The Dilemma of an Energy Crisis

Introduction

From the middle of 2015, the hours of load shedding that Zambians are being subjected to has been steadily rising. There is little to be gained from finding people to blame for our current situation and frankly there is more than enough blame to go around. The unfortunate result of the blame game will however be to distract our attention and full faculties to implementing a lasting solution to our current woes. On one side of the triangle we have the Zambian people, on the other sides we have the Patriotic Front Government and lastly we have the energy cluster (comprising Energy Regulation Board and Zesco).

The Zambian People

The year 2016 is an election year in which the Zambian people will file their report on the performance of the Government. To date, the people have been told that the current electricity deficit is beyond human control and was pretty much inevitable due to the fact that God has not blessed us with enough rain for two consecutive rain seasons. Not much has however been said about the change in the consumption pattern of water for hydro-electric power generation. The running of an additional 360 MW of hydroelectric power generation capacity at Kariba North Bank Extension has not been widely discussed. Zambians have seen the hours of load shedding carried out by the national vertically integrated Government owned utility Zesco increase from 2 hours daily to 10 hours in the last 12 months. In addition, the people were asked to pay an increased amount of money to the utility through a tariff increase that was implemented on 1^st December 2015. The people were told that the tariff increase was unavoidable and needed to be done to make tariffs cost reflective. The load shedding continued despite the tariff increment and the tariff adjustment has been subsequently reversed on the instructions of the President in the face of a public outcry. In the face of this about turn, the question arises: what next? Everybody considers themselves an expert on electricity because it only needs you to flip a switch for you to know whether it is there or not. If it is not, then someone is not doing their job.  Regardless of the complexity of the industry required to deliver power, the urge is to blame someone for this failure.  

The Patriotic Front Government   

Over the years, it will have been noted that the Patriotic Front Government has had an uneasy relationship with the energy sector. Amongst one of the first actions of the Government on taking office was to launch a probe in to the operation of the Energy Regulation Board (the national body responsible for the regulation of the energy sector in Zambia). To date the recommendations and findings of this Commission of Inquiry have not been made public however the top leadership of the institution at both Board and managerial level were replaced. A similar change was effected at the national utility Zesco with both the Board and Management undergoing a change. At present, while the Chief Executive of the company has been appointed, there is still no supervisory Board in place for the utility.

The post of Minster of Energy and Water Development was combined with that Mines as one of the first changes made by the PF government. President Lungu has since separated the Ministries again. In terms of government energy policy, the PF manifesto of 2011 acknowledges the failures of the MMD to invest in energy infrastructure. The following are the measures outlined to address this situation in the electricity sub-sector:

·         Accelerate and scale up public private partnership investment in hydro power generation to raise the installed capacity in order to meet national demand and surplus for export

·         Promote investment in alternative energy sources such as thermo electricity generation form coal and nuclear reactors

·         Promote investment in the development of renewable energy sources such as solar, bio-fuels and wind

·         Accelerate the provision of electricity to rural and peri-urban households at subsidized rates

·         Promote the development and use of other alternative fuels in households such as liquefied petroleum gas and ethanol gel fuel so as to reduce dependency on wood fuel

·         Unbundle the public power utility Zesco into (i) generation (ii) Transmission, Distribution and Customer Service to improve its efficiency

·         Promote private sector involvement in generation, particularly using renewable energy such as biofuel or small scale hydro

·         Review the regulation  of the energy sector

The implementation of the above measures may have fallen short due to the fact that the methodology of funding the measures outlined above is not clear. All the investment measures can only be attractive if investors are clear that they can recover their costs from the market and also make a profit through an independently regulated tariff. Clearly also in the period, some work could have commenced to review the structure of the public power utility. The re-structuring of such a large parastatal with such a large impact of the economy would require a level of buy-in from the public and also from politicians who may not share the political ideology of the government. It would also require the assembly of a team of talented men and women with a mandate to change the energy sector over a period of at least 10 years without being subjected to the shackles of political capture. Whilst it is clear that some of the measures have been implemented, the absence of an electricity market means that we will not be able to record substantial growth or investment in the absence of private sector investment and transparent regulation. In the words of Oliver Wendell Holmes Sr.

