Denel & Department of Defence: Hearing on Annual Report & Financial Statements 2008/09

Public Accounts (SCOPA)

02 February 2010
Chairperson: Mr T Godi (APC)
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Meeting Summary

The Committee interrogated Denel and the Department of Defence on their Annual Reports and financial statements for the year 2008-2009.

Denel had received in the independent auditors’ report to the Minister of Public Enterprises an unqualified opinion but with attention drawn to the Group’s having incurred current and accumulated losses. These indicated uncertainties and shed doubt on the Group’s viability as a ‘going concern’. Secondly the independent auditors remarked on the Rooivalk programme which had significant risks and other material uncertainties.

The Committee’s impression was that Denel was bankrupt. Members interrogated Denel on the Denel Board’s optimistic estimation of Denel’s viability, and how the Board had achieved such a good evaluation from the Institute of Directors when it had incurred huge losses. Denel’s Board Chairperson was confident that the Board was effective, and that Denel could recover and become viable as a group of individually viable entities operating in a variety of markets. Denel’s Board owned its turnaround strategy and acknowledged that the Group had no choice but to cut its cloth according to its means which were affected by general economic factors. The Group Chief Executive Officer also denied that Denel was bankrupt, and asserted that it was indeed liquid and, moreover, reinforced by strong support from Government. It was most certainly a ‘going concern’. An African National Congress Member, however, did not share the delegation’s confidence and called for a ‘dramatic intervention’ to assist Denel.
The Department of Defence had received a qualified audit opinion (with other matters of emphasis). The Auditor-General’s opinion was qualified for several reasons including tangible and intangible assets, irregular expenditure, and consultant expenditure. Other matters included non-compliance with legislation. The Department still lacked sufficient oversight and monitoring controls by senior management; its systems were inadequate to ensure compliance with reporting requirements.

Members required the Department to explain itself, with particular reference to tangible assets and lease commitments; irregular expenditure, goods and services, and Departmental revenue; and accruals and fruitless and wasteful expenditure. Doubts were expressed as to the Acting Secretary of Defence’s capability to perform his duties. The Chairperson advised that as to whether or not he should continue to hold his post was a political decision. However, the Committee had on numerous occasions expressed its dismay at the undue dependence on ‘acting’ officials in senior positions in governmental departments and public entities.
The hearing was halted, after the great efforts by Members to extract information were frustrated with the seeming inability of the Department’s delegation to answer the simplest of questions and its overall apparent lack of effort to prepare itself for the hearing. The Committee noted with concern that this was not the first such occasion in its encounters with departments. The hearing would continue on a date to be determined in the near future, and the Committee would then expect answers.

Apologies were received from the Minister of Defence. The Chairperson and Members of the Portfolio Committee on Defence and Military Veterans attended and participated. The Deputy Auditor-General and colleagues were in attendance; also present were senior National Treasury officials.

Meeting report

Denel hearing
Denel had received in the independent auditors’ report to the Minister of Public Enterprises an unqualified opinion but with attention drawn to the group’s having incurred a loss for the year of R543.9m (2008: R347.2m) which resulted in an accumulated loss of R4 708.5m at 31 March 2009 (2008: R4 263.1m). These conditions, along with other matters as set forth in the director’s report (pages 130 to 144) indicated the existence of material uncertainties, which might cast significant doubt about the group’s ability to continue as a going concern. Secondly the independent auditors drew attention to the Rooivalk contract loss provision. The provisions included an amount of R280 million in respect of an estimate of costs to complete the Rooivalk programme. As detailed in the directors’ report (pages 132 to 133), this programme had significant risks and other material uncertainties. (Denel Annual Report, pages 126-127)

Mr N Singh (IFP), after observing that Scopa Members appeared to be outnumbered by Defence Portfolio Committee Members, led the interrogation. He focused on the Denel Group’s commercial viability, the impact of the restructuring strategy and the ‘going concern’ issue, its accumulated and further losses together with amelioration thereof, the Rooivalk contract, progress on the recapitalisation provision, and the role, responsibilities and effectiveness of the board. He referred to the listing of 16 directors (Report, pages 24-25) and 17 executives (Report, pages 26-27). The curricula vitae of these individuals, who came from various backgrounds, were very short. He also sought clarity on the remuneration policy, and the fact that some executives sat as invitees on the Personnel and Remuneration Committee. He justified this contextual background in order that the delegates focus their minds and answer his questions sequentially. He asked about the Board’s long-term business plans and annual budget (Report, page 56) and the continuous evaluation of the board (Report, page 57). Who evaluated the performance of the Board? How did the Board achieve a good rating when it had incurred such losses?

