ZESCO LTD TARIFF APPLICATION 2008/9

Transcription

1 ZESCO LTD TARIFF APPLICATION 2008/9 26 TH FEBRUARY 2009 [This document is a multi year tariff application prepared according to the filing requirements for electricity utilities of September 2005 provided by the Energy Regulation Board.]

2 1 TABLE OF CONTENTS ZESCO LIMITED... 4 TARIFF FILING FOR THE 2008/9 FINANCIAL YEAR... 4 EXECUTIVE SUMMARY INTRODUCTION REASONS FOR APPLICATION FACTORS CONSIDERED IN TARIFF APPLICATION PREVAILING ECONOMIC CONDITIONS RISING COST OF GENERATING, TRANSMITTING AND SUPPLYING ELECTRICITY SYSTEM AND CUSTOMER BASE EXPANSION RISING COST OF ELECTRICITY IMPORTS COST REDUCTION AND REVENUE ENHANCEMENT MEASURES NEW ISSUES FOR CONSIDERATION KEY PERFORMANCE INDICATORS LOAD SHEDDING VOLUME DIFFERENTIATED AND TIME OF USE TARIFFS SUMMARY OF PROJECTED PERFORMANCE TOTAL NUMBER OF CUSTOMERS SERVED CUSTOMERS TO BE AFFECTED BY CHANGE IN TARIFFS EFFECT OF TARIFF CHANGES ON CUSTOMERS PROPOSED TARIFF PATH CALCULATION OF CUSTOMERS TO BE AFFECTED BY TARIFF CHANGES EFFECT OF TARIFF CHANGES ON REVENUE AND EXPENDITURE EFFECT OF TARIFF CHANGES ON SERVICE DELIVERY STUDIES UNDERTAKEN BEFORE APPLICATION WAS DRAFTED PLANS FOR INTRODUCING TARIFF CHANGES TO CUSTOMERS... ERROR! BOOKMARK NOT DEFINED. 2

3 TABLE OF FIGURES TABLE 1: GROSS DOMESTIC PRODUCT...6 TABLE 2: INFLATION DECEMBER 2007 TO NOVEMBER TABLE 3: EXCHANGE RATES DECEMBER 2007 TO DECEMBER TABLE 4: COMPARISON OF EXCHANGE RATE PROJECTIONS...8 TABLE 5: DOMESTIC INTEREST RATES...8 TABLE 6: INTERNATIONAL INTEREST RATES...8 TABLE 7: GENERATION OPERATING COSTS FROM 2005/06 TO 2007/ TABLE 8: CHANGES IN GENERATION COST IN REAL TERMS TABLE 9: SYSTEM REINFORCEMENT AND EXPANSION PROJECTS (2009 TO 2013) TABLE 10: CHANGES IN TOTAL OPERATING COSTS FROM 2006/07 TO 2007/ TABLE 11: KPI SUMMARY TABLE 12: PROJECTED EXPENDITURE ON THE ATTAINMENT OF THE KPIS TABLE 13: NUMBER OF CUSTOMERS SERVED TABLE 14: CUSTOMERS TO BE AFFECTED BY CHANGE IN TARIFFS TABLE 15: ZESCO PROPOSED TARIFF PATH FOR

4 ZESCO LIMITED TARIFF FILING FOR THE 2008/9 FINANCIAL YEAR EXECUTIVE SUMMARY 2 INTRODUCTION Following the Energy Regulation Board (ERB) multi-year tariff decision of December 2007, ZESCO Limited has been given an opportunity to apply for tariff adjustment that incorporates the issues that were not considered in the previous application namely; Load shedding Key Performance indicators Volume Differentiated and Time of use tariffs This document is an application for tariff review from ZESCO Ltd to the ERB and is based on the ERB s Filling Requirements for Electric Utilities and the Licensing requirements stipulated in the Key Performance Indicators of February REASONS FOR APPLICATION Having made all the required and necessary adjustments to the pricing model, ZESCO is applying for an average tariff adjustment of 66% in the first year with adjustments of 53%, 21%, and 21% in the years following. A closer inspection of ZESCO s proposed tariff path in section six (6) of this document will show that this gives a consistent downward trend in the increments required in all customer categories. This adjustment will generate revenue of up to K1, 752bn in the first full year (April 2009 March 2010) and will enable the company make progress toward the achievement of its Key Performance Indicators including the required capital investment portfolio. Detailed plans of how ZESCO intends to achieve its Key Performance Indicators are given in later portions of this document. 2.2 FACTORS CONSIDERED IN TARIFF APPLICATION In seeking a tariff adjustment the following factors have been taken into consideration; Prevailing Economic Conditions Rising Cost Of Generating, Transmitting and Supplying Electricity System and Customer Base Expansion Rising Cost Of Electricity Imports Cost Reduction And Revenue Enhancement Measures These factors were selected for the impact that they have on the performance of the company and are discussed in detail below: 4

