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INTEGRATED RESULTS PRESENTATION
KING III APPLICATION
 
   



Chief executive's report

Collin Matjila   Eskom’s going-concern status will continue to be a key focus for the coming year as the revenue shortfall created by the MYPD 3 decision cannot be solved through cost savings and efficiencies alone – cost-reflective tariffs remain a requirement. Eskom has to balance short-term priorities with long-term sustainability requirements

Over the next several years, South Africa’s electricity shortage will be alleviated as new power stations begin feeding power into the grid, providing improved security of supply to businesses and households. We still have some way to go before this vision becomes a reality. This integrated report reflects the complex challenges we face in re-orienting our business while ensuring a stable supply of electricity.

Eskom is doing what needs to be done. We have outlined a four-year strategy premised on our eight strategic objectives to build a sustainable future, based on the following seven sustainability elements:

Sustainable asset creation
Financial sustainability
Operational sustainability
Building a sustainable skills base
Environmental sustainability
Transformation and social sustainability
Building a solid reputation

During 2014/15, our primary focus will be on the first three elements – asset creation, financial and operational sustainability – where the material challenges to the business are most immediate. Safety will remain an overarching priority.

The power system will remain constrained until units from the capacity expansion programme come online. During this time, all South Africans have a role to play in using energy efficiently and reducing demand on the system, particularly during peak hours.

This report reviews our performance in terms of the eight strategic objectives. It shows where we have made progress, where we are lagging behind and what we are doing to ensure that our business continues to support economic and social development in South Africa and the region.

Becoming a high-performance organisation

Safety

Safety is at the centre of our zero harm policy. Overall safety performance has been improving over the past three years but there are still concerns related to contractors. We are working with contractors to ensure that all safety requirements are met. Non-compliance is not tolerated.

At the Ingula pumped-storage construction site, a single accident claimed the lives of six contractors in October 2013. In the wake of this tragic incident, we have continued to reinforce all safety practices on site and continue to implement improvement actions.

Our thoughts and prayers go to all the families, friends and colleagues of the employees and contractors who passed away in the line of duty this past year:

Eskom employees
 
Contractor employees
Llwellyn Fredericks   Maurice Antonio
Mthunzi Majeke   Federico Caasi Jr
Mulimisi Piet Mamburu   Dennis Casale
Saul Legstom Micambeni   Bongani Tom Dhlamini
Nigel Roger Roelfse   Majara Lesaoana
    Lucas Masilela
    Mcatsane Thokozane Mbebe
    Malan Mjoli
    Selby Velaphi Mkhwanazi
    Benzile Mlotshwa
    Daniel Mthiyane
    Sinethemba Ndzoyiya
    Thembalakhe Ntsethe
    Khaya Eric Nukani
    Tsepho Justice Rakcotsoka
    Arno Reynders
    Abias Tobe
    Mojalefa Tshwaela

Technical performance

In line with the Generation sustainability strategy, Eskom is implementing appropriate levels of planned maintenance based on what is necessary to ensure long-term plant health while remaining cognisant of current system constraints, compliance, safety and statutory requirements as well as the financial constraints.

The performance of the generating plant is under serious pressure, especially as Eskom tries to focus on driving sustainability through the execution of normal planned maintenance, while catering for short duration corrective maintenance opportunities. This is shown by the unplanned capability loss factor (UCLF) percentage for the year ended March 2014 which deteriorated from 12.12% to 12.61%. The higher UCLF percentage is an indication of the deteriorating plant health of an ageing power station fleet. The deterioration in UCLF and higher planned maintenance resulted in decreased plant availability of 75.13% for the year to March 2014 compared to 77.65% the previous year.

During the past year the two indicators of Transmission’s technical performance, namely the number of system minutes lost and major incidents, improved compared to the previous year, due to the sustained reduction in line faults and plant failures, as well as effective risk management.

The two indicators of Distribution’s technical performance, namely system average interruption frequency index and the system average interruption duration index, improved significantly during the year. The improvement is due to the increase in the number of customer network centres, maximising live-line work, reduction of outages due to technology solutions and improved maintenance.

