Special Appropriation Bill [B10-2019]: Department of Public Enterprises and Eskom briefings; with Minister

Meeting report

Mr Pravin Gordhan, Minister: Department of Public Enterprises (DPE) said Eskom was a vital utility to the country and crucial to the economy. Eskom had been the target of state capture, and damage had been done to it. There had now been a two-year period of recovery in the areas of governance, finance and operations, but the company was not in a position yet to trade its way out of trouble. Changes had been made to the board and management. Eskom had R440b of debt and liquidity challenges, and would have run out of money in October without the special appropriation funding. There were still human resources (HR), financial and contract finance challenges

Mr Jabu Mabuza, Board Chairperson and Acting CEO: Eskom, said the presentation would cover the special appropriation, the state of the business currently, the case for change, what had created the R20.7b loss reported in March 2019, and how they intended to deal with the challenge of municipalities’ debt.

He said that Eskom was focussing on stabilising its operations and was not looking at the cause of its problems at the moment.

The current situation Eskom found itself in was unsustainable, because debt was approaching R450b while the cash generated was unable to service the debt, so Eskom was borrowing to pay debt. The increase over the past few years from revenue was flat, and tariffs were not cost reflective. This was while it was experiencing having a ballooning unpaid municipal debt of R38b. Operating costs had increased to R150b, with the biggest cost drivers being staff costs, coal and Independent Power Producer (IPP) payments. Power supply had dropped to below 70% because of ageing power plants that had not been properly maintained, leading to increased costs and, at times, load shedding.

The company’s business model had been found to be outdated, and the operational structures were opaque and inefficient.

He said the reason behind the decrease in earnings before interest, depreciation, tax and amortisation (EBITDA) was that the Auditor had refused to recognise revenue on the income statement unless it had been collected, because Eskom had shown an inability to collect income and because the method of depreciation of recommissioned power stations had changed, and because the seven percent salary increase to workers had come into full effect.

He said the financial cost of borrowings had increased, while sales to mining, residential and international customers had declined. Eskom had generated R33b in sales, but R69b was needed to service debt.

Soweto’s debt was almost equivalent to all other municipalities’ debts, while payments showed a decreasing trend. There were inter-ministerial discussions on the matter of municipalities’ debts, and Eskom was engaging with Soweto, but it was slow and the yield was not encouraging.

He said there was three sources of funding: sales revenue, borrowings and from the shareholder, but borrowing levels were unsustainable so Eskom found itself in a debt trap. It had not received a fair return in terms of pricing policies, so it was left with calling on shareholder support because it could not do it through cost savings. The cost of electricity to big users was also becoming unbearable and impacting at a socio-economic level through job losses. NERSA’s allowance to Eskom from a return on investment perspective was way below what was required, because NERSA treated support by government to Eskom in a different way for multi-year price determinations. The electricity price was not cost reflective, and was still a low price compared internationally.

The turnaround strategy was to stabilise, support, and grow the company. The plan included governance, debt, costs, management, operational stability and the separation of business units. Its current focus was not to have load shedding, because the cost to the country was too ghastly. The debt reduction plan was to have debt at 4.2-5% as a multiple of EBITDA, which was regarded as sustainable.

He said there was lots of scope for cost efficiencies in procurement, but suppliers wanted predictable price paths to allow for planning. A lot of operational improvements had been done on the generation side of the business, while on the distribution side infrastructure remained under threat of vandalism.  Eskom had taken coal the previous year from anyone at any price. These were short term contracts of two years which would allow for a stockpile to be built up. All power stations except one now had at least 50 days’ supply. Eskom remained vulnerable in the area of road transportation of coal. 

Eskom was continuing to rebalance its commercial and social mandate. It continued going to NERSA to challenge it on its tariffs. It wanted to persuade the IPP offices to open discussion on negotiations on commercial terms. 

