Denel 2019/20 Annual Report; with Deputy Minister

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Public Enterprises

24 February 2021
Chairperson: Mr K Magaxa (ANC)
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Meeting Summary

Annual Reports 2019/20

In a virtual meeting, the Committee was presented with the annual report of Denel, which revealed that it was in a dire financial state. The state-owned entity’s (SOE’s) revenue had fallen by 20% in the past year, to R2.7 billion. This had led to a loss for the year of R1.962 billion. The entity had incurred losses of R4.4 billion over the past three years, owing to declining revenue.

Denel’s management highlighted factors that had reduced it to its current situation. These included the loss of crucial business contracts in its traditional markets in the Middle East and North Africa due to geo-political factors; delays in getting approvals from stakeholders resulting in competitors filling the void; under-capitalisation making it impossible to take up take up attractive sales opportunities; and the exodus of skilled personnel when salaries could not be paid.

Denel itself referred to the National Defence Industrial Council’s (NDIC’s) view on the liquidity challenges facing Denel. Its opinion was that they had the potential to compromise South Africa’s national security; collapse the entire defence industry irretrievably; expose the country to a mass exodus of skilled personnel in sensitive defence domains to countries that were not necessarily aligned to SA’s national interests; and lead to a loss of critical defence capabilities, including sovereign and strategic capabilities.

Members picked up on this, expressing concern that critical Denel intellectual property was now in the hands of foreign countries whose interests were not necessarily aligned with those of South Africa. They urged the entity to find new markets to maximise the potential of its highly skilled personnel, such as its recent intervention with the design and production of ventilators for Covid-19 protection. It was even suggested that it had the infrastructure to manufacture an all-South African car.

Denel’s management said there was a critical need for a joint vision for Denel from South Africa’s Cabinet. A recapitalistion was still vital, because without an injection of capital to improve the balance sheet, it would be very difficult to turn it around, even with the great vision that everyone at Denel had. There were some investors who wanted to buy the whole of Denel, while some wanted to enter at the product level. People had their own intentions, so Denel tried to be cautious in engaging with these opportunities so that South Africa did not compromise its own national security.

The Deputy Minister said that the Department of Defense (DOD), the Department of Public Enterprises (DPE) and the National Treasury (NT) were teaming up to come up with a way to save Denel, as it was too significant to let it fail.

Meeting report

Denel chairperson’s absence

Mr William Hlakoane, Acting Group Chief Executive: Denel, tendered an apology on behalf of Ms Monhla Hlahla, the chairperson of Denel, who could not join the meeting.

The Chairperson asked whether someone in a deputy chairperson role, or similar, was present.

Mr Hlakoane said only executives were present.

Mr G Cachalia (DA) asked if the chairperson’s reason for her absence could be obtained. This meeting was extremely important and Denel was in an extremely important stage in its life. The Committee needed to know why she could not be present.

The Chairperson asked Mr Hlakoane if it was possible to provide the reason.

Mr Hlakoane said that he had not been given a reason.

The Chairperson said he thought Mr Cachalia’s concerns were right, because this session was very serious -- the annual report was being looked at. It was problematic that only the executives were present. He asked the Deputy Minister for his opinion.

Mr Phumulo Masualle, Deputy Minister (DM) of Public Enterprises, said it was regrettable that Denel’s chairperson was not able to be at the meeting. There were other chairpersons of board committees who could have taken the responsibility to be at the meeting. He suggested that someone contact the chairperson during the meeting. It was not as if she had to travel to Cape Town, as was usually the case. The matter would have to be dealt with outside of the meeting. He said her absence was unacceptable, and the Committee’s feeling about the absence of the board should be communicated to Denel.

Ms M Clarke (DA) also expressed her dismay on the matter. She thought the Committee should send a very stern letter to Denel’s chairperson.

The Chairperson stopped Ms Clarke, saying that the DM had said the Committee was going to try to get a reason from the chairperson of Denel, and also try to get anyone from Denel’s board to join the meeting. He said it should be left there for the time being, unless no one from the board came at all.

Deputy Minister’s introduction

DM Masualle introduced Mr Hlakoane and Ms Carmen le Grange, Group Chief Financial Officer of Denel.

Denel had been going through a difficult patch over the last few years, to the extent that Denel’s employees had been taking Denel to court due to the entity’s financial problems. There were a number of reasons. One reason was a concentration of activity in the Middle East, where there were some problems, leading to finances running dry. There was also the effect of the budget cuts, considering the Department of Defense (DOD) was a major source of activity for Denel. There were many other reasons as well. However, the board, together with the executive team, was seized with the challenges that the organisation has. The presentation of the annual report would identify the challenges, as well as the proposed remedies.

Denel Annual Report

Mr Hlakoane opened his presentation by referring to the National Defence Industrial Council’s (NDIC’s) view on the liquidity challenges facing Denel. Its opinion was that they had the potential impact to compromise South Africa’s national security; collapsing the entire defence industry irretrievably; exposing the country to a mass exodus of skilled personnel in sensitive defence domains to countries that were not necessarily aligned to SA’s national interests; and a loss of critical defence capabilities, including sovereign and strategic capabilities.

Referring to the Aerospace and Defence (A&D) masterplan, he said that without the technology developed by the industry, they would not transition optimally through the interregnum between the third and fourth waves into the Fourth Industrial Revolution (4IR), and would become technology takers (and price takers), and be vulnerable to sovereign pressure. The country would be less able to protect itself.

