ELECTRICITY PRICING POLICY AND IMPACT ON THE MULTI YEAR PRICE DETERMINATION BY NERSA Matthews Bantsijang 7/6/2018

Presentation outline Electricity Pricing Policy Mandate Background Electricity Pricing Policy Mandate Electricity Pricing Policy Principles Funding the Integrated Resource Plan Protecting the poor Challenges and Status Conclusion 7/6/2018

BACKGROUND Regulation of electricity prices started after the National Electricity Regulator (NER) was established in 1995. At the time of first licensing there were 378 electricity distributors, after the rationalisation of local government in 2000 the number was reduced to 177. The Eskom price increase application for 2003 was unbundled for the first time into separate applications for their regulated businesses of generation, transmission and distribution. In 2005 it was decided to move to a multi-year price determination (MYPD) for Eskom covering the period April 2006 to March 2007. The MYPD would allow price stability in the period of Eskom’s has to start providing for massive capital investments in new generation capacity. In February 2006 the first MYPD price revue was decided on by the NERSA granting Eskom a price increase of CPI plus 1%. 7/6/2018

BACKGROUND The National Energy Regulator (NERSA) was established on 1 October 2005 Its predecessor, the National Electricity Regulator (NER) regulated the electricity industry from 1995 until 16 July 2006. On 30 April 2007, after one year of operating under the MYPD1 control, Eskom applied for a rule change to reduce their revenue risk exposure. On 20 December 2007, following wide consultation, the Regulator: Declined the rule change for consideration in the second MYPD, but recognised Eskom’s capital financing needs; Granted Eskom a 14.2% increase in 2008/9, translating into a 12% increase for municipalities. From January 2008 to March 2008 Eskom engaged in extensive load shedding due to a national electricity supply shortage. On 18 March 2008 Eskom applied for a revision of the 14.2% increase to 60% from 1 April 2008 based on changes in its business environment, increased primary energy costs and an accelerated DSM programme due to the power conservation programme (PCP). On 18 June 2008, the Regulator approved a price increase of 13.3% in addition to the already approved 14.2% (27.5% overall increase for 2008/9). 7/6/2018

BACKGROUND DOE published the South African Electricity Pricing Policy (EPP) in December 2008. In January 2009 the MYPD2 rules were approved by the Energy Regulator following consultation and a public hearing. On 5 May 2009 Eskom applied for a 34% price increase. The Regulator granted a 31.3% increase, including that Eskom absorb the 2c/kWh environmental levy imposed by the Minister of Finance from 1 July 2009. Eskom submited their MYPD2 price increase application for April 2010 to March 2013 by end September 2009 to obtain the necessary approvals for implementation in March 2009. Despite the large nominal increase in Eskom’s prices, in real terms it is still below the price level experienced during the generation expansion in the 1970’s. 7/6/2018

Electricity Pricing Mandate The Electricity Regulation Act (ERA) and the Electricity Pricing Policy of the DOE guides the structuring of tariffs. Section 15 of the ERA, 2006 (Act no 40 of 2006 as amended) requires inter alia that: “The regulation of revenues Must allow an efficient licensee to recover the full cost of its licensed activities, including a reasonable margin or return; Must provide for or prescribe incentives for continued improvement of technical and economic efficiency with which services are to be delivered.” “Charges and tariffs Must give end users proper information regarding the costs that their consumption imposes on the licensees business; Must avoid undue discrimination between customer categories”; May permit the cross-subsidy of tariffs to certain classes of customers. Various regulatory methodologies are used by the Regulator to ensure that the allowed revenues, charges and tariffs complies with the requirement of the Act. 7/6/2018

Electricity Pricing Policy Principles Approved December 2008, provides guidance and is being implemented by NERSA; Consist of 60 policy statements confirming existing practices, removing uncertainties and introducing new requirements that talks to: Improved social equity by addressing needs of the poor; Enhanced efficiency and competitiveness to provide low-cost and high quality inputs to all sectors; Environmentally sustainable short and long-term usage of our natural resources; Open non-discriminatory access to the transmission system; Private sector participation in the industry; Universal access to electricity; 7/6/2018

