Transnet and South African Airways Financial Report: briefing

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Public Enterprises

31 October 2001
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Meeting Summary

A summary of this committee meeting is not yet available.

Meeting report


31 0ctober 2001

: Mr. B.Martins (ANC)

Documents handed out :
Transnet Audited Financial Results for the year end 31 March 2001
South African Airways PowerPoint presentation

The Committee was briefed on the Transnet financial report. There was no discussion on this section of the Briefing.

The Chief Executive Officer of South African Airways briefed the Committee on their financial report. South African Airways is a strong business with a good foundation and the Chief Executive Officer expects a positve headline earning for the year.

The discussion centred on the Coleman Andrews saga, transformation and retrenchment. It was the opinion of the Managing Director of Transnet that the Coleman Andrews matter is closed and that if the Committee wanted further information they had to go to the Minister or the Department. The members were not happy with this response but no further demands were made of Transnet in relation to this matter.

The Managing Director of Transnet, Mr Makwanazi, introduced the acting financial director of Transnet who would brief the Committee on the financial report of Transnet.

The late financial report was attributed to the fact that restructuring of the pension fund took some time. The Public Finance Management Act has to be complied with. The cause is noble but it is difficult to comply with. Much time needs to be spent on a small amount of money because the Act does not deal with the issue of materiality. The act introduces personal lability for board members and this resulted in individuals being worried if decisions should be made. Because the Minister’s permission is needed before substantial assets are sold it results in a lot of work due to the size of Transnet which has many transactions.

Moving to the financial report he pointed out that revenue grew from R27 850 million in 2000 to R31 740 million in 2001.

The % contributions from the various subsidiaries are as follows:

Spoornet 33%
SAA 34%
Portnet 16%
Metrorail 6%

The operating costs rose from R25 640 million in 2000 to R30 233 million in 2001.

The cost to income ration is at 84% for 2001. In 2000 the ratio was at 87%.

The Net miscellaneous revenue is much higher at R4 367 million than last years figure of R1 746 million because it is mostly made up of profits on the sale of interests in subsidiaries, property. Plant and equipment.

The restructuring of the pension fund meant that T011 bonds had to be cancelled and a premium paid on this. Additional incentives were given to members to encourage conversion from Defined Benefit Funds to Defined Contribution Funds. The fund was restructured into three funds. One of the funds had an actuarial deficit of R3.6 billion.

The Headline Earnings was up from a loss of R288 million in 2000 to a positive position of R838 million for 2001. The headline earnings excludes all the non operational and non recurring items so that a better picture of the quality of earnings can be seen.

The percentage of contributions to the net profit is as follows:

Portnet 46%
SAA 11%
Spoornet 15%
Metrorail 4%
Petronet 17%

It can be seen that although Portnet and Petronet does not contribute the most to the percentage of total revenue its profitability is very high. These two subsidiaries carry the Transnet Group.

The profit and loss for the years leading up to 2001 is as follows:

1996/97 loss of R170 million
1997/98 profit of R278 million
1998/99 loss of R476 million because of depreciation and big losses suffered by Spoornet
1999/00 profit of R779 million
2000/01 profit of more than 3 billion.

The interest cover is an important indicator for money lenders to see if enough profit is generated to cover the interest on money borrowed. The interest cover is in a strong position and Transnet has enough profit to meet future obligations.

The Assets in the balance sheet reflects an asset base of R41.8 billion. Property, plant and equipment makes up R36, 8 billion of this. Trade and other receivables is at R16, 697 billion and the Total assets is R58, 526 billion.

Current liabilities are R19 957 million and non current liabilities are R19 571 million.

In 1996/97 Transnet had a cumulative loss of R2.4 billion. In 2000/01 the cumulative loss is R1.7 billion. This shows a significant turnaround.

The gearing ratio being the relationship between the capital and debt is very high at 63%. This has however come down from 725 in 1996/97. The aim is to get the gearing down to around 50%.

In 2000/01 the return on operating assets was 3.15%. this is very low. It cannot simply be said that one must have less assets and get the same amount of return on them. The most important factor is that the assets are very old and money needs to be spent on maintaining and servicing them. This eats into profits. The challenge that faces Transnet is to overhaul the assets over time.

A summary of the cash flow position is that 1999/00 cash or cash equivalents was at R1.247 billion and for 2000/01 it is at R310 million. This however is of no concern because cash was used to settle debts.

South African Airways (SAA)
The briefing on SAA’s Financial report was given by the CEO, Mr Viljoen.

As an introduction he said that the North Atlantic operators had suffered a massive decline in revenue. Merchant Banks and analysts have said that these airlines have lost 60% of their value. SAA has lost 18% of revenue. This is loss is linked to USA based revenue. The European revenue has held strong. SAA is therefore in a fortunate and unique position. Some of the negative results has to be seen in this context. On the positive side SAA has R2 billion in free cash and management are addressing the challenges.