Ms Le Grange reported on Denel’s financial situation, and said revenue had fallen by 20% in the past year, to R2.7 billion. This had led to a loss for the year of R1.962 billion. The entity had incurred losses of R4.4 billion over the past three years owing to declining revenue.

Despite its turnaround strategy, Denel remained rooted in a liquidity crisis, with its order book significantly exposed to risk. Consequently, it had seen:

  • Downgrading by Fitch to ‘CC(zaf)’ due to delayed and insufficient support from the shareholder, resulting in a weakened standalone credit profile. Banks and financial institutions were no longer willing to provide facilities critical for operations and winning new business. In fact, banks were reducing facilities.
  • Reducing order backlog and pipeline, and the business exposed to significant risk as reputational damage influenced customers and markets.
  • Local defence budget continuing to shrink, impacting Denel and the rest of the local defence industry. Treaties signed in the Middle East with the USA were changing Denel’s traditional export advantage.
  • Its debt profile had worsened.  While the government guarantee was extended to September 2023, lenders had invested short-term.
  • Slow progress on the sale of non-core assets and exit from loss-making businesses continuing to put a strain on an already poor liquidity position.
  • Ring-fencing of funds due to customer demands did not allow efficient allocation of resources.
  • Under-funding for projects of strategic national importance.

The Auditor-General of South Africa (AGSA) had issued a disclaimer audit opinion due to various matters, including its going concern status due to material uncertainties in the cash forecast and liquidity assumptions, material errors in the financial statements submitted for audit, and prior period errors on various statements.

The entity outlined its risk mitigation strategies, which included several long and short-term programme opportunities.

(See presentation document for details).

Denel chairperson joins meeting

DM Masualle noted that Ms Hlahla, the chairperson of Denel, had joined the meeting.

Ms Hlahla apologised for joining the meeting only at 10h30. It was clear that Denel could not trade itself out of its crisis without some capital injection. The current Denel board and Parliament had been looking at Denel during times that were extraordinary for two reasons. The first was ‘state capture,’ which took away critical resources from institutions that were critical to the success of the economy, and Denel was one of them. The second was COVID-19, which had isolated workforces.

Denel was already weakened by liquidity before the pandemic, meaning that Denel started from an already weak point. Denel had been experiencing liquidity challenges from about 2015 or 2016, and every year it missed an opportunity to turn the business around, either by taking out costs, increasing income or coming up with some innovation, the problems had been compounding.

Denel’s managers and employees were in a worse position than many others in the country, because these people had entered the pandemic with less income when they needed it the most. They were isolated and losing family members, and normally workers would be fully occupied to generate the income necessary to pay for their salaries. In the case of Denel, the situation had become even more challenging. Some of the challenges had been highlighted by the AGSA. One had to think of the mindsets of all the managers and employees who try so hard, with their salaries cut in half in some instances at a time like this. She took the opportunity to thank the managers and employees of Denel for continuing to work hard and trying to deliver results during this challenging time.

She brought up two issues that were critical when thinking of Denel in the future. The first was a critical need for a joint vision for Denel from South Africa’s Cabinet. What Denel had experienced over the last three years was that no matter how great one’s plans were, unless everyone was united in Denel’s strategy and business plans, what ended up happening was that there were undue delays.

There was a joint effort right now, led by Denel’s shareholder minister, to attempt to derive a joint vision and an agreement around the Denel of the future so that it did not experience the same kind of delays again. It was really unfortunate that between 2015 or 2016 and today, all those great plans had not necessarily been executed. One could imagine it with every year that passes, the pain just increases.

A recapitalisation of Denel was still critical. Without an injection of capital to improve the balance sheet, it would be very difficult, even with the great vision that everyone at Denel had, to turn it around. There also needed to be a vision that was joint, led by the Cabinet of Denel, and then differences of opinions may lessen so that the company had an opportunity to execute all its plans. Mr Hlakoane had alluded to the fact that even with its challenges, Denel continued to have potential clients knocking on its door. A joint vision that states, “Yes, we want this Denel to continue,” and “Yes, this is how we could recapitalise,” would really be useful because otherwise, the growing issues for Denel were becoming more and more precarious.

The Chairperson thanked Ms Hlahla. He said the Committee appreciated her presence. The Committee had been concerned about not having anyone from Denel’s board in the session. The Committee was not satisfied with an apology without reason, and therefore appreciated that she had ultimately come to the meeting.

Discussion

The Chairperson said it was difficult to accept the state of Denel, having done oversight and seen the massive infrastructure there, with a lot of machines, technicians and people with high skills. It was worrying when one was consistently told that the entity was still struggling. If Denel could manufacture helicopters, advanced missiles and armoured vehicles and so on, could it not manufacture something like police vehicles or defense capabilities that could be used locally? This was not to say that the international market was not needed, but who would recognise Denel if its work was not appreciated locally?

At some point during the presentation, there was a strong view in favour of Denel diversifying its products so that it was not confined. South Africa did not currently manufacture any vehicles, and Denel could provide the kind of infrastructure to do such things. If there were no new ideas, Denel would continue to be in the state that it was in currently.

Mr S Gumede (ANC) said that as much as the Committee sympathised with the circumstances, Denel had been given only R5 billion with which to struggle until now, and that amount was too little to address the situation. The understanding of government was that Denel ought to have been an independent company -- one that was there to boost the economy and provide jobs.