“To reach a port we must sail, sometimes with the wind, and sometimes against it. But we must not drift or lie at anchor.”

The Energy Cluster    

At present, it is not clear where the industry (Zesco and ERB) will find itself in the ten years. In the past ten years, the top leadership of both the Energy Regulation Board and Zesco has not been stable.  Whilst the Energy Regulation Act makes provision for the appointment of appropriate professionals to the Board such as engineers, economists, lawyers and accountants, the Board members have been drawn from other backgrounds. These have included District Commissioners, traditional leaders and religious leaders. Zesco Limited has also under gone a lot of changes at Chief Executive level. In the past ten years, the company has had four different Managing Directors. In at least three of the replacements of Managing Directors, a purge of top management has also taken place. For a company of the size of Zesco, it is clear that this loss of management human resource would affect overall performance however these skills will still available to the private sector in a restructured energy market.  

The Blueprint

There is need to increase availability of electricity to households from a national penetration rate of 19% and also to deal with the expected increases in domestic consumption to be expected as the burgeoning middle class invests in appliances such as fridges and air conditioners. Whilst investment may be made in generation, we may find ourselves struggling to deliver the power to household customers due to underinvestment in the distribution of power. For real progress to be recorded in this area, the institutional framework of both the above institutions must be enhanced. An example is that one term of an Energy Regulation Board member has been limited to three years. A Board member also is limited to two terms. This means their skills are only available in this role for six years. In other jurisdictions where significant reforms have taken place, most regulator terms are now at around five years. This allows for a planning horizon of at least ten years. The Energy Regulation Board and the Ministry need to implement a ten year plan and identify the correct people to carry this plan forward. This plan should involve some of the following issues:

1.      Attracting at least $4 billion of private sector investment into the sector (significant attention must be paid to political risk)

2.      Completion and implementation of an Electricity Master Plan (this should be a document produced by the Ministry of Energy)

3.      Immediate eradication of load shedding

4.      Metering of all customers

5.      New connections (doubling penetration in the next ten years)

6.      Restructuring of Zesco

7.      New generation capacity (doubled in the next ten years)

8.      Cost reflectivity of tariffs to be married with costs of new connections and new generation and ensuring we never undergo load shedding again

9.      Immediate implementation of energy efficiency and demand side management programmes that have significant commercial impact

10. Guidelines for the management of shared water resources so that it is more transparent to the public

Solar energy has been targeted as an area in which large expansions can be made in generation capacity. Under the current structure, however, the cost of underwriting the implementation of such technologies will fall on the Government. In a restructured market where distribution of power has attracted private sector investment, this charge on the Treasury would be avoided. This injection of private capital would also serve to reinvigorate investment into the generation sector. Our continued insistence that power is “cheap” has led us into this cul-de-sac. Cheap power is a fallacy and the time to realise that we have to pay for power has now come. Fundamentally unless we all accept a change must happen and now, load shedding will continue as the politicians will be wary to implement the immediate reforms required to change the status quo.    

As an immediate measure, a target must be set to end load shedding in the next two months. The cost of unserved demand in the market will continue to devastate the economy. It should also be noted that while the public embark on a spree of buying and installing inverters, the battery charging load will adversely affect the grid. Whilst there appears to resistance to increasing the use of diesel power for large scale electricity generation (greater than 50 MW), in the face of the needs of the Zambian people, there is a compelling case for such sources of power to be in the market for a long time into the future. The flexibility such solutions can provide cannot be ignored. These include quick start up and shut down and also the capability to open a market for renewable energy sources by combining the diesel used in such generators with biofuels. We also have large hydroelectric power generation sites that have been identified but we are still struggling to attract investment into these sites.  

The question then arises,”if we know what to do, why aren’t we doing it?” Therein lies our dilemma.  

