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Cablegate: Eskom and the World Bank Loan for Medupi

VZCZCXYZ0001
RR RUEHWEB

DE RUEHSA #0125/01 0211506
ZNR UUUUU ZZH
R 211506Z JAN 10
FM AMEMBASSY PRETORIA
TO RUEHC/SECSTATE WASHDC 0954
RUEATRS/DEPT OF TREASURY WASHINGTON DC
INFO RUCPDC/DEPT OF COMMERCE WASHINGTON DC
RHEBAAA/DEPT OF ENERGY WASHINGTON DC
RUCNSAD/SOUTHERN AF DEVELOPMENT COMMUNITY COLLECTIVE
RUEHZO/AFRICAN UNION COLLECTIVE

UNCLAS PRETORIA 000125

SIPDIS
SENSITIVE

DEPT FOR AF/S, ISN, EEB/ESC and CBA, and OES/EGC
DOE FOR TSPERL, GPERSON, MSCOTT, ABIENAWSKI
DOC FOR ITA/DIEMOND

E.O. 12958: N/A
TAGS: EFIN ENRG EPET EINV PGOV SENV SF
SUBJECT: ESKOM AND THE WORLD BANK LOAN FOR MEDUPI

REF: A. O9 PRETORIA 2498
B. 09 PRETORIA 2315 AND PREVIOUS

1. (SBU) SUMMARY: Two years after power utility Eskom's electricity
crisis, the state-owned company continues to grapple with financing
expanded supply and diversifying its energy mix. The recently
released Integrated Resource Plan is a brief, three-year planning
document, not revelatory in terms of expanding private engagement
and diversifying the mix to include renewable and nuclear energy. A
more robust Integrated Resource Plan is promised by mid-2010. Post
is engaging closely with both the SAG and local World Bank
representatives with respect to the Bank's proposed $3.75 billion
loan to Eskom to complete the Medupi mega coal plant, to try to
ensure that the loan addresses appropriately all environmental and
other issues of concern to the USG. End Summary.

------------------
Spotlight on Eskom
------------------

2. (SBU) South Africa's state-owned power utility Eskom is
grappling with expanding and financing power capacity, augmenting
renewable energy and efficiency in its mix, maintaining leadership,
and retaining and developing skills as it struggles to "keep on the
country's lights" and ensure improved future service as economic
growth resumes. Chronic power shortages in 2008 caused a series of
country-wide blackouts and load-shedding with a significant negative
impact on the country's economy and investment environment, with big
production sacrifices in the electricity-hungry sectors such as
mining and minerals smelting. This led to a management "shake-up"
within Eskom that has resulted in a critical review of planning,
maintenance, coal supply, expansion funding mechanisms, electricity
pricing, power purchasing agreements, and renewable energy feed-in
tariffs (REFIT) over the last two years. Under a new Acting CEO and
Board Chair, Mpho Makwana, the utility has contributed mightily to
an integrated resource plan (IRP) for future power supply and demand
management, secured a number of loans to finance in part a R385
billion ($52 billion) generation expansion plan, and applied for a
35 percent rate increase each year from 2010 through 2012. Eskom's
most current request is a revised "multi-year price determination"
(MYPD), scaling back its original (October 2009) application for
three years of 45 percent year-on-year rate increases. South
Africa's national energy regulator (NERSA) is currently holding a
series of public hearings as part of its review process prior to
ruling on the adjusted - and still controversial - tariff increase
application.

----------------------------
The Integrated Resource Plan
----------------------------

3. (SBU) SAG Minister of Energy Dipuo Peters published a
long-awaited, initial two-page Integrated Resource Plan (IRP1) on
December 31, 2009, in which the SAG underscores the need for new
electricity generation capacity and provides a brief list of
short-term projects required, emphasizing energy efficiency, demand
side management, and renewable energy. The South Africa Department
of Energy (SADOE) refers to a process of review "to allow for
consultation with stakeholders" in the document and characterized
that a "process of developing an IRP2 will commence in January
2010". It is expected that IRP 2 will be a more comprehensive and
Q2010". It is expected that IRP 2 will be a more comprehensive and
longer-term plan for electricity generation than IRP1. IRP1, which
was approved by President Zuma's Cabinet, appears to be underpinned
by a more detailed IRP compiled by Eskom in October 2009, in which
the utility's planning team provided details of the "build program",
demand side initiatives, associated forecast assumptions, and some
limitations and concerns.

