend on variable energy consumption. The electricity bill a consumer pays does have a fixed component and another depending on the actual units used, but the former is too small to recover a DISCOM’s expenditure.

A DISCOM’s fixed costs include capacity payments to thermal power generators, transmission costs, employee salaries, and infrastructure maintenance. These expenses have to be paid on a lumpsum basis, irrespective of DISCOM’s energy sales.

According to the report, such fixed expenses account for nearly 38% to 56% of a DISCOM’s total Annual Revenue Requirement (ARR) — the total revenue a utility is expected to recover in a financial year to meet all operational and capital expenditure obligations.

However, fixed charges collected from consumers currently contribute only around 9% to 20% of total revenues. As a result, most DISCOMs recover a significant portion of their fixed costs through variable energy charges linked to electricity consumption.

Financial strain

Under long-term power purchase agreements, DISCOMs are required to pay fixed capacity charges to power generators regardless of whether electricity is actually drawn from those plants. If electricity demand falls, revenue collections decline, but the fixed obligations remain unchanged.

“Because DISCOMs must pay fixed capacity charges regardless of power drawn, recovering these costs through variable energy sales creates liquidity crises during periods of low demand, such as cool summers or economic downturns,” the report noted.

The problem is becoming more pronounced amid India’s ongoing energy transition.

Large industrial consumers and affluent residential users are increasingly adopting rooftop solar systems, captive generation facilities and open-access power procurement.

Captive generation refers to electricity produced by consumers for their own use, usually through privately owned power plants or solar installations set up by large factories, industrial parks or commercial establishments. Instead of buying all their electricity from the local DISCOM, these consumers generate part or all of their own power.

Open-access power procurement allows large consumers to purchase electricity directly from power producers, renewable energy companies or electricity exchanges using the existing transmission network, rather than sourcing power solely from the local DISCOM. The mechanism was introduced to increase competition and give bulk consumers access to cheaper power.

While this reduces their electricity purchases from DISCOMs, they continue to remain connected to the grid and rely on the distribution network for reliable and backup supply during emergencies or periods when renewable generation is unavailable.

This leaves DISCOMs maintaining expensive transmission and distribution infrastructure without being able to fully recover the associated costs.

“Since the DISCOM was relying on those sales to recover the fixed cost of the wires and plants, it now has ‘stranded’ fixed costs,” the report said.

To address the issue, the CEA has recommended a gradual increase in the fixed-charge component of retail electricity tariffs over the next five years.

Under the proposal, domestic and agricultural consumers would gradually move towards recovery of 25% of fixed costs through fixed charges by 2030, with the target increasing further to 50% by 2035.

For industrial, commercial and institutional consumers, the CEA has proposed 100% recovery of fixed costs through fixed charges.

The report said the transition should be implemented in a phased manner, taking into account existing tariff structures, regulatory decisions and improvements in metering infrastructure to ensure greater clarity and predictability for consumers.

Apart from restructuring tariff design, the report has also recommended introduction of standardised two-part tariffs across states, adoption of uniform billing demand methodologies, and implementation of apparent energy billing for consumers with connected loads above 50 kilowatts.

The report noted that in many states, the fixed charge component of electricity for residential consumers is flat and is not linked to the consumer’s actual electricity demand or connected load. To make tariff structures more uniform and cost-reflective, it has recommended that fixed charges for low-tension (LT) residential consumers should be calculated on the basis of connected load in kilowatts (Rs/kW/month).

For high-tension (HT) consumers such as industries, commercial establishments and institutions, the report has proposed fixed charges based on kilovolt-amperes (Rs/kVA/month), which better reflects the actual load imposed on the electricity network.

Further, the CEA has proposed separate tariff categories for net-metering rooftop solar consumers as well as structured standby charges for open-access users so that DISCOMs can recover the cost of maintaining infrastructure used as backup support.

In effect, the CEA essentially wants DISCOM bills to resemble telecom or internet bills more closely: a higher fixed fee for staying connected to the network, and a separate usage-based charge on top of that.

It will eventually mean consumers paying a large portion of their bills as a compulsory fixed charge, regardless of their actual energy consumption.