FUNDING AND VIABILITY
A. FUNDING
a. Background
Recently, in affirming South Africa’s credit rating of A3, Moody’s Investor Service
made the following observation:
“…[South Africa’s] structural fiscal position has deteriorated significantly and is likely
to remain so in view of the government’s plan to only gradually lower the deficit in the
years ahead. In addition, taking into consideration the massive borrowing programs
of the parastatals to finance their investment activities, some of which debt is
guaranteed by the national government, the public sector debt burden no longer
appears as favourable as it did prior to the [global financial crisis]. The national
government’s direct debt servicing capacity is not expected to be unduly stretched,
however, and tariff increases already in the pipeline will help strengthen public
utilities payment capacity in the years ahead. Still, lower growth potential in a less
supportive global environment could mean that reversing the upward debt trajectory
in coming years will prove more difficult than once envisioned. These trends were
reflected in Moody’s lowering of the government’s local currency rating two years ago
(July 2009) from A2 to A3, unifying it with the foreign currency rating, which was
raised from Baa1”. (Credit Analysis South Africa, June 16 2011)
The question of whether the manner in which State Owned Entities are appropriately
funded given their respective mandates, and in the context of a developmental state,
is a vital one. The statement by Moody’s quoted herein begins to highlight some of
the challenges that South Africa will face, and will have to address in its stated
objective to have the State at the heart of the economic development agenda of SA.
Some of these challenges are betrayed, in our view, in Moody’s misplaced optimism
that tariff increases will allow the State to continue with this trajectory. Recent and
growing resistance to the tariff structure and level of a growing list of State Owned
Entities is demonstrative of the limit of funding infrastructure investment, much of it
necessary, on the back of punitive tariff increases. An international benchmarking
study of South Africa’s infrastructure performance – using access,
affordability/pricing and quality as indicators – showed that in general South Africa
compared poorly compared to its middle-income country peers (Bogetic and
Fedderke, World Bank WPS 3830, February 2006). The case for the need to invest in
infrastructure is therefore largely made. What this term of reference seeks to address
is whether on the face fit, SOE’s capital structure and the way they fund themselves
VERMOGEN SA (PTY) LTD
trading as
IDG SA
Company Registration Number 2004/021853/07
Directors: Mr. G.M. Mbetse & Ms. B.S. Tshabalala
Block A, Wierda Court, 107 Johan Avenue, Sandton, 2196, South Africa
Private Bag X10036, Sandton, 2146, South Africa
Tel: +27 11 669 5960 Fax +27 11 884 8516
Website: www.idgafrica.com
can deliver the required infrastructure and/or services, and do so such that access is
affordable. This paper will also briefly examine what the role of the private sector
should be in the provision of this infrastructure, especially given the State’s
commitment to driving private sector participation (“PSP’) or public private
partnerships (“PPP’s”) in the provision of infrastructure.
Various sources estimate infrastructure spending over the last five years, to 2010, at
over R1 trillion. Most of this spending was motivated by either debilitating shortages
in capacity as in the case of Eskom for example, or by the need to meet the
requirements for hosting the 2010 FIFA World Cup, as in the case of the Airports
Company of South Africa (‘ACSA’). For the majority of the Schedule 2 entities, the bulk
of their funding requirements were met on the back of the strength of their balance
sheets, many of which have improved considerably over the last few years. National
Treasury, in its Budget Review of 2011, noted that between fiscal years 2010/2011
to 2014/2015, capital expenditure by the major SOE’s is projected to be R623.6
billion, a 10% drop from estimates in the previous fiscal year. Treasury further
estimated that this funding requirement will be met as follows:




Retained Earnings – 42%
Government – 5%
Domestic Debt – 28%
Foreign Debt – 25%
In addition to direct government funding, Treasury has also issued a significant
amount of guarantees, notably to Eskom in the 2010 fiscal year of R174 billion, to
back on balance sheet debt funding by some of the SOEs whose requirements
cannot be supported by their balance sheets on a stand-alone basis. Government
exposure to SOEs in the form of guarantees stood at just under 6% of GDP in fiscal,
2010, a not insignificant amount. Treasury has stated not for the first time that for
SOEs to “…. function sustainably, they need to borrow mainly on the strength of their
balance sheets” (National Treasury Budget Review 2010).
This exhortation by National Treasury that SOEs have to develop balance sheet
capacity in order to support their infrastructure investment has led to two notable
developments. The first involves the increasing desire, expressed repeatedly by
government, to bring in private sector participation in the development of basic public
infrastructure. The second development is the slew of infrastructure user tariff
increases that are multiples of the inflation rate and which last over a few fiscal
periods.
SOEs, as described earlier, depend on debt procured in almost equal proportions
from the domestic and international capital markets for, on average, just under 50%
of their funding requirements. Since the start of the democratic dispensation in
1994, and the first rated souvereign issue, South Africa has been able to take its
place among its peers with respect to access to capital markets. South Africa did this
by developing an excellent reputation for fiscal management, which is rightly
protected by the National Treasury. This vigilance when it comes to the country’s
Page 2
fiscal management has resulted in not only a steady decline in the country’s cost of
borrowing, but in a steady widening and deepening of its investor base. Due to either
explicit government guarantees in the past, and increasingly the implicit guarantee of
state ownership, the SOE’s have been major beneficiaries of this steady improvement
in the country’s rating.
At the corporatisation of many of these SOE’s, their balance sheets were poorly
capitalized, and many of them were saddled with legacy debts which made it
impossible to make the necessary investments in the ageing infrastructure, and had
no capacity to access debt on a standalone basis. In many instances, these SOE’s
that are crucial in the provision of basic infrastructure remain insufficiently
capitalized to undertake the mammoth task of investing in infrastructure to not only
increase capacity, but in some instances to simply maintain existing capacity. It is
important to make a note here that in many cases, maintaining existing infrastructure
capacity, or increasing capacity based on existing infrastructure patterns, means
entrenching the status quo. This tends to exacerbate the problem identified in the
Diagnostic Report of the National Planning Commission, that of “…poorly located
infrastructure that limits social inclusion and faster economic growth.” This topic will
be explored further when the gap analysis is undertaken. The point to make here is
that even with this massive investment in infrastructure, some of the state’s key
transformation objectives around the integration of previously marginalized areas into
the broader economy are currently not being addressed. This is starkly characterized
by lagging development in erstwhile Bantustans and the high proportion of
disposable income eaten up by transport costs for the historically disadvantaged.
