News during the recent Brics summit that the New Development Bank (NDB) is planning to lend Transnet R18bn by the end of the year raises more questions than answers.
According to the bank’s vice-president and COO, Vladimir Kazbekov, quoted in this newspaper: “The loan itself will be for R18bn for Transnet for the modernisation of its locomotives.” This is a large slug of fresh debt for a state-owned enterprise (SOE) that recently breached its debt covenants.
In almost every mining results interview I’ve done in the past two years Transnet Freight Rail (TFR) is singled out as the biggest constraint on the local mining industry, even bigger than Eskom. A leaked letter from Minerals Council president Nolitha Fakude to Transnet chair Popo Molefe in 2022 revealed that the industry had lost faith in CEO Portia Derby and raised red flags over Transnet’s balance sheet.
Transnet breached its interest cover ratio of 2.5 times (a debt and profitability measure that determines how readily a borrower can pay interest on its existing debt) in 2021 when it sank to 2.1 times. This improved to 2.6 times the following full financial year, but then fell back to 2.1 times at the interim stage last September.
That, of course, is if you take Transnet management at their word on hefty investment property upward revaluations totalling R9.8bn during the period. Given how weak the property market has been in a rising interest rate and slow-growth environment, even just a modestly more realistic assessment brings the interest cover ratio into breach again.
Transnet is mired in debt, with long-term borrowing of R92.3bn and short-term borrowings of R36.3bn for a total of R128.6bn. It has immense capex requirements to get the country’s rail system back on track — about R110bn — and limited options to finance this. The Treasury declined a request for a R40bn bailout in 2022, instead parting with R5.8bn in the February budget.
It’s why Transnet’s hand was essentially forced, with a surprise request for qualifications announcement in January to identify parties interested in entering into an operating lease with TFR for the operation and maintenance of the container corridor (the line between Johannesburg and Durban) for 20 years.
Which brings us back to the R18bn loan. Finance minister Enoch Godongwana knows Transnet is at the mercy of the banks and debt holders now. The R18bn debt is likely to be guaranteed by the state, in line with the bank’s requirements when lending to its member states.
The Treasury released a practice note back in October 2020 in one of former minister Tito Mboweni’s parting salvos to try to improve the rapidly deteriorating quality of the government’s contingent liabilities. To obtain approval for government guarantees Transnet would have to meet these requirements.
Among these is that Transnet would have to “demonstrate adequately that it will generate sufficient cash flows during the term of the underlying transaction (for example, debt obligation) that will enable it to settle its obligation in line with the terms of the transaction timeously”, which is a taller order than a certain Spanish train.
The big question is whether Transnet is making enough cash flows to meet its interest payments. Even with a guarantee, which would credit enhance it, you are still loading up the operational cash flows of the business. And it doesn’t seem to have that headroom given it’s already in breach, according to its audited financial statements.
I can’t see how Derby has a viable pathway to remedying that breach because additional debt — presumably with interest — would worsen that interest cover ratio. That’s another unknown in this whole equation. We don’t know what other terms the NDB would impose, and whether it has non-financial factors about governance that it uses.
What we do know is that Transnet hasn’t had a primary capital issuance in the local market for some time now. It raised foreign funding in the form of a new dollar-denominated five-year note programme in January, from which it used $1bn immediately to repay a short-term R12bn bridging facility. And some of the governance concerns have been addressed with the appointment of the new board in July.
But the market’s concerns have now tilted to the operational bind Transnet finds itself in, with declining volumes, part of which have their roots in the governance challenges of the past and the corruption detailed in the Zondo reports. This means Transnet’s access to funding in the local capital markets will remain limited, with less volume and duration and at higher rates.
Even if it can overcome its impasse with Chinese Railway Rolling Stock Corporation, TFR still needs to pay for the parts. But never mind parts, R18bn is enough money to buy 150 new locos and the requisite new wagons — a huge deal. It is going to be interesting to see Transnet’s 2023 annual results considering this. I’m hearing rumours these will be delayed as discussions with lenders on extending the covenant waivers continue.
Volumes have dropped substantially, as we know from the recent spate of mining results. Exxaro expects volumes to remain depressed for the remainder of the financial year and is not forecasting an improvement in the next 12 months at least.
For 200 years railways have been about doing more with less because it’s such a capital-intensive industry. If you investigate the great American railway companies it’s what they obsess about — and of course why they are so successful.
Does Transnet need so much money for locos to be underwritten by the fiscus? Many in the industry don’t think so, and point to the real problem being the track infrastructure, which is collapsing under a decade of lack of maintenance.
Thankfully, the decision rests with the adults in the room at National Treasury.
• Avery, a financial journalist and broadcaster, produces BDTV’s ‘Business Watch’. Contact him at badger@businesslive.co.za.
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