The Association of Municipal Electricity Undertakings (Southern Africa)

PO Box 868 FERNDALE 2160 Tel (011) 7891384 Fax (011) 7891385 E-mail [email protected] Web www.ameu.co.za

19 June 2006

AMEU Executive Council comment on the:

Viability of the establishment of a National RED/7th RED

The Portfolio Committee on Minerals and Energy has invited stakeholders and interested parties to submit written submissions on the viability of the establishment of a National RED/7th RED by no later than Monday, 19 June 2006 prior to conducting public hearings at Parliament on Wednesday 21 and Friday 23 June 2006. The AMEU is delighted to accept the above invitation and wishes to comment accordingly.

The Association of Municipal Electricity Undertakings (Southern Africa) [AMEU] has long been recognised as being a major stakeholder in the electricity distribution industry [EDI]. It participated in. the National Electricity Forum deliberations and the subsequent EDIRC process that resulted in the formulation of the Blueprint on restructuring, and has actively supported the National Government's vision to restructure the EDI into six regional electricity distributors.

Background

The invitation to submit comment referred to a ‘Background Brief for 7th RED' that contained the following:

• In May 2001, Cabinet approved the Blueprint on EDI Restructuring. This Blueprint contained the six wall-to-wall RED model as the end-state Industry structure, including proposed RED boundaries. However, in September 2005, Cabinet adopted a substantially different industry structure model to the original six RED model. This model proposed the establishment of six Metro REDs and a National RED for all non-metropolitan municipalities after a feasibility study to identify appropriate funding, organisational and governance arrangements, for this proposed National RED. The Cabinet decision of September 2005, was conditional upon a process to determine the proposed National RED's financial viability.

• The Department of Minerals and Energy (DME) consequently sponsored a feasibility study project on inter alia the financial viability and governance options for the National RED. This project was executed by EDI Holdings (the implementation arm of National Government to restructure the EDI). The project reported on a bi
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monthly basis to the Multi Stakeholder Forum (MSF), a consultative / information sharing Forum that was chaired by the DME and that comprised stakeholders from the relevant Government departments and other institutions.

· EDI Holdings submitted their final Report on the results of the feasibility study to the DME in April 2006.

Government in its wisdom has seen fit to restructure the ED! for a number of important objectives that are deemed to be in the national interest. The background brief referred to above infers that the Cabinet resolution was wider than merely instituting an investigation of the viability and governance options for 'the' national RED. Information via our principals represented on the MSF, namely SALGA, was that four options were investigated. These were:

· Six wall to wall REDs as per the EDI Restructuring Blueprint.

· Six Metro REDs plus the balance in a National RED

· Six Metro REDs with the adjacent Municipalities linked to the metro (Bordering Municipalities) plus the balance of Municipalities in a National RED.

· Six Metro REDs with the adjacent Municipalities, (Bordering Municipalities) linked to the relevant Metros, plus Sub Regional Clusters (e.g. Southern Karoo) plus the balance of Municipalities in a National RED.

• Six metro REDs with the adjacent Municipalities (Bordering Municipalities) linked to the relevant Metros, plus Sub Regional Clusters (eg. Southern Karoo) plus the balance of Municipalities in a national RED.
  
  Comments on aspects of the results of the investigation related to the viability of a possible National RED are as follows:
  
  Discussion:
  
  For the purposes of this discussion, the term 'viability' has been interpreted to have a wider meaning than merely the 'financial viability' of the 7th RED.
  
  The following comments are relevant:
  
  . Financial viability:
  
  The results of the EDI Holdings modelling exercise have shown clearly that the National RED option is not financially viable and will require financial support for an unspecified period. This situation raises the possibility of a number of mitigating actions such as:
  
  
• o Cross subsidisation of the National RED by means of higher than necessary tariffs to the Metro REDs. The industry has been working for a number of years to remove the present cross subsidies in bulk tariffs whereby large municipal distributors and their customers have been subsidising Eskom customers. Agreement has been reached with NERSA for the introduction of a Wholesale Electricity Pricing System [WEPS] to remove these inequities and the suggestion that cross subsidies should be continued is not supported. Prolonged cross-subsidies result in inefficiencies, and the National Red will not be sustainable in the short and long term.
• 
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o The introduction of National fiscus funding which will be difficult to phase out if introduced and which would delay the introduction of higher efficiency improvements in the industry. These improvements were seen as one of the major objectives of the industry restructuring.

o A reduction in the financial contribution made to other services from electricity revenue received by most municipalities that operate electricity services within the boundaries of the National RED. Any suggestion of removing these internal subsidies is likely to be strongly opposed by the relevant municipalities and SALGA. It would also contravene one of the implementation principles of Cabinets revised restructuring approach.

