South African Airways (SAA) turnaround: progress report; with Minister

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Public Enterprises

27 November 2018
Chairperson: Ms L Mnganga-Gcabashe (ANC)
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Meeting Summary

The Committee was briefed by the South African Airways (SAA) on progress in implementing its turnaround strategy, in the presence of the Minister.

The SAA Board Chairperson pointed out that the new executive and management found a fractious and unstable organisation upon assumption of duty last year. Currently, there was some veneer of stability as the new administration had spent the year dealing the malfeasance following the establishment of a forensic committee within the board. However, the airline’s capital structure was still a challenge. SAA is a good brand and all that was required was for it to increase its operational capacity as a business. 

The SAA CEO said the key issues facing SAA are weak balance sheet and negative equity, liquidity challenges, negative publicity about SAA, previous board dynamics which are not helpful, suppliers having lost confidence in SAA, forensic reports pointing to rampant corruption and banks closing credit lines to the national carrier. The airline was not short of strategies- what had been lacking is the relentless focus on execution of strategy. As a result, in 2017/2018 financial year SAA incurred more losses than budgeted due to inability to execute strategy. SAA reported a net loss of R5.7 billion for 2017/18. However, year-to-date performance has been strong, as reflected in the financial results which have been above budget both for revenue and net loss. On the approved Corporate Plan assumed capital injection of R21.7 billion, and management has evaluated and modelled likely funding scenarios for its implementation for evaluation. The Joint Oversight Forum has also been set up to address liquidity and capital challenges at SAA. A number of key internal and external planning assumptions have changed since the Corporate Plan approval, resulting in the deterioration of the financial performance at net profit level. The changes include: foreign exchange; oil prices; network assumptions; funding and capital structure; and restructuring progress. In order to mitigate the effects of the changing assumptions on the Corporate Plan, a number of remediation initiatives have been evaluated, that will recover the plan as follows: accelerated cost containment and revenue assurance measures; Foreign Exchange revenue recovery; schedule and fleet optimisation; charters and alliances. Further, in order to mitigate the effect of the exogenous and endogenous factors a number of remediation initiatives had been evaluated. The national carrier has a procurement requirement of R3.5 billion for the next four months, and needs to find the money. While SAA had received the R5 billion recapitalisation from National Treasury, this would go towards paying a bridging finance debt of the same amount. The company would need more than R3.5 billion to continue procuring as expected by the end of March 2019. SAA hoped for a better outcome in its spending on fuel. Profit lost before tax projection is a R5.2 billion loss. With possible changes in fuel prices and some of the changes being put in place, SAA hoped to change this and make the overall figure lower than this.

Members said the national carrier had received a government guarantee last year, but it was concerning that the trend was not showing any signs of letting up. Was there any guarantee the airline would return to liquidity if it receives the R21 billion requested for 2019/20. What was SAA’s opinion on the backdrop of the Minister of Finance’s comments that the airline should be sold off. The Committee would need an exact breakdown of the routes that are profitable to SAA as well as those they were being forced to keep for political reasons. Was SAA not a never-ending black hole? For how long was government going to sustain pumping money into SAA year-in and year-out? Also, the costs of SAA Technical were going way up. What was being done about this? What kind of contractual obligations were signed previously that may be detrimental and exerting pressure currently? Were there any hang-ups that SAA was currently saddled with? On what basis did the banks lend the airline money? They feared the banks were lending money knowing that government would always extend guarantees to the airline.

The Minister said many of the questions raised by Members related to the broader phenomenon of state capture that many of the institutions found themselves in. There was no doubt SAA was a casualty of corruption and the suggestion that a report be prepared for the Zondo Commission was a good one. The focus had been on facilitating the stealing and thereby neglecting the operational aspects of the organisation in the process. Those who had benefitted improperly and illegally should have their assets frozen over and above criminal proceedings being instituted against them. Hopefully law enforcement would also come to the party. The Department was also confronted with a highly coordinated fight back. He implored the board and management to be courageous and remain vigilant. The airline’s revenue base needed to be rebuilt, and a clear approach from government side was to get SAA into a better state of governance. Members were right about their cynicism and the real test was for the board and management to provide tangible results by early next year. The lack of skills in specific areas of the business needed to be addressed, and more work needed to be done that would enable the airline to successfully go through the transitional period. On how the airline was able to get loans from the banks, banks want government guarantees but also want to know the plans that are in place to be able to turn the national carrier around. SAA has its own wish list. The airline would have to work with the Minister of Finance minister and himself to get better access to liquidity. There needs to be demonstrable evidence that they are achieving better revenue. The banks were not as friendly as they used to be. He believed a viable strategy complemented by a robust leadership was in place, and needed to be supplemented with critical skills to ensure SAA moves forward.

