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Presentation: News from the South

Conference Paper · June 2020

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3rd Workshop on "Aviation in Africa," 4 June 2020 Presentation: News from the South

Presenter: Dr Joachim Vermooten University of Johannesburg, South Africa joachim@icon.co.za +27 83 468 2111

1

South Afr frican Domestic Air Transport Market

(Number of return flights per week)

Source: http://mapsontheweb.zoom-maps.com/post/90337042369/number-of-flights-per-week-on-each-domestic-air

• Pax traffic is concentrated on Four Routes
• Golden Triangle (JNB-CPT, CPT-DUR, JNB-

DUR)

• JNB - PLZ
• Nine high density routes are competitive

(contested)

• 23 low density routes are monopoly routes

(most under SAA franchise & loyalty schemes)

2

The Pre-COVID 19 South African Aviation Sector

• Overall the South African and African air transport industries were

unprofitable due to the extreme extent of sustained large losses of SAA (since 2012)

• This is in stark contrast with the rest of the world where record profits

were made in the industry (since 2010)

• SAA losses deter viable investment
• SAA losses dissuade funding and credit to the industry (Banks required

Government Guarantees to lend to SAA)

• State financial aid distort the working of market forces (competition) and

affects private sector competitors negatively

• This threatens the future of a competitive air transport market
• No regulations to limit State Aid
• Risk of a drift into a State subsidised monopoly if State aid exclusively to

SAA continues

• Results in perpetuation of inefficiency and economic waste

3

SAA Predicament

Debt spiral / vortex

Source: http://www.google.com/imgres?imgurl=http://gcaptain.com/wp-content/uploads/2012/08/shutterstock_19351639.jpg&imgrefurl= http://www.democraticunderground.com/10025241609&h=422&w=920&tbnid=or8Xy2pCn-RB0M:&zoom=1&docid=L418JWp4FQYt1M&ei=aXbxVJvFE4a7UfLcg OAC&tbm=isch&ved=0CB8QMygAMAA www.flickr.com5. 3761064713_efa7cbe0d1.jpg

4

South African Airways (SAA) - Salient Structural developments

• In 1990 South African domestic air transport market was economically deregulated
• In 1993 international air services liberalised
• In 1999/2000 SAA corporatized into a company as a subsidiary of Transnet Ltd, properly recapitalised.
• 1999 - part privatisation, 20% of SAA sold to SwissAir holding company as Strategic Equity Partner (SEP)
• 2001 - 20% of SAA re-acquired by Transnet
• 2001 - 2006 SAA hedging losses funded and recapitalised by Transnet. Hedge book taken over by National Treasury
• 2006 - Effective date of purchase of SAA by Government (from Transnet)
• 2006 - Airlift Strategy 2006 (more capacity entitlement to foreign airlines)
• 2007 – 2008 SAA restructured and recapitalised
• 2009 -2011 SAA profitable
• 2012 scaling up of activity levels to increase Government’s role in the economy, expansion of LCC output production

(in excess of market demand), competing LCC & FSC service offerings = Dual Business Model, imposition of development mandate, removal of turnaround management, increase in employee numbers with racial quotas, B-BBEE procurement intermediaries, corruption and State Capture - Zondo Commission, CIPC Hearings, and Pretoria High Court (Court cases against former Chairperson) appointment of replacement boards and CEOs with no scheduled airline experience, increased reliance on overseas consultants, increased losses retroactive funding through State-guaranteed loans.

• 2014 Administrative authority over SAA transferred to National Treasury
• 2014 Administrative authority over SAA transferred back to DPE
• 2015 & 2017 White Paper on National Civil Aviation Policy (NCAP)
• 2012 to 2020 large losses, guaranteed debt & State funding

5

So, what happened?

SAA’s purchase and restructuring

• 2006 - Effective date of purchase of SAA (from Transnet) by Government (Department of Public Enterprises)
• 2007 – 2008 SAA restructured and recapitalised
• 2009 -2011 SAA profitable for three years

2012 onwards

• Scaling up of activity levels (production of capacity) to increase Government’s role in the economy
• Expansion of LCC output production (Competing LCC & FSC service offerings = Dual Business Model)
• Imposition of development mandate (in addition to commercial mandate = Dual Mandate)
• Removal of turnaround management
• Increase in employee numbers with racial quotas on each management level & B-BEE procurement

intermediaries

• Corruption and State Capture - Zondo Commission, CIPC Hearings, and Pretoria High Court (Court cases

against former Chairperson)

• Appointment of replacement boards and CEOs with no scheduled airline experience
• Increased reliance on overseas consultants (Multitude unsuccessful turnaround programmes)
• Increased losses retroactive funding through State-guaranteed loans

Administrative authority over SAA

• 2014 SAA transferred to National Treasury
• 2017 SAA transferred from National Treasury back to DPE

2019 & 2020

• Business Rescue & Business Rescue Practitioners (BRPs) appointed with alternative BR Plans.

