Annex-1 BACKGROUND NOTE DISTRIBUTION REFORM, UPGRADES AND MANAGEMENT (DRUM) PROJECT

Index

1.Background 2.USAID-MoP Drum Project 3.Roles and Responsibilities of Different Agencies

1.

Background

Reform of power distribution is today widely viewed as fundamental to improving commercial performance and financial viability of the power sector in India. In recent years, a number of states have worked to improve the commercial performance of their state utilities, unbundling state entities, creating more independent regulatory systems, and putting in place measures to control losses and theft. However, progress has been difficult, and slower than many originally hoped. Recognizing the urgent need to address the issue of reducing losses and improving the quality of power delivery, the Ministry of Power (MoP) has focused on implementing distribution reforms and has introduced several measures to further the process. The recent initiatives include the enactment of the Electricity Act 2003 which provides for a framework for more competitive, transparent and commercially driven power sector. The Act recognizes the need for a strategy that distinguishes urban power distribution from rural electricity supply. It also facilitates establishment of participatory models for rural distribution including electric cooperatives, rural gram panchayats (local government), distribution franchisees, etc. The other program focused on implementing distribution is the Accelerated Power Development Reform Program (APDRP) to finance the modernization of sub-transmission & distribution networks including a system of local management and energy accounting through widespread metering in every state utilitys distribution circles. Further details on legal, regulatory and policy framework can be obtained from the Ministry of Power website (www.powermin.nic.in).

2.

USAID/MoP DRUM Project

The Ministry of Power (MoP), Government of India (GoI) and USAID/India recognize that the major inefficiencies in the electricity distribution sector inhibit a more rapid and comprehensive reform of the energy sector throughout the country. As a result, USAID/India designed the Distribution Reform Upgrades and Management (DRUM) project with the purpose to demonstrate best commercial and technological practices that improve the quality and reliability of last mile power distribution in selected urban and rural distribution circles in the country. The project is in synch with the GoI policy on power sector reforms, the Electricity Act 2003 and the APDRP scheme. DRUM is a 5-yr. bilateral project with a planned Life-of-Project funding of US $30 million. The USAID/India Mission is at the early stages of implementing its recently approved new strategy for the period FY 2003-2008. A key component of the new strategy involves supporting power sector reforms, specifically distribution reforms (DR) to address core sector issues of poor financial performance, lack of commercial approach and consumer orientation, low energy efficiency and adverse environmental impacts. To this end, USAID/India is working to catalyze efficient models of urban and rural power distribution and end-use, including distributed generation that promote commercial and technical best practices directed at advancing state power sector reforms

PROGRAM OBJECTIVES DRUM is the product of extensive discussion within both India and the US. Its design is drawn from a detailed analysis titled Study Report: India Electricity Distribution Reform Initiative. For further information please refer to USAID/India website at www.usaid.gov/india. The Distribution Reforms Upgrades and Management activities (DRUM) are being launched with the purpose to demonstrate best commercial and technological practices that improve the quality and reliability of last mile power distribution in selected urban and rural distribution circles in the country. The overall programmatic goal is to demonstrate commercially viable electricity distribution systems that provide reliable power of sufficient quality to consumers and to establish a commercial framework and a replicable methodology adopted by Indian Financial Institutions (FIs) for providing non-recourse financing for DRUM activities and programs. The Anticipated Results are: Improved power distribution Better availability and quality of electricity Enhance commercial orientation and drive Develop consensus and facilitate distribution reform process Enhance viability of the sector Strengthen Distribution Reform initiatives of the MoP Enhance efficient utilization of APDRP funds Evolution of alternative financing mechanisms Improved groundwater management

The DRUM project has four main program components: Component 1: National Strategy and Alternative Financing Component 2: State Planning and Design Component 3: Distribution Reform Pilot Projects Component 4: Water-Energy Nexus Activity (WENEXA)

The objectives of the DRUM program are (a) to establish the framework, institutional capacity and project development functions at the central and state levels and, (b) to enable implementation of several full-scale commercially replicable distribution initiatives in key reform states in India. It is expected that a number of pilot projects would be implemented over the Life of Project. Initially the work would be initiated in two states where distribution circles would be selected for implementation of projects. Based on review and experience and subject to availability of funds, additional states can subsequently be added. It would be possible to consider schemes that have already been designed and/or background work initiated by SEBs/Distribution Companies such as Participatory Rural Electricity Supply in Karnataka (PRSEK) activity supported by USAID, franchisee/micro-distribution schemes in Gujarat etc. The following paragraphs describe the key elements of each of the four components.

