Levelised Cost of Energy (LCOE) and Renewable Tariff Discovery

The levelised cost of energy, or LCOE, is the average cost of producing one unit of electricity from a power plant over its whole life. It adds up everything the plant will ever cost (building it, running it, repairing it, and the interest on its loans) and divides it by all the electricity the plant will ever produce.

The answer is a single number, such as "₹2.50 per unit", which lets us compare very different power sources fairly. In India, the price at which a solar or wind developer agrees to sell power, found through an open auction, is called the "discovered tariff", and it closely follows the LCOE.

Why do we need LCOE?

Different power plants spend their money in very different ways. A coal plant costs less to build but needs fuel every single day for 25 years or more. A solar plant costs a lot on day one, but sunlight is free, so its running cost is very low. If we only looked at the building cost, coal would look cheaper.

If we only looked at the fuel cost, solar would look almost free. LCOE puts both on the same scale: the total cost of each unit over the plant's life. Governments, power companies and banks use it to decide which plants to build.

A simple example

Think of buying a scooter. A petrol scooter costs ₹80,000 and you spend ₹1.5 lakh on petrol over ten years. An electric scooter costs ₹1.2 lakh, but you spend only ₹30,000 on electricity. To know which is really cheaper, you divide each scooter's total ten-year cost by the kilometres you drive. That "cost per kilometre" is the idea behind LCOE, with one difference: LCOE uses "cost per unit of electricity".

How is LCOE calculated?

The basic idea is: LCOE = total lifetime cost ÷ total lifetime electricity produced. But money spent or earned in the future is worth less than money today, so both sides are adjusted using a discount rate. In simple steps:

1. List all the costs year by year: the upfront building cost, yearly operation and maintenance, fuel (zero for solar), and loan interest.
2. List the electricity produced each year. Solar panels slowly lose a little power every year (this is called degradation), so output falls slightly over time.
3. "Discount" each year's cost and each year's electricity back to today's value, using the discount rate.
4. Divide the total discounted cost by the total discounted electricity. The result is the LCOE in ₹ per unit.

What makes LCOE go up or down?

Four things matter most:

• Capital cost: the price of panels, inverters, land and construction. For solar, this is the biggest part of the cost.
• Cost of finance (the discount rate): if banks charge high interest, LCOE rises sharply, because almost all of solar's cost is paid upfront with borrowed money. Studies show LCOE changes a lot when the discount rate moves between about 6% and 16%.
• Capacity utilisation factor (CUF): how much electricity a plant actually produces compared with what it could produce if it ran at full power all day, every day. Indian solar plants usually have a CUF of around 18% to 25%, because the sun shines only part of the day. Sunnier places like Rajasthan and Gujarat give a higher CUF and so a lower LCOE.
• Fuel cost: zero for solar and wind, but large and changing for coal and gas.

Where did India's tariff discovery come from?

The Electricity Act, 2003 gives two ways to fix the price at which a power plant sells electricity to a state power distribution company (discom):

• Section 62 (cost-plus route): the electricity regulatory commission studies the plant's costs and fixes a tariff that covers costs plus a fair profit.
• Section 63 (competitive bidding route): companies compete in a transparent auction that follows guidelines issued by the Central Government. The commission then simply "adopts" the winning price, after checking the process was fair. Section 63 begins with the words "notwithstanding anything contained in section 62", so for bid-based purchases it takes the place of the cost-plus route.

Most solar and wind power in India today is bought through Section 63 auctions. The Ministry of New and Renewable Energy (MNRE) issued detailed bidding guidelines for grid-connected solar projects on 3 August 2017, under Section 63.

How does a reverse auction work?

In a normal auction, buyers compete by raising the price. In a reverse auction, sellers compete by lowering the price. An agency such as the Solar Energy Corporation of India (SECI) announces it wants to buy, say, 1,000 MW of solar power. Developers first submit sealed technical and price bids. The shortlisted bidders then enter an online e-reverse auction, where they keep cutting their price in real time.

The lowest bidders win. They then sign a power purchase agreement (PPA), usually for 25 years, at that fixed price.

How have solar tariffs fallen? The milestones

• December 2010: The first batch of the Jawaharlal Nehru National Solar Mission (JNNSM) saw the lowest solar bid at ₹10.95 per unit.
• February 2017: The 750 MW Rewa Ultra Mega Solar project in Madhya Pradesh discovered a first-year tariff of ₹2.97 per unit (rising by 5 paise a year for 15 years, which works out to a levelised ₹3.30 over 25 years). It needed no government viability gap funding.
• May 2017: A SECI auction at the Bhadla Phase-III solar park in Rajasthan reached ₹2.44 per unit, fixed for 25 years.
• November 2020: A SECI auction for 1,070 MW in Rajasthan reached ₹2.00 per unit.
• December 2020: A Gujarat Urja Vikas Nigam Limited (GUVNL) auction for 500 MW (Phase XI) set the all-time record low of ₹1.99 per unit.
• 2021: A Rewa auction for 500 MW at Neemuch, Madhya Pradesh saw winning bids of about ₹2.14 to ₹2.15 per unit.