The Chairperson had been right in saying that Denel had a lot of capabilities. Its intervention with the production of ventilators was very impressive. It showed that it had the skills. Could it not come up with any other avenue that could bring in revenue? It was true that there was no South African-based vehicle. Whatever South Africa got would be good. There were cars like the Tata, which was a very simple car, and Denel definitely had the capacity for that. Coming up with new avenues was critical.

He was encouraged by Ms Hlahla’s remarks in the document that the Committee had received, saying that the board as well as the audit committee took responsibility of the report. They had said they were taking full responsibility, whether it was for good news or bad. That was good news for those who were determined, and who were looking ahead.

Mr Gumede said Denel must introspect and make sure that they had all the proper requisites to make it a viable organisation. Since its establishment in 1992, it had been making fortunes and competing internationally. In 2018, it had produced products worth R4 billion and distributed them to 66 countries. Where had all that energy gone? All of the challenges would have to be discussed at a later stage. It was unfortunate that there was not enough time today. When the Committee visited Denel, the Committee had established friends, but that was the beginning. No one knew what was coming.

Denel was a national security asset, and its weakness compromised South Africa and tainted the South African Defense Industry (SADI). Was there a possibility for Denel to be in a position where it was treated like the South African Airways (SAA)? SAA was liquidated. Denel needed to be recapitalised. It would be very bad if Denel collapsed.

Mr Gumede said that he understood that there were situations where there were regular engagements involving National Treasury (NT), for example, and the Denel board, and said that it might be helpful to involve the chairpersons of relevant portfolio committees so that their opinions could be heard.  

This was not the right time for the Committee to be asking questions. It was better to make suggestions.

According to the presentation, about 498 people had exited the entity. Denel was losing young talent. About 249 technicians and 99 engineers had left, but Denel was still adamant that it would forge ahead. What was the retention strategy of the company? How would it retain its skills? The last time the Committee asked that, Denel had said it had a strategy for attracting those skills. He really supported the short-term and long-term programme opportunities, which looked wonderful. What could one do to make sure that they were secured?

Denel needed to sort out its export plans, because there were challenges. So much had gone wrong in terms of their contractual obligations. They could not keep on saying that they did not have money. They were saying they need to get a strategic equity partner, but it had not happened yet. He was not sure what was holding Denel from achieving this. The Committee was trying all possible avenues to help revive Denel and make it vibrant.

He asked if an administrator could help in this kind of situation, as he did not know.

Mr Gumede said that the audit fee was expensive. There had been about 66 reasons why the AG had issued a disclaimer. He requested that some of those reasons be put on to paper and presented to the Committee. Their questions may not make sense, but they would highlight things that needed to be looked into in addressing the challenges that Denel was facing.

He was not sure about the recovery plan in respect of the export permits. This had to be sorted out. He did not know the budgetary processes, but if through the state capture investigations some funding was recovered, where would it go? Would it go to the fiscus or to the company from which it was stolen? It would be great if any recoveries from state capture were returned to Denel.

He suggested that Denel should sell off its non-core assets and some loss-making business in order to raise sufficient capital to fulfil its other obligations. The challenge was this would be a very slow process, and he believed this would raise around R270 million, which would not go a long way.

Mr Cachalia said Denel’s annual financial statements (AFS) had finally arrived. They had arrived six months late. When they had requested support for a bill to sanction the publication of the AFSs, the Committee had been provided with a curious legal answer and opinion that said it must abide by the status quo. That same status quo had given room for the non-production and delay of the AFS. Crucial as it was to oversight -- be that as it may -- this was a metaphor for state-owned enterprises (SOEs) in general.

Meanwhile, 3 000-odd disgruntled employees who had not received full pay for nine months, sit with Denel’s intellectual property on their laptops. What would happen to the sovereign defense information was anyone’s guess. This board, this shareholder, this executive, was accountable for the situation, which Justice Zondo had described as unacceptable. Justice Zondo had said that all prominent SOEs were on their knees. He also said that it looks like there was nobody who was concerned whether ministries, Director Generals (DGs) and boards did their job. They were all paid handsomely. Everyone needed to stop talking about challenges. Good and proper executives, boards and managers work through challenges and deliver results.

Mr Cachalia said that ever since he joined Parliament, he had heard about challenges and had seen very few results. He went through the Denel performance figures for its business units, which indicated that only the Overberg test range had shown a significant uptick, but that was a relatively small business unit. Overall, there was a net loss of R1.9 billion and an operational loss of R1.5 billion. Despite a strong order book -- the Committee was told of R15 billion – this could not be serviced because there was no money. That was the key point. Could the Committee see the order book? South Africa’s designs now sit in the UAE with competitors. Sixteen G6 vehicles belonging to the army sit in Denel workshops, and there was no money to fix them. It cannot pay salaries in spite of a court order to do so.

Mr Cachalia said he had with him a letter of a Denel employee who was taking Denel to court in his own capacity. It was sad. The Johannesburg bourse had threatened to suspend the listing of Denel bonds if it did not publish the AFSs. This was not yesterday’s story. This was a continuing story. What exactly was to be done – by the highly paid board, the highly paid Ministers, the highly paid DGs, the highly paid executives? One hears of potential strategic equity partners – who were they? What was Denel selling, to whom and when? What was envisaged to fix this company? It was in a mess. The Committee had seen a picture of disaster, but there was no plan for the future.