Dr Sibusiso Sibisi, the Chairman of the Denel Board, replied that Institute of Directors evaluated the Board, which believed that Denel was viable.

Mr Singh asked if the Board felt that it was effective, bearing in mind not only past and current losses, but projected losses.

Dr Sibisi replied that, ‘in a nutshell’, the Board did consider itself effective. However, to answer the question fully would require an explanation of the context in which Denel operated.

Mr Singh stated that the Report gave the impression that Denel was bankrupt. Was Denel plunging ‘deeper and deeper into the mire’? Alternatively, could Denel recover and become viable?

Dr Sibisi replied that most definitely Denel could recover. Denel had launched a turnaround strategy in 2006, not necessarily as one large entity, but as a group of entities that were individually viable and operated in a variety of markets. It was often difficult, of course, because of the various inputs and interests. He acknowledged the current financial predicament.

Mr Singh said that Denel’s turnaround strategy was dependent on a number of variables, one of which was the recapitalisation (Report, page 62). He asked how the strategy, after four years, had affected Denel’s turnover.

Dr Sibisi replied that Denel’s Board owned the strategy. It sought eventually not to be dependent on the fiscus, and acknowledged that the Group had no choice but to cut its cloth according to its means, which were affected by general economic factors. 

Mr Singh asked if Denel had received a sum of R1.7 billion towards recapitalisation.

Dr Sibisi replied that Denel had not.

Mr Singh asked when this R1.7 billion had been promised, and, if in view of the recession, Denel thought that it would ever receive it, and how Denel thought that it could turn itself around with its strategy.

Dr Sibisi replied that Denel, like other organisations, made contingency plans.

The Chairperson asked if the turnaround strategy had been premised on Denel’s obtaining the recapitalisation amount.

Dr Sibisi replied that ideally the strategy was based on receiving the full amount for recapitalisation.

The Chairperson asked whether the strategy was premised on what Denel had already, or on what it hoped to receive. 

Dr Sibisi replied that Denel was revising its strategy accordingly. Of necessity, Denel had to adapt.

Mr M Talib Sadik, Group Chief Executive Officer (CEO) gave his interpretation of Denel’s solvency. He denied that Denel was bankrupt. Denel was liquid at the very same time as the delegation was addressing the Committee. Moreover, Denel was reinforced by strong support from Government. It was a ‘going concern’. There was local defence spending.

Mr Singh acknowledged Mr Sadik’s view.

Mr Sadik added that the strategy was premised on Denel’s receiving the recapitalisation.

The Chairperson noted that Mr Sadik’s reply was much more to the point. The entity had been incurring losses for ten years; therefore the ‘going concern’ issue should be prominent. A loss remained a loss.

Mr Singh asked about salaries and bonuses. (Report, page 143) He asked ‘What performance? What bonuses?’ Some directors served as invitees. It was amazing that such large amounts were paid in performance bonuses.

Dr Sibisi replied that Denel had exceeded targets.

The Chairperson inferred that if Denel’s senior staff met their targets, they received a bonus, merely for doing their jobs. He asked for an explanation. The Committee wanted to know how the bonus system worked.

Dr Sibisi replied that Denel was talking about ‘really hard targets’.

The Chairperson objected that it was difficult to raise a convincing argument in that direction. It was still a process that the Committee was trying to understand.

Ms Chantyl Mulder, Chairman of Denel’s Audit and Risk Committee, said that the task facing Denel was to try to raise the Titanic in the space of a year.

