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Eskom gets Moody’s thumbs down

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Rating agency Moody’s announced on Wednesday, that it had downgraded state power utility Eskom. The outlook is negative – which is suggestive of a possible further downgrade.

“The rating action reflects the fact that, despite a number of improvements at the company in relation to its corporate governance and liquidity, there is limited visibility at this juncture as to Eskom’s plans for placing its longer term business and financial position on a sustainable footing” said Moody’s.

“Additionally, the rating factors the lack of any tangible financial support for the company in the February State Budget, and the liquidity and funding challenges Eskom may continue to face.“

Moody’s noted action by the government in January “in replacing the Board at Eskom to address pressing corporate governance and trust issues, which was instrumental in allowing the company to (1) obtain sufficient short term funding to address a looming liquidity crisis; (2) secure a “going concern” sign off on its interim accounts; and (3) reduce the likelihood of imminent near term default.

“Conditions at the company nonetheless remain challenging. In the State Budget, the government noted that, despite addressing the immediate concerns highlighted above, the financial position of Eskom posed a risk to the economy and the fiscus.

“This reflected the lack of tariff increases in the face of flat demand and the need for a reduction in operating costs and a change in the company’s business model, potentially involving private sector participation. However, the Budget did not provide for any tangible financial support, as the government has demonstrated on prior occasions when the company has been under stress.

“Moody’s understands that (1) Eskom’s new Board will critically examine the company’s business plan with a view to reducing costs and attempting to limit the burden of rising debt levels; nonetheless the company may be restricted in its ability to cut costs given, inter alia, its commitment to finalise the Medupi and Kusile coal fired plant projects; (2) the company is in close contact with the government and that significant endeavours are underway at the policy level to consider the future shape of the energy market and a sustainable role for Eskom within it.”

However, Moody’s warned that Eskom’s challenges are complex and not easy to resolve.

“They include stagnant demand, potentially driving declining output from its coal-fired generation plants as renewables output increases and a large committed investment programme. The regulator, NERSA, have announced that they will consider Eskom’s ZAR66 billion application for under-recoveries and overspending relating to the three prior years, which would benefit the company.

“However, absent (without) significant tariff increases, or reductions in costs and investment, Eskom’s large debt burden, amounting to ZAR367 billion as of 30 September 2017, could grow to potentially unsustainable levels and will, in any event, continue to weigh on its very weak financial metrics.”

Moody’s said it expects the company’s access to liquidity to have improved, with a new Board with much greater experience and credibility and against a background of stronger, albeit still fragile, business confidence.

“Funding conditions, nonetheless, are likely to remain challenging given the company’s longer term structural issues. Eskom has around R72 billion of funding needs for the 2018/19 period, this includes a refinancing of a recently agreed, short term R20 billion club loan concluded under the government guarantee,” said the rating agency.

“While seeking to extend its borrowing sources in the markets, the company may need to rely more heavily than in the past on access to government guarantees, or other forms of government support, in order to finalise its funding plan.

“Moody’s ongoing assumption of a strong level of government support is underpinned by Eskom’s strategic importance in the government’s social and economic policy as the country’s dominant electricity supplier and this view is supported by the R350 billion Guarantee Framework Agreement (GFA) available until 31 March 2023.

“Moody’s understands that around R275 billion, covering over 50 percent of Eskom’s debt, is currently either utilised or committed and a significant proportion of the remainder is designated for the completion of Eskom’s capital projects. Nonetheless, there is likely to be some flexibility to support Eskom’s near-term funding needs if necessary.”

Exerienced politician Pravin Gordhan was appointed as Public Enterprises minister by President Ramaphosa, and his top challrnge is the stabilisation of Eskom, which suffered badly from Gupta-led corruption.

Eskom released a statement saying that while the downgrade is disappointing, “it is worth noting that in its decision, Moody’s acknowledges the positive strides that the new Board and the new Interim Group Chief Executive have made in the two-month period that they have led the organisation.

“The three issues of concern raised by the rating agency centre around the inadequate tariff increases in the face of flat demand, no tangible government support and a lack of a resilient business strategy that will ensure Eskom’s sustainability.

”The new Eskom Board is investing a considerable amount of time in formulating a comprehensive long-term strategy and a plan that will place Eskom’s business on a firmer footing. We are confident that the execution of the turnaround strategy will be accompanied by positive gains.”

Eskom’s Interim Group Chief Executive, Phakamani Hadebe said: “While we are disappointed with Moody’s decision at this stage, the future looks promising. We have addressed the liquidity issue and other key challenges. The new Board and Eskom leadership are swiftly moving into the second intervention stage by formulating an integrated strategy that will yield favourable results.

“The positive sentiments expressed by Moody’s encourage us to work even harder to ensure the execution of this strategy. I am confident that we will stabilise the credit profile of Eskom and improve its credit rating.”

 


 

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