Component 1: National Strategy and Alternative financing. At the national level, DRUM will support distribution level reforms through the following two initiatives: 1 (a) Support for Distribution Reform & Alternative Financing

Institutional strengthening, training and capacity building of GOI departments, entities engaged in distribution reform and in implementation of the Electricity Act 2003 as well as that of the relevant financial institutions to facilitate alternative financing for investments in distribution business. The focus of this component will be to design alternative financing mechanisms particularly to further rural electrification program of GoI and providing support to APDRP program initiated by the Ministry of Power. This component will be executed by Rural Utilities Services (RUS) through a Participating Agency Services Agreement (PASA) with the U.S. Department of Agriculture and Foreign Agriculture Services. The experience of rural utility financing in the United States for cooperatively owned and operated entities both with and without public financing has important lessons for India. It demonstrates clearly that it is possible to develop credit worthy entities starting from relatively modest beginnings. Under 1936 New Deal legislation, the Rural Electrification Administration (REA, new title Rural Utility Services (RUS) funded electric cooperatives with debt capital to cover 100% of the cost of building distribution systems. Major objectives of this assistance include: Strengthen REC capacity for loan portfolio design and management for rural electrification project financing and replication. Strengthen the capacity of APDRP to finance, plan, design and monitor rural distribution system improvements in selected distribution circles in reform states. Support the design of rural distribution reform regulatory frameworks including the design and evaluation of applicable participatory rural distribution models. Provide support, as necessary, to USAID/Indias appointed DRUM Institutional Contractors to demonstrate best management, commercial and technological practices in rural distribution system planning, operation and maintenance. Provide general project support for activities (as determined by USAID/India) such as organizing training and exchange programs, participation of Indian officials in national, regional and international conferences and seminars.

1. (b) Support for Functional Training As a part of the national strategy, it is also proposed to provide training to a significant number of distribution utility engineers, managers and as well as regulatory commission

and staff personnel of various states. The training activity would be regionally spread and is expected to cover most of the Indian states and would be delivered through several geographically dispersed Indian institutions engaged in power sector and distribution reform activities. The training will focus on the following subjects under three broad functional areas i.e. Technical, Managerial/Business and Supportive Functions. (i) a. b. c. d. e. f. (ii) a. b. c. d. e. f. g. Technical Best Practices in Distribution Systems O&M GIS-Supported Network Planning, Analysis and Asset Management Distribution Loss Reduction Distribution Efficiency and Demand Side Management Best Practices for Agricultural Pump-sets (Rural DSM) Electrical Safety Procedures, Accident Prevention and Disaster Management Managerial/Business Performance Benchmarking, and Quality of Supply and Service Customer Satisfaction, Communications and Outreach Distribution Business Management and IT based solutions Financial Management of Distribution Business Regulation of Distribution Business Rural Power Supply and Participatory Models Change Management in Power Distribution

(iii) Supportive functions a. Project Development and DPR Development b. Communications Skills, Employee Motivation, Development

and

Morale

The training would be delivered to the following six target groups and structured to the functional needs of each of them: i) policy makers and regulators ii) regulatory staff iii) senior managers and engineers iv) mid-career managers and engineers v) entry level managers and engineers vi) distribution utility personnel including technicians, linesman, meter-readers, billing and collection staff, customer interface personnel etc. All training programs would be of at-least one week duration and need to be designed to facilitate awareness, skill development, enhancing understanding and implementation of key provisions particularly those related to distribution business, under the Electricity Act 2003 as well as for internalizing best practices in distribution. Simultaneously the training programs aim to share experience on national and international best practices, and innovations in community based participative distribution business models. Practical

demonstration, case studies and field visits should form an integral part of training activity to be developed and undertaken in distribution reforms. This component will be supported by a Training Institutional Contractor to provide crosscutting support to selected Indian Institutions on curriculum development, training of trainers, case studies etc. Component 2: State Planning and Design Activities under this component will enhance the capacity of state energy departments, distribution companies and other stakeholders to prepare and execute DR strategies to improve commercial viability of the sector, reduce the need for power subsidies and reduce state fiscal deficits. Major objectives of this assistance will include: Enhancing commercial orientation and consumer friendliness of electric utilities and other stakeholders Implementation support for operationalizing provisions of Electricity Act 2003 as consistent with the program objectives. Providing training and capacity building to advance distribution reforms including conducting training needs analysis Implementation support for regulatory and legal frameworks for reducing electrical theft; Commercial and financial risk management Technological interventions for theft control including mapping of distribution networks in selected states, in part to identify high-loss points in power delivery systems, prepaid meters etc; Disseminating engineering standards for equipments, systems and practices to ensure better technical performance and safety standards; Develop capacity of electric utilities to deal with disasters; Use of IT for enhancing efficiency and performance of distribution business Sharing lessons learned from distribution demonstration projects to facilitate replications of successful interventions.

