PRESENTATION TO PORTFOLIO COMMITTEES

PRESENTATION TO PORTFOLIO COMMITTEES ON PROVINCIAL AND LOCAL GOVERNMENT & PUBLIC ENTITIES

MS PHINDILE NZIMANDE

CEO - EDI HOLDINGS

2 MARCH 2005

Current Industry Structure
Currently, South Africa operates in the traditional mode of vertical integration with financial and physical flows from the same path.

PMG Note [diagram not included]

Challenges Facing the Industry

Current industry structure is highly inefficient owing to fragmentation
Inadequate maintenance of networks
Inability to supply electricity to the indigent
Unequal treatment of consumers across the country
Significant disparities in tariffs
Absence of economies of scale in respect of investing in assets sharing of facilities, services, regulation, people development etc.
Limited opportunity to introduce competition

Blueprint view of electricity distribution industry
Current blueprint view is focusing on resolving current issues within the electricity distribution industry.
PMG Note [diagram not included]

Industry Vision for Restructuring

To consolidate the South African electricity distribution industry six financially viable Regional Electricity Distributors

Areas of Focus

Financial implications for Municipalities
Other implications for Municipalities
Effects on Free Basic Electricity
Co-operation from Municipalities and other Stakeholders

Guiding principle

Objective:

To achieve a negotiated and lawful restructuring in the absence of enabling Legislation with the understanding that Municipalities & Eskom will not be adversely affected

Financial Impact on Municipalities

Surpluses
Leverage on Credit Control
Credit rating
Overhead Costs
Stranded Costs
Operational VAT
Transaction Costs
VAT on transfer of assets

Legal and Financial Costs

Liabilities

Financial Impact on Municipalities

Principle	Potential cost (R Million)	Risk Mitigation	Net impact
Surplus
Municipalities must not lose their surpluses	258 p.a.	Full carve out of electricity business with pro-rata of core administration	0
Leverage on control credit
It is important for municipalities to continue using electricity as a leverage for credit control	783 p.a.	Service Level agreement on improved performance of billing, accounting and credit control principles	0
Credit rating
No municipality will be affected negatively with regard to their balance sheet and credit rating	Varies by local authority	Credit enhancements structuring on the REDs	0
Overhead costs
There is a need to harmonise the method of handling and calculating overhead cost allocations varies from municipality to municipality	195 p.a.	To be part of the compensation package. A 7,5% on gross expenditure is an acceptable percentage to be stated as a norm	0
Stranded costs
Municipalities will not be left with stranded costs when electricity is restructured	Amount to be identified by due diligence	To be part of the compensation package. There may be cost that arise from ineffective use of floor space, system utilisation, etc. To be quantified by due diligence and negotiated.	0
Operational VAT implication
It is important that municipalities do not forfeit any right on VAT reclaimable. There is an indication that on average municipalities can forfeit between 5% and 8% of VAT output considering the change in business	24	This can be achieved through a Service Level Agreement between the RED and the municipalities	0
Transaction costs
VAT is payable on the transfer and registration of assets	100-150	EDI Holdings to apply for exemption from VAT payment from SARS. In line with blanket exemption given during demarcation process.	0
Legal and financial costs	30	Cost to be borne by the REDs	0
Liabilities
Short-term and long-term liabilities	1 041	REDs purchase local authority electricity business and assumes the related balance sheet.	0

Financial Impact on Eskom

Financial impact on Eskom
Net profit
Credit Rating
Taxation
Stranded Costs
Transaction Costs
Legal and Financial Costs

Financial Impact on Eskom

Principle	Potential cost (R Million)	Risk Mitigation	Net Impact
Net profit
Eskom must not lose its net profit	13 p.a.	Full carve out electricity business with pro-rata of core administration	0
Credit rating
Eskom’s credit rating must not be negatively impacted by restructuring. Current credit rating: S&P Local Currency: A- S&P Foreign Currency: BBB	Awaiting results of Citibank study	Credit enhancements restructuring on the REDs	0
Taxation
Taxation on sale of business	4000 to 8000	Not applicable because of sale of business structuring or EDI Holdings to apply for tax exemptions and directives from National Treasury and SARS.	0
Stranded costs
Stranded assets and costs	Amount to be identified by due diligence	To be part of the compensation package	0
Transaction costs
Legal and financial costs	30	Cost to be borne by the REDs	0

Areas of focus

Financial implications for Municipalities
Other implications for Municipalities
Effects on Free Basic Electricity
Co-operation from Municipalities and other Stakeholder.

