SA energy build outside Eskom: Worries of fresh corruption flood – Montalto

I’m a big fan of Peter Attard Montalto, the outspoken expert on South Africa who covers Emerging Markets for the giant Nomura Group of Japan. He has the mandate and financial clout to talk straight, so is a great barometer on how the global financial world views countries like ours. Montalto has been paying considerable attention to Eskom and as you’ll hear from this interview, he’s concerned that the decision to take the new infrastructure investments like nuclear and Coal3 outside of Eskom. This, he reckons, will increase the bites by “rent seekers” – corrupt middle men in positions of political influence who massively escalated costs at Medupi and Kusile.  – Alec Hogg

Peter Attard Montalto, from Nomura is probably the most followed international commentator on South Africa, so it’s interesting to see that you’ve made the trip to Cape Town, to the World Economic Forum. Have you learnt much?

Well I always come here every two years when it’s based in Cape Town. It’s a chance to see most of the South African Government, all the ‘movers and shakers’ that are here, and the political people as well. There’s been a lot of focus, of course, around investor interest in Governing Policy. Who is making decisions and in what areas, around Eskom, politics, in terms of moving policy left or right.So it’s interesting to get a snapshot from a lot of senior policy makers on that, in one go, and compare what they’re having to say.

You never hold your punches – they still happy to talk to you?

Indeed, I think there’s a realisation. I do advise companies and investors on the other end, I mean the local press, etcetera, but ultimately, I write what I see. I don’t hold back, as you say, but ultimately, I think it’s an objective view from outside the bubble. That it is quite difficult often for locals too, if you get caught up in the day-to-day and you get that ‘home country bias’ but you see it all around the emerging markets, when you talk to the local people. I might not always get it right, but I hope I find a consistent framework.

Do the Ministers that you’ve been engaging with here fill you with any sense of optimism that they’ve got their hands around the problem? 

Well I think everyone kind of understands the problem. I mean, the problem in South Africa isn’t diagnosis. It’s not even policy formation. It’s implementation. The problem, I think the sense as well, around Eskom especially, is that there is so many interests, political fiefdoms, different people wanting to be involved in policy formation. But the thing has become an entire mess, and it’s true across other areas of government as well. But it’s the most crucial one with the energy crisis that’s going on at the moment. Where there is a sense of conflicting stories and conflicting narratives coming out, around the way forward. Around where there is political capital being lent or not. A lack of leadership basically, coming through. I always to say to Government here is, “It doesn’t matter if you choose the wrong policy. Choose one policy and go with it. Implement it fully, and investors will give you far more credit for that.”

How are you reading Eskom now, particularly after Brian Molefe was moved across from Transnet into that hotspot?

Well Brian, I think, is going to do a great job of PR, certainly. He knows how to talk to investors. I think he’s going to be able mop up a few problems on the surface, bash heads together internally. Maybe come up with some better, more efficient processes internally, but fundamentally is he able to able to address, those rent extraction equations, as they call it that goes on within Eskom?

SEE ALSO: Nomura’s Peter Montalto: Was concerned ahead of SA research visit – left gloomier

How big is the rent extraction?

Well this is what’s uncertain. I mean no one is willing to put figures on it but around Medupi especially, and Kusile, every tender has some other bits latched onto it, and that’s what’s caused these massive over-runs. Ultimately more than sort of inefficiencies or anything like that within Eskom. But I think he may be able to mop up some, maybe high profile incidents around that sort of thing, but can he fundamentally shift, where there are there are vested interests that are politically linked. I very much doubt still.

You’re very diplomatic. In straight talk – there’s a lot of snouts in the trough, and those snouts are powerful….

Well this is the interesting discussion we’ve been having around the future of energy because the rest of the Energy Policy is now outside of Eskom, whether it’s Coal-3, nuclear, and the rest of it, new tenders coming through for renewables as well. I think the problem for me there is, and the real test for the Government, for the ANC, is do you simply transfer rent extraction from within Eskom outside, particularly through the way tenders are structured. Expectations around tenders, even if it’s not formally there, or are you able to actually have a clean bill of health? Everyone pointed at the renewables reaps and saying that this is a much cleaner form of doing business, as Government, but that’s a very simple thing. You take a foreign produced thing, a wind turbine, you plug it into the grid, and you shove it into the ground. It’s quite simple. It’s not the same as building a massive nuclear power station, where there’s GA politics. There are huge, long life spans involved as well. Much larger amounts of money, so the same for Coal-3 as well, so I remain sceptical, even if actually they proceeded quite well.

Peter, you mentioned rent extraction. It just rolls off your tongue, as though ‘maybe it’s something that happens everywhere’. Is it endemic in the emerging markets, to the degree that you see, ‘well it has to happen in South Africa too’? 

Well, I think in South Africa, because you don’t have that sort of day-to-day, you know, coming here as a foreign investor, being stopped in the streets, someone asking you for a ride, or sort of thing. It does happen in Nigeria, of course, and some other places in Africa. There was always a view there was much lower and less important a subject. Whereas, actually what we’re realising now, and I think for me, on really in the last six months or so,  quite how much has been going in, in somewhere like Eskom. It’s a difficult basically, the reassess and the, sort of the perspective around that, but it does happen in all countries, at varying levels.

