DENEL Programmes and Finances: briefing

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Public Enterprises

08 September 2004
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PUBLIC ENTERPRISES PORTFOLIO COMMITTEE

PUBLIC ENTERPRISES PORTFOLIO COMMITTEE
8 September 2004
DENEL PROGRAMMES AND FINANCES: BRIEFING

Chairperson:
Mr Y Carrim (ANC)

Documents handed out:
Powerpoint presentation by Denel

SUMMARY
A delegation from the state-owned arms manufacturer, Denel, addressed the Committee on the company's goals, programmes and challenges. Much of the presentation focused on Denel's continuing and growing financial losses that were partly due to the unfavourable exchange rate for an exporting company, the lack of local arms sales, and continued support for non-core business activities. The Committee was concerned about Denel's turnaround strategy, its lack of transformation and the possibility that the Rooivalk attack helicopter project would not see any returns on the massive investment incurred.

MINUTES

Denel briefing
Mr V Moche, CEO, explained that the presentation would cover the defence industry, financial highlights, human resources, BEE / Affirmative procurement, challenges and strategic interventions. The full presentation can be seen in the attached Powerpoint document. He added that the defence industry in South Africa consisted of approximately 200 companies. Denel also had a test centre in the Southern Cape near Bredasdorp at which missiles and other weapons were tested. Part of Denel's operations also involved helping a number of countries to remove landmines. These countries included Angola, Mozambique, Kosovo and Sudan. Of all its products, the helmet sighting systems and the G5 and G6 artillery systems were some of the best in the world. Denel was also involved in refurbishing aircraft that were not being used for passengers anymore.

Addressing finance issues, Mr Moche said that Denel had been making a loss for a number of years and would continue to do so the following year. It was hoped that this would be turned around in three years time. Denel was highly in debt and had a cash flow problem which had to be addressed. In reality it was actually on the brink of bankruptcy. One good point was that 60% of it products were being exported. On the human resource side, it also faced certain challenges. Denel was still white male dominated. On the whole, 75% of its staff was male, which needed urgent attention. There was a strong emphasis at the moment on training and development. It had a Youth Foundation that aimed at providing bridging programs for matrics in maths and science. In the area of BEE, it still lagged behind. This needed attention.

One big issue was that they could not sell directly into international markets. It had to go thorough companies present in those countries. In the current arms deal, no contracts were given to South African companies. The corvettes which were bought contained missiles which were made in South Africa but bought from Germany. ARMSCOR procurement policy was therefore a problem and did not favour the South African industry. There was also about eight to ten pieces of legislation which affected Denel. These were spread over a number of departments and there was no cohesiveness. Addressing the issue of corruption and fraud, Mr Moche said that 27 managers had been suspended for corruption and /or mismanagement. Mr Moche concluded by saying that Denel was reviewing all its contracts at present as most of them were making losses.

Discussion
The Chair said that there were some issues which the Portfolio Committee on Defence could answer, and promised to raise these issues with the Chair of that Committee. He also wanted to know where Denel thought it was accountable to this Committee and where it was accountable to the Defence Committee. There were also other issues, such as ARMSCOR's procurement policy, which they could not comment on. He agreed that Denel should be favoured, but they also had the responsibility to make themselves more competitive. He said that, as a Committee, they were struck by the openness that was shown by Denel in its presentation and thanked them for it.

Mr S Kholwane (ANC) pointed out that the President had emphasised job creation in his State of the Nation address. Denel however was disposing of its non-core businesses. He was concerned that this would lead to job losses. He wanted to know what Denel was doing to create jobs. He was also concerned that the training of matrics was only happening in urban areas.

Mr. S Manie(ANC) also referred to the sale of Denel's non-core businesses. He wondered if this would not add to losses. These losses had increased from R72 million to R377 million. Since the state was the only shareholder in Denel, these losses accrued to the state. He also felt that the funding for research and development was inadequate and wanted to know if there was any research and development strategy.

Ms N Ngcengwane (ANC) said that the fact that the company was still 75% male dominated was a point of concern. She felt that after ten years of democracy, there should have been more improvement. She also noted that the board was male dominated. She felt that the BEE policy should include the youth and the disabled. Denel had said that it provided arms to areas where was no war or conflict. In the presentation, however, it was mentioned that arms were sold to the Middle East. She felt that this was contradictory. She also asked what strategy was in place to obtain and develop skills in high technology.

Mr I Davidson (DA) remarked that since Denel was near bankruptcy, it was probably difficult to market itself. There was a lack of research and development spending and that there was no capital injection in the company. He wanted to know how Denel could be turned around and what kind of revenue would be realised from the sale of the non-core businesses. He noted that the cumulative affect of the increases in salaries was more than 50% over the preceding four years. He wanted an explanation for this. The Rooivalk helicopter project had undergone research and development for the last 20 years and yet they were hoping for a cash injection of R2 billion. He wanted to know how many helicopters had actually been sold. He felt that this item was too expensive to manufacture and that the investment might not be recovered.

An ANC Member noted that in the graph depicting demographics, there was no mention of people with disabilities. He wanted to know what the position was on this and whether there was any role for them in Denel.

