Eskom's capital spending programme over the next two decades, which could cost an estimated R250bn, is by far the largest expansion undertaken by any company in SA's history.
The enormity of the task facing Eskom in the decades ahead is best illustrated by the following: it has to spend about R100 000 every working minute and place five large orders every day over the next few years.
At least two skilled staff have to be employed every day, with one being a woman engineer, as Eskom's recruitment plans call for 1 000 extra staff each year until 2010.
Such a vast expansion programme comes with enormous complexities and challenges, but it simply has to succeed; without Eskom's contribution, government's chances of setting the country on a 6% economic growth path are significantly reduced.
"Our role in the economy is central," says Eskom CE Thulani Gcabashe. "We have to supply reliable, abundant and cost-effective electricity to those organisations that have and will be investing in the SA economy.
" The present economic upswing is not a flash in the pan; it is steady and sustainable growth and Eskom has to power it," Gcabashe says.
The enormous amounts involved leave little room for error - many of the power plants require lead times of up to a decade and investment decisions made now cannot be reversed.
The expansion programme will require a huge financing effort by Eskom, which has to be balanced with its mandate to keep electricity prices among the cheapest in the world.
Underlying the equation is the economic growth rate Eskom expects in SA over the next few years.
It is thus developing its strategy around forecasts of 4% economic growth per annum over the next few years, which it expects will be accompanied by growth in electricity demand of 3%-4%/year ; this translates into additional 1 200 MW of capacity every year to add to its current supply capacity of about 42 000 MW.
Should government succeed in its drive to boost growth to 6% this would translate into electricity demand of more than 4% and Eskom would adjust its capacity requirements accordingly.
Either way, the investments required by Eskom over the next two decades of significant economic growth are substantial and will exceed R200bn.
Adding 1 MW of power costs about US$1,1m. Over the next five years, until 2011, Eskom will spend R84bn to add 5 000 MW of generation capacity and improve the power transmission and distribution networks .
Beyond the five-year plan, the numbers have not yet been finalised or approved by the board. But using variables such as the economic growth rate, environmental considerations and the type of power stations being developed analysts are coming up with fairly accurate estimates.
Eskom's capacity outlook framework for 2005- 2024 (see graph, page 4) expects demand for electricity at peak hours of about 50 000 MW. Given that the utility requires about 12% of reserve margin, it is looking at installed capacity of almost 56 000 MW.
Based on these growth determinants the bill could come to about R250bn until 2024.
Eskom's proposed 2 100 MW coal-fired power station, which should be given the final green light this year and be up and running by 2010, will cost about R27bn alone.
But costs are escalating. O'Connor points out that the Hendrina plant, which has a similar capacity to the new plant, cost a mere R200m in the 1970s.
And then there is the higher cost as a result of Eskom's need to diversify its primary energy base away from coal to using gas, nuclear, hydro and other renewable energy sources.
At present coal accounts for more than 90% of the primary energy used by Eskom. The utility wants to reduce the ratio by 10% by 2012.
But this comes at a price. Coal is abundant in SA and, though the price has risen of late, it is still the cheapest raw material available to Eskom. The capital costs of a nuclear plant are higher than coal, though the lifecycle costs, at R7m/MW, are competitive. "When we consider gas, the costs increase by a third," says Eskom generation MD Ehud Matya.
Given these policy variables, planning the expansion becomes complex. The R84bn in capital spending until 2011 has been mapped out in detail (see table, page 6) and the orders are starting to flow. In November last year the executive committee approved about R30bn in spending and just short of that in procurement, finance director Bongani Nqwababa says.
So far its spending has been limited to ensuring that capacity at peak usage times keeps up with the ever-increasing demand by consumers. This is being achieved by bringing three mothballed power stations - Camden, Grootvlei and Komati - back into action over the next five years at a cost of R12bn. The first power from Camden was supplied in June last year. Once fully up and running - by 2011 - the three stations should provide 3 600 MW of capacity.
In addition, two new open-cycle gas turbine stations (OCGT) have been approved and will be completed in 2007 at a cost of R3,5bn. The two plants, in Atlantis, north of Cape Town, and in Mossel Bay, will add a combined 1 050 MW of peak capacity .
In line with government's policy of introducing competition into the electricity industry - 30% of new power generation should be provided by utilities other than Eskom - a further two OCGT plants are being developed by independent power producers.
Besides the five-year plan Eskom is looking at adding significant capacity to its base load through a range of projects and by buying in power from other Southern African Development Community (SADC) countries (see page 8).