6

SAA’s Financial Results

Source: SAA Business Rescue Practitioners (BRPs). Presentation to the Standing Committee on Public Accounts (SCOPA) on South African Airways SOC Limited Business

• Rescue. Slide 3. 19 February 2020

Reliance on External Consultants Amounts in R Millions Losses (Profits) Revenue

Profits Consultants

7

Source: Adapted from SAA BRPs. Presentation to the Standing Committee on Public Accounts (SCOPA) on South African Airways SOC Limited Business Rescue. Slide 3. 19 February 2020

SAA purchased by Government

Turnaround Implemented 2007 / 2009 Profitable Operations 2009, 10, 11 Production of capacity ahead

• f demand =

cause losses Increased role for Government = Growth Plan Increased employment & procurement costs & Introduction of intermediaries, result in losses Loss of demand Level revenue

SAA’s Financial Results

Consultants

8

SAA Unit it Revenue & C Cost Co Comparis isons

Source: SAA. Presentation to the Standing Committee on Finance. Slide 9, 10. 17 May 2017

Operating Gross Profit (Loss) Margins (RASK – CASK)

SAA (Mainline) Comair Air Mauritiu s Kenya Airways Fastjet Ethiopia n Airways Air New Zealand RASK 7,7 8,3 7,4 6,5 3,9 6 5,9 CASK 8,5 7,3 7,2 6,7 6,1 5,4 4,9 Gross Profit (loss) (RASK - CASK)

• 0,8

1 0,2

• 0,2
• 2,2

0,6 1 % GP Margin

• 10%

12% 3%

• 3%
• 56%

10% 17%

9

SAA’s Annual Losses (under Government Ownership)

Data Sources: National Treasury. Presentation to Select and Standing Committees on Appropriations: South African Airways Special Appropriation Bill. Slide 4; 15 May 2020. SAA Draft Annual Financial Statements 2018; SAA Draft Annual Financial Statements 2018.

• 883 -1 085

370 417 750

• 843
• 1 204
• 259
• 6 142
• 1 478
• 5 569 -5 478 -5 478
• 28 000
• 27 000
• 26 000
• 25 000
• 24 000
• 23 000
• 22 000
• 21 000
• 20 000
• 19 000
• 18 000
• 17 000
• 16 000
• 15 000
• 14 000
• 13 000
• 12 000
• 11 000
• 10 000
• 9 000
• 8 000
• 7 000
• 6 000
• 5 000
• 4 000
• 3 000
• 2 000
• 1 000
• 7 000
• 6 000
• 5 000
• 4 000
• 3 000
• 2 000
• 1 000
• 1 000

2 000 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

SAA Annual Losses (2007 -2019)

Annual Net Profit/ Loss Cumulative Net Profit/ Loss

2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 Annual Net Profit/ Loss 883

• 1 085
• 370

417 750 843

• 1 204
• 259
• 6 142
• 1 478
• 5 569
• 5 478
• 5 478
• Cumulative Net Profit/ Loss

1 968

• 1 598
• 1 181
• 431
• 1 274
• 2 478
• 2 737
• 8 879
• 10 357
• 15 926
• 21 404
• 26 882
• Losses since 2007:
• R26.9 billion
• $1.5 billion at 17.43

10

Financing of SAA’s Losses

14 634 19 114 34 204

• 10 000

20 000 30 000 40 000 50 000 60 000 70 000 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020

Cumulative Financial Assistance to SAA

(Under Control of Transnet and Government)

Total Under Transnet Control Cumulative - Government Guarantees Cumulative - By Government Cash Injections

Financial Assistance to SAA since 2007 US$ 3.9 billion.

Rand : US Dollar Exchange Rate 17,43

Data Sources: Transnet Annual Reports 2006 & 2007; SAA Annual Financial Statements 2000 to 2019; DPE. Recapitalisation and guarantees to SAA since 2003 04 2020 03 5; National Treasury Annual Report 2017/18 and National Treasury Annual Report 2018/19

(in Millions)

Funding under Transnet Ownership Funding under Government Ownership

SA Rands US Dollars Under Government Ownership 53 318 3 059

• Cash transfers

34 204 1 962

• Guarantees

19 114 1 097 Under Transnet Ownership 14 634 840 Total Finacial Assistance 67 952 3 899

11

Unusual fu funding of f SAA's lo losses

• The regular funding process in terms of the Public Finance Management

Act (PFMA), required the pro ante budgeted Government expenditure through the annual budgetary appropriations to departments, and Government-owned entities (voted for by Parliament's Portfolio Committees)

• SAA's funding was sourced differently. Typically, two Ministers would issue

Government guarantees to enable SAA to borrow from banks (primarily to cover past losses), ex-post facto to facilitate the publication of SAA's historical financial statements on a going concern basis (until 2017).

• Later, special cash appropriations are made to SAA to repay some of SAA's

guaranteed debt.

• The guarantee funding process circumvented the normal parliamentary

budgetary process. Neither the taxpayer or voters have any say on SAA's business plans which would incur substantial annual losses. The guarantees commit the taxpayers' National Revenue Fund to repay such loans in the event of SAA's inability to do so as a charge against the National Revenue Fund.

12

SAA Debt split by Due Date

Source: SAA. SAA Q3 FY2018 Report. Presentation to the Standing Committee on Finance (SCOF). 27 March 2018. Slide 5 13

SAA’s Insolvent Financial Position (Assets, Liabilities & Negative Equity)

• SAA’s financial position deteriorated as a result of several years of significant losses
• SAA became increasingly reliance on government support
• SAA was technically insolvent (Liabilities exceed Assets which implies that Shareholder Value

was negative)

• Initially SAA was granted guarantees of R1.3 billion in 2007. This increased to R19.1 billion, which

included R5 billion guaranteed debt which was maturing in the 2018/19 fiscal year, which SAA could not repay, even following recapitalization in the 2017/18 year of R10 billion. Default would trigger repayment of R16.7 billion debt.

