Case StudyCase Study
Enron’s Indian Negotiation Debacle
Enron’s collapse in India was caused by the huge debt of the MSEB project, and renegotiations that were forced by strong Indian nationalist reactions.
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In the early 1990s, the US energy giant Enron, decided it needed to diversify by expanding its growth abroad with emerging countries. In June of 1992, Enron engaged in negotiations with the government of India. Enron had identified the state of Maharashtra, the third largest state in India with a population of roughly 79 million, and containing India’s commercial capital of Mumbai, to negotiate a major energy project. Maharashtra was governed by the Congress Party.
Negotiations began with both the state government and with the Maharashtra State Electricity Board (MSEB). Enron’s mega project proposal was for the construction of a US$3 billion, 2015-megawatt power plant. As a great deal of liquefied natural gas would be required to power the plant, Enron decided it would import this gas from a joint venture that Enron had with Qatar which was 1200 miles away. Being the largest project ever undertaken in India, Enron proposed that the project be broken down into 2 phases. Initially, in phase 1 they proposed to produce 695 megawatts and would use locally produced natural gas. Phase 2 would produce 1,320 megawatts and for this they would use the natural gas imported from Qatar. Enron chose the town Dabhol, situated on the Indian Ocean as the project site.
The most important element of the deal was to secure a long term purchaser of electricity to lock in long term debt financing and to generate a sufficient return to investors in the project. In order to realise the project, MSEB, the only potential buyer available, would have to enter into a long term contract with the Dabhol Power Project Company. In less than five days a memorandum of agreement was signed. It was agreed that the Dabhol project would charge no more than 2.40 rupees (7.3 cents US) per kilowatt hour to MSEB.
Three problems immediately emerged:
- First, the World Bank, acting as a consultant to the Indian government said that the project would produce an excess capacity of electricity for years and would be too costly in comparison to the more traditional sources of fuel, such as coal, already in use. Enron responded by launching a successful campaign by promoting the positive environmental impact of its project.
- The second problem entailed the Enron’s projected 26.52 rate of return to its shareholders. India’s central government and the government of Maharashtra disagreed and countered with a 20% return as being more reasonable. Ultimately they agreed on 25.22 %.
- The third major hurdle was mounting public opposition to the project and concerns raised over the electricity tariff, government official bribery, and about the project not being open to competitive bidding.
Despite this mounting opposition, negotiations continued.
Enron joined with two other US firms, General Electric and Bechtel, each holding 10% as junior partners. In December, of 1993, MSEB signed the power purchase agreement with Enron thereby inaugurating the Dabhol Power Project.
As the project commenced, public opposition to the project swelled as activists and an assortment of differing organisations challenging the legitimacy of the project filed suit against the project in the India High Court. As elections loomed in Maharashtra in March of 1995, the opposition parties, the Shiv Sena Party and the Bharatiya Janata Party (BJP) used their opposition to the project as a primary election issue. Focusing on a nationalistic viewpoint they alleged that the proposed electricity tariff was excessive and would hurt the poor. As a consequence, the Shiv Sena and BJP coalition won the elections and tossed the incumbent government. An investigation was carried out into the overall project in May which subsequently resulted in MSEB cancelling the power purchase agreement with the Dabhol Power Company. At this point in the project, US$300 million had already been invested and Enron and its partners were facing a daily loss of US$250,000 each day the project was delayed.
As per the terms of the original agreement, Dabhol and its partners initiated arbitration proceeding against MSEB and the Maharashtra government. The government in turn launched legal action to invalidate the arbitration action alleging that illegal means had been employed to secure the contract. Maharashtra’s government officials responsible for the investigation also stated firmly they had no wish to consider renegotiation.
In the fall of 1995, Enron managed to persuade the government of Maharashtra to reopen negotiations which would take place in the fall. Subsequently, Chief Minister Joshi announced that a review panel would carry out a review of the project. The review panel not only began to discuss the restructuring with Enron executives, they also heard the major opponents to the deal. The major issues entailed the electricity tariff, the capital costs of the project, the payment plan and also the environment.
In terms of the renegotiation, MSEB gained a 30% partnership with Enron and its interest reduced from 80% to 50%. The original electricity the plant would produce was actually increased from the initial proposed outage of 2,015 megawatts to 2,410 after the completion of phase 2. Capital cost was reduced from US$2.85 billion to US$2.5 billion and the tariff was lowered from 7.03US cents to 6.03US cents subject to the cost of fuel and inflation.
In January of 1996, the Maharashtra government agreed to the renegotiation proposal submitted by the review panel. After much internal debate, the Indian government gave their approval and extended their guarantee of Maharashtra’s obligations. Enron dropped their arbitration proceedings and Maharashtra dropped its counter suit. Despite these agreements, the project still could not continue because a host of various groups including unions, activists and other public interest groups filed 24 legal actions in the courts in an effort to stop the project. The courts ruled that the project could not proceed until all these suits were heard. Eventually the courts dismissed the last suit in December of 1996.
In May of 1999, phase 1 of the project was completed and the plant began to operate while Enron sought and obtained financing of US$1.87 billion for phase 2 which they expected to complete toward the end of 2001. Not long after the phase 1 of the plant began to operate however, MSEB was no longer able to pay for the electricity it had negotiated. By 2001, MSEB had accumulated a debt of US$45 million forcing the Dabhol Power Company to close down and file suit against MSEB, the central government and the government of Maharashtra. That same year Enron’s collapse was total. After a string of financial setbacks, Enron declared bankruptcy.