PRESENTATION TO SCOPA ON MUNICIPAL DEBT OWED TO ESKOM 16 May 2018

Macro issues Eskom is an important national strategic asset and its financial viability is of paramount importance; Equally important is that municipalities must be able to provide sustainable and affordable services and to collect revenue so they can pay creditors such as Eskom and be financially viable; The Constitutional, legislative and fiscal frameworks are carefully designed to ensure that local government delivers sustainable services (both in terms of the actual provision of the services and financially); The current dispensation in the Electricity Distribution industry is subversive of the existing legal frameworks which directly undermines municipalities’ ability to fulfil their constitutional mandate in the provision of services; In parallel, the energy sector is changing at a pace never seen before. r

Historical Case on Eskom Debt 2015 March National Treasury invoked a S. 216 of the Constitution indicating intent to withhold ES allocations to municipalities defaulting on Eskom and Water Board payments Concerns raised by the department included Escalating long term debt Non payment of current accounts Inability of defaulting municipalities to honour payment arrangements Absence of resolution mechanisms between affected parties Breach of MFMA and fiduciary responsibilities

Institutional Profile of Defaulting Municipalities Most of these municipalities fall into the COGTA classification of B2B (administratively dysfunctional and financially unviable) Challenges include formulating cash funded budgets, which automatically results in constrained cash flow to sustain operations and limited revenues Besides Eskom and WB, these municipalities had a long list of other creditors that they were not paying on time – including statutory entities

Some Lessons Learned – Post ES Withholding Sessions The interactions between National Treasury, the affected municipalities, SALGA and other entities provide an indepth analysis of some of the structural and systematic challenges these municipalities face Municipalities were entering into payment agreements that are unsustainable against the advice of SALGA so they can be out of the disconnection list All these municipalities demonstrated inability to ring-fence electricity revenue due to it being a source of cross subsiding other non-revenue generating functions in a municipality (LG Funding Model a Problem) The risk of non-payment of other creditors over and above bulk suppliers (SALGA maintains prioritization of all creditors be it bulk, SMME’s, etc.). Not just Eskom and WBs The unintended consequences of other national programmes; FS Case - how robust rollout of housing programme has had impact on ability of municipalities meet provision of bulk infrastructure capacity, leading to exorbitant penalties from Eskom for exceeding NMD

Municipal Debt owed to ESKOM per Province Source: ESKOM

Status Quo on ESKOM Debt Eskom arrears increased by R9,126 billion in the 9 months (up to 31 March 2018) of the 2017/18 financial year Significant amounts owed to Eskom (approximately 85%) are outstanding for 120+ days and therefore their collectability is questionable Reduction in arrears amounts only observed in KZN and WC – improvements must be sustained Increasing trends are still observed in other provinces Bulk Resource Suppliers (Eskom) are still implementing sporadic supply restrictions/interruptions Of the R13,3bn the is a large percentage constituted by Eskom’s ever increasing penalties and interests on overdue amounts (NMD and prime plus 5%) Debt older than 6 years still accumulating interests –Eskom unable to write-off historical debts but municipalities expected to do so to their customers

Top 30 Overdue Municipal Accounts as at 31 March 2018 Top 30 = 88% of Overdue Debt owed to ESKOM (R12,007 b)

Government needs new game plan or model: See Provinces in red and co-relate with Eskom debts, tells a story (Source AG Report 2016)

Status Quo Financial disputes are underway in some instances Negotiations are also under way through provincial facilitation to assist to review payments arrangements in instances of not honouring the existing arrangements Provincial facilitation underway to assist with conclusion of payment arrangements where non existence Some municipalities have financial challenges and section 139 interventions underway There are 63 municipalities who met aspects of section 138 and 140 of the MFMA as at February 2018. The systematic and structural challenges in the Electricity Distribution space raised by SALGA in a number of IGR platforms and even to Eskom remain unresolved (these also form significant part of the debt problem. Municipalities are always encouraged to involve SALGA at the earliest possible stage of any such negotiations and arrangements