5 2.2.1 PREVAILING ECONOMIC CONDITIONS Changes in economic conditions are the major driver behind this request for tariff adjustment. Since the last tariff application in 2007, there have been dramatic changes in both the local and global economic environment. The change in the global economic environment has been caused by the sub prime mortgage crisis which was triggered by a significant decline in housing prices and related mortgage payment delinquencies and foreclosures in the United States of America. This has caused a ripple effect across the financial markets and global banking systems leading to most economies around the world being faced with a recession. Zambia has been affected directly following the collapse in prices of major export commodities such as copper and cobalt. This has directly impacted the country in the following ways; Decline in foreign exchange earnings Depreciating Kwacha leading to imported inflation Negative balance of payments Increased international interest rates Reduction in portfolio and foreign direct investments. On the domestic front, Zambia has experienced rising inflation and rising domestic interest rates. ZESCO s forecast rate of inflation was 10% for the year to March 2009 against the ERB forecast of 7%, and the actual rate of inflation as at December 2008 stood at 15.7%. All these factors have had an impact on ZESCO as it now faces increased generation and operational costs. The changes of these economic factors have thus necessitated ZESCO s application for an increase in tariff Economic Growth The economy has enjoyed sustainable economic growth over the last five years leading to increased demand for electricity. The economic boom has been fuelled by the high commodity prices which have led to investments in the mining sector in excess of US$2 billion in the last five years. Production of copper and cobalt has also increased substantially. The conducive economic environment created by the Government also led to increased investments in other sectors of the economy such as manufacturing (Lafarge has built a US$120m new plant, Kafue Steel Plant etc), tourism, the building of new hotels in Livingstone and other parts of the country. 5

6 Table 1: Gross Domestic Product Year GDP , , , , , , 748 base (K billion) GDP Growth rate (%) The resultant economic growth has made it necessary for ZESCO to embark on various generation and transmission projects in order to meet the increased demand for electricity and avoiding further constraining the economic gains that the country has recorded to date. However, several generation projects have already been delayed due to constrained tariffs and the current world recession. This will have a negative impact on the national economic growth rates if new plant capacities are not developed. The right tariff will play a great role in attracting investments into the electricity sector especially now, when investment risks have increased so dramatically Inflationary Pressures The annual rate of inflation was recorded at 16.6% as at December This was up by 86.52% from the 8.9% recorded in December 2007 and is far above the Bank of Zambia target of 7% for the year The country faced a number of challenges in sustaining lower inflation. These included, among others: High production costs Increased transportation charges arising from higher fuel prices Persistently high crude oil prices on the world market High maize prices, and Lagged effects of increased money supply during the second half of The increase in inflation directly affects ZESCO s operations as follows; The company sources a substantial amount of goods and services from the local market whose costs have been steadily rising Costs such as Operations and Maintenance, Administration, Transportation, Travel and Accommodation have been directly affected by inflation. The ERB had projected a 7% inflation rate in the last tariff application. This is less than half the current rate and implies an erosion of revenues and costs escalating higher than projected in the last application. 6

7 Table 2: Inflation December 2007 to November 2008 Month Jan Feb Mar April May June July Aug Sep Oct Nov Dec Annual Inflation Rate (%) Exchange Rate Pressures During the first half of the year, the foreign exchange market was characterised by an appreciating kwacha reflecting increased supply of foreign currency on the market. The US dollar rate appreciated from K3, /US$ in December 2007 to K3, /US$ in June However, during the second half of the year the Kwacha steadily depreciated to a high level of K5, /US$, ending the year at just below K5, /US$. The causes of the depreciation are as follows; Political uncertainty during the transition to the new Government following the death of President Levy Mwanawasa. The global financial crisis which is leading to a global recession. The fall in commodity prices (copper, for example, fell from US$8,000.00/tonne to around US$3,600.00) whose main consequence is a drastic fall in foreign exchange inflows into the country Withdrawal of foreign portfolio investments in government and private securities. ZESCO relies heavily on imported machinery, spares and equipment for its operations whilst 50% of its revenues are kwacha denominated. This has greatly pushed up these costs. This has been worsened by the steep increases in the prices of equipment which was caused by the prices of raw materials such as steel, copper, aluminium, oil etc skyrocketing during the commodity boom. ZESCO is further exposed to the depreciating Kwacha in that it has a lot of foreign denominated loans. These are now more costly to service. Table 3: Exchange Rates December 2007 to December 2008 Month Exchange Rate Dec 07 Jan Source: Bank of Zambia Feb March April May During the last tariff application, ZESCO made projections of movements in the exchange rates for the period to 2011/12. In comparison the projections by ERB were very conservative as can be seen in the table below. 7 June July Aug Sep Oct Nov Dec