As it had been said, Denel could not trade itself out of the situation. Denel’s former chief executive officer (CEO), Daniel du Toit, had said that over a year ago. It was not new information. The point was: “Let us get over the talk of challenges.” National Treasury (NT) had warned that Denel would be out of cash by the end of March. What was going to happen then, amidst all this talk? The Minister talked about SOEs and Denel rising from the ashes. Never mind rising from any ashes...

From an investor perspective, there was a huge guarantee investor exposure, which was unsecured, which had resulted in a pipeline freezing. Only the Public Investment Corporation (PIC) was really remaining, with R2.4 billion on its books. All the others were exiting.

Suppliers wanted cash upfront. Customers were not ordering and there were many penalties for late delivery. Armscor had no money to continue with Hoefyster. The Denel Vehicle Systems (DVS) acquisition, R850 billion at the time, was now written off. It was paid with advanced payments from customers, and with ABSA and Nedbank providing half of it. Project management was in a mess. Add in the R4 million in unpaid salaries.

It was clear a recapitalisation was required, but it had not been forthcoming. It needed to come, and only the private sector could do this. That must be clear. As one continues to wait and lose intellectual property (IP), one loses interest from people and that, too, would dry up in time. So there was an imperative to move, and to move with speed. So far, it had been at a snail’s pace. This had to change. The penny had to drop.

The reality was that one had to look primarily at international players from the private sector. Local BEE players could not give one the market access that was required. Let that penny drop. Board members had exited and there was currently a temporary CEO. What was the chairperson of Denel doing? What was the shareholder doing? The Committee needed visibility now. There was talk of a critical need for a joint vision from Denel and the Cabinet, driven by the Minister. Cabinet was overseeing this debacle, and many were complicit in it!

Denel needed capital to deal with the challenges and so-called opportunities, not platitudes. It needed to move ahead with speed. It could not rely on bailouts and even if it could, the cupboard was completely bare. The public sector had failed. The private sector needed to come in. Could the Committee hear what was in the pipeline to address this issue in the realms of reality, to ensure that Denel’s strategic capabilities were in place and that critical skills were kept? In his view, it would not happen in this current scenario under the current shareholder, with the current management and the current board.

Ms O Maotwe (EFF) said the Committee would like to register its disappointment with what had been presented, but it was not surprised. There was no leadership at Denel, starting with the chairperson. There was no leadership within the board. All these issues existed because there was no leadership. There was capacity at Denel, but it was busy selling non-core assets. They might have sold everything when the Committee returned on a site visit, but they still would not have come up with anything.

There was very little to engage with from the presentation. The Committee knew that Mr Hlakoane was new. He was not entirely new, though, because he was the Chief Operating Officer (COO) before. The previous CEO had presented a new Denel that had a road map from 2018 to 2025 to the Committee in October 2020. Mr Hlakoane might even have been part of the delegation. The CEO had also presented in June about what Denel was embarking on, with timelines, but there had been no changes. Denel still came to the Committee with disclaimer audit opinions. Since Mr Hlakoane was new, perhaps he could share what he planned to do differently.

Denel’s revenue had gone down by 20%, there was fruitless expenditure of R169 million and R3.1 billion in irregular expenditure, so the situation was horrible. Denel was unable to pay its employees. Looking at the presentation, the key strategic risks that could hamper the implementation of Denel’s strategy were the same ones that had been presented in July. What had been done to mitigate those risks? If one was running a business and a major customer tells you that he had enough and cannot buy any more, what does one do then? One needs to go find that work somewhere else.

Why was Denel aligning with the Department of Defence (DOD)? It was taking forever to align. What kind of alignment was it seeking? The chairperson of the board had said the strategy needed commitment -- but from who? Who was not committed? Denel should be driving the strategy. It was Denel’s strategy. Its board adopted it, so it should be driving it. If Denel’s own people were not committed to what it wanted to achieve, it could not come and blame the Committee. The Committee was trying to assist Denel.

The presentation today spoke about opportunities. The top 10 opportunities had been identified prior to these ones. What had happened to them? The presentation in June had spoken about Umkhonto, which was still there. Seeker 400 was supposed to be achieved this year. Last year there were support contracts to the value of R1 billion. How far along was that, because that order should have been secured by August 2020? That was what the report said.

They had been told there was a 70% probability of getting the RVKPSS order, worth another R1 billion. How far along was that? That was supposed to be in August 2020. There was 70% probability of Denel getting other orders as well, according to the presentation that Denel gave the Committee. How far along were they?

This year, Denel was aiming to get Seeker 400 export orders. How far along was it with all these opportunities? What was it doing to turn these opportunities into sales?

In June 2020, the chief operating officer (COO) gave a presentation to the Committee where he explained how the R1.8 billion recapitalisation programme was going to be utilised. How far along was that, before embarking on the second recapitalisation programme which the CEO had spoken about?

What consequence management was Denel going to implement for the irregular and the wasteful expenditure reported by the AGSA? How would it make sure it does not find itself in the same situation of irregular and wasteful expenditure growing year on year?

The Chairperson called on Mr E Buthelezi (IFP), but he was not present. He then called on Mr N Kwankwa (UDM), but he was not present either.

Ms C Phiri (ANC) said that she agreed with her colleagues who were disappointed, but that she had expected an honest presentation. Denel was insolvent. Using the word took one’s strength away. In the national strategic perspective that Denel had formulated in August, it had said it required governmental interventions and other related industries, which was Defence. Firstly, what had it achieved in the past six months in terms of having meetings with related industries or partners?