Being customer-centric

Eskom’s has 5 232 915 customers as at 31 March 2014. A range of statistical perception and interaction-based customer surveys are used to measure customer satisfaction with Eskom’s service. Most of these surveys have indicated an improvement in customer satisfaction in this year compared to the previous year. Despite the number of system emergencies, the proactive manner in which Eskom informs its customers of the system status, via twice daily reports, as well as the KeyAlert SMS messaging system, has made a difference.

Customers responded admirably when Eskom declared power system emergencies during the year and reduced demand by 600MW in November 2013, by 340MW in February 2014 and by 1 160MW in March 2014.

Building strong skills

Eskom is a complex business that requires a diverse skills set that must be maintained and developed. These are skills that we cannot do without and training remains a priority as we build for the future.

As at 31 March 2014, we had 5 160 technical learners in the pipeline (engineers, technicians and artisans) as well as 4 325 learners being trained to contribute to the socio-economic development of the country’s youth.

The construction of new power stations is South Africa’s largest capital investment project. The capacity expansion programme employs over 40 0001 people, 8 930 of whom have benefited directly from skills training.

The Medupi experience has also underlined the need for Eskom to increase its project-management capacity. To this end, Eskom’s project management training centre of excellence and the Eskom power plant engineering institute have made progress by collaborating with various universities, such as the smart grid centre development at the University of KwaZulu-Natal.

1. The 25 181 jobs created referred to on pages 148, 150 and 172 relates to contractors that have been on site for a minimum of three months.

Leading and partnering to keep the lights on

Keeping the lights on

We are committed to keeping the lights on, but we cannot afford to do so at all cost. We need to operate within our financial means and in a way that does not compromise the sustainability of the national electricity grid, the natural environment, the safety of our people and surrounding communities.

A range of short-term interventions are in place to assist us in meeting the demand for electricity, especially during peak hours, while new power stations are under construction. These include the mass rollout programmes, which distribute energy-saving light bulbs to residential customers, and the 49M campaign to encourage energy-efficient behaviours to achieve an overall target of 10% energy demand reduction. Eskom has also continued the implementation of its demand response programme to sign up customers to reduce demand for compensation should the power system require it.

The MYPD 3 tariff determination sharply curtailed funding for integrated demand management (IDM) and made no award for the demand market participation programme beyond year two of the MYPD 3 period, and therefore Eskom has to focus on accessing alternative funding for Eskom’s IDM programme and also recovering it through the regulatory clearing account adjustment. The peak demand electricity reduction of 410MW achieved through IDM initiatives exceeded the target of 379MW. Eskom continues to improve the internal energy efficiency of its facilities (power stations and office buildings) and realised annualised energy savings of 19GWh from new IDM projects for the year ended 31 March 2014, exceeding the target of 15GWh.

Over the past year Eskom has worked hard to keep the lights on and, apart from 14 hours in March 2014, we have done so successfully. When the power emergency was declared on 6 March 2014, Eskom followed approved load shedding procedures. This occurrence – the combined result of a low reserve margin and loss of load at two power stations, due in part to coal-quality issues – lasted for 14 hours. It differed vastly from 2008, when South Africa experienced prolonged periods of load shedding. It was unavoidable and we apologise for any inconvenience caused.

Decreasing the maintenance backlog

While no load shedding is forecast in the near future it remains a possibility as the power system will remain constrained until units from the capacity expansion programme come online. The status of the system is also affected by changes in atmospheric emission licence conditions. Much hinges on the balancing of the demand and supply side options in the interim without compromising the sustainability of the existing Eskom generation fleet further while the capacity expansion programme is being completed. Our ability to supply continuous power to the grid thus depends on both the adherence to required maintenance programmes to improve the performance of the current fleet and our ability to access and lever demand side management options.

The Generation sustainability strategy to improve performance over a period of five years to 2017/18, involves having the generating fleet operate at 80% availability, with 10% of the fleet’s capacity scheduled for maintenance and a 10% allowance for emergency outages. This has enabled us to do more planned maintenance in 2013/14 than in the previous year. In 2013/14 maintenance was focused on design-based maintenance, 8% of total 10% planned maintenance, while the remainder was used for short-term emergent risks. Some outages were deferred due to supply-demand constraints, delaying improvements in plant performance.

To ensure that the most crucial maintenance is done, our technical governance committee prioritised the outages that had to be completed during the year and these were carried out.