8 Table 4: Comparison of Exchange rate Projections Year 2007/ / / / /12 ZESCO Projections 4,400 4,533 4,782 4,954 4,954 ERB Projections 4,000 4,000 4,000 4,000 4, Interest Rates Domestic lending and deposit interest rates increased marginally from 24.4% in December 2007 to 24.6% in June However, due to the increase in the local inflation and the global financial crisis, the interest rates have continued their upward trend and as at November 2008 they were at 26.7%. Table 5: Domestic Interest Rates Month Dec 07 Jan Feb Mar April May June July Aug Sep Oct Nov Interest Rates (%) International lending rates have also been steadily rising due to the global financial crisis. The table below shows the rising LIBOR (London Inter Bank Offer Rates) from January to October Table 6: International Interest Rates 1-Month 3-Month 6-Month 12-Month January of February of March of April of May of June of July of August of September of October of The rise in both domestic and international lending rates will greatly increase ZESCO s cost of servicing its debts and further provides justification for a tariff increase. ZESCO is currently on a drive to develop new generating and transmission projects which will require borrowing large sums of money at higher interest rates than previously projected. 8

9 2.2.2 RISING COST OF GENERATING, TRANSMITTING AND SUPPLYING ELECTRICITY The last five years have seen dramatic rises in the prices of commodities such as copper, steel, aluminium and oil which are major inputs in the manufacture of electrical equipment used by ZESCO. This has translated into a huge increase in the cost of generation, transmission and distribution of electricity. Although ZESCO has been mitigating the price increases as a result of higher cost of materials and oil with cost reduction and control measures, these rising costs led to ZESCO s operating costs increasing substantially. Although the last few months have seen dramatic falls in the prices of these commodities, this has yet to translate into a reduction in the prices for equipment, spares and machinery used by ZESCO in its operations. It is worth noting that some equipment with long lead times such as turbines and generators for Kariba North Bank Extension were ordered at the peak of these price increases. Tables 7 and 8 below show the movement in generation costs since the last tariff application. The tables show increases in primary and auxiliary plant maintenance costs as well as machinery maintenance costs. This is indicative of the rising cost of the materials required to perform the required maintenance of generation equipment. Table 7: Generation Operating Costs from 2005/06 to 2007/08 K Million Year on Year % Change Cost of Sales 2005/ / / /06 to 2006/ /07 to 2007/08 Electricity Import Costs 28,345 10,614 60,775-63% 473% Electricity Purchase Costs 12,595 17,457 19,813 39% 13% Primary Plant Maintenance Costs 3,186 3,991 6,950 25% 74% Auxiliary Plant Maintenance Costs 2,848 3,068 3,586 8% 17% Kariba Complex Costs 18,307 18,642 15,911 2% -15% Total Cost of Sales 65,280 53, ,035-18% 99% Other Operating Costs Staff Costs 68,875 73,982 68,521 7% -7% Depreciation 38,832 40,390 42,971 4% 6% Plant Operating Costs 8,522 9, % -97% Machinery Maintenance Costs 370 1,035 1, % 88% Building Maintenance Costs 1,649 1,565 1,890-5% 21% Administration Costs 6,029 7,505 8,161 24% 9% Transport Costs 2,927 5,399 4,875 84% -10% External Services Costs 3,651 6,288 3,564 72% -43% Training Costs 1,719 1,090 1,039-37% -5% Travel and Accommodation Costs 2,359 1,599 2,892-32% 81% Insurance Costs 2,369 3,107 3,638 31% 17% Bad Debt Provision 4,253 5,447 4,046 28% -26% Other Operating Costs % 13% Total Other Operating Costs 142, , ,572 11% -8% Total Operating Costs 207, , ,608 2% 19% 9

