This brief discusses the issues currently facing the state owned arms manufacturer, Denel. The focus of the brief will be on (1) profits and debt, (2) shareholder oversight and (3) the joint venture to form Denel Asia.


Background on Denel

Denel SOC Ltd (“Denel”) is a state-owned enterprise (“SOE”) and the largest manufacturer of defence equipment in South Africa, operating in the military aerospace and landward defence environment. Denel’s predecessor, the Armaments Corporation of South Africa SOC Ltd (“ARMSCOR”), was established in 1968 to satisfy the requirements of the South African National Defence Force in respect of defence materials and equipment. In 1991 the production business units of Armscor were split off in order for Armscor to become the procurement agency for the South African Defence Force (SADF), now known as the South African National Defence Force (SANDF), and the manufacturing divisions were grouped together under Denel. In 1992 Denel was incorporated as a private company.

Denel’s sole shareholder is the South African Government under the portfolio of the Department of Public Enterprises. The Minister of Public Enterprises appoints an independent Board of Directors for the company, in order to ensure compliance with the Public Finance Management Act (PFMA), treasury regulations and efficient and effective supply chain management services.

Denel is an important defence contractor in the domestic market and a key supplier to the South African National Defence Force (SANDF), both as original equipment manufacturer (OEM) and for the overhaul, maintenance, repair, refurbishment and upgrade of equipment in the SANDF’s arsenal.

Denel’s financial situation

The Denel Group’s revenue and profit after tax for the last 5 years are shown in the table below (in Rmillion):

   2011/12 2012/13 2013/14 2014/15 2015/16 
 Revenue 3 568 3 918 4 588 5 852 8 228
 Profit after tax 41 71 194 270 395

These statistics show that a relatively modest profit was made from substantial turnover over the past years, but Denel’s own profit expectations for the coming years are on a different level, as is shown in the following graphic, taken from Denel’s latest annual report:


How does Denel management justify these forecasts? It can be noted that the first strategic objective mentioned in Denel’s annual report is the “Significant increase in the order book that can be converted into cash generated revenue”, and, according to the annual report, the order book stands at a record R29bn. [1] The challenge confronting Denel is how to ensure that these forecasts are translated into reality. It is difficult to judge, as an outsider, what degree of certainty can be attached to the size of the order book. 

As is widely understood, earnings forecasts for large companies are notoriously difficult and unreliable. An inkling of the difficulties inherent in such forecasts is given by an analysis of professional consensus 3-year forecasts covering 91 JSE listed companies over 41 months, which yielded the following average errors [2]:

 Period Year 1 Year 2 Year 3 Average
 Average error (%) 23 51 71 40

Contrary to the confident tone of the annual report, in Denel’s presentation on the 2015/16 annual report to Parliament’s Public Enterprises Committee (PEC) it was clear that there is concern for the group’s financial well-being. Denel chairman Lungisani Daniel Mantsha said in response to a comment by one committee member that Denel could not keep on borrowing, that “the net profit was so meagre that it could not fund the operations.”

The magnitude of Denel’s debt is, together with the company’s aggressive profit forecasts, the major issue in any analysis of its financial situation. Denel’s debt now stands at over R3.7bn and resulted in an interest expense of R203m for 2015/16.  A South African Government guarantee covers R1.85bn of the debt. The government guarantee lasts until 30 September 2017 and “National Treasury has agreed to extend this guarantee with a condition in principle, that it be reduced with (sic) at least R650m by 2020.” [3]  We assume that what is a meant is a reduction by at least R650m. Government support via the debt guarantee is crucially important for Denel’s credit rating and the question can be raised as to what will happen if Denel is unable to reduce its debt to the level required by Treasury ?  As also stated in Denel’s 2015/16 annual report: “FitchRatings confirmed Denel’s credit rating as AAA long-term and F1+ short-term. The rating relies heavily on government support as indicated in the Fitch report. Fitch has indicated that Denel’s rating would be influenced should the government guarantee not be extended.” [4]

It is also worth considering what effect a sovereign ratings downgrade for South Africa will have on Denel’s financing costs. The Group’s annual report comments as follows: “Although Denel is concerned about the possibility of a sovereign rating downgrade, it should not influence the rating or the ability to secure funding in the capital market. Denel only issues local paper and we believe local investors still prefer government and bank paper due to liquidity.” [5] 

Denel’s reported profits have risen over the last few years, but this has not yet resulted in a steady net cash inflow. [6]  As conceded by Denel’s management in their presentation to the PEC in October last year, Denel currently faces stiff liquidity constraints, which are effectively being funded by debt at the moment.

