LESOTHO ELECTRICITY AND WATER AUTHORITY LEC Tariff Determin… · 2015/16 Financial Year; b) ... Therefore, there are activities that LEC 2 The LEC statement has not been supported

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LESOTHO ELECTRICITY AND WATER AUTHORITY

In the matter regarding a

DETERMINATION OF LESOTHO ELECTRICITY COMPANY (Pty) Ltd’s

APPLICATION FOR A TARIFF INCREASE FOR 2015/16

1. DECISION

Based on the available information and analysis of the application, written and oral submissions

from stakeholders during public consultation process, reasons, facts and evidence provided, the

Lesotho Electricity and Water Authority (LEWA) Board, at its meeting held on 26 March, 2015

decided and resolved as follows:

a) That the Lesotho Electricity Company (LEC) be allowed revenue of M745.75 million for

2015/16 Financial Year;

b) That the energy and maximum demand charges for all customer categories be increased as

shown in Tables 1 and 2 below;

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Table 1: Approved LEC Energy Charges for 2015/16

Customer

Categories

Old

Energy

Charge

(M/kWh)

Approved

percentage

increase

(%)

Approved

Energy

Charges

(M/kWh)

Adding

Customer Levy

@M0.0360/kWh

(M/kWh)

Adding Rural

Electrification

Levy

@M0.020/kWh

large customers

and

@M0.035/kWh

for others

(M/kWh)

Final

Approved

Energy

Charge

(M/kWh)

Old

Energy

Charges

including

levies

(M/kWh)

Final

Tariff

Percentage

increase

(%)

Industrial

HV 0.1514 5.4 0.1595 0.1955 0.2155 0.2155 0.2014 7.0 Industrial

LV 0.1676 5.4 0.1766 0.2126 0.2326 0.2326 0.2176 6.9 Commercial HV 0.1514 5.4 0.1595 0.1955 0.2155 0.2155 0.2014 7.0 Commercial

LV 0.1676 5.4 0.1766 0.2126 0.2326 0.2326 0.2176 6.9 General Purpose 1.2378 5.4 1.3043 1.3403 1.3753 1.3753 1.3028 5.6

Domestic 1.0950 5.4 1.1539 1.1899 1.2249 1.2249 1.1600 5.6 Street

Lighting 0.6216 5.4 0.6550 0.6910 0.7260 0.7260 0.6866 5.7

Table 2: Approved LEC Maximum Demand (MD) Charges for 2015/16

Customer Old Maximum Demand Percentage Approved Maximum Demand Charges (M/kVA) Categories Charge (M/kVA) Increase (%)

Industrial HV 213.2433 5.4 224.7040

Industrial LV 249.0686 5.4 262.4547

Commercial HV 213.2433 5.4 224.7040

Commercial LV 249.0686 5.4 262.4547

The figures in tables 1 and 2 exclude VAT.

c) The current charges for connection should remain the same for the financial year 2015/16

until reviewed and approved by the Authority; and

d) The effective date for the above approved tariffs is 1 April 2015.

2. THE APPLICANT

Lesotho Electricity Company (Pty) Ltd (hereinafter referred to as LEC) is a Government owned

company issued with a Composite Electricity Licence in terms of Section 50 of the Lesotho Electricity

Authority Act 2002, as amended, to conduct transmission, distribution and supply of electricity

businesses.

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3. THE APPLICATION

3.1 Overview of the Application

The Authority received an application (the Application) for a Tariff Review from LEC (the Company or

the Applicant) on 07 January, 2015. In line with the Lesotho Electricity Authority Tariff Filing and

Review Procedure for Electricity and Water, the Authority identified data gaps and communicated

them in writing to LEC on 22 January, 2015. The Company provided the required clarifications and

additional information, albeit inadequate, on 30 January, 2015. In its Application, LEC stated that one

of its licence conditions prescribes that it must submit an application to the regulator when it needs to

increase tariffs. The Application stated that the objective of the proposed tariff increase is to strive for

commercial sustainability of the Company. The Application mentioned that electricity is recognized as

one of the major stimulants of the economic growth in the Government of Lesotho Growth Strategy. In

order to avoid constraining economic growth, LEC should be adequately and financially resourced to

maintain the growing network, replace obsolete equipment and expand infrastructure to meet

increasing demand. The Application highlighted some of the challenges the utility is faced with as

reflected below:

3.1.1 Increasing Demand

Currently LEC has 185,000 customers and staff complement has to be increased1 up to attain speedy

response to faults and queries. The demand for electricity is also increasing and it requires a

proportional increase in the number of alternative vending methods for ease of access by customers.

Installation and maintenance of sales equipment by the agents also come at a cost to the company.

3.1.2 Network Management

Management of growing but underutilized network poses a challenge on resource requirements.

There is also a need to recover and provide for the cost of network refurbishment to alleviate possible

1 The proposed LEC’s increase in staff is not in line with the Authority principle of increasing staff in line with inflation and half

increase in connections such that the Company attains staff/connection ratio of 1:400.

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future price shocks to consumers. Pressure exacerbated by current electrification drive on the

existing network requires system improvements to guarantee continued electricity supply.

3.1.3 Commercial Viability

To maintain full operating capacity, the utility needs to be properly financed by significant capital

inflows in terms of equity, debt and allowed revenue. Ability to deploy various financing methods

largely depends on regulatory framework for setting future allowed revenues and cost reflective tariff2.