4. (U) Eskom's document, a copy of which was given to us in
confidence by a member of the World Bank team (protect), presents a
"build program" comprising the Medupi coal-fired power station, the
Kusile coal-fired station, the Ingula pumped-storage station, and
the finalization of the return-to-service (RTS) program of the
previously moth-balled coal-fired stations. All of these generators
are planned to be commissioned between 2012 and 2013. In the longer
term, Renewable Energy Feed-in Tariff programs (REFIT), Medium Term
Power Purchase programs (MTPPP), and the open-cycle gas turbine
(OCGT) independent power producer deals (IPP) are expected to
augment capacity in the medium term. On the demand reduction side,
Eskom's IRP includes "known management programs" for commercial,
industrial, and residential sectors that it expects to be
successful. Based on discussions with the SADOE to diversify its
energy mix, the utility included demand side management projects,
such as the installation of one million solar water heaters, a solar
concentration facility, a nuclear fleet strategy (to provide low
emission base-load alternatives to coal-fired generation from 2020),
hydro capacity from the region, and a gas-fired option at Moamba,
Mozambique.

5. (SBU) In its IRP document, Eskom assumed "electricity demand
growth of 3.5 percent over the next five years alongside a recovery
in global and national economic performance", tapering off to "a
longer term average of 3.2 percent over the 20-year planning
horizon". Eskom generated a number of "risk-adjusted" scenarios to
provide for emission constraints (based on the SAG's Long Term
Mitigation Strategy 2025 targets) and increased private
participation. The "least-cost plan" with a significant emphasis on
cheap coal-fired generation, however, does not include related
"externalities", in particular, greenhouse gas emissions.
Importantly, the utility's least-cost plans do "not fully address
concerns regarding long-term water usage for power generation",
noting that "the long-term impact on overall water balances in the
country is still to be addressed".

--------------------------
Expansion Plan Funding and
The Tariff Debate
-------------------------

7. (SBU) Participants in NERSA's ongoing series of public hearings
are scrutinizing the accounting for the proposed tariff increase and
debating alternative funding of Eskom's R385 billion ($52 billion)
capital expansion plan. The regulator has said that it will
announce its decision on the MYPD2 on February 24. Eskom has
announced that it is exploring a number of financing options, over
and above a SAG provision of R60 billion ($8.1 billion) as equity
and R176 billion ($23.8 billion) in prospective loan guarantees,
related to the proposed World Bank loan of up to $3.75 billion; the
African Development Bank loan of 1.86 billion Euro dollars ($2.7
billion); a private sale of up to 49 percent of the equity in the
planned Kusile mega coal plant; and a number of small, equipment
specific loans totaling about R19 billion ($2.6 billion) from export
credit agencies (for key power station components such as boilers
and turbines).

--------------------------------------------
Cornerstones of South Africa's Energy Supply
--------------------------------------------

8. (SBU) Eskom's two new coal-fired power stations, Medupi and
Kusile, will be among the biggest power stations in the world and
are planned to generate a combined 8,700 MW, by far the biggest
sources of South Africa's electricity supply by 2014. The Medupi
Power Station is under construction near Lephalale in Limpopo
Province and is (ambitiously) planned to begin commercial operation
in 2012. Coal for the power station will be supplied from Exxaro's
Grootegeluk mine. The Medupi project includes Flue Gas
Desulphurization (FGD) technology and the construction of a
"supercritical" plant that enables a higher efficiency of natural
resource use (coal and water) and improved environmental
performance. It will be the first power station in South Africa to
deploy FGD aimed at abating emissions (Note: FGD is used to remove
oxides of sulphur (SOX), e.g. sulphur dioxide (SO2), from the
exhaust flue gases in power plants that burn coal or oil. End
Note.) According to Eskom, Medupi will be the biggest dry-cooled
QNote.) According to Eskom, Medupi will be the biggest dry-cooled
power station in the world. Kusile is being constructed close to
the existing Kendal Power Station in the Delmas Municipal area of
the Mpumalanga Province and is planned to start commercial operation
in 2013. Kusile's coal will be supplied by Anglo Coal (New Largo
and Zondagfontein collieries). (Note: The plants are more than 50
km apart. End Note.)