10 Table 8: Changes in Generation Cost in Real Terms US$ Cost of Sales 2005/ / /08 Year on Year % Change 2005/06 to 2006/ /07 to 2007/08 Electricity Import Costs 6,904,994 2,949,153 16,650,685-57% 465% Electricity Purchase Costs 3,068,210 4,850,514 5,428,219 58% 12% Primary Plant Maintenance Costs 776,127 1,108,919 1,904,110 43% 72% Auxiliary Plant Maintenance Costs 693, , ,466 23% 15% Kariba Complex Costs 4,459,683 5,179,772 4,359,178 16% -16% Total Cost of Sales 15,902,801 14,940,817 29,324,658-6% 96% Other Operating Costs Staff Costs 16,778,319 20,556,266 18,772,877 23% -9% Depreciation 9,459,683 11,222,562 11,772,877 19% 5% Plant Operating Costs 2,076,005 2,682,967 70,411 29% -97% Machinery Maintenance Costs 90, , , % 85% Building Maintenance Costs 401, , ,808 8% 19% Administration Costs 1,468,697 2,085,301 2,235,890 42% 7% Transport Costs 713,033 1,500,139 1,335, % -11% External Services Costs 889,403 1,747, ,438 96% -44% Training Costs 418, , ,658-28% -6% Travel and Accommodation Costs 574, , ,329-23% 78% Insurance Costs 577, , ,712 50% 15% Bad Debt Provision 1,036,054 1,513,476 1,108,493 46% -27% Other Operating Costs 189, , ,055 0% 12% Total Other Operating Costs 34,673,082 43,830,508 39,608,767 26% -10% Total Operating Costs 50,575,883 58,771,325 68,933,425 16% 17% SYSTEM AND CUSTOMER BASE EXPANSION Notwithstanding an economic boom owing to the resumption of mining activities and a rise in global copper prices from a low of just over US$1,000 of the 1980 s to late-1990 s, the majority of Zambians still live in abject poverty and the benefits of the economic boom have still eluded the majority of Zambians as poverty is still deep and widespread. More than 80 percent of the Zambian population is poor, has inadequate access to social services and faced with high unemployment rates. If Zambia is to achieve the 10

11 Millennium Development Goals (MDGs) - to halve poverty by 2015 drastic measures must be taken at all levels and in all areas of development. The development of infrastructure is therefore vital to national economic development. The Fifth National Development Plan ( ) shows that Zambia is richly endowed with a range of indigenous energy sources, particularly woodlands and forests, water, coal and renewable sources of energy. Woodland and forests cover about 66 percent of the total land area and provide about 70 percent of the country s energy requirements. The country s hydropower resource potential stands at an estimated 6,000 Mega Watts (MW) while the installed capacity is a meagre 1,876 MW. Hydro-electric plants represent 99 percent of electricity production in the country with the major sources being Kafue Gorge (900MW), Kariba North Bank (600MW) and Victoria Falls (108MW) power stations which are all in the southern part of the country. In terms of consumption, electricity is predominantly consumed by the mines, accounting for just over 50 percent followed by industrial and agricultural customers that take up about 23 percent of total consumption. Households consume about 16 percent of the total amount of electricity sold. However, there is need for spirited efforts to alleviate the energy situation in Zambia because only 22 percent of the population has access to electricity with only 2 percent access in the rural areas. Proven coal reserves are estimated at 30 million tonnes with several hundred million tonnes of probable reserves. The government has realised that the availability and accessibility of modern energy can result in sustained economic growth, environmental protection and poverty reduction. Access to electricity is a prerequisite to the achievement of the MDGs and poverty can be reduced by increasing access to electricity because every economic and social sector needs adequate, reliable and affordable electricity input to grow. Access to electricity can improve people s lives dramatically and can subsequently make businesses grow and work effectively. In order to avert the power deficit in the generation capacity of electricity which has come about as a result of non development of new generation plant coupled with increased economic activities in the country, ZESCO has embarked on the expansion of the Kariba North- Bank Power Station and construction of Itezhi-tezhi Power Station. ZESCO also plans on increasing electrification in rural areas in conjunction with the Rural Electrification Authority (REA) and connection of areas supplied by diesel generators to the national grid. Government has also embarked on the construction of mini-hydro power stations in potential areas of Northern, Luapula, Copperbelt and North-Western provinces where generation potential exists. 11

12 ZESCO has further embarked on an expansion programme to improve the quality of service to its customers. Table 9 below shows the works that ZESCO plans to carry out between 2009 and 2018: Table 9: System Reinforcement and Expansion Projects (2009 to 2013) DESCRIPTION US$ M SOURCE PERIOD (IDA Credit, financing Lusaka 132kV ring upgrade secured) Upgrade of Coventry Street (IDA Credit, financing Substation secured) Upgrade of Roma Substation IDA Credit, financing secured Mapepe /33kV Substation IDA Credit or Belgium - upgrade Zambia - on-lent to ZESCO Reinforcement of supplies to Chisamba Area and upgrade of Fig Tree Substation IDA Credit, financing secured Refurbishment of SCAW Substation ZESCO financing kV switchgear upgrade at Liverpool Substation ZESCO financing Lusaka projects ZESCO financing Copperbelt projects ZESCO financing Northern Division projects ZESCO financing Southern Division projects ZESCO financing Reinforcement of Supplies to Lusaka Town and its surrounding areas ZESCO financing Reinforcement of supplies to Southern Province ZESCO financing Reinforcement and Rehabilitation of Eastern Province Power Network ZESCO financing Reinforcement and Rehabilitation of Solwezi ZESCO financing Reinforcement of Supplies to Ndola Town and its surrounding areas ZESCO financing Out of a total cost of US$ Million Dollars required for system expansion, a total of US$ will be funded by ZESCO while the World Bank (IDA) funded projects are only US$ Million RISING COST OF ELECTRICITY IMPORTS The cost of importing power has risen over the past year averaging about 5USc/kWh up from an average of 4USc/kWh in 2006/7. The rise in this cost is expected to continue in the medium term whilst demand for power is high and new generation is still under construction. 12