Meeting report

The Chairperson welcomed everyone and said the Committee was delighted to have South African Airways (SAA) back to the Portfolio Committee on Public Enterprises. She invited SAA to give its presentation.

Briefing by South African Airways (SAA)

Mr Johannes Magwaza, Board Chairperson, SAA, appreciated the opportunity for SAA to appear before the Committee. He pointed out that the new executive and management found a fractious and unstable organisation upon assumption of duty last year. Currently, there was some veneer of stability as the new administration had spent the year dealing with the malfeasance following the establishment of a forensic committee within the board. However, the airline’s capital structure was still a challenge. SAA is a good brand and all that was required was for it to increase its operational capacity as a business. 

Mr Vuyani Jarana, CEO, SAA, said SAA, in recent years has experienced administrative and management turbulence, deteriorating results and increasing debt levels. The key issues facing SAA are a weak balance sheet and negative equity, liquidity challenges, negative publicity about SAA, previous board dynamics which are not helpful, suppliers having lost confidence in SAA, forensic reports pointing to rampant corruption and banks closing credit lines to the national carrier. The airline was not short of strategies- what had been lacking is the relentless focus on execution of strategy. As a result, in 2017/2018 financial year SAA incurred more losses than budgeted due to inability to execute strategy. SAA reported a net loss of R5.7 billion for 2017/18. However, year-to-date performance has been strong, as reflected in the financial results which have been above budget both for revenue and net loss. The Long Term Turnaround Strategy (LTTS) developed in 2013 was met with limited success due to a failure to implement. Therefore, SAA had since revised its strategy and turnaround plan to build a commercially focused airline with customer experience as its cornerstone. On the approved Corporate Plan for financial years 2019 to 2023, breakeven was forecasted by financial year 2021 based on key assumptions holding true. The group will incur financial losses of R5.2 billion and R1.9 billion for the financial years 2018/19 and 2019/20, respectively and thereafter SAA expects to be profitable for the remainder of the five-year period. The 2017 LTTS developed with the support of Seabury, projected that SAA would break even in 2020, however, the oil price forecast at $45 a barrel was overly optimistic and the LTTS was updated. The corporate plan is exposed to significant environmental and execution risks, driven by lack of critical skills, weak balance sheet, liquidity challenges and escalating oil prices among others. On implementation and monitoring, the long-term turnaround strategy leverages a structured approach consisting of four phases, with the initial phase focusing on addressing immediate remedial actions such as revenue stimulation; network optimisation; organisational design; supply chain transformation; and SAA Technical business process transformation, ultimately followed by growth.

On the approved Corporate Plan assumed capital injection of R21.7 billion, management has evaluated and modelled likely funding scenarios for its implementation for evaluation. The Joint Oversight Forum has also been set up to address liquidity and capital challenges at SAA. A number of key internal and external planning assumptions have changed since the Corporate Plan approval, resulting in the deterioration of the financial performance at net profit level. The changes include: foreign exchange; oil prices; network assumptions; funding and capital structure; and restructuring progress. In order to mitigate the effects of the changing assumptions on the Corporate Plan, a number of remediation initiatives have been evaluated, that will recover the plan as follows: accelerated cost containment and revenue assurance measures; Foreign Exchange revenue recovery; schedule and fleet optimisation; charters and alliances. Further, in order to mitigate the effect of the exogenous and endogenous factors a number of remediation initiatives had been evaluated.

