By Saliem Fakir and Ellen Davies
Some crises you don’t plan for. The Eskom crisis, however, is the result of poor planning.
The current crisis at Eskom is a culmination of particular policy decisions made both during and after apartheid. Faulty energy paradigms, political interference and a corporatist mentality have ensured that Eskom has lost its public good compass. So it is that a single entity has and continues to create systemic stress, plummeting the country into a state of despair. If the Eskom ship sinks, we all sink. Eskom, as we now know, is a dark-hole that sucks up capital dry, and neither saves nor generates it.
Eskom (or Escom as it was known then) was established as the Electricity Supply Commission in 1923. It was created for a particular purpose – to tame the influence of private generating capacity and acquire a strategic monopoly. Eskom’s role was to supply cheap electricity to support industrialisation and minimise South Africa’s dependence on gold and foreign capital.
During apartheid, plant oversupply encouraged a moral hazard. Eskom entered into a number of very secretive long term contracts with various energy-intensive users that guaranteed them cheap electricity for decades to come. Sweetheart deals rendered it impossible for Eskom to embark on full-cost recovery. When energy demand grew and new plants were required, Eskom was unable to generate additional capital from these energy-intensive users, who collectively accounted for the majority of consumption. This, plus a false sense of comfort based on Eskom’s balance-sheet surpluses, resulted in delayed cost recovery from incrementally instituted tariffs. When demand grew, Eskom was forced to incur additional debt or look to state bailouts to build new capacity.
In the post-1994 period, uncertainty regarding Eskom’s future – whether it should be privatised, how the state should manage its generation, transmission and distribution assets, as well as its coal infrastructure – put a break on further investment in new generation capacity. At the same time however, the government embarked on a massive electrification programme to supply electricity to the millions of South Africans who had lived in the dark under the apartheid regime. Thus while demand was rapidly growing, new capacity had been stalled.
With major power shortages in 2007, a decision was taken to build two new coal plants, Medupi and Kusile, to meet growing demand. Collectively these power stations are expected to add around 9 600 MW to the country’s electricity system, the equivalent of 25% of South Africa’s 2009 generating capacity. However, like most bulk infrastructure projects, Medupi and Kusile have been subject to major delays, technical challenges, massive cost overruns and questionable procurement choices.
Medupi was expected to be fully operational by 2015, but only one of its six 800 MW boilers is operational, and that only partially. The 2018 deadline for both plants to be brought online will most certainly not be met. These delays have not only resulted in a severely constrained electricity system but are also costing the country billions in cost overruns – now triple initial estimates.
Besides the costly procurement of equipment and services, Eskom has been mired in procurement controversies relating to Medupi and Kusile. The cosy joint venture relationship between Chancellor House (the ANC Investment arm) and Hitachi during the bidding process raises questions about Hitachi’s selection to supply boilers for Medupi. Alstom (a French company) was arguably better placed to supply these boilers but was awarded the contract to supply steam turbines instead. Today we are sitting with the probable result of these questionable procurement decisions: Hitachi and Alstom are struggling to synchronise Medupi’s first boiler and turbines.
The delays in completing Medupi have led to other problems. Eskom is running existing plants to capacity, putting strain on existing infrastructure and limiting ability to conduct routine maintenance. These plants are already operating at seventy percent plant availability, rather than ninety percent. Furthermore, seriously low electricity supply reserves are forcing Eskom to run diesel generators to support base-load generation. In normal conditions, diesel generators are only used to supplement supply during peak periods. Not surprisingly, Eskom’s diesel costs have shot up from around R2 billion/annum to almost R10 billion. Furthermore, questions are being raised in the media about potential middle-men and -women – including dentists and beauticians – benefitting substantially from Eskom’s diesel procurement.
A host of other factors such as inflated salaries, unjustifiable perks for a crisis-ridden organization, lavish family parties, escalating costs of coal purchases due to BEE obligations, ageing infrastructure, high maintenance costs and other inefficiencies are making it difficult for Eskom to run a cost-effective utility. This doesn’t even factor in all the governance issues clouding Eskom.