3.1.4 Indexing of Operational Costs

Consistently the regulator has always put a ceiling to the operational cost of LEC, when on the other

hand the utility’s budget for operational costs are based on activities that are geared towards service

provision of electricity (Activity Based Budgeting3). The Application mentioned that indexing of costs

through the use of Consumer Price Index (CPI) limits the cost coverage of activities that can be done

for effective and efficient dispensing of electricity service to the customers. It further stated that

indexing practice compromises the training of staff and customer education aspects. It mentioned

that the support for the intensive electrification drive that the Government embarked on was

inefficient. The best practice is stated as where LEC does pre-electrification marketing and post

electrification marketing, which were highly compromised due to limited budget as a result of indexing

cost. Lastly, it stated that last year LEC had requested M134 million and was allowed M128 million

due to indexation. That resulted in increased overtime and limited availability of staff which affected

LEC’s performance in relation to the LEWA performance standards.

3.1.5 Security of Supply

The Application mentioned that RSA is behind with some power expansion projects against

increasing natural demand and shortage of power supply in the region which is expected to persist

until 2016. The Lesotho national energy crisis translates into a security risk for the country because of

the reliance on non-firm contracts with both EDM and Eskom. Therefore, there are activities that LEC

2 The LEC statement has not been supported with facts as the Authority has developed a set of regulatory instruments in order to

ensure utilities use them on employing various methods to run their business. 3 This method has no cap on activities and it is not clear how it can be regulated in order to ensure smooth increase in tariffs.

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will undertake in facilitation of creating own generation. Those activities entail sourcing consultants to

undertake pre-feasibility and feasibility studies4 , and need to be allowed into the tariff.

3.2 The Drivers of Price Increases

The Application pointed out that the tariff increases were driven by need to sustain the current

business and operating costs to run a viable business. The Application stated that the Company is

also negotiating a firm contract with Electricidade de Moçambique (EDM) of Mozambique which

comes at a higher cost because the expectation is for LEC to take a minimum of 90GWh5 per year.

The other contributing factor is the increase of bulk cost (imports) tariffs from both Eskom of South

Africa and EDM.

3.2.1 Imports (Bulk Purchases)

LEC stated that it has short term contracts (Power Sales Agreement) with ESKOM and EDM. The

utility further pointed out that it was negotiating a firm contract with EDM and that is coming at a

higher cost. The Applicant also mentioned that Eskom’s tariff has also increased by 12.69% while

EDM tariff has increased by 10% for the 2015/16 Financial Year. LEC forecasted total bulk supply

costs as shown in the Table 3 below.

Table 36: 2015/16 LEC‘s Bulk Supply Purchases Forecasts

Intake Point Energy Purchases in kilowatt hours (kWh)

Total Amount of Money to be spent in Maloti (M)

Maseru Bulk 137 788 111 90 693 749.54

Clarens 85 680 119 59 189 064.96

Qacha’s Nek 7 832 058 3 170 706.78

EDM 55 349 010 113 656 290.00

Muela Hydro Power 518 060 791 63 412 056.74

Total 804 710 089 330 121 868.02

4 It is not clear why LEC’s customers should finance activities related to generation as the Company is licensed for transmission,

distribution and supply of electricity. 5 It is not clear what would the price be if LEC buys more energy than the stated threshold.

6 This table was designed using summary information provided by LEC and the information in it is different from the one contained in

a detailed bulk cost supply per intake point in the main application.

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3.2.2 Repairs and Maintenance

LEC stated that the current growth of the distribution network requires additional resources to operate

and maintain. It also mentioned that during Interim Management Task Force (IMTF) era,

maintenance on the network was implemented at minimum rate. The result of that is reflected by

mounting amounts of maintenance backlog on assets. The lag with respect to maintenance, dictates

the Company to engage into an intensive refurbishment.

3.2.3 Operational Costs

LEC stated that at least 70% of its operational costs are contractual and provided by third parties.

These are a direct result of quotations from suppliers and LEC does not have control over what

suppliers charge7. The services provided by these suppliers are essential for the operation of the

network and protection of LEC’s assets. LEC also realized a possibility of political instability risk

exposure and opted to upgrade the insurance cover to include the risk in the future.

3.2.4 Connection Fees

LEC stated that it requested a suspension of the 50 meter threshold where a customer pays a

standard rate of M2, 000.00 but the regulator denied the request insisting on alignment with the

connection guidelines. The request was made because LEC was and is still subsidizing8 customers

on the connection fee payment. The company is therefore ‘hemorrhaging’ through subsidizing the

connections with M2, 000.00 (the cost of connection is M4, 000.00).

3.2.5 Affordability

The Application mentioned that affordability of electricity for residential consumers was an important

consideration in assessing tariff adjustment. However, it is not desirable to require electricity to be

supplied at prices where medium to long term reliability of supply is unsustainable. Electricity prices

7 Even though the Company does not control these costs, they are provided competitively and LEC has not provided the Authority

with evidence that there are some costs (other than bulk supply, depreciation and financing charges) that should be treated as pass-

through as the Company cannot control. 8 During public hearing meetings the Company denied that it uses part of its revenue for electrification due to a large backlog of

capital maintenance to be addressed.

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need to provide an appropriate return on investment from the supply side. It also states that, the cost

of electricity is very low compared to other sources of energy. Preference of electricity over other

energy sources and its diversified uses provide convenience as its competitive advantage.

3.2.6 Revenue Requirement

LEC stated that the revenue requirement for 2015/16 is estimated at M 763,479,924.00 comprising

cost of sales at M362, 928,819.00, operating expenses at M341,815,485.00, return on assets at

M46,294,504 and financing costs at M12,441,116.00 respectively. The Application stated that the

revenue requirement is expected to be financed by a nominal increase of 18.32% on energy and

maximum demand.