Source: National Treasury. MTBPS Recapitalization of SAA. Presentation to Select and Standing Committees on Appropriations: South African Airways Special Appropriation Bill. Slides 5,6. 2017 14

Expansion of Production of Domestic Seat Capacity (2012 to 2017)

SAA & Mango Comair Regional Airlines

2010 2019 SAA 45% 20% Mango 11% 21% SAA & Mango 56% 41%

SAA & Mango Share of Production

• f Domestic Seat Capacity

Data Source: Anna. Aero. South African Airways to end; true independence & clean balance sheet crucial for new airline. Airline Analysis. 5 May 2020. https://www.anna.aero/2020/05/05/south-african-airways- to-end-true-independence-clean-balance-sheet-crucial-for-new-airline. 5 May 2020.

Source: SAA. Presentation to the Standing Committee on Finance. Slide 9, 10. 17 May 2017 Source: SAA. Presentation to the Standing Committee on Finance. Slide 9, 10. 17 May 2017

• Increase of LCC (Mango) aircraft & production of seat capacity
• Further decrease of FSC (SAA) aircraft & production of seat capacity by 2019
• Narrow-body fleet units increased (both new replacement aircraft & aircraft to be replaced kept)
• Cessation of most SAA domestic production of seat capacity in 2020 (only one route (JNB-CPT) retained)
• Mango consolidated at JNB abandoned Lanseria (HLA)

Expansion of output production (Competing LCC & FSC service offerings) Dual Business Model

• Slight decrease of FSC (SAA) aircraft & production of seat capacity by 2017

15

Reliance on External Consultants by SAA CEOs

Source: SAA. Presentation to the Standing Committee on Finance. Slide 9. 29 November 2017. Business Rescue Practitioners (BRPs)

Act: Zuks Ramasia

Minister DPE Unions Seabury Alvarez & Marsal PWC Period under Business Rescue December 2019 onwards

16

Tenures of SAA’s CEOs & Chairpersons

Source: SAA. SAA Q3 FY2018 Report. Presentation to the Standing Committee on Finance (SCOF). 27 March 2018. Slide 5

Note: Acting CEO’s are not listed

Effective date

• f SAA’s Purchase

17

SAA: Advancing developmental mandate Employment equity tar argets an and ach achie ievements at t 31 31 Mar arch 20 2019 19

Occupational Levels South Africans Foreign Nationals Grand Total Male Female Male Female

African Colour ed Indian White African Colour ed Indian White

Top Management Actual 2 4 1

7

Target 3 1 4 1

9

Senior Management Actual 26 1 7 12 7 2 1 7 1 2

66

Target 20 2 2 13 15 4 1 5 1 1

64

Middle Management Actual 136 40 72 502 99 18 38 111 2 1

1 019

Target 180 44 64 535 139 24 28 119 2 1

1 136

Skilled Actual Actual 146 39 28 71 201 42 31 82

640

Target 175 36 21 72 222 43 22 81 1

673

Semi-skilled Actual Actual 939 159 56 137 1 281 246 102 216 6 15

3 157

Target 1 055 161 56 167 1 416 235 86 253 6 13

3 448

Unskilled Actual Actual 4

4

Target 1 4

5

Temporary Actual Actual 5 2 2 6 5 2 1 1

24

Target 1 2 1

4 Grand Total Actual Actual 1 254 241 165 728 1 601 310 173 417 9 19 4 917 Target 1 435 243 143 790 1 801 306 137 458 10 16 5 339

SAA’s Report at end of year two of the SAA Five-Year Employment Equity (EE) Plan at 31 March 2019.

• A general over representation
• f Indian Male and Female

employee at various

• ccupational levels
• African employees are under-

represented at various

• ccupational levels.
• White employees are

marginally under- represented.

• 34 employees with

disabilities constituted 0.66%

• f the set target of 2% by FY

2022.

Source: SAA. Briefing to the Portfolio Committee on Public Enterprises. Addressing Governance Challenges and Advancing Developmental Mandate. Page 32. 18 September 2019 18

Actual Composition of Employment equity at 31 March 2019

Level African Coloured Indian White South Africans Foreign Nationals Grand Total Top Management

86% 14% 100% 100%

Senior Management

50% 5% 12% 29% 95% 5% 100%

Middle Management

23% 6% 11% 60% 100% 0% 100%

Skilled Actual Labour

54% 13% 9% 24% 100% 100%

Semi-skilled Actual Labour

70% 13% 5% 11% 99% 1% 100%

Unskilled Actual Labour

100% 100% 100%

Temporary Actual Labour

42% 17% 8% 29% 96% 4% 100%

Grand Total Actual

58% 11% 7% 23% 99% 1% 100%

Level African Coloured Indian White South Africans Foreign Nationals Grand Total Top Management

6

• 1
• 7
• 7

Senior Management

33 3 8 19 63 3 66

Middle Management

235 58 110 613 1 016 3 1 019

Skilled Actual Labour

347 81 59 153 640

• 640

Semi-skilled Actual Labour

2 220 405 158 353 3 136 21 3 157

Unskilled Actual Labour

4

• 4
• 4

Temporary Actual Labour

10 4 2 7 23 1 24

Grand Total Actual

2 855 551 338 1 145 4 889 28 4 917

Source: SAA. Briefing to the Portfolio Committee on Public Enterprises. Addressing Governance Challenges and Advancing Developmental Mandate. Page 32. 18 September 2019

Actual at 31 March 2019 Percentage of Each Level at 31 March 2019

SAA: Advancing developmental mandate

19

Targeted Composition of Employment equity

Source: SAA. Briefing to the Portfolio Committee on Public Enterprises. Addressing Governance Challenges and Advancing Developmental Mandate. Page 32. 18 September 2019

