FIXED INCOME CREDIT | ESKOM BAILOUT IS NOT ENOUGH - Nedbank
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FIXED INCOME
CREDIT | ESKOM
BAILOUT IS NOT ENOUGH
JONES GONDO
Senior Research Analyst
Tel: +27 11 535 4050
JonesG@Nedbank.co.za
R E E Z W AN A S U M AD
Research Analyst
Tel: +27 11 537 4091
ReezwanaS@Nedbank.co.za
N T H U L L E N G M P H AH L E L E
Research Analyst, CA (SA)
Tel: +27 11 537 4163
NthullengM@Nedbank.co.za
Please click here to view our Nedbank CIB disclaimer
29 JULY 2019FISCAL IMPLICATIONS OF THE ESKOM BAILOUT
The trend points to significant slippage in the MTBPS, with few
austere measures in place to offset it
• We have long raised the concern that SOEs remain a key risk to the fiscus. Unfortunately, this risk has now
materialised with the recent bailout announced by the finance minister for Eskom of R59bn over the next two
years.
• We have previously noted that our estimates point to a main budget deficit of 5.5% of GDP, but the bailout
funding will likely imply a deficit of 5.9% instead (or R317bn vs the R255bn forecast in the February Budget).
• The consolidated deficit estimate is now 5.7% of GDP, compared to 5.3% previously forecast. These
estimates are well above the main and consolidated deficits (as a percentage of GDP) of 4.7% and 4.4%
achieved in 2018/19, respectively.
• We also expect the debt-to-GDP ratio to rise to 60% in 2020/21 and 61.6% in 2021/22 (excluding Eskom’s
debt repayments). These estimates signal a R157bn revenue undershoot of the MTEF, and we expect a
similar downward revision to both revenue collection and revenue growth estimates at the October MTBPS.
• On the expenditure front, we believe further bailouts for Eskom and other distressed SOEs like the SABC,
Denel and SAA will be forthcoming within the MTEF, and hence project an expenditure overshoot of R85bn
relative to the February Budget estimates.
• However, more concerning is the possibility of a breach of the expenditure ceiling, which is currently set at
R1.43tn in 2019/20. Our revised real and nominal GDP growth estimates show a sharply reduced nominal
GDP profile – we expect a R330bn nominal GDP undershoot over the MTEF relative to the February 2019
Budget forecasts.
• This means that expenditure would actually need to fall by R86bn (relative to the February Budget forecasts)
to neutralise the effect of lower GDP, as the expenditure ceiling is typically set at 26% of nominal GDP. The
hurdle rate to maintain the ceiling over the MTEF is therefore R171bn (our R85bn expenditure overshoot plus
the required decline in expenditure of R86bn as a result of the lower nominal GDP estimate).
• Given the elevated funding shortfall of R62bn, we still project a R1.02bn increase in weekly nominal bond
issuance over 30 weeks, assuming a potential non-comp take-up of about 20% (on average) would eventually
necessitate an increase of R816m. This would imply higher yields in the belly and long end closer to our
measure of fair value.
• Ultimately, the rating agencies are not convinced that the rising sovereign debt is sustainable in the long run.
Moody’s penned a “Credit Negative” commentary, and Fitch took its view one step further and lowered South
Africa’s outlook to “Negative” from “Stable”, while affirming the “BB+” rating level.
• In our opinion, the MTBPS has become a critical rating downgrade event at both Fitch and Moody’s.
• S&P Ratings is yet to formally comment on the extraordinary bailout.
• We expect the Eskom analysts at both Moody’s and S&P Ratings to provide credit updates on Eskom
following its financial results.
