Transnet Financial Statements and Annual report of 2010/11.

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Public Enterprises

12 September 2011
Chairperson: Dr G Koornhof (ANC) (Acting)
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Meeting Summary

Transnet briefed the Committee on its Financial Statements and Annual report of 2010/11. Revenue at R38 billion was up 6.6%. Cash generated from operations were up 13.5% to R18.3 billion and capital investment was up 16.6% to R21.5 billion. Just over half of revenue came from rail operations transporting mineral exports. Taxation costs decreased by 14.5% and therefore operating profit had increased by 32.8%. The balance sheet was strong and the company could go to the market for finance. It had received an unqualified audit opinion in the external audit as well as for meeting its Key Performance Indicators. There was a healthy control environment. The irregular expenditure of R7.2 billion for the awarding of contracts had not been wasteful expenditure and Transnet had received value for services. All non-compliance issues regarding the irregular expenditure had been rectified. Container volumes had increased due to a strategic decision to attract transshipment volumes to South Africa, although Durban’s container terminal suffered the challenge of ageing cranes. Petroleum volumes increased by 1.5% despite a constrained pipeline environment but this had been complemented by rail capacity to ensure supply security. 2011 saw the highest capital investment ever of R 21.5 billion which was part of a five year capital investment plan totalling R110.6 billion.

Rail, port and pipeline capacity had been increased. Training was 3% of personnel costs and black employment equity and female equity had both risen by one per cent. BBBEE spend had increased to 19.4 billion and localisation initiatives had realised between 34% and 52% of the procurement contracts value. Disabling injuries had increased by 11.4% and public fatalities had decreased by 12.7%. The Transnet Pension Fund was an independent body and had to explore and approve funding solutions – this was not the duty of the Transnet Board.

Members asked whether the tip-off hotline was bearing any fruit. They questioned the incentive payments to f
ormer acting Transnet group CEO, Mr Chris Wells, and Mr Siyabonga Gama, Transnet Freight Rail chief executive. Members said that at issue was that bonuses should be paid for superior performance. The R7.2 billion in irregular expenditure troubled them, as why was there no early warning system? To what extent had Transnet established harmonious relations with the unions given that the coal line had been shut down due to industrial action? Why was the board dragging its feet on the Second Defined Benefit Pension Fund pay-out? What was the net asset value of Transnet? Members asked if any criminal cases or disciplinary actions had been taken or whether any money had been recovered in the instances of fruitless and wasteful expenditure.

Meeting report

Transnet Briefing
Transnet briefed the Committee on its Financial Statements and Annual Report of 2010/11. Mr Anoj Singh, Chief Financial Officer (CFO) of Transnet, reviewed the financial statements. He said revenue at R38 billion was up 6.6%. EBITDA (Earnings before Interest, Tax, Depreciation and Amortisation) was up 9.4% to R15.8 billion. Cash generated from operations were up 13.5% to R18.3 billion and that capital investment was up 16.6% to R21.5 billion.

The increase in cash interest cover to 3.9 times was due to the increase in capital investments and that the capital investments were made possible because of the sustained financial performance of the past five years which had resulted in a healthy growth in revenue.

58.8% of total revenue was generated from rail operations, mainly in coal, iron and other minerals exports. This was despite industrial action which had a negative impact. Operational expenses had been kept in check and increased by only 4.7%. It had saved R2.1 billion in planned costs. The ports sector saw a 12% increase in container volumes off a low base.
 
There was a significant strong EBITDA performance with a 9.4% increase in earnings. Finance costs had increased by 18% and was due to the increased investment by the group. Taxation costs decreased by 14.5% and therefore operating profit increased by 32.8%. The balance sheet was strong and the company could go to the market for finance. The decrease from 7.7% to 6.6% in returns on assets was anticipated because of the investments being made and was expected to change in four to five years’ time. Gearing was stable at 35%; it would peak at 47% in three years’ time then decline to 40%. Cash interest cover at 3.9 times was above the minimum of 3 times. It had received an unqualified audit opinion in the external audit as well as for meeting its Key Performance Indicators. There was a healthy control environment. The irregular expenditure of R7.2 billion had not been wasteful expenditure and Transnet had received value for services. All non-compliance issues regarding the irregular expenditure had been rectified.