To go back to the discussion of the capital structure of SOE’s, much of the capital
raised to fund infrastructure investments is of too short duration compared to the
assets being funded. It is unusual that such basic infrastructure is funded in such a
way that the servicing of that debt must of necessity rely on increasingly exorbitant
increases in tariffs. To whit, according to the International Air Transport Association
ACSA now has the dubious honour of having some of the highest airport charges in
the world. (‘ACSA fees are highest in the World”-IATA; Moneyweb, David Carte, 10 July
2011), after announcing a 69% increase in landing and passenger fees. These
astronomical increases have ranged from those awarded to Transnet Pipelines in
order to fund the new 24 inch pipeline from Durban; Eskom power increases that are
multiples of the inflation rate staggered over three years and the proposed toll rates
on Gauteng’s highways following the improvement project, which, despite fierce
resistance from motorists, remain significant. Besides possibly denying access to
many consumers, these tariff increases also run the risk of having an undesired
effect on economic development and ultimately job creation (see Box 1 for further
examples of recent tariff increases). According to specialists in the area of tariff
setting for public services, the goals of tariff setting should ensure that “…..tariffs are
simple, transparent, and predictable; are financially sustainable without subsidies;
are affordable for the poor for meeting basic needs, promote the efficient use of
resources and avoid cross – subsidies” [Utility Tariff Setting for Economic Efficiency
and Financial Sustainability – A Review; Gunatilake, Perera, Carangal-San Jose,
August 2008]. It is highly debatable, in a country where the majority of South Africans
Page 3
live on less than R500 a month, that tariff setting meet these criteria. It may not be
obvious how ACSA tariffs affect the poor and marginalized, but it is well understood
that transport costs eventually make their way to consumer prices. Despite the
introduction of independent regulators who review these tariff increases, this pattern
of recovering the investment costs in long-term basic infrastructure will prove counterproductive to the goal of development and transformation.
In most countries intent on the rapid development of their economies, the
responsibility for investing in basic infrastructure has largely fallen on the state.
These states have sought to recover the cost of this investment over the long-term in
the first instance, and through improved revenue to the state as a result of higher
economic activity. China, an attractive template for development for many policy
makers, has chosen to ‘lead’ economic development by essentially fully taking on the
responsibility for infrastructure investment with a range of policy tools that are
probably not available in South Africa. The effect of China’s policy is that users are
not asked to “pay’ for these infrastructure investments in tariff structures that do not
reflect the useful life of this infrastructure. They can do this because they do not rely
on relatively short duration debt to fund these assets.
Business Unity South Africa (‘BUSA’) notes in its discussion document ‘Perspectives
on an Inclusive Higher Job Rich Growth Path for SA By 2025” that “South Africa’s
transport, energy and telecommunications infrastructure represents a major cost
factor and a deterrent to job creating investments and export competitiveness”. This
observation is widely shared, and it could even be argued that it is slowly being
reflected in policy pronunciations, most recently by the Ministers of Public Enterprises
and Transport, who are championing PSPs and PPPs as a tool for achieving a rapid
improvement in the quality and quantity of infrastructure. BUSA motivates their
position by saying that government’s financial and human resources should be
focused on the delivery of services (health, education and security primarily), where
the ability of the private sector to supplant government is limited – the ‘public goods’
argument. Inherent in this is the underlying position that government participation in
the economy, even in the provision of infrastructure, should be circumscribed unless
well motivated on the basis of compelling non-economic factors. In most countries,
including South Africa, these non-economic factors have generally centered on
addressing inequitable access to basic services.
The South African government, in providing, or ensuring that basic infrastructure is
provided, needs to take into account the following:



Basic infrastructure continues to be inadequate and access is iniquitous
The cost of accessing basic infrastructure needs to take into account that
most South Africans are poor, and
The cost of accessing basic infrastructure cannot be a barrier to entry either
because it is too far for the historically marginalized, or because tariffs are
prohibitive. This is an important consideration particularly in the context of the
development of SMMEs and entrepreneurship.
Page 4
There are three aspects to meeting these goals as outlined above. The first is making
sure that there is capacity to deliver on what are very large infrastructure
requirements; the second is ensuring that there is enough of the right kind of capital
to fund such requirement, and finally ensuring that this infrastructure investment is
inclusive. Government has conflicting demands on its capacity, and capital which is
also required for the delivery of basic services such as health, education and security.
The recent policy pronouncements of PSPs and PPPs are therefore very well advised
overall, even though we will ague that there’s a panoply of policy options that
government should also consider in its primary drive of infrastructure provision, and
its secondary drive of employment creation. The most obvious of these include partial
listings to achieve primarily the proper capitalization of SOEs with the right kind of
capital, as well as the outright sale of SOEs based on certain criteria. Identifying the
most appropriate options for South Africa will be informed by benchmarking
exercises, as well engagements with a range of stakeholders.
b. Funding of SOEs (As-Is)
State Owned Entities fund themselves fund themselves either on the strength of their
balance sheets, on-balance sheet but with government support, or subsidies and
grants. The majority of the commercial entities listed in the Public Finance
Management Act schedules fund themselves on the strength of their balance sheet,
with or without government support. The balance of the entities such as the
Constitutional Entities (Schedule 1) and the SETAs are funded mainly through
government grants, subsidies and, in the case of SETAs, a tax on the private sector.
There is less clarity on the funding of local and provincial entities as collecting that
information has proven far more challenging. A process is underway to collect this
information for entities in the lower tiers of government, and analysis and the results
will be shared in later reports.
According to the surveys of Schedule 2 SOEs conducted by PwC, the majority of these
“SOEs believe that alternative methods of funding should be explored in order to
address the current debt burden”, with some of these SOEs describing themselves as
being in a “debt trap”. As stated earlier, Schedule 2 SOEs have tended to rely on
capital markets debt to fund their requirements, with only a few of the SOEs able to
inject long term equity capital through the sale of non-core assets, assuming they
could keep the proceeds from such sales. With the recent ramp-up in the
infrastructure investment program of the country as bottlenecks in the economy
began developing, the large SOEs have mostly been able to fund these requirements
on their balance sheet without government support, with the notable exception of
Eskom.
SOEs have generally been successful in obtaining extraordinarily high tariff increases,
many of them arguing that they have no other way of funding these investments,
much of it on relatively short duration debt. The tariffs effectively are a mechanism
for generating large increases in income and cash, and eventually retained earnings,
which are used to support the capital program. It is clear that these entities would
simply not have the balance sheet capacity for these investment programs without
Page 5
either massive capital infusion from government, or explicit government guarantees.
In the Eskom case, both the massive increase in tariffs and explicit government
guarantees were required to support its build program. The following data from the
JSE indicate the extent of dependence of the large SOEs on domestic capital
markets:
As at end 2010
By Sector and Number of issues:
Issuer/#Num
Govt
Muni
SOE
Water
Securitisatio
ns
Banks
Corporates
Total
200
0
66
47
45
26
200
1
49
38
40
17
200
2
154
15
34
14
200
3
147
9
32
17
200
4
136
9
25
17
200
5
131
6
20
14
200
6
122
7
30
12
2007
113
7
27
12
22
8
8
222
53
11
12
220
31
15
10
273
75
30
19
329
126
48
21
382
220
71
32
494
393
136
55
755
513
229
97
998
2008
102
10
49
11
2009
90
14
60
11
2010
85
18
58
10
495
376
360
404
118
112
1,145 1,067
310
472
124
1,077
Source: JSE
By Sector and Nominal in Issue:
Issuer/
Nominal
200
0
333.
0
1.3
200 200
1
2
351. 332.
6
3
1.1
0.2
200 200
3
4
371. 403.
1
9
0.1
2.1
200
5
427.
3
2.7
200
6
440.
0
3.9
200
7
428.
4
3.9
200
8
437.
3
8.1
SOE
Water
Securitisatio
ns
50.0
13.3
38.9
16.3
35.5
17.7
38.6
18.4
44.1
19.4
45.1
20.5
0.8
2.7
10.4
26.6
39.0
69.4
54.9
17.0
108.
8
60.5
18.3
134.