PAGE 2SOVEREIGN DEBT TREND
Evolution of gross debt to GDP
65 2015 MTBPS
2016 Budget
60
2016 MTBPS
2017 Budget
55
2017 MTBPS
%
2018 Budget
50
2018 MTBPS
45 Actual
Nedbank CIB
forecast
40 2019 Budget est
2012/13 2013/14 2014/15 2015/16 2016/17 2017/18 2018/19f 2019/20f 2020/21f 2021/22f
Evolution of budget balance as a % of GDP
-2.0 2015 MTBPS
-2.5 2016 Budget
2016 MTBPS
-3.0
2017 Budget
-3.5
2017 MTBPS
-4.0
2018 Budget
-4.5
2018 MTBPS
-5.0
Actual
-5.5
Nedbank CIB
forecast
-6.0
2012/13 2013/14 2014/15 2015/16 2016/17 2017/18 2018/19f 2019/20f 2020/21f 2021/22f 2019 Budget est
Source: Nedbank CIB Markets Research, National Treasury
PAGE 3THE BAILOUT IS NOT ENOUGH
The Eskom credit is unlikely to climb out of distress, despite
the sovereign support
We do not think there is enough evidence of progress at Eskom. The sovereign has shown that it
understands Eskom’s dilemma and the systemic risk it poses. However, the government is unwilling or unable to
provide commensurate support to de-risk Eskom. Clearly, the February Budget bailout assumption was
inadequate to make Eskom viable, and the bailout announced last week still falls short of the mark for long-term
financial sustainability, in our view. We will see how Eskom’s auditors opine on this when the utility publishes its
financial results on 30 July 2019. The credibility of the budgeting process has been tarnished somewhat by this
extraordinary expenditure, which does not have a defined terminal point. Below, we highlight some developments
since our last publication Corporate Credit Insight – Eskom, published 24 January 2019
KEY DEVELOPMENTS
• The February 2019 Budget provided for R23bn per annum over the next 10 years to ensure that Eskom would
be a going concern and to support Eskom’s turnaround on the condition that a coherent business plan is put in
place and the entity is unbundled three ways into functionally and legally separated subsidiaries – that is to
form a GenCo, TransCo and DisCo.
• The credit market was buoyed by President Ramaphosa’s statements at his post-election State of the Nation
Address (SoNA) that pointed to an imminent extraordinary bailout that would accelerate the drawdown of the
previously budgeted R230bn over 10 years.
• For this, a Special Appropriation Bill was tabled in Parliament on 23 July 2019. This front-loaded R59bn (of
the R230bn over 10 years) over the next two years. That is R26bn for the 2019/20 financial year and R33bn
for 2020/21. No further details were provided on the drawdown conditions that the finance minister is required,
by law, to impose after funds have flowed.
• For a company in a liquidity crunch, imposing drawdown conditions is ineffective for actually resolving the
liquidity problem (in our view). Ultimately, we think that the aim of this bailout was to provide the minimum
amount possible to avoid an insolvency declaration by Eskom’s auditors, rather than to completely expunge
its cash flow challenges once and for all.
• We expect Eskom’s financial results to show that it remains stuck in a deepening debt spiral and that it will
certainly not be able to trade its way out of credit distress as if it were business as usual. In our view, the
regulatory tariff rate is not enough to cover operational costs, and the path out of this morass is via bigger
bailouts and a debt restructure.
PAGE 4THE BAILOUT IS NOT ENOUGH
KEY DEVELOPMENTS
• While there is recognition by the sovereign that Eskom is too big to fail, and a default is untenable, the
sovereign’s recent track record of support suggests that the amount of money being provided is too little to lift
Eskom out of distress and that Eskom should only expect minimal or partial financial support when needed.
This is understandable given the sovereign’s own diminished fiscal capacity to provide more substantive
support. As such, guarantees will not add any value because Eskom and the sovereign are correlated risks.
• What is new is that we seem to be closer to seeing a Chief Reorganisation Officer being appointed. We will be
keen to understand whether the appointee is able to execute a meaningful debt restructure and operational
turnaround without triggering any technical defaults. Ultimately, the appointment is a political one, and the
political angle is probably needed to broker a labour deal to allow for a credible restructure. This is also a
requirement for the new CEO, once appointed by the board, and the apparent conflict in roles and
responsibilities may hamper further progress at Eskom.
