See the first article on restructuring here.
Mr De Ruyter, at a recent investor briefing, Eskom anticipated a R5-billion revenue shortfall in FY 2020/21 as a result of the Covid-19 lockdown. Some analysts suggest a decline of R20-billion is more realistic. What are your thoughts and contingency plans to address possible cash-flow shortfalls if this were to materialise?
We have estimated that the impact of the lower electricity consumption resulting from the current lockdown equates to about R2-billion to R2.5-billion as a reduction in our cash flows. Of course, the impact on our revenue line is greater, but there is also a saving by virtue of the fact that we burn less coal and diesel, so there are fairly large primary energy cost savings.
At this point, we don’t know whether the lockdown is going to be extended further. We don’t know the rate of recovery of the economy once industry reopens and people return to work, or whether there will be a structural reduction in electricity consumption. These are very difficult things for us to call.
We find ourselves in a very uncertain environment where there are lots of scenarios and hypotheses. So, what we need to do is prepare ourselves for whatever the global economy might throw at us.
There is also no doubt that we need to look very carefully at all of the expense items in our income statement, including some of our coal contracts, especially the short- and medium-term coal contracts that come in at a significant premium to our cost-plus and fixed-price coal contracts.
We need to look at our capital allocation, where we have a significant opportunity to improve the way in which we measure, prioritise and allocate capital. We need to be far more scrupulous in this regard.
We also need to look at the R140-billion we spend on procurement per annum and the premium that we pay on this. Procurement is a very significant lever that we have to pull and we haven’t fully explored how we can drive down our procurement costs.
Regarding staffing, we have a constraint in that government has limited us in respect of potential forced retrenchments, so that is not an option open to us at this time. But looking at all the above, it is clear we need to improve our cost base very significantly through the levers at our disposal, if we want to be successful.
With our understanding of the current situation, we are of the view that we will not have to approach government for further cash support at this point in time, and we know that government is quite constrained, and that it is unlikely that this would be forthcoming in any case.
I have already engaged with my executive team and told them to manage their costs, manage their procurement, scrub their capex, and get those numbers down, because we don’t have the luxury of abundant support from the fiscus, regardless of what happens after Covid-19.
I think that the local economy is going to find itself in a very tough position, and we need to cut our cloth accordingly.
You have identified Eskom’s R450-billion debt as the immediate financial risk facing Eskom. What is your preferred option for debt restructuring? Government taking over and servicing a portion of Eskom debt? Establishing a special purpose vehicle to house this debt? Debt/equity swops? Sale of assets?
Yes, Eskom’s debt, and the associated capital repayment and interest costs, are the immediate and most difficult challenges that the organisation faces.
We need to look at our revenue, and in the current depressed economic environment, sales are likely to remain flat, if anything. There is also a potential downside risk if forecasts of a 6% contraction in the South African economy are anything to go by. Since implementation of the lockdown, we have already seen electricity demand go down by 7,500 to 9,000 MW, which is clearly already a significant impact.
We also need to look at our tariff structure, and it is very important for us to look at an appropriate benchmark of cost-reflective tariff, not to subsidise cost inefficiency on the part of Eskom, but to achieve a tariff that is in fact reflective of our costs.
Then, of course, there is the matter of government equity injections. The government has announced that it will make available R250-billion as an equity injection over the next 10 years, with a nett present value (NPV) of about R150-billion. What that means is we have an answer for a certain portion of our debt, but it’s not a complete answer. There is, of course, the minor detail of Nersa classifying this equity injection as revenue, which is something that we are challenging in the courts, as you are aware.
I am not particularly in favour of a special purpose vehicle (SPV). In all the different proposals, the reasons for this SPV have not been made clear to me yet. I think we should be looking at solving the Eskom debt issue, rather than carving out the debt and parking it in a new entity without any assets, without a balance sheet and without a revenue stream to service that debt.
We have to be alive to the fact that our lenders will, in all probability, not take kindly to an SPV unless all of the debt is guaranteed by the fiscus. Given the state of the South African economy and the constraints that the fiscus is facing, it is going to be very difficult for government to issue such a guarantee without this further impinging on the credit rating of the sovereign.
However, there are opportunities for “green financing”. Many of the development finance institutions (DFIs) that are lenders to Eskom, are keen to support a decarbonisation of Eskom and the South African economy. We are one of the world’s largest emitters of CO2, and carbon is a global issue. It is a bit like Covid-19 in that one can’t pretend that carbon has borders like some of the other environmental issues.
We have old coal-fired power stations, with 8,000 to 10,000 MW that should be retired over the next 10 years. These have a footprint of some 34-million tonnes of CO2 per annum, which is about 15% of our overall CO2 emissions. While any free marketeer would frown on this, Eskom is a monopoly, and this means we are able to guarantee access for green energy to the electricity grid.
From a lender’s perspective, this is a very important advantage because it gives them security of revenue. We are also a state-owned enterprise, and this means the sovereign can guarantee and provide security for the transformation of Eskom into a greener entity – not simply a financial guarantee, but a performance guarantee that Eskom will actually do what it commits to doing by virtue of government being the shareholder.
The last challenge we have is an economy which is in quite a poor state and in need of a stimulus, including the need for a just energy transition for coal communities. But if we play our cards right, we can convert these challenges into advantages that will attract additional financing linked to a decarbonisation profile.
We can then use this to address both our existing debt issue, while at the same time ensuring a just transition for the communities currently dependent on coal in the eastern highveld of Mpumalanga, to make sure that we don’t leave ghost towns behind as we retire some of the old coal-fired power stations.
So, I think some of these disadvantages actually create very interesting and exciting strategic opportunities for South Africa, and also for Eskom going forward. – EE Business Intelligence. DM
This is the second of a four-part series based on the interview with Andre De Ruyter. To come; operational issues, including Medupi and Kusile, plant performance, electricity price and municipal arrear debt; and environmental issues and the just energy transition.
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