2
Banks
Corporates
9.8
8.8
417.
0
16.2 25.0
18.2 19.0
445. 440.
1
0
27.3
24.4
506.
5
37.7
23.8
569.
9
46.6
36.0
647.
7
63.5 85.4
49.0 58.4
737. 789.
1
0
81.2
18.6
122.
1
104.
2
69.7
841.
1
Govt
Muni
Total
200
9
504.
9
11.4
122.
8
19.2
91.6
134.
6
64.0
948.
6
Source: JSE
While the private sector continues to lead in the number and size of issue, as you
would expect given that the commercial SOEs make up a relatively small portion of
the overall economy (share of GDP), the amount of listed domestic debt by the SOEs
and Water Utilities has increased from R63.3 billion to R183.3 billion in 10 years.
The debt in issue by these SOEs makes up just over 16% of total nominal in issue of
Page 6
2010
643.4
15.0
155.9
17.4
74.3
159.4
67.3
1,132.
9
R1.1 trillion, which is higher than the proportion of these SOEs to the overall
economy but not unexpected, given that they cannot access equity markets. An
increasing number of the large SOEs are managing their domestic through the
registration of DMTN Programs, where they can issue a range of instruments cost
effectively. The range of issues from these programs include vanilla fixed rate debt
instruments, commercial paper, floating rate notes, and inflation linked debt. Below
is a diagrammatic representation of the domestic debt capital markets share per
sector.
By sector and nominal in issue - 2010
6%
14%
Govt
7%
Muni
1%
57%
14%
SOE
Water
Securitisations
Banks
Corporates
1%
Source: JSE
What is noteworthy is that in the last five years, the total debt of Schedule 2 entities
has increased from R225bn in 2006 to R723bn in fiscal 2010, an increase of over
220% (R498bn), all of this on balance sheet (see table below). Over the same period,
only R101.4bn of debt was issued by these entities on the domestic capital markets,
which means that these SOEs only met 20% of their requirements from the issue of
listed instruments in the domestic market. The balance of these requirements is
probably being met with a combination of unlisted domestic issues and the issue of
listed and unlisted debt in the international domestic markets, although this
information is not available in that detail in the source database compiled by KPMG.
Page 7
Schedule 2 Debt Profile
Year
2006
2007
2008
2009
2010
Source:
Annual Increase (Rm)
46 163
89 226
62 958
50 512
Cum. Debt (Rm)
225 500
317 826
496 278
622 194
723 218
Percent Change
20,47%
28,07%
12,69%
8,12%
KPMG Report (2011)
The observation that can be made from these statistics is that this level of increases
of on-balance sheet debt is probably not sustainable, and the SOEs will have to
pursue other options for funding infrastructure requirements. There are attractive
and easily accessible options that can be explored without impinging unduly on the
State’s objective of using SOEs for the developmental agenda, as there are limits to
the amount of foreign currency debt that many of these SOEs can put onto their
balance sheet without incurring unacceptably high costs and/or risks. The options
that will be examined in detail will include the partial listing of SOEs on the JSE in a
way that preserves government control while maximizing investor appetite, and the
use of PPPs. While the latter can be a meaningful option, it is important to note that
to date, South Africa has not had much success with PSP initiatives (examples being
SAA, ACSA and others, which are discussed in detail elsewhere in the document). It is
also important to note that while PPPs that are structured as off balance projects can
reduce the direct exposure of the SOE to debt, the reality is that there remain many
other exposures, which effectively shift the exposure back to the state. An example of
this are traffic volume guarantees a la Gautrain, or injunctions on what the State can
do that may be deemed to be detrimental to the PPP project, as many of the highway
PPPs are structured (for example, government may be prevented from building any
roads that are deemed to be ‘competing’, possibly constraining policy and favouring
the development of roads in areas considered financially more lucrative). The other
notable challenge with PPPs is that because they are in the main funded with the
same debt of short duration compared to the asset being financed, the asset-liability
mismatch already identified, the problem of high tariffs to pay back this debt
remains, the recent debacle with SANRAL being a good example of this. No wonder
then that the CEO of Transnet, at the announcement of its financial results for the
2010/11 financial year, expressed misgivings about the efficacy of PPPs as a
solution to the challenge of financing sustainably and affordably for the user,
Transnet’s infrastructure requirements.
Finally, there is also an argument to be made that with an estimated 300 to 500
entities, the State have reached a point where a rationalization of this sector, in much
the same way many other emerging economies have done, including China and
Malaysia, in order to improve delivery and effectiveness, will have to be pursued
energetically.
Page 8
FUNDING OF SOES: TO-BE
A. Introduction
Globally countries that have been successful in deploying state owned companies for
economic develop exhibit several similar characteristics. In general:
1. The commercial SOEs tend to make up a sizeable portion of the economy
and/or their national stock exchange (greater than 20% -30%);
2. The countries that deploy SOEs for economic development (dubbed “State
Capitalism” in a recent issue of the Economist) also control their currency to a
great extent;
3. State Capitalism is also closely associated with the State’s ability to control
the flow of capital, usually through ownership of a meaningful proportion of
the stock exchange or directly through ownership of banks;
4. Successful state capitalism has also tended to be associated with dynamic
and a growing overall economy.
International Comparisons:
SA
Real
GDP
growth
rate in
2011,
year
over
year
3.1%,
IMF
World
Economi
c Outlook
April
2012, p2
%
of
stock
market
SOE’s
remain
unlisted
Chin
a
9.2%,
IMF
World
Econ
omic
Outlo
ok
April
2012,
p2
80%,
The
Econ
omist,
State
Capit
alism
Speci
al
Repor
t,
2012,
p3
Russia
Brazil
Norway
Singapore
France
4.3%,
IMF
World
Econom
ic
Outlook
April
2012,
p2
2.7%, IMF
World
Economic
Outlook
April 2012,
p2
1.7%,
IMF
World
Economic
Outlook April
2012, p71
4.9%, IMF
World
Economic
Outlook
April 2012,
p79
1.7%,
IMF
World
Economic
Outlook April
2012, p2
62%,
The
Econom
ist,
State
Capitalis
m
Special
Report,
2012,
p3
38%,
The
Economist,
State
Capitalism
Special
Report,
2012, p3
33% of the
value
of
assets listed
on Oslo Stock
Exchange.
The value of
the
State’s
shareholdings
is estimated
at
around
NOK600
billion as at
the end of
2010.
The
State-owned
companies
As at 31
March
2011,
Temasek
portfolio
value was
S$193
billion
The
government’
s portfolio of
listed
shareholding
s
had
a
market
capitalisation
of 69 billion
Euros. This
represents
11% of the
CAC
40
market
capitalisation
(2011 Report
Page 9
Shares
and
other
Equity
held by
the
Govern
ment (as
a % of
GDP),
2008
Bank
ownersh
ip (Y/N)
that are listed
were valued
at
around
NOK
500
billion.
