SAA & South African Post Office Recapitalisation: FFC & Treasury briefing

Standing Committee on Appropriations

15 November 2017
Chairperson: Ms Y Phosa (ANC)
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Meeting Summary

The Committee received briefings from the Financial and Fiscal Commission (FFC) and National Treasury on the debt relief and recapitalisation of South African Airways (SAA) and South African Post Office (SAPO). This required additional appropriations of R13.5 billion to SAA and SAPO during the October 2017 Adjustment Budget.

FFC was of the view that guarantees should not be viewed as an easy option to avoid managing risks as now appeared the case. Guarantees were not to be taken for granted and become a default response position. FFC advised that oversight mechanisms of guarantees needed to be strengthened to reduce the risk of unintended consequences materializing, given that guarantees are not exposed to the same level of scrutiny in the budget process as regular spending. FFC was concerned that bailouts would create the perception that SAA and other state owned entities (SOEs) could count on government to support them when faced with financial problems.

FFC outlined measures to improve sustainability and profitability in SAA. Government should:
– Speed up policy clarity and implementation on finding an equity partner for SAA
– Use guarantees sparingly and as a last resort in managing risks
– Clarify if future government financial support will be required from SAA and the extent thereof as of now to enable future planning
– Implement proposed cost saving and revenue enhancement measures, improve leadership stability and enhance governance at SAA.

The Acting Director General of Treasury said that it was quite painful to have to offer the additional appropriations to SAA and SAPO.

SAPO had R4.17 billion government guarantees, which had been used to raise R3.7 billion in debt. The guaranteed debt was used mostly to settled overdue creditors to restore services, pay salary shortfalls, and repay overdraft facilities. Operational inefficiencies on SAPO’s part and a general decline in mail volumes accelerated SAPO’s financial deterioration.

Both SAPO and SAA had to meet certain conditions set out by Treasury and lenders for recapitalisation of their debt.

SOEs facing financial difficulty needed to demonstrate tangible progress in returning to profitability.
 

Meeting report

The Chairperson said that the meeting was to receive a briefing from National Treasury and Financial and Fiscal Commission (FFC) on the South African Airways (SAA) debt relief and recapitalisation funding.

SAA debt relief and recapitalisation: Financial Fiscal Commission submission
Dr Ramos Mabugu, Research Director, FFC, said that the airline industry was one of the biggest facilitators of trade and yet was highly sensitive. It was sensitive to competition, national pride, currency movements, oil prices, geopolitical risks, and travel volumes. This was the nature of the airline industry the world over. The local airline industry had been experiencing growth in travel volumes and entry low cost carriers. The Johannesburg (JHB) – Cape Town (CPT) route was highly competitive and ranked among the 10 busiest in the world.

SAA operated within a highly competitive marker domestically, regionally, and internationally. The airline however maintained domestic market dominance with a 36% market share, or 56% including Mango. Private airlines accounted for 46% market share and mostly dominated on less busier routes, with Kulula making up 53% of market share on the JHB – George route. Demand for air travel remained strong with passenger traffic reaching 50 million departures and arrivals. The domestic market constituted 69% of South Africa’s travel volumes. The international market accounted for 28% of air traffic, while the regional market was very small.

Challenges facing the airline industry were: the slowdown of the Chinese and Brazilian economies had placed downward pressure on commodity prices, impacting negatively on SAA’s revenue; despite the sharp decline in jet fuel prices between 2014 and 2015, the weak Rand meant that SAA did not benefit from lower operating expenses; the Ebola epidemic in 2014/15 affected key routes to East Africa and the Americas; new visa rules for children travelling resulted in a decline in international travelers coming to South Africa; poor airline margins and bailouts could lead to lower investor confidence; and SAA had been accused of anti-competitive behavior in the South African aviation market.

In 2006/07, SAA experienced significant losses that led to major restructuring at the airline. An assessment found the operations at SAA unsustainable. During the same period, the Department of Public Enterprises (DPE) took over SAA from Transnet after Transnet considered the airline as a non-core area. Restructuring led to improved performance, with the company turning in profits for three consecutive years (2008/9 to 2010/11). In 2013, SAA developed a long term turnaround strategy after incurring losses for two years (2011/12 and 2012/13). Shareholder oversight was moved to the Ministry of Finance in December 2014 as a measure to address the financial and governance crisis at SAA. A 90 day Action Plan was implemented to address implementation failure at SAA. In 2016, the Ministry of Finance extended further guarantees to SAA with conditions attached, despite persistence of poor performance.