-----------------------------------
World Bank Loan for Medupi Unpacked
-----------------------------------

9. (SBU) A loan for up to $3.75 billion under consideration by the
World Bank has the stated objectives of "enabling Eskom to enhance
energy supply security in an efficient and sustainable manner and
supporting both economic growth objectives and South Africa's
long-term carbon mitigation strategy." The Eskom Investment Support
Project (EISP) would have three components: 1) the Medupi
coal-fired power station; 2) investments in renewable energy, the
100 MW SERE wind farm located in Western Cape and the 100 MW
Upington Concentrated Solar Power project; and 3) Low-carbon energy
efficiency (through a technical assistance program for improving
supply-side efficiencies and the Majuba road-to-rail coal
transportation project). In an "acceptability assessment," the
World Bank has found acceptable institutional capacity (in Eskom
decision making authorities and stakeholders) and environmental
assessment and land valuation and compensation processes and
procedures.

----------------------
Concerns Raised by USG
----------------------

10. (SBU) In the context of the AFDB loan for Medupi, the USG had
raised concerns about the adequacy of the environmental impact
assessment (EIA), nontransparent procurements that had already taken
place, and the adequacy of the efforts to mitigate the impact of
significant CO2 and SO2 emissions, and emphasized the need for the
EIA to assess the planned construction of a water transfer scheme,
required for half of the power plant's water needs, and the required
expansion of the Grootegeluk coal mine to supply the power plant.
At that time, the USG also pointed out that without FGD technology
Medupi would likely exceed World Bank standards for SOX emissions.
In its statement, the USG also urged Eskom and the banks to "work
together" to ensure that future procurement complies with the banks'
rules and that Medupi's CO2 emissions are offset by emission
reduction initiatives in other parts of South Africa's power sector.


11. (SBU) In November and again in January, econoffs raised USG
concerns with local World Bank Director Ruth Kagia and her team.
Officers mentioned press reports that Medupi procurements did not
appear transparent and conveyed US Treasury concerns that Black
Economic Empowerment equity requirements constitute potentially
challenging local content strictures. (Note: The turbine/boiler
supplier Hitachi Power is reportedly 20-percent owned by the ANC
investment vehicle Chancellor House.) Kagia appeared appropriately
focused on the need for the SAG and the Bank to address these
concerns in preparing the loan documents and in discussions with the
USG and other donor nations. Kagia admitted that existing South
African procurement and local content requirements pose challenges,
but said the World Bank was working through the issues to come up
with solutions. In Kagia cited a number of key facts: 1) The SAG
National Treasury is doing its own due diligence for the loan
guarantees, which would be properly accounted for as contingent
liabilities; 2) The SAG Long Term Mitigation Strategy was robust
with broad SAG buy-in; 3) The World Bank loan would lock in a
variety of clean energy provisions, including using FGD;
implementing a Majubi light rail coal transport project, which would
eliminate 600 trucks and 200,000 tons a year of carbon emissions;
improving energy efficiency; and implementing the related Clean
Technology Fund, with incentives and requirements to put in place
concentrated solar, solar water heaters, and wind projects. Kagia
described Eskom's current top management as strong, despite the loss
of the previous Chairman and CEO in a leadership tussle.

-------
Comment
-------

12. (SBU) It has now been almost two years since South Africa's
power crisis "wake-up call"; the global recession gave a welcome
reprieve in demand. The Integrated Resource Plan approved by the
Cabinet provides scant details and begs many questions, including on
private sector involvement in providing additional electricity
capacity. Presumably the more comprehensive second phased IRP
Qcapacity. Presumably the more comprehensive second phased IRP
expected by mid-2010 will provide more detailed commitments.
Mission will continue to work with the World Bank and SAG to see how
well they are addressing USG concerns. While South Africa will
remain highly dependent on coal in the short and medium term, the
World Bank proposal and the SAG IRP1 appear to provide key linkages
and commitments to carbon emissions offsets and diversifying South
Africa's energy mix over time. Tariffs, water supply, and financing
challenges will remain hurdles. The SAG remains committed to
expanding nuclear power and Westinghouse remains well positioned
when the process and timing are clarified, expected also in early
2010.

Gips

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