On audit findings, SAA has seen a significant increase in irregular, fruitless and wasteful expenditure compared to financial year 2016. The Board and management acknowledge the severity of the AGSA findings and a detailed project plan was being implemented to address these findings. The previous SAA Board had commissioned four forensic investigations on a number of areas of SAA’s operations. The forensic reports were handed over to the then SAA Board, which subsequently handed them over to the current Board in November 2017 for implementation. The current Board established the Board Forensic Task Team which is constituted by some board members and SAA executives, and reports to the Board on the progress of material investigation and oversees the implementation of the recommendations contained in the forensic reports. The Board also appointed Cliffe Dekker and Hofmeyr to assist with the implementation of the recommendations. Grant Thornton, Fundudzi, and Gobodo Forensics had been appointed to conduct forensic investigations on the SITAAERO contracts, theft of Utility Loading Devices and the procurement and advertising in the New Age newspaper. The investigations are focused on the IT, Procurement and Cargo divisions of SAA. Due to the fact that SAA does not have its own forensic capacity, the airline approached the Special Investigating Unit (SIU) and requested them to second experienced forensic investigators for a period of twelve month. The Unit had also been requested to conduct a full scale investigation on procurement issues. The Hawks were setting up a team of specialist investigators to address any form of possible criminality that may have been involved.

Mr Deon Fredericks, Interim CFO, SAA, told the Committee that the national carrier has a procurement requirement of R3.5 billion for the next four months, and needs to find the money. While SAA had received the R5 billion recapitalisation from National Treasury, this would go towards paying a bridging finance debt of the same amount. The company would need more than R3.5 billion to continue procuring as expected by the end of March 2019. SAA hoped for a better outcome in its spending on fuel. Profit lost before tax projection is a R5.2 billion loss. With possible changes in fuel prices and some of the changes being put in place, SAA hoped to change this and make the overall figure lower than this.

Discussion

Dr Z Luyenge (ANC) appreciated the presentation and commended the progress recorded by the airline thus far. He wanted to know if the transformation agenda was being taken as one SAA’s priorities from the top echelons down to the lowest levels of the organisation. Did the Department of Public Enterprises receive any handover report from National Treasury following the shifting of the airline to the former purview? The efforts by the executive and management must not be overshadowed by the failures of the previous administration. How was the current administration dealing with cases of litigation emanating from the previous era? Was SAA able to pay its suppliers and service providers within stipulated payment cycles? He asked for an indication when SAA would establish routes to and from Mthatha, Eastern Cape. He wanted to know about the airline’s fleet disposal policy. Also, were there any critical vacancies which needed to be filled in the next financial year? 

Ms N Mazzone (DA) appreciated the frankness of the SAA board and management. However, this was the fourteenth turnaround strategy being presented since she joined the Committee. The national carrier had received a government guarantee last year, but it was concerning that the trend was not showing any signs of letting up. Was there any guarantee the airline would return to liquidity if it receives the R21 billion requested for 2019/20. What was SAA’s opinion on the backdrop of the Minister of Finance’s comments that the airline should be sold off. The Committee would need an exact breakdown of the routes that are profitable to SAA as well as those they were being forced to keep for political reasons. She commended its pilots for sticking through despite the tough times. She asked for a breakdown of staff required for a flight to be operational. She inquired if the current board will compile a report and hand it over to the Zondo Commission on the outcomes and findings of the various forensic investigations that are currently being undertaken by the airline.  How many criminal charges had been lodged against current and previous employees?

Mr S Swart (ACDP) wanted to know whether SAA found it constraining that it had to make purchases in specific companies in line with government policy where, in most cases, prices are inflated. There was once mention about theft of utility loading devices at SAA. What was the board doing to address this? He commended the professionalism of SAA’s pilots. To what degree should delinquent directors be made personally accountable and liable for losses in public entities, and be declared delinquent directors. He identified the need for specific details about the various investigations that were still underway. Was there any progress in instituting criminal proceedings and when they would be finalised? He thanked the board and management for the work they were doing to turn the airline around.

Mr N Singh (IFP) said this was a deja vu as he had been hearing about the same challenges at SAA for more than 12 years. Was SAA not a never-ending black hole? For how long was government going to sustain pumping money into SAA year-in and year-out? Also, the costs of SAA Technical were going way up. What was being done about this? What kind of contractual obligations were signed previously that may be detrimental and exerting pressure currently? Were there any hang-ups that SAA was currently saddled with? These could be in the form of long-term contracts entered into years ago. What progress was being made to align SAA and SA Express? Was there any investment appetite to work with SAA? There should be some semblance of stability before the realisation of investor appetite. Also, was SAA Technical still doing work for other airlines?

Mr A Lees (DA) wanted some clarity on the way forward and how SAA was going to deal with the massive amounts of money that were due by the end of March 2019. On what basis did the banks lend the airline money? He feared the banks were lending money knowing that government would always extend guarantees to the airline. Were there surplus aircraft standing around given some of the routes had been discontinued?