Since 2012/13, total liabilities had outstripped total assets with the gap growing increasingly wider. By 2015/16, the nett value or difference between total assets and liabilities reached R9.6 billion. Since 2001, there had been previous episodes where SAA experienced a negative nett value on its balance sheet, but the size and duration is unprecedented. The rapid rise in liabilities and decline in assets implied that SAA required to pay a large share of its revenue to service debt costs. SAA incurred an operating loss in five consecutive years (2011/12 to 2015/16) while financing costs had escalated alarmingly over the same period. Instability in leadership, flawed governance and inefficient operations have been attributed as reasons for poor performance at SAA. Long term loans reached R12.7 billion in 2015/16. R6.2 billion of total long term loans were expected to reach maturity immediately, or within a year. Given the poor financial health of SAA, financiers had been reluctant to extend the maturity date of loans, resulting in government intervention to keep SAA afloat.

The Minister of Finance invoked Section 16(1) of the Public Finance Management Act (PFMA) to settle SAA’s debt obligation with lenders and financed it through the National Revenue Fund (NRF). An amount of R2.2 billion was paid to Standard Chartered Bank on 30 June 2017, and R1.76 billion was paid to Citibank on 29 September 2017 for outstanding debt owed to the lenders. SAA received an injection of R1.2 billion for immediate working capital requirements.

R5.2 billion was used to pay creditors (R4 billion) and reduce SAA’s debt service obligation (in the hope to improve debt equity ratio and gearing) and to contribute to an equity injection (R1.2 billion) and improve liquidity.

Government funded the R5.2 billion to SAA directly from the NRF, and this had important implications for the Medium Term Budget Policy Statement. This will likely increase the budget deficit and further push back fiscal consolidation over the medium term. If government were to dispose of state assets to offset expenditure incurred, this will have a neutral impact on the budget, but the government balance sheet will still be negatively affected.

It is not known which assets will be sold. The details will only be announced in the 2018 budget. The sale of state assets is a once-off cash injection and could not be called upon again to balance off future expenditure needs. Given SAA’s existing loan commitments, the equity injection into SAA may not be sufficient to secure its long term viability.

To reduce costs of borrowing and managing credit ratings, government has progressively extended guarantees to SAA over time. Guarantees imply government commitment to make loan repayments on behalf of SAA should it default. This exposes the budget to undisclosed risks and is recorded as a liability on government’s balance sheet. If SAA had defaulted on its loan repayments to Citibank and Standard Chartered, this would have triggered a call on the government guarantee including loans received from other lenders totalling R13.75 billion.

FFC is of the view that FFC advised that oversight mechanisms of guarantees needed to be strengthened particularly at Treasury Macro Risk Oversight Division to reduce the risk of unintended consequences materializing, given that guarantees are not exposed to the same level of scrutiny in the budget process as regular spending.

SAA’s ongoing financial woes occur in stark contrast to thriving domestic and international competitors. Comair turned R297 million profit in 2016; Ethiopian Air turned R3.4 billion in 2016; and Emirates turned R4.4 billion profit in 2016/17. SAA losses were however not isolated. Malaysian and Kenyan Airlines had been struggling to turn profit in recent times. The reasons for the underlying losses were attributed to tough competition; poor fleet fit for purpose; and operational and managerial inefficiencies. SAA continued to make losses despite endless interventions. Interventions seemed superficial and were not addressing the underlying core reasons.

FFC proposed that SA should take the following actions to improve its operations and return to profitability: renegotiate contracts – network arrangements, leases, and fleet structure; sell non-strategic assets such as Airlink stake which undercut SA Express; continue to aggressively pursue outsource of non-core services; halt operations on non-performing routes; and diversify income away from ticket sales – catering, lounges, and technical services; strict procurement controls; staff resizing; aggressive cost containment on major cost drivers; stabilize executive and senior management; swift decisions on routes termination; and recommitment to aggressive expansion on strategic domestic and international routes.

SAA’s future growth is poised to rely on domestic travel and other ancillary services (cargo) - to serve few domestic destinations relative to the fleet size; and airplanes may be stuck in costly international routes. International travels are predominantly driven by big full service carriers relying on low cost carriers (LCC) for regional carriage - international airlines account for 82% of traffic into and out of Africa. Regional travels are hamstrung by restrictions on open-sky policies, bilateral agreements, and fragmentation. Africa had 227 airlines but only accounted for less than 5% of global air traffic.