We are taking several steps to reinforce operational stability over the short to medium term. The Eskom board has approved some flexibility to the execution of planned maintenance during periods of a tight power system to ease pressure on the reserve margin. We are also working with some large industrial customers to strengthen power-reduction agreements. For the future, we are exploring the conversion of open-cycle gas turbines to run on either natural gas or diesel to reduce cost.

Delivering capacity expansion

Eskom spent R59.8 billion on capital expenditure in 2013/14, R2.5 billion less than budgeted.

The build programme is a priority for both the board and management:

We completed the return-to-service programme during the reporting period. All three stations (Camden, Grootvlei and Komati) are fully operational. The last unit of this project – Komati power station’s Unit 3 – was commissioned in September 2013, bringing the total amount of generating capacity for return-to-service units added to the grid since 2005 to 3 741MW
The refurbishment projects, despite the ongoing challenge of outage constraints, have made good progress. All the Kriel units have now been refurbished, with the final unit (Unit 5) synchronised to the grid on 15 March 2014. Furthermore, three of the six Matla units have been refurbished, with the third unit (Unit 5) synchronised to the grid on 25 March 2014. Delays were experienced at Duvha due to outage movements, hence the refurbishment programme will only start during 2014/15. The development of the Generation outage management plan takes into account the outage schedules required for the refurbishment projects
We remain on track for synchronisation of Medupi Unit 6 during the second half of 2014. Commissioning of the first unit has started, and we are working with contractors to ensure that they adhere to agreed schedules and processes. Key challenges include finding solutions for the control and instrumentation systems. Eskom will submit its claims to contractors to recover costs and compensate for delays incurred in accordance with the relevant works contracts
The Kusile power station Unit 1 is scheduled for synchronisation by the end of 2015. The key challenge is finding a solution for control systems to avoid repeating delays experienced at Medupi. There was an increase in productivity at Kusile over the past year. Four medium-term contracts have been signed for coal supply to Kusile power station during the commissioning phase. The conclusion of long-term coal and limestone supply agreements for Kusile is yet to be finalised
Work continues at the Ingula power station, but the tragic incident that cost the lives of six contractors has affected the schedule. We have taken a range of steps to investigate the incident and prevent similar incidents. Work to install turbines and generators will begin soon. As a result of the accident, the synchronisation of Unit 3, that was initially scheduled for the second half of 2014, is now targeted for the second half of 2015

A total of 811km of transmission power lines and 3 790MVA of transmission substation capacity were also commissioned during the course of the year. Construction on the 100MW Sere wind farm is progressing well, with 69% of the tower foundations and 17% of the turbines completed.

The turbine hall under construction at Medupi
power station

When the build programme is completed in 2019/20, Eskom will have increased its capacity by
17 384MW1. Some of our generating plant will reach the end of their life cycles over the next five to 10 years and, as the economy grows, so too will the demand for electricity. While the government’s Integrated Resource Plan (IRP 2010) indicates that new base load capacity is required beyond the Medupi and Kusile power stations, no new base-load capacity has been allocated to Eskom yet. Eskom is working with the shareholder to ensure that planning for future capacity is undertaken in a timely manner.

1. Capacity increased from 17 100MW reported in 2012/13. The concentrated solar power plant (100MW), project Illanga (the 150MW photovoltaic renewables project to supplement auxiliary power usage by power stations), in addition to 34MW enhancements to existing plant capacity, are now included as there is more certainty regarding these projects.

Reducing Eskom’s environmental footprint and pursuing low-carbon growth

Environmental compliance remains a priority in our operations. During the reporting period we spent R3 billion on improving the generating fleet’s environmental performance. During the year the water usage improved relative to the previous year while the particulate-emissions performance remained the same. We also met the internal targets for both indicators.

Despite these measures, there is the risk that our older coal-fired stations will not be able to consistently meet the limits set by new atmospheric emission licences, which came into effect in April 2014 and the minimum emission standards which come into effect in 2015. Should this risk materialise, the resulting legal consequence, penalties and significant financial impact may make it unsustainable to continue running these ageing stations at full capacity, which would have implications in terms of our ability to meet demand and do maintenance on the rest of the fleet. We are committed to environmental sustainability but believe that a balanced approach is necessary to ensure environmental sustainability whilst supporting economic growth and access to affordable electricity.