13 It must also be noted that due to the higher cost of power from new generating plants, the cost of imports may not reduce drastically in the long term despite increased availability of power on the market. The cost of power from new plants will be higher than that from existing plants as it must incorporate the repayment of financing procured for the construction of the plant COST REDUCTION AND REVENUE ENHANCEMENT MEASURES In the 2007/08 tariff application, ZESCO recognised the need to do everything possible to reduce the production cost of electricity and committed to carry out certain cost reduction and revenue enhancement measures upon the approval of the level of tariff adjustment that was applied for. In the year following the ERB approved tariff adjustment ZESCO has made some progress in the achievement of these commitments despite not having been granted as high an adjustment as was applied for. The company managed to record a modest profit of K35.3 billion up from a loss of K156 billion in the previous year; General operating costs besides electricity imports and insurance costs were expected to reduce by 10%. There have been varying movements in costs as can be seen in the Cost & Accounting Model of March 2008 as shown in the table below. Table 10: Changes in Total Operating Costs from 2006/07 to 2007/08 % Change from Previous Cost 2006/ /08 Year Administration Costs 33,175,462,817 33,054,769,423 0% Depreciation 141,831,174, ,226,503,409 9% Fuel and Lubricants Costs 19,875,563,119 21,861,632,576 10% Directors Costs 835,550, ,661,538-14% Exchange Losses 317,674,857, ,981,387,429-42% External Services Costs 24,886,037,142 15,454,873,064-38% Finance Charges Costs 33,356,361,650 49,780,573,074 49% Electricity Import Costs 10,614,484,969 60,774,510, % Insurance Costs 12,360,411,387 14,369,452,994 16% Kariba Complex Costs 18,641,765,601 15,911,008,929-15% Machinery, Tools and Equipment Maintenance Costs 7,973,062,991 7,062,441,232-11% Auxiliary Plant Maintenance Costs 32,099,273,034 34,846,882,642 9% Buildings/Premises Maintenance Costs 6,657,043,426 6,186,535,354-7% 13

14 Primary Plant Maintenance Costs 64,324,281,952 58,360,133,665-9% Pension, Gratuity and GLA Costs 91,277,445,183 89,672,383,672-2% Bad Debt Provision 35,080,470,782 54,387,614,713 55% Electricity Purchase Costs 48,365,040,878 51,291,558,413 6% Remuneration Costs - Non Rep 149,600,202, ,511,169,650-1% Remuneration Costs - Rep 173,721,972, ,934,383,914-5% Small Equipment Supply/Services Costs 3,042,189,332 2,431,714,016-20% Stock Adjustments -982,323, ,830, % Taxation -62,117,000,000-48,629,000,000-22% Training Costs 4,833,882,456 4,731,881,245-2% Transport Costs 30,920,644,701 28,146,217,529-9% Travel and Accommodation Costs 12,721,028,434 16,023,547,052 26% The huge increase in imports was a result of the need to import power to reduce load shedding coupled with the availability of power from the DRC due to the opening of the interconnector with Zimbabwe during the year. The increase in depreciation cost is attributable to the addition of new assets to the fixed asset register. The rise in the cost of fuel during the year is the cause of the upward movement in the cost of fuel and lubricants. The procurement of the US$65million loan from Barclays Bank brought about the increase in the finance costs whilst the electricity import and purchased costs were pushed up by tariff increases that were granted to Eskom South Africa and the increase in purchases from Lunsenfwa. An increase in the provision for bad debts from 2% of receivables to 5% was necessitated by the on going receivables data clean up, and the increase in travel and accommodation costs was due to the delay in the rehabilitation of ZESCO s own guest houses and increased travel due to the generation rehabilitation programme and prepayment metering projects taking place. The rise in insurance cost was expected as was the rise in auxiliary maintenance costs. The reduction in transport costs was just short of the 10% target, whilst training and other staff costs only reduced by up to 5%. The contracts of all temporal staff were to have been terminated in the year, while the permanent staff establishment was to have been increased to 4200 at a cost of K36 Billion. As at 31 st March 2008, there were temporal 14

