South African power – diversifying and securing supply risk

November 2014  |  SPECIAL REPORT: ENERGY & NATURAL RESOURCES SECTOR

Financier Worldwide Magazine

November 2014 Issue

The South African energy system has always been highly dependent on fossil fuels. This has led to environmental challenges which were not there, or at least not so intensely under the spotlight, when the power plants were designed and built several years or decades ago. Most of the country’s coal deposits are concentrated in the north-eastern inland part of the country, with the result that high voltage transmission lines cover vast distances to reach the coastal cities. The problem was alleviated to an extent with the construction of South Arica’s only nuclear power station, Koeberg, situated on the country’s west coast to the north of Cape Town. This plant was constructed in the late 1970s and became fully synchronised to the grid in 1985. For various reasons, there was very little investment in generating capacity for a number of years, with the result that the country’s generation fleet is ageing.

An upward demand for power has resulted in severe pressure on the system, and this, in turn, has led to blackouts from time to time. Large power users have been encouraged to cut back on consumption with the result that power availability and power demand are constantly in equilibrium, contrary to international best practice. In an effort to keep the lights on at all costs, Eskom, the dominant state-owned utility, has held back on some of the maintenance measures generally required for continued efficiency of its fleet. Over the next five years, this strategy will lead to a net loss of approximately 4000 MW of generation capacity, and a degradation of the fleet’s availability factor to as low as 75 percent.

Eskom is currently constructing two of the world’s largest coal fired power stations, Kusile and Medupi, each with a capacity of 4800 MW. Both have been plagued with problems and are over budget and behind schedule. The Medupi plant is scheduled to synchronise its first unit of 800 MW in December this year and the balance over the following year or two. These giant projects do not signal the end of the country’s energy challenges, though, as old plants will have to be retired and others temporarily shut down for urgent maintenance and refurbishment.

It is widely agreed that for the country’s much vaunted National Development Plan to have any chance of success, the country’s ability to deliver energy as and when needed should be beyond doubt. The country is some years away from being able to promise that. The long awaited IPP base load (coal) program has been delayed by the 2014 general election and the appointment of a new energy minister. The commencement and publication of rules of engagement are expected in the near future. This initiative is expected to be run on similar lines to that of the Renewable Energy Independent Power Producer Programme (REIPPP), and prospective independent producers had to register their projects in July 2014 to enable the Department of Energy to gauge alignment between the location of the proposed projects and Eskom’s capacity to connect to the transmission grid. This initiative is expected to bring 2500 MW of base load electricity into the system.

The importance of a diverse and robust energy sector in South Africa was underlined by the State President in his State of the Nation Address on 17 June 2014. In his speech, the State President called for “a radical transformation of the energy sector, to develop a sustainable energy mix that comprises coal, solar, wind, gas and nuclear energy”. He highlighted nuclear and shale gas, stating that nuclear has the possibility of generating well over 9000 MW, while shale gas is recognised as a “game changer for our economy”.

There has been much activity on the South African energy landscape since the rolling blackouts of early 2008. In 2011, the country launched the REIPPP, designed to bring renewable energy onto the grid. Most of this energy is solar (PV and CSP) and onshore wind. The first electricity from these sources has already been delivered to the grid. The REIPPP program has received widespread support from various players and is largely regarded as well run. Additional rounds of bidding should see a further approximately 1500 MW added to the grid. Eskom plans to install its own 100 MW CSP plant and is also the off-taker under the REIPPP projects. As clean energy achieves grid parity, an interest is being shown by some large power users to enter into private off-take arrangements with renewable energy producers. However, it may be difficult to offer similarly low tariffs under a private off-take arrangement, as the financing of such projects will be more challenging and expensive without Eskom as the off-taker.

South Africa is not blessed with rivers large enough for the construction of significant hydroelectric plants. However, that is not the case in some of the other countries in SADC and a bilateral treaty has been signed between South Africa and the Democratic Republic of Congo for the development of the Grand Inga scheme which promises to deliver 40,000 MW of power in the future. Mozambique also has schemes on the drawing board (e.g., Mphanda Nkuwa) and the Lesotho Highlands Phase 2 project is set to come on line in 2023.

Upstream gas is likely to become a big play in the region with its promise of shale gas and coal bed methane reserves. In addition, significant gas wells have been discovered off the coast of Mozambique, and gas commercialisation has huge potential, especially with dwindling international oil reserves, high crude prices (coupled with an adverse currency exchange rate trend) and the need to decrease the country’s carbon footprint. It is not fanciful to project that the region will install liquefied natural gas (LNG) facilities in the foreseeable future as LNG is likely to go through a strong demand phase in the next few years. There is also talk of a Gas to Liquid (GTL) plant being established in northern Mozambique based on gas from the Rovuma basin. The head of the South African Government’s Treasury IPP unit has stated publicly that it is the intention of the government to commence a gas IPP initiative in the near future, and a Gas Utilisation Master Plan is being drafted. This will sketch the strategy for the utilisation of South Africa’s gas resources. There is high anticipation of finding significant reserves of shale gas in the inland area of the country known as the Karroo, a vast, semi-arid landscape, and conservationist and pro-fracking lobbies are already firing salvo’s for and against fracking activities. Expect shale gas to feature strongly in the Master Plan.

Undoubtedly, the biggest headlines in South Africa over the past few weeks relate to the (ambitious) nuclear plans of the country, namely to install 9.6 GW of nuclear power capacity by 2030. The Minister of Energy is on record as having said that “South Africa today, as never before, is interested in the massive development of nuclear power, which is an important driver for the national economy growth”. This was in September, when it was reported that the country had signed a procurement agreement with Russia for the construction of a number of nuclear power stations in South Africa. There was immediate public concern that such an agreement might be illegal, as the country has very strict rules and regulations regarding procurement. However, it later transpired that the Russian Federation and the Republic of South Africa had signed an ‘Intergovernmental Agreement on Strategic Partnership and Cooperation in Nuclear Energy’ which lays the foundation for a procurement and development program for up to eight large scale nuclear power plants, based on Russian technology. The agreement also provides for collaboration in other areas such as the construction of a multipurpose research reactor, assistance in the development of nuclear infrastructure and the education of nuclear specialists. Further bilateral agreements with nuclear technology exporters (e.g., France and China) are to be pursued.

Nuclear power plants are incredibly expensive to build and there is much speculation as to how these plants will be financed. It is generally acknowledged that the country does not have the financial capacity to undertake the construction and commissioning of one new nuclear plant, let alone a fleet. This has led South Africa’s Deputy President, Cyril Ramaphosa, to challenge financial institutions to develop innovative and reliable funding structures that will help realise these projects.

There is much debate as to what South Africa will need to ensure power supply stability for the period up to 2030, with a reserve margin in accordance with internationally acceptable norms. The think tanks that forecast power needs are prone to changing their predictions from time to time. However, they need to make sure that they get it right, as to get it wrong could be massively expensive: on the low side, the opportunity cost to the country; on the high side, capital that could be deployed to meet other, equally pressing, needs. Access to capital on this scale, and the cost of that capital, are critical considerations and whatever capital is available must be deployed wisely.

 

Charles Marais is Head of Projects and Energy at Hogan Lovells (South Africa). He can be contacted on +27 11 523 6137 or by email: charles.marais@hoganlovells.com.

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BY

Charles Marais

Hogan Lovells (South Africa)

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