Edition: October / December 2016 Edition


Confrontation electrified

There should be no conflict between Eskom and independent
power producers, but there is and itís vigorous. Stakes are high, especially
for credit ratings. Pension funds have a direct interest in the outcome.

Molefe . . . nuclear man

Institutional investors, broadly categorised, are foundational funders of both Eskom and independent power producers. Yet, in the conflagration thatís blown up between them, the fundersí voice has been eerily quiet (see box).

Thatís wrong. Their intervention is as required as it was in Nenegate when the providers of capital Ė institutions that act for savers, including pension funds Ė pressured President Jacob Zuma to reappoint Pravin Gordhan as finance minister. The potential implications of a stalemate in energy planning are equally serious for economic growth and investor confidence.

Where there are no updated projections that government has accepted for future electricity demand and the costs of supplying it, and the energy departmentís 2010 Integrated Resource Plan remains the source document, thereís a vacuum. Simplistically, itís seen to be filled by polarisation between Gordhan against Eskom chief executive Brian Molefe. Points of departure are in the capacity of independent producers to reduce Eskomís nuclear ambitions.

Molefe isnít the finance minister; at any rate, not yet. As such, he has no authority to reverse the Renewable Energy Independent Power Producer Procurement Programme (REIPPP) that government has committed itself to expand. Similarly impacted are Independent Power Producer (IPP) programmes for co-generation of oil and gas.

But what he can do, and has done by his boardís unilateral pronouncement that Eskom will in future sign no power-purchase agreements with independent producers, is compound precisely the perceptions of politics-fraught policy uncertainty that SA doesnít need as it faces a December review by the ratings agencies of its sovereign debt.

In its latest annual report, to end-March 2015, Eskom set out a R237bn borrowing requirement to 2020. It anticipated that the probable damage from a negative ratings outlook would be an increase in the cost and decrease in the availability of funding. Since 2012 the spread, which reflects risk, has widened from 60 basis points to 100 basis points on the Eskom bond maturing in 2033 when compared to a SA government bond of the same maturity (see graph).

Gordhan is at pains for National Treasury to contain contingent liabilities (government guarantees) at state-owned enterprises (notably Eskom and SA Airways) that make the ratings agencies jumpy. If the extended delays and escalated budgets of Eskomís coal-fired Medupi and Kusile power stations are anything to go by, he must be frightened too of open-ended costs (exacerbated by rand volatility) in a nuclear build. Left with no choice, he was quick to slap down Molefe.

Notwithstanding her own controversies over the sale of SAís strategic oil reserves and involvement with Russia in nuclear negotiations, additional relief was soon followed by Energy Minister Tina-Joemat Pettersson. Promising imminent announcements on an ”expedited REIPPP bid window”, she sang the praises of its successes to date.

Having rumbled investment markets, the most benign interpretation of Eskomís stance is an opening gambit that its revenues be protected in the government-sanctioned REIPPP overhaul. Implictly, Eskom can frustrate the programme if it cannot make required payments to independent projects able to supply it with power.


Gordhan . . . hawk-eyed

This article was written prior to the dramatic events in late-August when:

  • Preliminary steps were taken by the Hawks for the arrest on criminal charges of Pravin Gordhan, casting doubt on his continued tenure as finance minister;
  • In an open letter to President Zuma, Business Leadership SA responded: ”It is shocking that our national collective effort to avoid a ratings downgrade and to restore inclusive economic growth is now being so assiduously subverted. If this sinister behaviour is allowed to continue, the consequences will be devastating for our economy”;
  • Jeff Radebe, Minister in the Presidency, announced the establishment of a Presidential Coordinating Council for state-owned companies. It will ”allow for better oversight and coordination” of SOCs and provide President Zuma, who will chair the council, with a ”line of sight on strategic decisions and interventions to create SOCs that will play a transformative role in a capable developmental state”;
  • A consequence, if not the intent, could be deflection in the financial control over SOCs (e.g. Eskom, SA Airways and Denel) from Gordhan and National Treasury to Zuma and the presidential council.