The CEO showed that over the past 5 years SAA has increased the number of annual passengers from 4.9 million in 1996/97 to 6.1 million in 2000/01. Along with the increase of passengers the utilisation of seats per flight improved and the tonnage carried by SAA improved. The fleet grew from 49 five years ago to 62 today.

The reported results for the last 5 years are as follows: (Operating net profits that includes the asset sales)

1997: loss of R396 million
1998: loss of 302 million
1999: profit of R10 million
2000: profit of R349 million
2001: profit of R408 million

These reported results and more specifically the 2001 results includes the profit on the sale of assets.

Air France and Lufthansa includes the sale of assets while KLM and BA do not. So if the profit from the sale of assets are deducted then one comes up with the following figures which is called the headline earnings.

2000: loss of R32 million
2001: loss of R735 million

Included in the headline earnings are once off costs and if this is deducted the adjusted net profit for 2000 is a loss of R83 million and for 2001 R672 million.

There has been an improvement of core business at SAA but yet 2001 was a bad year. The reasons for the bad year are mainly:

the fuel price rose by 80% in a period of 8 months. All this cost cannot be passed on to the consumer. In the 8 month period the fuel bill rose from R1.526 billion to R2.43 billion.
The Rand devalued and SAA does not earn enough foreign currency.
There was an implementation problem with the B737 – 800. The business class seating was wrong. Pilot training was needed. Airport and baggage handling increased the cost.
The SAA long haul product was not competitive.
There was an excess capacity on European routes.
There was difficulty in implementing the African Strategy.
Lease costs went up.

The impact of the above was a loss of R150 million.

But progress is being made in a tough operating environment in that SAA now serves over 600 destinations as a result of alliances with other airlines. The system that manages the seat pricing and availability to maximise revenue has improved. Sales organisation has been enhanced. Strong cut controls have been enhanced. The fuel hedge program has been continued and SAA has a strong balance sheet with R2 billion in free cash up from R1.58 billion in 2000. The actual free cash is R3.6 billion but the R1.6 billion is committed to lease costs as they become due.

SAA made some good business decisions when selling some aircraft. A massive decline in the market value was expected and certain aircraft were sold before the value dropped. Shortly after the sale the value indeed dropped significantly. When the Philippine Airlines went under SAA bought two 744 – 400’s at a bargain price of $96 million dollars each. Those aircraft were sold for $135 million each resulting in a profit of R760 million and the avoidance of the drop in market value. SAA raked in R1.5 billion from the sale of assets.

As was stated earlier the once off items needs to be deducted from the headline earnings. Items which are deducted are things like tickets that were not used but are now expired. This amounts to R300 million, Restructuring of finance saw a gain of R102 million and a gratuity by Boeing was R39 million.

The cost items that needed to be deducted was R109 million for expatriates due to the cancellation of contracts. The write off cost SAA R106 million and engine overhauling cost R136 million.

It took SAA more than 250 days to overhaul an engine. Lufthansa took about 45 days. This was due to the fact that Lufthansa overhauls a large volume of engines and have a production line for this purpose. All the spares are at hand while SAA has to wait for spares. It was therefore decided to outsource the overhauling of engines and to introduce the program a once off cost of R136 million was incurred.

The strategy to return SAA to profitability is called perfecting the basics. The strengths and values of SAA will be used to achieve this.

The plan is based on the following:

Customer service
Sustained revenue growth
Optimize alliances
Implement African strategy
Reduce cost
Renew long haul fleet
Improve operating efficiency
Staff development

It is important that SAA knows their customers. Customers must be given what they want and expect. Staff are monitored and are held acceptable. It is unacceptable that the SA rugby team flies British Airways. SAA needs to address customer service to attract and keep important customers.

SAA has secured the contract to do the D–Checks on 12 Swiss air aircraft and 2 Lufthansa aircraft. After a certain amount of landings the plane must be stripped to its last nut and bolt. The stripping down of the aircraft is called the D–Checks. This shows the reputation that SAA technical has. Boeing has also committed to giving SAA 1 000 000 hours of work. SAA has a planned revenue growth of R250 million.

In implementing the African strategy SAA wants to have East and West African hubs and from there distribute the passengers. SAA also wants to resume operations to $US markets like Kinshasa and Livingstone.

SAA wants to cut general costs by R250 million. This will be accomplished by reducing catering costs through product simplification. SAA will procure South Africa products. The toilet bag costs R70 because it is bought in $US where it can be obtained much cheaper in South Africa. Travel agency commission will be reduced from 7% to 5%. This will result in a saving of R100 million. The use of expatriates and consultants will be restricted. At the moment there are three expatriates left.

The time taken to clean, load and cater a plane needs to be reduced from 1 hour to 30 minutes.

Staff are fast tracked (talented individuals). Performance is rewarded and incentives are given for performance.

Due to the above the minimum saving expected is R600 million.

In conclusion SAA is a strong business with a strong foundation. SAA is working hard to return to profitability. A positive headline earning is budgeted for the year.

