Appendix B: Report of the Cabinet Sub-Committee to Review the Dabhol Power Project

Appendix C: Selected Recommendations and Conclusions from the Parliamentary Standing Committee on Energy, May 29, 1995

Appendix D: Correspondence Between the Government of India and the World Bank

In 1992, pursuing a policy of economic liberalization, the Congress (I)-led government of India, under then Prime Minister P.V. Narasimha Rao, announced that it would open up the power and electricity sector to foreign investment. On a three-week trip abroad, during May and June 1992, a senior Indian government delegation met with Enron officials and announced that the company was interested in building a power plant in India.1

On June 10, 1992, almost immediately after the delegation’s trip, the Indian government’s secretary of power informed the Maharashtra State Electricity Board (MSEB) that a group of Enron officials was coming to survey land along the coast of Maharashtra for a proposed power project. Five days later, representatives of Enron and General Electric arrived in New Delhi and met with officials of the central government about the proposed project. Two days after that, the company delegation arrived in Bombay and reviewed sites along the coast.2 Following their survey, they met with representatives of the government of Maharashtra, and on June 20, 1992, a Memorandum of Understanding (MoU) with the state government was signed to build the Dabhol Power project. The operating entity would be known as the Dabhol Power Corporation (DPC), a joint venture of Enron, General Electric, and the Bechtel Corporation.3 In the eyes of the public, the DPC was Enron, and it is often colloquially referred to as “the Enron project,” “Enron,” or “the Enron Power project.”

Although the MoU was not a legally binding document, the deal-making process was criticized for its haste, its lack of transparency, and the absence of competitive bidding. The process would form the basis for a widespread belief that corruption played a role in the project’s implementation. Detailed criticism of the agreement was provided in the Maharashtra government’s 1995 Report of the Cabinet Sub-Committee to Review the Dabhol Power Project, which stated:

Thus, in a matter of less than three days after its [the delegation’s] arrival in Bombay, an MoU was signed between Enron and MSEB in a matter involving a project of the value of over Rs. 10,000 crores [almost $3 billion] at the time, with entirely imported fuel and largely imported equipment, in which, admittedly, no one in the Government had expertise or experience. In fact, the file [on the project] does not even show what Enron was—what its history is, business or accomplishment. It looked more like an ad hoc decision rather than a considered decision on a durable arrangement with a party after obtaining adequate and reliable information. Neither the balance sheet and annual accounts of Enron, nor any information about its activities, area of operation, its associates, etc. was obtained by the government then, or even later.4

After the agreement was signed, the government of Maharashtra state requested that the World Bank review the project in order to determine what would be required by the companies and the government and to evaluate the MoU.

The World Bank team found many irregularities in the agreement and noted that the government had not set up an overarching framework within which to privatize power in India. The World Bank’s analysis determined that the government had not provided an “overall economic justification of this project” and, in particular, noted that the MoU required the MSEB to pay the DPC within sixty days, but the company had no limitations on actual supply of electricity, importing fuel, construction, or financing. In other words, the MSEB would have to pay the company for electricity at a prescribed rate, regardless of whether the electricity was actually available. The World Bank thus determined that the MoU was “one-sided” in favor of Enron and encouraged the government to “verify Enron’s experience” as an electricity generating company before proceeding with the project.5

The World Bank’s doubts were echoed by the government of India’s Central Electricity Authority (CEA), whose experts conducted their own analysis of the MoU and also noted many irregularities in the agreement. Among their findings,they reported that the MoU did not provide specific details about the costs of the project which were required under Indian law; that the MoU did not specify when the twenty-year contract (and its associated payments) would begin, when the electricity was available, or when the contract was signed; the structure of payments was a “departure from existing norms”; the price of power was high; there was no provision to audit the project over time to ensure that the price MSEB paid to the company was commensurate to the actual cost of electricity; the MSEB had agreed to a guaranteed minimum fuel purchase, while the fuel supplier was not concurrently bound to provide a minimum quantity of fuel; and the MSEB had not verified whether the price of fuel was economical. Consequently, the CEA concluded that the “entire MoU is one sided” in favor of Enron and its partners.6 On August 29, 1992, Enron submitted its detailed application to the Indian government’s Foreign Investment Promotion Board for a $3.1 billion project to generate 2,550 megawatts of electricity fueled by liquefied natural gas (LNG). The plan envisaged that the power plant would go on-line in December 1995.7