Eskom was focusing on implementing its nine-point plan. Progress was being made on the new build, including the fixing of errors, and the Ingula power station was operating at near maximum capacity. Eskom was reducing its reliance on its Open Cycle Gas Turbine (OCGT) capacity to reduce diesel costs. It had not yet disposed of its finance company, and would do so by the end of the financial year.
 
Discussion

Mr O Mathafa (ANC) said the original budgeted costs at Medupi and Kusile were escalating. What was the extent of the problem and were there plans to stop the escalation of costs? What was the extent of costs the IPPs had brought, and were there plans to mitigate the impact of such costs? Was there a reskilling, upskilling and HR training plan in place to enable the implementation of the nine-point plan?

Mr A Sarupen (DA) asked how the staff numbers had grown relative to the generation of electricity, because there was an impression that Eskom was bloated and top heavy. What was the vacancy rate in critical posts? What was the amount of bonuses paid over the past ten years and what action had been taken to recover losses from ongoing investigations? What was the financial impact of cost overruns and dodgy procurement and how had these impacted tariffs? When would the President’s paper on Eskom become available?

Mr A Shaikh-Emam (NFP) asked what measures had been put in place to deal with supply chain management (SCM) challenges. What percentage of municipalities’ debt was current, and what percentage was old debt? He was not convinced the appointment of a Chief Restructuring Officer would change Eskom in the near future. When would break-even occur, and what further financial assistance would Eskom ask for to reach break-even? Would Eskom ever be viable? Could Eskom comment on the cost of buying electricity from IPPs? He had been made to believe that some power plants had only 20 days’ coal supplies stockpiled. What impact would this have, and what measures had been put in place to deal with this?

Mr E Buthelezi (IFP) asked why Eskom was failing to recover billions of debt owed by municipalities. What steps had been taken to recover the money? Did Eskom have committed staff who had a sense of urgency for the matters at hand?

Mr D Ryder (DA, Gauteng) said there would be trust issues surrounding Eskom. The big issue was that Eskom needed to be transparent on the conditions of the additional funding and had to report on its adherence to the conditions of the funding. He asked why there was a need for an increase in tariffs when Eskom’s EBITDA was positive. It was the debt issues that created the challenges. He did not appreciate Mr Mabuza’s comments that Eskom was not going to look at the cause of its problems, because one did not want to make the same mistakes. Procurement issues had created the problems in the first place. Would there be a review of existing contracts? He said that tariffs had increased while collection rates had decreased, and this meant that those who paid were being punished.

Mr S Swart (ACDP) asked what was being done to exclude the middlemen’s premium from diesel contracts. What was the diesel budget for the year, and how much had been spent? He said Kriel power station had a coal undersupply, but the quality and transport cost of coal were issues that also needed to be addressed. He asked if the huge escalation in costs at Medupi and Kusile had included repair costs. How long would it take for the defects to be corrected and the power stations to be operating at maximum potential? How far was litigation against Hitachi for the faults? He said power station emissions had a detrimental effect on the environment, and asked if ash filters at power stations had been turned off to increase output?.

Ms N Mazzone (DA) said the country was fast approaching the point where there would be no money to give to Eskom. There was no reason why productivity could not be improved at Eskom -- the only thing holding this back was ideology. The R450b debt was unsustainable. Mitsubishi-Hitachi had been the primary cause of bad construction at Medupi. The cost of coal had been R10b in 2017 and R58.5b in 2019, while employee costs had risen from R9.5b in 2017 to R33.3b in 2019. Debt security and borrowings had been R40.5b in 2007, and R440b in 2019.

Mr E Njandu (ANC, Western Cape) gave his support to the presentation.

Mr S du Toit (FF+, North West) asked what measures were in place to improve debt collection rates. What were the current rates for bulk coal supplies? He said there was a 14 day gap between municipalities being invoiced and municipalities paying, which would result in large amounts paid out on interest.

