Distribution Licensee

Transcription

1 Distribution Licensee Multi-Year Price Determination (MYPD 4) FY2019/ /22 September 2018

2 Contents Contents 1 Executive Summary Sales volumes Maintenance Employee benefit costs Impairment costs Other costs Distribution Licensee context Customers served Customers experience Tariffs Revenue management Sales growth initiatives Electrical supply networks Safety and performance metrics Integrated demand management (IDM) Sales Volumes Sales volume forecasting context Sales volume forecasting assumptions Gross domestic product (GDP) Commodity prices Price elasticity Furnace load reduction in winter Energy efficiency demand side management (EEDSM) Weather conditions New customer projects (loads) Co-generation (Co-gen) projects Sales forecasting approach Sales forecasting process Forecasted sales volumes by customer category Uncertainty of the sales volume forecast Distribution Network Losses and Loss Factors Distribution losses Energy losses management and protection Independent Power Producers impact on energy losses Projected distribution network losses Distribution losses methodology Non-technical energy losses Regulatory Asset Base (RAB) Depreciation Capital Expenditure (CAPEX) Distribution networks investment drivers Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 2 of 86

3 Contents 7.2 CAPEX expenditure per category Direct customer connections Network Strengthening Refurbishment Independent power producers (IPPs) and small scale embedded generators (SSEG) Asset purchases Electrification Operating technology (OT) requirements Operating Costs (OPEX) Employee benefits Network and customer growth Sustaining network performance and operations Electrification growth Employee safety in operations Development and training of employees for operations Customer operations Remuneration of employees Maintenance Planned (preventative) maintenance Unplanned (corrective) maintenance: Other expenses Insurance cost Security cost Information technology costs Fleet and Travel cost Facility cost Tele communications Vending commission Customer billing and meter reading expenses Reconfiguration of prepayment meters - key revision number (KRN) project Channel optimization Other income Gross Impairments Debtors Debt write-offs Gross Impairments Municipal impairments Soweto impairments Top customers impairments Mitigation of increases in impairment costs Revenue Recovery Tariff increase context Indicative annual Standard tariff increases Use of the ERTSA methodology to determine the indicative increases Indicative increases by Standard tariff categories Environmental levy recovery Integrated Demand Management (IDM) EEDSM Programme: Measurement and Verification (M and V) Marketing Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 3 of 86

4 Contents 11.4 IDM solutions development Demand Response National Advisory Services Other strategic interventions Annexures Annexure 1: Commodity Price Assumptions Annexure 2: Per sector forecasted sales analysis Overview Decline in Sales a) Industrial Sector b) Mining Sector Annexure 3: Reconfiguration of prepayment meters Annexure 4: Tariff developments Updating the tariff cost-to-serve study Changes to the Time-of-use (TOU) rates Annexure 5: Product development initiatives New products and solutions in piloting Incentivised incremental sales Unlocking new connections Expert advice services Future market development Technical and cost calculations for sales growth and demand savings Sales growth benefit analysis / economic value-add Demand savings List of Tables Table 1: Distribution license Allowable Revenue (AR) for the MYPD4 period... 6 Table 2: Number of Eskom Customers Table 3: Payment levels Table 4: Debt indicators Table 5: Forecasted sales volumes Table 6: Gross domestic product (GDP) forecasts Table 7: Commodity prices (Macquarie Research 16 June2017) Table 8: Forecasted sales volumes by sector Table 9: Possible decrease in energy forecast Table 10: Possible increase in energy forecast Table 11: Distribution Energy loss projections table to be correctily labelled, add one more year, replace target with projections Table 12: Regulatory asset base Table 13: Return on assets Table 14: Depreciation Table 15: CAPEX expenditure requirements Table 16: Distribution license operating (OPEX) costs Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 4 of 86

5 Contents Table 17: Headcount Table 18: Employee benefits Table 19: Summary of maintenance requirements Table 20: Summary of other costs Table 21: Other income Table 22: Summary of overdue debt Table 23: Gross Impairment Table 24: MYPD4 revenue recovery through Standard tariffs and NPAs numbers are finalised Table 25: Indicative annual Standard tariff increases Table 26: Standard tariff category increases Table 27: IDM costs during the MYPD List of Figures Figure 1: Representation of the Distribution Licensee organisation... 9 Figure 2: Overview of the Distribution Licensee aims during MYPD Figure 3: 2017/18 Number of customers and contribution to total sales Figure 4: Demand stimulation framework Figure 5: Sales forecasting Process Figure 6: Historical Network Performance Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 5 of 86

6 Executive Summary 1 Executive Summary This application is the fourth Multi-year price determination (MYPD4) revenue application for the Distribution License of Eskom Holdings Ltd (herein after referred to as the Licensee) and is to be read in conjunction with the submissions of the other Eskom licensees. The Licensee application supports the Eskom mission to provide sustainable electricity solutions to promote economic growth and social prosperity for South Africans. This is achieved through operating the distribution network to supply electricity to all customers as specified within the Distribution licence. This supports the right of entry to third parties such as Independent Power Producers (IPPs) to the Distribution network for the distribution of power. The Licensee application for the MYPD4 control period is prepared as per the prescribed MYPD methodology. NERSA is requested to consider and approve the Licensee revenue requirements for MYPD4 control period for the Eskom financial years 2019/20 R29 188m, 2020/21 R32 135m, 2021/22 R36 238m refer to in the table below. TABLE 1: DISTRIBUTION LICENSE ALLOWABLE REVENUE (AR) FOR THE MYPD4 PERIOD Allowable Revenue (R'millions) AR Formula Application Application Application Forecast Forecast 2019/ / / / /24 Regulated Asset Base (RAB) RAB WACC % ROA X -1.32% -0.21% 1.45% 1.76% 2.46% Returns Expenditure E Primary energy PE + IPPs (local) PE + International purchases PE + Depreciation D IDM I Research & Development R&D + Levies & Taxes L&T + RCA RCA + Subtotal R'm Not claimed in Application Corporate Social Investment (CSI) Total Allowable Revenue The Licensee will respond to a changing market conditions by: Stimulating local demand by engaging customers to maintain and grow existing sales. Grow the market by attracting new customers and incentivise large customers to invest in the country. Developing industry specific solutions for various sectors Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 6 of 86

7 Executive Summary The Licensee intends to manage all cost optimally by limiting year on year growth to within inflation. This is planned to be achieved through: Prioritising capital investments to build assets that support network performance in order to deliver reliable network performance Adequate maintenance spend in support of regulatory compliance Ensure accurate and timeous billing of customers for sustainable revenue streams. Optimise manpower cost while maintaining the critical and scare skills required for operations Improved productivity levels of a reduced work force The salient factors that underpin the requested Distribution licensee revenue requirement are sales volumes, returns, maintenance, employment benefit cost, impairment cost and other cost. 1.1 Sales volumes The forecasted sales volumes context is one that requires response to a rapidly changing market with challenged macro-economic conditions. The entry of competitive electricity supply alternatives continues to expand customer choice and technology driving change in electricity consumption patterns. It is anticipated that sales will grow by 1.31% year-on-year in 2019/20 and remain around this level for the remainder MYPD4 control period. The projected sales volumes compounded average growth rate (CAGR) is 0.66% for the MYPD4 period while the average annual growth rate (AAGR) over the MYPD4 period is 0.54%. The response to the anticipated flat sales growth rate is through the initiatives to grow sales involving the development and piloting of short-term incentives for additional sales. At the same time, the pursuit of special pricing agreements with the NERSA approval has provided support to large industrial customers in distress. The additional sales from the said initiatives are however not incorporated in the forecasted sales due to the limited piloting and implementation time-frame at the time of submitting this MYPD4 application. 1.2 Maintenance The requested maintenance cost focus is on preventive and unplanned maintenance to minimise plant outage. Maintenance is executed according to maintenance cycle as per the defined asset management practice and Eskom procedures. These maintenance activities will enable network availability and Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 7 of 86

8 Executive Summary statutory compliance. The focus is on effectively performing preventative maintenance thereby minimising plant outages. 1.3 Employee benefit costs The employees are engaged in servicing the customer, operating and maintaining the electrical network and associated infra-structure thereby ensuring compliance to the license conditions whilst providing sustainable supply of electricity to all South Africans. 1.4 Impairment costs While the licensee records good payment from large industrial, commercial customers and major metropolitans, however there are areas of major concern regarding residential and municipal debt. Municipal overdue debt has increased significantly in the past few years and remains a concern. In this application Eskom has limited the impairment to 1% of Revenue despite the fact that our current actuals are closer to 3%. The 1% impairment implies a payment level of 99% of all billed Revenue including interest. The 1% impairment will cater for credit losses incurred as a result of liquidated business; deceased customers; as well as non-payment by problematic customer groups. 1.5 Other costs Other operating expenses are essential for the Licensee s operations; these costs are contained to within the CPI inflation parameters. The reconfiguration of prepayment meters with the requirements of the standard transfer specifications (STS) by 20/11/2024 is a key priority to ensure service continuity to all prepayment customers. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 8 of 86

9 Distribution Licensee context 2 Distribution Licensee context The Distribution Licensee, Eskom Holdings (Pty) Ltd., operates the network, distributes and supplies electricity to all customers as specified in the Distribution License granted by the National Energy Regulator of South Africa (NERSA). The Licensee conducts activities through the two Eskom groups namely Group Customer Services (GCS) and Distribution Group as shown in the Figure below; FIGURE 1: REPRESENTATION OF THE DISTRIBUTION LICENSEE ORGANISATION The mandates of the Group Customer Services and Distribution Group as approved by the Eskom Board are articulated as follows: The Group Customer Services mandate is to put the customer at the centre of our business and guide Eskom towards the overall objective of delighting our customers who consistently rate us in the top quartile and promote Eskom as a company. The Distribution mandate is To Operate the asset and provide reliable electricity by building, operating and maintaining distribution assets, while also acting in the national interest by actively partnering with the wider industry in resolving distribution industry issues and enhancing stakeholder relations. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 9 of 86

10 Distribution Licensee context The Licensee receives operational support from Finance, Human Resource, Property and Information Management (refer to corporate application for further details) to enable the Distribution licensee deliver an efficient service. Key to delivering sustainable electricity solution to the customer the business will embark on the following strategies: Increase sales growth through faster customer connections Reduce energy losses Improve network performance Improved customer satisfaction FIGURE 2: OVERVIEW OF THE DISTRIBUTION LICENSEE AIMS DURING MYPD4 2.1 Customers served The Licensee in the fulfilment of its mandate serves the 6.2m customers and the focus is on sales growth (sell), revenue collection (collect) and delighting customers (delight). In the past 6 years, additional 1.02m new customers were added to the network. The key driver for customer number growth is in the residential segment due to the electrification program set to achieve universal access. Once these customers are connected they form a part of the Eskom customer base to be served. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 10 of 86

11 Distribution Licensee context TABLE 2: NUMBER OF ESKOM CUSTOMERS Customer Category Actuals 2013/14 Actuals 2014/15 Actuals 2015/16 Actuals 2016/17 Actuals 2017/18 Growth to date Redistributors Residential* Commercial Industrial Mining Agriculture Rail Local customers % growth from 2013/ % *The number of Customers on prepaid and public lighting is included in the Residential category At the end of the 2017/18 financial year Municipalities, industrial and mining customers accounted for 84% of the total sales volumes. Residential customers supplied by Eskom make up 98% of all Eskom customers and contribute 6% of the local sales; see Error! eference source not found.. FIGURE 3: 2017/18 NUMBER OF CUSTOMERS AND CONTRIBUTION TO TOTAL SALES *Number of customers is the number of active service agreements Note: The residential* total includes pre-payment and public lighting 2.2 Customers experience Eskom strives to continuously deliver quality service that improves the overall customer experience. To ensure good service, customers are served through various channel touch points such as the customer service hubs, contact centres across the country and through an online presence. Customers are served in 7 official languages including Zulu, Xhosa, English, Sotho, Venda and Tsonga. There are 110 customer service hubs spread across the country with 7 contact Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 11 of 86

12 Distribution Licensee context centres which operate 24 hours a days, 7 days a week and 365 days a year. There are dedicated key Eskom account managers that act as one-stop shop for the top customers. To measure the quality of service provision various customer service indicators are used to track satisfaction levels by customer segment. The Eskom KeyCare measures the satisfaction of large industrial customers on a range of services from Eskom. The enhanced MaxiCare evaluates the satisfaction levels of residential, small and medium-sized customers based on their perception of services received. The Customer Care assesses the satisfaction levels of customers based on an actual transaction and recent experience in the primary channels such as contact centers and customer service hubs. 2.3 Tariffs Eskom sales revenues are recovered through the Distribution Licensee. Eskom electricity sales are charged on Standard tariffs, local and international negotiated pricing agreements (NPAs) and international utility tariffs. Standard tariffs provide pricing options to meet customers electricity consumption patterns and service needs. There are different Standard tariffs based on supply size, complexity, geographic location, municipal and non-municipal supplies as well as generator tariffs. There are 3 main Standard tariff categories that are the same for municipal and non-municipal customers, that is, Urban large and industrial, Rural and Residential. Standard tariffs provided for inter-tariff subsidies to rural and residential tariffs to support customer affordability. The Tariff structures objectives are as follows: Improved cost-reflective tariff structures (within the allowed revenue) i.e. fixed versus variable charges are representative of the cost structure. Partner for mutual benefit with our customers for sharing of volume risk. Ensure reasonable compensation for the use of networks by generators and loads. Incentivize customers to stay connected to the grid. Increase sales and ensure adequate recovery of costs Enable better management of demand and supply. In order to pursue these tariff objectives, Eskom will submit the Retail Tariff plan (RTP) to NERSA for approval during the MYPD4 control period prior to implementation. This revenue application does not deal with any potential Eskom tariff changes, including the proposed rationalization of municipal tariff currently with NERSA for a decision. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 12 of 86

