presentation to portfolio committee on funding
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Presentation
to
Portfolio Committee
on
Public Enterprises
Funding
and
Governance Challenges
21 October 2020
INDEX
1. Strategic Relevance
2. Capabilities
3. Critical Governance & Regulatory Processes
4. State Of Business
5. Towards a Renewed Denel
6. Denel Future State Update
7. Risks to Future Sustainability
2
STRATEGIC RELEVANCE
3
The Defence Review, 2015 which is the blue print of Government’s defence policy, classifies Denel as a
national security asset, with the prime purpose of designing, developing, manufacturing and supporting
defence materiel.
In addition, Defence Review expects Denel to:
• Take custodianship of assigned sovereign or strategic defence capabilities, technologies and
abilities, inclusive of those that may be at risk, and the loss thereof would threaten South Africa’s
required defence capability.
• Design, develop, manufacture and support of important capabilities which may not be
commercially viable.
The National Defence Industry Council identified the financial liquidity challenges facing Denel as having
the potential impact of:
• Compromising South Africa’s national security;
• Collapsing the entire defence industry irretrievably;
• Exposing RSA to a mass exodus of skilled personnel in sensitive defence domains to countries
that are not necessarily aligned to our country’s national interests;
• Loss of critical defence capabilities, including sovereign and strategic capabilities.
Hensoldt (Pty)
Ltd (30%)
Rheinmetall
Denel Munition (Pty) Ltd (49%)
Barij Dynamics
LLC (49%)
Pioneer Land
Systems LLC(49%)
Business
units
Associated
companies
Strategic equity partnerships
• R&D and intellectual property development investment of
R550m• Contribution
through Rooivalk in peace-keepinginitiatives
• Knowledge-based value added skills development
• Partnerships with global OEM’s and extensive SADI supply chain
• Exports – foreign currency earnings
• Advanced high technology manufacturing
• Transformation
progressing: 61% ACI
1600 Associated Company Employees
Jobs: 3 032 DenelEmployees
DENEL CAPABILITIES
ArtillerySecurity and
border control
Naval Aerospace InfantryTraining and
other
155mm G6 self-propelled Guns
155mm G5 Towed Guns
105mm Leo Guns
Charges and Propellants
Laser Range Finders
Seeker 200 and 400 UAVs
Light Weapons
Ammunition
MEDDS
Casspir Vehicles
Surveillance Equipment
Mine Clearing
20mm Guns
Umkhonto Missile
DPS-35 Guns
Ammunition
Periscopes
Inflight testing
Aerostructures
Aircraft MRO
Manpower supply
Air-to-Air Missiles
Precision Guided Bombs
UAV Systems
Ejection Cartridges
Aircraft Bombs
Engines and Gearboxes
Stabilized Gimbals
Space
Artisan Qualification
Engineering Training
Mine Clearing Training
Mining Drill Bits
Rocket Motors
Warheads
Energetic Materials
Anti-Armour Missiles
Active Missile Protection
Air Defence Systems
Combat Vehicles
Vehicle Turrets
Machine Guns
Ammunition
Anti Materiel Rifles
Automatic Grenade Launchers
Casspir Vehicles
Pyrotechnics
Laser Range Finders 5
CRITICAL GOVERNANCE & REGULATORY PROCESSES
6
T0 4-12 weeks 3-9 months 9-24 monthsCRITICAL STATUTORY PROCESSES
Denel GroupInternal Governance – ITAC, PPPFA,
PFMA, National Treasury Act
Transactions Approval
Within Threshold
Denel Board Denel GovernanceTransactions Approval
above Threshold
Department of
Public
Enterprises
Confirm Compliance (dti Policy,
DIRCO Policy, PFMA, National
Treasure Reg., PPPFA, S&MFA)
Approve all Transactions
that are material and
significant
National
Conventional
Arms Control
Council
(NCACC)
Authorizes the export of Arms and
establishment of Armaments
Companies in SA and Manages
governance aspect ito International
Arms Control Treaties
Statutory Entity for All arms
related transactions
Department of
Defence (DoD)
Oversees capability and technology
retention in order to provide National
Security
Oversees and participates
through the National
Defence Industrial Council
(NDIC)
