Is there any way we can customize the generate-id() output to suite
the desired result as @id="grs1" and @refid="@grs1"

I don't think there is a way to customize the generate-id output.
You could however try to use format-number to generate your ids e.g.

  <xsl:template match="grant-sponsor">
    <xsl:copy>
      <xsl:attribute name="id">
        <xsl:text>grs</xsl:text>
        <xsl:number level="any"/>
      </xsl:attribute>
      <xsl:apply-templates/>
    </xsl:copy>
  </xsl:template>

  <xsl:template match="grant-number">
    <xsl:copy>
      <xsl:attribute name="refid">
        <xsl:text>grs</xsl:text>
        <xsl:number count="grant-sponsor" level="any"/>
      </xsl:attribute>
      <xsl:apply-templates/>
    </xsl:copy>
  </xsl:template>

	Martin Honnen
	http://msmvps.com/blogs/martin_honnen/