To illustrate Denel’s position in this regard and more specifically, the importance of debt in adequately providing for its working requirements, we can look at its net cash inflows/(outflows) before financing activities, for the past 5 years (in Rmillion). These are reflected below:

2011/12 2012/13 2013/14 2014/15 2015/16
(437) (318) 268 (1 740) (1 696)


Governance issues 

On 24 July 2015, the Minister of Public Enterprises, Lynne Brown, appointed a new Denel board, with Nkopane Motseki as the only re-appointed non-executive member. How this fits in with Denel’s stated policy of staggered retirement of non-executive directors to ensure continuity, is not clear. Furthermore, it has been pointed out in press articles that the newly appointed Denel chairman, Lungisani Daniel Mantsha, was struck off the roll of attorneys in 2007 by the Gauteng High Court for, as the judge put it, “taken cumulatively the respondent’s conduct referred to in this judgement demonstrates not only that he is not a fit and proper person to continue to practise as an attorney but that the only proper sanction is that of striking from the roll”. [7]  According to a subsequent press article quoting the President of the Law Society of the Northern Provinces, he was however readmitted as an attorney in 2011. [8]

On 23 September 2015, Denel’s new board suspended Group CEO Riaz Saloojee, Group CFO Fikile Mhlontlo and Group Company Secretary Elizabeth Africa.  While press reports quoted Denel executives and Minister of Public Enterprises as saying that a recent business acquisition of BAE Land Systems South Africa (LSSA) placed Denel in a financially precarious position, no official reason for the suspensions was given at the time. The press reports are inconsistent with a previous statement by Minister Brown that “there is no impact on either the net asset or cash reserves of Denel” in a written reply to a question about the deal by shadow Public Enterprises Minister Natasha Mazzone. Furthermore, the Minister said that “Denel is convinced the acquisition is complementary to its current business and makes good business sense.”

An official statement relating to the executive suspensions was released 6 months later by Denel on 23 April 2016, entitled Denel Reinforces Commitment To Good Governance. The most informative quote from it reads “At the core of the allegations against these officials is the fact that the funding model that was approved for the BAE LSSA transaction was not implemented in that form, and BAE LSSA’s liquidity was misrepresented.”  This may seem to be in direct conflict with the Minister’s statements above.  

In a statement released 23 April 2016 it was announced that the suspended Group CEO Riaz Saloojee’s contract had been terminated and that Denel will be proceeding with disciplinary action against the remaining two suspended executives. The personnel that have been in place since the suspensions are head of business development and corporate affairs Zwelakhe Ntshepe (acting GCEO) and board committee member Odwa Mhlwana (acting GCFO).

Media reports on the matter have been rife with speculation that the real reason behind the suspension of the executives was to allow for the formation of a joint venture between Denel and VR Laser Asia to form Denel Asia, which was established in Hong Kong on 29 January 2016.  Axed CEO Riaz Saloojee was unwilling to comment to the press on such speculation but regarding possible Denel operations in Asia he is quoted as saying “I told the board we were still busy with a feasibility study to determine a strategy. There was no entity like Denel Asia on the table, much less any possible partners. This kind of business practice is not normal. Why Hong Kong? What value are these people going to add? It is not done.” [9]


The Asian venture

On 10 December 2015, Denel submitted an application to the Department of Public Enterprises and National Treasury for approval of a joint venture between Denel and VR Laser Asia to form Denel Asia. When no response on the application was received after 30 calendar days and citing Section 54(3) of the Public Finance Management Act (PFMA), Denel stated that it had assumed that permission was granted and registered Denel Asia LLC in Hong Kong on 29 January 2016. However, any further action on Denel Asia was then halted by Treasury, which gave the following reasons in a media statement released 13 April 2016, entitled Statement on Reports that Denel Established a Joint Venture :

“In terms of the conditions attached to the R1.85 billion in guarantees that have been provided by government to Denel, any significant transactions that Denel enters into require the approval of both the Minister of Finance and the Minister of Public Enterprises. 

Section 54(3) allows for an entity to “assume that approval has been given if it receives no response from the executive authority … within 30 days or within a longer period as may be agreed to between itself and the executive authority”.

Denel submitted its application in terms of Section 54(2) on 10 December 2015. However, prior to Denel submitting its application, National Treasury had outlined the information that would be required to assess the application comprehensively. The Minister of Finance is still considering this application, and further information has been requested from Denel.