Meld.St.13(20
10-2011)
Report to the
Storting
(white paper)
Summary,
Active
Ownership –
Norwergian
State
ownership in
a
global
economy, p5
Circa
70%,
Euro area-13
average
is
10.8%
(Source:
Forfas
The
Role of State
Owned
Enterprises,
2010)
8.7%,
KPMG
Database
/Moloto
Report,
2011
n/a
n/a
n/a
Private
and
public
sector
bank
ownershi
p models
co-exist
Stateowne
d
Private
and
public
sector
bank
ownersh
ip
models
co-exist
Private and
public
sector bank
ownership
models coexist
Private
and
public sector
bank
ownership
models
coexist
on
the
Government
as
a
Shareholder,
p7)
Circa
21.8%,
Singapore
Departme
nt
of
Statistics
Circa 20%,
Euro area-13
average
is
10.8%
(Source:
Forfas The
Role of State
Owned
Enterprises,
2010)
Private
and public
sector
bank
ownership
models coexist
Private and
public sector
bank
ownership
models coexist
In South Africa, SOC’s (commercial enterprises only) make up about 8% of GDP, and
zero percent 0% of the domestic equity stock exchange. SOC’s make up only 15% of
debt issued on the JSE. South Africa’s currency is one of the most liquid and highly
tradable in the world, fully convertible with the only restrictions being on South
Africans. These have been diminishing over time. The South African State does not
own any deposit taking commercial banks, with its leverage limited only to the state
funded Developmental Finance Institutions (DFI’s). Recently, the Post Office Bank
(Postbank) has been issued with a banking license, but its assets are trivial
compared to the might of the big 5 commercial banks, offering no real advantages to
the state. Furthermore, with its misadventures at the end of 2011, it is unlikely that
individuals or corporate will be clamouring to deposit their funds into Postbank!
Finally, the flag bearers of the most successful developmental states have been
successful in stimulating overall economic growth, through the creation of special

The state makes up to 40% of the overall economy, which is significant, but it is debatable
whether much of it can be used as direct leverage to drive development.
Page 10
economic zones, small and medium business enterprises or inviting foreign direct
investment amongst other strategies. Another observation to make is that most of
those countries driving state capitalism have tended to be either authoritarian
(Singapore, Russia, China) or have a strong social consensus on how the country
should be managed (Norway, France). Brazil and India are notable exceptions in that
they are neither authoritarian, nor enjoy widespread social consensus, and therefore
potentially useful guides for an economy like South Africa. It is important, however, to
emphasise that they possess many of the other attributes.
The preceding analysis is an important context for any discussion of the South African
state’s ability to drive an ambitions agenda of state capitalism. A further proviso is
the State’s self-imposed limit on a debt to GDP ratio of no more than 40% in order to
preserve the country’s investment grade credit rating. These realities set constrains
on the extent to which the government can realistically use SOCs to drive economic
development without addressing some of the challenges identified by the multilateral
agencies such as:I.
II.
III.
IV.
The ZAR is probably overvalued, making SA exports uncompetitive;
There is a high degree of concentration and limited competition in many of
SA’s goods and services markets reflecting natural, regulatory and other
barriers to new entrants. The IMF describes this as the legacy of the apartheid
government’s attempts to encourage the emergence of national champions;
SA has the fifth most onerous product market regulation among the 39
advanced and developing countries for which the measure is calculated
(OECD 2010);
SA’s big and stubbornly high level of employment reflects a host of structural
factors, such as the geographic mismatch between population centers and
economic activity created by apartheid, and the gap between real wages and
the productivity of the unskilled.
These structural problems as identified by the IMF, amongst others, means that the
competitiveness of South Africa’s economy has either stagnated or declined. This is
particularly true for manufactured exports compared to commodities, although even
there SA lags its peers globally.
B. BACKGROUND
Following the ANC’s Polokwane Resolutions in 2007, the active role of the South
African state in drawing the developmental agenda is now enshrined in policy, from
the new Growth Path to the National Development Plan. At the heart of this agenda is
the government’s determination to leverage its ownership of SOEs, particularly the
commercial enterprises, to drive an agenda focused on growing the country’s
industrial base in order to increase its ability to create jobs and reduce poverty.
Parallel to this is a renewed focus on mining as a means to not only develop the
economy but also change some of the apartheid spatial development by creating new
economic centers. A topical example of this is the development of the Waterberg
Page 11
coalfields, which is to also be supported by the development of infrastructure
(economic and social) and an industrial sector (2012 State of the Nation). Major
catalysts to the development of this area are the investments to be made by Transnet
and Eskom.
C. PWC QUALITATIVE SURVEY
The PRC, as part of its research towards understanding the challenges and
opportunities faced by the SOEs with respect to funding their activities,
commissioned the study done by Price Waterhouse Coopers (PWC) and referred to
throughout this report. PWC was asked to use a questionnaire as well as face-to-face
interviews with senior SOE executives, to ascertain the extent to which the sampled
SOEs were able to pursue their mandate with the available funds, and to opine on the
adequacy and appropriateness of their funding. Their responses were grouped into
the schedule as per the PFMA which are summarised here as follows:
Schedule 1: Entities are prohibited by the PFMA from borrowing funds, and the
sampled entities complained of insufficient funding. These entities, set up in terms of
Chapter 9 of the Constitution, complain of being insufficiently funded to meet their
mandates, with most of their budgeted allocations taken up by operating costs.
Schedule 2: Mostly large commercial enterprises, they are permitted to borrow in
terms of section 66(3)a of the PFMA. They operate in the main in highly contested
sectors, with a few enjoying state supported monopoly functions, such as Telkom (last
mile). The sampled SOEs all expressed growing concerns with regard to their ability to
meet future funding requirements, which is concerning given government’s ambitious
infrastructure investment program. A surprising number of Schedule 2 SOEs continue
to be dependent on government support, whether in the form of explicit government
guarantees or subsidies. Of the sampled entities SABC, SAA, Denel, CEF, Pilansberg
International Airport, Alexcor and Eskom (as a result of its massive build program)
have relied on government support. Other findings from the interaction with the
Schedule 2 SOE’s is that:
I.
II.
III.
Many of them are performing below their ROA hurdle rates. This issue of the
SOEs performance, including asset utilisation rates well below international
benchmarks (McKinsey) will be revisited later as they suggest infrastructure
budgets could be overstated;
Most of the capital expenditure of SOEs is replacement, rather than
expansionary capex, calling into question the extent to which it can stimulate
the economy and put it on a much higher long-term trajectory. By definition,
much of this capex cannot be “transformational”, as confirmed by the NPC in
the National Development Plan;
Many SOEs expressed an interest in alternative means for funding their
investments, pointing out the high correlation between the prices they charge
for their services and their borrowings.
Page 12
Schedule 3(a): Most of the non-commercial entities in this schedule considered their
funding models to be restrictive and limiting with many believing they are not
adequately funded. They argue that this makes it impossible for them to undertake
effective long-term planning. SETA’s are a special case in this category as they run
surpluses because of policy & structural challenges faced by them. They are
discussed in detail in the PWC report and they certainly warrant special attention in
this analysis.
Schedule 3(b): Mostly water boards and utilities, running their operations on a
commercial basis. They require subsidies to carry out their mandate with many of
them believing that are not adequately funded.
The issues identifies as challenges by these SOEs to raising funding can be
summarised as follows:
1. The poor viability of some SOEs makes it difficult for them to raise funding;
2. SOE’s face balance sheet constrains because of insufficient capitalization;
3. Massive back logs across nearly all basic infrastructure, exacerbated by poor
maintenance practices;
4. Poor asset utilisation and productivity which lags their peers;
5. Poor regulation of the monopoly SOEs;
6. Poor policy co-ordination;
7. Poor leveraging of the country’s comparative advantage in the mining of
certain key industrial minerals.