ArmscorArmscor manages the utilization of IP
owned by the DoD
Licencing agreement for
transaction involving DoD
owned IP
South Africa
Reserve Bank
(SARB)
Authorizes all in- and outflow of
currency and considers movement of
IP out of the RSA
All international
transactions
National Arms Control Process
Denel Governance
Denel Governance
National Regulation
DOD IP Framework
Agreement
National Regulation
Defence Capability Review
7
STA
TE
OF
BU
SIN
ES
SPeople
• Transitionary Values
• Committed workforce but low morale
• Staff turnover ratio 9.3% (296 exits
from Apr-Aug 2020)
• Salary dispute - Organised Labour
instituted court action for inability to
honour full salary commitment due to
cash flow constraints
• Inability to attract STEM, commercial
Stakeholders
• Limited Defence budget to fund sovereign
capabilities
• Reduced order pipeline
• Change in Banker’s Policy – move away
from military solutions
• Engagements with state agencies re: past
governance breakdowns
Organisation
• World-class design & development
• Poor programme execution & risk
management
• Majority of divisions are loss-making
• Devolve authority to Divisions
• Governance & Risk Management
• Fix balance sheet – liquidity
• Reputation management
Strategic
• Alignment on Denel’s Future State
• Divestment of non-core capabilities
• Sustainable industrialisation through
SEP’s
• 7 Workstreams launched
• Right-size resources to revenue
• Fitch Downgrading, excluded Sovereign
Support
STATE OF BUSINESS (ii)
8
• Closure of loss-making LMT subsidiary, LMT Products (Pty) Limited (was in business rescue (BR) – process
concluded and BRP managed to secure a buyer, thus saving jobs; Denel awaits pay-out of a dividend once the
shares are transferred. Saving another annualised R48m in support costs.
• Overdue creditors reduced by more than 80% (vs 2018/19) and payment plans for the remainder in place.
• Cumulative cost savings in excess of R1bn since April 2018, driven mainly by 27% reduction in employee
numbers.
• State Capture issue – ongoing cooperation with the Commission, scheduled hearing dates 26th to 31st October
2020 and 9th to 13th November 2020.
• Hensoldt: Inability to meet conditions by 30/9/20 resulted in lapsed sale of shares
• COVID-19 Impact:
o Revenue delays due to Arms Control Authority not issuing contracting permits on time.
o Supplier delivery impacted negatively.
o Employee disruptions - health, travel and business interruptions
o To date – 60 positive cases recorded, with 55 recoveries and two active cases. Sadly, three employees
succumbed to the virus.
o Ongoing awareness campaigns
STATE OF BUSINESS (iii)
9
• Human Capital:
o Our headcount as at 31 August 2020 was 3032.
o Some 296 employees have left the company from April to date.
o Inability to pay full salaries (R391m) and statutory obligations has led to low staff morale, lawsuit
due to be heard on 3rd December 2020 and threat of lawsuit by the Pension Fund (Denret).
o Relations with organised labour has been strained due to inability to honour contractual
obligations in terms of salary payments to a point where Solidarity and UASA took us to court.
o Threatening to take us to the CCMA for failure to pay full salaries in some of the Divisions for
August and September.
o Engagements with organised labour are ongoing.
o Recruitment process of the permanent Group CEO is underway.
STATE OF BUSINESS (iv)
10
• Hoefyster Programme Status:
o Technical alignment on compliance against the Armscor specification is achieved.
o Positive feedback from the SANDF following a successful Badger Section Variant Preliminary
Operational Test & Evaluation.
Way Forward:
o Stakeholders to support acceptance and approval of the development baseline for Section
Variant
o Support and expedite the contract amendment for Phase 2 (Production) to align the contract
with current realities (budget and schedule), this amendment has far reaching commercial
implications across the industry (both local and foreign).
