South Africa: South Africa - Feed-In Tariff Cuts Proposed

On 22 March 2011, the National Energy Regulator of South Africa (NERSA) published a consultation paper which proposes a material decrease in the level of renewable energy feed-in tariffs (REFITs) when compared with those approved and promulgated in 2009. Meanwhile, the Government is now targeting significantly more renewable energy.

Background

Indeed a week earlier, the Cabinet approved the Integrated Resource Plan 2010 (IRP 2010) which states that 42 per cent of new electricity generation capacity, or more than 17,000 MW, would be derived from renewable sources over the coming two decades, significantly more than the 30 per cent assigned under the draft IRP.

Proposed changes

The REFIT consultation paper sets out the qualifying principles and proposed new tariffs for landfill gas, biomass, biogas, concentrated solar power (CSP) (with and without storage), wind, small hydro and photovoltaic (ground mounted and rooftop).

Decreased tariffs

The tariffs for all technologies are proposed to be reduced, and in some cases the reduction is more than 40 per cent (landfill gas and photovoltaic).

2009 REFIT and 2011 Revised REFIT with project consumer price index adjustments for years 2012-13

Financial assumptions

In terms of the financial assumptions used to determine 2009 and 2011 REFITs, those including nominal cost of debt, rate of inflation and exchange rate are changed since 2009.

Clearly these assumptions will be of central importance to owners, developers, financiers and others wishing to rely on REFITs.

REFIT power purchase agreement (PPA)

The term of any PPA should remain 20 years and NERSA intends to facilitate the conclusion of such contracts between the REFIT independent power producer and the "buyer", which in the near term is likely to be a ring-fenced single buyer's office within Eskom. For detailed commentary on issues surrounding the draft PPA and other matters, please see our previous briefing: "Renewable energy in South Africa – opportunities and obstacles", available at http://www.blg.co.uk/publications/briefing_notes/renewable_energy_in_south_afri.aspx .

Timelines

The closing date for the submission of written comments to the consultation is Friday 22 April 2011. The consultation paper also provides a schedule of the timelines for the review process which includes a public hearing on the REFIT review to be held on Thursday 5 May 2011. The regulators approval of reviewed REFITs should be announced on Thursday 26 May 2011. Once approved, the revised tariffs and rules will replace REFIT phase I and II tariffs and associated guidelines.

Reactions towards proposed cuts

Charles Hlebela, a spokesman for NERSA apparently pointed out that the tariffs were cut because of lower than expected inflation and lower debt costs², saying:

"The consultation paper on the REFITs is in line with NERSA's decision of 26 March 2009 to review REFITs every year for the first five-year period of implementation and every three years thereafter and the resulting tariffs to apply only to new projects. In this regard, the tariffs approved in 2009 must be aligned with the current prevailing financial and economic parameters."

Nevertheless, it is suggested by some commentators that NERSA's move to apply cuts also to phase I projects appeared to surprise the Department of Energy which apparently said the higher tariffs should apply for the first round of REFIT bids, which are about to go out to tender, because these projects had to be ready by 2013 and thus could cost more³.

NERSA representative Thembani Bukula apparently stated that some confusion could be introduced into the procurement process as a result of the publication of a consultation paper entitled a "Review of Renewable Energy Feed-In Tariffs"⁴. Bukula emphasised that the intention of the consultation is not to make the REFITs less attractive, apparently pointing out that the "real" return on equity after tax has remained 17 per cent, which he apparently stated is better than returns received in other countries. Despite press reports of confusion, it appears clear that lower REFITs will apply to all new projects, including those in phase I. Whilst NERSA does not provide detailed modelling for its calculations, its published assumptions and return on equity aspiration will no doubt face much scrutiny.

The move to decrease tariffs is unlikely to surprise some close observers who regarded South African rates as unusually generous. Whilst some just attributed high tariff rates to exchange rate assumptions, and because the tariffs were calculated ahead of some significant cost improvements on certain renewable technologies, such as solar photovoltaic⁵, a perhaps more conciliatory view is that:

"The principle of better than reasonable returns remains," Bukula adds. "But we also have to ensure that South Africans get the best deal possible and that the REFIT is not over generous."⁶

Regardless of hindsight perhaps suggesting initial rates were unsustainable, most investors may have prepared their investment cases and secured funding lines based on the tariffs approved and gazetted in 2009⁷.

Richard Worthington, the WWF's climate change programme manager, is reported to have stated⁸:

"The issue is not that the tariffs have been reduced. It is the way it has been done. NERSA approved the REFIT rates two years ago, but the Government has failed to implement. That signals a lack of commitment to renewable energy."

Some commentators have further said that the proposed changes could raise yet more uncertainty and risk for developers, who will now be unclear whether the PPA will be based on the 2009 or 2011 REFIT regime⁹. The draft PPA was however subject to criticism and amendment was to be expected in any event.

There is also some commentary that the consultation and the short period for responses, signals interdepartmental tension (between NERSA, the Department of Energy and the Treasury). Indeed the introductory wording to the REFIT consultation paper acknowledges that: "unfortunately due to issues relating to institutional arrangements, the first uptake of REFIT projects is yet to commence". Any such tension may further disrupt and delay the implementation of REFITs¹⁰.

Conclusion

Whilst tariff "reviews" are rarely good news for developers, recent developments in South Africa reinforce a need for investor stability and certainty. Whilst "teaser" tariffs are often too good to be true, some commentators recognise the need to keep rates balanced if the Government is to avoid moving altogether to a PPA auction-based system, which is rumoured by some to now be under consideration also. If any interdepartmental tension can be minimised and tariff certainty maintained, then the political risk profile for renewable developers in South Africa should justify exiting development opportunities.

Footnotes

1 Based on the maximum target inflation rate in South Africa

2 South Africa Cuts Proposed Renewable Energy Prices, Business Report, 23 March 2011.

3 Proposed Renewable Tariff Cuts, Business Report, 29 March 2011.

4 Nersa moves to cut Refit tariffs just as SA promises to boost renewables, 22 March 2011

5 See footnote 4

6 See footnote 4

7 Turf Wars Begin over Renewable Energy, MoneyWeb News, 25 March 2011.

8 See footnote 7

9 See footnote 7

10 See footnote 7

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