Constitutional Issue Constitutional authority of municipalities has been undermined by Eskom for years In the absence of a contracting and regulatory mechanism (SDA) between Eskom and municipalities: Municipalities are unable to levy surcharges in Eskom supply areas Municipalities are unable to exercise credit control in Eskom supply areas Lack of tariff parity between municipal supply areas and Eskom supply areas Conflicts over supply areas License issued by NERSA to Eskom to reticulate electricity is defective as it bypasses the executive authority of municipalities Without an SDA, Eskom’s service unlawfully encroaches upon the constitutional powers of the municipality r

Structural Issues – Illustration on Tariff Issues (Source City Power, 2017) RED denotes categories that would be contributing to the cross-subsidy pool, GREEN denotes those categories that are on the receiving end of cross-subsidies.

Illustration Impact of Eskom Supplying within CoJ (Source City Power, 2017) Income and Cost Line Units R’000 000 Value Estimated Revenue @ CoJ Eskom Areas 9,501 GWh R14,903 Other CoJ Revenue based on Electricity Sales: Demand Side Management Levy Municipal Surcharge R114 R120 Cost of Sales 11,447 GWh R11,128 Net Impact to CoJ R4,009 Of the total of 275K properties under Eskom serviced areas, 261k is considered to have active electricity connections The revenue calculation is based on the following: Aligning property category to a tariff; Existing average consumption, CoJ applicable Electricity Tariff, As part of the financial planning CoJ estimated its total losses on electricity to be at 17% for 2017/2018 FY.

Systemic Issues ESKOM credit control mechanisms for municipal bulk accounts are not aligned to the Local Government: Municipal Finance Management Act (MFMA) and the Public Finance Management Act (PFMA) The need to rationalise municipal electricity tariffs. Notified maximum demand and related penalties. Reconciliation of municipal debt to ESKOM. The historical debt owed to and by municipalities. The unsustainability of current payment agreements signed by ESKOM and municipalities.

Attempts to address Some Systemic Issues raised by SALGA The following matters were approved by the Eskom Board, for implementation from 1 July 2017: Reducing the interest rate charged on overdue municipal bulk accounts from prime plus 5% to prime plus 2.5%; Payment terms being extended from 15 days to 30 days for municipal bulk accounts; Payments received from municipalities being allocated to capital first then interest; The rationalisation of municipal tariffs from eleven to three has been approved by the ESKOM Board and will be submitted to NERSA as part of the tariff approval process. UPDATE Eskom concessions were subject to Municipalities honoring the payment agreements and current accounts. Municipalities immediately defaulted after Eskom concessions came into effect on 01 July 2017 for obvious reasons

Systemic Issues: Notified Maximum Demand(NMD) Municipalities are required to determine a municipal specific Notified Maximum Demand (NMD). If the NMD is exceeded, a penalty is charged against the municipality by Eskom. Where municipalities exceed their NMD more than once in a given month, a penalty is levied over the next 12 months; municipalities are required to pay the full arrears account in order to increase the NMD. In cases where a municipality is unable to pay their full arrear amount, it continue to exceed NMD and pay penalties. UPDATE: SALGA and its members convinced NERSA to review the method of calculating the NMD penalties. Due to the SALGA submission, NERSA is also reviewing the NMD rules to address this matter. These reviews were expected to be complete by the end of the 2017/18 financial year. No feedback yet

Systemic Issues: Reconciliation of Municipal Debt to Eskom No reconciliation of amounts due to ESKOM by municipalities has been undertaken. Prescription of older debt has not been considered by Eskom. Identify irrecoverable debt and apply prescription, even older debt still accumulating interest Where interest forms a larger part of the outstanding amount, the principle of quantum duplum (interest charged may not exceed the capital amount due) should apply. UPDATE NT is assisting municipalities with the consolidation of all amounts due to ESKOM to determine the capital and interest due respectively. National Treasury adjusted the S41 reporting template for Eskom to breakdown the capital amount and the interest component. This change assists in determining the amount legally recoverable by ESKOM, taking into account prescription and the principle of quantum duplum.