4. APPLICABLE LAW

The legal mandate of the Authority to make a determination of tariff applications is derived from the

LEA Act 2002, as amended. In terms of the Act, Section 22(f) thereof, it is the function of LEWA to

regulate prices charged to electricity consumers.

5. PUBLICATION OF THE APPLICATION

In terms of Section 24 (6) of the Act, the Authority is required to publish a notice in newspapers and

other local media to allow electricity consumers and other interested stakeholders to comment on the

reasonableness of the tariffs applied for. Accordingly, a public notice was issued on both the print and

electronic media from 16 to 30 January 2015 for stakeholders to provide comments by 04 February,

2015. It further requested stakeholders who had interest in making oral presentations before the

LEWA Board to indicate in writing, so that appropriate arrangements could be made. At the close of

business on the 04 February, 2014, comments and indications to make oral presentation had been

received from Consumer Protection Association (CPA), Lesotho Council of Non-Governmental

Organizations (LCN) and an individual domestic customer.

6. PUBLIC CONSULTATION SESSION

The Authority held four public hearings on 09 February, 2015, 16 February, 2015, 18 February, 2015

and 05 March 2015 in Butha-Buthe, Mafeteng, Qacha’s Nek and Maseru, respectively. In all the

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public hearing meetings, LEC presented its case for a tariff increase to the Board and stakeholders.

The latter was given the opportunity to present views and concerns, including recommendations. In

response to the Application, CPA, LCN and stakeholders made presentations to the Board, which

requested clarifications on both LEC’s application and presentation, and finally made

recommendations to the Board and LEC.

6.1 LEC’s Presentation

In its presentation, LEC stated that in accordance with LEA Act 2002, it is required to lodge a tariff

application annually. It also mentioned that it was given a composite licence for transmission,

distribution and supply. It stated that it is a regulated state owned entity that receives no subventions

from the Government except for rural electrification projects. The applicant described its business as

being characterized by the following, among others:-

a) Network Business and Retail;

b) Capital intensive;

c) Long term focused;

d) High fixed costs (which makes it difficult to reallocate costs); and

e) Use of imported capital equipment (about 99% of its equipment).

6.1.1 Challenges

In its presentation LEC mentioned the following among others as its challenges:

I. Generation

LEC mentioned that ‘Muela was only generating 72MW and in order to meet demand it required 50%

capacity support. Eskom and EDM were its marginal suppliers. It mentioned that it had secured a

contract with EDM and had refurbished Mantsonyane mini-hydropower which generates

approximately 2MW. LEC further mentioned that in an effort to increase generation capacity, it has

planned to undertake feasibility studies in targeted areas that include among others Makhaleng,

Tsoelike and Senqu.

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II. Network reinforcement requirement

LEC mentioned that it needs to embark on network repairs and reinforcement in order to ensure

reliable supply at all times.

III. Replacement of old equipment

The Applicant mentioned that old equipment such as switch gears needed to be replaced as they

were not just a problem to the consumer but also a danger to employees.

IV. Inadequate redundancy to the network

LEC stated that it required additional lines in order that problem affecting one line should not result in

energy supply cuts to the consumers. Qacha’s Nek and Teya-Teyaneng were given as examples of

cases where line breakdown results in power cut for the area due to lack of alternative supply route.

LEC stated that it required M250 million annually to build new infrastructure for necessary network

improvements.

LEC mentioned bulk purchases costs, operating costs, depreciation and return on assets as

determinants of its M763.489million revenue requirement. The total revenue requirement comprises

M362.00 million costs of sales, M342.00 million total operating expenses and M46.00 million returns

on assets.

The Company finally requested 18.32% increase on energy charges for all customer categories and

the same percentage on maximum demand charges. The proposed tariffs are as shown in the Tables

4 and 5 below.

9In the Presentation, financing costs were not included and the total revenue did not add up to M 763 million

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Table 4: LEC Proposed Energy Charges for 2015/16

Customer Category Old Tariff

(M/kWh)

Proposed

Tariff (M/kWh)

Proposed

Increase

(M/kWh)

Percentage

increase

(%)

Industrial HV 0.1514 0.1791 0.0277 18.32

Industrial LV 0.1676 0.1983 0.0307 18.32

Commercial HV 0.1514 0.1791 0.0277 18.32

Commercial LV 0.1676 0.1983 0.0307 18.32

General Purpose 1.2378 1.4646 0.2268 18.32

Domestic 1.095 1.2957 0.2007 18.32

Street Lighting 0.6216 0.7355 0.1139 18.32

Table 5: LEC Proposed Maximum Demand Charges for 2015/16

Customer Category Old Tariff

(M/kVA)

Proposed

Tariff (M/kVA)

Proposed

Increase

(M/kVA)

Percentage

increase

(%)

Industrial HV 213.24 252.3144 39.0744 18.32

Industrial LV 249.07 294.7037 45.6337 18.32

Commercial HV 213.24 252.3144 39.0744 18.32

Commercial LV 249.07 294.7037 45.6337 18.32

6.2 Issues Raised by various Stakeholders

During the four public hearings that were held, stakeholders, through group discussions, raised a

number of issues that needed to be addressed by the company. These included:-

a) Reimbursing pioneer developers when new customers are subsequently connected to the

infrastructure they have paid for;

b) Ensuring reliability of supply as supply unreliability affects all customers negatively;

c) Improving on information dissemination strategies especially on planned interruptions of supply;

d) Embarking on cost reduction or saving programs within the company;

e) Designing tariffs that enhances access by vulnerable groups such as the poor, orphans, old aged,

unemployed and low income earners;

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f) Increasing Lesotho’s electricity generation capacity in order to ensure that the country is self-

reliant with energy;

g) Presenting LEC’s progress (including usage of resources which were allowed in the previous

year) in addressing issues raised in the previous tariff application along with new projects;

h) Investigating options for the design of differential tariffs, including time of use tariffs (TOU);

i) Exploring alternative funding available for LEC’s business; and

j) Engaging Government in funding capital expansion program as it is the only shareholder, not the

customers only.

