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Zambia Govt’s power grab signals further trouble ahead

The government’s move to open access to CEC transmission lines, and Zesco signing an opaque EPC plus finance deal with Power China for 600MW of solar power mark a troubling departure for Zambia as the ruling party seeks to boost its popularity amid the country’s deepening economic crisis, write Chiwoyu Sinyangwe in Lusaka, and Dan Marks

Energy minister Matthew Nkhuwa on 1 June declared transmission and distribution assets owned by the publicly listed Copperbelt Energy Corporation (CEC) as common carrier. This is intended to allow Zesco to use CEC lines to supply power to the government-controlled Konkola Copper Mines (KCM), with which it has signed a term sheet for power supply. The regulator imposed a hastily approved wheeling fee, which CEC says is equivalent to only 30% of its current network tariff.

The move, which follows a protracted impasse over extension of the long-term bulk power purchase agreement with Zesco, is widely seen as an attempt to aid the two ailing state-controlled companies and boost the flagging political fortunes of the ruling Patriotic Front (PF).

It followed another unexpected power sector development: Zesco’s 20 May signing of an agreement with Power China to build three solar PV plants with combined capacity of 600MW. African Energy understands the agreement, which involves accruing $548m of debt, is a contract, not a memorandum of understanding as has been reported elsewhere, and that some officials within Zesco and the Ministry of Finance were not aware of the deal ahead of the signing.

The government’s financial situation is worsened by continuing sour relations with the International Monetary Fund (IMF), which has made funds available for developing countries to mitigate the impact of Covid-19 but said it would not lend where it does not think it will be repaid. It has so far refused requests by Zambia to support its economic programme and for emergency assistance.

Zambia has about $7bn in loans contracted but not yet disbursed and finance minister Bwalya Ng’andu plans to slash this to about $2bn.The IMF is currently training key budget officers at the Ministry of Finance on budgetary standards as it attempts to start reconciling Zambia’s debt position before embarking on negotiations for a package. Last month, the government appointed French firm Lazard Frères to help ensure the sustainability of its debt and manage any loans maturing from next year and beyond.

Nkhuwa’s declaration, using a statutory instrument under the country’s 2019 Energy Act, came after CEC announced on 29 May that it would stop supplying power to KCM once its power supply agreement with the mine expired on 31 May. KCM is CEC’s biggest customer, accounting for around 40% of cashflow. KCM owes CEC $144.7m after failing to make any payments for power supply since the government took control of the mine in May last year following a protracted dispute with majority shareholder, Vedanta Resources.

The government is thought to have believed it would be able to quickly sell the mine, but Vedanta withdrew cash and senior staff, threatening the mine’s ability to operate as a going concern, putting thousands of jobs in President Edgar Lungu’s home region at risk and leaving the supply chain in chaos. KCM quickly stopped paying electricity bills to prioritise staff wages.

CEC had begun measures to recover arrears from KCM on 8 May but was blocked by the Kitwe High Court. CEC said that Zesco on 26 May requested the use of its network to supply a “new unknown client on the Copperbelt” and on 29 May KCM told CEC it had signed a term sheet with Zesco. KCM and Zesco subsequently sought an order preventing CEC from disconnecting KCM’s power supply. CEC has applied to the Lusaka High Court to overturn Nkhuwa’s declaration.
“It’s not a commercial transaction – it’s purely a populist move which is not targeting to keep KCM afloat but to severely weaken CEC because of belief that some of its shareholders are close to [opposition United Party for National Development leader Hakainde] Hichilema,” said one insider.

The payments by KCM and other mines to CEC are used to pay for power from Zesco under the Bulk Supply Agreement (BSA). KCM’s non-payment has therefore left CEC owing Zesco arrears of around $100m, which Zesco has been aggressively pursuing. At the same time, CEC has been attempting to negotiate an extension to its BSA, which expired at the end of March having run since 1997 – with multiple tariff revisions – but was extended until the end of May (AE 415/10).