15 employees on the payroll down from 1,427 as at 30 th April November 2008 saw the number of temporal employees down to 700 of which about 130 are recruited directly on projects. The remaining 570 are set to reduce to just over 300 in the next few months; these will be converted to permanent employees on contract. Permanent employees have risen in number from 3,603 in the year ended 31 st March 2007 to 3,898 in the year ended 31 st March The implementation of the job evaluation exercise is set to be completed by February 2009 and is expected to finalise the increase in the permanent staff establishment. Expenditure on travel and accommodation was to be reduced by 20% during the 2007/8 financial year and thereafter the cost was only to increase as a result of exchange rate and inflation. The company guest houses were to be put to greater use. As explained above, the delay in the rehabilitation of ZESCO guesthouses as well as the magnitude of projects taking place at the moment led to a significant rise in this cost. It is planned that in the coming year ZESCO will have the financial capability to complete the renovation of its guest houses and take further steps to reduce travel expenses to a minimum. In addition to cost reduction measures, ZESCO had also planned to embark on the following revenue enhancement measures: An increase of 5% p.a in maintenance costs over and above inflation for three years was planned for in order to continue the improvements in quality of supply and thus enhance revenues. The cost of maintenance of primary plant and buildings actually reduced during the 2007/08 financial year due to the continued resource constraints experienced by the company. The reduction of non-technical and technical losses by 2.25% per annum until the optimum level of 12.5% is attained through distribution system rehabilitation and reinforcement and customer data base cleanups. The technical and non technical losses have remained in the 20% range during the year but are expected to reduce as phase two of the prepayment metering program progresses. By 2010 the losses are expected to be at the acceptable minimum for a utility of ZESCO s size and spread. The metering of all un-metered customers using either credit or prepaid meters. Although the target of Zero un-metered customers was not met in the year, (with just over 2000 customers metered per quarter out of the targeted 8000), progress was stepped up from the quarter ending June 2008 onwards as shown in Table 11 below. The number of un-metered customers as at 30 th September 2008 was 131,990 this represents 39.9% of the total active customer base. The metering plan shown in Schedule M of this document indicates that these are all to be metered by the end of the year

16 2.3 NEW ISSUES FOR CONSIDERATION In addition to all the issues discussed above, key performance indicators load shedding, and time of use tariffs for all customers were also taken into consideration as outlined below; KEY PERFORMANCE INDICATORS The scope of work under the commercialisation programme for ZESCO included the development of utility key performance indicators for regulatory purposes and reviewing the existing electricity sector licenses which was aimed at improving the efficiency of ZESCO, forming part of the license conditions and becoming an integral part of the multi-year incentive based tariff framework applicable to the review period. It was agreed that a limited number of the Key Performance Indicators (KPI's) would be assigned targets while the rest would be tracked over the three years to establish reasonable benchmarks. However, these KPI's would be reviewed annually at the end of each financial year. The KPI s that were agreed to in February 2007 are to be achieved by March ZESCO s performance during the period under review (from January to December) was as indicated on the table below: 16

17 Table 11: KPI Summary KPI MILESTONE TARGET Dec 07 MAR 08 June 08 Sept 08 Dec 08 Meter new customers at 0% unmetered connection from June 2007 (reduce by March METERING by 33% p.a.) % 66% 39% 39% 36% CUSTOMER SERVICE QUALITY SERVICE OF CASH MANAGEMENT STAFF PRODUCTIVITY LOSS REDUCTION Meter all unmetered customers by March 2010 Bill all customers monthly and on regular basis from December 2007 Meter 8,000 /qtr 2,744 2,913 8,154 7,756 11, % of billable customers 100% 83% 89% 93% 88% New standard connections to be done within 30 days by December days Reduce Debtor days to 60 by March 2010 (33% p.a.) 33% p.a Reduce annual unplanned outages (SAIDI) to 5 hours per customer by March 2010 Target Not Given Reduce annual unplanned outages (SAIFII) to 5 hours per customer by March days Reduce annual unplanned outages (CAIDI) to 5 hours per customer by Target Not March 2010 Given Total Receivables not to exceed 17% of Turnover by March % 43.7% 37% 54% 60% 66% Increase Customer to Employee Ratio to 100:1 by March : Reduce Transmission Losses to 3% by March % 3.3% 2.7% 5.48% 6.08% 2.9% Reduce Distribution Losses to 14% by March % 19% 24% 27% 14% 19% 17

