Despite some claims to the contrary, Eskom’s financial problems are far from resolved. Its woes with the construction of Medupi, Kusile and Ingula are well documented. Medupi and Kusile coal-fired power stations are highly complex megaprojects and have their fair share of large-cost overrun and delay problems that typically bedevil such projects.
While Eskom is adding vast amounts of new capacity to the system, demand for its product is down, with a completely unforeseen and unprecedented reduction in electricity demand over the past 10 years (maximum demand and energy supplied).
This is undoubtedly the combined result of charging the highest real electricity tariffs in recorded history (since 1950) and a period of chronic load shedding that dealt a blow to investor confidence in SA’s power system.
Global ratings agencies agree. Standard & Poor’s, for one, recently cut Eskom’s credit rating a further notch into the subinvestment or "junk" territory. Given the government’s large guarantees for Eskom debt, this creates further pressure for SA’s sovereign rating to be downgraded to junk status.
Eskom’s new acting CEO, Matshela Koko, is already complaining about surplus capacity at the utility and has responded, along with departing CEO Brian Molefe, by unleashing a barrage of spin to talk up the situation — and by illegally refusing to sign the latest round of renewable energy contracts.
Given the many financial and other challenges faced by Eskom — and, more importantly, the critical imperative to restore confidence in the economy to encourage investment, job creation and economic growth — SA deserves better.
Better options
It appears there might be better options to improve Eskom’s lot. But this will mean going back to some of the root causes of the utility’s crises — and these lie in Eskom’s megaproject build programme.
Kusile is the last in the queue for completion, with its first unit only scheduled to be commissioned in July 2018 and the last unit optimistically expected to be in operation by September 2022.
While most of the public attention has been on the delays and cost overruns at Medupi, most of the Kusile story is yet to unfold.
Chris Yelland of EE Publishers recently estimated the total capital cost for Kusile to be R239.4bn and the cost of the electricity it will produce to be more than R1.16/kWh.
Many pointers suggest these figures are conservative and are almost guaranteed to be substantially higher.
Eskom’s financial troubles are primarily related to the fact it has to fund these enormous capital costs over a construction period of almost 15 years before it is able to generate electricity from the investment, and that the economy has little room to absorb further electricity tariff increases.
Contrast the Kusile power costs and large financing obligations with the prices from the latest round of electricity procured from the private sector under the government’s competitive renewable energy programme, which come in at an average price of 62c/kWh in late 2015, or about half the cost of Kusile. Average 2016 prices of 42c/kWh and 47c/kWh in Morocco and Mexico, respectively, suggest the downward trend in renewables prices can be expected to continue.
Add to this the fact that consumers do not have to fund the construction of renewable energy for years before commissioning, and that the private sector investors have to take all the risks on cost overruns.
Under these circumstances, and with falling demand for Eskom power, it becomes imperative to ask the question if it is in SA’s interest to complete the Kusile project.
For instance, cancelling the second half of Kusile might save up to R100bn in capital costs that would have to be funded by Eskom and underwritten by the fiscus.
Avoiding this capital expenditure could make an enormous contribution to derisking Eskom’s balance sheet, restoring its credit rating, reducing its funding costs and, ultimately, substantially reducing the need for future electricity tariff increases.
If the cancellation of part of Kusile results in the acceleration of the renewables programme it will build on one of the few good news stories coming out of SA in recent years.
It is now also increasingly likely that it could make financial sense for Eskom to procure cheap renewables to reduce the use of its most expensive older coal plants, as we showed in our presentation at the Integrated Resource Plan (IRP) 2016 public hearings.
Surprisingly, the government’s latest IRP 2016 base case analysis does not consider these obvious questions.
Nor does it consider the fact that cancelling part of Kusile might be one of the lowest-cost strategies to contribute towards meeting SA’s climate change mitigation obligations.
Expect strong protests from Eskom and other quarters in response to this option being raised. With the enormous resources involved, many interests have coalesced around the Kusile and Medupi construction programmes.
There will be arguments about contractual commitments, penalties, network and system constraints, job losses, the coal industry and so on. However, if the hypothesis is correct, it means there will be much cheaper and cleaner ways of producing "baseload" electricity than that offered by Kusile.
These alternatives will also create jobs in industries more closely aligned with SA’s future, rather than with its past.
Deadweight loss
If the Kusile hypothesis is correct, persisting with the original plan will, by definition, result in a deadweight loss to the economy and retard economic growth and development.
The complexity of the contractual structure for the Kusile project means the precise cost of cancelling part of the project will be hard to determine upfront — even for Eskom.
It will, of course, be necessary to undertake investigations to obtain a reasonable understanding of the costs and benefits of the alternatives to completing Kusile.
However, with looming surplus capacity, Eskom’s financial crises and the magnitude of the potential cost saving, it might well be that having the precise numbers is not necessary to make the correct decision.
Given their institutional interests, it is unlikely that senior Eskom executives will have sufficient incentives to properly investigate this question, and they will be reluctant to provide the information required for others to do so. During the worst part of SA’s load shedding, the utility seemed to become more open and took the public into its confidence — especially when it needed the collaboration of many consumers to maintain system stability.
More recently, Eskom appears to have reversed this trend and is now a much more secretive organisation. Investigating questions such as these will have to be driven by stakeholders outside Eskom.
There are a range of stakeholders that should be interested. The Treasury provides loan guarantees to Eskom and will no doubt be expected to guarantee further Eskom borrowing for Kusile.
The National Energy Regulator of SA has the task, by law, of setting the utility’s tariffs to cover efficient costs.
When a possibility arises that Eskom could have cheaper alternatives than completing some of its expensive megaprojects, the National Energy Regulator of SA will have to consider this at the next Eskom tariff application. The regulator will arguably have to undertake an inquiry into these options before it can legitimately approve Eskom’s tariffs as being reflective of efficient costs.
And then there are electricity consumers and their representatives, such as the metros that buy Eskom electricity on behalf of their cities, the Energy Intensive Users Group of Southern Africa, and SA’s various business and civic organisations.
These are all powerful players that should increasingly be asking difficult questions such as these in the public interest.
• Steyn is director of Meridian Economics.
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