So the price of solar power fell by about 80% in roughly a decade. In more recent auctions, tariffs have mostly stayed in the ₹2.2 to ₹2.7 range, as costs of panels, finance and customs duties changed.

Why did solar prices fall so much?

• Cheaper panels: global mass production, mostly in China, sharply cut the price of solar modules.
• Large solar parks: the government gave developers ready land and grid connections in big parks, which cut risk and cost.
• Lower risk for investors: 25-year PPAs with central agencies like SECI (backed by many state discoms) made lenders more confident, which lowered interest rates.
• Transmission waivers: the Centre waived inter-state transmission (ISTS) charges for solar and wind projects. Projects commissioned by 30 June 2025 get a full waiver for 25 years. After that the waiver steps down: 75% for projects commissioned by June 2026, 50% by June 2027, 25% by June 2028, and nothing after June 2028.
• Competition: open reverse auctions forced developers to bid their lowest possible price.

India's position and Indian examples

India runs some of the world's largest renewable auctions, through four central agencies: SECI, NTPC, NHPC and SJVN. Rajasthan and Gujarat lead in solar because of strong sunlight and large open land. India's newer tenders go beyond plain solar. They now include solar plus storage, round-the-clock (RTC) power and firm and dispatchable renewable energy (FDRE), where the developer must supply steady power even when the sun is not shining.

These cost more per unit than plain daytime solar, but give power that the grid can use at any time.

Commonly confused concepts

• LCOE vs tariff: LCOE is the developer's actual average cost of making a unit. The tariff is the price at which the developer sells it. The tariff is usually a little above LCOE, so the developer earns a profit.
• Installed capacity vs generation: capacity (in GW) is how much a plant can produce at full power. Generation (in kWh or units) is how much it actually produces. Solar has high capacity but lower generation, because of its low CUF.
• Grid parity: when a new renewable plant can sell power at a price equal to or below power from conventional sources like new coal plants. Rewa (2017) is often described as India's first solar project to cross grid parity.
• Section 62 vs Section 63: Section 62 means the regulator fixes the price from costs. Section 63 means the market finds the price through bidding, and the regulator only adopts it.
• Levelised tariff vs first-year tariff: a first-year tariff can rise each year (like Rewa's ₹2.97). A levelised tariff is the single average figure over the whole contract (Rewa's ₹3.30).

Issues, criticism and the way forward

• LCOE leaves out system costs: LCOE counts only the plant's own costs. It does not count the cost of storage, backup plants and extra transmission lines needed because solar stops at night. Experts suggest using fuller measures, such as the value-adjusted LCOE, when comparing solar with coal.
• Aggressive bidding: some very low bids later faced trouble when panel prices or duties rose, and a few projects were delayed or cancelled.
• Unsigned PPAs: after auctions, some state discoms delayed signing power sale agreements, leaving several gigawatts of won capacity waiting.
• Discom finances: many discoms pay late. The Electricity (Late Payment Surcharge and Related Matters) Rules, 2022 were brought in to push timely payments.
• Import dependence: cheap panels came mostly from China. India now uses the Approved List of Models and Manufacturers (ALMM), basic customs duty on imported cells and modules, and the Production Linked Incentive (PLI) scheme to build its own factories, which can raise costs in the short term.
• The way forward: experts point to battery storage, pumped storage, stronger transmission (Green Energy Corridors) and better discom finances, so that cheap solar power can be used across the whole day.

Concepts to Know

• Unit of electricity (kWh): one kilowatt-hour, the energy used by a 1,000-watt device running for one hour. Your electricity bill counts "units"; one unit is one kWh.
• GW and MW: measures of power capacity. 1 GW (gigawatt) = 1,000 MW (megawatts). 1 MW = 1,000 kW.
• Discount rate: the rate used to convert future money into today's value. ₹100 received ten years later is worth less than ₹100 today, because you could have earned interest on it.
• Discom: a state power distribution company, which buys electricity in bulk and supplies it to homes, shops and farms.
• Viability gap funding (VGF): a one-time grant the government gives to make a project financially possible when its earnings alone would not cover its costs.
• Power purchase agreement (PPA): a long-term contract in which a buyer (usually a discom or SECI) agrees to buy power from a plant at a fixed price for many years.
• Degradation: the slow loss of a solar panel's power output every year, usually less than 1% a year.