The impact of the preceding is manifold, but can be summarised as risks arising in
the following areas:
1. Investment in infrastructure focused on replacement rather than new and
expansionary infrastructure;
2. Unnecessary infrastructure investment being made as a result of poor
operational performance and low asset utilisation. This can also result from
poor maintenance practices;
3. Necessary investment and maintenance not being made because of balance
sheet constraints and the limited ability of the fiscus to assist to improve the
balance sheets of SOEs.
In analysing the options available to government with respect to funding the State’s
massive infrastructure requirement, certain facts have to be made:
1. Underinvestment in infrastructure was pervasive in the 1980’s as a result of
the apartheid government’s geopolitical challenges. The De Villiers report also

PWC study, National Development Plan of the NPC, McKinsey
Page 13
provides proof that the state simply stopped making the necessary
investments in infrastructure;
2. This was further compounded by the reality of the active neglect of the
economic and social infrastructure requirements of the historically
disadvantaged communities of the majority;
3. It is likely therefore that the budget required to correct the under investment
and apartheid patterns of investment and to position the SA economy for
growth and development is grossly underestimated. McKinsey, in our
discussion with them, has suggested that of the R1 trillion budgeted to date,
an additional R1 trillion in main economic infrastructure (energy, bulk water,
rail, harbours, ICT) investment (they made not estimate of required social
investment) is required;
4. Of the major SOEs that would be charged with these investments, their
combined net asset value or capital is approximately R_________, which
suggest that their ability to fund such ‘game–changing’ requirements as
suggested by McKinsey is severely limited. This is further compounded by the
fact that the massive requirements for investment in social infrastructures
(schools, universities, FETs, health facilities, R&D facilities, roads, etc.) remain
the direct responsibility of the state and cannot be funded on a ‘user pays’
principle in a country where most citizens are of limited means. As noted by
Treasury in its MTFB, the state is coming up against its self-imposed limit of
40% of the debt to GDP ratio, and therefore has limited capacity to contribute
to the funding of economic infrastructure. This limitation extends to the
provision of explicit government guarantees that National Treasury is famously
loath to provide.
5. Many of these SOEs were arguably under-capitalised at the time of their
corporatization. At the height of the sanctions regime against the apartheid
state, it was simply not possible to corporatize these SOE’s with healthy
balance sheets that would have made it possible for them to embark on an
ambitious investment program. A priority for many of them was to improve
their performance and, in turn, their balance sheets without incurring too
much investment cost. The government’s now abandoned restructuring and
privatisation agenda was largely driven by these considerations.
6. The private sector must play a role in meeting these ambitious investments,
although what this role should be varies among all the stakeholders. We also
Page 14
need to note that this discussion takes place in an atmosphere of an
extremely jaundiced view of privatisation by the Alliance partners. It is clear
from the work done elsewhere in this review that private sector participation is
not a panacea and must be approached with care.
7. Finally, in our interaction with National Treasury and DPE, we feel comfortable
making the following assumptions with respect to the viability and funding of
state owned entities:
I.
II.
III.
IV.
How the viability of an entity is determined should be on the basis of
the SOEs strategic importance;
SOE sector leverage in the SA economy is limited as discussed earlier,
as well as State resources. This implies that:
 some rationalising is required including disposing of those
assets in sectors where state leverage is close to zero;
 Some semblance of private sector participation.
The nature of the goods and services being provided should determine
whether they are funded from the fiscus or by users of these goods
and services;
Goods and services provided on a ‘user pays’ basis must take into
account the users’ ability and capacity to pay for those goods and
services.
Page 15
D. PRIVATE SECTOR PARTICIPATION
The DPE in developing its capital structure model identified that many of the SOEs
are grossly undercapitalized. The earlier discussion supports this assessment. DPE
gave an example of their analysis showing that SAA is undercapitalized to the tune of
R5bn. SAA’s recent request for R6bn of capital to support their growth objectives was
therefore not surprising, media characterization of this R6bn as a ‘bailout’
notwithstanding. In total, DPE estimates that the SOEs under its shareholder
responsibility are undercapitalization to the tune of R_______, calculated on weighing
up the SOEs investment programmes in the medium term, and the debt/equity ratio
they need to reasonably maintain to retain current levels of creditworthiness.
The DPE is actively reviewing a series of models for bringing in private sector
participation in order to bridge these massive capitalization gaps. As they see it,
these partnerships would include external equity providers, and even operators,
developmental finance institutions and ownership by private sector on a BOOT basis.
In a separate section of this final report, the PRC has looked at previous attempts at
partnering with the private sector. The evidence is mixed. The state sought to bring in
external equity (various newspaper articles) and expertise, but often these
experiments were either costly and disastrous (the SA Post Office management
contract with New Zealand Post being one example) or simply failed to drive the
desired outcomes because of uncertainty and ambivalence when it comes to policy,
as well as poor decision making. An instructive example in this regard is the strategic
equity partner, Aeroport di Roma (ADR), brought in to acquire 20% of ACSA. The
seeds for the failure of this transaction are thati. Most of the proceeds for the partial sale went to the fiscus and was not all
used to recapitalize ACSA;
ii. ADR was an Italian SOE, and it is questionable whether they ever had the
financial resources and global benchmark expertise to add value to ACSA’s
operations and to ACSA’s financial capacity.
In the end, ACSA bought back its shares and ended up financing its massive
infrastructure programme on its own balance sheet. The Roman government finally
privatized ADR. Therefore, for private sector participation to be effective in achieving
government objectives, the State’s objectives must be very clear - do they want
private capital to strengthen the balance sheet of the SOE or do they want to improve
the operational capacity or do they want both? Is the sale primarily to bolster the
finances of the State rather than that of the SOE? Depending on which is the more
important objective we believe the policy choices are clear.
(i)
PSP to recapitalize
This seems to be a key consideration and strategy by government, emphasized in
both the State of the Union address by the State President, and in the National
Treasury budget. As discussed earlier, the major SOES, as well as municipalities,
have projects in the pipeline in excess of R3.2 trillion (with just about a third at
Page 16
concept stage, and about 28% considered to be live projects) and it is
inconceivable that these investments can be made entirely on the balance sheet
of the SOES, or the National and Municipal budgets. It is also instructive at this
stage that the bulk of these investments are considered economic, rather than
social infrastructure. As discussed earlier, National Treasury and DPE are both
inclined to consider the “user pay” principle for economic infrastructure, while
social infrastructure is generally considered to be paid for from tax receipts.
However, with the recent developments as detailed in the National Budget with
respect to the Gauteng Highway Improvement Project by SANRAL, it is also clear
that the “user” is also running up against fiscal constraints. In general, attracting
private sector investment should seek to:
i.
ii.
iii.
Extend capital to infrastructure projects that is long term in nature in order
to achieve a close match with asset life;
Keep the costs to the user, on an all-of-life basis, as low as possible by
extending repayment periods;
Achieving higher levels of pure equity funding for such projects.
This can be achieved through direct investment in projects, or indirectly through
placing shares of the SOEs with private investors through partial privatization that
retains control by the state.
(ii)
i.
ii.
iii.
