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FIFI PETERS: The story around Eskom and the looming exemption from disclosing irregular and fruitless expenditure in its financial statements is trending still. It has ruffled a lot of feathers, and mostly in a bad way. Some say perhaps this hasn’t been fully understood, and it’s not entirely as negative as we think.
Read: Eskom’s escape from scrutiny over dodgy spending draws fury
To help us understand exactly what Treasury is trying to do right now, and more importantly what the market thinks about it, we have Rashaad Tayob, portfolio manager at Foord Asset Management.
Rashaad, thanks so much for your time and patience. From my understanding, when we talk about the ‘irregular and fruitless expenditure’ that Eskom won’t necessarily have to disclose in its financial statements, it’s not every single irregular and fruitless [item of] expenditure, it’s that which is not material regarding the business and the numbers. But just your take on the story and whether it is a good or a bad thing that it may get this exemption?
RASHAAD TAYOB: Good evening, Fifi … I think it is a bit of a technical matter, but it just highlights how the financial management of Eskom has [deteriorated] over a period. We already know they’re struggling to even produce electricity. They’re losing a lot of money, but even the basic financial controls are not really there. Yes, it is a technical matter and we’re talking about R11 billion of irregular expenditure and R2 billion of wasteful expenditure, which they agreed to exclude from the financial statement.
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FIFI PETERS: As Rashaad said … Treasury said this could bring about fewer problems and headaches for Eskom in the form of a qualified audit opinion [that] could have implications on its balance sheets and for the cost of borrowing, which the government has recently made interventions to try and improve.
Rashaad, essentially the sentiment I got from you is that this is not necessarily all that bad from an investment perspective.
RASHAAD TAYOB: I think it is more of a technical issue. The main issue with Eskom is really about generation and financial performance. So, when you are sitting with very low energy availability factors, when you are scheduled to lose R32 billion a year and possibly more with the open-cycle gas turbines, those are core issues.
I think this was really a technical issue about not wanting to trigger loan covenants, having to negotiate waivers, and [having to] go to lenders and banks … which could have been the outcome if [Eskom] got a qualified audit because when you go through the loan documentation – and look at those terms – sometimes [when there are] qualified audits they give lenders the right to demand payment.
But it does highlight the very poor financial control at SOEs (state-owned entities) in general, and Eskom in particular. We know Transnet has a similar waiver in place, and if you look across the state-owned spectrum, [among] municipalities there are only 41 out of about 250 municipalities with clean audits. Financial management within the country is not in a good place.
FIFI PETERS: So you don’t see credit ratings agencies and perhaps even other foreign investors who buy Eskom bonds having a completely negative view towards this?
RASHAAD TAYOB: No. I think the main thing from the credit rating agencies is really about the recent bailout and the recent budget – Eskom getting a R250 billion debt transfer. Two-thirds of Eskom’s debt is going over to the government and that has a massive impact on the balance sheet.
That’s why credit rating agencies at the moment are looking at upgrading Eskom. At the moment it’s rated triple-C, so it’s really down in the dumps. It’s only just slightly above the level of a default rating. But it could get upgraded once the debt transfer is in place later this year because just by doing that your financial improvement will cut your interest costs … you are taking that debt off the balance sheet and your financial situation will look a lot better.
Going forward I’m not so sure, because if you can’t produce electricity it’s very difficult to generate the revenue you need, and you could end up in a situation where you may need further debt transfers down the line. So yes, they’re getting a debt transfer, they’ve got an 18% tariff increase, but if you can’t really produce the electricity you’re still going to end up with financial problems.
FIFI PETERS: Rashaad, at what point would you want to know what the state of irregular and fruitless expenditure is looking like? [Is it] at the point of reporting financial statements, because government has said it’s not completely [hidden] from the public in the sense that it will be put in its annual reports, which are published after financial statements?.
At what point as an investor do you think you’d need to know what’s going on with this particular line item?
RASHAAD TAYOB: When you look at irregular expenditure, that can often be a very technical accounting issue. A lot of Eskom’s irregular expenditure is down to a modification of contracts. Unless you really know the details around that – whether your expenditure is more of a financial management issue – the two numbers you have to focus on are wasteful expenditure of R2 billion, and the criminal expenditure which is disclosed at R2 billion but could be a lot more.
I think as an investor we focus more on those types of numbers, and they are high at the moment.
FIFI PETERS: Rashaad, we’ll leave it there, sir. Thanks so much for your time. Rashaad Tayob is portfolio manager at Foord Asset Management.
Just echoing some sentiments that are out there, perhaps the story around this exemption has been misleading in terms of the reporting, or perhaps even the communication from National Treasury. Perhaps it’s not an entirely bad thing, as long as we’re talking about money coming in and out of Eskom that does not affect operations, and is not compromising its ability to produce and sell electricity and other services.
But we welcome your thoughts and your feedback on this. Perhaps you disagree with some of the sentiments out there, but I do know that there is a concern as to the timeframe that this exemption will possibly be put in place. The Organisation Undoing Tax Abuse (Outa) – I think I read an article in which they were quoted on the Moneyweb website – in which they say that perhaps three years is a bit too long for this to be going on, [and that there are] concerns around the level of transparency and accountability. But take a read of that story on Moneyweb and feel free to share your thoughts with us.
Read: Winter of discontent looms as Eskom races against time