The Chairperson drew delegates’ attention to the figures in the Report.

Ms T Chiloane (ANC) asked that the discussion should not become emotional.

Mr Singh said that the Titanic had hit an iceberg. He asked what could be done to turn Denel around. He asked if there was guidance from the Department of Public Enterprises. He referred to the Report, page 140.

Dr Sibisi replied that the Personnel and Remuneration Committee reviewed the remuneration of the group executive officer, the executive committee members and the chief executive officers of the business entities. In reviewing the remuneration of senior executives, the committee considered market benchmarks, internal pay parity, individual performance, as well as guidelines on remuneration provided by the Department of Public Enterprises for State Owned Enterprises. (Report, page 140)

Mr Singh asked about the Rooivalk contract and losses. It was arguably one of best performing projects of Denel but now it had shortfalls. He asked for an explanation. He also asked about the risks on the airbus deal, and whether the financial impact was positive or negative.

Mr Sadik replied that the contract was independent of the Department of Defence’s acquisition team.

Dr G Koornhof (ANC) said that since the contract represented 83% of Denel’s losses, it could not be business as usual. ‘We need a dramatic major intervention.’

Mr Sadik replied that Denel was 20% owned by the Swedish SAAB group, as an aerospace industry minority shareholder.

The Chairperson reminded delegates and Members of the ‘going concern’ matter.

Dr Koornhof said that this was ‘the rotten apple’. He asked Denel to share its turnaround strategy with the Committee. ‘We want a dramatic intervention.’ Until such time the future of Rooivalk programme was in doubt.

Mr Sadik said that Denel sought clarification on the cabinet memorandum.

Mr D Maynier (DA) observed that there were no prospects of a coup d’état at present funding levels.
He asked about the deal, in which, in return for a waver of penalties, business would be guaranteed for four years. Somebody had dropped a ball. What had been done to pick it up.? Did Denel support it?

Mr Sadik said that Denel could not comment on media speculation. He did not believe that Denel had dropped the ball.

Mr Maynier asked if the merits had been considered by the Department of Public Enterprises or by the Cabinet, and asked if what the Committee had read in the audit report on Denel was true or not.

Mr Sadik said that Denel was carrying out the matter on behalf of its client. There were associated risks. Denel was going ahead.

Mr R Ainslie (ANC) asked if Denel could comment on planned replacements, and if it could confirm that any persons had resigned.

Mr Sadik replied on the business challenges that existed, an area that required examination. They did resign and the board did meet. Denel had appointed an acting chief executive officer. Any individual had the right to resign. Mr Maynier had a copy of the contract.

The Chairperson asked how a contract caused a senior member to resign.

Mr Sadik replied that they had acted for the Board.

Mr Ainslie asked the delegates to use the present opportunity to explain the situation.
Ms A C Kinley was leaving; she had been appointed to turn the company around. At that time SAAB had the management contract of the company.

Mr Sadik said that he would ask Dr Sibisi to respond.

The Chairperson asked the delegates to take Members into their confidence ‘to stop the rumour mill from flourishing’.

Mr Maynier thanked Mr Ainslie for his endorsement. He asked about Denel’s revenue challenges, which were significant. He asked about the process of achieving strategic equity partnerships.

Dr Sibisi replied that equity partnerships were the cornerstone. These needed to go beyond the deliberations of the Board.

Mr N du Toit (DA) said that the Committee was examining public interests and public money as long as state funds were used to prop up this enterprise. It was necessary to consider the Rooivalk contract. The Rooivalk contract was 30 years old. He did not observe those armoured vehicles on South Africa’s borders any longer. South Africa could not compete with the United States of America. South Africa had 12 in stock. ‘Let’s cancel it.’ He asked if there were going to be any orders. Was it an anti-tank defence? Was it viable for South Africa to keep something going at such a cost? He insisted that Denel tell this Committee about the rockets.

The Chairperson commented that the Portfolio Committee on Defence could do better with policy issues.