The Consumer Protection Association (CPA) in a presentation mentioned that LEC in its application

for review should consider (be aligned with), among others, the following Government policies:

i. Vision 2020; and

ii. Poverty Reduction Strategy

CPA advised LEC to realize that improper management of books burdens consumers and also that

depreciation is planned for replacement of old assets not for maintenance. The Association further

advised that electricity is the engine to growing infant industries in Lesotho. It stated that allowing

LEC request (of 18.32% increase) would inhibit the growth of the industries. It also emphasized that

closure of business because of the increase in electricity prices would lead to increase in

unemployment which in turn will result in LEC losing its revenue streams. It further mentioned that

source of Government revenue is the taxes and with increased unemployment Government revenue

would be adversely affected. In conclusion CPA recommended an 8% increase on tariffs.

LCN presentation emphasized that the proposed increase is not just and threatens the living

standards of consumers when taking into consideration the prevailing economic indicators. In its

presentation, it also stated that for consumers to afford that increase, salaries needed to be increased

three times. It suggested LEC should review its wishful spending. It concluded by recommending an

increase of between 5 and 6%.

6.3 Analysis of Public Hearings

In all four (4) public hearings that were conducted, stakeholders did not entirely oppose that there

should be an increase in tariffs. The stakeholders in most public hearing meetings recommended that

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tariffs should increase by at least 6% which is consistent with the inflation rate. In most public hearing

meetings, stakeholders requested more clarifications from LEC and were provided with required

information. Stakeholders were of the view that LEC should increase connections so that it will have

many customers while Government should assist LEC in providing required capital to expand the

infrastructure services and build additional generation facilities. Finally, stakeholders raised a concern

that LEC is not providing progress regarding replacement of its absolute assets as it has been one of

the reasons stated for requesting tariff adjustments in previous Financial Years.

Stakeholders’ comments, suggestions and recommendations have been taken on board by the

Authority when determining the required tariff adjustment. Issues considered by the Authority when

analysing the LEC’s application include reliability of supply, access to services and availability of

vending facilities to customers. These issues were taken into account when determining the allowed

revenue for the Company. Stakeholders’ concern on ‘free-riding’ by other customers on pioneer

developers will be addressed when determining connection charges.

7. ANALYSIS OF LEC’S APPLICATION

7.1 LEC’s Revenue based on Proposed Tariff Adjustment

Based on LEC’s revised demand forecast for 2015/16, the revenue to be generated by 18.32%

increase in energy and maximum demand sales is M754 091 434.00 not M763 479 924.00 as stated

by the Company. The required increase on both energy and maximum demand in order to attain the

required LEC’s revenue is 26.4%. The Company’s revised demand forecasts have not been

considered by the Authority due to the following:

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a) They are exactly the same as actual sales10in 2013/14. This means for 2014/15, there has

been decrease in demand11 despite a 9% increase in new customer connections;

b) The 2014/15 actual sales compared to actual purchases suggest losses of 17%. If LEC

reduces the losses to 12%, which is considered an efficient level, the projected actual sales

would be 729 911 550.20kWh per year; and

c) LEC’s forecasted sales for 2015/16 when compared to projected sales for 2014/15, they would

have reduced by 3.4% resulting in decrease in the allowed budget for operating expenses for

2015/16 as the budget increase is also dependent on growth in sales.

The Company’s original demand data was therefore found credible by the Authority as it shows

marginal growth due to increasing connections of low income domestic customers and projecting

reasonable losses of 9%12. Based on proposed LEC’s tariffs, the revenue to be generated by 18.32%

are as shown in Table 6 below.

Table 6: LEC 2015/16 Total Revenue Based on the Proposed Tariffs

Customer Categories

Proposed LEC Energy Charge (M/kWh)

Proposed Maximum Demand Charge (M/kVA)

Forecasted Energy Sales (kWh)

Forecasted Maximum Demand (kVA)

Total Revenue to LEC (M)

Industrial HV 0.1791 252.3095 204 487 283.00 431 275.00 145 445 900

Industrial LV 0.1983 294.6980 41 945 284.00 192 363.00 65 006 916

Commercial HV 0.1791 252.3095 70 599 203.00 237 710.00 72 623 377

Commercial LV 0.1983 294.6980 60 566 194.00 179 550.00 64 923 558

General Purpose 1.4646 98 729 828.00 144 596 247

Domestic 1.2956 264 520 588.00 342 713 932

Lighting 0.7355 2 754 481.00 2 025 858

Total 743 602 861.00 837 335 787.67

The LEC’s revenue requirement is made up of the following major costs items:

a. Bulk Supply Purchases;

10

The LEC’s actual sales in 2013/14 is 705 420 156.50kWh inclusive of 5 180 282.40kWh provided to staff. 11

LEC’s operating expenses were adjusted in 2014/15 based on 2% growth in demand. 12

Normally, utilities with combined technical and non-technical losses of below 12% are considered efficient.

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b. Operating Expenses;

c. Labour Costs;

d. Depreciation;

e. Return on Investment; and

f. Financing costs.

7.1.1 Bulk Supply Purchases

In 2014/15 financial year, LEC was allowed M321.22 million for bulk supply costs and the company

has forecasted to expend M300.16 million. However, based on LEWA’s analysis, as shown in Table 7

below, the Company is likely to spend M277.63 million on bulk costs in 2014/15 Financial Year.