9
STATE OF BUSINESS (v):
SOVEREIGN & STRATEGIC CAPABILITIES FUNDING GAP
Capability 2020/21 2021/22 2022/23 2023/24 2024/25
Denel Land Systems
Artillery Main Weapon 20 17 17 17 20
Ballistic Simulation 6 3 3 3 6
Fire Directing and Control 27 24 24 24 27
Gun Command and Control 20 18 21 21 24
Ammunition Handling and Gun Control 20 17 17 17 20
PMP
Medium Calibre Ammunition 14 15 16 17 18
Small Arms Ammunition 52 56 59 63 67
Denel Aeronautics
Component MRO 22 22 22 22 22
Engineering & Continued Airworthiness 13 13 13 13 13
Aero Engines 16 16 16 16 16
Denel Dynamics
Missiles - Sovereign Capability 433 410 312 186 132
OTR
Capital replacement 40 24 80 32 35
Total 683 635 600 431 400
STATE OF BUSINESS (vi)
12
• DEBT (DMTN Programme, JSE-listed)
– PIC rolled UIF bonds of R2,488bn for a further 12 months and Sygnia (R15m).
– NT & DPE supported DENEL to pay its quarterly interest of R51m to all investors and capital
redemption amounts for two of our five investors, namely Vunani (R132m) and Aluwani (50m).
– This was released from the MTEF-allocated funds of R576m and hence R271m remains.
• STAKEHOLDERS
– Interactions have increased; closer interaction through SecDef with DoD, Armscor & SANDF;
– DPE and NT weekly & monthly meetings continue; and
– Inter-Ministerial Task Team to resolve Hoefyster under leadership of Deputy Minister of DoD.
• FUTURE DENEL – Denel Future State submitted to DPE Shareholder; awaiting response
• SUPPLY CHAIN RECOVERY PROJECT – Inventory analysis for optimal cost recovery, Reducing
Supply Vulnerability. COVID-19 related spend YTD R3m.
• ASSOCIATES – Barij Dynamics (previously Tawazun); RDM (49%); Hensoldt (30%)
Shareholder Agreements being reviewed to assess Return on Investment KPIs and realisation of
value through reciprocal business opportunities. Some of these have not been reviewed since the
SEPs were concluded.
STATE OF BUSINESS (vii)
13
• Unaudited loss of R1.8bn in
FY2019/20, due to significant
decline in revenue and poor
programme management
• Denel’s equity significantly below
levels (R4bn) required by
investors and SOC’s assets
predominantly funded by debt
• Equity level decreased
substantially despite equity
injection of R1.8bn disbursed in
FY2019/20
• Received R305m of the R576m
allocated to Denel in FY2020/21
MTEF cycle (use for debt ONLY)
- Redemption payments – R183m
- Interest – R123m
Amount remaining – R271m
STATE OF BUSINESS (viii)AGSA AUDIT FY19: FINDINGS
14
Area of Focus FY2018/19 FY2017/18 FY2016/17 FY2015/16 FY2014/15 FY2013/14
Annual Financial
Statements
Disclaimer
(various
matters)
Disclaimer (various
matters)
Unqualified
(material
uncertainty
on going
concern)
Unqualified Unqualified Unqualified
Predetermined
Objectives
Disclaimer Disclaimer Unqualified Unqualified Unqualified Unqualified
Compliance Disclaimer Disclaimer Unqualified Unqualified Unqualified Unqualified
External
Auditors
AGSA Nkonki Chartered
Accountants,
Appointed, started
audit then replaced
by AGSA in
04/2018
Sizwe
Ntsaluba
Gobodo
Sizwe
Ntsaluba
Gobodo
Sizwe
Ntsaluba
Gobodo
Sizwe
Ntsaluba
Gobodo
TOWARDS A ‘RENEWED’ DENEL – REFLECTING BACK
15
2,404 2,471
2,153
2,550
3,346 3,616
-
500
1 000
1 500
2 000
2 500
3 000
3 500
4 000
2020 2021 2022 2023 2024 2025
Revenue CP 2020/21 - 2024/25
• Declining local budget and decline in defence
spending (Armscor reduced by over 40%)
• Non-alignment and expectations from key
stakeholders
• Unsustainable cost structure vs revenue
• Unsustainable debt
• Poor programme management
• Poor working capital management (stock, debtors &
cash)
• Lack of appropriate commercial & contracting skills
• Sub-optimal relationship with SEPs
TRANSITIONAL PERIOD - WORK STREAMS
16
1. Alignment
2. Business Development
3. Communication
4. Financial Sustainability
5. People
6. Programme Execution
7. Strategy
17
RENEWED DENEL: FUTURE STATE