Mr D Joseph (DA) asked if the special appropriation had included the seven percent increase over three years in employee benefits. Was Soweto’s debt almost equal to all the other municipalities?  Did other countries owe Eskom money, or were they up to date on payments? He asked if Eskom was losing the battle against crime and theft, and if this had been factored into the costs. Was the completion of Medupi and Kusile scheduled for five years’ time? What was the projected cost to complete the power stations?

Ms J Mkhwanazi (ANC) asked if Eskom was losing the battle to get debt monies from municipalities. A concern was the escalating costs of Medupi and Kusile. How would the restructuring of Eskom impact on the labour force? What was Eskom doing to address state capture and its impact? Was Eskom management also taking responsibility managements’ high bonuses? She asked if the main contractors were still doing business at Medupi and Kusile.

Ms E Peters (ANC) said the time for the special appropriation bill and engagement with Eskom was limited. She asked the Minister his view on whether the Department was capacitated enough to deal with issues from an entity the size of Eskom. How could a recurrence of what happened at Eskom be avoided? She said the presentation did not address the relationship between the Department, Eskom and the Department of Mineral Resources (DMR) on the issue of coal as a strategic resource. It was painful to hear that coal was the cause of damage to power station boilers. She recommended that the DG’s performance agreement include supporting Eskom's achievement of good performance. She asked if there had been communication with the communities of Soweto regarding people paying the municipal accounts to ensure a sustainable supply of power by Eskom, and developing a sense of responsibility. Was it the intention of Eskom to blacklist major suppliers or contractors that were indebted to Eskom because of delays and consequent cost overruns? Eskom could not emotionally terrorise the nation to continually get bailouts. The fact that two coal supply companies accounted for 90% of the coal supply contracts while 60 companies shared the remaining 10% of contracts was worrying. Had a process for renegotiating these contracts started?

Mr S Gumede (ANC) asked if money recovered from state capture activities could save Eskom. How much could that amount to? He asked if the Department of Human Settlements was also not to blame, because there were many informal settlements where electricity was supplied but not paid for. He asked how municipal debt write-offs affected Eskom.

Mr M Moletsane (EFF, Free State) asked if IPP electricity production costs were more than coal’s cost per kilowatt hour, and if so what was the difference? Was Eskom producing more electricity than it could sell? If so, what had been the trend for the last five years? Could Eskom tell IPP’s legally that it had enough electricity and would not be buying from them? Did it make sense for Eskom to buy electricity that it was not able to sell, at a higher price from IPPs? Were IPPs crippling Eskom’s bank accounts?

Ms D Mahlangu (ANC, Mpumalanga) ,Chairperson: Select Committee on Appropriations, welcomed the turnaround plan and said Eskom should not be discouraged by any negative views expressed. She appreciated that the members of the municipalities had not looked at the issue from a party political perspective, but from a stance of seeking solutions. Eskom had committed itself to a five year time-frame and would be held accountable for that commitment. Bailouts were not a blank cheque -- there were clear and measurable conditions that had to met. She asked if job losses were expected, and added that the infrastructure plan should not be without a maintenance plan.

The Chairperson said the individual municipalities would still follow up their bills with Eskom. Much reliance had been placed on the Chief Restructuring Officer (CRO), but there were more than just financial issues for the CRO to deal with. There were engineering issues -- what would happen with those? He asked when municipalities’ debts became bad debts. What were Eskom's main five cost drivers, and how had these changed over the past five years. On Eskom tariffs not being in line with costs, municipalities were saying that Eskom and government expected municipalities to pay for Eskom’s inefficiencies. What was Eskom's view? The Committees were eagerly awaiting the plan emanating from the President so that they could engage with the plan.

Department’s response

Minister Gordhan said that at Eskom one could see all the negative effects of state capture, and state capture or corruption occurred mainly through procurement. A lot of corruption monies were recoverable, depending on forensic investigations and prosecutions. Eskom had collected 3 000 forensic reports the previous year, and to process this was a massive task. One senior manager had been involved in a R1b deal.