Secondly, since the Committee came into being, it had been hearing about turnaround strategies. There could not always be new turnaround strategies, when nothing was said about what was wrong with the previous turnaround strategy. What were the loopholes that made Denel believe the previous strategy was not working? It needed to tell the Committee more about where it went wrong and what was workable.

The Committee had done an oversight in 2019 and it was really impressive. There was a time when the chairperson had presented a good turnaround strategy and the possibility of investors. The Committee was told that investments were coming in and Denel would be up and running properly. What had happened?

In which divisions was Denel excelling? For example, with SAA, there was the SAA Technical division, and one said there was hope. Which parts of Denel gave hope?

The Committee was also disappointed in terms of human resources. The point of having SOEs was to assist with employment and economic growth, but there was a decrease in employees. Were the employees seeking new opportunities of their own accord? If there were voluntary resignations in terms of a proposal from Denel management and its board, what had influenced them? The issue of retrenchment was clouding the whole country, and the unemployment rate was increasing daily.

When the Committee went to Denel, it had suggested the concept of shared services. An example was even made that SAA was not doing well, and Denel had the capacity and technicians that could service aircrafts. Those entities could share those services. Had Denel considered the Committee’s advice or not? State-owned entities could share services and give each other a hand, but what was stopping that? South Africa had the capacity to make its own vehicles. South Africa had the capacity to make its own aircraft.

Ms Phiri said one needed to start by checking the insolvency of the entity. Denel was going along the same road as SAA. There had been enough talk about a bailout. Parliament could not bail out every state-owned entity. Let Denel provide some hope and implementable strategies.

Ms Clarke said she was totally shocked and dismayed at the position Denel found itself in. It seemed as if it had been like this for quite a couple of years, and there appeared to be no light at the end of the tunnel.

What had Denel manufactured and what were the statistics of those manufacturing operations for the past six years? Which countries had Denel manufactured for? What was the profit margin relating to this over the past six years? What strategy would be put in place in order to retain scarce skillsets within Denel? Was the training college that still exists financially viable in order to do the necessary training? Exports had been hampered during the pandemic – what had happened in previous years when exports were declining consistently anyway? How would Denel recover in terms of its export projects? What orders were outstanding on Denel’s order book, and to whom? What had caused the delays in terms of contractual obligations in terms of Denel? The Rooivalk was renowned – how many of these helicopters had Denel been able to produce of late?

Government capital injections could not save Denel. It needed to be unbundled and strategic partners brought on board in key strategic areas. Had the board looked at this, and what was it going to put in place in order to realise this? What projects were hampered by under-funding of strategic national importance? What was the current status of the Hoefyster project? What was the monetary amount of penalties that had been imposed because of this contract? The contract had been lingering for 11 years already. How would Denel improve its performance culture, knowledge, accountability and consequence management? It seemed that the board and the Executive had not been able to do this. What consequence management had been put in place to remedy this? What disciplinary measures had been put in place?

Arising from the reports that had been referred to the Standing Committee on Public Accounts (SCOPA), what recommendations would SCOPA bring to the Committee for deliberation? How many cases had been handed to the Special Investigating Unit (SIU) for investigation? How many people had been formally charged with fraud and corruption within Denel? How had it implemented a system called an economic recovery programme (ERP) that could not deal with Denel’s prior errors and corrections? Why was a system implemented that was not user-friendly to achieve the financial outcomes? When would the salary disputes be resolved, and what would Denel do to honour the disputes? When would the development of Denel’s next strategy blueprint be ready to be presented to the Committee? What strategy would be used in order to attract possible international partnerships, as no banks would assist with bonds and bank guarantees in terms of it current status? How would it attract partners, considering its financial status?

How man of the eight key operational performance targets were met and if not, why not? What would be done to ensure that the targets were met? What had happened to Denel Maritime, and what losses had this unit incurred? What business units would Denel be selling? Had Denel already gone into negotiations in terms of strategic partners? Who were the partners? Would Denel realise the predetermined objectives of the AG that were imposed on Denel? How would Denel do this, and would it be presented to the Committee?

Ms R Komane (EFF) said she was dissatisfied with the report. There was a problem with capacity. The chairperson kept on lamenting the mistakes of the past chairperson. One acknowledges the mistakes of the past, but the current board needed to turn the situation around and explore other avenues. The time to cry had passed. The Committee expected Denel to use the little that they had, to succeed.

She did not believe that the current board was capable, and that it should take stock and introspect about whether it was up to the job or not. The chairperson had said that Denel needed joint efforts and commitment, but she needed to start with herself. The board could not put forward anything they had done that was tangible. As much as Denel needed an intervention, it needed to give the Committee a roadmap where its progress could be tracked.

She asked if the delegation of authority been finalised? Had it also been implemented? In the presentation Denel said that the PMP issues would be solved – could the Committee be brought up to speed in this regard, and indicate the units that would be sold. Who was Denel looking for as its strategic partners in this regard?

What was the state of employees’ salaries? Were the salary payments up to date? This was a very serious concern. There could not be people who were working and not being paid. The matter had been dragging on for a long time. How far was the process? If they had not been paid, why not? How would they be paid, and when would they be paid?

The AG had stated that the actions in plan B, developed by the board, were inadequate and inappropriate to address the internal situation, and it was evident by the misstatements identified. The board should account for this lack of oversight, and indicate the progress made in addressing this oversight finding.