Direct Investment by Private Sector
This would involve the private sector investing preferably equity into
selected projects in order to achieve the outcomes listed above. This
investment can be in the form of classic PPPs –Build, Operate, Own and
Transfer as an example but with a higher stipulated level of equity capital
in order to increase affordability for users;
Invest in certain SOE operations through vertically separating certain
infrastructure and operations;
And users of infrastructure can invest ‘equity’ in the form of long-term
irrevocable ‘take or pay’ contracts, with the provision that the extent that
this works will be subject to the credit quality of the issuers of these
contracts.

Chapter 7, National Budget
The distinction between economic and social infrastructure is not clear-cut. Witness the
resistance to the treatment of roads as economic infrastructure.

Page 17
(iii)
Indirect Investment in Infrastructure
There was a period in the history of many SOEs that the use of quasi-equity
instruments, such as preference shares, was widespread. These were issued
primarily to banks who were eager to use up the billions of Rands of the SOEs’
assessed tax losses. At the start of the new democratic dispensation, this practice
was effectively proscribed although by then the horse had effectively bolted, with
most of them having used up these assessed losses.
During the period when ‘privatization’ or restructuring was still on the table, the
government used private sector capital to mainly bolster its own finances,
understandably given the precarious nature of the near post-apartheid national
accounts. There were numerous outright disposals as well as partial disposals
through the introduction of strategic equity partners or even partial listings on the
JSE. In the case of Telkom, it started off with an SEP and went on to a JSE partial
listing with government retaining a ‘Golden Share’ to protect its policy interest (and
possibly to also assuage its alliance partners!). We don’t believe that the use of SEPs
is particularly effective in that while it may raise the necessary capital, by effectively
bringing the SEP you have a powerful minority shareholder whose interesta may not
be aligned with those of state shareholder, leading to conflict. In addition, the nature
of the capital brought in by an SEP is not really long term, as very often they will seek
innovative ways to extract this capital out of the SOE as quickly as possible, such as
through the SEP contracting with the SOE to undertake certain operations on an
exclusive basis and usually on unfavourable terms for the SOE. An example of this
occurred following the retention of Swiss Air as SAA’s SEP, where after Swiss Air took
on the exclusive responsibility of leasing to SAA all of its leased fleet.
We do, however believe that partial listing on the JSE offers a lot of opportunity. Of
concern ‘of course’ is the JSE’s rejection of the use of the golden share, which
effectively gave the government additional rights that other Telkom shareholders did
not enjoy, a situation that the JSE thought so untenable that government’s Telkom
golden share was taken away in 2010. Over the last few months, the PRC has
engaged extensively on this issue with the JSE and others. Following extensive
consultation, particularly on the issue of the appropriateness of the JSE’s stated
objective of prioritising global governance benchmarks in its listing rules rather than
the context in which it operates, that of SA being a developmental state, the JSE has
now indicated that they would be willing to re-instate the Golden Share for listings by
SOEs. This is a great development and would effectively give government two
controls on its policy making leverage, namely:
I.
II.

Shareholder control through retaining a majority stake; and
The Golden Share
JSE not on listing State Owned Enterprises on the JSE
Page 18
However, this would effectively result in some discount in the valuation of the SOE as
a result of these restrictions and would probably mean that certain fund managers
would not be able to trade those shares, reducing their liquidity and attractiveness.
Should the government choose to proceed in this manner, a careful balance would
have to be struck between protecting its policy making ability, whilst at the same
time maximising the capital raised in order to recapitalise the selected SOE’s. We
would go as far as to suggest that the use of the Golden Share would only really be
necessary in instances where the government wished to dispose of more than 50% of
its shareholding in an SOE due to capital raising being a priority. The state would be
able to preserve its flexibility to make policy in instances where they have only sold a
minority shareholding. Given that bringing in an SEP, or a private sector partner in the
operations of SOEs is more likely to more meaningfully reduce policy flexibility for the
State, a partial listing also has the added advantage of being far more transparent
from a governance point of view, than PPP’s and much simpler to execute than
negotiating a PPP agreement. There is evidence that very often PPPs result in
transferring value from the State to private sector, while risk resolutely stays with the
government (evidence is Cabinet’s decision to suspend PPP’s and evidence of lack
of transparency is the Gauteng Highway Improvement/Sanral PPP).
E. DEVELOPMENT FINANCE INSTITUTIONS
Recently, both leading DFI’s, the DBSA and IDC, have been put forward as possible
financial partners to the commercial SOE’s in the drive to achieve a step increase in
infrastructure investment. Examples are cited of other developmental states that
have successfully used their DFI’s for exactly this purpose. As outlined earlier in this
document, many successful Developmental States control a much larger share of
capital in their economies. While there is no doubt that both the DBSA and IDC
command significant capital resources, they pale into insignificance when compared
to the big 5 banks and the capital markets. I have not included Pension and Provident
Fund investments for the whole economy, as I believe that would be double counting,
Table: South African Financial Institution Holdings (2010)
INSTITUTION
R (MILLION)
1. IDC
80
2. DBSA
51.3
3. Standard
782
4. ABSA
663
5. Firstrand
578
6. Nedbank
547
7. Investec
202
8. JSE
4,640
9. PIC
1,032

Sources are the Report of the Banking Council 2010, Wikipedia and the annual financial reports
of the PIC, IDC and DBSA 2010

PIC is included here for interest’s sake as discussed later. At any rate, most of these assets
would be reflected in the JSE numbers where most are invested.
Page 19
The PIC, with assets under management of just over R1, 032 as at their last reporting
cycle, is also often cited as an additional source of capital that the State can tap into
for infrastructure development. There is history to support the argument, with the
Apartheid State having used regulation to force a certain amount of pension assets
to be invested in government bonds, and the PIC, because of its status as a state
entity at the time, investing a disproportionate share of its assets into government
bonds. Soon after the ushering in of a democratic dispensation, this regulation,
known as Prescribed Assets and much disliked by Pension Funds as it resulted in a
significant misallocation of assets, leading to fund underperformance, was done
away with. Before the abolition of Prescribed Assets, pension funds were required to
invest a minimum of 30% of their funds into government bonds. Following the
abolition of Prescribed Assets, bond holdings by life assurers declined to just 8% of
total assets, the PIC to approximately 36% from a high of 44%, and banks at a
meagre 4%, despite the price outperformance of bonds over an extended period of
time. This has been put down to ‘bond shyness’ of the investor community as a
result of prescribed assets. In terms of asset allocation efficient frontier, PIC’s
portfolio with its very high bond holdings would be considered inefficient, especially
as the high bond holdings are at the expense of diversification into other high yielding
asset, classes such as property and alternative investments.
There is an additional challenge with using PIC for comparatively riskier SOE
infrastructure projects – by far the majority of the funds under their management
belong to employee pension funds with 89% attributable to the Government
Employee Pension Fund and 5% to the Unemployment Insurance Fund. The Board of
Trustees of the GEPF was recently changed to include employee representative, as
protests that pension member funds were being misdirected following the funding of
the Elephant Consortium grew. There is a moral dilemma with the idea of the
employer (The State) deploying employee pension funds to meet its policy objects,
although one could argue that this is muted because the GEPF is a defined benefit
fund with all risk of underperformance borne by the employer (the State). In
instances where the State’s financial position was stable, deploying member funds
for infrastructure funds may be defensible, but this is difficult when this fiscus is
facing many demands in challenging economic times. Trustees would be well adviced
to be wary – Transnet to this day is engaged in long standing battles with its pension
fund members whose benefits were compromised because of the chronic
underfunding of the Transnet Defined Benefit Pension Fund. Prescribed assets as a
policy tool to appropriate funds for infrastructure development is therefore potentially
unpalatable to government employees and quiet likely fundamentally offensive to
private sector funds where the State bears no obligation for any underperformance
as a result of these policy prescriptions.
