Imagine a retail chain with nearly 300 outlets, supplying essential services to a captive market, with guaranteed price increases every year. In addition it has no competition, as other businesses are mostly prevented by legislation from supplying any of its products or services.
On top of this, everybody within the target market pays a monthly fee just for being there.
It sounds unbelievable, and it is even more unbelievable to learn that this particular retailer is struggling to survive. Taxpayers are forced to support the enterprise to the tune of 40% of its annual turnover.
The business of selling water, electricity, refuse removal, sewerage services and car licences to people – also known as municipalities – is a huge industry, with revenues of nearly R400 billion in the year to September 2019.
The R400 billion figure can be calculated from the latest Statistics SA report on the quarterly financial statistics of municipalities, published in December. The report contains the latest aggregate quarterly figures for all municipalities in South Africa for September 2019, as well as figures for previous quarters going back long enough to identify interesting trends.
The supply of electricity, water and other services to consumers could be seen as a retail business.
Municipalities buy large quantities of products and sell them to consumers at higher prices in smaller quantities in exactly the same way a big supermarket does.
They produce services such as refuse removal, renting out of halls, collecting stray cattle and horses, and issue invoices, not unlike companies that repair broken swimming pool pumps or install new carpets.
Looking at the Stats SA report as though municipalities are businesses puts a different perspective on the numbers and highlights a few problems with this ‘retailer’.
- The biggest problem is that large quantities of the two main products – electricity and water – seem to disappear.
- A second problem is that too much electricity and water, as well as other products and services, are given away for free.
- A third problem is that consumers are reluctant to pay.
Another serious concern is that operating costs and wastage are astronomical.
Read: The problem of failing municipalities
The Stats SA report shows that municipalities generate a big proportion of their revenue from the sale of electricity to residents and businesses. In the 12 months to September 2019, electricity sales amounted to nearly R108 billion, equal to 27% of municipalities’ total revenue.
Bulk purchases of electricity amounted to just less that R87 billion, indicating that municipalities made a gross profit of more than R20 billion from the sale of electricity.
Unfortunately, neither the Stats SA report nor similar figures kept by National Treasury show municipalities’ costs directly associated with the sale of electricity, such as distribution, salaries and maintenance of electricity networks.
However, the gross profit margin of 24% on electricity sales is probably way too low to ensure sustainability for the electricity department of municipalities overall. It is also noticeable that profit margins have declined over time, from a gross margin of 34% in 2009.
Selling water is a much more lucrative business, with the figures showing that the gross profit is much higher at 41%, but also lower than the 45% achieved ten years ago. Water revenue is much smaller at less than R38 billion and contributes less than 10% to total revenue, according to the Stats SA figures.
But water earned municipalities nearly as much profit as electricity, probably due to the fact that most municipalities price water on a sliding scale that charges bigger (and presumably richer) users higher prices. The figures suggest that gross profit from water sales in the 12 months to September amounted to R16 billion. The contribution from other services is way smaller.
In short, municipalities survive on property taxes and government grants.
Government grants to municipalities exceed revenue from electricity sales and amounted to nearly R110 billion in the 12 months to September. Property taxes increased to nearly R46 billion in the last year.
Together, tax on residents within the borders of the city or town and tax collected by government and passed on to municipalities, amount to 40% of municipalities’ total revenue.
Source of municipal revenue, year to September 2019
|National government||86 410|
|Provincial government||2 006|
|Conditional grants||21 363|
|Total grants||109 779||28%|
|Electricity sales||107 923||27%|
|Property rates||46 919||12%|
|Water sales||38 639||10%|
|Refuse removal and sewerage||27 625||7%|
Source: Compiled from Stats SA’s quarterly financial statistics for municipalities
Other revenue comprises other service charges such as vehicle licences and rent paid for the use of municipal property and equipment.
Two of the interesting large revenue sources include the income from the imposition of fines (R4.6 billion in total) and interest on outstanding accounts (R8.2 billion). The latter exceeds interest earned on investments (R5.2 billion).
Read: How VBS looted municipalities
The bulk of the revenue is used for salaries and wages. While the Stats SA analysis shows that municipalities spent around R106 billion – nearly 30% of total expenditure – on employee remuneration, one can argue that the number is much higher and needs to include other work-related expenses, such as contractors fixing roads and pipes, councillors who are also effectively employed and consultants who sell their skills and time to municipalities.
Thus the bill for remuneration balloons to R145 billion, equal to 40% of total expenses and 37% of total revenue.
Elected councillors were paid R4.6 billion in aggregate in the 12 months to September, while contractors got R32 billion and consultants scored more than R2 billion.
Top expenditure items by municipalities, year to September 2019
|Employee cost||106 021||30%|
|Electricity purchases||81 577||23%|
|Other expenses||34 186||10%|
|Water purchases||22 655||6%|
|Bad debt written off||16 591||5%|
|Interest paid||9 240||3%|
|Repairs and maintenance||5 705||2%|
|Councillors’ salaries||4 187||1%|
|Consultancy fees||2 448||1%|
|Plant hire||2 241||1%|
Source: Compiled from Stats SA’s quarterly financial statistics for municipalities
It is interesting that one of the biggest expenses for municipalities is the continual writing off of bad debt, akin to giving services away for free, in addition to the formal policies that bring relief to poorer households.
Bad debt of R16.6 billion was written off by municipalities in the 12-month period.
Read: Failing cities stymie South African bid to revive growth
Anybody can get an idea of the implication of the financial state of municipalities by looking at any single municipality.
A look at the Sol Plaatje Municipality shows the fragile state of its finances and its inefficient financial management. President Cyril Ramaphosa visited Kimberley recently and had to listen to residents complain.
The latest annual report available on its website, an incomplete draft for the year to June 2018, lists as one of the biggest problems the huge losses of water and electricity.
“The material losses reported in the 2016/17 financial year for water and electricity losses remain a concern. Action plans have been developed in the current year and significant progress was made in term of the electricity losses – a decrease from 24.1% in 2016/17 to 13.24% in 2017/18 was reported.
“The water losses reported, however, still exceed 50%,” according to the annual report.
It further noted that the collection rate of service levies was only 73%, meaning that nearly 30% of outstanding accounts were not paid. This is in addition to the 13 700 households from a total of 71 000 that each receive six kilolitres of free water and 50 kilowatt hours of free electricity per month.
Selling power at a loss
The annual report discloses the purchase and sales of electricity and the electricity department’s costs. The figures show that the municipality suffered a loss of R20 million from its electricity ‘business’, while capital expenditure in the department amounted to R25 million.
The municipality’s financial report shows that its total spend on employees and councillors of R676 million amounted to 37% of its revenue in the year to June 2018, above the average of 30% for all the municipalities in SA. It was the biggest single cost item at Sol Plaatje.
Less than 9% of the budget was spent on maintenance of infrastructure such as roads and water pipes, leading to the complaints by residents to visiting politicians.
The Auditor-General (AG) indicated that the problems with its financial management might be worse and issued a qualified audit opinion on the financial statements as “the municipality did not recognise all service charges accurately”.
“As the municipality did not maintain adequate and complete records of services rendered, I was unable to determine the full extent of the understatement of service charges,” concluded the AG. He also could not verify the municipality’s estimate that 50% of water is lost due to inadequate record-keeping.
Treasury summarises the financial data of all municipalities in hundreds of tables in its database, each telling basically the same story of financial deterioration.
An analysis of it all would probably conclude that years of inadequate maintenance of physical infrastructure, consumer accounts, valuation rolls or financial records directly causes any municipality’s financial problems.