More significantly, Denel is also required to comply with Section 51(1)(g) [of the PFMA], which is unequivocal in its requirement that the Board of Denel obtain Treasury approval before establishing a company. Section 51(1)(g) requires the accounting authority of an entity to “promptly inform the National Treasury on any new entity which that public entity intends to establish or in the establishment of which it takes the initiative, and allow the National Treasury a reasonable time to submit its decision prior to formal establishment”. The National Treasury received a section 51(1)(g) from Denel on 10 December 2015. The application is still under consideration and no decision has yet been made.” [10]

The Minister of Public Enterprises has prohibited Denel Asia from trading until the dispute has been resolved. There have been media reports that Treasury was planning to go to court to stop the deal. [11]

According to Denel’s latest Annual Report, Denel Asia is 51% owned by Denel and 49% by VR Laser Asia. Denel’s Chairperson, in Denel’s October 2016 presentation to the PEC, stated that “VR Asia had had to provide R100 million to set up plants and marketing. The products were made by Denel.”  Such statements raise more questions than answers: the main question being whether tangible value is to be added to the venture by VR Laser Asia, or whether the latter has acquired a 49% share in return for what is effectively the provision of agency services.

In the PEC presentation, Denel executives stated, with reference to VR Laser Asia’s parent company, VR Laser, that “VR Laser is familiar with the industrial landscape in the region [Asia] and more specifically in India through non defence business links.” However, as noted in a news article quoted at length in the Public Protector’s State of Capture Report of 14 October 2016, although some of the company’s executives have done business in at least India and Singapore, VR Laser Services’ own footprint is local. In the same article it is stated that the “Gupta family’s control of VR Laser has become clearer. Corporate records show that VR Laser is registered to the same Grayston, Sandton, office park where other Gupta businesses are based. VR Laser’s only three directors are Salim Essa, Pushpaveni Govender, who is also a director of other Gupta companies, and Kamal Singhala, a 25-year-old nephew of the Guptas who gives his address as the family’s Saxonwold compound.” [12]

VR Laser Asia is wholly owned by Salim Essa whose name appears more than 20 times (in a variety of contexts) in the Public Protector’s State of Capture report, mostly in relation to interests of the Gupta family.  

In her conclusion on the allegations about Denel and its Asian foray, the Public Protector stated in the State of Capture Report that “I have decided to investigate contracts concluded between Denel and VR Laser Services as referenced in the above media article. The investigation into Denel will however form part of the next phase of the investigation.” It remains to be seen whether these transactions will be investigated, as envisaged, by the current Public Protector.

More recently, there have also been many media reports about Salim Essa being involved in a bid to purchase a bank in South Africa. The Mail and Guardian recently reported this:

“The Reserve Bank has recommended rejecting a bid by Essa and an associate to buy Habib Overseas Bank’s local unit because of concerns about the source of income and tax declarations, according to government officials with knowledge of the matter. Officials spoke on condition of anonymity because the decision hasn’t been made public yet.” [13] 

Finally, Nkopane Motseki, the only Denel non-executive board member to be reappointed by the Minister of Public Enterprises, is mentioned in the Mail and Guardian newspaper article cited in the Public Protector’s State of Capture Report regarding allegations against Denel, where it is alleged that he is the the sole director of a company that was allocated 1.3% in a Gupta-led consortium that bought a uranium mining company now named Shiva Uranium in 2010. [14]  The article mentions that it is unclear whether or not Nkopane Motseki is still a beneficiary of the aforementioned allocation.



There are a number of issues which arise from this review of denel.

  • Firstly, the liquidity issue it faces as a viable company.
  • Secondly, its governance practices raise genuine concerns about the oversight of the shareholder.
  • Thirdly, the media reports outlining the Gupta family involvement need to be clarified, confirmed or denied.
  • Lastly - a reminder. The shareholder represents the South African citizenry who have a right to transparency and accountability.

Right now, there are too many unanswered questions.


Charles Collocott



[1] On page 89 of the 2015/16 Annual Report the order book is stated as R35bn.
[2] Busetti, F. The Effective Investor, 2009. Rollerbird Press. pg 131
[3] Denel Group Integrated Report 2015/16. pg 26
[4] Denel Group Integrated Report 2015/16. pg 25
[5] Denel Group Integrated Report 2015/16. pg 25
[6] “Contract revenue and costs relating to long-term construction contracts are recognised in profit or loss in proportion to the stage of completion of the project at year-end if the outcome of a contract can be estimated reliably.” Denel Group Integrated Report 2015/16. pg 149
[7] In the matter between Law Society of the Northern Province and Lungisani Daniel Mantsha,
[12] Mail and Guardian, Guptas conquer state arms firm Denel, 5 February 2016
[14] Mail and Guardian, Guptas conquer state arms firm Denel, 5 February 2016