Target Targeted Percentage of Each Level

Level African Coloured Indian White South Africans Foreign Nationals Grand Total Top Management

7

• 1

8 1 9

Senior Management

35 6 3 18 62 2 64

Middle Management

319 68 92 654 1 133 3 1 136

Skilled Actual Labour

397 79 43 153 672 1 673

Semi-skilled Actual Labour

2 471 396 142 420 3 429 19 3 448

Unskilled Actual Labour

5

• 5
• 5

Temporary Actual Labour

2

• 2

4

• 4

Grand Total Target

3 236 549 280 1 248 5 313 26 5 339

Level African Coloured Indian White South Africans Foreign Nationals Grand Total Top Management

78% 11% 89% 11% 100%

Senior Management

55% 9% 5% 28% 97% 3% 100%

Middle Management

28% 6% 8% 58% 100% 0% 100%

Skilled Actual Labour

59% 12% 6% 23% 100% 0% 100%

Semi-skilled Actual Labour

72% 11% 4% 12% 99% 1% 100%

Unskilled Actual Labour

100% 100% 100%

Temporary Actual Labour

50% 50% 100% 100%

Grand Total Target

61% 10% 5% 23% 100% 0% 100%

SAA: Advancing developmental mandate

20

Procurement and supplier development Targets and achievements for as at 31 March 2019

Performance criteria Q1 Value Q2 Value Q3 Value Q4 Value Trend

Cumulative total spend 6 892 698 704 13 637 534 592 21 319 408 326 29 833 255 166 Total procurement spend 6 892 698 704 6 744 835 888 7 681 873 734 8 513 846 840 Local procurement spend 4 263 876 774 3 808 058 508 4 306 851 782 5 524 296 036 Target value (70%) 4 824 889 093 4 721 385 122 5 377 311 614 5 959 692 788 Actual % 62% 56% 56% 65% Spend on B-BBEE Compliant Suppliers 3 536 030 580 3 295 069 865 3 601 749 872 3 472 945 925 Target 70% 2 984 713 742 2 665 640 956 3 014 796 247 3 867 007 225 90 Spend on <50% Black Owned (BO) Suppliers 3 397 180 963 3 213 092 115 3 500 180 524 3 420 953 338 Spend on >50% (“Majority”) Black Owned (BO) Suppliers 138 849 616 81 977 750 101 569 347 51 922 587 Spend on >30% (“Majority”) Black Women Owned Suppliers 82 961 276 34 103 754 37 537 048 36 774 463 Spend on >50% (“Majority”) Black Owned SMME (EME’s & GSE’s) Suppliers 94 190 744 43 404 272 78 599 657 28 894 358 Spend on >50% Black Youth Owned Companies 7 917 752 11 941 924 14 318 372 5 738 005 Local suppliers BBBEE compliant 59% 62% 82% 82% Target 100% 100% 100% 100%

Source: SAA. Briefing to the Portfolio Committee on Public Enterprises. Addressing Governance Challenges and Advancing Developmental Mandate. Page 34. 18 September 2019

Incorrectly Calculated

SAA: Advancing developmental mandate

21

B-BBEE Procurement and supplier development Targets and achievements for as at 31 March 2019

Data Source: SAA. Briefing to the Portfolio Committee on Public Enterprises. Addressing Governance Challenges and Advancing Developmental Mandate. Page 34. 18 September 2019

Incorrectly Calculated

Performance criteria QI Value Q2 Value Q3 Value Q4 Value Total Cumuative total spend 6 892 698 704 13 637 534 592 21 319 408 326 29 833 255 166

71 682 896 788

Total procurenent spend (A) 6 892 698 704 6 744 835 888 7 681 873 734 8 513 846 840

29 833 255 166

Local procurenent spend (B) 4 263 876 774 3 808 058 508 4 306 851 782 5 524 296 036

17 903 083 100

Target value (70%) Local to Total Procurement Spend (A*70%) = C 4 824 889 093 4 721 385 122 5 377 311 614 5 959 692 788

20 883 278 616

Actual % Local to Total Procurement Spend (B / A) 62% 56% 56% 65% 60% Actual Spend on B-BBEE Compliant Suppliers (D) 3 536 030 580 3 295 069 865 3 601 749 872 3 472 945 925

13 905 796 242

Target 70% of B-BBEE of Local Procurement Spend (B*70%) = E 2 984 713 742 2 665 640 956 3 014 796 247 3 867 007 225

12 532 158 170

= Calculated Over (under) B-BBEE Spend (D - E)

551 316 838 629 428 909 586 953 625 394 061 300

• 1 373 638 072

Spend on <50% Black Owned (BO) Suppliers (F) 3 397 180 963 3 213 092 115 3 500 180 524 3 420 953 338

13 531 406 940

Spend on >50% ("Majority'") Black Owned (B0) Suppliers (G) 138 616 81 977 750 101 669 347 61 922 687

245 708 400

= Calculated Total <50% & >50% Actual Spend on B-BBEE Compliant Suppliers (F + G) 3 397 319 579 3 295 069 865 3 601 849 871 3 482 876 025

13 777 115 340

= Difference of Total Actual B=BBEE spend and calculated B-BBEE spend 138 711 001

• 99 999

9 930 100 128 680 902

• Spend on >50% ('Majority") Black Women Owned Suppiers (H)