Therefore based on the expected over-recovery of M43.59 million, the allowed bulk supply costs for

2015/16 should be M321.22 million, the same as allowed costs for 2014/15 despite LEC’s

inexplicable decreases in unit prices for Qacha’s Nek and Maseru. LEC’s 2015/16 proposed budget

for bulk supply costs would have increased by 19% compared to the actual bulk supply costs for

2014/15, if it is allowed.

Table 7: LEC's Revised Bulk Supply Cost Forecasts for 2014/15 and Forecasts for 2015/16

Intake Point

Revised Forecasted Energy to be purchased in 2014-15 in kilowatt-hours (kWh)

Revised Forecasted Amount to be paid in Maloti in 2014-15 (M)

2014-15 Average Price in Maloti per kilowatt-hours (M/kWh)

Forecasted Energy to be purchased in 2015-16 in kilowatt-hours (kWh)

Revised Forecasted Amount to be paid in Maloti in 2015-16 (M)

2015-16 Average Price in Maloti per kilowatt-hours (M/kWh)

Average price increase/decrease in Percentage (%)

Muela 544 823 824.00 64 369 130.00 0.12

506 000 619.00

63 412 057.00 0.13 6

Maseru Supply 138 652 172.00

119 884 078.00 0.86

114 562 912.00

90 693 750.00 0.79 -8

Butha-Buthe- Clarens 85 139 251.00

51 232 853.00 0.60

85 680 119.00

59 189 065.00 0.69 15

Qacha's Nek 7 984 529.00

8 094 391.00 1.01

7 832 058.00

3 170 707.00 0.40 -60

EDM 41 306 667.00 34 048 482.00 0.82

90 635 000.00

113 656 290.00 1.25 52

Total 817 906 443.00 277 628 934.00 0.34

804 710 708.00

330 121 869.00 0.41 21

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However, in line with the Pass-through Principle and its Implementation Procedure, the over-recovery

will be reconciled fully once the LEC’s audited data has been obtained.

7.1.2 Repair and maintenance

The repair and maintenance budget has been increasing over the past two years. In 2013/14

compared to 2012/13, it increased by 53% and in 2014/15 by 3%. It is expected to increase by 45% in

2015/16. While LEC has not provided the Authority with outputs for increased repair and maintenance

costs, the Authority has allowed this budget and would request data on reliability of supply and

service from LEC.

7.1.3 Operating Expenses

LEC’s allowed operating expenses, excluding depreciation and labour costs, were M75.03 million in

2014/15 but LEC’s actual forecasted operating expenses is M97.91million, indicating 30.5% increase

compared to the allowed costs by the Authority. For 2015/16, LEC proposes a budget of

M105.10million for operating expenses which is 40.1% higher compared to the 2014/15 allowed

revenue. The main driving factors for increased operating expenses are consulting fees and IT

consultants and contracts13.

The basis on which the Authority assesses the reasonableness of these costs is annual inflation,

growth in sales and increase in customer connections. According to the data provided by LEC,

connections will increase by 7.6% and sales by 1.2% as shown in Table 8 below. Based on the

inflation rate of 5.4% half the predicted growth in sales and the increased customer connections, the

operating expenses in LEC’s allowed revenues would be M82.38 million, an increase of 9.8% instead

of 40.1% proposed by LEC.

13

The budget for consulting fees and IT consultants were introduced from the 2014/15 Financial Year and are financed by return on

investment. The IT contracts have always been in the budget but have increased by 266% compared to the financial year 2013/14

(Audited Financials) and the budget is to remain the same for 2015/16 at M9 million.

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Table 8: Energy Sales (kWh), Connections and Revenue per kWh

Item Projected Actual in 2014/15 Projected in 2015/16

Increase in Percentage (%)

Energy Sales (kWh) 734 718 258.00 743 602 861.00 1.2

Connections 188 635 202 947 7.6

Total Revenue (M) 681 277 580.00 763 479 924.00 12.1

Revenue (M) Required per kWh 0.9273 1.0267 10.7

The average tariff increase will be 10.7% instead of 21.4% stated by LEC while the Company

revenue will increase by 22.9% compared to 2014/15 Financial Year.

7.1.4 LEC’s Labour Costs

LEC’s allowed labour costs for 2014/15 was M128.19million, almost the same as the forecasted

actual costs for the Company. For the financial year 2015/16, the Company proposes M141.00 million

for the labour costs indicating 10.0% increase compared to the allowed labour costs in 2014/15

financial year. The proposed labour costs increase is above 9.2% that would be allowed in line with

LEC’s growth in customer numbers and inflation index. For 2014/15, LEC’s staff/connection is 314

and in 2015/16, it is projected to be 343. This indicates progress towards achieving a target of 400

connections per employee set by the Authority. The LEC’s proposal to hire more staff will negate the

good progress made in this regard. Staff costs should be increased in line with inflation and growth in

connections as these are appropriate costs drivers for labour expenses.

In order to maintain efficient level of staffing at LEC, the LEC’s labour costs are allowed to increase

by 9.2% to M139.97 million instead of M141.00 million proposed by the Licensee.

7.1.5 Depreciation Charge

The allowed LEC’s depreciation charge for 2014/15 was M85.62 million and this figure is likely to be

lower by M3.0 million. For the Financial Year 2015/16, LEC proposes a depreciation charge of

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M95.71 million, an increase of 11.8% compared to the one allowed in 2014/15. Even though the

Company has not provided a required justification for the requested increase as provided for in Tariff

Filing and Review Procedure, the increase is comparable to previous years’ increase and therefore

should be allowed. LEC is however, required to open a ‘Depreciation Account’ as the funds are meant

for capital maintenance. The Company is further directed to provide the Authority with annual

programme for capital maintenance and quarterly progress reports on the use of depreciation funds.

