Thursday July 12 2018

Uganda’s electricity sector at a critical crossroads

Uganda electricity sector critical crossroads

At the end of 2017, Umeme was collecting domestic tariff of 20 cents, 10 cents for large and extra-large industries, 16 cents for medium scale industries and 18 cents for commercial consumers. FILE PHOTO 

By Michael Wakabi

Selestino Babungi’s shoes are not a very comfortable place to be at this time. As the Managing Director of Uganda power distributor Umeme, he has presided over the crest of the company’s growth in recent years, giving shareholders a healthy return on investment. But with official concern rising over nagging bottlenecks, Uganda’s electricity sector is groping for direction and Umeme’s shareholders and Babungi might be the fall guys.

A Chinese suitor has emerged out of the blue but rather than take the conventional path of buying into Umeme through the stock exchange, they have submitted to the government a $3 billion proposal to take over the transmission and electricity distribution business in Uganda.

In what is being carefully described by government officials as an unsolicited bid, China Electric Power Equipment and Technology Company (CET), promises to resolve the reliability and quality challenges plaguing the grid through a $3 billion investment in what it calls SMART grid technologies.

Details of just how much that can change were not immediately available but according to the last filings for 2017, Umeme had brought distribution losses down from a 38 percent peak in 2005 to 17 percent while transmission losses were down to 3.9 percent.

Uganda unbundled her electricity subsector ahead of liberalisation in 2005, with the promise that private capital would help revamp flagging generation and distribution. The new capital injections would also result into lower tariffs.

While that has been achieved to some extent and the African Development Bank recently named Uganda as having the best regulatory practices for the electricity sector in Africa, President Museveni is not happy. He is angry that end user tariffs remain high despite the investments in the sector.

He blames a poorly negotiated deal for the privately funded 250MW Bujagali Hydropower Station that came online with a feed-in tariff of 11 cents. He also suspects that Umeme, the holder of a distribution concession that runs until 2025, is scrimping on its commitments.

In a March 2018 letter to his energy minister, he categorically ordered that plans to renew Umeme’s concession should be put in hold.

In light of those developments, observers are wondering if the Chinese bid was prompted by Museveni’s public displeasure with Umeme or if there could be powerful figures in the shadows angling for it.

Energy Minister Irene Muloni did not answer calls by this writer but analysts say accepting the Chinese offer would amount to a major policy reversal that could mean the reconsolidation and externalisation of Uganda’s electric power subsector.
Umeme which has injected $565 million into the distribution network, is the only successful commercial enterprise in which Ugandans own a significant stake either directly or through proxies. As of March 2018, combined with the National Social Security Fund’s (NSSF) 23.2 percent, Ugandan institutional investors, basically retirement schemes and insurance companies held a combined 26 percent of the stock while retail investors and Umeme employees held another eight percent.

Institutional investors from within the East African Community excluding Uganda hold 14 percent while South African fund managers hold 24 percent and international funds another 27 percent.

In all, 4,300 Ugandan retail investors will have to look for other investment options if the concession is not renewed. The Uganda Securities Exchange (USE), would also suffer a blow because in recent times, Umeme, with a market capitalisation of nearly $200 million, has accounted for 80 percent of the trading activity.

While Richard Byarugaba, the Managing Director of the NSSF says there are safeguards within the concession to secure the interests of existing shareholders upon termination, other commentators worry that such a move would send the wrong signal to the market and possibly worsen Uganda’s already precarious economic situation.
“Termination was always a known risk that is already provided for in the concession. Existing shareholders would be compensated to the extent of their investment,” he says.

But other analysts urge caution. “Investors hate noise and such a move could hit the shilling because potential investors in government paper will hold back. Treasury Bills have already taken a hit resulting in the current erosion of the exchange rate. Long term investors may also weigh their options, especially given that Uganda has only recently terminated the railway concession with Rift Valley Railways,” said another analyst who requested anonymity.

Mr. Patrick Kaboyo, the Managing Director of the private brokerage firm Alpha Capital says government should look at other options for bringing down power tariffs.
“Even if government was to terminate, this has to be done carefully, taking into account all the implications. Given that Umeme has a diversified investor base, the termination can have far reaching effects with respect to the signal to international investors and shareholders. More importantly the government will have to prepare to make huge compensations.

Kaboyo adds: “On the other hand, the government can adopt different approaches that can foster competition and bring down the power tariffs. By zoning the country, government can have different players including Umeme take up concessions in the different parts of the country and this would open up the space and water down the monopoly of one utility,” he says.

According to Mr. Kabagambe Kaliisa, a former Permanent Secretary in the energy ministry who presided over reforms in the electricity sector, the Uganda Electricity Board (UEB), was split into separate generation, transmission and distribution functions to create an environment in which private capital could play a role in developing energy infrastructure.
“Uganda has 20 independent power producers today, Bujagali being the biggest of them. It would have been near impossible to convince them to put their money is a sector where their biggest competitor (UEB) was controlling transmission and distribution,” he says.

Kabagambe explains that transmission has remained in public hands because it is less lucrative and long term in nature.
“Transmission is capital intensive yet it has a longer payback period lasting anywhere between 50 and 60 years. On the other hand, in generation and distribution, one can recover their capital cost between 11 and 14 years and have a positive return on investment in 20 years. That is why we were able to get investors in those segments while transmission remained in public hands,” he said.

Despite an ongoing controversy around its contractual 20percent return on investment and key performance indicators, Umeme which says it has invested $565 million since it took over the concession, insists it has delivered on its promise.
During a March 2018 investors briefing, company officials said the customer base has increased from 290,000 in 2006 to 1,125,291 million at the end of 2017.

With 0.9 million customers put on prepaid metering, 99 percent of revenue billed is recovered compared to 60 percent at the onset of the concession. The sector is now self-financing with gross revenues of Shs 1.6 trillion annually.

Speaking off record, some commentators said Umeme bears the brunt of public ire with high tariffs because it is the front end of the sector.
“Most consumers, including the elite only perceive the sector through the tariff they pay and that is borne by Umeme,” he said.

At the end of 2017, Umeme was collecting domestic tariff of 20 cents, 10 cents for large and extra-large industries, 16 cents for medium scale industries and 18 cents for commercial consumers. But as much as 56 percent of these tariffs is passed back to generation, while transmission takes 9 per cent. Ten percent goes to operation and maintenance while the rest goes to Umeme’s mark-up, investment and finance costs.

President Museveni is keen to see the industrial tariff reduced to 6 cents but energy experts say this requires an approach that looks beyond Umeme.
“The silver bullet is to increase uptake of electricity because right now the few consumers are paying for the high cost of infrastructure,” says a former official from the ministry of energy.

While the system has 900MW in installed capacity, effective generation stands at just 700MW. Only about 530MW of this is dispatched leaving a surplus of 170MW. Domestic customers’ account for just 23 percent of volume sold with industrial customers taking 65 percent and commercial 12 percent.

That situation is likely to get worse when another 780MW comes online over the next 12 months unless capacity utilisation improves in the manufacturing sector from the present 54 percent and domestic consumption goes up through grid extension.
“The focus on increasing supply is good but this needs to be complemented with increasing uptake. Otherwise tariffs may rise further if the current customer base had to meet the cost of new investments in generation,” says the official.

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