CAPABILITIES TO RETAIN / FIX / GROW
and consider PARTNERSHIPS
Land Systems
• Infantry Systems
• Artillery Systems
• Infantry Weapons
Vehicle Systems
• Armoured Vehicles
• Mechatronics
Aeronautics
• Military Aircraft & Engine – MRO
• Systems Integration and Upgrades
• Rooivalk Helicopter
Dynamics
• Missiles
• Precision Guided Munitions (PGM’s)
• Unmanned Aerial Vehicles (UAVs)
• Integrated Systems Solutions (ISS)
• Cyber Solutions
Pretoria Metal Pressing (PMP)
• Small & Medium Calibre Munitions
RECAPACITATE / UPGRADE
Overberg Test Range (OTR) • Test & Evaluation Facilities
EXIT / DIVEST
Aerostructures
LMT Products (Vehicles) – sold through BRP
LMT Holdings
Spaceteq
Hensoldt Optronics
Gear Ratio (DVS)
Mechem (DLS)
Properties
CURRENT DENEL ASSOCIATES
Rheinmetall Denel Munitions• Large Munitions
Barij Dynamics (UAE)• Precision Guided Munitions (PGM’s)
• Achieve financial sustainability in
short term.
• Supported by a competitive coherent
internal or accessible capability
system.
• Have acceptable market access or
have secured long-term strategic
funding.
• Consideration must be given to meet
sovereign/strategic capability requirements.
KEY CORE / NON-CORE
BUSINESS CRITERIA
Rationale for seeking potential
investors includes the following:
• Market penetration
• Technology injection
• Raising capital
• Retaining / sustaining strategic and
sovereign capability for the SANDF in
a scenario of declining budget
• Job retention / growth of STEM skills
PARTNERSHIP VALUE
CRITERIA
The assessment of Denel’s business areas against the requirements, market and industry
resulted in a need to reshape and redirect Denel with the following key initiatives and criteria:
KEY RISKS TO FUTURE STATEOperational
• Recall of advance payments received on Hoefyster:
o Received R2.8bn in advance payments, of which R1.935bn relates to the Hoefyster project.
o Denel has c. R800m in stock & WIP against this prepayment; cannot repay if contract is cancelled/executed
at negative margins.
• Loss of critical staff:
o Non-payment of salaries has led to the loss of key technical staff in some divisions.
o Challenge remains in retaining core skills capabilities and delivery to clients.
• Liquidity constraints and working capital:
o Average working capital requirement of c.R370m p.m. to ensure operations run smoothly.
o Covid-19 impact further delayed strategic actions of turnaround – e.g. Hensoldt sale suspended, NCACC
permits outstanding and exports not being shipped.
o Lenders Group unwilling to advance funding for projects and maintain status quo; application for bridge
funding declined - funds be repaid by recapitalisation funds; all funding be government-guaranteed.
o Debt providers, creditors and employees for inability to pay full salaries to ALL employees since April 2020.
o Liquidity in first 12 months further negatively impacted by outstanding legacy obligations of R866m that still
require payment but make no contribution to the financial recovery of the company. Creditors at R715m (30
Aug 20), R537m is over 120 days.
18
KEY RISKS TO FUTURE STATE
Strategic
• Strategic Equity Partnerships:
o Negotiation, stakeholder alignment and PFMA approval may not be achieved in time to stop
untenable decline in Denel
o Geo-Political considerations / uncertainties may cause unusual delays in approval process
o Denel’s proposed value propositions may achieve less investment value than expected
• Reputation:
o Denel’s tainted reputation in the local and global market create a significant barrier to re-entry
o Key supplier reluctance to be in Denel’s redeveloped supply chain – extra cost / upfront payment
• Alignment Issues:
o Key customers especially DoD / Armscor: Hoefyster, Sovereign Capabilities
o NCACC for marketing and export permit approval
19
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