Component 3: Distribution Reform Pilot Projects The centerpiece of DRUM will be demonstration pilot projects in rural and urban areas that demonstrate models of excellence in distribution through technology upgrade, capacity building, improving technical efficiency, cost recovery and customer functions in local power distribution units. The pilot projects will demonstrate best technological, institutional, and commercial practices for wider replication. Major Objectives of this assistance will include: Defining model distribution system in Indian context

Completing rigorous cost benefit analysis of proposed engineering and equipment upgrades as part of improved planning processes; Procuring and installing infrastructure upgrades and retrofits (such as high voltage distribution systems, efficient transformers, information technology tools, etc.) to improve the quality and reliability of power delivery, and minimize losses; Training in efficient distribution system management and operation; Exploring and implementing alternative models for management of distribution business and promoting interaction between distribution units and their customers via village electricity committees, franchises, energy services companies, consumer call centers, and NGOs to manage last mile connections to new customers and improve customer relations; and Investing in and encouraging end-use energy efficiency technologies (such as more efficient agricultural water pumps, or better information on peak use periods). Improving commercial functions (metering, billing and collection systems) to build revenues and cut commercial losses and customer service and friendliness;

The distribution circles will serve as models of excellence and permit the showcasing high quality and reliability of power delivery and customer service by application of efficient technologies, systems, business values and practices. A special feature of the project will be its focus on enhancing customer relations and the role of village level communities, co-operatives, and private entrepreneurs in managing the business of rural power distribution. Further, options such as distributed generation will be investigated for their cost-effectiveness and reliability of supply. The Component 2 and Component 3 shall be implemented by a Technical Assistance Institutional Contractor comprising of U.S. and Indian consulting firms. The Technical Assistance Institutional Contractor would selected through a competitive process organized by USAID and MoP. It will be the focal point for either directly implementing selected interventions and/or facilitating the implementation of other interventions in partnership with key counterparts in India. The Institutional Contractors team would comprise of a mix of U.S./Indian consultants with expertise in different fields including engineering, distribution management, project management, economic analysis, regulation etc. The TA Institutional contractor will establish a project management unit at the local level for smooth implementation of activities under Component 2 and Component 3 and shall work in close coordination with the Ministry of Power and the state utilities such as the State Energy Deptt., SEB/Distribution utility, state regulatory commission etc. An Engineering, Procurement and Commissioning (EPC) Contractor, Indian firm, would be contracted the job of turn key execution of demonstration projects. The State utilities would be responsible for issuing bid documents for executing work on demonstration projects. They would also conclude contracts with EPC contractors and would be actively involved in their supervision. The IC would be available to provide assistance in this process. On completion of works the utility would verify and issue certification to that effect. USAID procurement guidelines and regulations would be applicable for

works to be executed using USAID funds. The State utilities would also interact with Partner Financial Institution for leveraging and structuring of USAID funds and project finances. Component 4: Water-Energy Nexus-Activity (WENEXA) Water Energy Nexus Activity (WENEXA) is designed to address problems whose roots lie at the intersection of the countrys water and energy sectors. This programmatic focus comes at a critical time, when India is facing a crisis of quality and quantity of both the resources in all the sectors. While the situation for water and energy is serious when each resource is viewed independently, vicious cycles exist between the two that greatly exacerbate inefficient behaviors. Patterns of waste and inefficiency at the nexus of water and energy resource use exist in all sectors including urban/domestic and industry, but are especially prevalent in agriculture, which is the largest single consumer of water and uses 30% of the electrical power in the country. Major Objectives of this assistance will include: a) Establish an integrated approach to energy and water management and services for optimal utilization of these resources, b) Provide enabling policies for inter-sectoral decision making and tools c) Promote collaboration between the providers of water and energy services for reliable and efficient delivery of energy and water to consumers, d) Strengthen public/private/civil society linkages in energy/water utilization and waste management for mutual benefits for all parties involved, e) Foster innovation and technology in water sector to improve water and energy use efficiency and pollution prevention, and f) Advance innovative and sustainable financing as an incentive for all levels. This component will be implemented through a separate Institutional Contractor (WENEXA Institutional Contractor). The WENEXA Institutional Contractor would work in close coordination with the TA and Training Institutional Contractor to ensure co-ordination and harmonization of all DRUM activities. Leveraging of Funds The TA Institutional Contractor will work with the lead financial institution in structuring and financial leveraging for the project to ensure optimum use of the available USAID grant funds. The Contractor would specifically explore the contractual relationships and arrangements for commodity procurement between the utility, financial institutions, and the turnkey EPC contractor. The application of USAID grant funds and the leveraging of funds with those available from APDRP will be examined. The Contractor would also consider leveraging USAID funding with that of other multilateral and bilateral donors to enhance the demonstration impacts. The project structuring will involve investment strategies on both sides of the meter, procurement procedures for capital items (HVDS, DTR installations, etc.) , ESCO performance contracts for DSM/EE interventions, energy

savings payments schemes and monitoring & verification of system performance and installation of USAID financed goods, works, and services. All key donors have been actively engaged in India's power sector. following activities are directly related to distribution reforms: Some of the

