Bulk Water Tariff Review 2013/14

1. Bulk Water Tariff Review 2013/14 17 APRIL 2013

2. Outline • Compliance to section 42 • Impact of previous SALGA recommendations • Summary of proposed increases and analysis • Key Issues • Recommendations • (Highlights of each WB review)

3. Compliance to Section 42 33

4. Response to previous recommendations 44

5. Response to previous recommendations 55

6. Response to previous recommendations • In March 2010, the conclusion of the PC on Water and Environmental Affairs, after presentations by DWA, Water Boards and SALGA was that DWA needs to engage SALGA before finalising the adjustments. • This did not happen. • Water Boards implemented tariffs as per the presentation of DWA to parliament. A question has to be asked as what is really supposed to be the role of parliament in this process. 66

7. Previous recommendations still to be implemented • Establishment of an independent regulator - work underway in the sector to be completed by 2014 • Review of water pricing policy for whole value chain - work underway in the sector to be completed by 2014 • Bulk water tariff determination should be a multi-year process - had discussions with DWA • Water Boards require balanced Medium and Long-term Capital Investment Programmes • Expense parameters should be set by DWA – especially for Energy and Staff • Tariff Policy is required to standardise approach to funding of assets and operations • Water Board funding models to be reviewed – over-reliance on debt? 77

8. Summary of proposed tariff increases 88

10. Absolute values of tariffs

11. Components of tariff

12. Analysis of Net Profit Margin – 2013/14 1212

13. Key findings • Affordability of above inflation increases • Impact of energy increases • Chemical cost increases • Interest cover (surplus) requirements • Debtor management • Tariff Structure?

14. Affordability of above inflation increases • Increases now typically in excess of inflation as well as in excess of equitable share increases • Household expenditure increasing at a greater rate than household income (2005/06 – 2010/11) • Ratio analysis shows many examples of increasing debtor balances, and increase in ‘Debtors’ days’. • R2.4bn owed to WB’s of which R1.34bn is in arrears (and mostly owing for more than 120 days).

15. CASE OF TWK

16. Effect of new tariff structure

17. Bottom line • 37% effective increase • 16% increase as stated not true reflection • Inordinate increase in basic levy – 44% • New capital levy – 6% of total cost • Higher basic levy encourage higher usage to obtain better unit rate • Sliding scale discourage higher usage

18. Impact of energy increases • Electricity now a major cost driver • Eskom increases unavoidable • Consider task team to look at initiatives that can be applied at other Water Boards – e.g. Umgeni’s consideration of a methane gas harvester to generate up to 40% of their energy needs at the plant. • Energy should be a driver (incentive) to: • Improve efficiency • Reduce water loss • What evidence is there that WB’s are pursuing these options?

19. Chemical cost increases • Heavily influenced by Exchange Rates due to high import component • Water Boards need to be more explicit about how they’re trying to generate cost savings (or efficiencies) in this area.

20. Interest cover (surplus) requirements • Some Water Boards are budgeting for high profit margins in order to satisfy the banks with respect to interest cover • Surplus funds are taken to Reserves – creates a mismatch for a user between what he/she must pay, and the benefit that he/she receives • Do Reserves ever end up getting used if Lenders are focused on interest cover and not contributions from Reserves?

21. Bad debts still a concern • Most Water Boards base their tariff models on the assumption that debt collection will improve. However the actual history of the past 3 years reveals regular non-payment in some cases and evidence of reduced collection efficiency. • Support the task force that has been convened to assist with a centralised process for arbitrations of disputed amounts, and sharing of best practice.

22. Issues relevant to certain Water Boards • Capex plans often not supported by growth projections - lower return on assets • Umgeni, Overberg, Magalies • Secondary work distracting from the primary - cost of secondary work imparting on bulk water pricing • Magalies, Amatola

23. Capex plans not supported by growth projections • Water Boards such as Umgeni, Overberg and Magalies are providing for significant CAPEX over the next 5 years, but are not projecting a proportional increase in water sales. • Leads to a lower Return on Asset • Requires a higher tariff since the same volume is having to pay for a larger asset base • Is correct for refurbishment/replacement, but augmentation should lead to increased volumes

24. Secondary work distracting from the primary • Water Boards are allowed to do ‘section 30’ (Secondary) work as long as it does not impact on their ability to deliver on their primary mandate, and as long as it is ring-fenced. • Magalies: Loss of secondary contracts led to significant increase in the overhead allocation to water schemes – implies that the s30 work was not fully ring-fenced. • Amatola: s30 work is loss making and therefore impacting on sustainability of the WB – who is paying for the loss?