Hungary is an interesting one, at the moment actually, where you had a relatively clean situation, between government and business, in the past. That’s now changing at Central Government Level, so you know things are having to flow, as political parties change, as governments change, around emerging markets.

Of course, the big news internationally at the moment is Sepp Blatter, the $10m that South African’s paid in a bribe. That can’t be helping perceptions, given what you already know, as you say, about rent seeking within the public sector. 

Well, I haven’t really been talking about that, to be honest. I think nuclear, which is $85bn, and not Rand, has been preoccupying people more. Issues around Eskom are much more immediate and it’s come into the same sort of frame, as things like the reaction in Parliament around the SONAR and Nkandla. Investors are kind of used to this. It’s sort of fluff on the surface now. The real things to concentrate on are the risk/award of investing in South Africa, where there are many other options out there that maybe more risky but higher return, and it’s that kind of equation, I don’t think Government quite gets. They sort of say, “Oh, South Africa is much safer than the rest of Africa,” which is true, to a large degree, but its lower return, and you have to look at our risk adjuster return equation. Putting in all the risks, or other things around it.

That’s a purely rational view, from an investor, “Am I going to get a better return on my money? If there’s bribery in amongst it, well, that’s just the way of the world.”

Well I mean investors in the emerging markets, are used to skating around this. You know, we have a very strict regulation, particularly in the U.K. now, but also in America, and of course, America was leading on the FIFA Investigation now. You can see that you can’t sort of partake, necessarily, in these kinds of transactions. I think bringing all this stuff to the surface will have a cleansing effect, maybe in the very long run, in places like South Africa, but it’s going to be quite a wait to get there.

Tell me about the debt markets, in particular Eskom’s debt, given the struggle that it’s had recently. Are they able to raise sufficient capital from investors, globally?

Well Eskom is looking at a whole, vast variety of different funding, sources from various development banks around the world, etcetera. I think they know that, whereas their original multi-funding plan was very much focused on multilateral institutions to start with, and then the market. Their understanding of the market isn’t there, as an easy source of capital to tap, as they were hoping. Now, they do have access to market. They could issue it at any time they like. The question is the price and that’s where I think they are unwilling to take that mark up, at the moment, really. That we’re waiting to see what Brian Molefe actually does. What he did after he wrote the Transnet, of course, was he issued to show they have access to market. I think we’re little bit fearful that if they try and do what we call ‘ego issuance’, where they issue, basically just to show and they pay up for the privilege.

Explain that in layman’s terms, how much they pay up today, compared with say, five to seven years ago. 

That’s a huge timeframe. I mean, that’s even taking us before the 2008 crisis. Over that period of time, it’s probably paying, to the extent of that market, two-and-a-half, three percent higher, I would say. In a short term, you know, since the downgrade happened earlier this year, they would be paying out more like 50 basis points, versus where they were last year, half a percent.

So they’re up half a percent in the year, and on a big debt pool, that’s a lot of money.

Yes, but the thing is, in the existing debt pool, is the new debt that they constantly need to issue for the new Bill Program. I think the investors have finally got on board, a number of key factors around the new Bill Program. In particular, it is debt finance, and in most of the debt in Eskom issues, is for new build. But also the fact that the new Bill Program is running to stand still, but they’re having to have to retire a fleet and base load that’s already in existence, as this new stuff comes on, because the fact it’s so old, hairline fractures, the cost of repairs, etcetera, that are there.

Peter, what about the Sovereign Debt, South Africa’s Sovereign Debt, we’re only one notch away from junk status. If that were to happen, well first of all, is it possible that that will happen later this year, when the Rating Agencies reassess, and secondly, if that were to happen, what would the impact be?

Well there’s a huge amount of benefit of the doubt that’s given by the Rating Agencies, around South Africa, and we’ve seen that, first of all, around NDP. They all sort of latched onto NDP and said, “This is amazing. It’s going to help turn South Africa around.” Now, they’ve all sort of abandoned that idea. They’re much more sceptical, and they are now looking at sort of the stability of the fiscal situation, as a course for optimism. Giving a lot of time for South Africa to say what it’s going to do, at this public sector, wage around settlement that we’ve had. I think you can get through the MTBPS and the Budget next year, without downgrades, as long as there is some glimmer of hope of a greater turnaround. But really, for long term, where the investment grade or junk status is going to be, really comes down to this question of can the ANC turnaround the economic story in South Africa? Does that benefit of the doubt eventually run out, and for me, 2017, is obviously the key around that story, and it’s not obvious that either if it’s Cyril, if it’s Dlamini-Zuma. If that actually happens that you get this ‘bumble along’ status quo continuing, and if that’s the case, if you’re not lifting growth up to, you know, five/six percent. If you’re not lifting job creation from 100.000 a quarter, to 350.000/400.000 a quarter, then that means it’s stopping the investment growing in the long run, but it’s a long road to get there still.

A bit of good news to end off with, Peter Attard Montalto, is with Nomura.

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