13 Distribution Licensee context For more detailed information on the Tariff developments to be included in the RTP, refer to Annexure 4: Tariff initiatives 2.4 Revenue management Revenue management is responsible for the collection of revenues. At present, the collection rate for Eskom revenues is 96%. The payment rate from South Africa s Metro s and Large power users remains consistently at 100%. For the rest of the municipalities, payments have deteriorated in the recent past to 86% and Soweto payments continue at below 10% payment. Eskom measures revenue collection using arrear debt as a percentage of revenue and average debtor days by segment. During the MYPD4 Eskom seeks to significantly improve on the debtor days for Municipalities and other small power users to achieve by 2021/22 that is, an average 62.81days from the days projected for 2018/19 that is a 20% improvement. TABLE 3: PAYMENT LEVELS Payment level % Actuals Actuals Actuals Actuals 2014/ / / /18 Top Customers 100% 99% 100% 100% Large power users (LPU) 101% 100% 100% 100% Small power users (SPU) 100% 99% 99% 98% Soweto 7% 6% 5% 4% Municipalities total 97% 99% 96% 95% Metros 100% 100% 100% 100% Rest of Municipalities 91% 96% 89% 86% Total 98% 98% 97% 96% TABLE 4: DEBT INDICATORS Debt Indicators Actuals 2015/16 Actuals 2016/17 Actuals 2017/18 Targets 2017/18 Targets 2018/19 Targets 2022/23 Arrear debt as % revenue Average debtor days Municipalities Large urban industrial and mining Other large power users Small power users excluding Soweto Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 13 of 86

14 Distribution Licensee context 2.5 Sales growth initiatives Eskom will continue to grow sales by stimulating demand for local and export sales. The growth strategy will be achieved by, Retaining sales, growing sales and revenues by responding to customer needs, speeding up connections and collections, whilst consistently delighting customers. Eskom has developed a demand stimulation framework with 4 key elements that are sustaining and growing demand, expediting projects, attracting new customers and implementing innovative products. FIGURE 4: DEMAND STIMULATION FRAMEWORK. Eskom has evaluated customers in distress and pursued relief including consultation on enabling regulations with key stakeholders. In 2016, Department of Energy (DoE) approved an interim short-term negotiated pricing agreement (NPA) framework specifically applicable for two customers in distress. To date there is an increased focus on expediting connection projects. Research and information from individual customer engagements highlighted the need for more flexible and incentivized electricity pricing and product offerings. Product development has consequently anchored itself along 4 areas that are incentivizing incremental sales, unlocking new connections, expert advice to facilitate additional use of electricity and solutions development for new markets and technologies to sustain and increase future sales. For more details on the product development refer to Annexure. Inter-alia, tariff Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 14 of 86

15 Distribution Licensee context development includes time-of-use tariff changes and development of customized tariffs for Energy intensive users. To fully benefit from the demand stimulation framework, establishing a country platform with the involvement of all key role players to sustain local industrial and mining operations and all sectors of the economy is required. With an integrated and focused country approach there is the opportunity to encourage local investment from new and existing customers making the most of the South African growth potential in the medium to longer term. In support of the sales growth initiatives, the Department of Energy (DoE) on 22 June 2018 enacted the Short-term framework for Negotiated Pricing Agreements (NPAs) provision in the Electricity Pricing Policy (EPP). This is a transparent NPA application and approval process setting out the criteria against which the NERSA evaluates, approves and monitors NPAs whilst in consultation with key stakeholders including the National Treasury (NT). The NPA framework will facilitate the provision of incentivized pricing. This will enable qualifying customers to sustain or increase their use of electrical energy supporting increased economic activity. Eskom will assess new NPA applications using this short-term NPA framework and submit applications to NERSA for approval before implementation. This NPA framework also enables Eskom to introduce customized tariffs for large customers based on their consumption profiles, value to electricity supply and to the South African economy. 2.6 Electrical supply networks To meet customer needs the Licensee builds, operates and maintains the Eskom medium and low-voltage electricity supply networks (distribution and reticulation networks). This is to ensure reliable, secure and environmentally sustainable supply of electricity which meets customer expectations, supports government s universal access agenda and the Eskom growth strategy. Geographically, the distribution network spans a landscape of approximately km of distribution lines, km of reticulation lines, and more than km of underground cables in South Africa, this represents the largest power-line system in Africa. The Distribution Group operates out of 9 provincial operating units that are divided into 27 operating zones that manage 306 Customer Network Centres (CNCs). The Licensee aspirations for the immediate and near future are: Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 15 of 86

16 Distribution Licensee context Operate a sustainable Distribution network that delivers on client expectations Distribution will aim to build and maintain its ageing network by maintaining the current network performance levels and limiting energy losses. This is sustained through disciplined execution. Migrate towards compliance to the regulatory framework governing for network performance The business continues to manage its regulatory obligations whilst balancing investment choices with customer s needs. Zero Harm to employees, Contractors & Environment The Distribution Group aims to make significant step changes through Zero Harm initiatives coupled with supplier and public education programs, to improve safety performance. Create an agile and innovative workforce Further improve employee productivity by reviewing the efficiency and effectiveness of Eskom s business model, and ensuring a motivated workforce. Emphasis will be placed on retaining core skills together with the management of skills and talent. Proactively partner towards a sustainable distribution industry Actively partner with stakeholders to evolve the wider Electricity distribution industry in South Africa. This is to ensure provision of accessible and sustainable electricity services. Electrification Electrification remains a priority with thousands of households to be connected during the next 3 years and plans to expedite government s Universal access program (UAP). Eskom acts on behalf of the government in executing the electrification program that is fully funded from the DOE. Demand stimulation Distribution plans to invest sufficiently to capacitate networks so as to respond to the Eskom sales growth strategy to the extent feasible. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 16 of 86

17 Distribution Licensee context Distribution s current network performance in the past few years has improved and stabilised in terms of the duration and frequency of customer interruptions. In order to sustain the current network performance, Distribution Group aims to prudently invest capital and maintain the plant maintenance regime. 2.7 Safety and performance metrics The sustainability of the Licensee is dependent on its ability to create, develop and maintain a reliable and flexible network to meet customer demand. It needs to address the requirements of new customers, strengthen network capacity, refurbishment existing plant and thus improve the customer experience. The distribution technical quality of supply and related services are measured by technical indicators. The key technical measures are System Average Interruption Duration Index (SAIDI); System average interruption frequency index (SAIFI). These measure the customer experience in terms of the average duration and frequency of interruptions. The Licensee prioritises safety practices and continue to comply with occupational health and safety requirements and has made strides in reducing the lost time incident rate (LTIR). The Licensee will continue in its pursuit of obtaining ZERO HARM through targeted initiatives to educate and move both the public and its employees towards an independent safety culture. On-going supplier education programmes are in place across the country to increase public awareness 2.8 Integrated demand management (IDM) In terms of Section 14 of the MYPD methodology, Eskom is required to implement integrated demand management (IDM). The IDM role in Eskom is a vital mechanism to manage the electricity supply and demand balance using a multi-pronged energy management approach. In this MYPD4 application, the IDM allowable costs are included in the Distribution Licensee. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 17 of 86

18 Sales Volumes 3 Sales Volumes For the MYPD4 revenue application, one of the key assumptions is the latest available forecasted sales volumes. In accordance with the NERSA MYPD methodology, a revision of the forecasted sales volume to reflect the prevailing situation prior to NERSA making its decision can be considered by NERSA. Eskom is presently in the process of undertaking a review of the sales forecast. The outcome will be shared with NERSA before it makes the MYPD 4 decision with the latest updates. Eskom has experienced sales forecasting to be very dynamic and every effort will be made to provide the latest sales projections. The provided forecasted sales volumes are for the financial years 2019/20 through to 2021/22 for all customer categories that are on Standard tariffs, Local Negotiated Pricing Agreements (NPA) and International sales (exports). The Eskom own use sales volumes are shown separately. During the MYPD4 period, the forecasted sales volume growth will be 1.3% including the leap year and 1% excluding the leap year. In this sales volume forecast, the increase in sales will be primarily from Exports and Standard tariffs. Eskom s projected compounded average growth rate (CAGR) is 0.66% for the MYPD4 period while the average annual growth rate (AAGR) over the MYPD4 period is 0.54%. TABLE 5: FORECASTED SALES VOLUMES Sales (GWh) Actuals Actuals Actuals Actuals Actuals Projection Application Application Application Forecast Forecast 2013/ / / / / / / / / / /24 Standard tariffs % Change 0.3% -1.6% -1.2% -1.1% 0.2% 0.8% 0.3% 0.8% 0.6% 0.7% NPA % Change -11.9% -2.1% 0.7% -0.4% 0.5% 0.3% -0.3% 0.0% 0.0% 0.3% Local sales % Change -0.4% -1.7% -1.1% -1.1% 0.2% 0.8% 0.3% 0.7% 0.6% 0.7% International (SAE) % Change -3.8% 12.3% 12.2% 1.1% -1.8% 8.4% 0.5% 3.8% -6.2% 1.1% Total Eskom sales % Change 0-0.6% -0.9% -0.3% -0.9% 0.0% 1.3% 0.3% 1.0% 0.1% 0.7% Eskom s sales growth has generally trended negatively over the past three years, with the outlook remaining relatively neutral in the years ahead. Since 2006 sales have declined by about 0.5% per year on average. The decline was highest in large power users due to a wide range of factors, including low economic growth, commodity market volatility particularly in gold, platinum and ferrochrome. Increasing electricity costs have had an impact on the ability of our customers to maintain their electricity consumption or to grow their demand. With a few commodities experiencing improved prices over the last year, Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 18 of 86

19 Sales Volumes opportunities still exist to collaborate with the mining sector to capitalise on the current global commodity upturn. Electricity sales growth could therefore be flat over the next few years. Eskom s aim is to grow sales over the medium term supported by innovative products, solutions and tariffs in collaboration with customers to address their needs and aspirations. 3.1 Sales volume forecasting context The forecasted sales volumes are the projected sales volumes to be measured at the electricity supply meter in kilowatt-hours. The forecasted sales volumes are different from the network demand forecast and the generation production forecast but these different forecasts are interdependent in planning customer electricity supply. The network demand forecast is a projection of the available network capacity (size of pipe) to supply and connect existing and future customers including non-eskom generation. The installed capacity does not project how much electricity each connected customer / generator will require but avails the projection of the capacity available for electricity supply. The generation production forecast projects the generation capacity (peak and sent out) available to meet the customer electricity requirements and to cater for a sufficient reserve margin as well as incorporating Independent Power Producers (IPPs) generation. 3.2 Sales volume forecasting assumptions The sales volume forecast is based on various assumptions reflecting the different types of customers electricity needs and influences on diverse customers consumption profiles. There are some similar assumptions used for all customers but with varying impacts. Key assumptions include Gross domestic product (GDP) growth, commodity market performance and prices, demand response savings, weather conditions, customer projects, industrial action and impact of the leap year Gross domestic product (GDP) GDP growth and Eskom s sales growth have generally trended negatively over the past three years, with the outlook remaining relatively neutral in the years ahead. The percentage GDP growth used in the this sales volume forecast was derived by calculating the average of Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 19 of 86

20 Sales Volumes 4 different GDP growth sources that are the IMF forecast, the World Bank forecast, Investec forecast and Eskom treasury forecast; see Table 6. TABLE 6: GROSS DOMESTIC PRODUCT (GDP) FORECASTS GDP Application GDP forecast % 1.50% 1.80% 2.20% 2.20% 2.20% 2.20% Historical trends indicate that electricity consumption grows at a slower rate than the economy. In the sales volume forecast the gap between sales growth and GDP is widening due to less energy intensive sales in the forecast years as the economy moves towards a more services economy. Mines and large Industrial customers are down scaling or closing down. It is assumed, therefore, that the margin between GDP growth and electricity growth will continue to widen into the future Commodity prices Lower commodity prices have subdued electricity consumption levels amongst energy intensive industries. Certain commodity prices are expected to increase slightly during the MYPD4 period. This sales forecast assumes that the prevailing trend will continue. In Platinum mining, growth is driven by new projects and expansion of existing operations. Due to low commodity prices and continued industrial action in this sector many projects were delayed or discontinued. Presently there are high gold prices and expected to continue in this trajectory. However, gold mines remain under pressure to reduce costs with some gold mines curtailing operations of high-cost shafts. Refer to Table 7 for the commodity prices references. TABLE 7: COMMODITY PRICES (MACQUARIE RESEARCH 16 JUNE2017) Commodity Prices Aluminium ($/ton) % 20% -6% -12% -5% 2% 6% Gold($/oz) % 1% 10% 0% 2% -1% 3% Platinum ($/oz) % -1% 18% 11% 1% 0% 0% Ferro Chrome (FeCr)(c/lb)) % 43% 5% -3% -7% 2% 0% Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 20 of 86

