Eskom pays smelters to shut down

Eskom is turning off energy-thirsty smelters as it struggles to keep the lights on. But the power utility is paying companies handsomely to shut down smelters for periods of up to three months, creating an economic perversity in that it is hiking tariffs but redirecting revenue from one area to another to get power on the grid.

In the past few weeks Eskom has struck “financially beneficial” deals with ferrochrome producers such as Xstrata, Samancor, Ruukki and Australian-based International Ferro. Those are just the firms that have made public pronouncements — many more furnaces have been shut down. Proposing export taxes on smelted products, Stuart Elliot, chief executive of the black-controlled, JSE-listed Merafe Resources, said this week that the Xstrata-Merafe Chrome Venture had been forced to close five of its 20 furnaces until May 31.

While neither Eskom nor the companies will reveal the actual amounts of the compensation, Eskom told the Mail & Guardian that it had signed agreements covering more than 500MW in load or capacity (more than enough to power a city like Bloemfontein, which uses around 400MW during peak times) through the buy-back programme.

Different strokes for different folks
Different payments were negotiated with the companies, but Eskom spokesperson Hilary Joffe said one of the key pricing benchmarks was that compensation should be less than the cost of running the open-cycle gas turbines, the most expensive to run. “We use these turbines only to get us through the peak times and tide us through the system.”

Eskom chief executive Brian Dames said recently that it cost the parastatal 38c for a standard power station to generate a unit of electricity, while electricity produced by the open-cycle gas turbines cost close to R1.40 per unit as they run off expensive diesel. Because of rising fuel prices, in February the latter cost rose to R2.50 per kWh.

Smelters, which are crucial in the downstream conversion or beneficiation of raw materials such as aluminium, platinum, titanium, iron ore, ferrochrome, copper and manganese, are the most energy intensive of all electricity-using activities.

Load-shedding crisis blamed on smelters
The smelters became the focus of public outrage at the height of South Africa’s 2008 load-shedding crisis, when Eskom attributed the bulk of its R10-billion loss to its contracts with the smelters, which reportedly consume as much as 5% of the country’s power. At the time Standard Bank chairperson Derek Cooper controversially suggested that the system could be stabilised immediately if Eskom ended its generous supply arrangement with BHP Billiton.

The resources giant has three aluminium smelting facilities: Hillside and Bayside in Richards Bay and Mozal in Maputo. Though it has been divesting from South Africa, BHP Billiton pays less for power when the aluminium price falls and more when it climbs.

Eskom won’t reveal details of the renegotiated BHP contract or updated figures on how much power smelters consume, but the utility’s top 140 energy-intensive users, mostly mining and industrial giants, consume about 40% of the country’s electricity. Of that figure, about 40% is sucked up by high-load smelters. It excludes smaller smelters that are supplied by municipalities.

While the economic merits of smelters and their value-add ability to create jobs is debatable, more smelters will be shut down during the next two years until Medupi comes on stream. “We’re certainly looking to do more buy-backs,” said Joffe. “Buy-back programmes are more immediate to get through the current crunch [and] to do maintenance before the winter. Our agreements are based on the companies not losing jobs and being able to deliver to their customers.”

Voluntary buy-back programme
While Eskom is actively encouraging its energy-intensive users to cut demand, Joffe said the buy-back programme is voluntary. “Customers who offer to shut down operations do it only if they’re in a position to do so. It could be those with excess capacity, so they close their most expensive plants and produce with their less expensive plants, or it could be those that are doing maintenance or that have no or few contracts.”

The buy-back programme seems to be working. Eskom’s weekly adequacy report showed an alarming drop in electricity supply in April, when the system was estimated to be down over 7 800MW. The latest report shows the system will be short of just 2 190MW in May.

In the past smelters were viable because South Africa had a surplus of electricity and it was therefore cheap. Since the early 2000s the companies and sectors that were dependent on a reliable and low-cost supply of electricity organised themselves through the Energy-Intensive Users Group and contributed to shaping the electricity sector policies, market model, grid code and regulations that were being developed by the department of minerals and energy at the time.

Now that Eskom is facing a supply and demand crisis and has had to push up its prices to fund its infrastructure expansion plans, critics reckon that to export smelted metals amounts to exporting electricity.

“Electricity is now the single highest-value component in the smelted metals that are exported,” said Cannon Asset Managers chief executive Adrian Saville. “If you are an energy-starved country like South Africa and are pumping energy into exporting these metals, then you are denying energy to another industry that might be a domestic value-add industry in terms of job creation and economic benefits.”

He said that keeping inefficient aluminium and ferrochrome smelters open, for example, could result in platinum mines being shut down. “Both are using subsidised energy, but in the one case you’re turning off the taps on scarce power that hasn’t been properly priced.”

He said it is perverse for Eskom to pay for smelters to be shut down. “On the one hand, they’re pushing up prices to more accurately reflect long-run prices of electricity infrastructure (capital and operating costs). If there is excess demand, you are now taking from one part of the private sector where you’ve charged higher prices and moving your revenue to another part of the sector where there is demand. Eskom is pushing the furniture around.”

It is worrying that five years into the electricity crisis Eskom is still behind the curve in planned infrastructure spend. “We’re off the pace. It’s a mess; a dire situation.”

Another solution is to impose high export taxes to stop companies from exporting low value-add goods. This is one of the proposals in the ANC’s policy discussion document on mining, where beneficiation is flagged as important. “There is a growing interest in finding new ways of increasing state revenues from mining/smelting in these times of high metal prices,” says the document.

“The first steps of beneficiation are often energy intensive (smelting), which is currently constrained by SA’s power shortages. Consideration should be given to importing low-cost and sustainable hydropower from other SADC states, which have enormous potential. These could be ring-fenced imports.”

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