Publication: Leon Engelbrecht Issued: Date: 2005-08-23 Reporter: Leon Engelbrecht Reporter: Reporter:

Tough Calls for Denel If It is to Survive

 

Publication 

Leon Engelbrecht
Date

2005-08-23

 

Denel will have to make tough calls if it is to survive, its new chief executive Shaun Liebenberg says. Nothing is sacred and even pet projects such as the Rooivalk attack helicopter will have to perform -- or be canned. "Our analysis of the international defence environment shows much of global defence spend is not directly accessible to independent contractors *1 like Denel," Liebenberg said. "Furthermore, changes in the (global) industry are forcing players to consolidate, build alliances and carefully focus their businesses."

In 1992 there were over 30 defence contractors in the US alone. Today there are five, he added, saying the power of these companies -- and their European equivalents -- were sufficient to muscle companies of Denel's stature out of most markets. Although world defence spending is estimated at US$1 850 billion, only US$360 billion was spent on procurement. Fifty-three percent of that amount was spent on markets in which Denel did not compete, such as submarines. Of the remaining 47 percent, 32 percent was the US and North Atlantic Treaty Organisation (Nato) market that independent contractors, such as Denel, had great difficulty accessing. In the remaining 15 percent, Denel faced stiff competition from the US and European players, as well as other independents such as the Chinese, Israelis and Indians -- and political constraints.

As a result of this, Liebenberg expected the company to post a loss of between R800 million and R850 million for the year to March 31, 2005. He also expected a loss for this financial year. The loss was about evenly spread across the group - there were no great losses offset by great profits. Many of the company's facilities are critically under-utilised and several of its businesses are bleeding badly -- Denel Land Systems Lyttleton, for example, costing R190 million a year. "Denel is facing a funding crisis, and there is significant risk associated with the current financial projections. Denel is not viable under the current model," Liebenberg said, adding the model dated back some 20 years to when the company had a captive domestic market and could hold its main customer hostage in terms of price, delivery date and product capability. "It no longer has the domestic market and scale to succeed as an independent systems integrator and exporter of a broad range of products.

To succeed, Denel should pursue a strategy based on prime contracting in the domestic market and the export of systems and components through selective equity partnerships and alliances with global prime contractors," Liebenberg said. Denel would therefore seek from the government a guaranteed minimum proportion of the South African defence development and procurement spend and partner with other state agencies and private industry. "We are presently, in may instances competing with other state agencies. There can be no 'us and them'... the industry and market is too small for that," he said. Denel would further focus on growing its financially viable businesses, especially those where the company enjoyed "real technological leadership". Other businesses would be "ring-fenced" to prevent their losses from absorbing the profits of more successful ventures, operated under management contracts or closed down. The company, which would remain totally state owned for now, would also seek to achieve economy of scale through two to four equity business partnerships with major global players. A prototype of these arrangements was currently being forged in the aviation field, where Denel is speaking to the Grintek-Kunene Brothers-Saab (GKS) group *2. "To succeed in the aerospace business requires scale and some very specific skills," Liebenberg said.

Equity business partnerships, such as the one contemplated with GKS were better than teaming arrangements as the latter were restricted to temporary synergies and limited programme funding and risk sharing. A sectoral approach was also better than offering a foreign partner an equity stake in the total company, an approach that failed with BAE Systems and EADS. In terms of equity business partnerships, Liebenberg sought deep, permanent synergies, meaning both companies would restructure businesses to focus on complimentary capabilities, creating a shared destiny that would give the partner a real incentive to make Denel a success. The implications were that Denel would have to give up those capabilities where it does not have a distinctive edge and share control over its businesses. "However, this is better than an ongoing struggle to secure export and break-even revenues." Where equity-based alliances cannot be secured, "we will have to evaluate other management models," Liebenberg said.

This would include Denel acting as a supplier where there was sufficient local markets or export market access, and as an independent alliance partner where that was not the case. It would also manage state assets under contract, with clear incentives to deliver optimal performance. Liebenberg said the strategy was already being implemented. To help the company through its funding crisis, the Treasury was extending it a R1 billion loan. "We have to go to the Minister of Finance and he is a tough guy to deal with," Liebenberg said of Trevor Manuel and the presentation of business plans to the Treasury to secure the funding.

Public Enterprises Minister Alec Erwin, who attended the press briefing given by Liebenberg in Pretoria, said he fully supported the changes Liebenberg was planning to make to the company and its modus operandi. "Do we support this? Yes... He has a mandate from the shareholder, otherwise he would not have had this presentation... This is something we back fully. "As I said in my budget vote in parliament earlier this year, there was no expectation of a short-term of magic turnaround due to the very specific characteristics of the defence environment in which Denel operates." Asked how long the turn-around would take, Erwin said it would be unrealistic to seek a profit in the next three years.

With acknowledgement to Leon Engelbrecht.

*1  This is precisely why companies like Thomson-CSF bribe their way to access of the global defence market.

*2  Precisely from whence Shaun Liebenberg came.

My personal response to the article Shaun Liebenberg to Take Over Denel from End of May published in the :

Mail & Guardian
Donwald Pressly and I-Net Bridge
15 April 2005
http://www.mg.co.za/articlePage.aspx?articleid=235040&area=/breaking_news/breaking_news__business/

was :
"Grintek has always supported the defence establishment in the form of DoD, Armscor and Denel very, very well indeed, thank you, during the period since the Arms Deal furore broke the surface.
Quido, Prodo, Wonga."

This is clearly a well-planned, well thought out strategy to get Denel out of state ownership into the hands of GKS without any irritating competition, with a nice couple of SA taxpayers' billions as a parachute so as not to tax GKS's resources too hard or expose them to too much business risk.

Although I was more than intrigued about the proposed sale of 50% of Denel to BAE Systems, I was even more intrigued  about the suddenness and manner of the breakdown of the extended negotiations between the Dept of Public Enterprises and BAE Systems.