When your business model relies on the direct sale of electricity to public entities, such as municipalities and the army, the risk of non-payment becomes a huge threat. This is the case in South Africa, where some municipalities are currently heavily indebted to Eskom. Let’s explore techniques to liberate this situation and the impact of future rising costs.
This article first appeared in ESI-Africa Edition 4, 2018.
Recent records from the Eskom board indicate a total amount of R13.5 billion owed by the 62 defaulting municipalities to the power utility. More alarmingly, the debt has grown from R6 billion in 2016 to the current R13.5 billion by April 2018. Over the 2017/18 financial year, the municipal debt grew by 40%, equivalent to R4.16 billion. The top 10 defaulting municipalities owe the power company R9.73 billion (72% of the total debt outstanding). Accordingly, Eskom claims that municipal debt is threatening their sustainability.
In terms of Eskom’s credit control process, consumers who receive electricity directly from the utility have their power disconnected if they fail to pay outstanding accounts after 40 days. The power is only reconnected once the full bill, as well as the reconnection fee, is paid. However, Eskom maintains that the credit control process is different for municipalities, and is ineffective.
Previously, the national power utility did not cut electricity supply to defaulting municipalities. Yet, in 2017 a compromise was reached to have power interruptions of between 4.5 hours and 6.5 hours. But, this has had little effect. Eskom alleges that this is because defaulting municipalities have fallen into the pattern of making new payment arrangements, which are more affordable, but then do not honour these arrangements. In addition, some municipalities have interdicted Eskom from instituting such power cuts.
Taking municipal debt to task
An inter-ministerial task team (IMTT) – comprising representatives from the South African Local Government Association (SALGA)‚ the Department of Cooperative Government and Traditional Affairs (CoGTA), National Treasury, Department of Energy, Department of Public Enterprises, and the Eskom board – has been established to help address the issue of defaulting municipalities.
Surprisingly, NERSA, the energy regulator, is not part of this task team. The IMTT is, inter alia, is also looking into the need to rationalise municipal tariffs, reconciliation of municipal debt to Eskom, historical debt owed by municipalities and the unsustainability of current payment agreements with Eskom.
In May 2018, the standing committee on public accounts (SCOPA) agreed to look into the systemic challenges, such as Eskom’s credit control mechanisms for municipal bulk accounts, which are not aligned with the Local Government Municipal Financial Management Act and the Public Finance Management Act.
Another possible solution put forward by Eskom is to establish a municipal debt war room. The inter-ministerial committee task team is handling this matter. The main purpose of the war room is to “accelerate activities” to recover monies owed to Eskom. In addition, SCOPA has also resolved to call in the top 10 defaulting municipalities to understand why they are not paying their debt.
Challenges facing municipalities
One of the issues raised by National Treasury is poor financial management by municipalities due to weakness in political and administrative leadership. According to Treasury, 60 of the 62 defaulting municipalities in 2017/18 tabled unfunded budgets. This means they committed to spending more than they can generate as revenue, or government’s allocation to them. In most cases, operating expenditure was greater than revenue. The lack of ringfencing of the electricity service has led to income from electricity being used to cross subsidise the delivery of other services. This cannot continue.
Another challenge is the popular culture of nonpayment, which needs to be addressed. The challenge for municipalities is the inability to use electricity disconnection as a sanction in Eskom supply areas. Defaulting municipalities have also reported that debt collectors are overcharging municipalities for their services. The economic climate has also had a significant impact. There is a high unemployment rate, which has led to people being unable to pay the municipality while the municipality continues to provide electricity.
The IMTT found that the defaulting municipalities had low collection rates as a result of high indigence rates and ineffective implementation of credit control and debt collection measures. Revenue foregone from surcharges in Eskom supply areas was another key finding. Furthermore, the IMTT found that the defaulting municipalities experienced high vacancies and/or a lack of qualified and competent personnel. Revenue policies, processes and systems were also found to be weak.
Recommendations for municipalities
- Electricity must be ring-fenced. Accordingly, there will not be any cross subsidisation of other services. 2. The equitable share for municipalities has been increased to ensure a more equitable sharing of the national fiscus, which must be used to fund free basic services.