The imbalance between cost and revenue was a valid point, and the Department had told Eskom that costs would not be taken for granted. It appeared that some coal suppliers were making a 70-100% profit. These and all other procurement contracts would all be reviewed.

He said there were some Eskom assets that could not be sold for a cent, and where Eskom would have to pay R15b for someone to take over.

He said there was a possibility to recover money from original equipment manufacturers (OEMs).

The Department had met twice with coal suppliers, including once with the Minister of Mineral Resources, to get them on board. Two years ago, the export price of coal was $200 per ton, but it was now $60, so one needed to look at an integrated plan on the role of coal, because other countries were turning to renewables.

He said municipalities’ debt needed to be disaggregated because once debt became unpaid for more than 60 days, it became difficult to collect.

On the special paper of the President, he said it would be comprehensive and would be published this month.

He said an issue not discussed was the ‘just” transition, which comprised the shift from fossil fuels and how Eskom had mitigated its emissions from older plants, especially in Mpumalanga, because the technology needed was very expensive -- Eskom estimated it to be around R150b. The second part of a just transition was how governments prepared workers for a non-fossil fuel future which included the issue of job losses. The President had said there should be no job losses, so machinery to enable workers to adapt to the renewables industry was needed. There were very old stations, three of which were closed, while others had a two or three year future and were very expensive to operate.

Bailouts had to be monitored and criticised if mismanagement occurred. In some cases, entities were putting forward turnaround strategies, but the plans were not being implemented so extraordinary measures needed to be put in place to ensure that the plans got done.

He said Eskom would need to be more efficient, and this needed to be communicated to staff.

The DPE itself had been orchestrating state capture, so the capacity of the Department was also being rebuilt to have the necessary oversight.

On whether Eskom could give a guarantee, he asked if anyone could give a guarantee when human beings were involved, but Eskom had to do the best it could.

He said the quality of coal had been an issue the previous year and had caused damage to the plants. The whole supply chain had needed to be checked as Eskom had received rubble and stone mixed in with the coal.

On community campaigns to get a culture of payment going, he said there was a need to change the national culture of debt payment because if it was not stopped it could spread and impact the fiscus.

The Department would be looking at getting the best price for coal contracts.

Referring to IPPs, he said that worldwide there was a change in energy supply occurring. The area around the Kriel power station had experienced high emission rates, leading to Eskom having to face court cases. Early on, IPPs had cost more to produce electricity, but now renewables were cheaper than coal.

On the separation of transmission and generation units, he said that Eskom was working with the Department on the details and would ensure that people were looked after in that process.

Staff numbers had exploded in 2011/12, where around 10 000 employees were added. Investigations were being carried out to find out who had been behind the staff increase, and what the consequences were.

Mr Mabuza said another way needed to be found to answer some questions that required detailed answers.

On cost escalations, he said that the costs by the time of completion of Medupi and Kusile were dependant on risks materialising. If 50% to 80% of the risks materialised, the costs for Medupi would range between R135-145m, while at Kusile the costs would be R156-161m.

Regarding the cost of IPPs, he said it added five percent to electrical production capacity and 23% to costs.

It was too early to say that Eskom did not have the right people. Eskom had lost skills through the departure of people for various reasons from the organisation. There was a need for a programme to reskill, up-skill and retrain people into positions.

The headcount number had been 32 000 ten years ago, and it was now 48 000. He would have to check what the bonuses paid over the last ten years were.

Eskom had agreed a three-year wage deal with the trade unions for a 7% salary increase.

Middle management had received a 4.7% increase, while senior management had received no increase at all last year. For this year, consultations were currently taking place for middle management within the confines of the company’s current position. These increases would occur in October. For senior management, it was zero. No bonuses were paid in 2019-2020 because the three performance targets of profitability, reaching 80% of the shareholder’s compact and an unqualified audit had not been met.

