IHS Global Insight Perspective | |
Significance | BHP Billiton is one of over 100 large consumers of power in South Africa who have been working on preferential negotiated pricing agreements (NPAs), which have left the state utility with major losses and exposure to markets beyond its energy base. |
Implications | The "sweetheart" deals became a major political issue after the power shortfalls of 2007–08 and remain in the spotlight following a decision to raise public tariffs by around 25% for the next three years in order to plug the hole in Eskom finances and fund necessary new capacity. |
Outlook | The conclusion of the BHP agreement after lengthy discussions will potentially enable Eskom to recoup some losses and importantly give it leverage in reviewing other NPAs, providing a welcome boost to revenues and financial stability at a time when the utility is looking to raise some US$52 billion for its five-year investment programme. |
Mining giant BHP Billiton has agreed to amend the terms of its power purchase agreements with South Africa's Eskom, as the state utility looks to new options for raising revenues to put it on a firmer financial footing. That follows Eskom's reported losses of US$1.2 billion in the last financial year, a large part of which was attributed to derivatives losses related to pricing contracts with aluminium producers such as BHP Billiton (see South Africa: 28 August 2009: South Africa's State Electricity Supplier Records Biggest Loss in History).
According to public comments, the new contract will no longer be linked to commodity (aluminium) price movements or foreign currency for power supplies to BHP's Mozal aluminium smelter in Mozambique and the Hillside and Bayside Smelters in South Africa. These facilities can make up nearly 5%—or 2,000MW—of South African power demand. No further details on the actual price formula have been released as yet, with the details still to be approved by the National Electricity Regulator of South Africa (NERSA) and a final agreement due to be concluded in the third quarter of this year.
BHP Billiton's units were among 138 intensive energy users reportedly given "sweetheart" terms by the state utility. These came into the spotlight in 2007–08, when South Africa started to suffer major power shortages, and have remained a political issue in the follow-on, which has seen successive power price increases for the rest of the population, including further increases of around 25% a year for the next three years. This will raise Eskom's average price to 41.6 South African cents (5.7 U.S. cents)/kWh from 33.6 cents/kWh in 2009–10, according to the utility. The Mercury reports that Eskom had said it had received 14.8 cents/kWh for the Mozal facility against an average total cost of power production at 27.3 cents/unit—not exactly equivalent measures given other costs of supply, but demonstrative of the scale of some shortfalls.
Other companies on one-to-one negotiated pricing agreements (NPAs) with Eskom include some Anglo-American units, Anglogold Ashanti, Mittal Steel, De Beers, Harmony Goldmines, and Sasol.
Outlook and Implications
The sweetheart deals largely date from an era of lower energy pricing and surplus capacity, when South Africa was doing all it could to provide a facilitating environment for international industrial investors in order to boost national production and also provide employment. Since then, hydrocarbon prices have rocketed, including those for coal, which is the primary feedstock in the country's power generation mix, resulting in the mismatch between pricing and generation costs, which helped contribute to the multi-billion-rand losses last year. The pricing formula also showed the problems with exposing the power utility to movements in other markets, including aluminium prices, which fell sharply in the year to March 2009.
With one major buyer now conceding (we presume) more favourable terms, Eskom is on a surer footing in negotiations with other mining and industrial buyers as it seeks to drum up the revenues for its 385-billion-rand spending programme from a mixture of internal and external sources. Further government action and consistency will also be required to support this effort and help minimise the costs of external financing to the state utility, with some residual doubts still over whether the state utility will play a part in footing the bill for wider industrialisation policy or whether cross-subsidisation is detrimental to the whole.