The sustainability of SAA will not only depend on market dominance but on fair competitive practices; the airline industry thrived on competitive prices which enabled passenger growth; and the entry of Fly Safair resulted in reduced fares on certain routes. The industry needed to deal with risks associated with exchange rate fluctuations; deal with oil price fluctuations; and deal with fleet fit for purpose issues.

Most successful businesses sought to minimise interest expense and optimize the mix of debt instruments within their total portfolio – government's repayment of SAA’s debt and injecting equity into the company is a step towards managing SAA’s debt and minimizing its interest expense. FCC is concerned that this bailout will create the perception that SAA and other public entities can count on government to support them when faced with financial troubles. This can create perverse incentives that undermine basic principles of fiscal responsibility.

FCC believes that in order to mitigate the risk of SAA’s liquidity position weakening in the future, and the likely implication on loan repayment, government should: speed up policy clarity and implementation on finding an equity partner for SAA; use guarantees sparingly and as a last resort in managing risks; clarify if future government financial support will be required from SAA and the extent thereof so as to enable future planning; and implement proposed cost saving and revenue enhancement measures, improve leadership stability and enhance governance at SAA.

Discussion
The Chairperson thanked Dr Mabugu for the well-researched presentation.

Mr A Shaik-Emam (NFP) said that SAA did not fly the CPT-DBN and DBN-CPT route anymore. It was discontinued a while ago. The fluctuating currency and fuel prices affected all airlines and he asked why FCC believed that it only affected SAA.

Mr Shaik-Emam said that he did see the strategic sharing of airlines anymore as Johannesburg was strategically positioned in terms of domestic, regional and international flights. There was a notion in South Africa that there was a lot of demand, but airlines were discontinuing routes. The crux of the problem appeared to be how SAA managed itself. It relied on the state because government was bailing it out all the time instead of running itself as a business.

Mr Shaik-Emam asked how it was that FlySafair could come on the market and make profit while SAA was failing and it had amongst the highest prices for airline tickets. The problem with SAA was that it was 50% over staffed and there were many check-in points at airports but with most staff doing nothing.

Mr Shaik-Emam said that he was concerned because there were government assets that are performing and making money, but government was selling them and bailing out an entity that was failing. How did it help by selling assets because once they are gone there is no more profit?

Mr A McLaughlin (DA) asked what the 36% was measuring in slide five on domestic market share. He asked what the difference was between domestic and regional flights and how they determined that.

Mr McLaughlin said that up until 2012 everything was going very well and then SAA hit a downfall. the presentation was telling the Committee that SAA was bankrupt and that was a crime to remain in operation. This was called financial negligence and SAA is in violation. Mr McLaughlin said that the presentation did not inform what changed after 2012 and why SAA was doing well before then.

Mr A Lees (DA) said that he took it that the market share was combined between SAA and SA Express. He was not sure that if the R1.7 billion had been paid to Citibank at the end of September 2017. He asked if FCC was sure of that. Citibank and SAA entered into a payment agreement at the end of September whereby they extended their payment agreement up until 2019. He asked if the R1.7 billion was paid despite the bank extending the payment of the loan.

Mr Lees said that the banks had been explicit in their reasons. They kept SAA in the air when it should have been liquidated. He asked if  FFC was of the assumption that SAA should not be liquidated because there was no mention of liquidating the airline in the presentation. He asked how FFC came to the conclusion of assuming a going concern status for SAA.

Mr Lees asked on what basis FFC made the assertion that SAA pilots were being paid a lot. He agreed with the recommendation to diversify income from ticket sales.

Ms S Shope-Sithole (ANC) said that she would like to declare her love and appreciation for the banks that helped to keep SAA afloat.

She asked that FFC investigate the Miami SAA route and come back and present their research.

Ms Shope-Sithole said that after a visit to the Committee’s counterparts in Germany they were advised to stay away from privatization. She asked FFC to investigate the implications of privatising SAA.

Ms Shope-Sithole said that there were rumours that airplanes were sold, and she asked that FFC investigate who sold the airplanes. She wanted to see the balance sheet for that sale and who sold the planes, whether it was SAA or Treasury. She asked who the recipient of the monies was.

Ms Shope-Sithole noted that the Auditor-General (AG) said that SAA’s biggest problems were lack of leadership, PFMA non-compliance, and lack of consequence management.

Ms D Senokoanyane (ANC) said that the lack of regional flights was of concern and asked the percentage of foreign flights from the region and internationally that came into South Africa. FFC mentioned that South Africa had been accused of anti-competitive behaviour and she asked what anti-competitive behaviour this was.

Ms Senokoanyane asked for the inventory on the state assets owned by government.