18 The performance of ZESCO in relation to the KPI s has shown significant improvements in most areas especially as it relates to metering, quality of service, Loss Reduction and staff productivity considering the resources that are available for the achievement of the KPI s. Metering of new and un-metered customers has increased considerably thereby reducing the number of un-metered customers particularly with the stepping up of prepaid meter installation in Lusaka using a phased approach from one area to the other to ensure that all customers are metered. This method of metering new customers has proved to be more efficient and cost effective than visiting various customers haphazardly and has reduced the cost of operations significantly. Metering of other provinces has also continued with commencement of prepaid metering in Ndola. It is proposed that rather than ZESCO s performance being measured on the basis of percent of new customers that are metered at the time of connection, the measurement be based on the rate at which the number of un-metered customers is reducing using the number of customers that are metered every month or quarter thereof as this was agreed at the 2008 KPI review meeting. This may be a more tangible way to measure performance on the Metering KPI METERING KPI s Milestone for this KPI is one-third (1/3) of backlog to be metered every year until % of total customers were Un-metered as at 31st December CUSTOMER SERVICE INDICATORS AS AT 30 TH DECEMBER 2008 Average time of connection 83 days against target of 30 days Ratio of metered customers to employees 1:81 Metered connections as % of new connections 12% Metered kwh billed & prepaid as % of kwh distributed 87% Un-metered as % of total Customers 36% Collections as % of billing 98% Load Shedding - Average Hours lost per customer 2.06 Planned outages - Average Hours lost per customer 3.09 Unplanned outages - Average Hours lost per customer

19 QUALITY OF SERVICE KPI s Load Shedding - Average Hours lost per customer 2.06 Planned outages - Average Hours lost per customer 3.09 Unplanned outages - Average Hours lost per customer Average hours lost per customer (CAIDI) o March o June o September o October o November o December o Average for quarter ending December CASH MANAGEMENT KPI s AS AT DECEMBER 2008 Target - Total Receivables not to exceed 17% of Turnover by March 2010 Total Receivables as % of turnover - 66% Trade Receivables as % of turnover 41% Total payables as % of turnover 16% Trade Payables as % of turnover 13% Stock as % of working capital (119)% Debt :Equity Ratio Long term debts - 54 (Gearing ratio) Total debts - 61 Interest Coverage Ratio STAFF PRODUCTIVITY KPI s Customer/Employee Ratio as at was 81:1 Generation per employee(gwh) - 2:1 (Same for Sept. & December) Transmission lines (km) per employee - 18:1 (Same for Sept. & December) Distribution lines (km) per employee - 8:1 (Sept.)Vs 9:1 (December) Metered customers per employee (No.) - 46:1 (September) Vs 52:1 (December) This is an increase of 9.5 % from 74:1 as at September 2008 to 81:1 as at December If this trend continues, ZESCO will be able to achieve the target of 100:1 by December The proposed strategy will be to remove all temporal staff except where it is absolutely necessary. 19

20 2.3.2 LOAD SHEDDING Following the 2007/2008 tariff application, it was noted that load shedding was not taken into account in the pricing model as originally designed. In this application, load shedding has been incorporated in the pricing model in that, any unmet demand is subtracted from the total units (kwh) over which the revenue requirement is to be shared. This entails that the revenue requirement is only divided by the number of units (kwh) ZESCO will be capable of supplying as opposed to the projected maximum demand of all customers. This ensures that the model comes up with a correct cost per unit of power VOLUME DIFFERENTIATED AND TIME OF USE TARIFFS In order to enhance disciplined consumption of energy by residential customers whilst maintaining a mechanism to support the poor, ZESCO has decided to convert to Volume Differentiated Tariffs in the coming year. This application is thus based on the Volume Differentiated method of pricing. Appropriate adjustments have been made to the Pricing Model In its quest to minimise load shedding during times of power deficit, ZESCO is actively pursuing the possibility of introducing of time of use tariffs for all its customer categories. There are changes that would have to be made to the type of meters that are availed to customers in order to make this possible. ZESCO proposes that in the mean time, peak tariffs be introduced to its MD customers that are currently on the time of use tariff in addition to the off peak tariffs approved in the last board decision. The approval of this proposal would make the option of a full time of use tariff regime available for Zesco s MD customers. This regime will take the form of a peak energy and capacity charges that are 100% more than the standard tariffs, and off peak energy and capacity charges at 50% of the standard tariffs. The results of the implementation of the tariffs could then be used to ascertain the merits of moving to time of use on all customers It has been noted that pricing is one of the most effective methods of changing customer attitudes towards a product as it acts as a signal for behavioural change. The time of use tariff would send out a positive cash signal to the consumer encouraging them to reduce demand during peak hours. The pricing model submitted along with this document has taken the peak tariff for MD customers into account. 20

