RAND WATER ANNUAL REPORT 2023

Consolidated Annual Financial Statements for the year ended 30 June 2023

Notes to the Consolidated Annual Financial Statements 42. Financial instruments (Continued)

The Group observed an increment of 35% from the previous year. Non‑performing municipalities class are the major drivers to the expected credit loss increase including the top 5 defaulting municipalities as disclosed above.

Macro‑Economic factors impacting credit management

Several macro‑economic factors took a severe toll on the labour market which directly affect the Group customers especially municipal customers as they rely on society paying their municipal services consistently to ensure sustainability and maintain positive cashflow to be able to pay for their creditors. These also impends a risk that many of the jobs eliminated during this period will not be recovered, which adds and allows structural unemployment to escalate. The war in Ukraine impact on the economy will flow through disruptions to trade and the effects of sanctions weigh on exports and imports bringing higher energy and fuel prices will increase inflation which in turn will erode disposable income and dampen consumer demand. Credit management risk is also accelerated by the coalition government in the metropolitan municipalities has disrupted the processes, operations and administration municipalities which allows political party unrest and thus, compromises municipality stability, it also suffocate resolute leadership and delays decision making, this is visible through; delays in creditors payments and exploitation of municipal grants or resources. Our top 3 municipal customer are not speared from the impact of the coalition government. The Covid‑19 ambiguity resulted in many negative economic knock‑on effects, and the rebound has not improved the unemployment rate amid deteriorating confidence (exacerbated by also the July 2021 social unrest in KwaZulu‑Natal and Gauteng) This has been compounded by power shortages that constrained the post‑pandemic recovery. the Group appreciate that times are continuing to be tough for everyone including our customers as we are experiencing a slow recovery on products and services rendered which then warrants differing approach in debt recovery to stay sustainable. Electricity loadshedding continue to negatively impacting the South African economy which drive the escalate to a consistence sharp increase in prices that increases our municipal customer’s municipal rates and other expenses including electricity prices, high domestic food inflation, and elevated fuel prices. Rising prices affect the competitiveness of domestic firms and households’ disposable income. The two largest components of administered price inflation are ‑ electricity and fuel prices ‑these contribute to the slow payment pattern which is currently visible even on our major customers. Unfortunately, these factors will increase the magnitude of overdue amounts and negatively impact impairment of debt. Assumptions on the expected credit loss are based on the recovery rate per customer segments and classification of performance, as the overdue debts has increase by 40% if compared to the previous year as it takes a little bit longer than anticipated to collect. The group is then taking advantage of the time available to prepare as it may pay‑off in the future. Furthermore, the group is continuously reviewing the collection processes and methods, implementing new solutions through active partnering, customer engagement and collaboration to combat the negative impact of non‑payment exacerbated by the macro‑economic factor withing water sector and the entire value chain.

Bond investments at fair value through other comprehensive income

The Group’s application of the ECL model for bond investments remains unchanged from the prior financial.

ECL was calculated as a product of the probability of default (PD), Exposure at Default (EAD), and Loss Given Default (LGD) as follows: ECL=PDxEADxLGD. The Loss Given Default (LGD) for the bonds was derived from the implied Recovery Rate (RR) based on the counterparty’s credit default swap or credit ratings compared with applicable ratings (LGD is 1‑ RR). The PD was derived from the counterparty’s Credit Default Swaps (CDS) or credit ratings. Exposure at default represents the amount of each bond outstanding at the measurement date including interest accrued up to the point of default which is 90 days from the measurement date.

Expected credit loss = Exposure at Default (EAD) x Probability of Default (PD) x Loss Given Default (LGD).

Investments in bonds consist of bonds issued by the South African government and SOE which are measured at fair value through OCI. The Group continued to recognise loss allowance based on 12‑month ECL. The ECL on bond investments increased

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