7.1.6 LEC’s Return on Investment

Since 2007, the Authority has been unable to determine the LEC’s fair return on capital due to latter’s

inability to provide the Authority with detailed information regarding financiers of its assets. The split

of LEC’s assets by their financiers is essential in order for the Authority to ensure the Company does

not earn a return on assets financed by third parties. The regulatory asset base (RAB) is normally

calculated as net fixed assets (gross assets minus cumulative depreciation). In order for RAB to be

precise, it needs to be adjusted to exclude third party financed assets. The cumulative depreciation

also needs to be adjusted to exclude depreciation on the grant and customer financed assets.

Furthermore, the asset base should also be re-valued to the forecast of 2015/16 electricity supply

industry costs levels as it was last re-valued in 2009.

Despite insufficient information to the Authority, LEC has estimated RAB at M949.8 million and

applied WACC of 9.7% in order to get M46.2914 million as return on its investment. The Authority has

allowed LEC a return on its investment of M69.4415 million in order to incentivize the Company to

grow its business. The WACC calculation is based on net financing costs of M12.44 million and

interest bearing borrowings of M346.35 million, respectively.

While the Company’s requested return has been increased, it is also obliged to raise M28716 millions

debt for the Financial Year 2015/16 as this would be additions to its regulatory asset base. The LEC’s

inability to demonstrate to the Authority that it has indeed added M287 million worth of assets will

results in reduced revenue requirement for 2016/17 Financial Year.

14

This is half the required return. 15

This is the three-quarter (3/4) of the applicable return to LEC and has been allowed as the Company has undertaken to seek the

approval of shareholder (GoL) on the use of the allowed return. 16

LEC’s total capital costs for 2015/16 is M306.48 million of which M287 million will be debt and the rest equity injection.

Page 18 of 25

7.1.7 Financing Costs

LEC has included financing costs in its revenue requirement. Normally these costs are a ‘Pass-

through’ as they relate to costs of capital for the company to grow its business. However, these costs

are not allowed as separate budget item as they are included in WACC used to determine return on

investment. Financing costs are therefore not allowed as this would be double counting.

7.2 LEC’s Adjusted Revenue Requirement

Adjustments made in 7 above lead to the revenue requirement shown in Table 9 below.

Table 9: LEC Revenue Requirement in 2015-16 Financial Year

Cost Items

Approved in

2014/15

Revised forecast

2014/15

Variance

between

Approved and

actual in 2014/15

Projected LEC

Costs for 2015/16

Adjusted Costs

for 2015/16 based

on the approved

costs in 2014/15

Adjusted LEC

Cost minus

projected for

2015/16

Cost of Sales

343 743 695.00

322 522 813.00

21 220 882.00

362 928 819.00

354 025 446.00 - 8 903 373.00

Bulk Purchases 321 218 495.00

300 155 618.00

21 062 877.00

330 121 868.00

321 218 495.00

-8 903 373.00

Repairs and

maintenance

21 253 200.00

20 953 199.00

300 001.00

31 409 071.00

31 409 071.00

-

Diesel and oil 1 272 000.00

1 413 996.00

-141 996.00

1 397 880.00

1 397 880.00

-

Operating

Expenditures

292 447 660.99

318 281 436.00 - 25 833 775.01

345 615 485.00

322 254 688.72 - 23 360 796.28

Labour

128 188 189.36

128 188 189.00

0.36

141 007 008.00

139 973 259.76

-1 033 748.24

Depreciation

85 621 213.00

88 576 305.00

-2 955 092.00

95 708 516.00

95 708 516.00

-

Other expenses 75 029 589.63

97 908 273.00

-22 878 683.37

105 099 961.00

82 381 135.97

-22 718 825.03

LEA License

3 608 669.00

3 608 669.00

-

3 800 000.00

4 191 777.00

391 777.00

Sub-total (Cost

of sales and

operating

expenditures)

636 191 355.99

640 804 249.00

-4 612 893.01

708 544 304.00

676 280 134.72

-32 264 169.28

Return on Asset

39 878 379.50

33 702 589.00

6 175 790.50

46 294 504.00

69 441 756.00 23 147 252.00

Financing costs

-

902 000.00

-902 000.00

12 441 116.00

-

-12 441 116.00

LEC's Total

Required

Revenue (excl.

levies)

676 069 735.49

675 408 838.00

660 897.49

767 279 924.00

745 721 890.72

-21 558 033.28

Based on the figures in the Table 9 above, on average, tariffs would need to increase by 4.8% as

shown in Table 10 below.

Page 19 of 25

Table 10: Energy Sales (kWh), Connections and Revenue per kWh

Item Projected Actual in 2014-15 Projected in 2015-16

Increase in Percentage (%)

Energy Sales (kWh) 734 718 258.00 743 602 861.00 1.2

Connections 188 635 202 947 7.6

Total Revenue (M) 681 277 580.00 745 721 890.72 9.5

Revenue (M) Required per kWh 0.9273 1.0028 8.2

7.2.1 Tariff increase

In order to achieve the adjusted required revenue indicated in Table 10 above, the increase in tariffs

would be 5.4% and the tariffs would be increased as indicated in tables 11 and 12 below.