Mr Krish Reddy, Group Planning Executive of Transnet, said there had been a small growth of 2.2% in the volume of general freight business despite industrial action, cable theft and rolling stock faults caused by ageing equipment. Ore exports had had a positive impact. Magnetite exports was up 3.7%, manganese was up 23% and iron ore was 3.4% up. It was working with Eskom on developing the road to rail strategy.

Container volumes had increased due to a strategic decision to attract transshipment volumes to South Africa, although Durban’s container terminal suffered the challenge of ageing cranes. Petroleum volumes increased by 1.5% despite a constrained pipeline environment but this had been complemented by rail capacity to ensure supply security.

2011 saw the highest capital investment of R 21.5 billion out of a planned R 22.8 billion. 58.3% would be spent on rail, 28.2 % on pipelines and 13.5% on ports. It was a five year capital investment plan totalling R110.6 billion with a 63% - 37% split between maintenance and expansion. 58 locomotives would be purchased for the coal line, 34 for the ore line and two diesel locomotives as well as 354 new wagons. Durban would be getting two new tugs and Richards Bay one.

Ms Moira Moses, Group Executive for Capital Projects at Transnet, said it had increased the iron ore line capacity to 60.7 metric tons. The coal line capacity had been increased to 81 metric tons. It had re-engineered the Durban container terminal to increase stacking capacity to 300 000 Twenty Foot Equivalents (TEU). Coega now had five deep water berths and rail connectivity for 140 000 TEUs. Paving works was under way for the container terminal stack area. The Durban harbour channel had been deepened and widened and could now accommodate 9200 TEU vessels. The Cape Town container terminal capacity had been increased to 200 000 TEUs and new gantry cranes had been purchased. The 16 inch inland pipeline had been completed and the commissioning of the 24 inch pipeline would start soon for operation in 2012.
 
Ms Zola Stephen, Corporate Services Group Executive, said training accounted for 3% of personnel costs. Black employment equity had increased by 1% to 76% and Female equity by 1% to 20%. BBBEE spend had increased significantly from R6.9 billion in 2008 to R19.4 billion in 2011. Localisation initiatives accounted for 52% of the procurement of 100 General Electric locomotives, 40% of the procurement of 32 new 15E class locomotives and 34% of spare parts and components. Transnet had called for expressions of interest in the disposal of branch lines.

Ms Virginia Dunjwa, Chief Risk Officer at Transnet, said that the disabling injuries frequency had worsened by 11.4% .There had been 12 fatalities, most were found to be because standard operating procedure was not followed or because of the rail environment . Public fatalities had decreased by 12.7%, mainly occurring at rail crossings and because of suicides. The cost of the losses to the company had increased by 104.6%. This was due to the severity of the incidents rather than the number of incidents.

Mr Singh said the ports fell under the Ports Regulatory Authority and the pipelines fell under the National Energy Regulator of South Africa (NERSA). It had applied to NERSA in 2011 for a 51% increase in tariffs but had only been granted 11.86% after which it had lobbied NERSA on the principles to be applied. It had subsequently applied for a 69% increase in tariffs for 2012 to
operate its petroleum pipeline system and been granted a 59.9% increase. In 2011 it had applied to the Ports Regulatory Authority for an 11.91% increase in tariffs but had only been granted 4.42%. It had subsequently applied for an 11.91% increase in tariffs for 2012 and been granted a 4.49% increase. It felt that the Ports Regulator was using inflation as a yardstick and did not have a methodology like NERSA. Transnet had passed on a possible methodology for consideration by the Port Authority.

Mr Brian Molefe, CEO of Transnet, said it had 60 engineering trainees, 181 technician trainees and 166 artisan trainees. In social investment, it had developed the Phelophepa Train, a fully equipped train that travelled the country providing health care services. There was a teacher development program, a sports development at schools program and the Transnet Football School of Excellence.

Transnet had asked the board of the Transnet Pension Funds to explore funding solutions which would not affect the Transnet balance sheet. It was the fiduciary duty of the Transnet Pension Fund to approve these issues not that of the Transnet Board.

