Background

1. National Electricity Regulator(NER)Overview of the NER and its Business ActivitiesPresentation25 October 2002

2. Background The NER protects the interests of electricity customers by ensuring low prices and good service WHILE making sure that suppliers can continue to provide this service in a sustainable way

3. Role of NER • Approve tariffs and prices • Set and monitor compliance with quality of supply and standards • Dispute resolution • Social & national objectives involving electricity • e.g. electrification, energy conservation, regional and industrial development • Advise government on electricity policy matters

4. Value Added by NER • Protect customers through low prices and good service • Supporting DME with ESI policy development and legislation • Member of team investigating the electricity distribution industry restructuring to accelerate rationalisation • Requiring licensees to move towards cost - reflective tariffs • Data base and information resource • Allocation of electrification funds and supporting DME with establishment of INEP • Building HR capacity in utility regulation in South Africa

5. 2003/4 Business Plan and Budget • NER will focus on doing its regulatory activities well … while preparing itself for regulating a changing environment • All operational activities and processes come under scrutiny • Task of the NER to ensure that it has a framework in place for REDs, and generation and transmission restructuring • Business Plan and Three – Year Strategic Plan therefore completed • Approved by NER Board at its meeting on 25 October 2002

6. Work Programme 2003/4 • Support for electricity industry reform process • NER represented on ESI and EDI working groups • Generation • Investment based on IRP • Completion of compliance monitoring framework • Transmission and systems operations • Develop economic framework for transmission • Wholesale trading and market operation • Oversee WEPS preparation and implementation • Distribution and retail • Develop detailed conditions of RED’s licences • Standards and compliance monitoring systems

7. Work programme for 2003/4 • Contestable and special customers • Develop licensing framework • International, regional and national regulatory initiatives • Support for NEPAD through AFUR and RERA • NER capacity building • Building energy regulatory skills through HR strategy • Candidate regulators programme • NER strategic positioning • Clear understanding from stakeholders of NER’s role • BSC in place to measure performance

8. Budget 2003/4 • Total budget = R66,3 million • Average cost to domestic consumers of 17c/month • Increase of 29% • Reasons for increase • Not a ‘business as usual’ budget • Appointment of 13 additional staff • Lump-sum payment for building • Increase in communications and consultants budget • Increase allocation for regional and continental initiatives • Increase in travel costs (board and staff) • Increase in legal fees

9. Eskom Price Application • NER receives application from Eskom on an annual basis • Purpose is to understand Eskom costs so that tariffs cover costs • Eskom applied for price increase equal to CPI + 3% • 9% at a projected CPI of 6% for 2003 • Price increase for Eskom’s three businesses calculated, as well as consolidated calculation

10. Methodology used • NER uses a Rate of Return (ROR) methodology • Follows international best practice • Benchmarks levels locally and against other countries • Allows Eskom to earn a reasonable return on its assets, and to recover the reasonable expenses in running its business • Agreed with Eskom that will move towards incentive based regulation

11. Decision on application • NER modeling showed Eskom entitled to a ROR of 13,31% • This translates to a price increase of 11,3% • However, NER believed this was to steep, and should be phased in over 2 years • Therefore allowed ROR of 12%, = price increase of 8,4% • Appropriate balance between Eskom financial viability and affordable tariffs for consumers

12. Price Issues • Price increase conditional on Eskom • Undertaking Demand Side Management programmes • Incurring costs in transmission and distribution restructuring • Poverty tariff (EBST) to protect low income households • DME piloting • Assistance to the indigent

13. Conclusion • NER focusing on priorities for changing ESI • Lot of work done in putting in place Business Plan • NER will focus its efforts on governments priorities for the sector • Insufficient budget to skill up totally, but best effort will be made • NER committed to serve ESI and its stakeholders, especially customers • Dedicated to role in SADC / NEPAD

14. NER view on restructuring…

15. ESI market reform: International Experience A transition processfrom single buyer? towholesale competition,to retail competition, monitored by a regulator Monopolies SingleBuyer? Wholesale Competition RetailCompetition

16. Drivers for change • Maximise financial and economic returns to the state • Fiscal revenue, debt reduction • The need to demonstrate economic efficiency • Allocative efficiency, next investment in generation capacity • Driving operational costs down • Widened resource availability and technological change • Competitive imports from SAPP • Natural gas from Namibia and Mozambique and CCGTs • Information and computer technologies • Opportunity for black economic empowerment (BEE) • International environmental concerns • Need for improved customer service and choice

17. But protect… • Electrification programme • Cross-subsidies for poor (but more transparent) • Internationally competitive electricity prices • Management, technical and R&D competencies in ESI • Security of supply • Potential for demand-side management and energy efficiency investments • National regulatory oversight and control • Globally competitive business for the African Renaissance

18. Government’s goals for restructuring state owned enterprises (SOEs) • Boost economic growth • Create wider ownership in the economy • Fund basic needs programmes • Mobilise private sector capital and foreign direct investment • Enhance competitiveness of state enterprises • Promote fair competition • Finance growth and requirements for competitiveness

19. 1998 White Paper on Energy Policy • Introduce competition to the industry, especially the generation sector • Give customers the right to choose their electricity supplier • Permit open, non-discriminatory access to the transmission system • Encourage private sector participation in the industry • Eskom will have to be restructured into separate generation and transmission companies • Government intends to separate power stations into a number of companies