There was a contradiction between the AG and the board over whether the company was financially stressed. Could the board clarify this contradiction? One would agree with the AG that Denel was financially stressed, but the board said there was no distress. Could the board show the Committee evidence that there was no financial distress? Lastly, what were the findings and recommendations of Ernst and Young, which was an independent service provider? Why was this exercise necessary, and why was it conducted only in 2019-20 when the challenges had been around for much longer?

The Chairperson called on Mr N Dlamini (ANC), but he was not present. He also called on Ms V Malinga (ANC), but she was also not present.

Ms J Tshabalala (ANC) said that she did not want to repeat too much, as her colleagues had expressed a lot of what she had wanted to. She looked forward to the responses.

Deputy Minister Masualle said that he would speak after Denel.

The Chairperson said that he had no doubt that Committee Members’ comments were heartfelt. Denel’s turnaround strategy contained aspects that, even going forward, would always remain because it was looking for opportunities to create cash so it could meet its obligations. Its strategy was robust, and the board members should remember that. Within the strategy, Denel had been very lucky in 2019 to secure the largest contract it had ever had in its history, which was worth about R6 billion.

While that strategy had ended up not being implemented and Denel had ended up losing it, it was because Denel inherently had a slow process of approving commercial projects between itself, the Department of Public Enterprises (DPE) and the DOD. Members of the DPE and the DM would comment further on their attempts to improve efficiency on that side. Not everyone could have a perfect strategy and plans.

The Committee was correct to ask what progress Denel was making with its strategic equity partner (SEP) strategies. Denel had ground to a halt with that because the processes that happened were outside of its control, and there was a different level of engagement between the shareholder and the DOD. Denel’s processes were too slow. It was very difficult for a commercial entity to make progress in an environment that was open-ended. This was not a complaint, but a reality. Denel had done its best, and sometimes one’s best was not good enough.

Denel’s response

Chairperson’s overview

Ms Hlahla said the best plans in themselves did not necessarily mean the implementation would be the same. The Deputy Minister and Director-General would provide the Committee with a better context of what happened once the board placed in front of the DPE its desire -- for example, to get a strategic equity partner for some business, or to sell an entity, so that if it got that cash injection it would at least be able to relieve the shareholder and gradually begin to support itself.

Denel had looked at some of the surplus in its medical aid fund that could possibly be shared with its employees. What made her sit and think that she had put her best foot forward as an African girl, was the fact that she had got a contract for R6 billion to turn around the company, because Denel deserved it. Unfortunately, Denel’s processes were not necessarily fair for Denel, and it did not mean that the government was wrong or had failed. Her board had just wanted to assist Denel and it had tried its best. Denel needed to find the best way to be enabling and more efficient. Some of the proposals might not necessarily be the best if one looked at the country’s own strategic security elements. Maybe the timing was not right for some of them, but the board and the DPE were trying to get those processes to be more efficient.

The Minister had written to the board to say that having looked at everything that had happened over the period, he believed that a joint vision and an approval of Denel’s plans by Cabinet, was one way for Denel to get everything that it needed to be efficient. She was comfortable to say to the Committee that the board members had done their best.

With regard to the challenges with the AG, Denel would continue to say that it appreciated the AG’s guidance. The capacity in its finance division was very weak. It had asked the NT to allow Denel to determine how to use the money that came with the last recapitalisation. Part of that was because Denel wanted to invest in a better technology system so that the finance managers did not manipulate data through a spreadsheet, and started to work systemically.

Somebody had asked about an ERP system that was so outdated. The systems Denel used were inherited. Out of its budget, Denel prioritised reinforcing the finance division with more people and with a better system. Then the future board and managers would hopefully find it easier to process the data and work better.

Even with the weaknesses of this period, Denel believed it was worthwhile to look at how to best defend the company. As the NT explained, the financial position of Denel would be more precarious after 31 March. The differences were usually technical definitions. In the eventuality that the company could not receive any recapitalisation and there was no cash coming through, the board would look at the next processes that were available to deal with the situation.

When the chips were down, people run away. The chairperson assured the Committee that she was there to account. The fact that the presentation had gone backwards to remind the Committee of where Denel had come from, was simply to highlight the fact that for every year Denel had lost by trying to implement even one aspect of the strategies that were always in place, the more the scenario was complicated going into the future.

All the criticisms were taken well, but she felt comforted that as future boards look at new strategies, they would still carry forward the bulk of what the current board had put in place.

With regard to the contract that Denel had lost, the chairperson would encourage future boards to look at the same markets because of the amount of work the current board had done to rebuild those relationships. Denel continued to learn, just like South Africa was learning. One of South Africa’s biggest challenges was execution. If that could be improved, most SOEs would survive, including Denel.

Ms Hlahla said she was certain that efforts were being made. The board may have been impatient, may have been exasperated, but hopefully great plans would not be thrown away simply because they were not good enough. Everyone was disappointed. The board would have liked Denel to be further than where it was. It was unacceptable, but this was the board that had done oversight at the time. She could not run away from accountability. Since 2005, there had been commonalities with the challenges of Denel and the core elements of what was required for Denel to turn around remained. All Denel needed was better execution.