The Power of Habit

In his latest book, The Power of Habit Why We Do What We Do in Life and Business, Charles Duhigg, a prominent journalist on the staff of the New York Times analyses the effects our habits have on our lives. He studies habits as they apply to the following:

·         Giving up smoking

·         Fitness and weight loss

·         How Proctor &  Gamble market their products

·         How habits are important in social movements

·         How habits affect corporate culture

·         Military organisations

·         American Football coaching

·         Organisational behaviour

Habits can be simply be defined by the following diagram:

All habits both good and bad have the characteristics above. More importantly as they become habits, your conscious mind is not even involved in their execution. I particularly enjoyed his analysis of the leadership of Paul O’Neill. The story told in the book is this:

In 1987, the Aluminium Company of America (Alcoa) held a meet and greet to introduce the shareholders to their new Chief Executive. The stock of the company had been sliding and investors were very worried. Paul O’Neil was a former government bureaucrat and Wall Street had never heard of him. O’Neill took the stage and said, “I want to talk to you about worker safety.” He then proceeded to outline safety targets that he was going to meet in his quest to make Alcoa the safest company in America. The audience was confused. Where was the discussion of profits and new strategies??? Words like synergy, leverage and rightsizing?? He then proceeded to give the audience a safety briefing and indicated the emergency exits and how to exit the building.

Bemused shareholders held up their hands and started asking questions about capital ratios. Another asked about inventories in the aerospace division. O’Neill stood firm.

 “I’m not certain you heard me. If you want to understand how Alcoa is doing, you need to look at our workplace safety figures. If we bring our injury rates down, it won’t be because of cheerleading or the nonsense you sometimes hear from other CEOs. It will be because the individuals at this company have agreed to become part of something important: They’ve devoted themselves to creating a habit of excellence. Safety will be an indicator that we’re making progress in changing our habits across the entire institution. That’s how we should be judged.”  

There was a stampede out of the doors when the presentation ended. Investors told everyone to sell as the Board, ”had put a hippie in charge.” To hear what happens next, I recommend you read the book. Mr Duhigg emphasises that any self-respecting must learn to use crisis to his advantage and ensure the chance is not lost to change corporate habits. This is what the other part of the book is about. Whilst we may be governed by habits, we all possess the free will to make new or better habits.

The Zambian energy sector is in crisis. Have we also fallen into habits we think we need to change? What new habits should we be building to navigate our way out of the crisis? Is a shutdown of the refinery our cue? What is the reward at the end of every cycle of imports and shortages?

Petroleum Procurement

Introduction

The Commission of Inquiry into the Energy Regulation Board completed its work and presented their report to Cabinet for further action. Whilst the findings of the Commission were not made public it is worth noting the following:

·                The responsibility for the procurement of petroleum (both crude and petroleum products) is within the purview of the Ministry responsible for Energy

·                There is an on-going requirement for Zambia to import petroleum products to satisfy market demand. This particularly true for ultra-low sulphur diesel (diesel with sulphur content <500 ppm) which cannot be produced at the INDENI Refinery but is a preferred fuel for use in heavy diesel mining equipment in Zambia.

·                There is a need to import feedstock (crude oil mixed with finished products) as Zambia does not produce its own petroleum. The INDENI Refinery is not configured to process a pure crude into petroleum products and satisfy Zambian market demand unless more investments into this facility (such as the installation of a hydrocracker) are made.

·                The supply of petroleum into the Zambian market requires the involvement of two parastatals namely the INDENI Refinery (100% owned by Government of the Republic of Zambia (GRZ)) and TAZAMA Pipelines (2/3 owned by GRZ and 1/3 owned by the Government of the United Republic of Tanzania). Both these companies have supervisory Boards chaired by the Permanent Secretary of the Ministry responsible for Energy. 

The Committee indicated in their summary on report handover that they had exposed irregularities and corruption in the procurement process. The following are some the factors that need to be present to allow corruption to take place:

·                Inadequate institutional frameworks to handle the transaction

·                Insufficient accountability frameworks of supervision and accountability for those handling a transaction

·                A lack of transparency in the procurement, execution and management of a transaction

The Government through the Zambia Public Procurement Authority advertised two tenders: one for the supply of petroleum products and another for the supply of petroleum feedstock. Since the completion of the Committee’s report, we have not seen any changes in the institutional framework. It therefore would appear that there is still an environment in place which allows for corruption to take place. In this environment it may perhaps be the right time to ask the following questions:

1.       Is Government is the correct entity to control and execute the procurement of petroleum feedstock and products?

2.       Is sufficient attention being paid to best international practices in corporate governance to ensure that parastatals improve their performance and eradicate the potential for corruption?