Table 11: Approved LEC Tariff Levels for 2015/16 by the LEWA Board

Customer

Categories

Old

Energy

Charge

(M/kWh)

Approved

percentage

increase

(%)

Approved

Energy

Charges

(M/kWh)

Adding

Customer Levy

@M0.0360/kWh

(M/kWh)

Adding Rural

Electrification

Levy

@M0.02/kWh

large customers

and

@M0.035/kWh

for others

(M/kWh)

Final

Approved

Energy

Charge

(M/kWh)

Old

Energy

Charges

including

levies

(M/kWh)

Final

Tariff

Percentage

increase

(%)

Industrial HV 0.1514 5.4 0.1595 0.1955 0.2155 0.2155 0.2014 7.0 Industrial

LV 0.1676 5.4 0.1766 0.2126 0.2326 0.2326 0.2176 6.9 Commercial HV 0.1514 5.4 0.1595 0.1955 0.2155 0.2155 0.2014 7.0 Commercial

LV 0.1676 5.4 0.1766 0.2126 0.2326 0.2326 0.2176 6.9 General Purpose 1.2378 5.4 1.3043 1.3403 1.3753 1.3753 1.3028 5.6

Domestic 1.0950 5.4 1.1539 1.1899 1.2249 1.2249 1.1600 5.6 Street

Lighting 0.6216 5.4 0.6550 0.6910 0.7260 0.7260 0.6866 5.7

Table 12: Approved LEC MD Charge for 2015/16 by the LEWA Board

Customer Old Maximum Demand Charge (M/kVA)

Approved Percentage

Approved Maximum Demand Charges (M/kVA) Categories Increase (%)

Industrial HV 213.2433 5.4 224.7040

Industrial LV 249.0686 5.4 262.4547

Commercial HV 213.2433 5.4 224.7040

Commercial LV 249.0686 5.4 262.4547

The figures in tables 11 and 12 exclude VAT.

Page 20 of 25

The above tariffs would enable the utility to generate M745.72 million from its customers. This is

shown in Table 13 below.

Table 13: LEC 2015/16 Total Revenue Based on the Approved Tariffs

Customer Categories

Approved LEC Energy Charge (M/kWh)

Approved Maximum Demand Charge (M/kVA)

Forecasted Energy Sales (kWh)

Forecasted Maximum Demand (kVA)

Total Revenue to LEC (M)

Industrial HV

0.1595 224.7040

204 487 283.00

431 275.00

129 532 492

Industrial LV 0.1766 262.4547 41 945 284.00 192 363.00 57 894 433

Commercial HV 0.1595 224.7040 70 599 203.00 237 710.00 64 677 568

Commercial LV 0.1766 262.4547 60 566 194.00 179 550.00 57 820 195

General Purpose 1.3043 98 729 828.00 128 775 801

Domestic 1.1539 264 520 588.00 305 217 196

Lighting 0.6550 2 754 481.00 1 804 206

Total 743 602 861.00 745 721 890.72

7.2.2 Other Charges

Since the Company has not applied for the review of its other charges such as connection fee17,

wiring testing, wiring re-testing, survey, re-survey, licensing for wiring, meter testing and house

extension, these charges will remain the same for the Financial Year 2015/16 until they have been

reviewed and approved by the Authority.

7.2.3 Regulatory Accounts

LEC was yet to submit to the Authority, Cost Allocation Manual for approval and on the basis of the

approved manual and allowed revenues prepare regulatory accounts for 2013/14 and 2014/15. These

accounts will be the basis for preparation and submission of regulatory information to the Authority for

2015/16.

17

LEC has submitted a separate application for the review of connection charges and it is being reviewed by the Authority.

Page 21 of 25

7.2.4 Compliance with Regulatory Decisions and Tariff Filing and Review

Procedure

LEC has not complied with the Authority’s 2014/15 Tariff Determination for the establishment of

‘Depreciation Account’ in which all depreciation funds were to be deposited and used for capital

maintenance. Quarterly progress reports have also not been submitted as directed. This was meant

to monitor LEC’s programme with respect to replacement of obsolete assets. Finally, the Company,

as it was the case for last year, did not submit its approved Budget when it applied for tariff

adjustment for 2015/16.

8. LEC’S FINANCIAL PERFORMANCE

In order to assess the financial viability of LEC the Authority reviewed some of key financial performance

indicators. The information used for the calculation and analysis is for 2013 and 2014 (audited financial

statements) as well as the management accounts for the period ended 30 September 2014. Major ratio

analysis is detailed below:

8.1 Profitability

According to the Audited Financial Statements for the year ended 31 March 2014, LEC’s gross profit

was M313m which represents 53% of the sales. This sufficiently covered all the operating costs

amounting to M245m and a profit before tax of M68m was realised as compared to a loss of M2.4m in

2013. The sales for 2014 have increased by 21% while the operating expenses decreased by

(M1.5m) as compared to 2013. The results show an improved financial performance. Management

accounts for the period ended 30 September 14 shows a profit before tax of M40.8m compared to a

budget of M6.5 for the same period. A gross profit has slightly decreased from 52.7% in September

2013 to 50% in September 2014 of the sales.

8.2 Liquidity

The idea behind this is that a company should have enough current assets that give a promise of

‘cash to come’ to meet future commitments to pay off its current liabilities. Obviously, a ratio in excess

of one (1) is ideal. Both the current and quick ratio shows an indication of the company’s liquidity

position.

Page 22 of 25

Current ratio (Current Assets/Current Liabilities)

The current ratio of LEC as at March 2014 was 1.13 while September 2014 stands at 1.4. This is

within the recommended threshold. It suggests that LEC may not have a problem in settling short-

term obligations.

Quick ratio (Current Assets less Inventory/Current Liabilities)

The quick ratio as at 31 March 2014 stands at 0.98 as compared to September 2014 at 1.2. This

implies that even with the exclusion of inventories LEC’s ability in settling its short term liabilities is

still within the recommended threshold.