Mr Hlakoane said many years of the issues had started before his time, and alignment had been necessary between the DPE, the DOD and Denel in ensuring that the strategic capability and other capacities were not eroded. That alignment had happened, but unfortunately there had been no agreement about principles. For example, PMP had been designed to produce 80 million rounds of ammunition per annum. Denel was barely making 30 million per annum. The status at the time PMP was designed was totally different to the status today. It required Denel to have a different way of thinking, to ensure that it remained efficient and that it was able to make it as a business. So from the DOD’s perspective it was a strategic component, but for Denel it had become a non-core asset, so it could diversify. The alignment had to be looked at from the point of view of what was important to whom, and how did one reach a balance? These were some of the issues Denel was dealing with. It could not sell or lease “willy-nilly” without consulting. There were lots of processes involved.

With regard to Mr Cachalia’s concern about the Denel intellectual property which was sitting in laptops overseas, Denel tried its best to secure its IP. There was a security system which allowed it able to detect if information was taken out of the system, but some of the IP that had been lost was because of some people used to work for Denel and developed it. Denel planned to pursue those people through the SIU, although it did come regularly when it had new information. At that point, Denel did give inputs as required.

To deal with the irregular expenditure which Ms Maotwe had brought up, Denel had developed a policy and beefed it up. It had gone through other SOEs and incorporated some of the best practices in terms of the management of Denel’s assets. It was still not 100%-- there were still issues. There were processes that Denel had followed to ensure that all of the controls that the AG had spoken about had been put in place. However, this would take time and money. For example, for one to implement an ERP system, one needed about R60 million. Denel did not have that kind of cash to invest in a system where there were people who were suffering in terms of salaries. It hoped that as it went along some of the controls that were needed would be implemented as far as possible, where it did not require finance.

With regards to new business, Denel traded globally and its market was in the Europe, Middle East and Africa (EMEA) area. Because of the geo-politics in the Middle East, trade-offs had become difficult and that was where the market for Denel currently was. Those people want Denel’s products left, right and centre, but because of the geo-politics, it could not trade. It was trying to see if it could knock on different doors while the opportunities in the Middle East were not being realised.

There was a question relating to permits. Some of the permits relating to the Middle East had been delayed for some time. Some of the permits still awaiting approval were over a year old, purely because of the geo-politics. This was beyond Denel’s control. It was depending on lawmakers for assistance. That spoke to the alignment mentioned earlier. Those alignment engagements were very important.

The assets that Denel possessed were of national security. The decisions made were not made right from the boardroom. They involved a back-and-forth discussion. Denel had been speaking to the DOD and the African Management Services Company (AMSCO) for years, and continued to engage them on some of the issues. That answers the question about SEPs.

Mr Gumede had asked why Denel could not trade like SAA. SAA had kept its customers, as had Transnet and Eskom. Denel had to go and compete with the best in the world in terms of technology. Most of the countries that Denel was competing with developed these technologies for themselves, and then buy it for themselves. South Africa does not have that capability, so the other companies beat Denel in terms of price in many instances. Sometimes Denel gets them, but then at a very low margin.

Despite the very complex environment the top 10 opportunities were still there. The Umkhonto missile was presented last year, and Denel had signed the contract, but had lost it. The RVK PSS, C130 and the RVK contracts had been signed. The Seeker 400 contract was delayed due to the permit issue. The permit was applied for a year ago, and had arrived only about three weeks ago -- it had taken that long. One could not do anything but wait.

Denel was serious about consequence management, and had started a process of taking disciplinary action. It had already taken some disciplinary action against people who were involved in stealing of IP and so forth, and was in the process of identifying issues relating to performance in the finance area. Human resources (HR) was taking on the implementation of consequence management with regard to the irregular expenditure. There were employees who had been implicated in state capture. It was an ongoing process. Denel was not just waiting. It was taking action.

Denel had some investors who wanted to buy the whole of Denel, while some wanted to enter at the product level. People had their own intentions, so Denel tries to be cautious in engaging with these opportunities so that South Africa did not compromise its own national security. As people come with their proposals, Denel evaluates and makes proposals to DPE in that regard. About five applications had been made to the DPE by investors.

There was a question about the deadline with regard to employees. When the lockdown started last March, Denel was already facing a financial crisis. Between March and May last year, it lost close to 39 highly skilled engineers all at once because their salaries could not be paid. The picture did not look good. Highly skilled people were leaving, some of them purely because their salaries were not being paid, some of them for greener pastures. A lot of them said they wanted to come back, but they could not stay because of their financial situation. The highly skilled workforce was being eroded on a daily basis. Denel’s capability was getting lost to foreign lands, and it was not in South African hands.

Regarding a possible SAA Technical partnership, last year he had engaged with the CEO of SAA Technical. Denel had started a process wherein there was a memorandum of understanding (MOU) between Denel, the DPE and SAA Technical with regard to a partnership. Denel was evaluating it and trying to look at different modules that applied in other parts of the world like in Brazil, where they have different technical services within the same cluster -- that is, commercial and defence together. It was still possible to do this, but if Denel were to do it, it would be done at low margins, and this was one space where one needed high volumes in order for it to be profitable.

Where Denel was sitting at the moment was that the margins were very low and the skills base that Denel currently had was for defence and for specific reasons. Denel’s engineers were qualified for specific reasons. Someone who was authorised to work on the C130 would work only on the C130. However, this particular opportunity would be explored more.

With regard to the questions from Ms Clarke, Mr Hlakoane said that he would try to get Denel’s six-year plan to the Committee. In terms of the strategies in terms of the scarce skills, Denel had tried at some point last year to have companies come over and take some of its skilled employees, and when Denel needed them, it could actually buy them back. That had not happened purely because Denel’s environment was legislated,. These were some of the intricacies that Denel was dealing with.