Eskom is engaging with local authorities to align the new atmospheric emission licences with the capability of installed technology and considering the current operating conditions. To address the risk related to complying with the minimum emission standards we have applied for a five-year extension on the new licence terms for some of our generating plant. This will give us the time to retrofit emissions-filtering technologies to the plant to ensure that we will be able to reliably abide by the new licence terms. We remain committed to working with the authorities to limit the negative effects on public health and so maximise our positive impact on society.

In the case of the Kriel power station, Eskom’s request to increase the particulate-emissions limit and to allow a grace period for when emissions exceed the limit of the new licence, has been denied. Every effort will be made to comply with the conditions of the licence. The new limit does not allow the station to continuously operate at its full rated power and will require load losses.

We also invest in renewable energy indirectly by purchasing electricity from independent power producers (IPPs) that use wind, solar power, biomass, landfill gas and small hydro technologies to generate power.

Critical for Eskom at this point is ensuring a balance between security of supply, financial sustainability and environmental compliance and to responsibly manage the trade-offs that are required.

Securing Eskom’s future resource requirements

Eskom’s thermal power stations require primary energy (fuel in the form of coal, diesel and uranium) as well as water to function. These need to be secured well in advance, in the correct volumes, at the appropriate quality levels, and at the best possible price if we are to generate sufficient electricity in a sustainable, cost-effective way.

Overall coal stock days were at 44 days on 31 March 2014, exceeding the target of 42 days.

Procuring sufficient coal of the appropriate quality remains a challenge. The calorific value of coal at Arnot, Matla and Tutuka power stations remains lower than required by the power station design, causing load losses. The high ash content continues to impact ash handling plant reliability and boiler performance. In addition, stone-contaminated coal affected performance at these stations. Technologies to screen coal for stones and metal have been installed at Tutuka and Arnot power stations to assist in mitigating this risk.

Coal supply was also a factor in the rotational load shedding implemented on 6 March 2014. Prolonged rainy weather had left coal stocks and open-pit coal mines wet. Fine coal, when wet, congeals and sticks to conveyor belts, restricting the amount of coal that can be delivered to the boilers resulting in the affected power stations generating less electricity.

Several projects are underway to ensure that our new coal-fired power stations have sufficient water resources when they begin operating. The first phase of the Mokolo Crocodile water augmentation project reached the 10.3km mark during the year, increasing the water supply to the area by 37% and transporting enough water to supply four of the six Medupi units.

Looking beyond short-term supply issues, we have two strategic concerns. First, for at least the next two decades, Eskom needs to be able to obtain coal of an acceptable quality, at an affordable price, from South Africa’s coal reserves. Second is the need to take advantage of the resources in the southern African region. We continue to interact with government, as well as our suppliers, in an effort to ensure that our resource needs can be met over the long term.

A strategy has been developed to take full advantage of the benefits of gas. In the short term Eskom is undertaking a conversion of existing open-cycle gas turbine (OCGT) installations which will allow the OCGTs to switch from expensive diesel to more affordable gas. It is desirable for Eskom to participate in upstream gas activities to expedite the production of unconventional gas such as coal-bed methane and shale gas, which could enable cost-competitive base-load capacity. Longer term initiatives also include acquiring gas from Mozambique through existing and planned infrastructure and possibly the building of closed-cycle gas turbines.

Eskom supported the government of South Africa in concluding an inter-governmental agreement between South Africa and the Democratic Republic of the Congo (DRC) on the proposed Grand Inga hydro-electric project on the Congo River.

Implementing coal haulage and the road-to-rail migration plan

We transported 11.6Mt of coal by rail during 2013/14, reaching our target of 11.5Mt and improving our performance by 15% relative to the previous year. Railway lines are being built to supply the new coal-fired power stations. The route for the Majuba heavy-haul railway line is being cleared and construction is underway. When the 68km rail is completed in 2017, this dedicated line will transport 14Mt of coal a year from Ermelo to Majuba power station. The railway line for coal transportation to Kusile also saw some progress when protracted negotiations were concluded for the purchase of a servitude on a farm in the path of the line.