21 3 SUMMARY OF PROJECTED PERFORMANCE According to the pricing model, the approval of the proposed multi year tariff path would enable ZESCO to achieve an operating profit in the first twelve months after implementation. The table below shows the projected amounts to be spent on the attainment of the various KPIs in the first year of the tariff path applied for in this document. The amounts shown in the table are extracts from the pricing model. Table 12: Projected Expenditure on the Attainment of the KPIs KPIs ZMK Million Quality of service Generation Capital Expenditure 853,224 Quality of service, Transmission Capital Expenditure 116,791 System losses Quality of service, Distribution Capital Expenditure 32,172 System losses Quality of service, Supply Capital Expenditure 3,298 Cash management Metering, Quality Projected expenditure on Metering 375,289 of service Quality of service Projected expenditure on Fuel and Maintenance 233,634 Quality of service Projected expenditure on staff productivity 41,625 4 TOTAL NUMBER OF CUSTOMERS SERVED ZESCO Limited currently serves over 320, 000 customers as detailed in the table below; Table 13: Number of Customers Served CUSTOMER CATEGORY NO. OF CUSTOMERS MINING 3 RESIDENTIAL 289,813 COMMERCIAL 30,507 SOCIAL 4,331 SMALL POWER 4,867 LARGE POWER 57 EXPORTS 6 TOTAL 329,584 21

22 5 CUSTOMERS TO BE AFFECTED BY CHANGE IN TARIFFS The proposed change in tariffs will affect all of ZESCO s existing and new retail customers. Projected customer numbers for the next five years as extracted from the pricing Model are as follows. Table 14: Customers to be affected by Change in Tariffs Customer category Mining Residential 333, , , , ,904 Large Power Small Power 5,110 5,366 5,634 5,916 6,212 Commercial 32,032 33,634 35,316 37,081 38,936 Services 4,418 4,506 4,596 4,688 4,782 Total 374, , , , ,911 6 EFFECT OF TARIFF CHANGES ON CUSTOMERS 6.1 PROPOSED TARIFF PATH The proposed tariff path after all the required and necessary adjustments were made (as indicated in section 10 below) is as follows; Table 15: Zesco proposed tariff path for Average price ZMK/kWH 2008/9 2009/ / / / /14 Residential % Change 80% 63% 31% 19% 8% Large power % Change 78% 63% 12% 11% 4% Small power % Change 55% 38% 23% 19% 9% Commercial % Change 52% 44% 15% 13% 6% Services % Change 47% 43% 20% 18% 8% 6.2 CALCULATION OF CUSTOMERS TO BE AFFECTED BY TARIFF CHANGES The number of customers to be affected by the change in tariffs over the next five years as given in section 4 above is the total number of customers ZESCO is expected to have if the projected growth in customer numbers is realised. 22

23 7 EFFECT OF TARIFF CHANGES ON REVENUE AND EXPENDITURE The change in tariffs is expected to cause the revenues and expenditure to move upwards in that the increase in revenue as indicated in the model will enable ZESCO to increase expenditure on improvements in service delivery as indicated in the projected expenditure on the attainment of KPIs shown in Table 11above. In order to ease the burden of the cost of electricity on the customer ZESCO intends to continue to reduce operational costs in non key areas of the business. To this end, ZESCO has once again committed to reducing all its allowable operating costs apart from insurance, water charges, fuel, and maintenance in the coming year by 10% despite the rising levels of inflation. 8 EFFECT OF TARIFF CHANGES ON SERVICE DELIVERY The effect of the tariff changes on service delivery is expected to be most felt in the acceleration of the customer metering and distribution system rehabilitation and reinforcement programmes which have been allocated a budget of K285, 484 million. The customer metering programme set to be completed by 2010 is expected to put an end to the existence of long term un-metered customers. The metering of all customers is also expected to bring about a 2.25% reduction in the level of non technical losses per annum as ZESCO will be better able to monitor the consumption of its product and promptly deal with problem areas. The rehabilitation and reinforcement of the distribution networks is an on going programme meant to improve the quality of service in most parts of the country. Whilst ZESCO has been working on reducing its fault response and resolution times, it would be more beneficial to ZESCO s customers to have fewer faults to report due to the acceleration of the system rehabilitation and reinforcement. 9 STUDIES UNDERTAKEN BEFORE APPLICATION WAS DRAFTED This tariff application is based on the cost of service study and load forecast carried out by IPA and PB Power in 2005 and subsequently updated with actual information from the years ended 31 st March 2006, 2007, and