Shortly thereafter, on September 9, 1992, Linklaters & Paines, a United Kingdom-based law firm hired by Enron, submitted a report to the Indian government titled “Problems Concerning the Application of the Indian Electricity Acts.” The report was commissioned to highlight discrepancies within the Electricity (Supply) Act, 1948, which regulated state-owned electricity generating enterprises, and the proposed private sector power project. Based on their analysis, Linklaters & Paines made several recommendations to accommodate the project, including:

amending legislation (although we [Linklaters & Paines] understand that this is regarded prima facie as politically impracticable);

further administrative direction or notification, or, to modify the tariff structure published under section 43-A;

contractual undertakings from GOI [Government of India] and/or MSEB regarding the practical application of the relevant provisions in the case of the Dabhol Power Project; and the issue of legal opinions for the benefit of sponsors and letters by GOI’s and MSEB advisers.8

In other words, the company’s lawyers were requesting that the government modify the law particularly in regard to accounting procedures, purchasing agreements, and judicial and public scrutiny to facilitate the project. Later, the Maharashtra State Electricity Board wrote a letter to the state government noting that private companies, and DPC in particular, would not want to be subject to public or judicial review, in particular, scrutiny flowing from statutory provisions requiring the company to operate efficiently. That letter states:

Thus, DPC even though [it] may be a private sector company under the Companies Act, 1956 will have cast upon it statutory duties and to the extent is likely to be subject in the due performance of such duties to public and judicial scrutiny. This may not be acceptable to foreign promoters. One such area of scrutiny would be the duty cast... “to operate and maintain in the most efficient and economical matter the generating stations.”9

The MSEB thus proposed that standards under various Indian laws should be modified to attract foreign investors, including provisions designed to make private projects more transparent.

Through the rest of the year, more clarifications and opinions were sought about the project within various government agencies. Then, on December 12, 1992, the Foreign Investment Promotion Board notified Enron that its project would have to be scaled down to 1,920 megawatts (from 2,550) and split into two phases. The price would be $2.65 billion as opposed to the original $3.1 billion. The company agreed to the revised project.10 On February 3, 1993, the government of India notified Enron that its project had been approved and that the government would apply for financing with the World Bank and other institutions.11

The World Bank turned down financing for the project on April 30, 1993. It determined that the project was “not economically viable.”12 Later, the state of Maharashtra empowered a Cabinet sub-committee, known as the Munde Committee, to review the project. The committee analyzed the series of events leading up to the World Bank’s decision and reported:

[I]t is difficult to appreciate when and why the decision to split the project...was taken. Nor is it clear that this was done after careful consideration of the requirements of the MSEB and the State of Maharashtra. In fact, it seems to address only the concerns of Enron. The conduct of the negotiations shows that the sole objective was to see that Enron was not displeased—it is as if Enron was doing a favour by this deal to India and to Maharashtra. In fact, the entire negotiation with Enron is an illustration of how not to negotiate, how not to take a weak position in negotiations and how not to leave the initiative to the other side.13

The project continued to move forward, nevertheless. Enron, in a letter to the MSEB, said that it would change the World Bank’s opinion and secure financing from the bank.14 Upon an application by the MSEB to reconsider its decision, the World Bank reaffirmed its refusal to finance the project and criticized the MSEB for claiming that, without the project, MSEB’s future ability to efficiently provideelectricity to consumers would be compromised. The bank’s relevant country director wrote:

Regarding the load forecast for the Maharashtra market, the recent protracted discussions have led us to reconfirm CEA’s 14th Electric Power Survey (EPS) as the most realistic forecast on which to base our analysis. As regards the important assumptions about the future performance of MSEB’s existing system, we propose to reflect in our analysis the understandings reached during the processing of the Second Maharashtra Power Project in 1992 together with additional information obtained from and reviewed with MSEB subsequently. However, we cannot accept the more pessimistic scenario recently provided by MSEB according to which the existing system is projected to decline in efficiency...

After extensive further review of the above parameters and detailed review of the analytical framework and the existing assumptions, we reconfirm our earlier conclusion that the Dabhol project as presently formulated is not economically justified and thus could not be financed by the Bank.15

At this point, it would have seemed sensible for the Indian government to reevaluate the project, but it forged ahead. Later, after it had examined the structure of the project and the correspondence among Enron, the government and the World Bank, the Munde Committee issued a scathing critique of the government’s actions. The committee’s report concluded:

[T]he Central Government secured the services of the World Bank to assess the Enron Project. In fact, at one stage, Enron itself was seeking to involve the World Bank for finance and participation as, in the view of the then Chief Secretary, Maharashtra, “Enron is convinced that the World Bank has full and scientific knowledge of the working of the Power sector in India.” This is despite the fact that the then Finance Secretary felt that Enron would pre-empt the other projects of the State from getting World Bank assistance, if Enron were allowed access to theWorld Bank funds. However, later in its Report, the World Bank clearly advised that the Enron Project is (i) unviable, (ii) does not satisfy the test of least cost power and (iii) is too large and (iv) is not justified by the power demands of Maharashtra. Once the World Bank’s assessment came and it clearly vetoed the Project, the response of all those who persistently asked for the World Bank advice, confessing that in those areas the Government did not have experience or expertise, was to underplay and even suppress it. Almost every official other than the then Secretary of Finance supported the Project ignoring the World Bank’s advice.16

By August 1993, another problem appeared for the government and the company: the Central Electricity Authority (CEA), which had questioned the project for some time. The CEA is the government body meant to oversee and regulate electricity generation throughout the country, and clearance from the CEA is mandatory for power projects to move forward.

The CEA’s reservations about the capital costs were related to the payment structure between the MSEB and the company. The company’s contract with the state was an “all-in-one” contract, meaning that all the costs of construction and operation would be covered by the tariff the company would charge the MSEB for electricity. The tariff amount was critically important: it would be the only payment made from the government to the company and, while the MSEB would be obliged to pay the company under the tariff, the costs would be passed on to consumers and other industries in the form of higher electricity prices. The tariff agreed upon, in the contract, specified a total payment (per the tariff) of $1.3-$1.4 billion a year for twenty years. The company would pay its costs of construction, operation, and other expenses from this amount, and the balance would be the company’s profit. Consequently, the capital costs of the project were important for CEA to determine the rate of return for the company and whether the tariff was too high. Sometime in August, the CEA determined that the reasonable capital cost per kilowatt for a power project was less than half of Enron’s price of electricity per kilowatt, meaning that electricity from the Dabhol project was more than twice as expensive as what the CEA found to be acceptable or competitive.17

The price of the tariff, coupled with other reservations about the project, led the CEA to withhold its approval. Undeterred, the Maharashtra Industries, Energy and Labour Department asked the central government’s Ministry of Energy to expedite clearance by the CEA.18 In late August, Enron asked then Congress (I) Chief Minister of Maharashtra Sharad Pawar to pressure the CEA to approve the project. Enron’s chief executive officer, Rebecca Mark, wrote:

Dear Mr. Pawar:

I understand from our people in Bombay and Delhi that we are making some progress with the Dabhol project approvals. However, it is still not clear when we can expect Cabinet approval and signing the Power Purchase Agreement. A key issue is clearance by CEA. Our people, together with MSEB, have met extensively with CEA this week to answer their questions about the project. The remaining concern seems to reside with Mr. Beg, Member Planning for Thermal Projects. He continues to hold up the project approval based upon the question of demand for power in Maharashtra. No one from the Ministry of Power in Delhi has given direction to Mr. Beg to move forward on this issue. Consequently, we have a project under the government’s “fast track” program, approved by FIPB, but the CEA refuses to grant a clearance...

It is critical that we get the Power Purchase Agreement approved and signed now and that we start Phase I financing immediately. Because of GOM [Government of Maharashtra] delays in approval and the associated negative press of the last few weeks, the project is in danger. We are working on financing arrangements prior to project approval but the banks in India and externally are losing their enthusiasm based on lack of progress... We need to make immediate progress.19

The CEA granted an “in principle” clearance on September 20, 1993. This was done to allow Enron to finalize financing for the project. The final clearancewas conditional on the company’s obtaining other government permits from the Ministry of Environment and Forests and the Port Trust for construction of their harbor and port; and compliance with Section 29 of the Electricity (Supply) Act, 1948 (an issue discussed further below). The CEA also noted that the government of India should make certain policy decisions regarding the cost of importing liquefied natural gas, payments to the company, and the discrepancy between the Maharashtra government’s estimate for the price of electricity and the central government’s calculations.20

As noted by government officials during a Foreign Investment Promotion Board meeting on November 2, 1993, a key issue in the project was the price of power. They said that the CEA would examine the tariff and determine whether it was reasonable.21 Two days later, in another meeting, the Ministry of Power said that the CEA would grant the clearance the week of November 8, 1993.22

On November 9, 1993, in a second examination into whether the costs of the project were justified, the CEA sent a letter detailing several questions to the Dabhol Power Corporation (DPC), asking for specific project costs to determine what the rate of return was for the company.

