The public sector wage war and Eskom’s debilitating debt are key focuses in the coming year, yet the largest hurdles to be overcome are the political issues around energy policy

A version of this column was first published in Business Day 

All the right decisions always get made, eventually. The key question for 2020 is if the right decisions will be made before the cliff edge, or at the bottom. The cliff is partly Moody’s but also more generally the impact on growth and unemployment from not making the right decisions as business sentiment gets glued to the floor.

The problem next year is the right decisions will get harder as political contestation increases into the ANC’s national general council and as the centre frays, after a downgrade and calls for fiscal and monetary stimulus boil over. Three particularly crucial broad sets of decisions must be made.

The first is on the public sector wage bill. This is hobbled by severe capacity constraints within government, which are hampering negotiation strategies, but also a lack of political will — yet — to be able to get stuck in with unions on this hugely complex problem.

Ultimately you cannot socially compact or even really negotiate wage freezes with unions because nothing can be given in return of substance — it has to be imposed by the adults in the room. Unions will care little if leaders take pay freezes when their whole raison d’être is that there should be a fiscal stimulus. This is a problem that may only result in real movement after the cliff edge.

The second problem is Eskom’s debt, which must result in a solution in the coming fiscal year. Eskom will struggle to fulfil its funding plan, in particular a challenging USD bond issuance due in February. The sheer unsustainability will come home as Eskom needs more and more money, and new CEO Andre de Ruyter will need the financial breathing space from deleveraging.

Yet there are too many cooks involved when standardised cookie-cutter solutions are available to be rapidly deployed. A solution will come only after a proper funding crunch, when the adults enter the room and take charge of the situation with appropriate advice.

The final issue is more politically complex. Energy policy in SA is a mess and confusion is getting worse despite attempts at government spin. The energy war room offers the opportunity for adults in government wrest control of energy policy from vested interests, highlighting and unlocking blockages.

It is a bizarre situation that everything faces in the right direction after the integrated resource planning, but no movement is occurring. There are endless discussions between projects, the national regulator of SA (Nersa) and the department of mineral resources & energy, which have seen the blockages transparently highlighted, but no movement.

The request for information released last week is creating more confusion by trying to replace the well-established best- class renewable energy independent power procurement programme and lumping disparate technically types together. There seems to be a hunt for costly short-run projects linked to vested interests over lower-cost embedded and distributed energy solutions.

There is an odd characterisation put forward by some in the government that the renewables industry is at war with coal. This is a deflection. The government should get a move on and try to procure clean coal, and nuclear if it wants, or pump money into research there — and procure renewables via the  renewable energy independent power procurement programme at the same time to adhere to the integrated resource plan. This is not being haphazardly jumped into action when there is a crisis — given the policy (integrated resource plan) and mechanism (renewable energy independent power procurement programme) are already there.

The problem is the sheer global inevitability of the energy transition coming together, with the lack of financing and technological problems for things such as clean coal seeming to mean that nothing can move until there is some unlocking of favoured technology types. Delay seems politically preferable for the department of mineral resources & energy.

Energy policy is going to be a focus, and is an easy way to unlock sentiment, because it is linked to load-shedding and it shows how urgency can manifest into positive spin, but not urgent action straight away.

Currently, there is no evidence of action with any urgency to procure power that could with certainty be on-grid in 2020 (such as liberalising embedded generation) and not beyond (such as other options on the table) or an request for information process that will drag on.

A deeper change of mindset is required which is ultimately a sidelining of political blockages in particular. There is an opportunity for this to happen in the war room before the cliff edge is reached.

There are many other issues that need unlocking, such as spectrum, infrastructure, skills visas and so on. But the three issues above are the most crucial to watch versus the cliff edge.

• Attard Montalto is head of Capital Markets Research at Intellidex

There is a battle of vested interests at play within government and this is one reason why it has missed key opportunities to turn business sentiment around by shifting energy supply away from Eskom, says Intellidex’s Attard Montalto. Listen to the interview with Bruce Whitfield on 702

Government seems to lack forward momentum on energy policy and hence the risk of load shedding remains high for the next 18 months, says Intellidex’s head of capital markets research, Peter Attard Montalto. Featured in Business Tech

By Dr Stuart Theobald, CFA

Next year will be dominated by two factors: dealing with Eskom and the public sector wage bill. Both are crucial to the longer-term outlook for our country. Depending on how they are managed, the medium-term scenarios range from dismal to reasonably positive. 