Discussion
Ms C September (ANC) asked what the debt ratio on Transnet gearing was.

Ms G Borman (ANC) asked if the tip-off hotline was bearing any fruit given that the 2011 numbers appeared to be up. She questioned the incentive payments to f
ormer acting Transnet group CEO, Mr Chris Wells, and Mr Siyabonga Gama, Transnet Freight Rail chief executive.

Mr A Mokoena (ANC) said the R7.2 billion irregular expenditure was troubling. He asked what the current costs of the Durban to Johannesburg pipeline were and whether the costs would escalate. When would it be completed?

Mr C Gololo (ANC) asked to what extent it had established harmonious relations with the unions given that the coal line had been shut down due to industrial action. He said there was a need to improve the employment of disabled people.

Mr M Sonto (ANC) asked what interdepartmental efforts were being made to harmonise issues between Departments of Public Enterprises and Mineral Resources regarding road to rail transport initiatives. Who did Transnet partner with to take the word to the public on safety issues?

Mr P Van Dalen (DA) said that the irregular expenditure was almost half of capital expenditure. Why was there no early warning system? Why was the board dragging its feet on the Second Defined Benefit Pension Fund pay-out?

Mr L Greyling (IDP) said that at issue was the question that bonuses should be paid for superior performance rather than on “when it was paid out”.

The Chairperson asked if there were any criminal cases or disciplinary action that had been taken or whether any money had been recovered in the instances of fruitless and wasteful expenditure.

Mr Molefe replied that Transnet had not met the demand for freight rail. It had downscaled operations because of the downturn in the economy in 2008 and was playing catch up.

Mr Roderick Wolfenden, of Internal Audit at Transnet, said that while the numbers had increased for the tip-off hot line, unfounded allegations had also increased at the same rate. What the increase did reflect though was a greater awareness, by company employers, of the hot line.

On the irregular expenditure of R7.2 billion, Mr Singh said that it was with regard to four contracts for construction, rail and project management contracts which were entered into in 2004/5. At that time procurement processes were not as robust as they were presently. In fact, it was the present robust processes which had picked up these issues. Policies and processes had been instituted to prevent it occurring in the future.

He said all fruitless and wasteful expenditure incidents resulted in disciplinary enquiries and/or criminal cases. If money could be recovered, then fidelity claims were instituted.

Mr Molefe said there had been a culture of condoning activities which had not followed procedure. As from March this year no condonement was possible except by the CEO. On the executive remuneration of Mr Gama and Mr Wells, he said that a portion of the incentives was withheld for a period of three years. If the performance merited it after three years that withheld money was paid out or if the person resigned in the interim that money was lost. If a contract was terminated as with the case of Mr Gama, that money was reflected in the books in the year it was paid out. Mr Wells was paid his basic salary and his incentive money would not be paid out.

Mr Mafika Mkwanazi, Chairperson of Transnet’s Board, emphasized that the pay-outs had nothing to do with wrongdoing on the part of Mr Gama and Mr Wells.

Mr Molefe said the pipeline cost was estimated to be R23 billion and had been approved by the board. There was no indication that this sum would be exceeded. It would be commissioned by December 2011 and further work would involve the building of stations.

He said the two week industrial strike had brought the company’s operations to a standstill. This year it had been the first to make labour agreements with the union by March but it had still been affected by other strikes such as the liquid petroleum one. It was seeking to implement multi-year agreements with the unions.

He said the company had good relations and guidance from the Department and let them lead involvement with other departments.

The matter of work opportunities for the disabled was being taken up and he had requested a report from all divisions on the issue as well as strategies for implementation.

On safety and derailment, he said the bulk of incidents occurred in privately owned yards where maintenance was not good and they had instituted a ban on the use of unqualified drivers in these yards. Transnet had also introduced a system of scheduled maintenance on wagons and locomotives and a greater focus on line maintenance; the coal line, for example, which was usually closed for ten days for maintenance would now be closed for 20 days.

On the pension fund, he said that the board of trustees of the fund were independent and only they could make the changes to the fund that it required. He had highlighted to them the need to review and improve the rules governing the fund and that this needed funding. As the fund was not in deficit, it could be funded from the surplus or they could change the way they invested the money from the fund.