82 961 276 34 103 754 37 537 048 36 774 463

191 376 541

Spend on ("Majority') Black Owned SMME (EME's& GSE's) Suppliers (I) 94 190 744 43 404 272 78 599 657 28 894 358

245 089 031

Spend on >50% Black Youth Owned Cornpanies (J) 7 917 752 11 941 924 14 318 372 5 738 005

39 916 053

SAA: Percentage of Local suppliers BBBEE compliant (According to SAA Presentation) (Calc seems to be wrong) (K) 59% 62% 82% 82% SAA: Target (According to SAA Presentation) (L) (Should be based on E)

100% 100% 100% 100%

= Calculated Percentage of BBBEE compliant Actual Spend to Actual All Local suppliers Spend, (D / B) - (M) Comparate to the 70% Target 83% 87% 84% 63% 78% = Calculated Percentage of BBBEE compliant Actual Spend to B- BBEEE Targeted Spend of Local Suppliers (D / E) - (N) 118% 124% 119% 90% 111%

• Calculated Percentage over (under) BBBEE Spend to Targeted Level
• f Local suppliers Spend, (D - E) / E) = (O)

18% 24% 19%

• 10%

11%

Correctly Calculated

SAA: Advancing developmental mandate

22

High Level of Irregular & Fruitless and Wasteful Expenditure in Procurement

2019 2018 2017 Operating Costs 26 023 28 105 29 313 Fuel 8 016

• 7 359
• 7 365
• Employees

6 591

• 5 140
• 6 130
• Operating Costs (excluding fuel & Employees)

11 416 15 606 15 818 + Irregular spend - current year 2 051 11 273 11 985 Percentage Irregular Spend 18% 72% 76%

SAA notes to draft annual financial Statements for 2018 and 2019

Irregular spend 2019 2018 Opeing balance 22 060,6 113,6 + Irregular spend - current year 2 051,0 9 962,5 + Irregular spend - prior year 1 310,8 11 984,5

• Condoned or Written Off

31,7

• Irrgular spend awaiting condonement

25 390,7 22 060,6 PFMA Non Compliance Fruitless and Wasteful expenditure 2019 2018 Opening balance 24,8 46,2 Fruitless and Wasteful expenditure - Current Year 153,2 130,3

• Condoned or Written Off
• 138,8
• Transfer to recovery receivables

1,0

• 12,9

Fruitless and Wasteful expenditure - Closing Balance 177,0 24,8

Source: SAA. Draft Annual Financial Statements 2018 and 2019

23

SAA’s 2013 and 2017 Restructuring Plans

SAA’s 2018 Reasons for Underperformance

• Lack of coherent, integrated strategy
• Overt focus on cost reduction without

adequately addressing operating model constraints

• Limited commercial and business skills

to drive revenue growth

• Reduced customer focus
• Inability to attract and retain best talent

in the market

• Poor implementation driven by a lack of

communication

• Instability of management and

breakdown of culture

• Slow decision-making often due to

increased management restrictions

Source: SAA. Presentation to the Standing Committee on Finance (SCOF). SAA Q3 FY2018 Report. 27 March 2018. Slide 6

LTTS (Long Term Turnaround Strategy) 2013 Corporate Plan April 2017 – March 2023 Actual Results

24

SAA’s Accelerated LTTS SAA’s last turnaround plan in 2018

SAA Presentation to Portfolio Committee on Public Enterprises. Flying out of the Thunderstorm. Slide 13. 27 November 2018 Sources:

• SAA. Presentation to the Standing Committee on Finance (SCOF),

SAA Q4 FY2018 Report. Slide 7. 7 June 2018

• Breakeven forecasted in 2021
• Required R 21 billion cash
• Hockey Stick Turnaround?

SAA Reasons for failure of implementation of strategies

• Lack of commercial skills
• Lack of focus on certain key levers
• Lack of stability in executive management positions
• Restrictions on decision making placed on management

R3 billion improvement required R3 billion improvement required

25

Options considered by Cabinet in November 2019

Options considered by Cabinet in November 2019

• Leave the airline "as is'
• Business Rescue process
• Place SAA into voluntary or involuntary liquidation, and
• Radical restructuring of the airline (preferred option)

26

Events Leading to SAA’s Business Rescue

• At first a radical restructuring option was selected (on basis that SAA could still be

resuscitated)

• However, SAA was financially distressed – SAA could not able to pay its debts when they are

due and payable.

• The Banks were unable to lend to SAA without Government Guarantee.
• Government was unable to provide guarantees to SAA
• SAA’s liquidity position deteriorated
• SAA could not pay salaries for the month of November 2019 due to liquidity challenges
• Top Travel Insurers withdrew over benefit for SAA tickets
• The International Air Transport Association (IATA) also requested Government Guarantee to

cover billing service provision

• Flight Centre (largest Travel Agent Group) banned selling SAA tickets
• SAA was unable to meet commitments and government could not provide liquidity
• To avoid trading recklessly, the Board placed SAA in Business Rescue

Source: BRPs. Presentation to the Standing Committee on Public Accounts on South African Airways SOC Limited. Business Rescue. 19 February 2020

27

Current Status – May 2020

Government cannot fund any scenario of business rescue plans developed by the BRPs BRPs proposed two alternatives:

• A wind down process. Includes termination of the employment of employees by

agreement (with severance packages), a sales process of assets to result in a distribution

• f such proceeds to affected parties who are entitled thereto in terms of the business
• rescue. This business rescue plan would secure a better return for SAA's creditors than

would result from its immediate liquidation.