We are expecting the year to start with bad news, with fourth quarter GDP figures showing the economy shrunk again in the current period. That will have been mostly because of the load-shedding we’ve experienced over the past two weeks, but also because of fundamentally weak drivers of economic activity. Business and consumer sentiment levels are extremely weak, which is reflecting in subdued consumer spending and fixed capital investment. Businesses are still investing – but merely to maintain output rather than to grow it.

The year ahead has the potential to fundamentally change this. But it will require leadership, decisiveness and, most importantly, actual implementation by government. As the Economist magazine recently put it: “The fixes required to mend South Africa’s economy are well known. But somehow, they never happen.” It is this history that must change conclusively next year. The underlying political drivers to achieve that are slowly changing. Our legacy of implementation failure reflects the broad ideological church that is the ANC, whose effort to accommodate diverse viewpoints often means inaction is the best strategy to maintain political calm. But the cost of inaction is continuing economic decline. The National Treasury has to somehow find R50bn of savings in the civil service wage bill by the February budget, or else a swift downgrade will be instituted by Moody’s, the last agency to grant South Africa an investment grade rating. If that happens, all options become much more difficult with the cost of debt increasing and access to international investors declining.

However, if a downgrade does happen (and our base case is that it will) we must not lose focus on changing the microeconomic structure of the economy. We need policies that get the private sector to start investing and producing. The Eskom solution is part of that because without reliable energy, no business will be expanding production, especially in the industrial sector. But we also need to fix mining legislation that has massively constrained expansion in the mining industry, and spectrum allocation that frustrates the public’s access to cheaper broadband and expansion by the telecoms industry. We also need to deal with labour legislation that continues to protect the interests of a narrow, employed elite at the expense of businesses and the unemployed. We’ve made progress on dealing with the damaging visa debacle that that affected tourism but we need to move more decisively on visas for skilled migrants to come and work in South Africa. Alongside Eskom is the wider energy supply industry, in which the fifth round of the renewable energy programme needs to be launched as soon as possible while small-scale and even utility-scale embedded generation needs a clear and simple policy environment so as to diversify contributions to the grid.

As we close the year, there are positive signs. The business rescue of SAA is a Damascene moment. A major taboo has been shattered. National Treasury will not continue funding dysfunctional SOEs until the whole government balance sheet is destroyed. The progress of business rescue will be an important lodestar for what happens in other SOEs. The Nuclear Energy Corporation of SA is also insolvent and cannot pay salaries. Denel ran out of cash in June. Both of these should be put in business rescue too (though their legislation makes this difficult – parliament will probably have to do it through an act). Prasa has been put into “administration” though the lack of legal grounds for this will be a problem and it will have to be retrospectively validated through urgent legislation next year.

Much depends on the president delivering the decisive leadership that is needed. We see his main challenge as extending his power into the “clay layer” of directors-general and their deputies and chief directors in the civil service. Factionalism, laziness and ideological resistance mean policies die at the point of implementation. The presidency needs capacity to monitor and call out implementation failure. He is starting to build some with a raft of advisors in key positions in the presidency, but he needs more support. He could achieve a lot with a decisive cabinet reshuffle that jettisons ministers that have not been able to align their departments with the policy vision. The department of energy and mineral resources is a key example, with home affairs not far behind.

Some policy steps are not positive for the business environment. The National Health Insurance scheme is dead in the water because it is simply unaffordable, but efforts to force it into reality will continue. Land reform remains an important issue. This year there have been some constructive moves with the presidential panel of experts on land reform submitting a positive report with a clear vision that would overall be good for the country if implemented. The amendment to section 25 of the constitution to allow expropriation without compensation have now been drafted and the wording is reasonably constrained. Nationalisation of the Reserve Bank is an unnecessary and divisive policy with no upside and significant downside that has become a cause célèbre of a faction in the ANC. While it has been painted as an issue of protecting the independence of the bank by taking it into public control, it is notable that the same faction were losers in the banks’ efforts to shut down accounts used for money-laundering the proceeds of state capture. We see the move as the first step in a strategy to bring the Reserve Bank to heel, which would be extremely destructive to the financial system. Prescribed assets is another negative policy, but one we think will fade away as more creative and pro-market innovations are introduced to encourage greater private sector investment in infrastructure.

If all this makes you nervous about what next year holds, don’t be. Each of us carries the capacity and responsibility to help shift outcomes in a positive direction. Intellidex is engaged on multiple fronts working with clients to deliver the research needed to understand how policy and investment opportunities can deliver growth and positive outcomes for all South Africans. We are optimistic that things will get better.

We look forward to working vigorously with you next year to do that. The team at Intellidex wishes you a fantastic Christmas and New Year.