World Bank aided State Power Sector Reforms in AP, Orissa, Karnataka, UP, and Rajasthan with major focus on introduction of commercial practices and distribution privatization ADB aided State Power Sector Reforms in Gujarat and MP, specifically in MP in supporting the establishment of a joint venture distribution company in the Gwalior Zone. GTZ supported IGEEP project on Agricultural Demand Side Management in three districts in Karnataka; past DFID work at Nalgonda District, AP on Distribution Efficiency; past OECF pilot project on Distribution Efficiency at Warrangal District, AP

3.

Roles and Responsibilities of Different Agencies

(i) The Ministry of Power, GOI: The MoP is the GoI bilateral partner for the DRUM project responsible for facilitating and coordinating all key activities. In the MoP, the office of JS (Distribution) provides programmatic and administrative support to ensure smooth implementation of all components of the project. Rural Electrification Corporation (REC) and the APDRP cell within the MoP would be key beneficiaries under Component 1 of the DRUM project and the RUS team would work in close coordination with officers and staff of the cell. (ii) The Project Advisory Committee

A high level Project Advisory Committee comprising of various stakeholders has been constituted to provide policy advice and guidance on the DRUM project. Partner state utilities and regulators will be included in the PAC at an appropriate juncture. (iii) Partner State Utility (SEB/DISCOM): State utilities (SEBs/Distribution Companies) shall be the centre of implementation of Component 2 (State Planning and Design) and Component 3 (Distribution Reform Pilot Projects) of the project. They would be beneficiaries of the technical assistance as well as distribution upgrades in the demonstration projects at distribution circle level. The Institutional Contractors (IC) would work in close coordination with partner utilities to provide assistance in improving distribution business process in their selected circle/division specifically as well as at corporate level. The Institutional Contractor would also provide assistance in operationalizing key provisions of Electricity Act 2003 and developing capacity within the utility to execute newly developed roles and function. Detailed Project Reports (DPRs) would be developed by the IC in consultation with the utility. Further, the IC would provide support in selecting an appropriate EPC contractor and supervision and guidance to their work. It is envisaged that the state utilities would provide counterpart

resources (office space, facilities etc.) and a dedicated team to work with the Institutional Contractor to ensure smooth implementation of the project. Further, it is expected that key members of the team would be available for entire duration of the project to maintain momentum and continuity. The State utilities would be responsible for issuing bid documents for executing work on demonstration projects. They would also conclude contracts with EPC contractors and would be actively involved in their supervision. The IC would be available to provide assistance in this process. On completion of works the utility would verify and issue certification to that effect. USAID procurement guidelines and regulations would be applicable for works to be executed using USAID funds. The State utilities would also interact with Partner Financial Institution for leveraging and structuring of USAID funds and project finances. (iv) Partner State Energy Department and ERC: These agencies would also be beneficiaries of USAID technical assistance and capacity building under the DRUM project. It is expected that these agencies would provide an enabling environment for the DRUM project to ensure smooth implementation. The Institutional Contractor would provide appropriate support to enable implementation of the Electricity Act 2003 and in other areas as mutually agreed. (v) Partner Financial Institution: PFC is being engaged as a partner financial intermediary and to provide management support for the project. The financial institution (FI) would work in close co-ordination with the TA institutional contractor and partner state utilities for structuring project finances and leveraging of USAID resources. Further, the partner FI would provide management support for implementation of the project. Additional FI may, if required, be subsequently added to the project. (vi) Training Institutions: The MoP will nominate few select Indian institutions who would be responsible for delivering training on distribution business management and regulation. These institutions would be beneficiaries of USAID technical assistance support through Training Institutional Contractor and also limited USAID funds, subject to availability, for conducting training programs on cost-sharing basis. These institutions would commit to deliver training program for the central and state utilities, energy departments, regulatory commissions and others. The training program and related course material, case studies etc. would be developed by the Training institutions with support from Training Institutional Contractor. Delivery of the training programs including logistics, infrastructure, marketing, printing of materials etc. would be managed by the nominated training institutions. For in-house training institutions of SEBs/Distribution companies, upto 20% of the participants can be from the parent utility in the state and rest maybe sourced from other utilities/states.