This year Eskom hopes to start development of a R27bn, 2 100 MW coal power plant - the location still has to be decided - and the R8bn, 1 330 MW Braamhoek pumped storage facility in the Drakensberg on the border between the Free State and KwaZulu Natal.
An upgrade of its existing fleet of 21 power stations, most of which were built in the 1960s and 1970s and are reaching their midlife stage, is also ongoing. Matya says the operating costs for the power stations amount to R5,5bn/year and cost increases are expected to be in double digits over the next few years. "But these investments are crucial as the existing power stations provide efficient and cheap electricity and maintenance costs are still well below the cost of building new plants," he says.
The huge growth programme means Eskom must raise billions in external funding on both local and international capital markets.
Nqwababa stresses that Eskom would over the next three years start relying more on debt funding as the level of capital spending exceeded R12bn- R14bn in cashflows generated annually.
The most likely outcome, he says, is a R45bn funding programme, starting with just more than R10bn in prefunding this financial year and building up to R13bn in 2010/2011. Of the R45bn that will be sought on capital markets, the first R25bn-R30bn will be from local markets, where the funding is cheapest, and the remainder offshore.
The funding plan will result in Eskom averaging R4bn/year in debt repayments over the next 15 years and push its debt:equity ratio from its current low of 0,2 to just over 2:1, "which is sustainable", says Nqwababa (see page 11).
However, the utility is also modelling its expansion on real electricity price increases to help boost its cash resources. Over the past few years Eskom has had its proposed tariff hikes cut below inflation by its regulator, the National Energy Regulator of SA (Nersa) .
And though Eskom is committed to remaining one of world's cheapest power providers, the expansion programme will require annual tariff increases that are above the inflation rate, says Gcabashe. In this it has received backing from its shareholder ministry, the department of public enterprises (DPE).
However, late last year Nersa awarded preliminary tariff increases for the next three years that are barely ahead of the inflation rate. Eskom welcomed the above-inflation rate increases, but is pushing for more before the final tariff announcement is made in mid-February.
"We will have to live with the tariffs awarded by Nersa, but what is on the table is not what we had in mind," says Gcabashe. "If we don't get higher tariffs, we will have to load our balance sheet with debt, but this is a short-term approach. Higher tariff rises now will avoid a sharp surge later on."
The preliminary tariffs announced by Nersa would, as a first consequence, raise Eskom's five-year funding plan from R45bn to close to R55bn.
Gcabashe says there are a number of mechanisms available to Eskom should the final award be far from what the company is looking for. "We could appeal and have the option to call on government for assistance, for example, by reducing our dividend ," he says.
The utility is widely regarded as running an efficient ship and has over the past few years reduced its head count significantly.
"We are now structured efficiently and can build on that platform to meet the challenges that lie ahead," Gcabashe insists.
The utility has also achieved clarity from government on its future structure - privatisation of its power-generation assets is no longer a threat and Eskom has been given a clear mandate to be the predominant supplier of power to the country.
It has a new, tighter business model that has pulled Eskom Enterprises under Eskom Holdings as a division. Previously Eskom Enterprises was a subsidiary looking after the group's unregulated and non-SA businesses.
There will be some restructuring - a number of noncore assets will be sold this year - but "the core operations and divisions that provide essential services to Eskom will remain ", says O'Connor.
The distribution arm of the business, however, will be reorganised in line with government's plans for the electricity distribution industry. Eskom's distribution assets that fall within the six main metropolitan areas will be allocated to new distribution companies. However, the utility will run the so-called national distributor, which looks after power distribution and the electrification plan in nonmetro areas (see page 12).
With the focus on local growth, Eskom has also cut back on plans for projects outside Southern Africa. "Our priority is clearly in SA and the SADC region, where we will be working with governments and their utilities to improve electricity generation and transmission. But our direct involvement in the rest of the continent has been scaled back ," says Gcabashe.
The restructuring programme was first planned as long ago as 1996 but the implementation only started in earnest in 2004.
"The current expansion should have started earlier, but we never stopped planning and it is now a matter of accelerating these plans," says Gcabashe.
As a result of the delays, the present implementation of the expansion plan has coincided with the beginning of the strong economic growth phase. It is still in time to meet the growth in demand, maintains Gcabashe, but the timing has imposed other restrictions, notably in the area of skills.
Eskom is competing with other parastatals, government and the private sector for scarce engineering and other technical skills, which will inevitably push up the costs of the programme.
More so than most companies and organisations though, it has maintained a core of strong engineering and technical skills and has, over the past decade, been a leader in training and attracting black professionals.
The challenges for Eskom are enormous. But the group is in a strong financial and operational state and has the backing of government. This bodes well as it enters the most challenging era in its history.