Best wishes,

Dr Stuart Theobald, Chairman.

Reform in SA is taking place too slowly and a key problem is government’s lack of urgency in making the necessary decisions to turn economy around in the short term, says head of capital markets research at Intellidex, Peter Attard Montalto. Listen to the interview on CNBC Africa

Business sentiment seems to be getting worse with no certainty about when an additional 11.6 GW of new capacity, by 2025, spoken about in the IRP will be procured, says Intellidex’s Peter Attard Montalto. Listen to the interview on The Money Show with Bruce Whitfield on 702

Legal obscurity means things could easily end up in court, particularly with unions already sounding litigious

A version of this column was first published in Business Day 

In the coming weeks and months the business rescue of SAA is going to redefine our political economy. The decision to put it into business rescue was brave. Less brave ministers in finance and the department of public enterprises have previously kicked the can down the road, refusing to face up to the inevitable. But we are now so far down the road that the end point is visible on the horizon: the bankruptcy of the whole state.

I doubt anyone has taken that prospect seriously (and, to be clear, it is some way down the road). But if we don’t take it seriously now, we will find ourselves there before we know it. SAA has proved that it cannot evolve into a viable business in which revenue exceeds costs. It is losing money continuously and its liabilities swamp assets. The choice was simple: either the government funds its losses interminably or cuts it off.

We are, however, in uncharted territory. The business rescue of SAA is the biggest in SA history and the first in the public sector. The next largest was furniture retailer Ellerines, which went into business rescue in 2014 as a prelude to the collapse of its parent, African Bank. Ellerines, however, had less than a 10th of the revenue of SAA.

Business rescue was introduced as an option in SA through the Companies Act of 2008. Until then, liquidation was the only option. The law, however, was made for application for companies in general rather than state-owned entities. SAA is a creature of statute in the South African Airways Act of 2007, but that act specifies that it is subject in full to the Companies Act. So, legally, SAA should be treated no differently from any other company. And the act is very clear on what must be done.

The business rescue practitioner appointed by the SAA board is Les Matuson, who also presided over Ellerines. He has extensive authority to restructure the business. But I suspect he is going to have a battle on his hands in managing the government.

In terms of the Companies Act, the job of the business rescue practitioner is to develop a business rescue plan setting out a vision for the future. That is then voted on by external creditors, requiring 50% support before it can be implemented. If shareholders are affected, for instance if there is to be the introduction of new shareholders, they too can vote on it. But a plan that says, for example, that Mango, Air Chefs and SAA Technical are to be sold and the rest liquidated would not require a shareholder vote. Mango and Air Chefs are by all accounts good businesses, though SAA Technical has been mired in corruption.

The big uncertainty is what role the government has as creditor. We don’t yet know who the creditors are. The government has already put in R2bn of “post-commencement financing” to keep the doors open during business rescue, so it will definitely have a seat at the creditors’ table. It is also being called on to settle guarantees on R9.2bn of loans, but it is rather obscure as to whether the government then inherits the creditor rights invested in those loans. It doesn’t look like it does because the R9.2bn has been budgeted for as an appropriation and the loans paid on behalf of SAA, rather than the government effectively acquiring the loans. With such legal obscurity things could easily end up in court, particularly with unions already sounding litigious.

The leaked 2018 SAA financial statements showed it owed suppliers, lenders due in the current year, and bank overdrafts, R26.1bn. While much may have changed subsequently as suppliers would have reduced their risk by insisting on cash upfront, it is still likely to be tens of billions.

If the government does inherit the creditor rights from the R9.2bn in guarantees it might be the biggest creditor, but I can’t see it becoming the biggest. Especially with banks also putting in R2bn of post-commencement financing. In short, as a creditor, the government is not going to be a big player. The creditors we do know about include competitor Comair, which is still owed R600m from a Competition Commission settlement. Employees are also owed money and the SA Revenue Service (Sars) is a likely creditor. So even in the unlikely event that the government does inherit the right to vote the R9.2bn, I can’t see it being over 50% of creditor interests. It will therefore be the subject to the wishes of other creditors in the airline.

The case will test many precedents on business rescue. The process has been criticised historically as a way to delay liquidation, racking up costs unnecessarily. SAA, were it a normal company, would have been in liquidation many years ago. It has been able to accumulate more than R40bn of losses only because of continual bailouts from the state. One might assume those have stopped, but the R2bn of post-commencement financing shows they have not quite done so.