21 Sales Volumes Price elasticity The price elasticity impact is included in the future sales volume information that is sourced for each of the large consumption customer groupings. It is not possible to separate the impact of price elasticity for the various sectors as many different factors impact customers to varying degrees Furnace load reduction in winter Industrial customers respond to the winter tariff signals by shifting high consumption away from winter tariffs (June, July, and August) and investing in their plant maintenance during this cold period. Notable is a substantial amount of furnace load that is not used in winter; comparatively, furnace utilization during the summer months is at a high 95%. This assumption does not include any future changes to the time-of-use tariffs times and charges Energy efficiency demand side management (EEDSM) The impact of EEDSM initiatives is embedded in the forecasted sales volumes and it is therefore captured in the underlying historic sales volume base used in the trend analysis. The sales volume forecast assumption for EEDSM is that the historic EEDSM savings will continue during the application period Weather conditions Forecasting sales volumes considers different weather conditions. High/low temperatures during winter or summer months and rainfall patterns impact approximately 55% of the total sales. To cater for weather exceptions, average weather conditions were used to forecast weather sensitive customers New customer projects (loads) Only projects that have a high probability of start-up and for which customers have accepted the budget quotations are included in the sales forecast Co-generation (Co-gen) projects Large Co-gen projects that will result in changes to individual customers electricity purchase from Eskom and are at advanced stage of the project commissioning process are included in the sales volume forecast. Excluded from the sales volume forecast are Co-gen projects that will sell electricity to the Eskom system operator as they are regarded as independent power producers (IPPs). Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 21 of 86

22 Sales Volumes 3.3 Sales forecasting approach There are various different influences on customers current and future electricity consumption determined by individual customers need for electricity and substitutes to taking supply from Eskom. To practically capture this complex dynamic, the Eskom forecasting practice recognizes differing sales assumptions by customer types that are the high-sales and lower-sales consumption customers. For high-sales volume customers, the sales forecasting assumptions include individual customer planning inputs. For the lower consumption customers historical trends, weather, and economic indicators inform the sales forecast. Consequently, sales changes in the high-sales customer category requires the application of an individual bottom-up approach so as to consider specific electricity sales usage drivers that include customers business plans, responses to price elasticity of demand, if any, commodity prices, and consideration of customer plans. This individual approach also applies to rail customers albeit that rail sales represent 1% of total sales due to 510 active service agreements. The forecasting of international sales adopts the individual approach given the country specific drivers and that the sales are to 7 international utilities and 4 international end-users. Municipalities purchase in bulk from Eskom and distribute to industrial and commercial sectors with a good measure of supply to residential end-customers. Eskom bulk sales to municipalities differ from one municipality (or metro) to the next as each municipal electricity customer-mix shapes each municipality s Eskom purchase profile. Eskom therefore uses a combination of forecasting methodologies including individual municipality consultation with reference to the respective local government development plans as Municipalities would consider various aspects that impact their electricity consumption profile. Factors considered include the change in customer behavior due to the price of electricity to end-user Municipal customers. For the residential and commercial sectors, historical trends, weather, and economic indicators primarily inform the sales forecasting. 3.4 Sales forecasting process A five-step process, as depicted in the figure below, is followed to forecast Eskom electricity sales. This process includes the compilation of a six-year monthly detailed forecast with the last four years of the period at an annual level using trends per sector. The process includes a bottom-up approach to compile regional forecast for each of the 9 regional Operating Units (OU) forecasts and for the Top industrial and mining customers forecast. This is followed by one-on-one work sessions with the Forecasters at each of the Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 22 of 86

23 Sales Volumes regional Operating Units and for customers to verify and confirm the validity of the forecasts. Once agreement and consensus is reached, the 9 Operating units forecasts and the Top industrial and mining forecasts are consolidated into an Eskom national forecast. An 80/20 principle is used during the bottom-up approach, that is, customers contributing 80% of the sales per category are forecasted on an individual bases. The individually forecasted customers are predominantly in Top industrial and mining customers category whose annual consumption is greater or equal to 100GWh. The individual customer forecasts apply detailed insights and information on individual customers usage and long-term plans. Thus Eskom is dependent on receiving coherent responses from these customers with regards to their energy requirements. It is plausible that the plans made by these customers for the application period could change. Long term economic forecast trends and commodity prices are also considered. In the finalization of the forecasted sales volumes, all abnormalities and outliers are removed from the historical data before statistical trend analysis and statistical forecast are applied. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 23 of 86

24 Sales Volumes FIGURE 5: SALES FORECASTING PROCESS 3.5 Forecasted sales volumes by customer category The customer categories used to disaggregate the forecasted sales volumes are based on sector. The Distributors (municipal) sales volume of 41% reflects Eskom s sales to all municipalities and Metros. In many municipal areas the majority of sales are to residential and commercial consumers. Industrial and Mining consumption contribute a combined total of 37% of Eskom Sales at the end of 2017/18. Steady growth is anticipated in the Traction, commercial and Prepayment categories. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 24 of 86

25 Sales Volumes TABLE 8: FORECASTED SALES VOLUMES BY SECTOR Sales (GWh) Actuals Actuals Actuals Actuals Actuals Projection Application Application Application Forecast Forecast 2014/ / / / / / / / / / /24 Local sales (incld internal) % of Sales Distributors % Industrial % Mining % Gold Mining % Platinum Mining % Other Mining % Traction % Residential % Commercial % Agricultural % Prepayment % International A % IPP % Other % Internal Sales % International (SAE) % Total Eskom sales % Uncertainty of the sales volume forecast In the current environment, the uncertainty of demand for electricity is high in the short term as a result of various factors including commodity market and prices, GDP growth, weather conditions, industrial action and changes to individual customer plans used to project future sales. The sales forecast assumptions are subject to change. The variation of the changes for some of the high contributing segments, are illustrated in the tables below. The provided decrease and increase variation ranges from an average -5% to +3% of the total Eskom sales. TABLE 9: POSSIBLE DECREASE IN ENERGY FORECAST Impact on forecasted sales in GWh Factor Possible Increase Projection 2018/19 Application 2019/20 Application 2020/21 Application 2021/22 Forecast 2022/23 Forecast 2023/24 Ferrochrome Sector Weak commodity prices and own generation (90) (119) (155) (218) (404) (654) Ferrosilicon Sector Closure of plants (46) (76) (106) (106) (106) (106) Ferromanganese sector Strong rand/weak commodity price (44) (44) (46) (48) (48) (48) Steel & Stainless Steel Sector Closure of furnace due to low commodity prices/strong rand (177) (265) (311) (359) (448) (448) Gold Sector More aggressive closure of shafts (336) (656) (886) (1 018) (1 118) (1 218) Platinum Sector Shaft closures and cancelling new projects (157) (320) (700) (983) (1 097) (1 306) Aluminium Sector Loss of Megaflex and NPA portion of sales (200) (400) (5 806) (7 806) (7 806) (7 806) Traction sector Loss in commodity transport due to sluggish economy (30) (40) (50) (50) (50) (50) Temperature and rainfall Warmer than average & high rainfall (600) (600) (600) (600) (600) (600) New projects delayed Projects put on hold (22) (155) (264) (872) (913) (913) Economic Growth Low growth (230) (462) (596) (631) (669) (709) Industrial Action Strikes (750) (750) (750) (750) (750) (750) Total Impact (2 682) (3 887) (10 268) (13 440) (14 010) (14 609) Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 25 of 86

26 Sales Volumes TABLE 10: POSSIBLE INCREASE IN ENERGY FORECAST Impact on forecasted sales in GWh Factor Possible Increase Projection 2018/19 Application 2019/20 Application 2020/21 Application 2021/22 Forecast 2022/23 Forecast 2023/24 Ferrochrome Sector Starting up of closed down plants/high commodity prices Ferrosilicon Sector Weak rand/high commodity price Ferromanganese sector Weak rand/high commodity price Steel & Stainless Steel Sector High commodity price/weak rand and prevention of furnace closures Gold Sector High gold price delaying shaft closures Platinum Sector Starting up of cancelled projects Aluminium Sector Full capacity from NPA sales Traction sector Metering errors fixed/ economic recovery Temperature and rainfall Colder than average and low rainfall Co Gen customers Failure Kelvin and Sasol Economic Growth High growth Start-up of delayed projects New projects starting up Total Impact Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 26 of 86

27 Distribution Network Losses and Loss Factors 4 Distribution Network Losses and Loss Factors The Licensee continuously monitors energy losses from a technical and revenue perspective. There are various interventions aimed at minimizing energy losses that are technical, commercial, and social in nature. Energy losses are an inherent aspect of the electricity business and utilities globally are considering responses to address these challenges. Energy losses are incurred when energy is transferred from generators to the customers through the network. This energy lost, is equal to the difference between the energy supplied and the energy consumed. It involves losses in energy volumes (electrical or technical losses) that reduce the amount of electricity volumes available for sale to end-customers. In addition, other energy losses may occur due to non-metered usage related to electricity theft (non-technical losses). The representation of the measure for the levels of the combined total technical and nontechnical losses is by way of loss factors. As required by the MYPD methodology and guided by the Tariff Grid code, the updated Eskom loss factors are calculated and included in the submission. Transmission losses are determined by the difference between energy injected onto the transmission grid and energy off-take at main transmission substations (MTS) and interconnection points. Distribution losses are determined by the difference between energy purchased (measured at main transmission substations as well as independent power producers) and energy sold to all Distribution customers. 4.1 Distribution losses Energy loss for Distribution networks is the difference between energy purchased (measured at MTS) and energy sold to all Distribution customers (measured or estimated). This includes both technical energy losses (known as copper and iron losses) and non-technical energy losses. It excludes non-payment or bad debt Energy losses management and protection Eskom Distribution monitors energy losses continuously and has embedded within its operations various interventions aimed at addressing the phenomenon. These interventions tackle the problem from a technical, commercial, and social perspective. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 27 of 86

28 Distribution Network Losses and Loss Factors Some of these interventions are: Reconciliation of the energy delivered and energy sold (i.e. energy balancing) at the reticulation feeder level in order to prioritize high loss feeders for normalization Auditing and repairing of faulty customer meter installations Disconnection of illegal connections, meter tampers and imposition of penalties (tamper fines) Improvement of process and data anomalies correction Estimation and recovery of revenue for historic unaccounted energy where tampered, faulty or missing metering installations are encountered Revision of Supply Group Codes on prepaid meters to prevent the use of illegal prepaid vouchers Implementation of technologies in the form of smart/split meters with steel enclosures to prevent access to the meter Systemisation of various elements of the losses management process to optimise performance Customer education, social mobilisation and partnership campaigns to drive behaviour change (Operation Khanyisa) Investigations and subsequent prosecution of criminals/syndicates perpetrating electricity theft through the sale of illegal prepaid vouchers and providing illegal electrification and meter tampering services Introducing pricing penalties for customers who are in breach of contractual/grid code requirements at both transmission and distribution level. Eskom is to continue with the various losses reduction interventions, however, it is expected that it will not be sustainable and might even increase in future due to ageing network conditions. TABLE 11: DISTRIBUTION ENERGY LOSS PROJECTIONS Actuals Projection Application Application Application Forecast Forecast Energy Losses 2017/ / / / / / /24 GWh Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 28 of 86

29 Distribution Network Losses and Loss Factors Independent Power Producers impact on energy losses The impact of Independent Power Producers (IPPs), given their location on the network, has resulted in reducing the transmission losses and increasing distribution losses. The IPPs deliver to Distribution, the energy that would have been transported from the power stations to Distribution via the Transmission network (thus reducing the load on the Transmission lines and hence Transmission losses). The IPPs production is not driven by the demand on Distribution, but by the contractual terms, thus it is not beneficial to address Distribution losses. The process of transporting the IPPs energy to the required location results in an increase in technical component of the distribution losses. The projected increase in sales is expected to increase the technical losses, which implies that more energy is transmitted through the same network that is both aging and overloaded Projected distribution network losses Distribution energy losses are projected to remain below the loss factor of 10% in the MYPD4 control period. The proposed increase in technical losses component of distribution energy losses is due to increases in the low voltage sales, through the increasing electrification projects. These sales will be realized through the same constrained distribution networks; and further compounded by the loss of high voltage sales that contributes the least to the distribution losses percentage Distribution losses methodology Distribution loss factors (DLFs) are multipliers used to allocate technical energy losses to customers. Additionally, these DLFs use is to differentiate the customers energy (kwh) and demand volumes (kva) at different voltage levels/categories in the cost of supply modelling. It is imperative to estimate the losses attributable to the customers connected at each stage of the network so that they can be charged for the portion of the losses caused by their demand. An average DLF is used to estimate losses due to a customer at a particular voltage level or voltage category as in accordance with the cost of supply model. The DLFs are calculated from losses that must firstly be calculated; and the DLFs need to be adjusted to the level that corresponds to the allocated energy demand. Due to the topological difference and size of the distribution networks, the calculations of the technical losses for DLFs employ two different approaches. One is used for the High Voltage Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 29 of 86