8.3 Gearing Ratio

The capital gearing is a measure of the proportion of the company’s capital that is debt. The LEC's

gearing for 2014 has increased by M5m compared to 2013. That means long – term debt at 6% of

Equity. The management accounts for September 2014 show a gearing of 5.6% (decrease of M2m

from March 2014). In deciding on the level of borrowing required one should bear in mind the impact

it has on the liquidity of the company and the return on investment. In a healthy financial situation

interest cover (Profit before and tax / interest costs) is expected to be more than 3 times. In the

case of LEC the interest cover in September 2014 was 4 times.

In conclusion, LEC’s financial performance has improved because all the key ratios of liquidity and

profitability as well as gearing have improved or are within the recommended threshold. The

improved financial results of the utility are an indication that regulatory decisions, if adhered to, can

contribute in the financial viability of the Company. It is therefore essential for LEC to continue

maintaining or improving its current financial performance.

9. CONCLUSIONS

From its analysis of LEC’s Tariff Application, the written and oral submissions from stakeholders

during public consultation process, reasons, facts and evidence provided, and LEC’s response to

Page 23 of 25

both LEWA and public comments, LEWA Board has found justification for M763.5 million revenue

requirement inadequate. LEWA Board therefore concluded as follows:

A. The proposed 18.32% increase in energy and demand charges, requested by LEC

generates M837.34 million instead of M763.5 million stated by LEC. In order to meet

revenue requirement of M763.5million, energy and maximum demand charges would need

to increase by 7.9% instead of 18.32% proposed by the utility. The 7.9% could also not be

justified as the required revenues were not increased, compared to 2014/15, in line with

approved regulatory instruments and principles.

B. LEC revenue requirement includes M12.44 million for financing costs which is already

included in the return on its investment. Including financing costs as a separate budget item

constitutes double counting as return on investment is derived from WACC which includes

costs of financing.

C. LEC revenue requirement, after making the adjustments, is M745.72 million (detailed

breakdown of allowed revenues are shown in Table 9, column 6 of the main analysis) and to

achieve this adjusted required revenue, the average increase in tariffs would be 5.4%.

D. LEC’s revised forecasted sales data was found not credible as it assumes 17% (inefficient)

losses compared to purchases for 2015/16, and was exactly the same as the actual sales

for 2013/14 suggesting decline in consumption for 2014/15.

E. LEC’s forecasted bulk supply costs are over-stated and should be maintained at the same

level as 2014/15 at M321.2 million and would be monitored during the year in line with Pass-

Through Procedure and its Implementation.

F. Like the previous year, 2014/15, the Company has not provided the Authority with the

required data to review its return on assets as was requested. The Authority has only

allowed three-quarter (3/4) of the applicable return on LEC’s assets to ensure that the

Company grow its business. The allowed return is therefore M69.44 million for the Financial

Year 2015/16. The Company is expected to provide the Authority with asset register during

the 2015/16 Financial Year.

Page 24 of 25

G. The Company’s operating expenses are proposed to increase by 40.1% and this is not

related to inflation, increased sales and customer connections which the Authority has been

using in increasing LEC’s operating expenses. The Authority has therefore allowed 9.8%

increase in operating expenses.

H. LEC’s staff costs increase of 10.0% is higher than it would be (9.2%) when half increase in

customer connections and inflation are taken into consideration. LEC’s staff/connection ratio

is currently 1:343 and this needs to improve to 1:400 as this is the target set by the

Authority. The Authority has approved an increase of 9.2% for labour costs.

10. APPROVAL

A. The Board therefore approved that the LEC tariffs should be increased as shown in Tables14

and 15 below.

Table 14: Approved LEC Energy Tariff Levels for 2015/16

Customer Categories

Old

Energy

Charge

(M/kWh)

Approved

percentage

change (%)

Approved

Energy

Charges

(M/kWh)

Adding

Customer

Levy

@M0.0360/k

Wh

(M/kWh)

Adding Rural

Electrification

Levy

@M0.02/kWh

large customers

and

@M0.035/kWh for

others (M/kWh)

Final

Approve

d

Energy

Charge

(M/kWh

)

Old

Energy

Charges

including

levies

(M/kWh)

Final

Tariff

Percentage

increase

(%)

Industrial HV 0.1514 5.4 0.1595 0.1955 0.2155 0.2155 0.2014 7.0

Industrial LV 0.1676 5.4 0.1766 0.2126 0.2326 0.2326 0.2176 6.9

Commercial HV 0.1514 5.4 0.1595 0.1955 0.2155 0.2155 0.2014 7.0

Commercial LV 0.1676 5.4 0.1766 0.2126 0.2326 0.2326 0.2176 6.9

General Purpose 1.2378 5.4 1.3043 1.3403 1.3753 1.3753 1.3028 5.6

Domestic 1.0950 5.4 1.1539 1.1899 1.2249 1.2249 1.1600 5.6

Street Lighting 0.6216 5.4 0.6550 0.6910 0.7260 0.7260 0.6866 5.7

Table 15: Approved LEC Maximum Demand Charges for 2015/16

Customer Old Maximum Demand Charges (M/kVA)

Approved Percentage Approved Maximum Demand Charges (M/kVA) Categories Increase (%)

Industrial HV 213.2433 5.4 224.7040

Industrial LV 249.0686 5.4 262.4547

Commercial HV 213.2433 5.4 224.7040

Commercial LV 249.0686 5.4 262.4547

The figures in tables 14 and 15 exclude VAT.

Page 25 of 25

B. The current charges for connection should remain the same for the financial year 2015/16 until

reviewed and approved by the Authority.

11. EFFECTIVE DATE

The effective date for the approved tariffs was 01 April 2015.