A Negotiation Case Study: Exploring the Enron Case in India
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.
In the early 1990s, the US energy giant Enron decided it needed to diversify. This meant 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 to negotiate a major energy project. Maharashtra was the third largest state in India with a population of roughly 79M, containing India’s commercial capital of Mumbai. The Congress Party governed the state.
Negotiations began with both the state government and the Maharashtra State Electricity Board (MSEB). Enron’s mega-project proposal was for the construction of a US$3B, 2015-megawatt powerplant. 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 – 1,200 miles away.
Being the largest project ever undertaken in India, Enron proposed that the project be broken down into two 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. 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.
Key Elements of the Case
The most important element of the deal was to secure a long-term purchaser of electricity. This was to lock in long-term debt financing. Also, to generate a sufficient return to investors in the project. In order to realize 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, they signed a memorandum of agreement. They 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. It would therefore be too costly in comparison to the more traditional sources of fuel, such as coal. 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. Other issues related to concerns 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 held 10% as junior partners. In December of 1993, MSEB signed the power purchase agreement with Enron, thereby inaugurating the Dabhol Power Project.
Investigation and Negotiation
As the project commenced, public opposition to the project swelled. Activists and many differing organisations challenged the legitimacy of the project. They filed a legal case in the form of a lawsuit 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 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 canceling the power purchase agreement with the Dabhol Power Company. At this point, there was already an investment of $300M. Enron and its partners were facing a daily loss of $250K each day the project remained in delay.
As per the terms of the original agreement, Dabhol and its partners initiated arbitration proceedings against MSEB and the Maharashtra government. The government in turn launched legal action to invalidate the arbitration action. They alleged 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 of this case.
In the fall of 1995, Enron managed to persuade the government of Maharashtra to reopen negotiations. 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.
- Capital costs of the project.
- Payment plan.
In terms of the renegotiation, MSEB gained a 30% partnership with Enron. Thus, 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. They also reduced capital cost from $2.85B to $2.5B. They lowered the tariff from 7.03 cents to 6.03 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 its approval. The government extended its guarantee of Maharashtra’s obligations. Enron dropped its arbitration case proceedings and Maharashtra dropped its countersuit. Despite these agreements, the project still could not continue. A host of groups, including unions, activists, and others, filed 24 legal actions in an effort to stop the project. The courts ruled that the project could not proceed until they had heard all these suits. Eventually, the courts dismissed the last suit in December of 1996.
In May of 1999, phase 1 of the project was complete. The plant began to operate while Enron sought and obtained financing of $1.87B for phase 2, which they expected to complete toward the end of 2001. Not long after the start of phase 1, however, MSEB was no longer able to pay for their negotiated electricity. By 2001, MSEB had accumulated a debt of $45M. This forced 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.