How the business rescue practitioner factors the intentions of the government into his plan will be a very tricky path to walk. Government promises and inclinations will be difficult to test and rely on. And it will set many precedents for dealing with other financial crises in the public sector, with Eskom the most glaring example.

SAA business rescue is effectively a farming out of responsibility and decision-making to an independent party who has to act in the best interest of stakeholders. It is likely to cause political and legal friction, says Intellidex’s Peter Attard Montalto. Listen to the interview on Classic Business

The public enterprises department seems to be stepping over the legal line by trying to impose terms on SAA’s business rescue, says Intellidex’s Peter Attard Montalto, because a business rescue practitioner cannot be dictated to. Featured in Mail & Guardian

SAA’s business rescue is politically palatable and comes with an implied hope that SAA can be sustained, but only a third of businesses under business rescue survive, says Intellidex’s Stuart Theobald. Listen to the interview with Bruce Whitfield on 702

This column was first published in Business Day 

The past two weeks of data for October gave the impression something is seriously wrong with the economy.

The original assumption after load-shedding in the first quarter was that the economy would, thanks to the slow pace of reform, gradually recover through the second half of the year into 2020, but this is not happening.

Third-quarter GDP data this week looks set to post no quarterly growth and the fourth quarter is unlikely to be much better. Growth forecasts for next year will have to be revised down from 1.5% to closer to 1%.

Reforms occurring in the background are too slow to allow the economy to lift off. There is no driver — not sentiment, not external demand, not productivity, not investment (growth). On this latter point it is instructive how fast the spin around the investment conference a month ago died. Business knows that there is not an investment problem.

Lack of investment growth

There is a problem with investment growth as an emergent and organic process, not picking off individual projects on a stage.

The economy simply has no drivers here. Pumping in money the government does not have would not work, nor would rate cuts have any long-lasting effect. Growth is an emergent phenomena when the private sector has the sentiment to invest.

As ever there is no panic about this in most of the government, despite that it will mean still higher unemployment rates.

Electricity demand in this environment is down 1.5% year on year. This is why despite operations at Eskom stabilising at a weak pace, there is no load-shedding. Yet the system is exceptionally tight as Eskom keeps reminding everyone.

About 12GW of new capacity is required under the integrated resources plan (IRP) by 2025, while 2GW is needed now to plug the fact the system is being run too hard with a fleet that is too old. Yet nothing has happened in a month and a half. There is a long but simple regulatory process that must be undertaken that could have been done to unleash about R650bn of investment in renewables that is on standby (in equity and debt) to deliver the IRP’s requirements by 2025.

The economy simply cannot grow until there is new electricity capacity, or else there will be load-shedding. Growth is therefore capped not far above current levels for the time being. Yet the department of mineral resources & energy is being blocked by ideological blockages and inefficiencies. Why is the minister not held to account on this in cabinet?

The IRP was a classic case of the government being happy with what was published, but then is in no rush to do what matters next, which is provide ministerial determinations and rush through a concurrence process with the National Energy Regulator of SA (Nersa) on the emergency procurement and renewable energy independent power producer procurement round five.

The capping of growth by Eskom is exactly why an independent transmission system market operator is needed as quickly as possible, as well as reform to Nersa to open up a least-cost energy system. At the moment within the Eskom road map it will not be until the end of 2021 that a non-independent transmission system market operator will be complete albeit still under the Eskom umbrella. The independence part, if it comes, will be well after that.

Still, in the short term there is something amiss if the government does not realise that it can get “for free” R650bn of new investment simply by gazetting some pieces of paper. This is what the private sector can do. But time is running out for it to come on grid soon enough as the IRP lays out.

It should be noted that only in one year did SA manage to deliver about 1.5GW of new renewable capacity onto the grid and generally averaged about half that. Now double that is needed each year for the next 10 years. There is no time to waste. It is a free option.

Decisiveness wins credibility and with it growth.

With the electricity system and SAA a wider lens is needed, rather than a narrow view of supposed developmental state purpose. This is particularly true of SAA where unsustainable jobs are being maintained at the expense of more productive fiscal spending on basic services and infrastructure that would have a wider positive effect on the economy, not to mention the crowding out of sustainable private sector airline jobs. The same could be said of Eskom with its much larger bailouts.

SAA is at a moment where decisiveness can win markets, investors and ratings agencies through crystallising long never-ending bailouts into lower costs upfront. Pragmatism is finally showing through, forced by the Treasury and shocks to revenue which are rapidly intensifying.

This will be the narrative to watch in the coming days and the lessons to rapidly learn for electricity capacity and Eskom.

• Attard Montalto is head of Capital Markets Research at Intellidex.