Transnet’s statistics on departure and arrival times were, he said, an embarrassment. A special committee had been set up to improve these figures. An efficiency index for the past six months showed there had been a sizeable improvement.

Ms Dunjwa said Transnet had partnered with the community, municipalities and schools to improve rail safety awareness. It had also flighted a level crossing advertisement on TV. It had embarked on a maintenance program internally and had canvassed benchmarks used in other countries to Improve safety.

Mr Molefe said that the executive would that very day be visiting Mbekweni township, the site where two people had been killed. The railway line was very closely bordered by the community and Transnet in conjunction with the local council was attempting to get the community living next to the railway to move so that Transnet could build a wall.

Ms September asked about the shortage of train drivers. She wanted to know whether Transnet wanted to privatise rail sections at the ports

Ms Borman wanted to know how long the CFO would be in an acting position and said she was impressed with the procurement processes being followed.

Mr Mokoena asked how three audit layers had been bypassed regarding the R7.2 billion in irregular expenditure. Where was the jurisdictional process between the Department and the Department of Transport concerning Coega? What was the net asset value of Transnet?

Mr Gololo asked how Transnet had benefited from the
Joint Initiative on Priority Skills Acquisition (JIPSA). On cable theft, he asked if Transnet was thinking of employing more people to reduce theft.

Mr Sonto wanted a breakdown of the black percentage of human capital to understand at what levels they were. What criteria was used to identify the recipients of bursary grants.

Mr Van Dalen said that the company had identified strategic risks but that it appeared to be doing nothing to counteract them

Mr Greyling questioned whether the incentive schemes were justified and wanted to know the processes followed. He said he was still waiting for the remuneration policies which the DPE were finalising.

The Chairperson wanted to know whether the materiality limit should be determined by the auditors and not the shareholders.

Mr Molefe said that Transnet had a Train Drivers’ school.

He said that they were not thinking of selling off any of its assets. The assets of the ports could in any case not be removed from Transnet otherwise it would be in default on its bonds.

He said the CFO, because of his position, automatically became part of the board of Transnet. There were discussions with the board and it was anticipated that an announcement would be made within the next two months.

He said Transnet was the operator of Coega and that R13 billion had been spent. A tender would soon be placed for cranes and it was looking at relocating manganese exports to Coega.

He said the purchase of container scanners was a possible strategy to combat copper cable theft. Transnet had also employed an ex crime intelligence major-general to work in co-operation with the police on copper theft.

Mr Singh said the net asset value of Transnet was R120 billion and total assets were R170 billion.

He said the materiality limit was recommended by the auditors to the shareholders who voted whether to accept it or not.

Ms Stephen said the statistics on the employment equity numbers for the company could be found on page 93 of the Annual Report.

Mr Mkwanazi said that as a new board it had called for a review of the short term and long term incentive schemes rules as the rules and the KPIs were not tight enough. The board still had to approve the changes.

Ms September asked whether it was correct that one board member had 65 directorships. Was it true that 32 cranes could not operate in high winds at the Cape Town port terminal?

Mr Mokoena asked what the strategy behind the disposal of the branch lines were.

Mr Van Dalen commented Transnet should get a specialised copper theft unit.

Mr Greyling said that Transnet should supply the Committee with its remuneration policy.

The Chairperson asked where the legislative process was in regard to the sale of Transnet property below the high water mark estimated to be valued at R30 billion.

Mr Mkwanazi said that the board member in question was in the property business and because of the nature of his business held so many directorships, but that he did all Transnet work diligently and on time. The board was considering a new ruling where it questioned on how many boards an executive sat, if it was above a certain number it would require shareholders agreement.

Mr Karl Socikwe, Chief Executive of Transnet Port Terminals, said that as a safety measure the cranes cut off automatically at winds of 72 km/hr or more. This was for safety purposes. It was working with shipping lines on alternative means of unloading.

Mr Molefe said that Transnet now had a property division which was part of the executive committee. There was a moratorium on the disposal of buildings. He said newspaper reports that Transnet had sold off assets below the high water mark, was incorrect.

Mr Mkwanazi said that Transnet was picking up market share from road freight traffic in its road to rail initiatives.

The meeting was adjourned.


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