30 Distribution Network Losses and Loss Factors (HV) and Low Voltage (LV) networks and the other for the Medium Voltage (MV) networks. The resultant DLFs for the HV, MV and LV networks are published in the tariff book. Approach used for HV and LV technical losses The approach used for determining the technical losses for the sub-transmission is to perform a load flow simulations on a steady state network model (case file) for the operating units (OUs). Scenarios are created from the hourly profiles, and the simulations are performed for each scenario. The results are analysed and the average losses for these networks determined. Approach used for MV technical losses The modelling used for calculating energy losses for the MV networks, does not consider energy profiles. Instead, the approach relies on the loss load factors (LLF) and the load factors (LF) for determining the energy demand and energy losses, over a specified period, from respective peak quantities. LLF and LF are calculated from the OU actual metered data. Peak losses and load are derived from load flow simulation using ReticMaster case files. The method used to calculate average DLFs is to carry out load flow studies to determine the losses and demand at the network peak, followed by the application of calculated LLFs to obtain the energy losses. The results from all simulated networks are then analysed and the average losses for the MV networks determined Non-technical energy losses Efforts to decrease non-technical energy losses and increase revenue protection continue and include: Conducting meter and consumption audits whilst building technical capabilities within Eskom to perform the assessments internally, Removing illegal connections and rectifying faulty or tampered meters, Ensuring appropriate action is taken for the theft of electricity and meter tampering through cost-reflective reconnection charges, proper recovery of lost revenue, and if applicable the raising of new security and signing of new supply agreements. Reducing overall energy losses by educating customers on efficient energy use, the consequences for meter tampering and fraud and encouraging customers to report electricity theft and fraud. Correctly capturing previously unattended customers in Eskom systems and curbing ghost vending by introducing new supply group codes. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 30 of 86

31 Regulatory Asset Base (RAB) 5 Regulatory Asset Base (RAB) The Energy Regulation Act (ERA) and the Electricity Pricing Policy (EPP) prescribes that the revenue requirement for a regulated licensee must be set at a level that includes a reasonable risk adjusted margin or return on applicable assets. In accordance with the MYPD methodology, as at 31 March 2016, Eskom has revalued all completed assets used in the generation, transmission and distribution of energy. The revaluation calculation is based on the replacement costs using the modern equivalent asset valuation and adjusting for the remaining life of the assets. The assets are therefore reflected at the depreciated replacement cost and are therefore not shown at cost. The valuation details and assumptions for the Distribution License RAB are contained in the Eskom Valuation report. This Licensee valuation forms the basis of the RAB application. The regulatory asset base comprises of assets as per the March 2016 asset valuation, work under construction (WUC) and assets completed subsequent to the asset valuation; that is, transfers to commercial operations (CO). TABLE 12: REGULATORY ASSET BASE Regulatory asset base (R'millions) MYPD MYPD Application Application Application Forecast Forecast Decision Decision 2019/ / / / / / /19 Assets (Including WUC) Working capital and Equipment and vehicles Average Distribution RAB TABLE 13: RETURN ON ASSETS MYPD MYPD Return on assets Application Application Application Forecast Forecast Decision Decision (R'millions) 2019/ / / / / / /19 Average RAB (R'm) Full Return on Assets (ROA) % 7.65% 6.9% 9.31% 9.34% 9.37% 9.39% 9.40% Returns (R'm) Phased in ROA % 4.7% 4.0% -1.32% -0.21% 1.45% 1.76% 2.46% Phased in Returns (R'm) Returns sacrificed (R'm) Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 31 of 86

32 Depreciation 6 Depreciation Depreciation is driven by the value of the asset and its normal useful life. The table below reflects the depreciation charge for the MYPD 4 window. TABLE 14: DEPRECIATION MYPD MYPD Depreciation Application Application Application Forecast Forecast Decision Decision (R'millions) 2019/ / / / / / /19 Depreciation Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 32 of 86

33 SAIDI Hours/ SAIFI Incidents Million Rands Capital Expenditure (CAPEX) 7 Capital Expenditure (CAPEX) Capital investments support the continued productive life of assets and the technical conditions necessary to maintain continued electricity supply to secure revenue streams and improve customer experience. The applied for capital expenditure is required to strengthen and refurbish the Distribution network to meet future growth requirements, whilst allowing the network to maintain current performance standards. A key priority is to ensure a reliable and sustainable power supply; the Licensee will balance the need for resolving constrained networks whilst providing the supporting infrastructure for maintenance activities. Historically, the Distribution network performance gains are reflective of the investment choices made in the capital projects. Refer to figure below. FIGURE 6: HISTORICAL NETWORK PERFORMANCE CAPEX and technical network performance CAPEX SAIDI SAIFI 0 The Distribution network capital expenditure is employed in activities that are based on extensive planning that are implemented for the required network performance. A 10-year master plan informs the capital investment programme that supports the forecasted economic growth nodes. The capital investment programme supports the establishment of the required capacity to meet the future electricity demand with network performance at an acceptable level of Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 33 of 86

34 Capital Expenditure (CAPEX) reliability, maintainability and operability. The capital expenditure is also reflective of the execution capability within the Licensee, which is based on its own historical performance. In compliance to the Grid code, a network development plan is formulated informed by the 10-year master plan for the immediate 3-5 year period. During 2019/20 the requested CAPEX growth is informed by the 3-5 year plan. Notable redress is required for capital expenditure in strengthening and refurbishment. TABLE 15: CAPEX EXPENDITURE REQUIREMENTS Total cost Actual Projection Application Application Application Forecast Forecast R'million 2017/ / / / / / /24 Direct Customers Strengthening Refurbishment Land & Rights IPP Connections Asset Purchases Customer Services Eskom funded (Excl DOE) DOE Funded Total other cost Distribution networks investment drivers The following factors are the key drivers for the CAPEX expenditure: Enabling capacity as a precursor for growth in the economy and support to government led initiatives up until Further progressing towards regulatory and statutory requirements as per NERSA requirements which include NRS requirements. Ensuring commitment to a Distribution landscape that is focussed on universal access, IPP Integration and technological advancements, whilst maintaining current performance. The historical build-up is extensive and although continued investment is provided in this area, given the deterioration in the network s aging profile and regression in the performance of the aged distribution networks, the requested investment may not fully suffice. Capital for strengthening and refurbishing existing Distribution networks and for new IPP projects. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 34 of 86

35 Capital Expenditure (CAPEX) 7.2 CAPEX expenditure per category Direct customer connections Direct customers are end-users that are supplied by Eskom. The customers in this category exclude prepayment customers that are electrified as part of the DoE Electrification program. These customers require investment in network infrastructure funded by the requested CAPEX. Customer projects are driven by the economic growth within the country and the projected applications made by customers. Key drivers for this category are the following: New customer connections in the small to medium category Customer willingness to pay for the required incremental load. Constrained networks in some parts of South Africa; constrained networks dilute the potential to connect new customers to the network that can support Eskom sales growth. The Licensee will continue to connect new customers to the grid within the agreed time parameters where capacity is available on the grid. The grid is continuously strengthened, based on the most recent network development plans. The ensuing needs from the Development Plans are prioritized, and projects are then executed based on the capacity and the availability of budgetary funding Network Strengthening Network strengthening is the expansion and or upgrading of plant to increase capacity or improve the quality of supply. The strengthening program expenditure requirement is geared towards providing the shared network infrastructure for customers and generators as required from the Distribution Grid Code. Correspondingly, the projects within this program provide supporting network infrastructure for electrification programmes and Government led initiatives such as the National Development Plan and Strategic Infra-structure projects. The program further ensures that network constraints are averted, as these could impact future load growth. The funding is required in the short term due to a historically low strengthening spend. The number of constrained MV feeder networks in the Distribution business remains high, and 15.2 % of the feeders remain constrained. The expenditure requirements will address the historical issues; avert potential risk in accommodating existing customer requirements and regulatory standards. The reliability program as sub-set of the strengthening program supports compliance to the regulatory standards. The program is geared towards providing acceptable performance, Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 35 of 86

36 Capital Expenditure (CAPEX) and improved power quality within the different levels of the network infrastructure. Further improvement interventions are also planned to enable reliability of networks by: Reducing the number of faults by addressing constrained networks, and applying more robust substation and line designs Limiting impacts of outages by reducing the number of customers per feeder, through splitting or adding more feeders, and implementing fuses at transformers. Limiting the duration of outages by automating and installing substation RTU and fault path indicators. The Licensee will include the following technology advancements into its strengthening program to further enhance the reliability of its networks: The introduction of a Distribution Automation system to selected networks to improve the monitoring, maintenance and operability of the Power System The introduction of a Meter Data Management System (MDMS) as part of the full integration of the Smart Metering capability for the business. Eskom is experiencing an increase in overdue debt across all market sectors, non-technical energy losses (illegal connections) and an imbalance of supply and demand (overloading of the system). This system will enable the business in addressing non-payment, meter tampering, load management, online monitoring of customer usage patterns and online purchasing of electricity. It is anticipated that the projected expenditure will ensure business agility and readiness in tackling illegal theft, and sustaining the financial position through effective revenue collection. The installation of cameras and monitoring capability due to high level theft of equipment and increase in number incidents impacting the safety of staff. This investment will improve the safety and security of personnel and secure equipment at remote locations Refurbishment The primary objective of refurbishment is to extend the life of assets and the maintenance of expected performance levels. Failure to refurbish assets timeously will have a negative impact on maintenance and operations with respect to increased maintenance, increased fault activity, increased maintenance resource requirements (labour, materials, fleet, budgets etc.) and deteriorating technical performance KPIs. Refurbishment requirements are derived from the asset base and its associated condition. Asset obsolescence and maintainability can also form inputs into refurbishment requirements. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 36 of 86

37 Capital Expenditure (CAPEX) Refurbishment is a special case of maintenance and it refers to the replacement of equipment in compliance with current technical practice, safety standards and the desired operating performance. In this case, the existing plant life is realised or even extended. Whilst maintenance focuses on supply service enhancement, refurbishment focuses on the replacement of components of particular equipment or the entire equipment. Maintenance and refurbishment do not result into new income stream but ensures that the original stream is secured or improved. (Davidson, 2005, p.340) 1. The refurbishment program deals with assets that are replaced at the end of their life cycle with new assets, to ensure that the networks continue to perform at accepted levels, whilst maintaining a supply to the current customer base served by these assets. As stipulated by NERSA, a minimum level of performance is required on the Distribution Networks, which is based on the National Regulatory Standards (NRS) A substantive amount is required for refurbishment of networks due to historical low spend within the refurbishment environments. The refurbishment plan is aligned to a balanced approach between the existing performance of the networks, and the requirement to refurbish old and poorly performing networks. For this application period the strategies for refurbishment projects will consider the following elements; Condition of the network classified in terms of - Age - Maintainability/obsolescence - Safety performance of the asset Reducing high failure rates and safety concerns Normalisation of assets to the new standards Mitigating the risks associated with any unsafe networks or equipment 1 Utility asset management in the electrical power distribution sector: Inno Davidson, August 2005 Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 37 of 86

38 Capital Expenditure (CAPEX) Independent power producers (IPPs) and small scale embedded generators (SSEG) The Licensee capital expenditure associated with Independent power producers (IPP s) is informed by the Integrated Resource Plan (published by DoE in March 2011). It calls for an increase in generation capacity using a mix of resources, including Renewables. Actual implementation of the IRP is through ongoing Ministerial Determinations as determined by the REIPPP process. The Eskom Capital allocation for IPP provides for the shared network infrastructure that needs to be created to allow for the evacuation of power from the 27 IPPs on the DoE REIPPPP who recently signed PPAs. Consequently this application does not include any cost provision beyond the afore-mentioned IPPs. The IPP is responsible for its own network establishment cost up to the point of connection. The required funding is for the related upstream strengthening projects which are borne by the Distributor in line with the Grid Code requirements Asset purchases The expenditure required for asset purchases includes the acquisition and replacement of workshop, production and office equipment of a capital nature. This expenditure is required to expand, operate and maintenance new and existing distribution networks. These assets include amongst others test equipment, toolboxes, live-line equipment, ladders and specialized tools for line construction. Live-line equipment is used for maintenance on networks while ensuring an uninterrupted supply to customers In order to minimize customer interruptions the prior acquisition of mobile substations, strategic transformers and critical spares are required. These strategic assets are essential whilst work is carried out on the network for maintenance or in the case of failures of sub-station equipment e.g. transformers. These mobile substations and critical spares are placed in strategic location across the country for quick supply restoration essential to sustain uninterrupted supply to customers Electrification Eskom continues to increase electrification connections in support of Government s objective of universal access to electricity. Funding is provided by the DoE to meet these stated objectives for the remaining customers to be electrified. It is intended that universal access is achieved by 2020 and Eskom is currently electrifying approximately customers per annum. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 38 of 86