Ms M Mnandi (ANC) remarked that Denel had decided in 1999 / 2000 to dispose of its loss-making businesses, yet this had not happened yet. She wanted to know what had caused the delay. She also noted that there were some ex-employees of Denel who still received medical benefits. She wanted to know who these employees were and also found it strange since Denel was having financial problems. There was also a legal bill of R69 million against Denel which she wanted clarity about.

Chief M Nonkonyana (ANC) asked if the strength of the rand affected Denel negatively or positively. He also noted that Denel reported losses after 1994. He questioned why this happened at this particular time when the country had become part of the global economy. He also wanted to know what Denel's turnaround strategy was.

The Chair asked that Denel explain what its relevance was and how it fitted into the government's goal for the country regarding development and job creation. He asked them to give the Committee a one-page document on this. He wanted Denel to explain what was core and what was non-core business for them. It was also important to know who Denel was selling arms to, especially in the light of September 11. Since many of the questions were around similar issues, he suggested that Denel respond to the questions around finance, job creation and the HR situation together and then respond to some of the more specific questions.

Mr V Moche said that the response would not be comprehensive as time did not allow but that they would meet with the Committee again in October. He also said that other members of the delegation would answer some of the questions.

Mr Potgieter, acting Chief Financial Officer, said that a strong rand was not good for Denel as it was an exporter. It did not import much of its components. The 26% increase in the rand therefore contributed to the increase in losses that had been incurred. The implementation of Accounting Standard 133 also caused the losses of the previous year to increase. The impact of this was R113 million. He explained that the different business units were valued annually and their losses taken into account so that when they are disposed of, they would not make a loss. The writing off of capitalised development costs had also contributed to the loss experienced by Denel.

Mr S Manie (ANC) said that the Committee was not an audit committee and did not want a detailed account of the accounting problems but rather a broad outline of what had caused the financial problems in Denel.

The Chair said that in the chairpersons' forum, the chairs had complained that they did not have the skills and expertise to evaluate financial reports. The responsibility to do this was really that of the Standing Committee on Public Accounts (SCOPA). The Committee wanted to know what Denel's measurable objectives for the year were; how many were achieved and the reasons for not achieving some of the objectives.

Mr Potgieter continued that the exchange rate had a huge impact as they exported R2.5 billion per annum. A change in the rate of 10 cents had an impact of R20 to R30 million. This was the main reason for the losses while the others were accounting matters. He agreed that it was hard to market Denel because of its weak balance sheet. The sale of non-core businesses could possibly realise approximately R250 million. This would not strengthen the balance sheet however as these were assets which were being sold. Regarding salaries, he said that the graph added each year's increase and therefore might give a confusing picture. He agreed that a lot of money had been spent on the Rooivalk project, but there was enough money in the Defence budget to complete the work on it so that it would be ready for deployment by the South African National Defence Force (SANDF) in the next three years. He did not see any more losses being incurred by Denel in relation to the Rooivalk. It had been difficult so far to sell the Rooivalk to other countries since it was not being used yet by South Africa itself. The change in Denel's finances since 1998 was because of the procurement policy of the SANDF. There were many weapons programmes which had come to an end and the SANDF had not bought from Denel while the new arms deal was being negotiated.

Mr H Bekker (IFP) felt that there was a possibility that Denel could be financially turned around should there be a favourable exchange rate.

The Chair was struck by how technologically advanced Denel was and agreed that there was hope that the company could still be turned around.

Mr James Sekhasimbe agreed that because there was a lack of a common system, the youth and the disabled had not been targeted sufficiently. There were however plans in place to correct this. Mr Moche interjected and said that most of the team present had been with Denel for less than 12 months and therefore many of the programmes were in place already and they were seeking to change some of the programs. Mr Sekhasimbe replied that a procurement forum had been established to prevent any fronting. This forum examines companies and checks that they are genuine BEE companies. They have discovered that 70% of companies visited were fronting.

Mr E Martin, head of Human Resources (HR), started by saying that HR issues were probably the most complex to address. The rural versus urban issue was being addressed. The bridging school had been moved to Kempton Park and had students from all over the country. This school had 36% female enrolment. Currently, 34% of senior management was female. To attract, develop and keep young talent remained a challenge for Denel. This was being addressed. The issue around disabled people was also being addressed. He said that more HR questions would be addressed in detail when they met with the Committee in October again.

Mr Moche said that the primary objective of Denel, and for him as the CEO, was to stop losses, make big sales and break even. The core business of Denel was defence manufacturing. Anything not defence-related was non-core. Denel was free to sell to anybody within the limits of the government's foreign policy. For example, there was interest from Pakistan, but Denel could not sell there as the government considered its relationship with India to be more important. Denel was lagging in transformation because it was left alone when every other organisation was transforming. It was therefore about a decade behind other organisations. He admitted that the board had struggled to get change going and there had been a struggle between management and the board. This had been improved and progress should emerge.

The Chair offered the Committee's help to Denel. He said that it had been a very inspiring interaction.

The meeting was adjourned.

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