· Key concerns of Cabinet:

The decision by Cabinet on 14 September 2006 to reconsider its May 2001 decision was based on a number of key concerns that included inter-alia:

o The fiscal and financial risks of transferring the electricity businesses of Eskom and Municipalities to the REDs; and

o Cost and liabilities implications of transferring Eskom and Municipalities staff to the REDs.

It is not clear from the results of the modeling exercise that these concerns have been addressed. Clearly the fiscal risk has been shown to be greater with the establishment of a National/7th RED compared to the original model of 6 REDs.

· Governance:

In terms of the Constitution of South Africa, the function of Electricity Reticulation (Distribution) is an executive authority of Local Government. In terms of current legislation the National RED must be established as a Municipal entity. The modelling exercise has highlighted that control of the National RED will thus be shared among approximately 200 shareholders/parent municipalities. These municipalities will have significantly different requirements and will impose a wide range of disparate demands on the RED. Other comments relevant to this issue are:

o It is likely that there will be a large number of requests for the appointment of directors to the Board of the entity. The Board will reduce in effectiveness the larger it becomes.

o Due to the size of the 7th RED, the location of the Board is likely to be significantly remote from many of its members and participating municipalities.

o Currently applicable legislation covering the activities of municipalities contain a number of restrictions that will have to be amended, such as the restriction on the borrowing of funds and the number of shareholders allowed for a private company.

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· Participation by non-Metro municipalities:

One of the implementation principles set by Cabinet reiterates the point that the restructuring must conform to the Constitution of South Africa which states that responsibility for electricity reticulation is vested in local authorities [municipalities]. In assessing the viability of the 7th RED, questions that need to be answered are:

o A number of the non-Metro municipalities operate effective and efficient electricity services, surplus income from which contributes the affordable provision of other basic municipal services to their communities. What incentive exists for these municipalities to join the National RED and effectively lose this facility and hand over control of the distribution function to Eskom, the single dominant entity in this RED, despite the existence of Service Delivery Agreements [SDAs], municipal by-laws and credit policies?

o Maintaining a voluntary approach to municipalities may allow them to retain their constitution authority, but what effect will their nonparticipation have on the financial viability of the National RED?

o DME officials have stated at a number of forums that, in their opinion, 'Eskom Distribution is the only logical national vehicle to form the core and manage the National RED while also claiming that the revised restructuring approach will 'provide for voluntary participation in the National RED by non-Metro municipalities on a managed basis'. What reason would any municipality have for handing over its electricity service to Eskom, thereby relinquishing the revenue generated, control over tariffs and control over the extent of service and its quality?

Our conclusion therefore is that establishing Eskom as the anchor of the National RED is not logical and that Municipalities (in the absence of relevant legislation) are not going to voluntarily participate in the process. It could also be unconstitutional if Eskom were allowed to "manage" the National RED.

· Original objectives of EDI restructuring:

The core objectives of the EDI restructuring contained in the 200 Blueprint report are often stated as being:

o Universal access to electricity for all South Africans

o Acceptable and sustainable levels of supply security and quality

o Achievement of government's electrification programme

o Sustainable electricity supply to low-income consumers, regardless
of location, at affordable prices

o Future REDs to operate on a sustained financially viable basis as independent businesses

o Future REDs to provide secure employment to their employees, provide skills development and training consistent with a high technology, modern distribution business

o Planned and managed transition.

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o Transition to be done within the context of a comprehensive human resources strategy and an agreed social plan

Other objectives that contributed to the eventual decision to establish 6 REDs were:

o A desire to rationalize the numerous tariffs in effect throughout South Africa: and

o Introduce competition into the distribution market.

The reported results of the latest EDI Holdings modelling exercise have not been able to demonstrate that these objectives can or will be achieved more effectively by establishing a National RED in preference to the original decision of 6 REDs.

Conclusions and Recommendations:

In the light of the above (especially after taking into consideration or cognizance the results of the latest EDIH modelling exercise) the AMEU cannot see its way clear in supporting the creation of the 7 National Red as envisaged.

The AMEU would thus like to suggest the following:

· That Cabinet reaffirms its May 2001 decision to proceed with the establishment of the 6 Regional Electricity Distributors as defined in the original Blueprint report; or alternatively

· Cabinet proceeds with the establishment of the 6 Metro REDs and creates an enabling environment where some incentive[s] (in the absence of appropriate legislation) is provided to the relevant municipalities to merge with an appropriate Metro RED ultimately leading to the 6 wall-to-wall REDs end-state. Rather sooner than later.

v P. Padayachee (Vally) MBA; M.Sc (Eng); EDP (Wits) AMEU President

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