Despite the preceding, which seems to be a rejection of prescribed assets as a policy
tool, there is a semblance of such a policy with the recent implementation of
Regulation 28. The focus of this regulation was mainly focused on the introduction of


Harmse, “The Relationship……..asset classes”
PIC Annual Report, 2010
Page 20
new asset classes, which would allow pension funds to invest in alternative
investments and infrastructure. Regulation 28 is however is considered to be unambitious, largely due to National Treasury concerns about potential negative fallout
if full-on Prescribed Assets were re-introduced.
Besides the general discomfort with prescribed assets, financial institutions have
also expressed concerns about the role of DFIs, which in their view should only
address ‘market failures’, which is what they were created for. In their view, it is highly
debatable if much of the economic infrastructure which forms the bulk of the R1, 3
trillion budget can be characterised as needing DFI financing and support and if
there’s any market failure in this regard. In addition, they worry that the playing field
is not level, and they cite the DBSA’s relationship with the municipalities, calling into
question government’s commitment to the principle of competitive neutrality.
Nature of SOE
SOE
Pure
requirement
Monopoly
Rigid Network
1.Capital only
Commercial
SOE
an Chapter 9 Social
SOE Flexible Competitive Institution
infrastructure
Network
Market
SOE’s
2.Capital and
operational
capacity
3.Limited
capital
requirement
only
Assumptions
 Government has very limited cap.
 Strategic objective of SOE’s is assumed.
F. VERTICAL SEPARATION
In consultations held between the PRC, Standard Bank and BUSA, general frustration
was expressed that despite government’s stated commitment to attracting private
sector participation, SOEs were generally not inclined to undertake PPP’s on “good”
assets, preferring instead to do these deals on the poor assets or ‘dogs’. For
instance, there has been intense interest by mining houses, commodity traders,
banks and others to pour resources into the two export lines owned by Tansnet
Freight Rail (TFR), and hardly any interest into the struggling General Freight Business
(GFB) of TFR. TFR might have the opposite interest of seeing more investment in GFB,
where the average age of locos is higher than that of the export lines, where the
network is complex because it is shared with PRASA and where GFB is not neatly ringPage 21
fenced like the two export lines which achieve world’s best operational performances.
This desire and preference by the private sector to cherry pick the best performing
assets is reasonable given their mandate to maximise returns, but the reluctance of
SOEs is also reasonable as this would result in them losing a key ability to crosssubside loss makers with the more profitable businesses (obviously crosssubsidisation is more palatable within a business unit, and less so across business
units). Private sector participation also gets more complicated when it in fact not only
wants to fund, but to also operate and careful consideration must be given to the
following in order to maximise the chances of a successful PPP:
a) When as asset targeted for a PPP is a monopoly, then an Economic Regulator
must be in place. In fact, economic regulators should be in place for
monopolies that provide so-called economic infrastructure on a ‘user pays’
basis in all instances;
b) In all instances where there is more than one user of a monopoly economic
infrastructure, then the private partner selected should not also be a user of
that infrastructure. An egregious example of this is the RBCT coal terminal at
Richards Bay, which is a privatized monopoly infrastructure owned by coal
producers, Anglo American amongst others. New BEE coal producers have
been uniquely unsuccessful in obtaining capacity at RBCT because they
represent export competition that the owners of RBCT would rather not have,
the effect of which being the BEE owners being forced to be price takers;
c) Allowing the private sector to also own and operate economic infrastructure
can be a very useful tool for increasing the operational efficiencies of those
SOEs, and reducing costs and improving service delivery for users. This
however is only possible in non-networked infrastructure such as prisons and
hospitals, power generation or on flexible network infrastructure rather than
rigid infrastructure. Electricity distribution and telecoms network are
considered less rigid than rail infrastructure, meaning that a disruption in one
part of the network can be accommodated through a rapid rebalancing of the
network. A network’s flexibility is also influenced by how simple or complex it
is.
Page 22
Box 1: Transnet Freight Rail and Vertical Separation
TFR operates and owns the country’s entire railway infrastructure, with the exception
of the small portion owned by PRASA. There are over ……km of rail track spread out
all over the country, with ……km of that electrified. The electrified portions of the
network range in power from 3kv to 50kv (the latter being the iron ore export line). The
Richards Bay coal line is a 25kv line. TFR runs different size powered electric locos on
the electrified portion of the network and diesel locos on the non-electrified portion of
the network. In more that a few cases, a cargo journey from inland to its port of
destination is interrupted a few times in order to change to the appropriate loco for
that section of rail. Thus a train journey may initially be powered by a diesel loco, only
later to change a 7E loco for the next portion, and 10E for the final leg. This network
means that the efficiencies of the wide gauge, single power source rail lines of the USA
are impossible. More importantly, it also means that putting a lot of different
operations on such a complex network will probably result in undesirable cherry picking,
or operational mess! Europe holds many lessons in this regard.
d) An equally important consideration is that the management of the SOE must
be sophisticated in order to execute PPP’s in the best interests of the economy
and society, and ensure that the PPP results in the appropriate transfer of
risks from the State/SOE, and no ‘hidden’ guarantees for the private sector
participants which essentially turns a PPP into a farce. The Gautrain project
comes into mind.
In general, PPP’s a can be a useful tool for a rapid expansion of economic & social
infrastructure but must be handled with extreme care. The PRC was unable to
commission an authoritative study of SA PPPs, well over 300 according to KPMG, due
to resource constraints, but there’s enough anectodal evidence, including the
SANRAL debacle and the decision by the cabinet to suspend PPP’s, that there’s much
work to be done in this area, despite the existence of the PPP Unit at National
Treasury. Assessing the Schedule 2 entities and their potential to successfully bring
in the PSPs in the context of the 4 points listed above, we believe the following
entities can do so:
ESKOM
a) Generation – yes
b) Distribution – yes
c) Transmission – yes
Transnet
a) Port Authority – no
b) Port Operations – yes
c) Rail Infrastructure & Operations – no
Page 23
d) Pipelines – no although there’s no reason why they should enjoy a legislated
monopoly
ACSA/ATNS
a) Airport Operations – yes
b) Navigation & Safety – no, etc.
G. SOUTH AFRICA’S FUNDING MODEL
According to McKinsey, South Africa has yet to develop a funding model fro the
development of economic and social infrastructure. In order to erase the effects of
past discrimination the investment requirements run into trillions of Rands. In
engagements with both National Treasury and DPE, it is clear that a model is still
evolving. National Treasury for instance makes the distinction between social and
economic infrastructure, within their view funding for social infrastructure coming
from the fiscus, and funding for economic infrastructure being on a ‘user pays’ basis.