The continued effect of sweet-heart deals as well as Eskom’s current cost burden means that it is looking to all possible revenue sources to remain afloat. Consumers are being particularly hard hit. Tariff escalations, determined by the National Energy Regulator (NERSA) during the Multi-Year Price Determination (MYPD) process, are well above inflation and are proving particularly punitive to the poor. Many poor consumers are in fact being forced off the grid as a result. When NERSA does not grant the full cost-recovery amount that Eskom has applied for, it looks to the Regulatory Clearing Account (RCA). This happened last year when NERSA permitted Eskom to recoup close to R8 billion through the RCA. The full story behind all these shenanigans has yet to be told.
In the meantime, Eskom has been given a further bail-out of R20 billion from Treasury. However this bailout comes with the condition that Eskom must recover the R9 billion owed to it by various municipalities. These municipalities – mostly with poor constituencies – will struggle to recoup this debt. The ironic result is that many poor households, electrified post-apartheid, will have their supply cut off.
Furthermore, Eskom is relying on its state guarantee of R250 billion to borrow money from the market. However, since its credit ratings are close to junk bond status, it must pay more interest on loans each time it borrows. This in turn means that the more that Eskom borrows, the more consumers must pay for electricity. Financiers find themselves in a lucrative position, well aware that Eskom either borrows at undesirable rates, or the South African economy faces collapse.
What can we learn?
There is no doubt that Eskom must be fixed, but we must not live under the illusion that this will happen any time soon.
Eskom’s ability to play a strategic role in the economy is now compromised. In fact, Eskom is currently having the opposite effect: it is retarding economic growth. It is important to unpack what fixing Eskom would means. The “War Room” set up by the Presidency to deal with the crisis has itself given up on future planning. It is now purely focused on keeping Eskom afloat. But keeping Eskom afloat is only part of the solution. Identifying where we went wrong and learning from our mistakes is another big part of the solution. Investigating viable alternatives is yet another part.
One obvious lesson from the Eskom debacle is that we should stop building large plants. Renewable energy and smaller gas plants, done on a modular basis can fill the gap between demand and supply in a relatively short period and at lower costs. Ironically, the delays at Medupi have resulted in wind and solar coming in at a lower kilo-watt cost than Medupi’s coal generated electricity (based on the later rounds of the Renewable Energy Independent Power Producers Procurement Programme (REIPPPP).
Although the IPPs have delivered cheaper renewables than anticipated, they present challenges that need to be resolved. In future, it is likely that there will be a consolidation of the IPPs in South Africa through buy-outs by large foreign utilities that already have a presence in our market. Furthermore, because of the nature of FDI, we are seeing the leakage and transfer of capital out of the domestic economy, all in foreign currency. This raises concerns about the organization’s balance of payments. Finally, the current IPP procurement model is not structured in a way that will deliver lasting and deep localisation and manufacturing for the country.
These are all questions that need to be resolved. Ideally, Eskom should be building renewable energy capacity. The rate of return on capital invested is lower, which means it can build renewable energy plants more cheaply than private IPPs, which in turn brings the costs of renewable energy down further. Space for municipalities and other forms of public- and community-owned generation plants should be given serious consideration, including expanding the provision of rooftop solar water heaters and photo-voltaic options. Regulatory and financial uncertainties regarding municipalities, self-generation and households feeding into the grid must be resolved.
The Eskom crisis presents a quandary. Eskom’s financial woes and major mismanagement have reopened the door to a debate on privatisation. Continued poor performance will garner more support for privatisation unless other concrete and more publicly acceptable ideas are put on the table. It is time to look for solutions and to drive the change we want to see happen.
Saliem Fakir is Head of the Living Planet Unit at the World Wide Fund for Nature. Ellen Davies is a researcher at the World Wide Fund for Nature.