The situation is now highly uncertain, with the BSA no longer valid and no clarity about what it means for a privately owned network to be declared common carrier in the absence of any meaningful regulatory process. One possibility is that CEC will simply continue paying Zesco the same price for power for its remaining mines, as Zesco cannot stop supplying power without jeopardising mining operations. This played out earlier in the year when the government attempted to enforce a higher price after the initial term of the BSA ended in March. CEC continued paying the same price and told Zesco to stop supply if it was unhappy.
Zambian courts have ruled in CEC’s favour previously in tariff disputes with the government, and one source said it was possible CEC could still prevail and secure a legal remedy against the common carrier declaration.

Low-hanging fruit

“It is abundantly clear that the Zambian government has for all intents and purposes taken steps that amount to expropriation of the CEC infrastructure and CEC is now on the brink of defaulting on all its loans borrowed from international lenders. The government’s actions have the full effect of taking away CEC’s commercial and property rights and completely inhibiting the company from taking viable business decisions, including enforcing its legal and commercial rights in the best interest of the business,” CEC said on 2 June.

Sources within and outside Zesco indicated to African Energy that senior leadership within the utility imagines an environment after the BSA where the utility becomes profitable because of the dollar-linked power supply agreements with the mines and able to take on new debt, as well as become a regional electricity trader. This view has gained some credibility in government circles, fed by a narrative which claims Zesco is unprofitable because the BSA tariff paid by CEC is unfairly low and that the utility was disadvantaged by the 1997 privatisation.

Zesco accounts for at least 46% of Zambia’s foreign debt portfolio – the majority owed to Chinese lenders – and is in a dire financial situation. The utility has been attempting to secure new loans in order to restructure its debt and the government is looking to the mining sector to bolster its balance sheet.

“Yes they could be looking to start getting low-hanging fruits, but to whose benefit? The problem is not CEC but KCM’s failure to meet invoices – so how do you kill CEC for that? Over 70% of the money CEC generates it channelled to Zesco… now, if KCM is failing to honour its bills to CEC, which is privately owned, you shudder to imagine how they are going to pay a fellow parastatal,” one source said.

African Energy understands that the dollar-linked revenue Zesco receives from CEC is in any case used as security for Zesco’s existing lenders – possibly through a collection account – and is therefore essential to the ongoing operation of the utility, as well as being unavailable for use as security for other procurement programmes or new debt.
Zesco ambitions

Despite this, Zesco managing director Victor Mundende has been leading attempts to raise money to acquire CEC, in which the government already holds a 25% stake. Zesco is using a UK- based financial adviser to raise the funds. This has added fuel to the argument that the government is looking to expropriate CEC’s business, with some in the industry making connections between Zesco’s attempts to acquire CEC, the refusal to extend the BSA, KCM refusing to pay CEC for power, and the common carrier move.

CEC’s business model has been the subject of considerable controversy both in political circles and within the donor community. PF politicians have long claimed that the pricing of the BSA was unfair, though it has been revised on numerous occasions and Zesco is paid more for energy supplied through the BSA than it charges some of its own mining customers.
African Energy understands from an independent source that has analysed CEC’s published accounts that the margin it makes from on-selling power supplied by Zesco to the mines is comparable with what might be expected from a regulated wheeling tariff in a more mature, lower risk regulatory environment than Zambia, at around 10-12%. The source pointed out that although mines negotiate aggressively with the government over the price of power, they recognise the quality of service that CEC provides and the importance of CEC receiving a price that allows it to remain a viable business. The company is generally acknowledged to be well run and efficient.

CEC was privatised in the 1990s with the intention of providing a reliable and stable power supply to six large mines. The company owns, operates, and maintains a network of transmission lines and an emergency power plant, purchasing power from Zesco in bulk and selling it to the mines through separate power supply agreements. CEC also wheels power across its network for Zesco to Zesco’s distribution network in the north, as well as trading successfully on the Southern African Power Pool.

Its role is essential for copper mining in the country, as mines in Zambia are unusually deep and wet. Sudden power cuts can result in flooding severe enough that resuming mining activities would not be economic and the mine would have to be abandoned. More seriously, thousands of miners depend on high strength ventilation and pumps, without which their lives would be at risk.These systems are powered by CEC’s emergency plant during Zesco power outages to allow time for miners to return to the surface.