3.       Is enough being done to secure the future sustainability of the Zambian economy in terms of petroleum supplies?

Petroleum Exploration

In 2009, the Petroleum (Exploration and Production) Act of 1986 was repealed and replaced with a new Act. This Act updated the precious Act to better reflect the changes in how this type of activity is now carried out worldwide. To a large extent the majority of new finds in the petroleum sector are happening in the shadow of the rise of the NOC (national oil company). Whilst the NLOC maintains majority shareholding in the petroleum resources, they work with international oil companies as technical partners to unlock their petroleum resources.  This kind of system works very well once the presence of commercial oil deposits have been established. It is much more difficult to create an environment in which exploration on a large scale is being carried out. Large amounts are being spent in exploration in Angola, Mozambique, Tanzania, Kenya and Uganda. Not a week passes by these days without news of new discoveries in all these countries. 

Whilst Zambia seems to have a system which supports mineral exploration, the same cannot be said for petroleum exploration. Successive regimes in this country have bemoaned the “high price” of fuel in Zambia but little attention is being paid to the best long term solution to this problem which would be the discovery and exploitation of our own petroleum resources. This may perhaps be due to the fact that investments of this nature may take as long as ten years for them to bear fruit and this may not sit well with short term political planning. A good example of this would be Ghana. The Kufuor regime spent large resources in the search for oil. This paid off but the benefits are now being seen by the opposition; in this case the regime of Professor John Atta Mills. First oil in Ghana coincided closely with the change of power and there have been challenges noted in how revenues from oil have been administered. Considering Zambia’s own experience with mineral revenues, it may be instructive to study legislation such as the Petroleum Revenue Management Act in Ghana.

Oil wealth has tended to have a mixed record in Africa, it is in the wider interest of this nation that if these resources are there, they should be exploited. Whilst there will be a long lead time to “first oil”, this time should be used to build up the relevant institutions so that the process of petroleum exploitation can be as transparent and inclusive as possible.

Parastatals

Perhaps the greatest challenge in our current environment is the operation of our parastatals. It is also apparent that privatisation is not being seen as a viable alternative to the operation of these entities. If we are committed to continuing to run these entities as businesses then there is a need to change the approach of how appointments to the respective supervisory Boards are made. There is nothing stopping appointing authorities from requesting search committees to receive applications from members of the public wishing to serve as Directors of state owned companies as a first step in the reform process. On average in the best run companies, it is not unusual to have a director serving for 15 years.  Perhaps our challenge is to create a process that will generate enough credibility such that Directors are allowed to contribute to the respective companies for this period of time.

The Contracts

Two companies have been reported in the press as being the preferred suppliers for the respective petroleum contracts. The structure of the Zambian market requires study and further monitoring to establish whether there is real competition in place. The award of a substantial contract for the import of petroleum products to a company which also has a presence in the retail and distribution market will put pressure on regulatory agencies to ensure that the servicing of this contract does not unduly give them over competitors. The need to ensure this will fall on both the Energy Regulation Board and the Competition and Consumer Protection Commission. There will be a need to strengthen and support the operations of these agencies if they are to effectively carry out this important task. There also appears to have been some shortcomings in the management of previous contracts and this may have contributed to the belief that there is corruption in the procurement of petroleum. Those discharging these contracts will need to ensure that everything that has been done will stand up to public scrutiny.              

Conclusion

There is an opportunity to set a new standard in the management of the petroleum procurement process, This may require Government to make decisions regarding the market structure of the petroleum industry and whether it is appropriate for them to take the lead in petroleum procurement. There will also be a need to strengthen the oversight, through boards, of parastatals. The energy sector has taken a beating in the press in which its management and regulation has been found wanting. What is not clear at this point is the measures both in the short and long term that will be instituted to bring back credibility to the operations for this sector. The public has heard enough about what is failing; it is now time to get the sector running in a form that will re-establish confidence. There is an expectation that there will be a steep rise in the price of petroleum in the next two years and we need to make decisions that will find us ready to deal with this eventuality when it arises. It may therefore not be advisable to build the expectations of the public that fuel prices will reduce when the cost of crude and petroleum products imported into Zambia is not something that the importer can control.         

