In December 2007, Nersa awarded Eskom a revised price increase of 14,2% for the year to March 2009, being the third year of the first multi-year price determination (MYPD 1). This was less than the increase of 18% that Eskom requested. In addition, Nersa did not allow the rule changes for MYPD 1 applied for by Eskom, stating that the rule changes would be addressed in the second multi-year price determination (MYPD 2), which will only be finalised by September 2008. Refer here.

Click here for more details on Eskom’s average tariff adjustments for the last 15 years compared to CPI.

Steep increases in the short-term contract price of coal and general coal inflation over the past year placed operating costs under enormous pressure. The power shortages at the end of 2007 necessitated the increased operation of the open-cycle gas turbines, which consume large volumes of diesel that had to be purchased at a time when the oil price was at a record high, coupled with a weakening rand against the dollar.

Revenues from electricity sales are first used to cover operating costs, with the balance being applied to the funding required for the expansion programme commitments. The balance of the funding will be sourced from borrowings on the local and foreign markets and from the shareholder, which is the government of South Africa.

The borrowing capacity for debt finance is dependent on the market’s willingness to lend and Eskom’s ability to service the debt. The cost of servicing the debt, and the market’s willingness to lend, are directly linked to Eskom’s credit rating from rating agencies. A limitation on the borrowing capacity of Eskom both in the local and foreign markets has been quantified at R150 billion over the next five-year planning period.

Rating agencies, aware that the 14,2% price increase for 2009 was inadequate to cover the enormous increase in operating costs, let alone contribute towards the servicing of loans necessary for the capital expansion, placed Eskom on credit watch in February 2008.

The Minister of Finance announced a R60 billion shareholder support programme during the annual budget. Terms and conditions are being finalised. Following the announcement of the lower than expected price increase of 27,5% for 2008/09, the drawdown from the shareholder loan is expected to be bigger than originally expected for 2008/09.

In March 2008, Eskom submitted an application to Nersa for a revision of the price increase for the year to March 2009 from 14,2% to a nominal 60% (53% real). This is to enable Eskom to recover the full primary energy and other operating costs, and to earn a realistic return to enable it to fund both servicing and scheduled repayments of the capital expansion programme.

The capital expansion plan has a high risk of escalation due to the tight supply market, exchange rate movements, higher inflation, skills shortages, the acceleration of projects and higher commodity prices.

Eskom’s proposed tariff increase of 53% real to Nersa resulted in the urgent call for Nedlac to convene a “national energy summit”. The meeting was in response to a call by the African National Congress (ANC) and other stakeholders for further consultation and explanation of the request by Eskom for the tariff increase.

The summit raised the point that electricity tariffs should ensure the sustainable development of the industry but that it must avoid imposing unacceptable costs to the poor/or an excessive shock to the economy.

• constituencies to work together and agree on price increases over the next five years
• the increases granted will be subject to Nersa regulatory processes
• price increases to be phased in
• Eskom would require fiscal injections to support the credit rating
• demand-side management funding to be excluded from the tariff
• special arrangements are needed to protect low-income households

Nersa announced on 18 June 2008 an additional increase in the electricity tariff of 13,3% for the year ending March 2009 which resulted in a 27% average increase year-on-year. Nersa also ruled that the price increase to “poor” residential customers be limited to 14,2%.

• they recommended that in order for Eskom to maintain a strong balance sheet to support its borrowing capabilities, that the drawdown profile for the R60 billion funding from government be reviewed so that Eskom maintains a healthy credit rating
• that a mechanism be developed by Nersa that will take into account unforeseen changes in primary energy and other costs. This mechanism must also take into account the efficiency of costs, the prudency with which the costs are incurred, Eskom’s measures to control these costs and its ability to predict such costs at the time of application
• the principle of smoothing the prices is supported as part of the MYPD
• if the current economic climate continues to prevail and Eskom’s capital expenditure remains as is, then tariff increases of 20% to 25% per annum are projected over the next three years
• Eskom’s conditions of licence will be amended with the objective of ensuring that Eskom manages its risks efficiently and optimally, particularly in regard to primary energy costs
• accelerated demand-side management (DSM) of R2,5 billion was disallowed by Nersa. The DSM programme is a vital component of ensuring security of supply. In order to continue with these programmes, government would need to fund the initiatives

The chief executive’s response to the announcement by Nersa was that it sets Eskom and the energy sector in general on the path to long-term financial sustainability. However, even with the 27,5% price increase, Eskom will make a loss in 2009. Increased shareholder support will make up for lower cash flows from operating activities.

Click here for more information regarding the capital expenditure programme.

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