Pursuing private-sector participation

Eskom welcomes government’s recent announcements regarding additional generation capacity through renewables, co-generation and coal technologies. These will augment the national electricity supply and reduce pressure on the grid when they come into operation.

Eskom has successfully connected 21 renewable energy independent power projects (RE-IPP) (representing a total capacity of
1 076MW) to the grid. Of these projects a total of 467.3MW is currently available to the system.

Total energy procured from IPPs for the year amounted to 3 671GWh at a cost of R3 266 million (averaging 88c/kWh) which is
R721 million higher than the NERSA decision for 2013/14.

As the IPP programme expands, we look forward to growing participation by private-sector players, as well as greater certainty regarding Eskom’s role in acquiring and building new generation capacity.

Transformation

Maximising Eskom’s socio-economic transformation

Transformation is both a business and social imperative. We continued contributing to South Africa’s economic transformation in line with available resources and all performance targets for broad-based black economic empowerment (B-BBEE) attributable expenditure was exceeded for the year ended 31 March 2014. The local sourcing in the capacity expansion programme for the year was 54.6%.

The expiry of Eskom’s exemption from the Preferential Procurement Policy Framework Act (PPPFA) has required that a number of commodity strategies and targets be amended. We will continue to seek innovative ways to further advance the supplier development and localisation mandate in collaboration with other state-owned companies, and within the ambit of applicable procurement regulations.

The Eskom Development Foundation NPC oversees our corporate social investment projects. A total of 357 443 people benefited from its R132.9 million investment in projects focusing on health, education, the environment, and small and medium-sized business development during the year.

We brought electricity to 201 788 households during the year as part of Eskom and the Department of Energy’s electrification programme, as well as to 112 schools. The Department of Energy has made additional funding available to extend the electricity network to rural and far-flung areas which will help accelerate progress towards universal electrification by 2025.

Internal transformation

Our employment equity indicators for black and female employees in senior management, middle management and professional positions all showed an improvement compared to the previous year.

We extended our employment equity plan, which was signed in 2010 and expired in March 2013, by a year to allow time to analyse our internal transformation progress and develop a long-term employment equity plan. The revised plan will be submitted to the shareholder in 2014/15.

Eskom has a highly competent management team in place. We recognise, however, that the vacancies at senior level needs to be addressed. This will be one of the first priorities for the incoming chief executive, who may also want to shape the management structure.

The Soshanguve manufacturing technology demonstration centre is a business incubator funded by the Eskom Development Foundation
The Soshanguve manufacturing technology demonstration centre is a business incubator funded by the Eskom Development Foundation

Ensuring Eskom’s financial sustainability

In February 2013, the National Electricity Regulator of South Africa (NERSA) awarded us an annual tariff increase of 8% over the period from 2013/14 to 2017/18, substantially lower than our request for 16% per annum. While we will be able to complete the current capacity expansion programme using existing resources, the tariff level awarded means that we will not achieve cost-reflective tariffs by 2017/18.
We will not be able to expand the investment asset base beyond current commitments, and it will be a challenge for us to meet all regulatory requirements.

The environment that Eskom currently operates in poses a number of challenges:

The revenue shortfall of R225 billion created by the MYPD 3 determination requires significant adjustments in the business
Lower than projected local electricity sales are exacerbating the projected revenue shortfall
We used the open-cycle gas turbine stations more since the tools we used to reduce demand in the past – particularly, power buybacks and the short-term power-purchase programme – are no longer available. We will not be able to continue this practice over the longer term as we cannot afford this nor maintain our liquidity buffer
Payments to IPPs, which are regulated in terms of their power purchase agreements, have increased, and the costs are currently higher than anticipated by NERSA. The regulatory methodology allows the recovery of prudently incurred IPP costs as a pass through with a timing delay in the reimbursement
There is increased pressure on the credit rating associated with the country’s credit profile and Eskom’s financial profile
Our credit ratings underpin our ability to borrow sufficient volumes at affordable levels. Eskom’s foreign-currency ratings are on the low end of investment grade (Baa3 from Moody’s) and second-lowest (BBB from Standard & Poor’s) investment grades. Both ratings have a “negative” outlook. In December 2013, Fitch affirmed Eskom’s long-term local currency issuer default rating of BBB+. Eskom is at risk of a further downgrade if South Africa’s sovereign rating, presently on “negative” outlook, deteriorates, or if our standalone financial profile weakens materially