25. Summary of recommendations 2525

26. Recommendations • Regulator needs to intervene on Interest Cover benchmark (to curb growing reserves) • Need policy guidance on inter-area subsidisation of social development costs • Continued focus required on Debtor management • Task force to share ideas on best practice and innovative solutions with respect to reduced energy use, chemical use and other efficiencies. 2626

27. Thank you

28. Findings for each Water Board

29. Justification required for increasing profit margin.Projected water losses of 25% for 2013/14?Possible to delay capital investment plans to cater for WC/DM initiatives?Reduce interest cover without impacting on debt covenants?Conclusion: Adjust downwards • Justification required for increasing profit margin. • Projected water losses of 25% for 2013/14? • Possible to delay capital investment plans to cater for WC/DM initiatives? • Reduce interest cover without impacting on debt covenants? • Conclusion: Adjust downwards 2929

30. Lower interest cover possible?Social development to be funded by the fiscusRecognise accounting loss on retirement fund immediatelyFlat volume growth too conservative? UW says no.Conclusion: Adjust downwards (work on lower interest cover) • Lower interest cover possible? • Social development to be funded by the fiscus • Recognise accounting loss on retirement fund immediately • Flat volume growth too conservative? UW says no. • Conclusion: Adjust downwards (work on lower interest cover) 3030

31. Very high overhead allocation (22% for some plants).Water sold appears to exceed water purchased in some casesCash reserves being built up, no plans for further debt?Is cross-subsidisation based on fair principles?Conclusion: Consider accepting but need to see evidence of improved efficiencies at Head Office level • Very high overhead allocation (22% for some plants). • Water sold appears to exceed water purchased in some cases • Cash reserves being built up, no plans for further debt? • Is cross-subsidisation based on fair principles? • Conclusion: Consider accepting but need to see evidence of improved efficiencies at Head Office level 3131

32. Very low margins projected for next 3 years will make it difficult to raise debt if required.At risk of slow Debtor paymentCustomers have very high water losses – impacts on their ability to pay their bulk chargesImprovements in infrastructure requiredConclusion: Accept increase – but intervention required. • Very low margins projected for next 3 years will make it difficult to raise debt if required. • At risk of slow Debtor payment • Customers have very high water losses – impacts on their ability to pay their bulk charges • Improvements in infrastructure required • Conclusion: Accept increase – but intervention required. 3232

33. Low profit margins, declining ROA, and poor debt collectionFunding secured yet for Pilanesberg Programme?Affordability of projected increases?High overheads after loss of s30 work – not ring-fenced?Low refurbishment budget – sustainable?Conclusion: Accept increase – but affordability and sustainability concerns • Low profit margins, declining ROA, and poor debt collection • Funding secured yet for Pilanesberg Programme? • Affordability of projected increases? • High overheads after loss of s30 work – not ring-fenced? • Low refurbishment budget – sustainable? • Conclusion: Accept increase – but affordability and sustainability concerns 3333

34. Differentiate between Municipal and Mining sectors to allow for cross-subsidisation/full cost recovery from minesConfirm DWA Grants for NamakwaImprove Debt collectionConclusion: Accept increase – but recommendations need to be implemented • Differentiate between Municipal and Mining sectors to allow for cross-subsidisation/full cost recovery from mines • Confirm DWA Grants for Namakwa • Improve Debt collection • Conclusion: Accept increase – but recommendations need to be implemented 3434

35. Heavily reliant on the mine.Consider moving towards sustainability for the municipalityConclusion: Accept increase • Heavily reliant on the mine. • Consider moving towards sustainability for the municipality • Conclusion: Accept increase 3535

36. Accelerated depreciation results in higher tariffsFuture sales growth very conservativeElectricity increases appear to be in excess of Eskom ratesAffordability concerns given trend of above-inflation increases.Conclusion: Consider a lower rate • Accelerated depreciation results in higher tariffs • Future sales growth very conservative • Electricity increases appear to be in excess of Eskom rates • Affordability concerns given trend of above-inflation increases. • Conclusion: Consider a lower rate 3636

37. Losses on secondary activities are over-shadowing the primary activitiesCash-flow capex projections not supported by Business PlanProposing a sharp increase, followed by 2 years of tariff reductions – why not a sustained (lower) increase?Significant drop in turnover predicted for 2013 – Secondary?Conclusion: Smooth tariffs – reduce 2014 • Losses on secondary activities are over-shadowing the primary activities • Cash-flow capex projections not supported by Business Plan • Proposing a sharp increase, followed by 2 years of tariff reductions – why not a sustained (lower) increase? • Significant drop in turnover predicted for 2013 – Secondary? • Conclusion: Smooth tariffs – reduce 2014 3737

38. Very poor debt collection and hence liquidity issuesContinued institutional uncertaintyConclusion: Support increase, but urgently need to resolve unsigned SLAs with customers and create clarity on institutional future. • Very poor debt collection and hence liquidity issues • Continued institutional uncertainty • Conclusion: Support increase, but urgently need to resolve unsigned SLAs with customers and create clarity on institutional future. 3838

39. Is a need to renegotiate water allocations with major customersReduce fixed cost proportion of tariffDelay Capex plansReduce Debtors’ daysConclusion: Adjust tariff down based on above • Is a need to renegotiate water allocations with major customers • Reduce fixed cost proportion of tariff • Delay Capex plans • Reduce Debtors’ days • Conclusion: Adjust tariff down based on above 3939

40. Risk of bad debtsConsider smoother tariff increaseRe-model to factor in debt financeConclusion: Adjust tariff down for a smoother trajectory • Risk of bad debts • Consider smoother tariff increase • Re-model to factor in debt finance • Conclusion: Adjust tariff down for a smoother trajectory 4040