- Municipalities must have fully-funded and credible budgets within which they must operate.
- Alternate sources of revenue must be explored. Municipalities cannot spend money they do not have. Also, they need to develop a payment culture. Contracts with debt collectors must be reviewed and costs benchmarked to ensure value for money. The issue of revenue forgone from surcharges also needs to be addressed.
- Affordability is a key issue. The budget must fit within the revenue collection rates. Operating costs must be reasonable.
- An effective sanction for Eskom-controlled areas within municipalities must be developed in order for disconnections to be effective in municipal revenue collections.
- In Eskom-controlled areas, a service level agreement with the municipality concerned is vitally important, not only for the ability of the municipality to pay Eskom, but also for the financial viability and sustainability of the municipality. This cooperative way forward is in line with Section 81 of the Local Government Systems Act 32 of 2000, and will allow for the municipality to pay Eskom within 30 days and collect their outstanding debt for the service rendered.
- The initial results of smart and prepaid meters are positive. Accordingly, this should be pursued further based on a cost-benefit analysis of each case.
- Tariffs being set must be fully cost-reflective. The fragmented tariff model also needs to be reviewed with the aim of achieving consistency.
- Payment agreements signed must be affordable and realistic (cash backed).
- If municipalities cannot handle the collection of revenue and payment of Eskom, we need to look at a sharedservices approach, which will ensure a service level agreement, effective sanctions, fairness and equity.
- There must be strict adherence to revenue policies without any political interference, especially in terms of sanctions. There must be a revenue collection strategy in place that ensures revenue completeness and a collection rate of over 95%.
- There must be an alignment of billing dates, charging of interest, and interest rates, as well as compliance with the Municipal Finance Management Act.
- NERSA must ensure that all future Eskom tariff or cost increases are inflation-related.
- There must be parity in the cost of electricity in Eskomcontrolled areas and municipal-controlled areas. There should be no cross subsidisation.
- An electricity loss strategy needs to be developed by the municipalities to address the issue of aging infrastructure as well as illegal connections. Institutions such as SALGA and CIGFARO can provide guidelines.
The weakest link between two parties
There are weak arrangements between the defaulting municipalities and Eskom. This needs to be firmed up. The municipal position is that the current dispensation whereby Eskom reticulates and distributes electricity within a municipal boundary without a service delivery agreement is in conflict with Section 156(1) of the Constitution, which states that a municipality has executive authority to administer local government matters. Eskom charges a particular rate to their customers and on the other hand municipalities adopt a different rate for municipal paying customers, which is problematic because of the resultant unequal charge for equal service.
In addition, the municipal tariffs are not cost-reflective. The IMTT found that there is a discrepancy between what municipalities paid to buy electricity from Eskom and what they charged for their municipal tariffs. This imbalance has led directly to most municipalities providing the basic service at a loss.
Eskom is reluctant to negotiate a more practical repayment period (for arrears) with municipalities. In reality, some arrear debt cannot be repaid in under 12 months. This calls for the utility to be more flexible and realistic in this regard. Illegal connections and illegal vending in communities is another major problem as well as aging infrastructure. In addition, defaulting municipalities have reported that they are not being assisted by police when they report illegal connections by people who operate “like gangsters” in possession of weapons and pose a danger to municipal officials.
The maintenance and refurbishment backlog is also a challenge. Accordingly, prioritisation of funding is a key issue. There are concerns about some of the practices Eskom is using in its billing of municipalities, such as the utility charging interest on the 15th of the month as opposed to the 30th, which municipalities adhere to in terms of the Municipal Finance Management Act. In addition, Eskom charges interest at prime plus 5% on defaulting customers.
In conclusion, the current electricity distribution model is unsustainable and needs to be reviewed. The immediate focus should be on ensuring municipalities are collecting revenue and meeting current obligations to suppliers. ESI
This article first appeared in ESI-Africa Edition 4, 2018.
About the author
With 38 years of municipal experience, Dr Krish Kumar is the CFO of Ethekwini Municipality. He was recently named the Best CFO in the Public Sector (2018). Currently he is the president of CIGFARO and a member of C40 Global Board.