Ms Hlahla said that there was a question about what Denel had delivered for the past six years in terms of tangible programmes, and she suggested that Mr Hlakoane give the Committee an idea of that by division, such as which divisions were producing right now, and which ones were being challenged.

Mr Hlakoane described a wide range of military products, ranging from ground vehicles and aircraft to munitions. Denel continued to do a lot of tests, be it on the missiles or weapon systems. The world was still interested in Denel’s progress and continued to knock on Denel’s door to place orders. Its financial situation was not helping, because some people required guarantees or the working capital to start them. That was the dilemma. Denel accepted what it could take within its own means. He also explained the technical issues with the Hoefyster contract at Armscor, where delays had already resulted in penalties of between R150 million to R200 million.

Ms Hlahla suggested that Mr Hlakoane give the Committee a feel of the non-defense market where the existing IP could be leveraged.

Mr Hlakoane said that during the pandemic, the DPE had requested Denel to assist with COVID-19. Denel had developed a ventilator. The engineers who normally design missiles had designed the ventilator. Ten of them had been designed and models had been made of the design that was approved. The IP was still owned by Denel at this stage. The production part of these ventilators required orders from the hospital.

Looking at its future strategies, Denel had engineers who were highly skilled and qualified, and it was confident that they could “do anything under the sun.” They needed a technical division that focused on its strengths and the new way of doing things,. This meant that Denel was going to look at new opportunities outside of defence, because of all the geo-politics that prevented it from trading internationally. It could not stand by with these particular skills and not use them. It was going to set up the entity to look at these opportunities. That process would continue in order to try to generate cash.

The Chairperson asked if Mr Hlakoane had finished his response.

Mr Hlakoane said he had not answered all the questions and was trying to go through them one by one so that everyone would be satisfied. He would try to summarise.

There was a roadmap in terms of the strategy that would be presented to Parliament. It still had to go through the necessary processes internally and then to the DPE for approval and so forth. The state of the employees was a concern for Denel. It really needed assistance to move out of the phase it was in, which was a phase of financial distress.

There was a question about the maritime division. That division had been closed, and did not exist any more.

The Chairperson thanked Mr Hlakoane, and opened the floor to the Deputy Minister before the Committee rounded off the meeting.

He said that he shared the same sentiment as the chairperson of the board, that Denel was well placed. He was trying to think of a better way to satisfy the exchange of information, because even the with questions that had been asked, it would not have been possible to exhaust them in the time available in the form they were asked. He asked if the Committee secretary could assist by condensing all the questions so that they could be dealt with comprehensively for the ease of Members to get the information.

Deputy Minister’s comments

DM Masualle said he did agree that one did at times experience some of the delays that tended to impact negatively on some of the entities, like Denel. However, that was occasioned by the fact that it was an environment in which a number of interests very critical and important to the State tended to interact at the interface.

For instance, on the turnaround strategy that the board developed, at the point of execution, as the acting CEO had indicated, Denel had come across some of the challenges that required that perhaps more time and interface between those organs was needed. The Department of Defense might feel that there was an aspect that might jeopardise the security of the State if Denel was to proceed. For instance, Denel might think that there were some of its assets that it could sell and get money to boost its operations, but it would be felt from other quarters that that would be endangering the security of the state.

He though it was those challenges that had prompted the Minister to say, “Let us perhaps go to Cabinet.” However, there was a single strategy that had been bought into by all parties, so that Denel now had a buy-in from everybody on how it was to proceed in these instances. It was indeed true that in the current situation, without some investment made, some recapitalisation, Denel was less likely to see the entity getting out of trouble. It was a matter that the DPE and the NT was involved with. There was a team from the DOD, DPE and the NT that was looking into how the situation could be remedied so as to ensure that some of the important things, if not all, that Denel was doing could be saved, and of course, on a sustainable basis.

DM Masualle made it clear that Denel was considered a very strategic asset of the state and it had to be looked at with the level of significance and importance that it had. There were the Armed Forces and the Air Force -- there was a lot that depended on a viable Denel. The most recent challenge was the skills flight that had been experienced, which was a cause for serious concern. Everyone should focus on that and finding a solution to the payment of salaries, which was an ongoing problem that the organisation was facing.

He said that Denel and the DPE understood the concerns of the Committee, and perhaps some of things he had said -- given the more serious matters at play -- he would rather not attend to them at the moment.

The Chairperson said that the Committee appreciated the Deputy Minister’s comments.

Members had been very long with their input, to such an extent that there was not enough time for follow-up discussion, but there was nothing lost. In the nest session, things would be picked up where they had been left off. The Committee still needed to act closely with Denel so that the situation was monitored for the sake of the Committee’s role as a legislative arm of the State. It had a responsibility to do oversight. There would have to be consistent interaction with Denel, even if it meant the Committee tried to have another oversight visit. Notes could be compared of the two visits, with an update on the current realities.

The Chairperson allowed the DM, the DPE and Denel to leave the meeting.

Adoption of minutes

The Chairperson said that last week, the minutes of the previous session could not be adopted. Therefore, the secretary was going to present all the minutes quickly, as everyone had to attend Parliament at 14h00.

The Secretariat said there were two sets of minutes.

The minutes of 3 February 2021 were adopted.

The minutes of 17 February 2021 were adopted.

The meeting was adjourned.

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