Ms Senokoanyane asked if there was a limit to government guarantees, because the state could not just continue giving guarantees due to the implications on the economy.

Ms Senokoanyane said that of the 227 airlines in Africa, SAA only accounted for less than 5% of air traffic. This was concerning.

Mr N Gcwabaza (ANC) said that as long as people did not trace the history of the problem in SAA they would not be able to understand why the entity was where it was now, and who at the time was responsible for creating the problem. It may not necessarily be the task of FFC to do the research. State departments needed to be honest with Parliament. He noted that the Treasury presentation did not inform the Committee of anything prior to 2017 or the plan going forward.

The Chairperson said that Treasury’s time to present was coming and questions should rather focus on FFC’s presentation.

Mr Gcwabaza said that the departments knew the root causes of problems and they should give the Committee the history of those problems.

Mr Gcwabaza said that the relationship between ‘decline in commodity prices’ and ‘SAA profit’ could mean that the volume of flying out commodities declined.

He asked FFC to explain what they meant by ‘SAA was anti-competitive’.

He asked if SAA was importing jet fuel resulting in price fluctuation challenges or if SAA was buying fuel from intermediary persons, and at what costs.

Mr Gcwabaza said that when SAA withdrew the CPT-DBN route there was an allegation that the flights were never full, yet when British Airways took over that space it added five more flights. He asked how British Airways made profit on this route and SAA could not.

Mr Gcwabaza said that SAA needed to trace the management issues back to where the challenges started, to see the role of the executive over the years, and the role of the board.

Mr Gcwabaza said that those who scream SAA must be privatised must forget it.

The Chairperson said that the message was loud and clear coming from the Committee Whip, Mr Gcwabaza.

The Chairperson asked for clarity on the point: “given that guarantees are not exposed to the same level of scrutiny in the budget process as regular spending, the Commission advises oversight mechanisms of guarantees to be strengthened to reduce the risk of unintended consequences from materialising”. She asked for the value of the shares that would be sold to bail out SAA.

Responses
Dr Mabugu said that they would answer the questions they were able to and indicate the ones they were not able to, but would respond in writing.

Ms Sasha Peters, FFC Researcher, replied that the basis on which FFC said that Citibank was paid was the letter from the Minister of Finance dated 9 October 2017 whereby he authorised the SAA debt obligation of R1.8 billion to Citibank be paid, using Section 16 of the PFMA to enable the payment

Ms Peters said that SAA did not fly directly fly to Durban but they had a co-share arrangement with SA Express and Mango.

Mr Shaik-Emam interjected to say that there used to be an arrangement but it was discontinued a while ago.

Mr Ismail Momoniat, Acting Director General, Treasury, said that some of the questions would be best answered by SAA themselves. They all bear some responsibility but they were not responsible for the day to day running of SAA. The SAA operations team would be best suited to answer the operational questions of the airline.

The Chairperson said that it would be best that the presenters answer the questions they are able to answer and indicate which ones SAA should answer as SAA would be appearing before the Committee.

Ms Shope-Sithole agreed with the Chairperson and said that she wanted Treasury to attend when SAA presents because from 2014 Treasury had been involved in some decision making at SAA.

The Chairperson said when SAA is invited to present before the Committee, Treasury should be present. It was important to have them all under the same roof so that the Committee did not find itself engaging in a blame shift game. They wanted to be informed and get deeper insight into the challenges, and help themselves in terms of their intensified oversight function over the standing of government and SOEs.

Ms Peters said that the reference to anti-competitive behavior was referring to a High Court judgement earlier in 2017 with respect to SAA having to pay Comair.

Dr Mabugu said that fluctuations in the Rand-USD exchange rate impacted everyone, but other airlines seemed to manage the fluctuations better than SAA. This could be asked of SAA to find out if there was no one in their structure dealing with managing risks.

On the impact on the budget deficit, Dr Mabugu replied that if this bail out was financed through drawing from the NRF, it increased the budget deficit. But if it was financed by liquidating some assets, it had a budget deficit neutral effect. It would then not affect the budget deficit that was pronounced in the MTBPS.

Dr Mabugu said that they were awaiting for the 2018 Budget and did not know the Rand value of assets at the current stage. From an analytical perspective, if it managed to negotiate the deal of offloading assets, the issue that would be discussed in 2018 would be whether the quality of government's balance sheet was affected seriously or not.

Dr Mabugu said that it was much easier and there was appetite for the market to buy performing assets rather than badly performing assets. That was something Treasury would deal with.

Dr Mabugu replied that they could not confirm whether the actual payment to Citibank had happened. They were relying on the signed letter from the Minister.