Mr M Booi (ANC), the Chairperson of the Portfolio Committee on Defence, urged Denel to clarify those issues concerning the fiscus. (Report, page 156)

The Chairperson said that he wanted to close the matter.

Mr Steele asked what Denel was doing to correct this problem.

Mr Maynier said that it was evident from Mr Sadik's account. He asked if Mr Sadik would be prepared to supply a copy of the evaluation.

Mr Singh asked about the risk recapitalisation. A hands-on approach by the Board and timely Cabinet decisions were required.

Dr Sibisi replied that it was a general comment for which Denel was grateful. It was Denel’s first appearance before the Committee, from which Denel had nothing to hide. Delegates spoke as members of the Board of Denel which had been given the task to fulfil its fiduciary obligations. Therefore, when asked a clear question about missiles it had answered that it could not continue to produce missiles without an equity partner. It was a specific answer.

Mr Sadek replied about the terms of the Public Finance Management Act requirements. 11 members of the Denel Board stood alone. There were also subcommittees. He acknowledged that a more comprehensive answer was required. The ARMSCOR board had met. Denel had no legal obligation to make that payment. It was media speculation. Denel examined a broad host of issues before making a payment. It was a highly- geared balance sheet, which was not acceptable to Denel.

The Chairperson thanked Members and the Denel delegation. He asked the Department of Public Enterprises for a copy of its guidelines for state-owned enterprises. Secondly, he requested Mr Booi to study the issue of the deal with Augusta, and the issue of the relations between Denel and the Department of Defence, which were issues that the Portfolio Committee on Defence was well-qualified to handle. He asked Denel for more details on some of the issues. He referred Mr Booi to some issues in Denel’s Annual Report. (Report, page 20, last paragraph) He advised the delegation that it was unacceptable for Denel to make losses for ten consecutive years.

Hearing on the Department of Defence
The Department of Defence had received a qualified audit opinion (with other matters). The Auditor-General’s opinion was qualified on tangible and intangible assets, lease commitments, irregular expenditure, departmental revenue, goods and services (consultant expenditure) and corresponding figures for accruals. Other matters included non-compliance with legislation. In general terms the Department still lacked in terms of financial management in the following areas: high level oversight and monitoring controls by senior management; guidance or procedures provided to staff regarding the preparation of financial statements, specifically the evaluation of supporting documentation and figures; and adequacy of systems to facilitate compliance with reporting requirements. (Department of Defence. Annual Report, pages 237 -245)

Ms L Mashiane (COPE) questioned the Department on tangible assets and lease commitments.
She asked Mr Tsepe Motumi, Deputy Director-General, Department of Defence, if he was still acting in his capacity as the Acting Secretary for Defence.

Mr Motumi, who began by apologising for the absence of the Minster of Defence, told Ms Mashiane that he had been Acting Secretary since August 2008. Two senior staff members were holding acting posts. These were the Secretary of Defence and the Chief Financial Officer.

Ms Mashiane asked Mr Motumi as to the prospects of the Department of Defence’s appointing a permanent Secretary.

Mr Motumi replied that he did not have the authority to answer this question. His post, and that of the Chief Financial Officer, was the prerogative of the Minister

Ms Mashiane asked this question because the Committee was concerned at the length of time such senior positions were occupied by individuals appointed only in an acting capacity. She thought that Mr Motumi would understand that an official was better placed if he or she were appointed on a permanent basis.

The Chairperson asked who the chief financial officer was.

Mr Motumi indicated Ms Dudu Mutloane, Acting Chief Financial Officer, as the individual concerned, and advised that this post was also held in an acting capacity.

Ms Mashiane said that she was happy that Mr Booi, the Chairperson of the Defence Portfolio Committee was also present, and suggested that perhaps he could advise the Committee. She remarked that since 2006/2007 the Department of Defence had been unable to put its house in order. Why not? Did Mr Motumi imagine that the situation would not persist in the current financial year if appropriate measures were not taken?

Mr Motumi replied that the asset register would not be ready until 31 March 2012. There were still items of stock to be recorded.

Ms Mashiane asked how much progress the Department expected to make by the end of the year, and asked for a progress report.