20. Pretoria Pietersburg Pretoria East Rand Lydenburg Rustenburg Nelspruit East Rand Lichtenberg Vryburg Witbank Kroonstad Johannesburg Johannesburg Newcastle Ulundi Harrismith Kimberley Upington Bergville Richards Bay RED 2 Bloemfontein Customers (000’s)1006 Load (TWh)29 Electrified (%)73 Pietermaritzburg Durban Prieska RED 5 De Aar Calvinia Customers (000’s)683 Load (TWh)37 Electrified (%)60 Victoria West RED 1 Umtata Graaf Reinet Customers (000’s)857 Load (TWh)14 Electrified (%)81 RED 3 Customers (000’s)1400 Load (TWh)29 Electrified (%)56 East London Cape Town Port Elizabeth RED 6 Customers (000’s)1008 Load (TWh)28 Electrified (%)60 RED 4 Customers (000’s)720 Load (TWh)31 Electrified (%)70

21. Phase I: Eskom CorporatisationImmediate - 2002 • Formation of Eskom Holdings Limited with subsidiaries • Generation, Transmission, Distribution and Enterprises • Ringfence clusters of generators into divisions of generation for internal competition • Transmission ringfences operations into wires, system operations, trader and EPP (as divisions of Transmission) • Continuing development of EPP to allow progress to power exchange • All sales through EPP (mandatory) but CFD in place between Generation and Distribution to guarantee minimum revenue • Ringfencing of Eskom Distribution into proposed REDs continues, and municipalities continue to ringfence their electricity businesses away from other municipal activities

22. Eskom Holdings Eskom Generation Clusters Eskom Enterprises Eskom Transmission EPP Wires SO Trader Eskom Distribution Municipal Distributors Customers

23. Phase II: Corporatisation of generation and independent power exchange2002/3 • Eskom Generation creates separate generation companies (GenCos) following portfolios • Separate Independent Power Exchange established • Under State ownership • Mandatory competitive pool • All sales through IPE but CFDs in place between Gencos and REDs/contestable customers, with progressively reducing minimum revenue guarantees • REDs established at distribution level

24. Eskom Holdings GenCo1 GenCo2 GenCon Eskom Enterprises Independent Power Exchange State Transmission Co Trader Wires SO RED1 RED2 RED6 Customers Contestable Customers

25. Phase III: Private sector and competition2003/4… • Transmission company separated from Eskom Holdings and put into state-owned company • IPE continues, but now operated as MMM and minimum revenue guarantees phased out • Opportunities for BEE to buy mothballed power stations (about 10% of Eskom’s capacity) • Additional sale of one or more generation clusters (portfolios) of up to 20% of Eskom’s capacity • Private sector encouraged to invest in new capacity • Eskom to be left in the end with a 70% share of the market

26. Eskom Holdings EskomGenCo Eskom GenCo Genco A Trader Power Exchange Eskom Enterprises State Transmission Co Wires SO RED1 RED2 RED6 Customers Special Customers

27. Results of restructuring the ESI • Achieves government’s policy goals • Competition results in improved efficiency and lower prices than would have been the case • Less market power to control prices • Significant BEE is achieved • Fiscal revenue for debt reduction • Considerable inward investment • Private sector participation attracts international strategic investors • Ease of regulation • Benefits to electricity consumers

28. New legislative developments…

29. New Legislation Proposed • Regulation Bill • Out for public comment • Provides for full time board • Eskom Corporatisation Act now put into full operation • Corporatisation of Eskom underway • EDI Restructuring Bill • Sets up EDI Holdings and provides for establishment of REDs • To be published shortly

30. New role for NER in transition to energy regulator…

31. Background to energy regulator • Adam Smith’s recommendation for a single energy regulator • Proposed implementation plan for the energy regulator • Current status on enabling legislation • Electricity Act No.41 of 1987 (as amended) • Electricity Regulation Bill • Gas Act No. 48 of 2001 • Petroleum Pipelines Bill

32. Regulation of the Gas Industry • Gas Act of 2001, Energy White Paper of 1998 & Ministerial directives - Make provisions for the regulatory mandate of the NGR - Came into effect on 21 February 2002 • Regulatory activities of the NGR: • Issue licenses or make registrations • Consider and approve prices, tariffs and charges • Promote competition • Promote optimal use of gas resources • Make rules

33. Cont. • Gather and store information; • Investigate and make inquiries into activities of licensees; • Resolve disputes; • Ensure safety, health and environmental standards; • Ensure access to gas in an affordable manner

34. Cape Town court case

35. Background • NER disallowed Cape Town’s 2002 price increase • Increase in tariffs to fund EBSST • Cape Town implemented illegal tariff, then sued NER in High Court • Cape Town argues • National regulation over municipal price setting is unconstitutional • Have the right to set own tariffs

36. NER’s case • The powers that the Applicant claims for itself do not fall under the rubric of ‘electricity reticulation’ (Schedule 4B to the Constitution). • If those powers do involve ‘electricity reticulation’, then: • - Parliament has the competence to enact legislation that regulates the exercise of municipal authority in relation to ‘electricity reticulation’ • -The Electricity Act constitutes legislation that is authorized by chapter 7 and s 229 of the Constitution • The Electricity Act does not violate any provisions of the Constitution