Dr Mabugu replied that FFC did not make policy, and the Committee requested that they come to advise on the basis of interventions being proposed and to what extent they would impact on the liquidity position of SAA. Although FFC did touch on some of the issues raised by the AG, they fell short in the sense that they were not commenting on consequence management, but rather on the way forward for the future sustainability of SAA.

Dr Mabugu replied that the airspace belonged to South Africa and not SAA. The decision was at a higher level and was not up to SAA. The nature of the fragmentation of the African airspace was that everyone came in but there did not seem to be a clear strategy to optimise market share for the different carriers. This was indeed a big issue.

Dr Mabugu replied that when China and Brazil went into an economic growth slowdown and demand for commodities dropped. South Africa as a commodity dependent country went into slump in the amount of commodities it was exporting. The SAA cargo section seemed a lucrative market in transporting commodities. It too took a knock from the decline in commodity dependence during the period that China and Brazil’s growth slumped to lower levels.

Dr Mabugu said that the question needed to be posed at executive level whether someone was dealing with exchange rate management, oil price management, and revenue diversification.

Dr Mabugu replied that the essence of what FFC was saying was that FFC was impressed with the scrutiny that each and every allocation becoming an appropriation went through the House, and if something similar to that process could be replicated for guarantees, it would bring in a high level accountability that was been seen with the regular budget items, as well as transparency. FCC was trying to infuse the idea that given Parliament’s powers, would it be possible to deal with the executive and build a process that subjected guarantees to the same stringent process that other budget line items were subjected to.

Dr Mabugu replied that FFC was starting to see cost savings from the office of the Chief Procurement Officer (CPO), and if this was extended to other entities such as SAA, maybe it would bring in a cut to the losses being incurred at various entities.

Dr Mabugu replied that Treasury could shed more light on questions about the selling of assets.

Ms Shope-Sithole said that she wanted to say to the collective that University of Cambridge professor said: “Any decision maker who takes economic decisions, and leaves out history and politics is bound to make wrong decisions”. The Committee wanted to have a solution for the problems they faced so that they did not make a wrong decision. It would not be helpful if this comment was ignored.

Dr Mabugu replied he agreed with Ms Shope-Sithole.

Ms Senokoanyane pointed to the proposed interventions for profitability on slide 23 and asked if the stabilisation of the executive and senior management included the exorbitant salaries of senior executives.

Mr Lees asked if the assertion about the pilot packages was hearsay or if it was factual. He was keen to get to the source if FCC had that information.

The Chairperson noted slide 21: “SAA continues to make losses despite endless interventions. Interventions seemed to be superficial and not addressing underlying core reasons". She asked what FFC thought would be the best solution.

Dr Mabugu replied that FFC had not worked on the SAA salary structure. The airline should pay according to its peers and market determination for the particular industry and profitability within the sector.

Dr Mabugu replied that they did not have a source document on the pilot packages. The documents they looked into for SAA did not breakdown the pilot packages into granular information. What came out of the overall view for the airline was that they were higher than their competitors.

Dr Mabugu replied that the best solution was mapped out in the last three slides that FFC thought should constitute an intervention for SAA.

The Chairperson said that when FFC presented quarterly and annual reports to the Committee, they give a report on the state owned entities within the department.

National Treasury on SAA and SAPO Additional Appropriations
Mr Ismail Momoniat, Acting Director General, Treasury, said that it was quite painful to have to offer additional appropriations to SAA and SAPO during the Adjustment Budget of R13.5 billion.

Mr Momoniat said that the presentation would disappoint some Members because Treasury was asked to present on questions posed to them about SAA and SAPO but they would answer new questions that they were able to answer.

Mr Momoniat said that the Committee should look at how internal audit committees were structured within entities because they were responsible for the internal controls and compliance with laws and regulations.

SAA Additional Appropriations
Mr Ravesh Rajlal, Treasury Acting Chief Director: Sector Oversight, said that SAA had been relying on government guarantees to obtain loans for its operations. This resulted in the airline having a significant amount of government guaranteed debt maturing in late 2016 and early 2017. SAA could not repay this debt due to its low cash reserves. Lenders agreed on funding solutions which included extending debt repayment dates and provided additional working capital for the airline. The extension was to allow SAA to negotiate longer term funding agreements of between two to three years. In the 2017 Budget Speech, former Minister of Finance had stated that “the financial condition of State Owned Entities (SOEs) and public entities represent another significant risk over the medium term. Several SOEs including SAA require close monitoring and intervention to stabilise their operations”. It had been anticipated that the shortfalls in the capital structure of SAA and SAPO could be dealt with in the Adjustments Appropriation budget, which was introduced in October 2017. The approach was premised on the assumption that SAA’s lenders could be persuaded to extend debt maturity until the time of the adjustment budget in October 2017.