The Chairperson asked if 2012 was attainable.

Ms Mashiane said that she had not wanted to be very hard on the Department. However, the Committee had before it an Acting Secretary and an Acting Chief Financial Officer. She said that she was being subtle on this occasion. She asked the Department to keep the Committee informed and communicate also with the Portfolio Committee on Defence. In view of the Department’s qualified opinion for the past three years, she asked how the Department would remedy the situation.

Mr Motumi replied that the Department would acquire an Information Technology (IT) solution for management shortly.

The Chairperson questioned the Department’s making payment without having seen the lease agreement.

Mr Motumi replied that the Department knew the duration of contracts.

Ms Mashiane said that she did not understand what Mr Motumi was saying. The Department’s problems stemmed from spending money without having the necessary documentation to hand. She appealed to Mr Motumi to make an effort to convince her that he and his Department was making a serious effort to solve the various issues, and not answer evasively such that she would be obliged to be severe with him.

The Chairperson pointed out the Committee’s resolution.

Ms Mashiane referred to the Public Finance Management Act (PFMA) Section 40, ‘the green book’, which indicated an accounting officer’s reporting responsibilities. If Mr Motumi felt that he was not up to his task, he should discuss his concern with the Executive Authority.

The Chairperson thanked Ms Mashiane

Mr S Thobejane (ANC) asked what measures had been taken.

The Chairperson asked whose job it was to ensure that documents were available. He asked about the logistics section and why it had not made documents available.

Mr Thobejane quoted the PFMA Section 38. If any manager within the Department failed to comply, it was the responsibility of the Acting Secretary. He then referred to Section 40, which stated the procedures to be followed if the Acting Secretary failed. The Acting Secretary’s failure was punishable.

The Chairperson asked what about the chief of logistics.

Mr M Mbili (ANC) said that Members wanted the name of the individual. They were not present to play games. The Department must answer the question.

Mr Motumi replied that it was the logistics section.

Ms Mashiane asked that the official responsible for logistics should answer.

The Chairperson asked the logistics section why necessary documentation was not available.

Major-General Justice Nkonyane, Acting Chief of Logistics, Department of Defence, replied that he wanted to put matters in perspective. There was no single person responsible for risk management. In the 2008-2009 financial year it had been handed to logistics. If asked if he had failed in his duties, he could say that in the previous period he was not responsible.

Mr Mbili said that it was imperative to arrest this kind of problem. The documents should have been handed over to the accounting officer. This had not been done. This meant that the Acting Secretary of Defence had not done his job according to his job description. As a result he would have been unable to give the required documentation to the Auditor-General.

Mr Motumi conceded that he had failed in that regard.

Mr Mbili asked Mr Motumi why, if that were the case, he was still in his post with the responsibility for such a large department. He asked if he retained under him staff members who were failures.

Mr Motumi replied that the results of the internal audit were not forwarded to him.

Mr Mbili said that the buck stopped with Mr Motumi. Somebody had let him down. He asked why he was present if he could not do his job.

The Chairperson said that if the Minister were present she would have been able to provide a better response. To operate within time frames was a challenge. The failure of management to manage properly was the crux of the matter. Leadership, management, control, and monitoring were all essential and their importance must be appreciated.
Ms S Mangena (ANC) questioned the Department on irregular expenditure, goods and services, and Departmental revenue. (Report, pages 318-322)

The Chairperson said the Department had provided insufficient information.

Ms Dudu Mutloane, Acting Chief Financial Officer, Department of Defence explained what the understatement comprised. This did not mean that somebody was being underpaid. It was not disclosed correctly.

The Chairperson replied that he believed that the Acting Chief Financial Officer had answered better. The response demonstrated that there were serious challenges.

The Chairperson asked if they would receive full pay.

Ms Mangena asked what would be done, and what remedial steps had been taken.

Ms Mutloane replied that the Department had compiled a submission.

Ms Mangena asked if the Department could explain the lack of documentation.

Mr Motumi replied that measures had been taken. The Department was also reviewing the housing policy and would report by the end of March 2010.

