/ 9 February 2018

PIC caught up in Eskom’s woes

Stopgap: The PIC’s loan to Eskom was made to deal with the crisis at the utility caused by corruption and out-of-control costs.
Stopgap: The PIC’s loan to Eskom was made to deal with the crisis at the utility caused by corruption and out-of-control costs.

The Public Investment Corporation’s (PIC) decision to extend a R5-billion bridging loan to Eskom appears to have walked a fine line when it comes to the rules governing the management of public servants pensions.

But it was done to ensure that Eskom did not default on its financial obligations, plunging the economy into crisis.

“Ordinarily, the PIC investment mandate does not permit investments in entities with a sub-investment grade,” the PIC’s head of corporate affairs, Deon Botha, said. “However, in this instance, the bridging facility was granted with an explicit government guarantee, which mitigates the investment risk.”

Conditions attached to the loan include the government guarantee, that it be repaid in 30 days and that there was satisfactory evidence that Eskom has secured commitments from other financial institutions to meet its funding requirements to March 31.

The state-owned asset manager, which manages almost R2-trillion on behalf of the Government Employees’ Pension Fund (GEPF), came under fire this week for providing Eskom with the lifeline. The PIC and the GEPF had previously said they would not bail out ailing state-owned enterprises.

Last week credit ratings agencies Moody’s and Fitch further downgraded Eskom, which was already rated as sub-investment.

Botha said the bridging facility was to fund the utility’s operations during February and “to avert a situation where Eskom would have defaulted on its financial obligations”.

Concern persists about the wider risk Eskom poses to the economy and the government’s finances.

Should it default on its debt, most of which is guaranteed by the government, it would trigger cross default clauses, which would require the state, whose own finances are already stretched, to come up with about R350-billion.

Botha added, should the R5-billion not be repaid at the end of February, the government guarantee would be called in.

The GEPF, through the PIC, is exposed to R95-billion in Eskom bonds. Of this, R75-billion is guaranteed by the government. In addition, the PIC has a further R3-billion exposure in Eskom-linked money market instruments.

The utility has said it needs R20-billion to see it through to the end of March.

In a joint release by the GEPF and the PIC, they said Eskom was expected to get the funding it requires from banks.

“Three commercial banks have indicated that they are willing to further extend credit facilities to Eskom subject to the outcome of their respective due diligence processes, which are currently underway,” they said.

“To date, Eskom has demonstrated that it has secured financial commitments to meet its borrowing requirements over the short term.”

Nevertheless, the move has drawn fierce condemnation. Public Servants’ Association (PSA) general manager Ivan Fredericks said the union was shocked to learn of the decision, describing the loan as “underhanded”.

The union is also getting legal advice on whether it can declare the PIC’s board illegally constituted.

The financial situation of state-owned entities such as Eskom and SAA, which received R10-billion in government bailouts last year, was because of corruption, said Fredericks.

“There is no monitoring here and public servants are worried. We cannot turn a blind eye to [this abuse].”

The PIC met the PSA on Tuesday this week to discuss the details of the transaction and the union’s concerns.

“It is acknowledged that organised labour should have been consulted but the principal in this relationship is the GEPF. The PIC apologised to the PSA and committed to improve communication with all stakeholders and clients in future, together with the GEPF.”

In a press statement, the Democratic Alliance’s Alf Lees said the PIC may have breached its mandate by extending the loan. He questioned the PIC was acting in the best interests of pensioners, given that it chose to pour more money into Eskom despite its existing exposure to Eskom’s bills and bonds.

The DA is seeking a parliamentary briefing by Eskom before the budget later this month on how it will solve its liquidity crisis. The PIC must also account for its decision to make the loan, Lees said.

Managing director of Meridian Economics Grové Steyn said the loan would not address Eskom’s underlying problems.

At the release of its results, Eskom’s new leadership team acknowledged the more fundamental problem was Eskom’s capital structure, with its debt at unsustainable levels.

To address this, Eskom said it was considering approaching the PIC and development finance institutions such as the Industrial Development Corporation (IDC) and the Development Bank of South Africa to swap debt for equity.

But Steyn said this would be throwing good money after bad. Bondholders with government guarantees stood a better chance of being bailed out by the government if Eskom went belly up.

This was not the case if these institutions converted their debt to equity. Shareholders would have no guarantees and no claim in the event of losses, he said.

In addition, investors who took on equity expected higher returns commensurate with the increased risks.

Eskom itself would have to charge even higher tariffs to reward these investors so its cost of funding would rise even more, Steyn said, and the tariff increases could only continue up to a point before they became unsustainable.

“Everybody thinks it’s a funding problem but it’s a cost problem. Eskom’s costs are more than its revenues. That is not going to change if you fiddle with the funding. In fact, if you increase the equity in the capital structure, your costs are going to go up,” he said.

Eskom’s fundamental economics had to be resolved, which meant either increasing revenue or reducing costs. This was especially important in the face of increasing competition from renewable energy and stagnant demand.

In a research paper released last year, Meridian said Eskom should curtail its Kusile construction programme and decommission its older power stations to save costs.

Eskom, however, has said slowing its expansion programme would have negative effects such as paying penalties to contractors.

Given Eskom’s current liquidity crunch, it was now even more important to consider this, said Steyn. It would be painful and would involve paying penalties in the future. But this would probably only happen after a long period of arbitration, possibly up to a decade, during which Eskom could be restored to financial stability and the risk to the state could be avoided, he said.

But ultimately all of Eskom’s cost drivers, including its capital programmes, its coal procurement practices and its salary bill, would have to be scrutinised and addressed, he said.

“We are at the point where we have to make these decisions. Either we are going to trigger all these systemic risks to the economy [of an Eskom default or unsustainable government bailouts] or we are going to have to take these hard decisions.”