The rapid deterioration of SAA’s cash flow position necessitated more urgent intervention. The Minister of Finance enacted Section 16(1) of the PFMA which authorised the Minister to use the funds in the NRF to defray expenditure of an exceptional nature which was currently not provided for and could not without serious prejudice to the public interest be postponed to a future parliamentary appropriation of funds.

On 30 June 2017, intervention was required in terms of Section 16 of the PFMA as one of SAA’s lenders, Standard Chartered Bank, requested its R2.2 billion in guaranteed short term facilities provided to SAA to be settled on 30 June 2017. SAA did not have the funds to settle this debt and failure to do so would have resulted in cross-defaults on SAA’s other guaranteed debt of R13.755 billion and general banking facilities of R830 million. As a result, the Minister invoked Section 16 of the PFMA and authorised payment of R2.2 billion to SAA as a direct charge against the NRF.

Citibank had required a settlement of its R1.8 billion of facilities provided to SAA by 2 September 2017. A default by SAA on the debt owed to Citibank would have triggered a call on the guarantees by SAA’s remaining guaranteed debt, which was R11.994 billion at 29 September 2017 and general banking facilities of R830 million. SAA’s domestic lenders also had R5 billion maturing on 29 September 2017. They agreed to an extension of the maturity date of their loans subject to a government injection of R3 billion to meet the R1.8 billion due to Citibank and to provide R1.2 billion for working capital. On 28 September 2017, the Minister of Finance invoked Section 16 of the PFMA and authorised payment of R3 billion as a direct charge against the NRF.

Domestic lenders were amenable to extending its R5 billion loan to 31 March 2019 as the conditions precedent such as the R10 billion equity injection that was announced in the October Medium Term Budget Policy Statement; the appointment of a new Chairperson, permanent CEO and Chief Risk Officer (CRO) had been effected. A recapitalisation of R10 billion was proposed for SAA for 2017/18 which included the R2.2 billion transferred on 30 June 2017, and the R3 billion transferred on 29 September 2017. The remaining R4.8 billion would be transferred to SAA in installments; R1 billion on 31 December 2017; R1 billion on 31 January 2018; R1 billion on 28 February 2018; and R1.792 billion on 31 March 2018.

The recapitalisation of SAA was subject to the following conditions;
• SAA provide a board approved implementation plan for its five year turnaround, submitted to Treasury by 30 December 2017;
• SAA achieve at least 90% outputs in board approved implementation plan by 31 March 2020;
• SAA board provide an action plan to address findings from all independent forensic investigations by 30 December 2017;
• SAA board implement the action plan to address findings from all independent forensic investigations by 31 March 2018;
• SAA identify non-core assets for potential disposal and submission of recommendations thereof to Minister of Finance for consideration by 30 December 2017;
• SAA appoint a Chief Commercial Officer (CCO) and Chief Strategy Officer (CSO) by 31 January 2018 – CCO interviews had been conducted and awaiting finalisation of successful candidate;
• SAA provide a comprehensive decision making framework for the commencement and cessation of routes by 31 January 2018; and
• SAA develop an integrated network and fleet plan to complement its five year turnaround plan by 31 March 2018.

South African Post Office (SAPO) Additional Appropriations
Mr Rajlal said that from September 2014, South African Post Office (SAPO) was experiencing labour strikes which caused severe service disruptions to SAPO operations. As a result of the strikes, SAPO customers had found alternative means to SAPO services. This negatively affected SAPO’s ability to sustain its revenues. In December 2014, the Minister of Telecommunications and Postal Services appointed an Administrator to develop a Strategic Turnaround Plan (STP) to restore SAPO’s stability. SAPO was not successful in implementing the STP because the STP did not seek to address the alignment of the group to the changing postal sector. In January 2016 a permanent board and Group Chief Executive Officer (GCEO) was appointed. Subsequently, a revised strategy that sought to address the weaknesses in the STP was developed under the leadership of the GCEO. The revised strategy sought to diversify SAPO’s revenues by growing revenue lines for parcel mail, logistics, retail services, and financial services. This focus on revenue diversification was aimed at reducing SAPO’s reliance on traditional letter mail. SAPO had indicated that it would seek to address its cost structure through a reduction in staff costs along with automation and efficiencies within its operations. Despite SAPO’s plans to diversify revenue, the mail business was still SAPO’s largest revenue component to date.