39 Capital Expenditure (CAPEX) Operating technology (OT) requirements The Licensee operating systems support the daily operations and management. Obsolescence and limited support for outdated technology require upgrades or new systems. This is so as to better manage the changing business landscape as it increasingly gravitates towards a smart grid. The following operating technologies will require changes during the MYPD4 control period: The replacement of the distribution management system (DMS) and supervisory control and data acquisition (SCADA) with an advanced DMS due to obsolescence. This is a system of software and hardware that allow the Licensee to control processes, monitor and gather real time information of the electricity network in cases of outages and emergencies. The small world repository upgrade to the small world enterprise office (SWEO) system will ensure that the repository of all equipment is spatially maintained (by geo based location). The system also links to all performance and maintenance requirements for reporting on various performance indicators e.g. SAIDI and SAIFI. The implementation of a Data analytic tool in the form of an Enterprise historian to acquire, store real time analysis data across the Licensee. The implementation of the meter management data system (MDMS) for management of the smart meters in the field as part of the program to manage and collect revenue, outage management and smart grid implementation. Due to obsolesce of customer engagement channel systems and software, there is a need to invest in the required technology to support the realization of the channel optimization project aims. This will ensure the transition to the customer required digital services. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 39 of 86

40 Operating Costs (OPEX) 8 Operating Costs (OPEX) The Licensee s operations spans across South Africa to service all customers ensuring that the networks are available to secure continued electricity supply and revenue streams. The Licensee operates out of 9 provincial operating units consisting of 27 operating zones to manage 306 Customer network centres (CNCs). This includes 110 customer service hubs, 7 contact centres that operate 24/7 for 365 days of the year. The Distribution Licensee s OPEX components in this application include employee benefits, maintenance, other costs, impairments and corporate overheads. The requested Distribution licensee total OPEX for the MYPD4 control period is as shown in the table below. The individual cost components are explained in the following sections. Gross impairments are discussed in the next section of this application. TABLE 16: DISTRIBUTION LICENSE OPERATING (OPEX) COSTS Total cost Actual Projection Application Application Application Forecast Forecast R'million 2017/ / / / / / /24 Employee benefit cost Maintenance Other cost Impairment costs applied for Impairment cost Less: >1% of Revenue Other Income Core operating costs Add : Corporate support services Total cost Corporate support: portion excluded from revenue requirement Total Operating Expenditure for Revenue Requirement The Licensee overall operating cost increases are maintained to within the inflationary increase, except for impairment cost that reduces between 2018/2019 and 2019/2020 which is limited to 1% of revenue. 8.1 Employee benefits Eskom is currently re-positioning itself to improve efficiency and productivity and is reviewing its business and operating model. The Licensee will drive a Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 40 of 86

41 Operating Costs (OPEX) number of initiatives aimed at improving efficiencies and optimal use of the workforce in support of the overall Eskom workforce reduction strategy. These initiatives amongst others include a review of the operating model to ensure the embedding of the right balance of skills and workforce numbers across the Licensee. The Licensee employees are engaged in servicing the customer, operating and maintaining the electrical network and associated infrastructure. This is to ensure compliance to the Licensee conditions of supply whilst providing sustainable supply of electricity to all South Africans. Continuous multi-skilling and retention of skilled staff remain critical in achieving the above strategic initiative. The required employee skills-set is of a technical and customer centric nature which is necessary to operate, maintain an electrical network to distribute safely. Customer-facing employees are at the forefront of ensuring sales growth, revenue collection, optimal and satisfactory customer experience. In this application the workforce is expected to reduce over the MYPD4 control period whilst balancing current operations with a growth in customer numbers as well as satisfying customer expectations; refer to Table below for the project employee headcount numbers. Over the MYPD4 control period the employee cost maintains a flat profile due to reductions in employee numbers; refer to table below on employee benefits. The marginal increase in employee benefit costs is from the award of above CPI salary increases to the bargaining unit staff. Consequently, other employee related costs increase correspondingly. Temporary and contractor staff cost relate to learner pipeline. The drivers for employee benefit costs and the employee cost considerations for this licensee application are in the following sub-sections. TABLE 17: HEADCOUNT R'million Actual Projection Application Application Application Forecast Forecast 2017/ / / / / / /24 Distribution Customer services Total headcount Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 41 of 86

42 Operating Costs (OPEX) TABLE 18: EMPLOYEE BENEFITS Total cost Actual Projection Application Application Application Forecast Forecast R'million 2017/ / / / / / /24 Salaries Overtime Post-employment medical benefits Leave Annual and performance bonus Pension benefits Allowances Employer contributions Direct costs of employment Training and development Temporary and contract staff costs Other Staff cost Indirect costs of employment Employee benefit cost prior to capitalisation Capitalised to property, plant and equipment Total employee benefit cost Network and customer growth Distribution builds and strengthens networks of existing and new customers for all licensed areas of supply over the planning period. These employees are engaged in the designing, planning and executing the network build and strengthening program in compliance with Eskom standards, environmental, legal, electrical and regulatory requirements. This involves the understanding the national growth points, responding with network developments plan, master planning activities of the network, accessing and adopting new technologies of network design that are cost effective which improves quality of supply to customer, and reducing energy losses across the network. The delivery and execution of the above defined activities requires a highly competent and specialized skills set Sustaining network performance and operations Distribution intends to maintain network performance through disciplined execution by managing the duration of outages and frequency of network interruptions experienced by customer. A technically skilled workforce is required to maintain the electrical network infra-structure from a planned and corrective maintenance perspective in compliance with electrical standards, safety and regulatory requirements. It is imperative that these employees have Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 42 of 86

43 Operating Costs (OPEX) specialised competencies, authorised in accordance with the applicable legislation and regulation to operate the network of various voltage levels to ensure safe operations. A significant portion of the network is maintained through live line techniques to limit the frequency of interruptions experienced by the customer. Live line maintenance is executed by specialised dedicated teams with highly specialised equipment and protective gear. Operational activities for restoration of network such as customer contact management, dispatching of work orders, scheduling of resources, controlling and switching the networks supports field resources working on the physical assets. These operational employees require specialised skill sets to control and switch networks under dead and live conditions. Major engineering work team complements the maintenance teams in executing operational projects in line construction, customer connections and other related network intra-structure projects. Technical quality and environmental work teams assure that the work performed on networks adheres to the electrical operating standards and legislative requirements. The challenge is to have a technically capable workforce that is able to adapt and respond to the changing operational requirements by adopting new technologies for smarter ways to execute operational activities Electrification growth Electrification program contributes significantly to the growth in customer number. The growth in electrification emanates from connecting additional customers in deep rural areas to support the government electrification programme towards universal access in proclaimed areas. This growth in electrification customers and network increase the maintenance requirements and customer support, thus requiring the current employee base to respond to increased customer service level expectations in terms of duration of outages and frequency of interruptions Employee safety in operations Safety of employees remains a key priority for Eskom. It is therefore imperative that adequate and skilled resources are directed to operations to avert injuries and fatalities of employees whilst adhering to all legislative requirements. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 43 of 86

44 Operating Costs (OPEX) Development and training of employees for operations The Licensee continues to develop and train its workforce for normal business operations, emerging technologies and new business opportunities. Employees are required to be multiskilled to operate the network and service the customer. There are mandatory legislative training required for employees to operate the network. For purpose business sustainability there is also a need to maintain a minimum investment in learner pipeline development on an annual basis Customer operations Customer services are at the interface of ensuring optimal and satisfactory customer experience when customers interact with Eskom. This service is rolled out using Key customer executives, hubs and call centres to service Large Power users and all other customer categories. The growth in customer numbers will require adequate resourcing in the contact centre environment for customer contact management for inbound and outbound interactions. Key to customer service operations is ensuring that customer queries are resolved timeously and field customer activities (Meter change out, meter read validations, and reconnection) are executed in line with the prescribed Eskom standards. Energy protection teams perform analysis on energy consumption patterns, conduct meter audits and fixes in support to contain energy losses from a revenue perspective. Essential to the delivery of service to customer in restoration of faults, there is need for technical employees to respond to the faults on a 24hour basis. The majority of faults are reported after hours and weekends predominantly from residential customers resulting in overtime compensation as per Basic Condition of the Employment Act. In furthering compliance to NRS on restoration time it is imperative to have technical staff available to restore supply customers timeously Remuneration of employees The employee costs are also a function of CPI and the final negotiated wage settlement with the Unions. The Distribution licensee employee numbers are majority operational level staff therefore the negotiated salary increases which are higher than inflation have a significant impact on employee cost. The Licensee continues with efforts to optimise manpower by ensuring its employee benefit costs are reasonable whilst driving productivity improvements in operations. The intention is to retain critical and core skills for the sustainability of operations. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 44 of 86

45 Operating Costs (OPEX) The network is currently operating under challenging conditions due to the age of the network and ongoing support to the electrification programme. It is essential for Distribution licensee to build capacity, with a motivated and high-performing work teams to respond to current and future needs. The sustainability of the Distribution business is dependent on its ability to create, develop and maintain a reliable and flexible network to meet customer demands. 8.2 Maintenance The key driver for Distribution maintenance spend is span of the network which is approximately km of distribution lines, km of reticulation lines, and more than km of underground cables from a preventive perspective. Further to the maintenance activities are the ability to respond to the customer outage line with NRS defined restoration time period. Distribution maintenance strategies are informed by the Eskom standards, legal and regulatory requirements for the various equipment and asset categories. Distribution s maintenance regime includes both preventative and corrective maintenance as per the asset management practices. Preventative maintenance refers to planned maintenance activities on assets whilst corrective maintenance refers to unplanned or fault activity. The approach is to execute preventative maintenance in a qualitative, efficient and cost effective manner thus reducing corrective maintenance. The objective of maintenance is to ensure that: Regulatory and statutory requirements are continued to be adhered to (Safety, Health and Environment). Eskom maintenance and operating standards are compiled to comply with regulatory and statutory requirements e.g. Network code. The asset is timeously maintained as per maintenance assessment information. Ensure maximum plant availability for customer satisfaction. The technical performance KPIs (SAIDI, SAIFI, HSLI and MSLI) are in accordance with the agreed performance levels between Eskom and Regulator The expenditure required for the MYPD application is as reflected in the Table below; these costs exclude any employee benefits costs. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 45 of 86

46 Operating Costs (OPEX) TABLE 19: SUMMARY OF MAINTENANCE REQUIREMENTS Total cost Actual Projection Application Application Application Forecast Forecast R'million 2017/ / / / / / /24 HV Network MV Network LV Network Substation Vegetation Wood Pole Major Mtce Planned Unplanned Total maintenance cost The key drivers for the maintenance expenditure include: Network performance To ensure adequate maintenance is completed for the uninterrupted supply of electricity to the customer and security revenue streams. Adequate maintenance spend will ensure that the network performs as per the design base with minimal technical losses. Quality of service to the customer Adequate maintenance affords the ability to deliver energy to customer on demand at the right voltages level as defined in the National Regulated Standards Growing network and customer base The network infrastructure grows with an increase in the customer base of more than customers annually, that will increase the maintenance requirements in both the preventative and corrective (fault) environments. Sustainability of network infra-structure The network infra-structure is aging and with limited capital investment leading to suboptimal performance of network Environmental and safety consideration To ensure safe operations of network with a minimum impact to the environment Planned (preventative) maintenance Distribution intends to maintain the network infra-structure (lines, substations, transformers etc.) as specified in the maintenance standards. The key planned maintenance activities for the different voltage levels of equipment are the following: Line inspections with defect clearing Substation inspection and defect clearing Substation equipment pollution control Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 46 of 86

47 Operating Costs (OPEX) Substation earthing inspection, testing and remedial work Power transformer oil sampling and analysis Breaker and Isolator maintenance Battery Bank and charger testing and maintenance Protection relay testing and maintenance Tele-control testing and maintenance Metering testing and maintenance The time based intervals for maintenance of equipment as defined in the Eskom Standards to be reviewed to determine an approach of maintaining the network that is most cost effective. This focused approach on the planned maintenance is anticipated to sustain the network performance for the planning period. The increased focus is placed on planned maintenance of the low voltage networks with the aim to reduce supply interruptions to this customer segment thereby improving in reliability and quality of supply. This will be achieved through the following key activities: Focused maintenance of the LV lines and mini substations. Wood pole inspection and replacements where required. Mini circuit breaker (MCB) split to one MCB per customer to reduce group outages induced by individual customers. Meter change out to split meters reduce volumes of meter failures and introducing intelligent metering. Wood pole inspection and replacement of powerline wooden poles ensure safety of public and security of supply. Wood pole is a scheduled maintenance programme based on a set cycle (currently 10 years) to effectively manage the inspection and replacement of defective Medium Voltage and Low Voltage wooden poles or structures found on Distribution networks. In ensuring the safe mechanical and electrical operation of its power lines, Distribution maintains vegetation on the power line servitudes to meet its legal, business social and environmental obligations. All vegetation posing a risk to the lines or prevents access must be managed without interfering in the natural attributes of the environment in compliance with environmental and safety requirements. Vegetation management addresses the growth of vegetation near and underneath the powerlines to avoid contact with electricity and bush fires that can destroy infra-structure and/ or interrupt power supply to customers. Vegetation Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 47 of 86