Electricity Pricing Policy Principles Investment in the infrastructure to ensure sustainability; Accelerated access to electricity by the previously disadvantaged; Improvement of the technical and economic efficiency with which services are be provided; Efficient use of electricity as a scarce resource; Lowered cost of electricity as input to economic activity; Poverty net for the indigent; and More renewable energy generation in the energy mix. 7/6/2018

Electricity Pricing One part versus Two part tariff Over recovery One part tariff not cost reflective IBT Y-axis = Consumer cost / Utility Revenue (Rands) Two part tariff reflects cost of supply Subsidy Two part tariff subsidises one part tariff One part tariff subsidises two part tariff Breakeven at 400 kWh/m 7/6/2018

Funding IRP 2010 – 2030 is the biggest driver of tariffs

IRP programme committed capacity New build options Coal (PF, FBC, imports, own build) Nuclear Import hydro Gas – CCGT Peak – OCGT Wind CSP Solar PV MW 2010 2011 2012 300 2013 2014 5001 400 2015 2016 100 2017 2018 4004 1004 3004 2019 250 2373 2020 2021 2022 1 1432 805 2023 1 600 1 1832 2024 2832 800 2025 1 000 2026 500 2027 2028 474 690 2029 237 2030 948 Total 6 250 9 600 2 609 2 370 3 910 8 400 Firm commitment now Final commitment in IRP 2012 1. Built, owned & operated by IPPs 2. Commitment necessary due to required high-voltage infrastructure, which has long lead time 3. Commitment necessary due to required gas infrastructure, which has long lead time 4. Possibly required grid upgrade has long lead time and thus makes commitment to power capacity necessary

Affordability of Electricity Prices NERSA to Regulate for an Affordable Price Path Sources: IRP2010, Eskom, Frost & Sullivan, EIUG

Alternative price paths Assuming Eskom builds all new capacity, WACC 8,1% Depreciation 25 years Average electricity price in 2010-ZAR/kWh RE IPPs, Nuclear Project financed, WACC 8,1% Max = 1,12 RE IPPs, Nuclear project-financed, WACC 3% RE IPPs, Nuclear project-financed, WACC 3% Depreciation 40 yrs, reduced Tx, Dx expenditure Min = 0,71 Eskom Debt : Equity Ratio at 3% WACC (0.5) Eskom Debt : Equity Ratio at 8,1% WACC 2010 2015 2020 2025 2030

Issues from current regulatory model Electricity price path can be reduced (with a lower weighted average cost of capital (WACC)) Impact on Eskom’s financing (higher debt ratios and lower interest cover) Trade-off between placing additional funding burden on electricity consumers or tax-payer (through increased government support of Eskom and electricity industry)

Protecting the poor

Protecting the poor Addressing affordability is a major issue during periods of high price increases The following measures have been introduced to protect the poor: Facilitating access to electricity through government subsidised electrification; Free basic electricity (FBE) to the indigent. First 50kWh/m subsidised by Government. Free connections provided to Eskom’s low consumption residential customers; Lower price increases applied to low consumption domestic customers. (15% vs general increase of 31.3%) Inclining block tariffs (IBT) being implemented by municipalities. 7/6/2018

Protecting the poor Electricity Pricing Policy: Qualifying customers shall be subsidised through the application of a life line tariff (single energy rate with no fixed charge and limited in capacity to 20 Amps with a nominal connection fee). Further options that could be implemented include: Increase the FBE volume; Making low consumption domestic tariffs VAT free; Energy efficient housing. The principles of cost of supply and cross subsidies needs further policy refinement for equitable tariff structures and tariff levels. 7/6/2018

CONCLUSION DoE constantly reviews policy when there is a necessity to incorporate new developments. Poverty alleviation is an important challenge for the country. The links between poverty and energy are clear, and electricity pricing policy introduced mitigation for the protection and the uplifting the poor. Policy closes gap and creates regulatory certainty. The principle of true cost of supply and future investment prompt large nominal increase in electricity prices, and in real terms it is still below the price level experienced during the generation expansion in the 1970’s. 7/6/2018