He acknowledged that the tariff amount was influenced by corruption and inefficiencies, and said the reason for separating business units was to have transparency on the cost of each business. Eskom would need to sharpen its focus on costs considerably and keep them down. For the moment, tariffs were a function of the cost structure.

Eskom was reviewing its ‘evergreen’ contracts. It needed to find a different philosophy and policy position to reduce short term contracts, because they were expensive, while at the same time trying not to stop empowerment from happening.

On the debt situation of municipalities, he said there were various factors involved, such as interest and the length of time of the debt.

On municipalities’ debts not being collected, he said it was because in some instances it was risky for Eskom employees to go to certain areas to look at exploded transformers or the installation of meters. There were multiple considerations to be taken into account, including disputes with customers, not replacing meters and socio-political considerations.  

There was a need to repurpose Eskom to develop a sense of urgency.

On the turnaround strategy, he said Eskom was waiting for the President’s paper.

He agreed with Mr Ryder that Eskom had to earn the trust of people again. He apologised for giving the wrong impression regarding the causes, and said that Eskom had to find the causes, but it was just not the focus at the moment. The focus was getting Eskom’s generation in order.

He said Eskom was committed to the conditions imposed by the special appropriation, which involved being accountable and reporting back.

He said there had been a decrease in sales because of price elasticity at the higher tariffs. He hoped that there would be no more debates, and an agreement as to what constituted engineering costs to Eskom, but at the moment that point was far away.

Eskom would continuously review contracts, and each Department was responsible for contracts under its purview.

On diesel fuel, he said that at the time of the electricity crisis, Eskom took diesel from wherever it found it, and it had been very expensive.

Eskom had a coal supply challenge only at Kriel power station, where the issue was around its underground capacity.

On the quality of the coal supplied, he said that in its quest to push for increased coal stocks, Eskom had taken anything it could get. Its weighbridges were not properly calibrated at times and so it had been disadvantaged.

There were contracts for the road transport of coal. Coal power stations had been purpose-built near coal fields, and were designed to use their grades of coal. However, coal was now being transported distances to the power stations.

With the way Medupi and Kusile were built, Eskom had to continue to pay the contractors to continue their work at the plants even while lodging claim damages against them, to be pursued later.

He was unaware of an executive decision to turn off filters, leading to emissions, but would seek to get the specifics.

He agreed that Eskom was the biggest risk to the country. Of the total R38b municipal debt, R19b was owed by municipalities this year -- it had been R13b the previous year -- while the amount owed by Soweto was R18b, and its figure the previous year was R15b. International companies owed just under R1b. He said Zimbabwe was paying according to the agreed schedule. There were challenges with Mozambique and Zambia.

The completion date for Medupi, including the fixing of errors. was 2020. For Kusile, it was 2022.

He said the main cost drivers at Eskom were primary energy generation, people and debt. Costs related to people were a function of the decisions taken in the past, and one had to bear in mind the President had said they could not retrench people. Eskom would look to natural attrition and voluntary separation to contain costs.

State capture had had an impact, although it was difficult to prove.

Mr Calib Cassim, Chief Fiancial Officer (CFO): Eskom, said that while the IPPs’ costs were three times the cost of generation production, it was a ‘pass through’ in the tariff, so the consumer paid for that.

He said the cost base of Eskom over the past five years had risen from R116b in 2014, to R150b in 2019. On average, cost-based increases for the last five years had been five percent per annum.  Capital costs in 2014 at the height of the new build were R60b, while in 2019 it was R37b. In 2014, OCGT costs were R11b, while in 2019 it was R4b. In the first quarter, diesel costs had been lower than had been budgeted for.

Mr Mabuza said according to his understanding, the Chief Restructuring Officer would be dealing with financial matters, while management would deal with operational matters.

Minister Gordhan said Eskom was vital to the economy and to the country. Its shape would be different in four to five years time, and the Department would make the project succeed.

The Chairperson said he was appreciative of Eskom’s position on job protection, and that no jobs would be lost.

The meeting was adjourned.