Solar bolt from the blue

Zesco has announced a deal with Power China to add 600MW of solar power to its grid in 2022.The Chinese contractor will build three solar PV projects in Chibombo, Chirundu and Siavonga districts on an engineering, procurement and construction plus finance basis. The debt required for the project is around $548m. Power China is the parent company of Sinohydro, which already accounts for 67% of Zesco’s debt.

The Power China projects appear aimed to replace the second round of Scaling Solar, through which Zambia had intended to procure 600MW. The Industrial Development Corporation, Zesco’s holding company, signed an agreement with the World Bank Group’s International Finance Corporation in February 2017 and 12 bidders prequalified later in the year. A further 200MW is earmarked to be procured through KfW’s Global EnergyTransfer Feed-inTariff programme from smaller projects.

However, Zambia’s swelling foreign debt and uncontrolled government borrowing caused IFC to withdraw financing and letters of credit backed by partial risk guarantees. With Scaling Solar in tatters, the government transferred responsibility for the development of 600MW of solar projects to Zesco.

Zesco senior manager for corporate affairs John Kunda said Power China would be responsible for the entire project. “We are going for the EPC plus financing model – meaning Power China will do everything for us,” Kunda toldAfricanEnergy. He said construction is expected to start by Q3 this year, with commercial operations in 2022.

Zesco is desperately trying to bring down its cost of power, particularly from the 120MW Itezhi-Tezhi hydropower plant and the 300MW Maamba Collieries coal power plant, both of which are believed to have tariffs in the $0.09-$0.13/kWh range.

Kunda said details of the financing model and tariff structure had not yet been agreed. He added that Zesco had sufficient transmission capacity to manage the increased variable generation. “We have been doing some simulations and clearly this is not beyond what we can handle,” he said.

One Zesco senior engineer told African Energy the Zesco transmission grid was heavily underutilised. “Our system can transmit slightly above 2.5GW but with the problems we have faced with our hydro reservoirs, you find that our transmission lines operate at below 50% of their capacity,” the engineer said. “If you combine all new power stations coming on board – this is going to be beyond what Zambia needs and will allow us to sustainably tap into markets like the Democratic Republic of Congo, Namibia, Zimbabwe and even the prospects in East Africa look bright.”

Financing challenges

Sources close to the transaction said financial close for the three sites has not yet been reached but Power China is expected to approach the Export-Import Bank of China and Industrial and Commercial Bank of China. Financing is expected to be challenging given the state of government finances and low commodity prices. Some private sector stakeholders in Zambia suspect Zesco may be attempting to draw international donors back to the table. But nobody will write off the possibility that the plants will be built, and potentially quickly, given the record of other Chinese projects in the country.

The sources said the government would have to guarantee the debt. Power China is expected to operate the solar plants for 25 years before handing them over to Zesco. The anticipated cost of power from the plants is also not yet clear.

“No one is willing to hold Zambia’s sovereign bond – you must be crazy to do so. Only Chinese can take that risk,” a source close to the transaction said. “Right now, a project of that magnitude in Zambia can only attract financiers if it is guaranteed by the World Bank, but the Chinese are ready to gamble.”

Zambia’s decentralised loan contraction structure is blamed for current turmoil at the treasury. Government ministries and departments have frequently committed to new debt without sign-off from the Ministry of Finance, which African Energy understands may have been the case with this loan. One source even said that many of the Zesco engineers they regularly speak to had not heard of the projects prior to the announcement.

Finance minister Bwalya Ng’andu “is trying to bring an end to that mess”, a Ministry of Finance insider said. “This loan by Power China was committed to last year by the Ministry of Energy… even the president sanctioned it.”

African Energy’s newsletter is based on the foundation of experienced staff analysts – it has been produced by the same lead team since its launch in 1998 – and a network of correspondents and sources across more than 40 African countries.

[Article published with authority of African Energy Newsletter]

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