48 Operating Costs (OPEX) management is also used to manage vegetation at other electrical installations such as sub stations and mini substations. Major Maintenance refers to network assets that are maintained beyond the warranty period where potential failures have been identified that will comprise the network and security of supply. This major maintenance expense is targeted at strategic and critical asset classes do not extend the life of the asset. Given the critical nature off and value of these assets it is therefore necessary to have this category maintenance as it not considered in the above assets classes for maintenance Unplanned (corrective) maintenance: Corrective maintenance is a maintenance task performed to identify, isolate, and rectify a fault so that the failed equipment, machine, or system can be restored to an operational condition within the tolerances or limits established for in-service operations. Unplanned maintenance is repair to equipment that has already failed, at advanced stage towards failure or comprising safety of public, employees and environment. Unplanned maintenance is affected to restore customer supply as stipulated by Eskom and National Regulatory standards. Customer interruptions drive the work executed under unplanned maintenance. The overall maintenance and operations expenditure requirement are for the minimum prescribed maintenance activities as defined according to the Eskom and National Regulatory Standards. This application is made against a reducing workforce who primarily operates and maintains the electrical network which will therefore require different approaches to execute work. This will require investment in alternative technologies to assist with the execution of maintenance activities. The aim is the execution of these maintenance activities that will sustain existing technical performance levels and support compliance to the maintenance standards, technical performance and to mitigate against any potential safety risks to the public. 8.3 Other expenses In servicing the customers and protecting the network assets which are geographical spread across the country there is cost incurred in day to day running of the business. This cost is incurred in safe guarding the assets; reduce risk of losses and ability to collect revenues. The requested Other expenses for the MYPD4 control period are as reflected in the table below; Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 48 of 86

49 Operating Costs (OPEX) TABLE 20: SUMMARY OF OTHER COSTS Total cost Actual Projection Application Application Application Forecast Forecast R'million 2017/ / / / / / /24 Insurance Security cost Information technology costs Fleet cost Facilities cost Telecomms Customer related: Vending Commission Customer billing related expenses Legal Fees & Debt Collection Wheeling cost Bank Related Costs Key revision note Channel Optimisation Business related expenses Total other cost The increases in the Other costs over the MYPD4 control period are linked to inflation and fixed in nature. Where possible the Licensee has implemented cost saving measures whilst improving operating efficiencies. The main contributors to the Other operating costs are the following: Insurance cost Security cost Information technology Facility cost Fleet and Travel cost Telecommunications Vending commission Revenue management (includes customer billing and meter reading expenses) Insurance cost The business must ensure that there is adequate insurance cover is in place to manage its increasing asset base and exposure against insurable incidents such as natural occurrence, theft, vandalism and public liability claims. The market prices for the premium are hugely driven by replacement cost of assets and past claims history. Insurance covers risk beyond the maximum tolerance levels for the business. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 49 of 86

50 Operating Costs (OPEX) Security cost Many of the Distribution sites are designated national key points which in terms of legislation require these assets and people to be safe guarded. There has been an increase in theft and vandalism of equipment which warrants the need to safe guard assets for continuity of operations. Security related activities are preventive in nature to safe guard assets, property and employees Information technology costs Information management systems are key to the current and future business operations to support improvement in efficiency, productivity and decision making. Advancements in technology will streamline business processes. The vastness and complexity of network infra-structure requires a number of integrated management systems for network management, outages, dispatching and customer interface and interaction. The information systems enable optimal and efficient network operating, optimal customer billing and revenue collection. The changing customer needs necessitate investment in digital platforms which require continued maintenance to support delivery of the desired customer experience and service delivery Fleet and Travel cost The Distribution network infrastructure footprint is across South Africa mainly in deep rural areas. Employees are required to extensively travel to service all customers. This involves operating, maintaining and repairing networks to comply with regulatory and service standards. Key to the cost is employee recoveries of kilometres travelled for business related activities and associated subsistence allowances. The employees are reimbursed at the SARS travel rates and the Eskom policy aligned to National Treasury Directive on cost containment Facility cost The geographical customer spread across the country, accessibility, convenience to the customer and the business value proposition to meet customer expectations required the establishment and maintenance of customer network centres, hubs and local offices in close proximity to the customer locations. These properties are either owned or leased and the business carries all associated servicing costs. The driver of the facility cost relate to rentals, water and lights, rates and taxes and maintenance. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 50 of 86

51 Operating Costs (OPEX) Telecommunications Telecommunication is core in enabling protection systems of the distribution infra-structure. The network control centres communicate with all the distribution equipment through the telecommunication network to have real time visibility of high voltage field equipment to remotely operate in response to network incidents. The telecommunication networks are used for data transfer from network control centre to equipment and from equipment to other equipment for purpose of operational decision making. Over and above the network requirements this infrastructure also enables communication between the call centre, resource management centre and field staff to address customer and network faults Vending commission The prepaid customer base is served through a network of vending agents located in close proximity through various platforms for ease of access for the customer. Vending commissions are costs paid to the agents that sell electricity on behalf of Eskom. The commission is calculated on a rate (c/kwh) on sales to the 5.9m prepaid customers Customer billing and meter reading expenses Billed customer meters are read in intervals through meter reading agents to ensure accurate and timeous billing for energy consumed. The meter reading agents are compensated for the actual number of customer meters read at a predetermined rate. The business also incurs costs for the generation of the customer bill and the distribution thereof Reconfiguration of prepayment meters - key revision number (KRN) project All Standard Transfer Specifications (STS) prepaid meters will be affected by Token ID roll over on 20/11/2024. Any tokens generated after this date and utilizing the 24 bit Token-ID will be rejected by the meters as being old tokens as the Token-ID value embedded in the token will have reset back to 0. To address this, all the meters will have to be changed to a new key revision number and this means reconfiguring every meter either ourselves or getting our customers to do it. The Key Revision Number rollover project is aligned to the Licensee objectives as follows: Revenue and customer sustainability - Failure to implement this project will disrupt electricity service delivery, leading to irate, unhappy customers, which in turn may trigger temptations for meter tampering, illegal connections or illegal electricity purchases. All these will cause revenue loss and also exacerbate non-technical energy losses and social unrest. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 51 of 86

52 Operating Costs (OPEX) Building a solid reputation - Failure to implement this project will render customers to be without electricity, leading to irate, unhappy customers, which in turn has a reputational impact and a negative brand impact Channel optimization The Channel optimization project aims to address the deployment, effectiveness and efficiency of Eskom s front line customer interface channels (hubs, contact centre and digital channels). Customers no longer want to use the telephone or as the predominant means to communicate with organisation. Studies show that contacts through digital and other channels will overtake call volumes within very short space of time. A contemporary customer service organisation will therefore need to incorporate digital and other channels into their overall engagement strategy in order to meet the changing customer needs. The current call centre system (Telephony) is the most costly channel to resource and maintains. Eskom will align its customer engagement with other channels which are less costly and more efficient. 8.4 Other income In servicing the customer and maintaining the network the business recognises the following categories of other income. Refer to Table below; TABLE 21: OTHER INCOME Total cost (R'million) Actual 2017/18 Projection 2018/19 Application 2019/20 Application 2020/21 Application 2021/22 Forecast 2022/23 Forecast 2023/24 Insurance proceeds/recovery Reconnection fees Business sales Recoverable work Sundry income Total other income Insurance proceeds/recovery This relates to proceeds received from insurance, for claims submitted for all insurable incidents as covered in the insurance policy. Reconnection fees The customers are billed for reconnection fees in event of default on payment and subsequently unable to settle their timeously and meter tampering. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 52 of 86

53 Operating Costs (OPEX) Business sales/ Recoverable work This relates to electricity related services and network construction activities provided to external 3 rd parties where such parties are billed for serviced provided. Sundry Income This relate mainly from proceeds from sale of scrap equipment Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 53 of 86

54 Gross Impairments 9 Gross Impairments With the current economic pressures, non-payment of debt is a common phenomenon that retail businesses have to deal with. To limit the growth in arrear debt, Eskom has implemented various interventions including continued roll-out of prepaid meters to arrest the arrear debts. As per IAS 39 (financial instruments: recognition and measurement) impairment losses are recognised when there is objective evidence as a result of events that occurred after the initial recognition of the asset, that the asset is impaired. An entity is required to assess whether there is any objective evidence of impairment. If any such evidence exists, the entity is required to do a detailed impairment calculation to determine whether an impairment loss should be recognized or not. An increase in arrear debt increases debtor s days and directly impacts Eskom cash flows. Provision for bad debt is a direct operating expense and hence the application for impairment costs for NERSA approval for 2019/20 is R2 196 m; R2 525 m for 2020/21 and R2 914 m for 2021/22. The projected impairment cost for 2018/19 is R4 436 m. Eskom has limited the impairment to 1% of Revenue despite the fact that our current actuals are closer to 3%. The 1% impairment implies a payment level of 99% of all billed Revenue including interest. The 1% impairment will cater for credit losses incurred as a result of liquidated business; deceased customers; as well as non-payment by problematic customer groups. 9.1 Debtors To monitor and report debt levels, Eskom uses number of debtors days and arrear debt as a percentage of revenue along various customer categories including municipal customers, top customers, other large power users, small power users (excluding Soweto) and Soweto. When customers fail to settle their accounts each month the debt attracts interest as per the various customer contracts with Eskom (mainly interest of prime plus 5%, except for the municipal concessions that were introduced in July 2017 where all municipal bulk accounts are charged interest at prime plus 2.5%). This interest is to cover the related capital costs borne by Eskom and to discourage late or non-payment of electricity bills. Eskom is managing the payments from customers reasonably well. As at March 2016 the overall payment level was 98%, March 2017 it was 97% and at the end of March 2018 it was 96%. The combined payment level for Top customers, large power users (excluding Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 54 of 86

55 Gross Impairments municipalities) and small power users (excluding Soweto) as at March 2018 was 99.9%, vs the payment level for municipalities of 95% and Soweto (excluding interest) of 15%. A relatively small portion of Eskom s customer base is challenged to fully and timeously settle their accounts resulting in the increase of overdue debt and decrease in customer payment levels. This has a direct impact on the impairments being raised. During the last couple of years the overdue debt increased significantly and the main contributors were municipalities and Soweto debtors. The outstanding debt is a cumulative value which represents a significant impact on the cash available for operations as illustrated in the Table below. The overdue debt increase is also influenced by the average price increase, the interest charged on overdue debt and the general economic impact on customers. TABLE 22: SUMMARY OF OVERDUE DEBT OVERDUE DEBT - R'm Actual Projection Application Application Application Forecast Forecast 2017/ / / / / / /24 Small Power Users (SPU) Large Power Users (LPU) Municipalities Soweto (excluding interest)* Total The increase in municipal overdue debt from R16.7bn in 2018/19 to R32.3bn in 2023/24 is mostly attributable to the impact of compound interest. A very small amount of this increase is due to assumed non-payment of future bills. The interest portion averages between R2bn and R3bn per annum over the 3 year MYD4 application period. Eskom is working with various stakeholders to limit the growth in new capital debt to a minimum. In addition, in the MYPD4 application, the impairment % of revenue is limited to 1% of revenue. This assumes a 99% payment level of all bills and interest resulting in only a portion of the increase in overdue debt as reflected in the Table above that is requested as part of our MYPD4 revenue application. 9.2 Debt write-offs There is overdue debt that is not recoverable that result in debt write-offs. Eskom has strict procedures in place that governs the write-off of debt. If the debt is not collectable for example deceased customers, businesses in liquidation and after full process for business rescue is completed, write-offs are considered. This happens after settlement of overdue Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 55 of 86

56 Gross Impairments debt using the security, the residual balance will be written off having followed the legal collection process. 9.3 Gross Impairments In 2018/19, the gross impairment costs are projected to be 2.5% of the total revenue, which is an improvement from the 2.9% for 2017/18. This reduction assumes an improvement in the total payment level as a result of all the efforts of collecting the outstanding debt from customers. The 2.9% gross impairment of total revenue for 2017/18 is projected to improve to 1.4% over the MYPD period, which implies a payment level of 98%+ of all bills including interest across all customer categories. Containing this figure to such low levels is largely dependent on the cooperation from Municipalities to service their commitments to Eskom in full. For the purposes of the application, the impairment was limited to 1% of Revenue. The Impairment percentage (%) is limited to 1% of revenues despite the higher historic actuals; and the lower payment levels experienced from certain customer groups. See Table below for a breakdown of the gross impairment for the major customer categories. TABLE 23: GROSS IMPAIRMENT Gross Impairment Actual Projection Application Application Application Forecast Forecast (R' million) 2017/ / / / / / /24 Soweto Munics Top Customers Other OU's Total Gross impairment Less: >1% of Revenue Impairment costs Municipal impairments The municipal overdue debt grew sharply from R6 005 m (2015/16) to R9 406 m (2016/17), to R m (2017/18) and is projected to reach R m at the end of March It is assumed that all the efforts to recover the municipal debt will result in an improved payment level of 97.8% at the end of March The projected impairment for reduces to R3 100 m by 2021/22. The growth includes the impact of tariff increases as well as the impact of interest on overdue debt. It must be noted that the challenges currently experienced with non-paying Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 56 of 86