Initially, the CEA asked whether the project’s construction costs had changed and whether the date of completion had changed, since the CEA’s August 1993 analysis of the project. The company notified the CEA that costs and completion dates had changed but that this information was “irrelevant to CEA in this project because the tariff was guaranteed.” The company argued that since the fees paid to the company were constant, regardless of capital costs, the company would lose money for a more expensive project and consequently bore the risk of increased costs, therefore it was unnecessary for the CEA to determine the costs.23 The company’s answers to the CEA’s follow-up questions, in a November 10, 1993 letter from the DPC’s director that was obtained by Human Rights Watch, were even more dismissive. A relevant portion of the letter reads as follows:

2. Please furnish the main items of equipment/systems/works separately for items furnished at page 8.1.

(i) plant and equipment

(ii) balance of plant and housing (item 4)

(iii) cargo, dock and harbor development

(iv) distillate/LNG [liquefied natural gas] facility (item 14)

(v) MSEB cost (item 14-1)

Response:

Your request for more detailed project costs of equipment/system/works other than those provided in the capital cost summary cannot be supported and is not deemed necessary. As mentioned earlier, the project assumes all capital cost risk and has agreed to a guaranteed tariff. Changes in capital cost are not passed on to the customer in the tariff.

3. From the cost estimates furnished at table 8.1, it is seen that the cost of balance of plant and equipment [is high]. The reasons for the high cost of balance of plant and housing may be furnished.

Response:

Same response as question #2 above.24

In effect, the Dabhol Power Corporation did not want to disclose its capital costs to the statutory body that was charged with reviewing the project for its cost-effectiveness, among other issues. The company argued (above) that it was unnecessary because with a fixed tariff that included the price of construction, the company would bear all the risks. However, as the Munde Committee report would note, capital costs have a direct impact on the tariff itself:

The most intriguing aspect of the Enron project has been the incredibly high capital cost of the Rs. 4.49 crores per megawatt [approximately $1.4 million per megawatt]. The previous Government and Enron have been justifying it on the basis that it compares well with the capital cost of the other Fast Track Projects cleared for the private sector. The comparative table of the capital cost of the seven Fast Track Projects is as under:

Project	Capacity (Megawatts)	Type of Fuel	Cost per Megawatt (Rupees in Crores)
Enron	2,015	Gas (LNG)	4.49
Jagrupadu	235	Gas	3.52
Godavari	208	Gas	3.60
Vishakapatnam	1,000	Coal	5.81
Mangalore	1,000	Coal	5.08
Ib Valley	420	Coal	4.82
Zero unit NLC	250	Lignite	4.50

It is evident from the above data that the cost of the Enron Project is more comparable to the coal based projects than to gas based projects. Even as compared to the other gas based projects the cost of the DPC Project is clearly higher by at least 25 percent. Considering the fact that the other gas based projects, Jagrupadu and Godavari, are insignificant in capacity as compared to Enron, a comparison with them will be misleading. Being small projects, their capital cost per megawatt is bound to be higher. Even then, the capital cost of the Enron project is higher than the cost per megawatt of these smaller projects...

In fact the high capital cost wiped out the main advantage that the Dabhol power was supposed to bring. Because gas based technology was to be used, the capital cost of the Project should have been much cheaper than a coal based plant, whereas the running cost would have been higher. In the instant case we have lost the advantage of a lower capital cost from a gas based plant while still retaining the disadvantages of a higher running cost.25

Most important, perhaps, was the committee’s suspicion that a fixed tariff, under which the company paid all of its expenses, could provide an incentive for the company to negotiate a very high fixed tariff. The higher the tariff, the greater theprofit for the company, derived from the margin between project expenses and total revenues. The Munde Committee reported:

[P]rivate investors have a tendency to inflate costs which would finally lead to higher unit tariffs where the tariff structure is based on a cost plus approach. In a project like this where escalations have been built in and a guaranteed 90 percent offtake of power is assured, the incentive to inflate costs could well be imagined.26

Even though the company refused to provide important information to the CEA, the CEA did not hold up the project or contest the lack of cooperation. Instead, at a meeting of the Foreign Investment Promotion Board, the Ministry of Power sent a note informing the CEA that the finance secretary had found the cost of power to be in line with other projects.27 At this juncture, the CEA apparently abdicated its statutory responsibilities to evaluate the project costs and tariffs and decided that, since the Ministry of Finance approved of the tariff, the CEA would not have to, even though the Ministry of Finance had no apparent authority to clear projects on CEA’s behalf.28 The matter ceased to be an issue; the CEA looked the other way.