• An urgent application to Court for an order to discontinue the business rescue

proceedings and place SAA in liquidation. Minister of Public Enterprises demand that a "new airline" be created to take the place of South African Airways, either:

• An entirely new company and trying to acquire a few of the most important assets of

the old SAA. The other option would be to restructure or reorganise the existing SAA by doing away with what is not functioning in order to keep what is central to the mission of resulting the "new airline".

• Alternatively to restructure or reorganise the existing SAA by doing away with what is

not functioning in order to keep what is central to the mission of resulting the "new airline". BRPs to publish final business rescue plan by 8 June 2020

28

BRPs Tim imeline of Salie lient Events

Part art 1

Date Salient BRP Developments

5/12/2019 SAA placed under business rescue supervision & business rescue practitioner (BRP) appointed 7/12/2019 SAA obtains Post Commencement Finance Facility from Lenders for R 2 billion ("PCF Facility") SAA extended security deposit to IATA for USD 20 million by 12 months Reinstate the Standard Bank Working Capital Facility ("Std Bank G8F Facility) R250 million for SAA to operate to January 2020 17/12/2019 Inform National Treasury that the initial R2 billion would run out by 23 December 2019 19/12/2019 Various restructuring options presentated to DOE & National Treasury 20/12/2019 The first meeting of creditors and employees of SAA was held National Treasury confirm commitment to provide additional R2 billion (expected by 29 December 2019) 23/12/2019 Further restructuring options provided to National Treasury (and the Minister ot Finance) 24/12/2019 IATA guarantee reinstateted for USD 58 million 31/12/2019 National Treasury advise that the additional instalment of ZAR 2 billion would be advanced in instalments (1st R 500 million by 3 January 2020) 02101/2020 SAA accessed the Reinstated Std bank G8F Facility as the R2 billion had been exhausted for SAA to remain operational 03/01/2020 Presented analysis of options (including cash now funding requirements going forward) to the shareholder, based onPwC and Alvarez and Marsal work 15/01/2020 The DPE advised that Govemment supported the option ot restructuring SAA by creating a New Holding Company which would preserve approximately 5,000 jobs and be financially sustainable and operationally efficient

29

BRPs Tim imeline of Salie lient Events

Part art 2

Date Salient BRP Developments

16/01/2020 Meeting between all relevant stakeholders (BRPS, the Lenders and DPE & National Treasury). Funding could not be obtained trom the Lenders 22/01/2020 BRPS approached DBSA tor funding (supported by Government). Negotiations on the basis that the DBSA was interested in acquiring 100% of the shares in Mango SOC Limited, SAA Technical SOC Limited and/or the Voyager division of SAA_ 27/01/2020 Agreement signed with the DBSA lending SAA R3.5 billion. Funding provided SAA operational breathing space and tpo develop business rescue pIan. 28/01/2020 A business rescue plan developed to consult with affected persons. Publication ot the draft plan set for the week commencing 16 March 2020. 06/02.2020 Announcement of cessation on unprotitable routes, in line with restructurin opions selected Govemment 09/03/2020 SAA commenced the S189 retrenchment rocess to retrench certain employees. 15/03/2020 President declare COVID 19 national state ot disaster in terms of the Disaster Management Act, 57 ot 2002. 23/03/2020 SAA ceased operations now under care and maintenance 27/03/2020 The national lockdown commenced 02/04/2020 BRPs correspondence to DPE

• How the COVID-19 virus was impacting on the business of SAA;
• Proposal for Care and maintenance plan and various scenarios and costoings for the restart of the operations of SAA in the event of

a prolonged lockdown

• A request tor the extension ot the foreign borrowing limits of SAA, required by the potential intemational funders of overall restructuring and care

and maintenance period

• Requested Govemment response on care and maintenance plan and commitment on funding for SAA.

10/04/2020 DPE notify BRPs. No further funding would be provided to develop and implement a business rescue plan

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BRPs Tim imeline of Salie lient Events

Part art 3

Date Salient BRP Developments

14/04/2020 Response trom DPE:

• Govemment will not support the extension ot the foreign currency borrowing limit to permit foreign financing of the business rescue plan nor tor

a care and maintenance budget as proposed by the BRPs.

• Govemment is unable to provide additional funding to sustain the business rescue process.
• No lending guarantees to be provided for business rescue rocess

Current

SAA has proposed an acceleration and conclusion of the section 189 process by way of a mutually agreed termination of employment and agreement ot severance packages with employees BRPs have presented various altemative routes to Govemment on the most practical and risk-appropriate path to move forward 15/05/2020 Two options were identified by the BRPs:

• A wind down process. Includes termination of the employment of employees by agreement (with severance packages), a sales

process of assets to result in a distribution of such proceeds to affected parties who are entitled thereto in terms of the business rescue (based on the fact that the BRPS have no further funding. This business rescue plan would secure a better return for SAA's creditors than would result from its immediate liquidation.

• An urgent application to Court for an order to discontinue the business rescue proceedings and place SAA in liquidation.

16/05/2020 Minister of Public Enterprises demanded another that a "new airline" be created to take the place of South African Airways:

• An entirely new company and trying to acquire a few of the most important assets of the old SAA. The other option would be to

restructure or reorganise the existing SAA by doing away with what is not functioning in order to keep what is central to the mission of resulting the "new airline".