The Future of the Zambian Petroleum Sector

In the next couple of weeks, we will be expecting to hear the findings of the Special Committee investigating the Energy Regulation Board. What has become clear, however, is that the petroleum sub-sector is not in a great state of health. Since the cancellation of the World Bank sponsored Petroleum Rehabilitation Project in 2001, there has been no sustainable institutional framework in place to manage the importation of petroleum products in the country. Both the Refinery and the Pipeline (both Government owned) are in need of re-capitalisation and expansion. Government also has fully taken on the responsibility for the importation of all petroleum.

Oil Pricing

A study of the international petroleum industry will indicate that it is becoming increasingly difficult to find petroleum. Deep water finds in Angola and in Brazil are pushing the envelope in terms of the technology that is now deployed to exploit these resources. The use of remote submersibles for the deployment of production infrastructure is an expensive undertaking. Consumption or demand has been suppressed by the continued poor performance of Western economies. It is clear that this will not continue and at some stage, most of the Western economies will recover. This will in turn increase demand and this will result in an upward pressure on the price of crude. In Zambia, we have no power over these pricing dynamics as we import all our petroleum requirements. It is therefore inevitable that at some time in the future there will be a price shock in the oil market and we need to prepare ourselves for this eventuality.

Supply of Petroleum

There are essentially two ways in which petroleum can be supplied to the country. Firstly we can supply ourselves. This means showing more seriousness in our search for a petroleum resource within Zambia’s borders. As I write this blog, the Geological Survey website which hosts all the information for interested applicants to apply for a block is not accessible. The Petroleum (Exploration and Production) Act Cap 440 of the Laws of Zambia was revised in 2010. Provision was made in the Act for the setting up of a National Oil Company. Progress has not been made in the setting up of this oil company nor have there been significant efforts to promote Zambian petroleum exploration opportunities. Our national oil company continues to be absent from important industry showcases such as the World Petroleum Congress and Africa Upstream. In the region Namibia, Tanzania, Mozambique and Uganda are registering significant investment in petroleum exploration and the same countries have all recently reported significant finds of oil and gas. All these countries have active and effective National Oil Companies.

The other method of supplying the nation’s needs remains that of importation. Continued Government involvement in the importation of crude needs to be better structured so as to ensure adequate levels of accountability and transparency exist in the process. The possibility of allowing the private sector to import feedstock should also be considered as a sustainable option. History has proved that the temptation for a government to politicise fuel pricing if it is involved in importation has been overwhelming. Attempting to subsidise energy consumption has proved to be extremely costly and has the potential to damage a national economy. Previous regimes have racked up large bills for petroleum over the years. The fact that the liquidator for Zambia National Oil Company is still active ten years after the company wound up should be an indication of the capability of settling bills. It is also clear that over the last two years the fuel price in Zambia has not been reflective of the price on the international market.

An innovative way to resolve this dilemma would be for the regulator to advertise a licence to supply petroleum feedstock. Companies like the refinery or TAZAMA or the private sector would have to compete so as to ensure the best deal is obtained for the Zambian people. The role of Government would be to facilitate a financial environment where instruments to hedge fuel prices can become available to large consumers.

The Single Buoy Mooring in Dar-es-Salaam

Logistics of Supply

The main route for the supply of petroleum products is through the TAZAMA Pipeline. Whether or not the Refinery continues to operate, the pipeline will remain and important tools for the delivery of fuel to the market. It is important to note that there is need to expand the capacity of the pipeline. Opportunities also exist to extend the pipeline to DRC and also to study the possibility of extending the pipeline southwards to Lusaka if it is being used in a finished products mode. The existence of a market in Lubumbashi would offer opportunities for raising finances for pipeline extensions. Thus far little progress has been made to open competing routes to the pipeline from the Western seaboard or from the South. As the economy expands, it will important to diversify the routes of supply to the country. This includes studying opportunities of supply from both Angola and Namibia. A study of all these options will go a long way towards reducing the cost of supply of petroleum products to Zambia and thus sustainably keeping the cost of petroleum products down.