In combination, these factors are putting a great deal of pressure on our financial sustainability. Accordingly, we are discussing possible funding options with the shareholder. In addition, we have applied to NERSA for the regulatory clearing account (RCA) adjustment. The RCA is necessitated by the fact that the revenue and expenditure approved for Eskom is largely based on forecasts. The MYPD rules require that from time to time a reconciliation of these variances be done in order to quantify over/under collection of revenue and over/under-expenditure on Eskom’s part. NERSA allows only expenditure that has passed the efficiency test. Should the results of the assessment indicate that Eskom has to re-imburse the customers, then the price of electricity would have to decrease proportionally to the RCA balance. Similarly, if the customers have to re-imburse Eskom, the price would have to increase. Depending on the quantum of the RCA balance, it is either carried over to the following financial year, or a tariff adjustment is effected in the following financial year or the MYPD is re-opened and the full stakeholder consultation process is undertaken before any tariff adjustment is allowed.

While we pursue these discussions, we will continue to strengthen internal efficiencies, defer spend where possible and reduce costs through our business productivity programme. However, cost-reflective tariffs remain a necessity for operational and financial sustainability.

We have identified and largely secured funding for the current capacity expansion programme and have sufficient liquidity to meet our immediate liability requirements. We are confident that we will be able to secure the remaining funding for the current capacity expansion programme. However, this will have to be balanced against the negative outlook from the rating agencies and the possibility of a downgrade due to the deterioration in the credit metrics.

Eskom achieved a group net profit of R7.1 billion for 2013/14 (2012/13: R5.2 billion) which was significantly affected by the profit on the embedded derivatives of R2.1 billion (2012/13: loss of R5.9 billion). The profit should be viewed in context of Eskom’s holistic financial position. The group is highly leveraged with a debt-to-equity ratio of 2.06 at 31 March 2014 (2013: 1.84). Eskom’s gross debt as at
31 March 2014 is R255 billion (2013: R203 billion) and will continue to increase as we execute our funding plan. Both the free funds from operations as a percentage of gross debt and gross debt as a percentage of earnings before interest, taxation, depreciation and amortisation ratios are significantly below investment-grade targets.

Conclusion

Eskom remains committed to its aspiration of sustainable development as demonstrated in our continued support, as an active signatory, for the United Nations Global Compact. Eskom is a UNGC LEAD company which means that we are seen as a leader in the sustainability field. As part of this commitment Eskom successfully piloted a UNGC LEAD board programme which is focused on driving the sustainability agenda through the boards of companies.

Eskom continues to confront a challenging set of financial and operational circumstances. In this context we remember the words of late former president Nelson Mandela: “It always seems impossible until it’s done.” All of our efforts are aimed at ensuring an uninterrupted supply of electricity to the nation without compromising the financial well-being of the company. Working with the shareholder – who has been very supportive – and with cooperation of all South Africans in using electricity efficiently, we will successfully meet these challenges.

Two of the 46 wind turbines to be erected at the Sere wind farm on
the West Coast

I would like to acknowledge the contributions of Mr Brian Dames, who served as our chief executive until the close of 2013/14. We thank Brian for his contributions to this organisation over nearly three decades. The executive committee also bid farewell to Mr Bhabhalazi Bulunga, group executive: Human Resources and Mr Kannan Lakmeeharan (divisional executive for the Office of the Chief Executive) and group executive: Technology and Commercial (acting) during the year.

A sincere word of thanks to Ms Caroline Henry, who acted as chief financial officer after the resignation of the former finance director, Mr Paul O’Flaherty, to whom we bid farewell in July 2013. Caroline drew on her extensive experience as the Eskom Treasurer to ensure a seamless transition.

Congratulations to Ms Tsholofelo Molefe, who has been appointed as our new finance director. I know she will apply herself to her new role with the same dedication and acuity that helped transform Group Customer Services into the efficient, effective division it is today.

Above all, I thank our 46 919 employees, whose talent, skill and commitment will make all the difference as we build the bridge to a sustainable future. We have a clear strategy in place – now we must execute.

Collin Matjila
Interim chief executive