Other Implications

Service Delivery Agreement
Municipality remains service authority and RED becomes Service provider
Relationship managed on agreed Key Performance Indicators
Staff rationalisation and equalisation cost to be carried by the electricity distribution industry

Harmonisation of salaries is inevitable

This imbalance may exist in all public entities across industries and municipalities.
This will be addressed with organised labour and through normal processes in the industry.
Equalisation phased over a period of time

Other implications

Tariffs will not increase outside acceptable norms
NER will control this through their tariff policy and framework
The DAY ONE tariff structure will continue as is in the short term
There might be a request to increase tariffs to address the current state of assets
Municipalities and Eskom hold shares in the REDs
Viable businesses with positive business case
Improved collections
Efficient operations
Reduction of maintenance backlog

Other Implications

Business Case Analysis
REDs are viable and sustainable
Net Profit Margin of 4.6% to 6.1%
Including:
Salary harmonisation costs
Payment to local authorities
RED Taxes
Maintenance backlog
Positive return on invested capital 3.6% to 5.3%
Positive economic profit & creation of shareholder value R252 to R755 million
Positive Operating Cash Flow R5.6 to R7 1 billion

Governance

REDs to have an optimum governance structure to achieve the objectives of restructuring
Successful EDI reform relies on a governance framework that ensures single control and oversight
Single oversight will support financial viability by:
Assuring consistent application of operational efficiencies, scale economies and standardisation
Allowing equitable distribution of capital to support system upgrades & electrification
Applying consistent and equitable tariffs across geographical regions
Assuring consistent distribution of Free Basic Electricity

Governance

Installing the correct governance framework is a critical action that will ensure the meeting of national objectives and sustain the financial viability of the REDs

National Objectives

Low cost electricity
Reliability, high quality supply
Electrification
Employee opportunity
Financially sound & efficient

Financial viability
better access to capital markets at cheaper rates
more efficient operations
better collection rates

A sound Governance framework will:

Improve and sustain the economic viability of the electricity distribution industry
Improve overall reliability and service orientation of the industry
Facilitate the fair treatment of all customers

Areas of focus

Financial implications for Municipalities

Other implications for Municipalities

Effects on Free Basic Electricity

Co-operation from Municipalities and other Stakeholder

Effects on government policy

Restructuring will facilitate:
Efficient delivery of Free Basic Electricity
Focus on Free Basic Electricity
Will form part of the Service Delivery Agreement with Municipalities
RED to ensure consistent delivery of Free Basic Electricity across geographical area
Execution of electrification programme

STATE OF READINESS WITHIN MUNICIPALITIES

Accession to the Co-operative Agreement

The following Municipalities have signed the Co-operative Agreement:
City of Johannesburg
City of Tshwane
Mangaung Local Municipality
Motheo District Municipality
Mogalakwena Local Municipality
Polokwane Local Municipality
Buffalo City
Rustenburg Municipality
Tzaneen Local Municipality

Accession to the Co-operative Agreement

Municipalities which have Council resolution to sign the co-operative agreement:
Ekurhuleni Metro
Ethekwini Metro
City of Cape Town
Negotiations underway to sign the co-operative agreement with the following municipalities:
Matjhabeng Local Municipality
Enhlanzeni Municipality
Msunduzi Local Municipality
Mafikeng Local Municipality
Kai! Garib Municipality

Ring fencing projects in Municipalities

Institutional separation of the Electricity distribution business from other activities constitutes an essential step in the RED creation process in both Municipalities and Eskom.
The following municipalities have completed ring fencing as a municipal entity:
City of Johannesburg (City Power as an ME)
Mangaung Local Municipality (Centlec as an ME)
Ring fencing in Progress:
City of Cape Town
eThekwini
Rustenburg Local Municipality
Msunduzi Local Municipality
Matjhabeng Local Municipality
Polokwane Local Municipality

Other stakeholders

Eskom
Substantial progress made on migration from 7 to 6 regions to align with REDs establishment requirements
Regular interaction and input
Overall positive co-operation
Labour
Transitional Labour Relations Structure established and functional
NEDLAC kept informed
Other government departments
Good co-operation among government
Regular bi-lateral discussions

Thank you