• Alternatively to restructure or reorganise the existing SAA by doing away with what is not functioning in order to keep what is

central to the mission of resulting the "new airline". May-20 DPE appoints Seabury (aviation consultancy) to advise on post COVID 19 restart a new airline (alternative recue plan) Unions participated in technical workshops and designing a new airlinend indicated willingness to undertake a salary sacrifice. A social plan for those employees who will not be accommodated (involving training and assistance from the UIF) is being designed. 31

Relevant South African Economic Regulatory Reform Measures

• 1990 - Deregulation of Domestic Air Services
• Domestic Air Transport Policy 1990 & Air Services Licensing Act 1990
• 1991 - Structure of SAA & Level playing fields: Addendum to Domestic Air Services Policy
• 1993 - International Air Services Liberalised
• International Air Transport Policy
• International Air Services Licensing Act 1993
• 1996 - White Paper on National Transport Policy - confirmed existing policy
• 2006 - Airlift Strategy 2006 (more capacity entitlement to foreign airlines)
• 2015 & 2017 White Paper on National Civil Aviation Policy (NCAP) (confirmed
• This presentation is mostly focussed on the domestic air transport policies

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South African Domestic Air Transport Policy Four Basic Principles

• Safety is of paramount importance…

Economic decisions should, subject to the general controls over economic activity applicable to all industries, be left to competitive forces to resolve

• Users' interests and views should specifically be taken into

consideration All participants to be treated equally before the law, meaning that

• perators should be subject to the same rules

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Domestic Air Transport Policy Premised on Competitive Air Transport Markets

• Second principle: Economic decisions should, subject to the general controls over economic activity

applicable to all industries, be left to competitive forces to resolve (DATP R4,R27: 5,9) (WPNTP1996: 31)

• The civil aviation mission is “to maintain a competitive civil aviation environment ….” (WPNTP: 30)
• Strategic Objectives: (WPNTP: 30)
• “Civil aviation policies should encourage participation in the aviation industry by creating an

environment where investors can realise adequate returns on their investments”. “Economic decisions should, as far as possible, be subject to general competitive principles applicable to all industries, with a view to maximising consumer choice and needs satisfaction”.

• The Airlift Strategy of 26 July 2006 and requires that the “current unbundling of SAA from Transnet should

ensure equal treatment of all participants in the air transport market as well as ensuring that SAA

• perates efficiently, effectively and on a sound commercial basis” …”consistent with the White Paper on

National Transport Policy, 1996” (AS: 13&36)

• State monopoly not envisaged as part of the domestic air transport policy

Sources: Domestic Air Transport Policy (1990) White Paper on National Transport Policy (1996: 7, 30). The Airlift Strategy 2006

34

Domestic Aviation Policy Provisions dealing with the role of Government

• “Government intends to … focus on policy and strategy formulation which are its prime role, and

substantive regulation which is its responsibility , with a reduced direct involvement in operations and in the provision of infrastructure and services, to allow for a more competitive environment (WPNTP:7)

• “the Government will strive to level playing fields, and will promote competition where

appropriate”. (WPNTP:9)

• With regard to the “regulation of the operations of competing operators” the White Paper on

National Transport Policy stated that “The role of Government will be that of ensuring level playing fields, and regulation for safety, leaving the operator as much freedom as possible to provide customer service as demanded in a competitive environment”. (WPNTP:10)

• However, contrary to expectations, Government increased its direct involvement in operations
• Government now fully owns three airlines (SAA, its subsidiary Mango Airlines and SA Express

(a SAA franchise) a minority interest in Airlink (anther SAA franchise)

• Since 2012 Government decided to increase its role in the economy by adding more

equipment , routes and producing more capacity

35

The Domestic Air Transport Market Pla laying Fie ield ti tilted by State Aid id

Source: Image from Association of European Airlines. Challenges facing the European Airline Sector. October 2011 : 13

Pumped-up by State Aid (Guarantees and cash transfers)

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Addendum to Domestic Air Transport Policy 1991

With regard to these recommendations, the Government has decided as follows: “On the basis

• f the Domestic Air Transport Policy Document …. the Cabinet agrees that:
• (a) South African Airways (SAA) must operate autonomously and on a commercial basis
• (b) SAA must be prevented to use profits made on its international services to subsidize its

domestic services;

• (c) mutual cross-subsidization between SAA and Transnet must be prevented;
• (d) SAA will not render any services to the Government below actual cost;
• (e) SAA will pay taxes, licence fees, landing fees, airport charges, etc. in full, if it is not already

the case;

• (f) SAA will not enjoy any privileges, as a result of its vested position, regarding the use of

airport facilities;

• (g) SAA will not enjoy any privileges in terms of any legislation or any other practice as a result
• f it being part of Transnet or as a result of it being a Government enterprise;
• (h) the Government will in future not guarantee new loans to SAA or any other airline with

Government interests, whilst private airlines have to borrow at their own risk; and

• (i) the Minister of Economic Co-ordination and Public Enterprises ensures that the steps taken

by him in regard to the transfer of the business of the South African Transport Services to Transnet will not be to the advantage or disadvantage of SAA’s competitive position, with specific reference to the valuation of assets.”