SAPO had R4.17 billion government guarantees, which had been used to raise R3.7 billion in debt. The guaranteed debt was used mostly to settled overdue creditors to restore services, pay salary shortfalls, and repaying overdraft facilities. Operational inefficiencies on SAPO’s part and a general decline in mail volumes accelerated SAPO’s financial deterioration.

SAPO made quarterly interest payments of approximately R90 million into an interest reserve account held by a facility agent on behalf of SAPO’s lenders. Due to SAPO utilising the guaranteed debt to cover its monthly operational shortfalls (R100 million to R120 million), they had R347 million remaining of guaranteed debt as of 30 June 2017. This was insufficient to service the interest payment of a further R90 million due in December 2017 from SAPO, and would have resulted in government guarantees being called on by the lenders.

SAPO applied for a recapitalisation of R3.7 billion through the 2018 Medium Term Expenditure Framework (MTEF) budget process. It was recommended that SAPO’s debt be repaid during the 2017 Adjustment Budget process. The allocation earmarked for payment of the full R3.7 billion to SAPO’s lenders. The allocation provided immediate support to strengthen SAPO’s balance sheet and relieve SAPO from a monthly interest obligation of approximately R30 million a month on the loan. During the Minister of Finance 2017 Budget Speech, he stated that SAA and SAPO capital structure would be put on a sound footing as well as the Minister’s 14 point plan that indicated that SAPO’s recapitalisation would be finalised by August 2017. It remained SAPO’s responsibility to take all the necessary measures to ensure that the company was operational and financially sound. This required a revision to SAPO’s current business model.

Conditions for SAPO recapitalisation according to the allocation letter were:
• SAPO effecting payment to the facility agent (Nedbank) to defray R3.7 billion loan;
• SAPO providing a letter to Treasury from the facility agent confirming that the R3.7 billion facility had been defrayed in full;
• The guarantee agreement entered into between the lenders and Treasury would be terminated upon the receipt of the confirmation letter as set out above;
• SAPO would be liable to pay any outstanding interest or fees arising after the R3.7 billion was effected, ensuring that the R3.7 billion facility was fully defrayed;
• SAPO’s R4.17 billion guarantee and R4.42 billion borrowing limit would be reduced by R3.7 billion. Treasury would issue a letter to that effect upon the settlement of the R3.7 billion facility;
• SAPO would continue to report to the Monthly Monitoring Task Team (MTT) on the development and implementation of a revised corporate strategy on a monthly and quarterly basis.

SOEs facing financial difficulty needed to demonstrate tangible progress in returning to profitability. Currently, the funding of SAA had not being undertaken in a deficit-neutral manner, resulting in a projected R3.9 billion breach of the expenditure ceiling. However, the MTBPS Speech announced the sale of Telkom shares to offset the breach. Government had already held discussions with potential buyers, and once all the discussions and negotiations were complete, the necessary announcements would be made. The decision was not taken lightly, but had to be considered in order to maintain the credibility of the expenditure ceiling.

Discussion
Ms Shope-Sithole commented that during the global financial crisis, world leaders had questioned whether there were any economists that could have predicted that event. The Committee needed to focus a lot on SOEs because departments transferred money to them.

Mr Lees said that what was not dealt with was the legality of the use of Section 16, and he wondered if Mr Rajlal could indicate what Treasury had done about that.

He asked if Treasury could confirm Citibank was paid at the end of September.

Mr Lees said that the conditions set for SAA were fairly easy to meet and they had deadlines. He asked if achieving 90% of the outputs in the board approved implementation plan by 31 March 2020 was practical.

Mr Lees said that the conditions of the SAPO recapitalisation were quite specific but he did not see the same for SAA.

Mr McLaughlin said that the Committee had not received the letter to Treasury, and he wanted to hear about that.

Mr McLaughlin said that from his view, Treasury took over the running of SAA in 2014 and it had just deteriorated. He asked why these conditions were not put on SAA in 2014. SAA knew when the loans were payable and they assumed the lenders would extend the payment dates. He asked on what basis they assumed that because they were in a contract with the lenders. He asked when the Standard Chartered loan was taken out.

Mr McLaughlin asked, looking at the dates for the conditions of recapitalisation, was Treasury saying that the guarantee would not be paid if the conditions are not met by 30 December 2017.
 
Mr McLaughlin asked why SAA and SAPO were being treated differently. SAPO was being treated strictly while SAA was treated leniently.

