Denel posts profit


State arsenal Denel has posted a net profit of R111 million for the year to March 2011 and generated cash of R178 million from its operations. It is the first time since 2001, when it banked R24.1 million, that the group is in the black.

The figure comes as a surprise as Minister of Public Enterprises Malusi Gigaba last month said the group had suffered a loss of R246 million. A look at the detail, however, show the profit can be attributed to a R463 million accounting gain from the restructuring of the closed Denel Pension Fund.

Denel describes its results as “encouraging”, given the challenging local and global environment.

Talib Sadik, Group CE at the results presentation yesterday said “we are pleased with our results, in particular that the business generated cash from operations of R178 million, as compared to last year, when we utilised R344 million. Denel’s defence, security, certification and training clusters, which are profitable for a second consecutive year, generated normalised profits of R130 million and cash of R278 million, through improved programme management and cost savings.

Fikile Mhlontlo, the group’s financial director, said “the results have been influenced by improved efficiencies, cost-containment exercises, improvement of financial performance by associates and significant once-off items. These once-off items include the accounting gain from the pension fund restructuring.

The earnings contribution from its associate companies increased by 46% year-on-year, Denel said in a statement. The combined order book presently stands at R2.7 billion and the combined order pipeline is R8 billion. The associates collectively spent R229 million on research and development.
“Whilst Denel’s revenue declined slightly from R3.6 billion to R3.2 billion due to non-achievement of key milestones on certain development programmes and the tough local and global environment, the group has a strong pipeline of new business prospects estimated at R44 billion, 79% of which is non-South African.”

Although the group returned to profitability for the first time in a decade, Denel’s performance continues to be negatively influenced by Denel Saab Aerostructures (DSA), which incurred a loss of R237 million, a 28% reduction compared to last year. DSA’s cash utilisation improved to R104 million, compared to last year’s R263 million, driven by the successful implementation of the turnaround plan, which commenced in 2009. The plan included improving manufacturing efficiencies and right-sizing the business towards global benchmarks. Sadik notes that had DSA achieved break-even, Denel would have posted a net profit of R348 million. He highlighted the improvement in the financial performance of DSA indicating that the operational turnaround of the business is bearing positive results.
“Notwithstanding, the narrower loss and improved efficiencies, DSA will still require further shareholder support over the next five years to ensure it becomes self-sustainable.” The development of the Aerospace Sector Development Plan, in support of government’s second Industrial Policy Action Plan (IPAP 2), should assist in the development of a viable business plan. “In addition, negotiations will commence with its main customer and industrial partner, Airbus, to improve the contractual terms of the A400M work packages.”

Sadik highlighted a below-inflation increase in operating costs which included an average salary increase of 4.8%, improved efficiencies through better programme management and group-wide cost optimisation. The presence of value-adding strategic equity partners in selected businesses enhanced profitability. These strategic equity partnerships resulted in major investments in new plants, equipment and skills development. “Our partners provided access to new markets and capital, increased the level of high value-added exports, significantly increased investment in research and development in the group, and facilitated growth in the broader South African defence and related industries,” the company said.

Outgoing Denel chairman Sibusiso Sibisi last month wrote an open letter to Business Day noting that Denel’s turnaround strategy of 2005, whose main pillar was these international equity partnerships, “is effectively on hold, with no coherent alternative, save the suggestion for Denel to ‘include civilian products in its product offering’. … There can be no consensus on Denel’s business model until there is shareholder consensus on the primary objective. This must be complemented by coherent identification of the oft-cited ‘sovereign assets” that are off-limits in any foreign equity negotiations. In the meantime, it is disingenuous to blame losses on the board.
“Denel’s woes are compounded by shareholder obsession with the products of engineering rather than the engineers themselves. There is much indignant thumping of the table regarding loss of family silver (through foreign equity partnerships) rather than concern with nurturing and replenishing the craft of making silverware in the first place,” he said.

On Denel’s high debt levels, Mhlontlo says that the funding balance has remained at R1.85 billion, resulting in an annual interest charge of R118 million. “We are engaging the shareholder with a view to restructuring the funding balance in order to reduce the interest burden”. Last month the Ministry of Public Enterprises said government has extended three existing guarantees totalling R1.85 billion (R880 million, R420 million and R550 million) until September next year “to ensure that Denel is able to continue as a going concern.”

Looking forward, Denel is actively looking at strengthening its presence in its existing, high growth markets and seeking new markets and new clients outside its traditional bases. Other key focus areas include:

  • embedding Denel’s business development model aimed at establishing a partnership with the Department of Defence (DoD) including securing a multi-year framework agreement with the DoD to ensure sustainability of core strategic capabilities and supporting international market penetration;
  • ongoing DSA restructuring in parallel with restructuring of key contracts and exploring funding alternatives;
  • entering into strategic partnerships / alliances to secure market access, improved industrialisation and co-development opportunities;
  • on-going cost-optimisation drive across the group, focusing on shared services, supply-chain optimisation and working-capital management;
  • continued improvement of project management, risk management and contract management; and
  • resolving Denel’s funding challenge.
    “Determining our main focus areas is an over-riding awareness of Denel’s main purpose of providing the DoD with cost-effective, tailor-made defence solutions that can contribute directly to the effective execution of SANDF missions locally and internationally,” Sadik said.

    The state-owned enterprise, in releasing its results, noted its strategic importance to South Africa, “not only for its role in national security, but also for its contribution towards developing SA’s advanced manufacturing capability including its role as a technology incubator and global supplier of engineering, product development, as well as wider industrial capabilities and services”.

    In a statement the company notes its products have been diversified into civilian applications such as civil security, crime prevention, protection of assets, improving workplace safety and productivity, as well as rendering support to the mining and electronic sectors. “During the 2010 World Cup, South African Police Service (SAPS) and South African Air Force (SAAF) used the Carl Zeiss Optronics observation systems for surveillance purposes.”

    Denel’s products are also assisting in countering rhino poaching, through the deployment of its 2nd generation unmanned aerial vehicle (UAV) system and its patented Mechem Explosive and Drug Detection Systems (MEDDS) system. “Denel products were also used in humanitarian activities such as clearance of remnants of war explosives, most notably this year in countries like Sudan and Angola.”

    Denel continues to contribute to both economic and social developments and has attained a level 3 Broad-Based Black Economic Empowerment (B-BBEE) status. The group employs about 6500 staff (including those in associated companies) and it is estimated that in addition to these, Denel’s activities contribute to the creation and sustainment of over 30 000 skilled, technical jobs in the broader economy. In the financial year to March 2011, Denel bought materials and services worth over R2 billion from local suppliers including spending R789 million on research and development. The company earned R1.2 billion in foreign currency, “giving a boost to the South African economy.”
    “As a global trading company with nine entities and three associate companies, we are a key player in the development of South Africa’s advanced manufacturing, industrial and technology base, Sadik said. “As a major employer of engineering talent, Denel facilitates the enhancement of the national technology and knowledge base, thus contributing significantly to development of intellectual property and the country’s human capital development.”
    “This is deemed a valued contribution as there is a critical shortage of technical skills in South Africa and, indeed, the world. As a significant employer we are making steady progress in human capital development as part of our drive to be a world-class and well respected South African company,” he said.