Mr Heine (DP) stated that the MD of Transnet had no authority to contact with Coleman Andrews. The tender process was not followed in relation to international consultants like Bain & Co. There was no authority from the Minister in terms of the Public Finance Management Act to embark on was the international internet booking system that SAA had invested in but decided to terminate and suffer a once off loss. These areas needs to be cleared up. The speaker asked if the boards can be trusted in the light of this glaring non compliance. The speaker wanted to know if he could believe the same thing would not happen again especially since we still have the same board.

Mr Frolick (UDM) asked if SAA was of the opinion that the appointment and release of Coleman Andrews was as a result of undue government interference.

A member said that the Committee attended a briefing by Coleman Andrews where he had a plan for SAA. The member wanted to know how different this new plan was.

A member said that she understood that there would be job losses in SAA. The member asked what formula would be used for retrenchment.

Another member asked what the percentage of expenditure is related to personnel.

A member asked what currency the expatriates were paid in. The member wanted more detail on transformation because the CEO and the president of SAA was white. Of the many vice presidents only three were black.

Mr Makwanazi in response to the first two questions said that as a company there were reports sent to the Minister most of the issues were raised with the Minister. Certain statements were made by the cabinet on this issue. He said that if members want to follow up they must do it with the Minister.

Mr Viljoen said that Coleman Andrews strategy identified specific items and many of the aims were achieved. There are many more areas addressed now like the long haul fleet that was not addressed in the earlier plan. The new plan is to go forward from a good foundation. He said that expatriates were paid in $ and pounds. Part is paid locally and a part is remitted off shore. It would be better to have these persons see out their contracts than to terminate it.

On Coleman Andrews he said that the former CEO received what he would have got, plus a little more, had the contract run its course.

On retrenchments he said that the media has focused on this. Around the world airlines are laying off hundreds of thousands of employees. SAA is not in this position. What SAA is doing is restructuring management. SAA is looking at who is adding value and who is not. The problem at SAA is that management is pear shaped. There are layers upon layers of management and this needs to be cleaned up. The percentage of the age bill to all the costs is 9%. The wage bill is R1.4 billion and of this management accounts for R180 million which is a small part. So the cleaning up of management is not for cost purposes but rather for efficiency.

The tendering process has been redressed. SAA will deal severely with anyone who does not follow procedure. All tenders go through the legal department. There is one woman on the leadership team The three positions of expatriates are being earmarked for persons from the previously disadvantaged and a women is included in here. There is a person dedicated to drive transformation. SAA accepts that the position is not ideal especially amongst the pilots and technical staff.

Further Questions
A member asked what was the value that Swiss Air added to SAA and what is the impact of the demise of SAA. What was the impact of the US tragedy?

Mr Viljoen replied that Swiss Air acquired 20% of SAA for R1.4 billion. They have no management control only two members on the board. SAA stands on its own and its business has not been impaired. The only loss is the D – Checks but the banks who own the planes now know that the d checks have to be done. Even if SAA does not get this business Boeing has committed to give SAA 1 000 000 hours of work.

The US tragedy caused that weekly flights had to be cut from seven to four. But this is not a problem because SAA is pressured to offer flights to Rome, Paris and Athens. So there is replacement revenue. If Europe holds up SAA will be in a good position.

Mr Frolick asked where are pilots recruited from; if there is a high turnover of pilots and where are they recruited from.

A member commented that the Committee had the right to get any information and the fact that it was given to the Minister is of no consequence. This member enquired about what Airlink was and who owned it.

Mr Heine said that the Committee wants access to the information as soon as possible and asked when will the information be forthcoming.

Mr Makwanazi replying to the two latter questions said that the parastatal reports to the Department of Public Enterprises. It is up to the Committee to go to the Ministry to get the information. The cabinet and the Ministry has made a decision and as far as Transnet is concerned the matter is closed.

There was an outcry from certain members that there is no way the matter is closed.

Mr Viljoen said that SA Airlink is a tertiary carrier with 30 seater planes. If a new route is developed the small planes fly it first. When it has grown the secondary carrier with 50 seater planes, SA express, takes over and when it is developed SAA will take over with the 100 seater planes. SA Airlink is 10% owned by SAA, the rest by outsiders like Nedcor. SA express is 100% owned by Transnet.

Mr Viljoen said that most pilots came from the commercial sector and then moved to SAA Airlink and SAA Express with the ambition of flying long haul flights. There are also a number of cadets in training and they will go to SAA Airlink and SAA Express.

The chair in conclusion said that he just wanted to clarify that the Committee exercised an oversight role over the Department and part of this included having the power to call any sub agency of the Department, like parastatals, to give an account on aspects of their activities. It was agreed that SAA is the national carrier and hard work is being done to bring it back to profitability.
The Committee should support this. The Committee acknowledged the difficult business environment but because of the oversight role critical questions needs to be asked. These questions are however constructive criticism to ensure that SAA becomes more stronger and more competitive.

The meeting was closed.


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