57 Gross Impairments municipalities; pose a significant risk to Eskom; and if debt levels continue to grow at the current actual trends; the projected payment levels of 97.8% will not be achievable Soweto impairments The capital portion of the Soweto small power users (SPU) overdue debt increased from R4.7 billion (March 2016) to R5.9 billion as at the end of March The current strategy (prepaid meter conversions) is projected to be completed by the end of 2022 financial year, therefore reducing further debt growth. The conversion of customers from conventional to prepaid has a direct correlation on the impairment raised for overdue and doubtful debt. The conversion of customers from conventional to prepaid will result in reduced conventional sales, therefore reducing the impairment required. The impairment reduces from R579 m (2017/18) to R230 m (2021/22) as more customers are converted to prepaid Top customers impairments Top Customers have an excellent payment record, the payment levels were at 100% for 2018/19. However, due to the adverse market conditions, the risk of non-payment by key customers do exist and can have a significant impact on the impairment if just one of the big customers default. Small impairment values have been provided for Top Customers over the MYPD4 period to cater for such risk Mitigation of increases in impairment costs In order to limit the growth of bad debt (impairments) to the Eskom cost base, the company has adopted an approach to limit debt growth whilst enabling electricity sales that includes: Prepaid sales As of end of the 2018 financial year, Eskom had 6.26 m customers and most are on prepaid (93.6%). The strategy is to continue to offer new customers the prepaid option and convert existing postpaid customers to prepayment. In Sandton and Midrand prepaid meters have been installed for previously postpaid customers. The conversion process is in progress. Deposits / security Ensuring an increase in deposits and securities to mitigate future risk by customers identified as potential high risk defaulters. Innovation This is by investigating and piloting a new revenue collection business model with municipal customers. This will involve Eskom involvement in the municipal revenue collection process on an agency basis. The outcome from the study will follow during the course of 2018/19. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 57 of 86

58 Gross Impairments The proposal entails Eskom replacing the conventional and pre-paid electricity meters of the municipal customers with Eskom smart and secure pre-paid technology. Eskom will then deduct the Municipality s bulk electricity account as well as the costs for the revenue collection service which includes the costs of the prepaid meter installation, vending and administration service charges and maintenance charges as detailed in the proposed agreement and pay the balance to the Municipality. Consultation The consultative activities have included and will continue to include: Engagements with the respective municipal Executives. Inter-Governmental Provincial meetings with all the relevant stakeholders Regular National Governmental meetings. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 58 of 86

59 Revenue Recovery 10 Revenue Recovery The recovery of the MYPD4 approved revenues is at the Distribution licensee level through Standard tariffs, local and international Negotiated Pricing Agreements (NPAs) and international utility tariffs. During the MYPD4 control period, the Licensee will develop new tariffs and adjust existing tariffs to recover the allowable Eskom revenues; there may be new NERSA approved negotiated pricing agreements after the NERSA MYPD4 determination. In this MYPD application, the NPA and international utilities revenues are already escalated as per their contracts. Consequently, the increase to the Standard tariffs is to recover the balance of the NERSA allowed revenues after subtracting the revenues from NPA and international utilities contracts; NPA and international utilities revenues include their contribution to the environmental levy charge. TABLE 24: MYPD4 REVENUE RECOVERY THROUGH STANDARD TARIFFS AND NPAS MYPD MYPD Revenue recovery Application Application Application Forecast Forecast Decision Decision (R'million) 2019/ / / / / / /19 NPA and International Customers Standard tariff Customers Total Allowable Revenue The NERSA allowable revenue decision will be implemented for Eskom revenue recovery prior to the commencement of each financial year. The implementation will be through the applicable NERSA methodology and decisions including the NERSA RCA decision(s), NERSA ERTSA decisions and other tariff and pricing decisions from 1 April for nonmunicipal customers and from 1 July for municipal customers; unless otherwise permitted by NERSA decisions and in compliance to the Municipal Finance Management Act (MFMA) Tariff increase context The difference between the municipal and non-municipal tariffs is the price level to cater for a 1 April implementation of the non-municipal tariffs and a 1 July implementation for municipal tariffs. Non-municipal tariff increases are effective 1 April whilst the Municipal tariff increases are from 1 July; this is 3 months later than the non-municipal increase. Both the municipal and non-municipal increases are to recover NERSA allowed revenues between 1 April and 31 March that is the Eskom financial year. Consequently, in order to recover the municipal annual contribution to the allowed revenues during the Eskom financial year (April to March) the municipal tariffs increase is different from the non- Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 59 of 86

60 Revenue Recovery municipal increase. This later municipal tariff increase effective date is in compliance with the Municipal Finance Management Act (MFMA). The applicable prices and increases for the NPAs and the international utility agreements are specified in their supply agreement contracts that specify the applicable prices and increases based on parameters unique to each contract. In the MYPD application, the NPA and international utilities revenues are escalated to reflect these contracts contribution to the requested Eskom allowable revenues Indicative annual Standard tariff increases The indicative standard tariff increase based on the requested MYPD4 allowable revenues and this application s forecasted sales are as shown in the Table below; In accordance with the NERSA MYPD methodology, NERSA may revise this application s forecasted sales volumes to reflect the prevailing situation at the time of NERSA determination. In this regard, the indicative tariff increases would be adjusted accordingly as they are subject to the NERSA decision forecasted sales and allowed revenues for each year of the MYPD control period. TABLE 25: INDICATIVE ANNUAL STANDARD TARIFF INCREASES Standard tariff price impact Unit MYPD MYPD Application Application Application Decision Decision 2019/ / / / /19 Standard tariff revenue R'm Standard tariff sales volumes GWh Standard tariff price c/kwh Standard tariff price adjustments % 2.2% 5.23% 15% 15% 15% 10.3 Use of the ERTSA methodology to determine the indicative increases After the NERSA MYPD determination, the increased municipal and non-municipal Standard tariffs are submitted to NERSA for approval, in compliance with the NERSA March 2016 Eskom Retail Tariff and Structural Adjustment (ERTSA) methodology. The provided indicative Standard tariff increases are determined using the ERTSA methodology as follows: The annual average Standard tariff increase (based on the Eskom financial year) is used to determine the individual municipal and non-municipal annual revenues as per Rule 5 of the ERTSA methodology. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 60 of 86

61 Revenue Recovery The 1 July municipal (Local authority) tariff increase is calculated as per Rule 6 of the ERTSA methodology that enables the recovery of the 12-month municipal revenues through a 1 July increase that is different from the annual Standard tariff increase. That is, for implementation at the beginning of the local authority financial year (01 July); this is three months into the Eskom financial year. The non-municipal (Non-local authority) average increase is the annual average increase as per rule 5.8 of the ERTSA methodology. The Homelight 20A increase follows on Rule 7.1 and Rule 7.2 that provides that the Energy Regulator as part an MYPD decision to allow cross-subsidies for implementation as a part of the annual average Standard tariff increase: - For the provided MYPD4 indicative Standard tariff increases the non-municipal average increase is applied. This follows that as this is a new MYPD application, Homelight 20A tariff increases that are different from the annual average Standard tariff increase are for the NERSA s determination. - The Affordability subsidy charge caters for the recovery of lower increases to the Homelight 20A tariff. In this application, the Affordability subsidy charge increase reflects the recovery of the cumulative lower increases to the Homelight 20A tariff since 2013/14. The ERTSA Standard tariff increases do not result in structural changes and implementation of new tariffs as per the ERTSA methodology rule 3.2. Eskom will during the MYPD4 make applications for Structural changes. The indicative increases to the Standard tariffs only include the consideration of this application s applied for revenues and forecasted sales and therefore do not include any consideration for purposes of implementing the RCA adjustments as per the Rules 5.1 and 5.2 of the ERTSA methodology Indicative increases by Standard tariff categories After applying the ERTSA methodology, the 2019/20, 2020/21 and 2021/22 the indicative increases for Standard tariff categories are set out in the Table below. The 28 February 2013 MYPD3 decision `provides that the affordability subsidy charge is recovered from key industrial and urban non-municipal customers. Consequently, the large industrial and urban (non-municipal tariffs paying the affordability subsidy) will on average experience an additional average 0.49c/kWh from 1 April 2019/20 that is an additional 0.48% to the 1 April % increase; an additional 0.9% from 1 April 2020/21 and an additional 1.29% from 1 April 2021/22. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 61 of 86

62 Revenue Recovery TABLE 26: STANDARD TARIFF CATEGORY INCREASES Average annual Standard tariff Application 2019/20 Application 2020/21 Application 2021/22 15% 15% 15% Municipalities: Municipalities - effective 1 July 17.60% 14.20% 15.20% Eskom direct customers (non-municipal tariffs): Businessrate; Public Lighting; Homepower; Homelight 60A; Landrate; Landlight 15.00% 15.00% 15.00% Megaflex; Miniflex; Nightsave Urban; WEPS; Megaflex Gen * Affordability subsidy charge (where applicable) 15.41% 15.71% 15.84% * Other tariff charges 15.00% 15.00% 15.00% Ruraflex; Nightsave Rural; Ruraflex Gen 15.00% 15.00% 15.00% Homelight 20A Block 1 (>0-350kWh) 15.00% 15.00% 15.00% Block 2 (>350kWh) 15.00% 15.00% 15.00% 10.5 Environmental levy recovery As part of the ERTSA submission, an environmental levy charge rate(c/kwh) is used to recover the costs of the environmental levy from all customers. For Standard tariffs, the environmental levy recovery is embedded in the energy tariff charges. For local NPA and export sales an explicit environmental levy charge is applicable. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 62 of 86

63 Integrated Demand Management (IDM) 11 Integrated Demand Management (IDM) In terms of Section 14 of the MYPD methodology, Eskom is required to implement Integrated Demand Management (IDM). The IDM role in Eskom is a vital mechanism to manage the electricity supply and demand balance using a multi-pronged energy management approach. IDM is a business unit within Eskom with the versatility to provide support across all Licensees to benefit from efficient supply and demand management. In this application, the IDM allowable costs are included in the Distribution Licensee due to the IDM s involvement in initiatives to grow sales and optimising network capital. From 2008 to 2017 Eskom experienced a supply shortfall and thus IDM focused on energy usage reduction. Currently a phase of relative stability is being experienced and for certain hours of the day the country has operational reserves, supporting sales growth. Irrespective of whether or not South Africa is in a period of operational excess or constrained supply, the system demand profile has a significant impact on the future supply requirements, the sources and cost of generation. The system load profile is becoming more peaky, resulting in high production cost during peak periods and low power station utilisation during the night; together with a reduction in demand during the day due to growth in renewable generation (duck curve effect). In particular, IDM is required to play a significant supporting role to the System Operator by providing demand response (DR) to maintain adequate operating reserve margins through the supplemental and instantaneous DR programmes which reduce evening peak demand in the industrial, commercial and residential sectors. IDM will also continue to be used to optimise capital expenditure on constrained networks by deferring network upgrades through localised demand-side management programmes where feasible. The focus of the IDM function will transition to also support sustainable economic growth by promoting energy efficient technologies for new growth. In addition, improving productivity and energy efficiency of new electricity usage could bring about positive investment decisions. Past experience has proven the valuable contribution of IDM assisting to stabilise the electricity system. The demand/supply situation is cyclical and maintaining the IDM capacity is therefore essential. The fact is that the original IDM capability was rooted in the electricity sales and retail environment. During early 2000, the four retail brands were used to actively sell electricity to the key market sectors. This sales capacity morphed into an energy Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 63 of 86

64 Integrated Demand Management (IDM) efficiency and demand management function IDM. The current task at hand is once again to revive and develop the sales growth skills and new market development opportunities. Therefore, having an IDM capacity that uses the principle of efficient energy as a means to support both excess and constrained supply situations will be a considerable asset to the industry. The IDM sales growth contribution includes providing product development solutions underpinned by the principal to support sustainable economic growth by promoting energy efficient technologies for new growth. Additionally this is informed by the perspective that improving productivity and energy efficiency of new electricity usage could bring about positive investment decisions for South Africa. The sales growth initiatives described in Annexure 4: Product development initiatives all employ the IDM business unit resources. The IDM costs for the allowable revenues cover the Energy efficiency demand-side management (EEDSM), operating expenses as well as measurement and verification costs. TABLE 27: IDM COSTS DURING THE MYPD4 Total cost (R'million) Actual Projection Application Application Application Forecast Forecast 2017/ / / / / / /24 Employee benefit cost Other cost Core operating costs EEDSM Programme: Irrespective of whether or not Eskom is in a period of operational excess for certain hours of the day, or constrained supply, the system demand profile has a significant impact on the future supply requirements and the sources and cost of generation. Eskom s system demand profile results in high production cost during peak periods and low power station utilisation during the night. IDM therefore support customers to implement processes and technologies to shift demand from peak to off-peak periods. Not only do customers benefit from a tariff perspective, but Eskom in the short-term reduces generation cost and in the long-term delays generation expansion, thus providing a win-win solution. With the addition of significant volumes of renewable and specifically sun-based energy sources, Eskom will have excess operational capacity during the mid-day. New technologies and demand management programmes will be required to shift load to, or increase sales during this period. By introducing flexibility in optimising the system load profile and supporting an optimal future generation mix, IDM remains a key financial and operational driver for both sales growth and demand management. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 64 of 86