Systematic Issues: Historical Debt Owed to Municipalities The National Treasury was requested to do a full diagnostic of the 60 highest owing municipalities in order to determine affordable repayment arrangements for each municipality, and that affordable and sustainable agreements are entered into between the municipalities and ESKOM. UPDATE National Treasury has completed the analysis of the 60 highest owing municipalities for affordability and financial sustainability assessments. The assessment results have been shared with the IMTT and Eskom to facilitate more informed payment agreements. The assessment results form the basis of Provincial engagements with the affected municipalities which the Minister for COGTA is leading to facilitate ownership by Premiers to drive the rehabilitation programme at that level. The Minister’s engagements with Premiers underway.

Conclusion Most of the issues are standing agenda items in the IMTT /IMC process SALGA NEC made decision to explore declaratory order on constitutional mandate of electricity reticulation SALGA requests fast tracked IGR resolution on the municipal challenges Government must focus on supporting the municipalities that are financially unviable according to the NT study Impress upon and monitor Municipalities that can pay to continue to do so The court judgement to get municipal customers to pay directly to Eskom is going to worsen the situation, its in favour of one party in a bigger problem Case studies on supply areas and supply points (Eskom vs Ekurhuleni) Municipalities ( over 100 munics, R13,3bn owed) v/s Soweto (1 township, over R8bn owed) both should be treated equally Eskom pursuit of tying municipalities into interests not aimed to serve municipalities National Provincial Departments must support local governme in accordance to S.156 of the constitution.

SOME INTERVENTIONS UNDERWAY OR PROPOSED

Interventions (1) Constitutional Issue IMTT concluded that the matter cannot be resolved unless it goes for declaratory order Aug 2017, PCC did not agree for the matter to be taken to court IMC appointed an Advisory Panel to look at the matter and make recommendations to the IMC On 16 April 2018, first sitting of the Advisory Panel where it was briefed by SALGA and Eskom on the constitutional Matter Parallel to this: SALGA NEC made a resolution for declaratory order Preparations underway in SALGA

Interventions (2) Skills Resuscitate the SALGA/ Eskom MoU and utilize the Eskom Training College to train municipal officials Leverage on Eskom apprentices that are being offloaded and place them in the struggling munics. (issue is their salaries) SETA’s and MISA must come in and assist in training of municipal officials and new engineers Revenue Management Resuscitate the SALGA/Eskom MoU for capacitation of Revenue Management staff in municipalities Explore workable revenue management initiatives in these munics, not the Eskom original revenue management proposal that works to the advantage of Eskom only Proposal for revenue management infrastructure special grants

Interventions (3) Cash flow Management Ensure appointment of CFOs in these munics, most are acting Capacitation also needed and can leverage in available training through the Eskom/SALGA MoU Revive the adopt a municipality initiative SALGA submitted proposals to NERSA to review NMD Rules Eskom concessions on upfront payments in increasing NMD Eskom agreed to suspend interest for the munics who pay they current accounts Eskom concessions on Eskom vs Municipality Payment periods Eskom concessions to reduce interest on overdue amount to prime plus 2.5%

Interventions (4) Funding Continue to engage with NT on review of ES Formula through the SALGA proposals Impress upon NT to review the funding model of munics with the current realities in the economy which leave munics with customers who can’t pay Tariffs Eskom concessions, restructuring of Eskom bulk tariffs from 11 to 3 tariff structures NERSA to assist municipalities in implementing their Cost of Service studies towards cost reflective tariffs Training workshops to be done with the assistance of Metros and Eskom on Cost reflective tariffs including addressing the issue of Eskom seasonal tariffs

Interventions (5) Some of the SALGA Energy Summit Outcomes if executed may address some of the issues Urgently address constitutional issues Address Funding models Restructure the electricity Industry Introduce new New Business Models Engage on Cost of Services Consolidation of Electricity Services in some provinces etc.

Thank you