The avoidable risks Eskom assumes on behalf of all South Africans.

August 21st, 2017 by Brian Kantor

A shorter version published in Business Day is available here

The avoidable risks Eskom assumes on behalf of all South Africans.

The owners of Eskom (all South Africans) should be aware of the grave risks Eskom’s managers and directors have taken on their behalf. The risks that is to the value of the many billions of rands that have been deployed on their behalf building plant and equipment (PPE) to generate and distribute electricity.

The danger is that all this PPE may be worth much less than it cost. There is also the matter of servicing and repaying the over R300bn in debt that has been incurred funding these developments, much of it that is tax payer guaranteed. These debts are large enough to threaten the credit of the Republic itself, as has become apparent.

The essential, unsatisfactory nature of a state-owned business is only part of the problem, namely that the primary purpose of the business easily becomes that of serving the interests of its employees, from top to bottom. The interests of its customers and owners become secondary and are poorly served. However the main problem is when the operations are of such an order of scale that any mistaken investment programmes or operational failures become significant for the economy at large, as has become the case with Eskom.

The further danger is that the burden of these mistakes and servicing the debt incurred are passed on to the consumers of electricity in SA in the form of further increases in prices. But Eskom’s monopoly applies only to the electricity delivered over its grid. Thus increases in electricity prices may prove self-defeating for Eskom as well as highly damaging to the competitiveness of the SA economy. Higher prices lead to lower levels of demand – perhaps the point where sales revenues decline rather than increase as key customers become more energy-conserving and turn to alternative supplies off the grid.

Potential customers can shut down operations or not start new projects when the economic case for their operations make much less sense, given higher real electricity prices. Investing in solar panels, small wind turbines or increasingly efficient gas turbines installed onsite, can make good sense as drawing on the grid becomes ever more expensive. And who knows what opportunities innovation and invention may bring for the generation of electricity on a small scale in the near future?

A further threat to Eskom and us, its owners, is that its largest customers, energy intensive miners and refiners of metals, who account for about 50% of demand for Eskom’s output, have publicly indicated a profound loss of confidence in it as a reliable competitive supplier of energy. They refer to operations being shut down or transferred outside of SA and a much weaker case for expanding capacity to upgrade (beneficiate) the metals and minerals brought to the surface.

There is in reality no good reason for all South Africans to have to carry these risks to the supply of and demand for electricity in SA. Such risks could be readily absorbed by willing new owners of the PPE – at the right price. Owners perfectly capable of raising their own sources of debt and equity capital to the purpose. The capital market has a proven taste for the predictable income streams that electricity utilities can deliver.

The Eskom assets could be divided up sensibly and auctioned off to a number of independent, capable operators. Hopefully the prices realised for the assets would be sufficient to pay off the Eskom debts. But even if not, it would be better to realise as much as possible, as soon as possible, for these assets, than to incur more debt to keep Eskom on its present path.

One advantage of perhaps lower-than-replacement-cost prices paid for the Eskom assets would be that it might enable its new owners to offer more competitively priced electricity – while still providing an adequate return on the capital they have invested. Prices for energy that could then encourage miners and manufacturers who would then be more internationally competitive thanks to lower energy costs. Competitive electricity prices, by international standards, could prove to be a stimulus for a revival of SA manufacturing and mining and the accompanying employment.

The SA economy stands to benefit from a much more competitive market for energy; from many more generators and distributors of electricity who would compete for customers on price and reliable supplies; from contracts that would facilitate the raising of capital on favourable terms for new owners and managers; and from the alternative technologies, relying on wind, solar or gas, that would have every opportunity to compete for custom on the same competitive terms. This would be a system much more like those that apply in the US or UK, a system designed