Ms Senokoanyane said that the cutoff date for payment for debt recapitalisation was a day before the due date for the first payment. The time frames were of concern to her.

Ms Senokoanyane noted that an Administrator was appointed to develop a SAPO turnaround strategy but that SAPO was not successful in developing a turnaround strategy. She asked who the Administrator was. She asked if Treasury was being realistic and if they expected that SAPO had capacity to take all the necessary measures to ensure that the company was operational and financially sound.

Mr Gcwabaza said that he shared the same concern as Mr McLaughlin and perhaps Treasury should explain if they were belatedly presented with the problem and they just had to scramble for the money and bail out SAA and SAPO, or if they were aware some time before but did not take steps to address these problems. It was surprising that government institutions would be surprised when lenders reminded them that they were due to pay their debts. It showed irresponsibility on the part of government in managing the institutions.

Mr Gcwabaza asked about the fleet plan and if this included SAA purchasing their own fleet. Had Treasury assessed the cost of the lease contracts, what was the outcome of the lease assessment that informed Treasury that owning the fleet, as was the case before, would be a better option.

Mr Gcwabaza asked what the cost of extending loans was, and if it was covered in the additional appropriations given to SAA and SAPO.

The Chairperson said that Treasury had suggested that it would make proposals for a government guarantee framework. She asked Treasury how far they were with this process.

The Chairperson said that Treasury’s expert opinion was that SAA would still be insolvent by R7 billion after the bailout, and asked how they would get out of that situation.

The Chairperson noted that Treasury mentioned that despite SAPO’s plan to devise revenue, the main revenue remained traditional letter mail. She asked what the future of SAPO was and what would need to be ensured to make it sustainable.

Responses
Mr Momoniat replied that with any entity there would need to be a business model. It was not that government was not using SAPO anymore, perhaps it was that people now used email as opposed to physical mail. There were competition issues that come into play.

Mr Momoniat replied that some of the entities were "too large" to fall under [and be accountable to] a Minister.

Mr Momoniat replied that the biggest risk to the fiscal framework was SOEs.

Mr Momoniat replied that a lot of the issues had been politicised.

Mr Gcwabaza interrupted Mr Momoniat to say that the point could have been made about the behaviour of CEOs of entities or lack thereof, and the accountability between SOEs and the executive authority. He asked if it had something to do with the legislative relations between SOEs and the executive, and if SOEs were too autonomous. Legislation needed to be tightened so that there was clear imperative for SOEs to act in a particular manner and to be accountable so that they could deal with political contestation between the head of institutions and the political head. He asked if this was the issue that the Committee should perhaps be looking at.

Mr Momoniat replied that the governance arrangements for what board powers and CEO powers were, how they were appointed, and what was the role of each player, needed to be looked at so that they could figure out who is accountable for what.

Mr Momoniat replied that they were legally right to enact Section 16. It may not be in the society of what they intended as it opened them up to moral hazard.

Mr Momoniat replied that there was a big market in airlines to lease fleet as opposed to owning them. They would have to see how the PFMA applied to leasing arrangements.

Mr Rajlal replied that the R1.8 billion was transferred to SAA, but not all of the funds were paid to Citibank. It was agreed that the R1.8 billion would be paid over a period of time. The money was being ring-fenced to be reserved for Citibank and they would ensure that SAA was complying to that specific condition from Cabinet.

Mr Rajlal replied that Mr Shaik-Emam was correct that SAA needed to look at its labour costs, its labour structure and the pilot agreement. Route profitability needed to be looked at as well.

Mr Rajlal replied that one of the conditions precedent from the lenders on SAPO was that the guarantee had to be in place. While the recapitalisation would be effected, the guarantee would remain in place in terms of facilities, but the exposure would reduce as SAPO recapitalised.

Mr Rajlal replied that the R2.2 billion for Standard Chartered Bank was paid. The R13 billion from Treasury to SAA did not pay off all its debt, but it did assist SAA to be able to generate its own cash to pay off the rest of its debt.

Mr Rajlal replied that Treasury had not seen a turnaround strategy being implemented by SAPO. If there was no turnaround within the next three months, the situation would revert to going back to needing guarantees.

Mr Rajlal replied about the risk associated with extending the loan until SAA was in a position to pay and service its debt, saying that extending the loan would result in increased interest rates because of the risk of default.

Mr Gcwabaza asked if there was a team that specialised on all the state owned entities.

Mr Momoniat replied that they did.

The Chairperson thanked the presenters for availing themselves to brief the Committee.

The meeting was adjourned.

 

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