by Stef Terblanche

Electricity woes

Interesting twists and turns to Eskom/BHP Billiton spat

Energy analyst and technology publisher, Chris Yelland
Chris Yelland.jpg

The spat that recently broke out between state-owned electricity utility Eskom and its former sweetheart client, BHP Billiton, after Eskom set out to cancel contractual arrangements in terms of which it supplies electricity to BHP Billiton below production costs, seems to suggest it has nothing to do with the public interest. However, many people seem to think differently and questions about a potential clash of interests have arisen. 

Details of this tightly held deal, which is set to run until 2026, emerged in 2009 when Sake24’s mining journalist, Jan de Lange, started asking uncomfortable questions. He had spotted some inconsistencies in Eskom’s 2009 financial results that showed a R9.3-billion loss attributed to 'embedded derivatives'.

According to a report De Lange had actually been aware of the arrangement for some time and suspected something was amiss. After publication of Eskom’s 2009 results De Lange used the Promotion of Access to Information Act (PAIA) to try and obtain information about the preferential tariff structure for Billiton’s Hillside and Mozal smelters.

When Billiton and Eskom refused to comply with his request, De Lange and Media24, went to court. An almost four-year court battle ensued as Billiton and Eskom desperately tried to keep the details out of the public domain. Media24 won the case, but Billiton appealed. Three weeks ago the Supreme Court of Appeal dismissed the appeal.

Finally De Lange could reveal that at a time when ordinary South African consumers are struggling to absorb the sharp increases in Eskom’s electricity tariffs, Billiton’s smelters pay only 22.65c per kilowatt-hour covering only about 50% of generation costs, compared to the ordinary consumer’s R1.40.

“It shows that large corporations doing business with state entities may expect their commercial dealings to be placed under the spotlight,” commented Media24’s attorney, Willem de Klerk.

“The judgment emphasises that it is insufficient for such companies to prevent disclosure of their business deals merely by alleging prejudice,” De Klerk wrote in an analysis of the judgement.

Spokespersons from both companies point out that such deals are standard practice around the world. However, consumers are questioning whether these deals should come at their expense.

The Hillside deal between Eskom and Billiton is, as far as could be established, currently the only such deal in place in South Africa. The Mozal deal, for a smelter in Mozambique, has been revised recently. Some years ago a similar deal between Eskom and Scorpion Zink in Namibia lapsed.

Considering the vast discounts at public expense, the fact that the two smelters consume something like 5.68% of Eskom’s total base load capacity and Eskom’s current desperate battle to keep the lights on in South Africa, suggests the issue affects the public interest far beyond just the right to know.

According to energy analyst and technology publisher Chris Yelland, who has written an extensive analysis of the issue, the first deal concerning Billiton’s Hillside Potlines 1 and 2 dates back to 1992. Billiton was at the time still known as Gencor, and electricity supply still regulated by pre-1994 legislation. New legislation passed in 1994, replaced the old Electricity Control Council with the National Energy Regulator of South Africa (Nersa) which now has to approve all electricity tariff issues.

Yelland says the original contract was signed on 11 November 1992 at a time when Dr Ian McRae was the CEO of Eskom. It came into effect on 30 July 1995 at a time when Dr McRae was the first chairman and CEO of the newly established Nersa. This may have been the first instance of a conflict of interests in this arrangement.

At the time the deal was a beneficial win-win one for all parties concerned: the Hillside smelters received their power at a discount, Eskom benefited from the deal being structured on the then low energy production cost and high aluminium prices were raking in billions in foreign exchange.

Yelland says, because of the particular structure of the deal, the electricity rates for the Hillside smelters were not cost-reflective “in any sense”.

The energy regulator may in specific circumstances, approve deviations from the schedule of approved tariffs determined by it in accordance with the law. But strangely enough, Yelland says neither Nersa nor Eskom seem to have any written or other record of this particular decision.

In December 2001 a second agreement for Hillside Potline 3 was signed and came into effect by 30 June 2004. This deal was differently structured from the first one but still kept the price to Billiton far below what was being extracted from other consumers after Eskom’s 2008 electricity crisis and its rolling blackouts and far below Eskom’s production costs.

Neither deal was structured to keep pace with Eskom’s 2008 crisis, its need for fast-tracked capacity expansion, the steep rises in the costs in line with global standards, or the changes in the aluminium price. This resulted in Eskom losing money head over heels in recent years on these deals and now it desperately wants out.

The utility therefore asked Nersa to review and possibly scrap the agreement with Billiton. It only became possible for Nersa to review the agreement in a public participation process once Media24 won its case, and said it will now proceed to do so in the next few weeks.

But this is where another anomaly arises, which suggests a possible second conflict of interests.

The Hillside Potline 3 agreement had a suspensive clause that the special pricing arrangement had to be approved by Nersa by no later than 18 December 2001. In a letter to BHP Billiton on 5 February 2002, Eskom confirmed Nersa’s approval.

At the time and until 2004, Dr Xolani Mkwhanazi was Nersa’s CEO. According to his listing in Who’s Who SA, he became president in 2005 and chief operations officer of Aluminium South Africa at BHP Billiton, which operates the Hillside smelters. He is the current chairman of BHP Billiton South Africa.

As the immediate past-president of the Chamber of Mines, Dr Mkhwanazi last year welcomed Nersa’s decision to reduce Eskom’s latest tariff increase from 25% to 16%, saying it was a welcome relief for the mining industry. He cited high input costs and the struggle of marginal mines to survive.

In an open letter to Business Day Mkhwanazi rejected suggestions that Billiton has profited unfairly from its deals with Eskom and insisted that Eskom honour the contracts.

“We believe absolutely in the sanctity of all contracts," he wrote. According to him the contracts were concluded in good faith and the company’s investments in the smelters were made on condition of the pricing agreement.

Meanwhile energy experts are sceptical over whether Nersa could indeed invalidate agreements it had itself previously approved. It seems Eskom has more to lose than Billiton, which some say, will simply shut down the Hillside smelters if its bargain-basement tariffs are taken away.

The question is, how will the public interests be looked after in this dispute – an aspect neither party has even mentioned in any detail so far. According to De Lange’s calculation the Hillside deal has already cost Eskom R10.7bn, a cost for which ordinary South Africans are indirectly footing the bill.

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