It was decided to leave the article as it was written, for the views expressed in it to be seen in the light of these subsequent developments.

This means retention of its monolithic structure, vertically integrated to monopolise both power transmission and power generation. But independent producers have been biting into the latter, a form of surreptitious privatisation by the R200bn theyíve attracted to date, that threatens Eskomís bottom line in so far as advancing techology and bid competitiveness reduce costs for consumersí ultimate benefit.

Not that benefits to consumers are necessarily Eskomís foremost priority. Neither is confidence in Eskomís decision-making enhanced by a recent High Court judgment that set aside the National Energy Regulatorís grant to Eskom of an effective 9,4% increase in 2016 electricity tariffs. Eskom, the court held, had not properly applied its own rules.

Which reflects on the present imbroglio, namely whether Eskom is being forthright or disingenuous in the information it puts out. There are too many battle lines unclearly drawn.

Is there validity in Eskomís argument that independent producersí renewable-energy projects canít supply power during periods of peak demand? Is there a sinister agenda in pushing against the independent producers to promote the case for nuclear, with the attendant risks of corruption and costs beyond the limits of affordability? Is there a bigger political play, suspected but unspoken, where Gordhan and Molefe represent rivalries of intent and approach on fiscal discipline to a ruling party increasingly factious?

The questions go to the heart of policy, from National Development Plan implementation to public-private encouragement of which REIPPP progress is a proud example. Government led by a sphinx, still smarting from the pressure put on him to reappoint Gordhan, doesnít help in the supply of answers.

But answers to the claims and counter-claims must be unambiguously laid out, critically for the enlightenment of such investors as pension funds that buy the government-backed bonds on which Eskom relies. They have as much right to intervene with the issuers of debt instruments as they have with equities.

In this instance, more so. The right is an obligation where the stakes are so high as to impact not only on the future structure of Eskom, and its capacity to provide the uninterrupted supply of electricity at prices that donít cripple economic growth, but also on the decision to proceed with the envisaged nuclear build where fears that the cons heavily outweigh the pros arenít allayed.

Pension funds are expected by the prudential investment guidelines of Regulation 28 to buy dollops of government-back debt. It provides also for investment in infrastructure. Investors must ”give appropriate consideration to any factor which may materially affect the sustainable long-term performance of their investments”, says the regulation.

These factors include ”those of an environmental, social and governance character”. On the governance side alone, still under wraps is the report of a Treasury investigation into Eskomís contracts with the Gupta familyís Tegeta Exploration & Resources for the supply of coal.

Investment in infrastructure, of which renewable energy forms part, is attractive to pension funds. The relatively small Mergence Investment Managers, for one, has itself already invested over R1bn into renewable energy on behalf of institutional clients.

Petersen . . . renewable strengths

Mark van Wyk of Mergence explains: ”Advantages of investment into renewable energy include stable income generation, portfolio diversification and growth uncorrelated to gross domestic product. SA remains one of the fastest-growing renewable energy markets in the world, with one of the most robust and transparent procurement frameworks.”

Or as Iqueraam Petersen and Paul Semple of Futuregrowth put it: ”The REIPPP been governmentís most successful procurement programme and has received global accolades as a model case study for how IPP procurement should be implemented. Over the past four years a total of 92 projects have secured power-purchase agreements equal to 15% of Eskomís generation capacity. Not only has this resulted in nearly R200bn of capital investment, but these projects have created employment and business opportunities in remote rural towns.”

To take some examples of investment performance over the past three years, the Mergence renewable energy debt fund and the Futuregrowth power debt fund have both significantly beaten their benchmarks. Over the past five years the Old Mutual IDEAS managed fund, with 34% of its R7bn invested in renewable energy, has produced a cumulative annual return (gross of fees and excluding cash) of 16,1%.

Itís unconscionable that Eskom management wants to rain on this parade, instead to insist on a nuclear-build programme that can threaten financial Armageddon and (on Germanyís experience) be an obsolete alternative to renewable energy by the times itís completed.