The Chairperson appreciated the comprehensive presentation from SAA. However as alluded to, most of the issues raised were not new to the Committee. How was SAA going to offset its shortfalls given it was operating at a loss. Why was SAA not taking the Durban-Cape Town route, especially when Parliament is in session given there was significant demand for its services, particularly from Members? Why was the said route seemingly profitable to British Airways but not SAA? 

Mr Jarana, in response, said it would not be possible to raise the entire R16.7 billion from banks and that more shareholder support would be required, with government guarantees no longer enough to entice commercial lenders. The banks had asked for two things: they want to see SAA on a path to profit and a path to debt reduction. To lower the debt there has to be an equity injection. Procurement contract defects were one of the key challenges the national carrier was targeting to improve its finances in line with the company’s turnaround strategy. The airline had pushed back its expectation of its break-even point from 2020 to 2021. Transformation was crucial and the board and management would maintain its focus on it. SAA has been working around the clock to expand and normalise its relationships with suppliers and service providers. A systematic undertaking was made to stop the malfeasance within the organisation to ensure efforts are dedicated towards dealing with aspects that are critical to the airline’s stability. There were indeed incidents of theft at SAA Technical thus security measures had been strengthened and the loopholes had been closed. To bring the perpetrators to book, SAA was working with law enforcement agents on an ongoing basis. On calls to ply routes such as Mthatha, this would be the capability of their franchise partner, SAA Express. Bringing a new route to profitability takes 18 to 24 months hence the need to balance scale and timing. He emphasised that there was a clear commitment to execute the turnaround strategy and to stabilise the airline.

Mr Fredericks said lenders had refused to lend the company R3.5 billion to plug a liquidity hole from December unless they received additional commitments from the government. The R3.5 billion was urgently required as negotiating for the loan was not possible anymore as banks require additional commitments from the shareholder. Currently SAA does not have an optimal capital structure and as a result of that the airline is dependent on debt which is not good. He pleaded with Members and the media to be careful in their remarks when holding the national carrier accountable. Reckless statements could have a significant impact on the company’s reputation and, by extension, its ability to draw in clients and funding. The airline will need shareholder support to take these requirements up. Any negative remarks about SAA from any quarter has a significant impact on SAA financially. Agents look at these and redirect their bookings. Anything like that has to do with trust.

Ms Avril Halstead, Acting DDG: Transport Enterprises, Department of Public Enterprises, said the Department did receive a handover report from National Treasury which set out the state of the airline and pending issues at that point in time. The Ministers of Finance and Public Enterprises had discussions with SAA even before the transition to look at way and areas of collaboration. SAA has been working closely with National Treasury and the Department of Public Enterprises to steer itself to profitability.

Mr Pravin Gordhan, Minister of Public Enterprises, said many of the questions raised by Members related to the broader phenomenon of state capture that many of the institutions found themselves in. There was no doubt SAA was a casualty of corruption and the suggestion that a report be prepared for the Zondo Commission was a good one. The focus had been on facilitating the stealing and thereby neglecting the operational aspects of the organisation in the process. Those who had benefitted improperly and illegally should have their assets frozen over and above criminal proceedings being instituted against them. Hopefully law enforcement would also come to the party. The Department was also confronted with a highly coordinated fight back. He implored the board and management to be courageous and remain vigilant. The airline’s revenue base needed to be rebuilt, and a clear approach from government side was to get SAA into a better state of governance. Members were right about their cynicism and the real test was for the board and management to provide tangible results by early next year. The lack of skills in specific areas of the business needed to be addressed, and more work needed to be done that would enable the airline to successfully go through the transitional period. On how the airline was able to get loans from the banks, banks want government guarantees but also want to know the plans that are in place to be able to turn the national carrier around. SAA has its own wish list. The airline would have to work with the Minister of Finance and himself to get better access to liquidity. There needs to be demonstrable evidence that they are achieving better revenue. The banks were not as friendly as they used to be. He believed a viable strategy complemented by a robust leadership was in place, and needed to be supplemented with critical skills to ensure SAA moves forward.  

The Chairperson thanked everyone and appreciated the engagements. She gave assurances that the Committee would support the board and management’s efforts to turn the national carrier around.

The meeting was adjourned.

 

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