• Unfortunately, the current political environment does not leave us too optimistic about the prospects of speedy
implementation of any meaningful turnaround plans, raising the risk of more unbudgeted bailouts by the
sovereign every six months, to avoid insolvency and appease Eskom’s auditors.
• We would turn bullish on Eskom’s turnaround prospects if
1. A debt restructure is pursued, with more than 75% of noteholder support, and which the rating agencies
would not classify as a distressed exchange offer or a technical default. For this, we understand that
Eskom will be testing various model scenarios with rating agencies to help them assess the impact.
2. An agreement is reached with labour unions to reduce costs, and some political space opens up to pursue
the proposed divisional unbundling.
PAGE 5BOND MATURITY PROFILE
Eskom’s E170 bond split eases its near-term principal
repayment profile, while the USD 10yr (2021 5.75%) is the
next major redemption until the end of FY2021
Eskom’s debt maturity profile: FY19 to FY21
30 000 Principal (Rm) Interest (Rm) Total (Rm)
2019/2020 financial year 7,930.19 13,110.23 21,040.42
2020/2021 financial year 27,327.82 15,451.35 42,779.16
25 000
Total 35,258.01 28,561.57 63,819.58 USD1.75bn Eskom
10yr 2021 5.75%
• Issued @ T 2 5/8
E170 (R8.79bn, 28-year note) 11/15/20 + 250bps
20 000 Coupon: 13.5% fixed spread
Security: 1st lien on revenue and assets ‒ Callable @
Split Bond: Redeems pro-rata (~R2.93bn ea.): Make-Whole
• E173 (1-Aug-2019): YTM: 8.020%; Spread: 58.5bps over R2023; Clean Price: 100.090 +40bps
• E174(1-Aug-2020): YTM: 8.160%; Spread: 72.5bps over R2023; Clean Price: 104.474 ‒ Marketed as a
Rm
15 000 • E175(1-Aug-2021): YTM: 8.210%; Spread: 77.5bps over R2023; Clean Price: 109.431 private
placement
10 000
ECN20 (R5bn, 5-year note)
5 000 Coupon: 9.65% fixed
Spread: 60.5bps over R2023
YTM: 8.040%
Clean Price: 100.931
E173 E174
0
Jul Aug Sep Oct Nov Dec Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Jan Feb Mar
2019 2019 2019 2019 2019 2019 2020 2020 2020 2020 2020 2020 2020 2020 2020 2020 2020 2020 2021 2021 2021
Bond Prin Interest
Eskom’s bond curve: YTM (%)
40 16
35 14.4 14
13.8
30 11.0 12
25 8.8 10.6
10 YTM (Mid) (%)
7.8 7.8 8.2 7.9 7.9 9.3
Rbn
20 8.4 8
7.9 6.3 vs…
15 6
5.7 vs UST
10 5.1 (vs UST Benchmark) 5.2 vs UST 5.1 vs UST 4.4 4.2 4
4.0 3.9 3.9 4.1 4.1
5 2
0 0
EL037
EL28
EL29
EL30
EL31
EL36
ECN20
ESFR03
ECN22
ECN24
ECN32
ES23
ES26
EURORAND Eskom ZCB 2027
EURORAND Eskom ZCB 2032
ES33
ES42
USD Eskom 2025 7.125%
E173 (Secured)
E174 (Secured_
E175 (Secured)
USD Eskom 2021 5.75%
USD Eskom 2023 6.75%
USD Eskom 2028 Unguaranteed
USD Eskom 2028 Guaranteed 6.35%
8.45%
Aug Mar Aug Jan Apr Aug Mar Jan Aug Mar Feb Apr Aug May Aug 2028 Nov Jul Jun Mar Dec Sep Jan Jan Apr
2019 2020 2020 2021 2021 2021 2022 2023 2023 2024 2025 2026 2027 2028 2029 2030 2031 2032 2032 2033 2036 2037 2042
Source: Bloomberg, JSE, as at close 26 July 2019
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