On November 26, 1993, the CEA gave a provisional clearance to the project which would allow it to be finalized.29 The government of Maharashtra took this provisional clearance as a final clearance and rushed to sign a final contract with Enron.30 Within a week, the final contract, known as the Power Purchasing Agreement (PPA), was signed between the government of Maharashtra and the Dabhol Power Corporation. The agreement finalized the “all in one” tariffstructure in which the costs of construction and other costs would be covered through payments made by MSEB to the Dabhol Power Corporation.31

While the government and company had discussed and publicized the approximately $3 billion in foreign investment that would come to Maharashtra—the largest single foreign investment in India— to construct the project, they did not publicize the magnitude of the capital outflows from the government (through MSEB) to the company which were required to purchase Dabhol electricity. The numbers are staggering. According to a study by the Central Electricity Authority, the minimum amount MSEB would be required to pay for the proposed project was approximately $1.3 billion per year, or approximately $26 billion over the life of the twenty-year contract. The government would pay out, over twenty years, almost nine times what Enron would pay in. This price could increase if fuel costs, the costs of electricity transmission, or maintenance increased.32

The PPA authorized construction of the 695-megawatt Phase I and provided an option to build the larger Phase II. The agreement governed the purchase of electricity by the state (through the Maharashtra State Electricity Board) from the company. The PPA formalized the “all inclusive” tariff.

One item of particular concern to some officials was that the tariff paid to the company was denominated in U.S. dollars. Since the Indian rupee is not fully convertible, the government must pay in the rupee equivalent of U.S. dollars in order to make a dollar-based payment. However, if the rupee is devalued against the dollar, the amount the government pays increases. For example, when the PPA was signed, one dollar was equal to thirty-two rupees. At the time of this writing, one dollar equals about forty rupees. In terms of the tariff agreement, the cost of power, in rupees, has increased by 20 percent because of currency fluctuations. This problem was acknowledged as early as 1993 by the Foreign Investment Promotion Board:

Finance Secretary stated that there had been some criticism regarding the high cost of power from this project. It was necessary that the Government of India and the State Government satisfy themselves that the cost of power is more or less the same as the cost of similar projects which would come up in 1997. An additional concern in this casewould arise because the tariff was denominated in U.S. dollars and therefore apart from the escalation in dollar terms, account would need to be taken of the expected depreciation rate in the Indian rupee.33

Concern over the tariff was also noted in the 1995 Munde Committee report. The Munde Committee was even more critical of the dollar-denominated tariff than the Foreign Investment Promotion Board and noted:

The most amazing aspect of the entire Project is the fact that the tariff for power has been denominated in U.S. dollars. This means that, regardless of the fluctuations in the dollar-rupee exchange rate, the Project will always earn the same amount. In other words, they are permanently insulated from the vagaries of exchange rate fluctuations. The Sub-Committee can see no reason whatsoever for this... In no other case...is the entrepreneur protected against fluctuations in the international currency market.34

While the company insulated itself from currency fluctuations, the state could not. The consumer of the company’s electricity was the Maharashtra State Electricity Board (MSEB). The MSEB, as with all the state electricity boards in the country, was in poor financial shape, and its debt load was quickly increasing. For example, as early as 1993, the state government’s Department of Industries, Energy, and Labour knew the MSEB might not be able to pay for the Dabhol power:

The other important issue is the financial position of MSEB itself. Even under the existing conditions, MSEB has to borrow from the State Government and other financial institutions at increasing rates of interest to finance all its development plans. As per the current projection MSEB’s interest burden is going up at a fast pace. The burden was Rs. 436 crores [about $136 million in 1993] in 1990-91, Rs 552 crores [$172 million at the 1994 conversion rate], Rs 650 crores [$203 million] in 1992-93, and Rs. 788 crores [$246 million] in 1993-94. The interest burden has almost doubled in five years. Even if the generation projects come up in the private sector, MSEB will find itdifficult to generate internal resources for improvement of the transmission system.35

In order for the company to agree to the project it demanded insurance that the debt-ridden MSEB would not default on its payments. Insurance, in this case, took the form of a “counter-guarantee” by the state of Maharashtra. This agreement would compel the state government to pay the company’s fees if the MSEB were unable to meet its financial commitments. The agreement guaranteed the company a steady income for the life of the PPA, regardless of demand. Furthering the surety, the state government waived sovereign immunity in the counter-guarantee. This meant that if the Maharashtra state government were unable to pay the company, the company could potentially seize any state assets in repayment of arrears.36

Moreover, the central government extended a similar counter-guarantee in the event that the state of Maharashtra defaulted on its payments to Enron. A counter-guarantee was signed on September 9, 1994 by the government of India, which by separate action also waived sovereign immunity.37 (Another party interested in counter-guarantees was the U.S. government. Then-Secretary of Energy Hazel O’Leary, on an official visit to India, reportedly said, "We are very happy that the first project with Enron has received a counter-guarantee...” at a meeting with the Confederation of Indian Industry. 38 We discuss the promotional efforts of the U.S. government in Section VIII below.)