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The Domestic Air Transport Policy The Equal Treatment Principle:

Domestic Policy Compliance to the Domestic Policy Entry into the market ✓ Capacity ✓ Air fares ✓ Routes ✓ Exit from the market ✓ Private sector airlines exit the market  SAA does not exit the market (even when insolvent and not being a going concern)  Expectation that SAA will be bailed out – Guarantees to borrow more money to fund losses, Government repay debt  Going concern not based on operating performance button guaranteed borrowings  SAA resist restructuring Treated equally before the law  SAA shielded from market financial discipline Subject to the same rules  SAA does not reporting its financial statements in time Equal treatment of all participants  Guarantees benefit SAA only (discriminates)  No guarantees to private sector airlines that also experience financial difficulties

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The Domestic Air Transport Policy The role of SAA

Part 1

Domestic Policy Compliance to the Domestic Policy SAA must operate autonomously  Organisationally SAA operates a dual mandate (including s development) under a Minister as executive authority SAA must operate commercial basis  SAA incurs and sustains losses  SAA does not yield an appropriate rate of return on assets employed  SAA’s accumulated losses exceed its share capital (equity) base  SAA does not produce a dividend to its ordinary shareholder SAA operates efficiently and effectively  SAA revenue does not cover its costs  Unit cost CASK too high SAA must be prevented to use profits made on its international services to subsidize its domestic services SAA to ensure that no cross- subsidisation takes place between its international and domestic services  No ring-fencing  No divisional financial statements published  Yields on African services substantially higher than domestic services  No such assurance  Heavy long range wide-body equipment used in short haul domestic market (probable cross-subsidies and aggregation of loyalty schemes

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The Domestic Air Transport Policy The role of SAA

Par art 2

Domestic Policy Compliance to the Domestic Policy SAA will not enjoy any privileges in terms of any legislation or any other practice as a result of it being … a Government enterprise  SAA can expand whilst incurring losses  Easy money through guarantees  Does not present prospectus to raise capital  SAA does not meet its KPI – profitability and rewarded with further guarantees  SAA board and management protected from Companies Act requirements (reckless trading) through bail-outs The Government will in future not guarantee new loans to SAA or any

• ther airline with Government

interests, whilst private airlines have to borrow at their own risk  Guarantees are granted to SAA.  No guarantees provided to private sector airlines  Guarantees by-pass parliamentary budget process and accountability

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The Domestic Air Transport Policy The role of the Competition Authorities

Par art 3

Domestic Policy Compliance to the Domestic Policy The Competition Board to take such additional steps to ensure the SAA will, as a result of its relations with the Department of Transport, Transnet or the Government, not obtain an unfair competitive advantage over the other participants in a deregulated air transport industry in South Africa  In 1992 Competition Board reported on its investigation into domestic air transport services (Concluded: “SAA’s behaviour constituted a restrictive practice warranting appropriate remedial action”  Competition Commission has not since investigated the advantages that SAA obtains over other participants  Guarantees are granted and SAA is bailed-out whilst private sector airlines that experience financial difficulties face the financial disciplines of the market – business rescue / liquidation – exit the market

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Im Impact of f State aid id on competitors

• If a government subsidizes company “A”, and not its competitors:
• It is able to take a larger share of the market than it would have had in the

absence of that state aid, even if it was far less efficient than its competitors

• It does not have to compete on merit
• It does not have a strong incentive to improve the efficiency of its operations

nor to invest in product or process innovation

• It would be less inclined to adopt difficult measures required to become more

efficient in the knowledge that it will always be able to rely on a government bail out if things go wrong

• In a declining market, the State aid could enable it to drive much more efficient

competitors out of the market altogether

• Subsidies distort price signals and result in deviation from real cost-based prices.

This normally leads to a sub-optimal production inputs. Fair and free competition can be distorted not only by the abusive behaviour of companies, but also by government interventions, such as subsidies. This is why effective safeguards are needed to prevent individual governments from giving domestic companies undue advantages over competitors

Source: Miek Van der Wee. Head of Unit International Relations. DG Competition. State aid and distortion of competition. Speech at Conference on "Competition Enforcement Challenges & Consumer Welfare". Islamabad, 2 December 2011. http://ec.europa.eu/competition/speeches/text/sp2011_17_en.pdf

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Why is a level playing fi field necessary ry?

OECD Findings:

• SOEs prefer to pursue revenue (output) objectives rather than profit objectives

(motivation differs)

• SOEs have advantages due to their government ownership that can create

competitive distortions

• Governments may create an uneven-playing field as they have a vested

interest in ensuring that state-owned firms succeed (conflict of interest)

• Despite its role as regulator the government may, in fact, restrict competition

through granting SOEs various benefits not offered to private firms

Source: OECD (2011) Capobianco A and Christianse H. Competitive neutrality and State-Owned Enterprises: Challenges and policy options”, OECD Corporate Governance Working Papers, No.1, www.oecd.org/daf/corporateaffairs/wp: May 2011: 4, 19)

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Unenforceable Policy Statements

• There is no redress to prevent the distortion of competition (market forces)

by State financial assistance in South Africa

• The South African Competition Authorities do not have any authority on

State financial assistance (like State-aid rules) due to its own Statutory limitations (only relates to competition between firms)

• A High Court challenge of guarantees based on the domestic air transport

policy and constitutional rights was not successful (Comair)

• The High Court also did not compel the Government to cease guarantee

funding to SAA.

• As a result, the assurances made to the private sector to enter the

domestic market was not upheld.

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Conflict of Interest in Governments role as regulator (DOT) and

• wner of SAA (DPE)
• SAA became financially distressed and was placed under business rescue.
• The Government’s (DPE’s) interest in the survival of State-owned airlines

investments (enabled by State-aid) became more important than the maintenance of a competitive market, as contained in Government’s (DOT’s) policy prescripts (role as the regulator of the airline industry)

• State aid distorted market forces, which impaired the competitive

dynamics of South African air transport over a long period of time.

• SAA’s financial distress and the inability of Government to fund its
• perations, may provide the catalyst for a normal competitive market to

develop.

45