Eskom restructuring is just the illusion of action
Renewables replacing coal; managing supply (not demand); and understanding the risky business of Eskom all need to be addressed
Eskom has a debt problem, so split the company into three. Three? What has that got to do with debt?
Eskom also has operational problems, but restructuring will not fix coal purchasing (its major expense) or plant maintenance. It will certainly disrupt central services.
There are some “new rules” and “one basic truth” in the Eskom environment. Apply the new rules, recognise the truth — and the power will flow.
Eskom’s debt problem is all over the news and (edited) comments on it include:
- EWN reports: “The task team set up to help stabilise Eskom is reportedly proposing splitting the company into three state-owned entities (SOEs).”
- Public enterprises minister Pravin Gordhan said: “Eskom’s financial and operational problems were unlikely to be solved without structural changes.”
- Eskom chair Jabu Mabuza emphasised: “Someone” has to pay the debt: “either the consumer or the taxpayer has to pay.”
- Nolan Wapenaar of Anchor Capital suggests a controlled default of Eskom on its debts.
- Business Day columnist (and SA Post Office CEO) Mark Barnes wrote, “Prescribed assets could be the perfect solution to SA’s funding fiasco.”
- Sygnia CEO Magda Wierzycka believes, “Zero-coupon bonds are an elegant solution to Eskom’s cash crunch. Deploying GEPF funds is a far better option than using the apartheid-era tactic of prescribed assets.”
At least many commentators have recognised the problem of debt. Few have recognised the joint problems of debt and operations.
3. The new rules
The “old rules” no longer apply.
- New technologies, some may be beyond a foreseeable five-year technology horizon, threaten the 30-year intended life of electricity assets. The old assets may be capable but are no longer competitive. Their asset values are threatened by new technologies.
- Renewables must replace coal and the coal must stay in the ground. SA still boasts a 100-year supply of coal. With improving solar technology, SA can claim a billion years of sunshine! A 2015 report in the journal Nature estimated that more than 80% of global coal reserves should remain unused from 2010 to 2050 to meet the global warming limit target of 2°C. At the same time, the costs of wind and solar/PV have been falling. If the recent trends continue, steady technology improvement through increased capacity, solar module prices will decline and SA’s sunshine will be more important than its coal.
- Manage supply — not demand. Electricity utilities used to manage demand to balance base load supply. The new focus is to manage supply from many power suppliers using many technologies. In future, even in SA, we can predict increasing supply by independent power producers (IPPs) who provide capital for new capacity based on a variety of generation technologies (such as the Abengoa Concentrated Solar Power (CSP) plant in the Northern Cape). The system must manage these new sources of supply.
- “Use it or store it” is replacing the old electricity rule of “use it or lose it”. Storage is a growing solution to balancing electricity supply and demand. SA already uses pumped storage to provide nearly 2GW of capacity and also 50MW of CSP storage. The new technology will enable other forms of storage, most notably batteries. South Australia’s giant Tesla battery started to dispatch stored wind power into the electricity grid on November 30 2017, meeting a maximum demand of 59MW on that day. There are also existing projects to build “solar concentrator” plants in SA which include storage of the generated energy. It is not just about solar/PV.
- “Multi-way” transmission and distribution grids will manage distributed generation, replacing the old “one-way” transporters. Small-scale distributed generation will have an increasing impact on network reliability and quality, caused by increased voltage issues and backflow of power into distribution sub-stations. Here is a possible further vicious cycle: reduced reliability due to more distributed generation causes consumers to install more distributed generation. And more distribution capital expenditure means more debt.
- Fixed pricing must match fixed cost structures. Appropriate fixed charges to all consumers will enable lower kWh tariffs and incentivise high levels of consumption in price sensitive industries. A typical electricity bill is 60% to 80% variable in (consumption) charges, yet most of a utilities’ costs are “fixed” in the short-term. This mismatch can be addressed by redesigning the tariff structure.
- Growth in the economy used to mean growth in electricity consumption. This is no longer the case as energy intensity in the economy is falling. Across most developed and developing countries there has been consistent reduction in the energy required to drive the economy, due to growth of low-energy services relative to manufacturing, and due to greater electricity efficiency.
4. The value of old technology
Assumptions of long life for existing technology may not be valid. Consider the following 2016 calculation of cost of electricity from Medupi at 105c per kWh (published by the Daily Maverick). From this information, with a few assumptions, we can derive some detailed costs:
Compared to the latest wind selling price (69c), we must eliminate 36c of cost from the capital recovery to make Medupi competitive with wind. This requires a 68% write-off of the asset value making a R131bn deficit in the Eskom balance sheet.
As Jabu Mabuza said: “Someone must pay”.
5. The one basic truth
There is one basic truth: business is risky. And Eskom is a business. In business, risks are borne by shareholders. For Eskom that means us.
Eskom took on substantial risk when it approved construction of the two coal-fired power stations Medupi and Kusile. Other capital projects around the world have exceeded their budgeted costs. For example, the International Space Station, various infrastructure projects hosting Olympic games, and the Channel Tunnel. So exceeding budgets on Medupi and Kusile were known risks. In the absence of current, public-domain estimates, at completion the over-runs across both projects will probably amount to R200bn paid with Eskom debt.
Hence Mabuza’s declaration, “Someone has to pay” this R200bn debt. But who is “someone?”
Not the consumer, says the Minerals Council SA. Not the taxpayer, says the government. Nolan Wapenaar suggests the bond holders could pay (this is not good forSA’s global credit ratings). Barnes and Wierzycka believe that SA savers could pay, which has led to relatively high levels of protest.
Can the assets be sold? Only at a loss, as shown above, and someone must pay for that the loss.
I support the use of long-term, zero-coupon bonds attractive to pension funds that can take an equivalent long-term investment view. The key will be management. Well-managed enterprises will always find willing lenders.
The size of Eskom’s debt, mostly guaranteed already by the government, is already a national burden. The question is how it can be managed. The existing debt must be separated from current generation, transmission and distribution costs, which can be factored into a working business model. The total existing debt is significant to the government, so moving it to the government debt will not increase total government debt by the full Eskom debt, only by the incremental debt load.
6. The illusion of action
There is nothing in the new rules or one basic truth that requires restructuring. Indeed, restructuring may reduce the credit worthiness of the generation and distribution borrowers.
Corporate divorces/demergers/unbundling are complex, expensive, multi-year undertakings. Unbundling Eskom and concurrently restructuring the country’s electricity industry structure is mega-project. There’s one iron-clad rule of mega-projects: it will take far longer than planned, it will cost far more than budgeted, and it will deliver far less benefits than promised.
Restructuring is an illusion. A disruptive unnecessary action.
• Maposa is MD: Utilities, Accenture SA.
• The views and opinions expressed in this article are those of the author and do not necessarily reflect the views or position of the author’s employer, Accenture (SA) (Pty) Ltd or any other person or entity. Assumptions, if any, made in this article are not reflective of the position of any Accenture entity.