Ms Mangena asked about irregular expenditure, which could not be condoned, and why labour brokers were required. She asked if correct tender processes were followed.

Mr Motumi replied that the Department of Defence was ‘putting measures in place’.

Ms Mangena asked for details.

Mr Motumi replied that a new contractor for services had been procured. These were services with respect to the maintenance of the Department’s systems. The Air Force had taken steps to institute a board of enquiry.

Ms Mangena asked about the R193 million for medical fees. The Auditor-General wanted documentation.

The Chairperson said that these negative messages were apparent. The issue was lack of documentation, as the Auditor-General had indicated.

The Department responded that the Auditor-General was correct. ‘We are guilty as charged. We had to go from April 2008 to the end of the financial year to verify those statements.’

Ms Mangena was exasperated when Mr Motumi could not explain why no action had been taken against officials who failed to keep record of millions of rands spent on consultants. The Auditor-General had identified this as one of the reasons why the Department had received a negative audit opinion yet again. She asked for an explanation of the list of contracts (Report, page 175) and list of projects (Report, page 176). She asked what measures the Department would take in the light of this qualified audit opinion.

Mr Motumi replied with reference to page 175 of the Report.

Ms Mashiane said that the Committee was wasting time. It was not really getting any answers. She urged the Committee to let the Department go back and return better prepared together with the Minister.

Mr Ainslie wanted answers from the Department on accruals and fruitless and wasteful expenditure.
He shared Ms Mashiane’s frustration. He said that the Committee was obliged to squeeze answers out of officials. It would perhaps be better to provide them with a list of questions. The present approach was a waste of time.

Mr Mbili was reluctant to concur. Agitatedly, he declared that the Department of defence was ‘a time bomb’. It was strategically important and responsible for the safety of all South Africans, but the Committee sought in vain to know what they were doing. There was a danger that South Africa might end up having no army at all. There were some issues to be addressed before a further hearing, especially the head of supply chain management. He asked if the incumbent had been vetted, for the incumbent had not declared interests. This talked to the heart of the problem. It was inexplicable that the Department did not co-operate with the Committee when it was clear that there were huge problems. Awarding tenders to companies in which officials had interests that they had not declared were serious matters. The Committee could not wait any longer to find out what was happening. The situation could not be allowed to continue.

The Chairperson asked Members not to belabour the point.

Mr Thobejane suggested that the Portfolio Committee on Defence take up the burning issues. In the meantime it would be better to postpone further discussion.

Mr Du Toit urged Members to continue with the hearing.

Mr Steele argued that there were systemic issues in the Department which the Portfolio Committee on Defence should examine. The Committee was not obtaining any answers. However, there were some matters which would be better dealt with immediately.

The Chairperson proposed that the meeting adjourn. However, he assured Mr Steele, that his concerns were not to be ignored.

Mr Booi supported the adjournment. He told the Committee that he had asked Mr Motumi to take the issues more seriously, and had met with him and his team in an effort to assist him prepare for the hearing. He could not understand the delegation’s inability to provide coherent answers. He supported letting the delegation have a second chance to explain itself to the Committee, but the Portfolio Committee had already done its best and could not be expected to do more. He was most disappointed with the Department. Moreover, he would not allow Members of Parliament to be ‘kicked around’.

Mr Mbili said that Mr Maynier must contain himself.

The Chairperson asked Members not to ‘make a mountain out of a molehill’.

The Chairperson told Mr Motumi to note well the Committee’s sentiments. The Committee had had a similar experience with the Department of Human Settlements and with the City of Cape Town, and had been obliged to suspend the hearing and ask the respondents to go away and come back better prepared. In the light of that outcome, he still retained some hope of a fruitful outcome. He hoped that the Minister of Defence would be able to attend the second hearing, so that she could guide the Committee. Notwithstanding the adjournment, the meeting had not been a profitless exercise, since it had assisted Members to understand the depth of the Department’s challenges. The hearing would continue on a date to be determined in the near future, and the Committee would then expect answers.

The meeting was adjourned.


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