65 Integrated Demand Management (IDM) 11.2 Measurement and Verification (M and V) Measurement and verification is the independent third party measurement, verification and tracking of demand savings realised by project developers in the implementation of DSM technologies. The measurement and verification programme is independently managed by the Assurance and Forensic department of Eskom. This department has contracted a number of University measurement and verification teams to independently measure, verify and report the verified savings. This improves the credibility and acceptability of the reporting to the various stakeholders. As and when needed, additional university teams may be contracted. Planning and budgeting for the measurement and verification function is largely dependent on the work volume received from IDM. Contracts are performance based, hence the M&V needs to be performed for up to 5 years after project implementation. These activities and expenses on IDM projects or programmes are recovered from the IDM budget, and are therefore included in this plan Marketing The IDM marketing and communication objectives include influencing electricity consumption patterns for the benefit of Eskom, the customer and South Africa by promoting Eskom s multi-pronged energy management approach. The current marketing focus is to develop marketing and communication strategies and packaging of the comprehensive solutions portfolio which includes: National and niche financial incentives; technical solutions and expert advice aimed at the increasing sales in business sectors including agricultural, commercial, industrial and mining; Promoting the Internal Energy Efficiency programme; Educating consumers and learners on the value of electricity. Within the industrial and commercial sector there are numerous subsectors, each with specific technical environments and business objectives. This involves a broad scope and complexity of strategies, identification and engagement of key stakeholders, appropriate communication channel selection and messaging. The marketing initiatives and programmes include: various business marketing and communications campaigns, a schools programme, marketing collateral and content development for print and digital platforms. The initial solutions portfolio development focused on the low hanging fruit, within key customer segments, where Eskom still had access to both the market and customer Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 65 of 86

66 Integrated Demand Management (IDM) intelligence to develop solutions that met the customers expectations. Furthermore, to design and develop, strategic solutions based on a more in-depth understanding of the existing and future customer s expectations within all categories need to be sourced. Gathering customer/market intelligence, marketing insights, research and concept testing are critical inputs into the proposed solutions. In the past Eskom had a clear understanding of current and future energy consumption requirements and cost impacts in our customer base due to the slow evolving markets. However, with the ever evolving world-wide economic landscape, the introduction of the renewable energy revolution, Eskom s capacity constraints, the energy efficiency consciousness of our customers, and the growing green economy the needs of our customers have become more complicated. For Eskom to increase its sales growth sustainably there is a need to better understand our customers requirements, our competitors and new developments in the energy space IDM solutions development IDM solutions development will assists in the creation and implementation of solutions with mechanisms to support energy and demand management, and strategic sales growth. IDM has developed an in-depth understanding of the customer base, their needs, electricity technologies and pricing related matters. IDM also has a strong product development capability that is currently in use as the base for new product development for sales programmes. The IDM product development capacity will continue to be used to develop specific offerings for different markets and economic sectors. This will be based on detailed electricity costs and an understanding of customer cost structures, accurately priced market solutions assist in generating additional sales. The perspective to support sales growth in the short-term is that sales, even if incentivised, will create an additional financial contribution that would not have been possible without such incentives. This additional contribution to Eskom s fixed cost will reduce the unit cost of producing electricity, ultimately to the benefit of all consumers. No funding for sales related incentives is applied for in the application this will be funded from additional growth in revenue. Refer to Annexure 4: Product development initiatives for more details. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 66 of 86

67 Integrated Demand Management (IDM) 11.5 Demand Response The demand response (DR) programme will be undertaken to support the System Operator with power system security, adequate daily operating reserves and generation cost optimisation. Manpower costs for the DR programme is included in this application. The Supplemental DR programme provides a day-ahead demand-reduction when needed in order to optimise supply costs, Instantaneous DR programme provides instantaneous demand reduction in cases when an unexpected drop in system frequency occurs. This provides a mechanism to protect the system from events (such as the combined effect of the supply reduction from the photovoltaic (PV) systems in the late afternoons and the quick pick-up in peak demand or when a large generator trips); 11.6 National Advisory Services National advisory services guide customers in terms of best energy use practices in the industrial, commercial and agricultural sectors and positions Eskom favourably in these markets. The regional advisory teams gained extensive sales and marketing experience from the Electricity Retail Brands, and can assist Eskom to increase sales Other strategic interventions There are a number of other IDM planned strategic interventions: Maintaining and growing our market presence, engaging customers on their operational processes relating to energy consumption and doing this through direct customer and sectorial engagements; Internal Energy Efficiency programmes to reduce operational costs, reduce Eskom s carbon footprint, position Eskom as a responsible corporate citizen and meet anticipated legislative requirements. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 67 of 86

68 Annexures 12 Annexures 12.1 Annexure 1: Commodity Price Assumptions Figure 1: New Macquarie metals and bulk commodity price forecasts Source: LME, TSI, CRU, Metal Bulletin, Macquarie Research, June Annexure 1: Per sector forecasted sales analysis Overview Eskom as a utility experienced declining sales from 2007 when the global financial crisis took its toll on global economies. We saw a steady and gradual recovery ultimately peaking in Unfortunately this recovery was not sustained and was followed by a sharp decline in 2012 due a number of reasons. These included supply constraints, the effects of the recession reaching South African shores, a decline in the GDP growth, accelerated demand-side management (DSM), as well as the slowdown of commodity markets which had a negative impact on energy consumption levels. It is expected that negative pressures on consumption will continue due to the impact Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 68 of 86

69 Annexures of price elasticity, continued low GDP growth and suppressed commodity prices during the entire MYPD4 period ( ); See Graph 1 and Graph National Energy Consumption (GWh) Graph 1 Note: to 2017 is actual consumption while 2018 to 2023 (black line) is the MYPD4 Forecasted consumption GDP % ASSUMPTIONS 2018 TO GDP Act growth Eskom Treasury Consolidated view Graph 2 Note: to 2017 is actual % GDP growth (red line) while 2018 to 2023 (green line) is MYPD4 forecasted % GDP growth. % GDP forecast is an average from different sources. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 69 of 86

70 Annexures Decline in Sales It is a well-known fact that there exists distinct causality between electricity consumption and economic growth in South Africa. That means economic growth causes electricity consumption growth; while electricity consumption growth also causes economic growth. That being the case, it is important to mention that the advent of green technology in the energy space and the rise of various Independent Power Producers (IPPs) together with a trend of self-reliance among large electricity may impact Eskom sales. The massive and permanent savings initiatives implemented in most major Municipal areas together with the availability of smart technology resulting in energy efficient appliances and efficient green buildings has had a dampening effect on consumption levels. The adverse impact of this trend on electricity consumption has been taken into consideration for the MYPD4 forecast. For individually forecasted large Mining and Industrial customers, a bottom-up approach focusing on individual production plans, expansions, curtailment of capacity as well as applicable economic indicators form the basis for the MYPD4 forecast. Prolonged strikes in the Platinum sector during recent times have had a permanent detrimental impact on new projects in this sector. Gold Mining has been battling the fight to find feasible ways of mining marginal old mines or face retrenchments of thousands of workers at a time when unemployment is alarmingly high. Significant losses have been experienced at large Industrial customers with companies scaling down or closing shop on the back of weak commodity prices and suppressed demand for their product. The decline in energy consumption was mainly from industrial, mining and distributor sectors that are outlined in the following sections. a) Industrial Sector The decline in the Industrial sector can be explained by looking at some of the major contributors; those being the Aluminum, Ferro Smelters, Iron Smelters and Titanium sectors. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 70 of 86

71 Annexures GWH Industrial Sales Graph 3 Note: to 2017 is actual consumption while red line is MYPD4 forecasted consumption The sharp decline experienced in the Aluminum sector is mainly due to the permanent closure of one of the big smelter. The ailing commodity price resulting in weak world demand for Aluminum will also have a lasting impact on energy consumption in this sector for the duration of the MYPD4 period. GWH Aluminium Graph 4 Note: to 2017 is actual consumption while red line is MYPD4 forecasted consumption Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 71 of 86

72 Annexures Sasol commissioned their own gas generation plant and became more than 90% selfsufficient in their demand for electricity. The Ferro and steel smelting industry realized a drop in consumption due to the very high winter prices, low local and global demand for their products due to the commodity price collapse and the cheap imports coming from China which led to diminishing orders and downsizing and closure of customers. See graph 5 and 6 for the Ferro and steel sector decline. The smelting industry also opted to take out furnaces during the three winter months to save on costs due to the high winter prices of electricity. Many customers are downsizing and some are considering full closures. Three major customers are either on business rescue or closed their doors permanently. Their combine impact alone amounts to a reduction of GWh. GWH Ferro Smelters Graph 5 Note: to 2017 is actual consumption while red line is MYPD4 forecasted consumption Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 72 of 86

73 Annexures GWH Iron & Steel Smelters Graph 6 Note: to 2017 is actual consumption while red line is MYPD4 forecasted consumption The Titanium sector posted a decline in sales mainly due to the closure of furnaces. This was caused by weak commodity prices resulting in reduced production levels. The Titanium sector is expected to fully recover and maintain strong growth levels on the back of favorable titanium prices; see Graph 7. GWH Titanium Graph 7 Note: to 2017 is actual consumption while red line is MYPD4 forecasted consumption Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 73 of 86

74 Annexures b) Mining Sector Policy and regulatory uncertainty in the mining sector has negatively impacted new investments with the Chamber of Mines reporting a 57% decline in Net investment since The impact of higher than inflation increases in domestic input costs for electricity, labour, transport and steel will have unfavorable consequences for future growth and expansion of this sector. The slump in Mining production in South Africa was felt strongest in the Platinum and Gold sectors. Both these sectors are experiencing massive rationalisation drives to ensure the future viability of major stakeholders. GWH Total Mining Sales Graph 8 Note: to 2017 is actual consumption while red line is MYPD4 forecasted consumption The Platinum sector has been impacted more as a result of the diesel emission scandal in the motor industry and the subsequent trend of car manufacturers and consumers alike moving away from diesel powered vehicles. Going forward the global car market is still expected to show good growth while the expansion in the electric vehicle market is expected to have a marginal impact on the demand for platinum. A surge in demand is expected from the glass and oil refining industry and CRU reports a rising output of platinum in South Africa with a few new projects coming online over the MYPD4 period. The Gold sector realized a significant drop in energy consumption over the past few years due to cost pressures which resulted in many mines becoming unprofitable and resulted in down scaling and shaft closures in many of the mines. The cost pressures results from high labour cost due to industrial actions, very deep mines which require costly hoisting and Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 74 of 86

75 Annexures expensive cooling due to high underground temperatures. The current ore bodies are very deep and of much lower grade while safety issues and work stoppages are hampering production. With the persistent low gold price and relative strong rand over the past years, it was not profitable to mine many of these older shafts. GWH Platinum Sector Sales Graph 9 Note: to 2017 is actual consumption while red line is MYPD4forecasted consumption GWH Gold Sector Sales Graph 10 Note: to 2017 is actual consumption while red line is MYPD4 forecasted consumption Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 75 of 86

76 Annexures c) Distributor Sector This Distributor sector encompasses all the municipalities and metros in South Africa. It is very sensitive to temperature and rainfall variations. There is also a very strong correlation between this sector and the national GDP growth. This correlation can clearly be observed when comparing the trends in graph 2 and total distributor sales in graph 11 below GWH Distributor Sales Graph 11 Note: to 2017 is act consumption while red line is MYPD4 forecasted consumption The recession in 2008 can be clearly seen in graph 11 above. The recovery from the economic recession was strong and it reached its peak during 2011 & This growth was also boosted by the world cup that was hosted by South Africa. Supply constraints that started in 2007/08 manifested again in 2012 and power buy backs were introduced. Coinciding with this supply constraint economic growth slowed down mainly due to the sluggish world economic growth. Strong Demand Side Management signals and incentives, which were introduced to slow down demand in energy consumption and the high tariff increases, manifested itself in the form of reduced sales due to the price elasticity effect, especially in the lower LSM segments. The introduction of solar geysers, efficient lights, PV panels and energy efficient appliances all contributed to significant savings in this sector. These savings translate into a permanent loss of energy consumption from consumers in this market. Eskom Holdings MYPD4 Revenue Application FY2019/ /22 Page 76 of 86