National Treasury sees the national funding model as being a combination of taxes
for social infrastructure, ‘user pays’ for economic infrastructure however defined, and
guarantees for instances where an entity providing economic infrastructure faces
balance sheet constrains. However SA’s small tax base and high unemployment does
limit the power of these tools in the funding model, because it is in the main the
same people being taxed who are also the ‘users’ paying! National Treasury also
raises other issues that result in SA’s funding model being so rudimentary, namely:
a) Capital budget should be limited to classic public goods and nothing else, so a
rationalization of the public entities is vital;
b) Poor co-ordination between national government, SOE’s, provincial and local
government;
c) Prioritisation of capital budget items according to an agreed set of criteria that
seeks to maximize the impact of public sector spending is also absent;
d) The reality of the taxes and user pays funding model having serious
limitations;
e) There’s little alignment between policymaking and policy instruments.
There is a pleasing degree of alignment in the views of National Treasury and DPE.
The latter emphasises that the State has yet to adequately articulate the SOEs
strategic leverage for the State. If this analysis was done properly, not only would it be
clear that the rationalisation of public entities is necessary, but it would also show
that new institutional arrangements are a necessity. DPE would propose that ALL selffunding commercial entities be managed by DPE, and others, such as those requiring
government funding and R&D/scientific council entities, be the exclusive
responsibility of Treasury from a funding point of view (it was clear from our
interaction with National Treasury that they are reluctant to take on operational
responsibility for SOEs!). While the proposal is attractive from an organisational
perspective, it is clear from National Treasury that it abrogates for itself all funding
Page 24
issues for SOEs, and in our view for good. National Treasury, in terms of its mandate,
must marshal and manage all of the liabilities of the SOE’s because they are the
State’s contingent liabilities.
DPE has developed and considered an impressive range of financial instruments (see
Annexure), as well as different models for bringing in private equity. Some of the
models are flawed – for instance the concept of public partnerships essentially
transfers risks from an SOE to a DFI, both State owned, and therefore cannot be
considered to be primarily a way for reducing pressure on the fiscus, or even
transferring risks to the private sector. However, it is a more developed concept that
starts in the right place – trying to determine the appropriate capital structure for
each SOE based on the SOE’s mandate. It should be refined to also include the
projected performance (financial and otherwise) of SOEs in order to avoid being too
”AS-IS”, therefore potentially understating the capital requirement.
Fundamentally however, both the DPE and National Treasury, and the government in
general, need to consider how the necessary capital investment can be afforded. The
issue is that for the economy to thrive and for jobs to be created, there are significant
macro and micro – economic challenges that need to be addressed. Foremost
among these is the high cost of doing business in SA because of onerous regulatory
compliance (for instance, financial institutions in this country must comply with a 156
pieces of legislation, many of which are contradictory!) , , or high administered costs
and logistics costs. The rating agencies, as well as the World Bank and IMF have
highlighted these issues repeatedly.
This must be contrasted against the stand out feature of infrastructure development
in the BRIC’s where in order to stimulate economic activity, drive development and
create jobs, many of the governments of these countries subsidise a significant
portion of these investments particularly if they are considered to be pure public
goods such as port entrance channels and dams, as an example. This is because
there is an appreciation and understanding that there is a limit to the ability of the
users and private sector to pay for this type of public goods except over a very long
period of time. National Treasury rightly points to the TCTA model of funding a public
good. It’s instructive that the immediate “users” of the TCTA infrastructure are other
public entities such as the water utilities and municipalities, and therefore in this
case the limits of the ‘user pays’ principle were particularly glaring. Well, we would
like to posit the view that there is an unbridgeable gap between the return
requirements of the private sector, and the limits of the ‘user pays’ principle that
would suggest that the mooted funding model, which relies heavily on private sector
participation, is probably of limited value particularly for investment in public goods.
Even if much of the R3.2 trillion in the national budget for infrastructure can be
considered to be not classically pure public goods, the dilemma remains that South
Africa most create as competitive advantage for itself in the global economy, and it is

Analysis done by Standard Bank.
Page 25
probably not a good idea to do so on the back of punishing increases in administered
prices and on logistics costs.
Finally, there’s been sustained pressure on SOEs to reduce their gearing even when
this results in the disproportionate reliance on equity capital, which is more
expensive. As an example internationally, the gearing of rail companies is in the
region of 80%, while TFR’s gearing is significantly below that. This may have been
perhaps appropriate in the period immediately after the start of the democratic
dispensation, where social challenges were a bigger and immediate priority for the
government and therefore generating surplus cash from the SOEs a necessity. This is
arguably no longer the case, and with the recognition that economic infrastructure is
just as crucial for the further development of SA, there is room for the SOEs to gear
themselves further, perhaps not up to 80%, but considerably higher than current
levels (DO THE ASSESSMENT with Merafe). To support this, government can
telegraph more strongly to financial markets, its implicit backing of this debt because
these SOEs are strategic.
Investment in economic infrastructure is primarily designed to support the mining
industry in South Africa. There are questions on whether mining houses pay a fair
price for this infrastructure, and that allegations of high logistics costs are supported
by evidence. Rail costs, as an example, are 23 US cents per ton km (2008/09) in SA
compared to 19 cents in Brazil, 25 cents in Australia and a staggering 53 cents in
Germany, but average distances travelled are much higher in SA (590kms in
2008/09) than Australia for example (290kms). In addition, more of SA’s cargo goes
on road than rail (59% US. 41%), resulting in a higher transport cost for a TEU
exported (US$1445) than Australia at US$1,200. Brazil, with comparable distances
and modal imbalances to South Africa, the cost per export TEU is US$1,430
(McKinsey). Brazil captures considerably more rents from its natural resources than
South Africa because of significant state ownership in this sector. These captured
rents can then be used to fund infrastructure investments. In SA no such relationship
exists, with most of the rents from mineral resources being captured by the mining
houses. Recognition of this dichotomy has been behind much of the ruling party, and
more recently government’s, drive to capture more of the rents from mining mineral
resources. South Africa has also been less successful in recent times in beneficiation
with the country being essentially a price taker of the resource it produces. Given that
South Africa (with Zimbabwe) controls 100% of the world’s platinum resources, as
well as a good deal of its chrome, manganese and other mineral, it seems that the
success of this economy will depend not only on leveraging SOEs, but also on this
glaring competitive advantage we have in these minerals that we have failed to
leverage. Trade policy however is more appropriately discussed elsewhere, but why
not tie access to these vital mineral resources to a level of beneficiation in-country
before exporting, and banning the importation of finished products from resources
that originally left SA as unrefined ore? Finally, there are some pleasing
developments with regards to the taxing of mineral resources and an attempt to
capture a greater share of the rents emanating from mining. Mineral resources are

Impact of subsidies – McKinsey comparison of Port tariffs globally
Page 26
wasting assets, and their exploitation exacts a heavy toll on the country for which the
mining houses do not contribute fairly, and never have.
It is however, noteworthy that most of the plans for infrastructure investments
corridors are still export oriented, which seems to reinforce the colonial pattern of
infrastructure development which is focused on exporting raw ore, rather than the
development of new industrial centers focused on beneficiating our ore and greater
regional integration.
H. RECOMMENDATIONS
(I)
(II)
(III)
Given the constrains of both the deployment of taxes, the balance sheet of
the large SOEs and the “user pays” approach, it is absolutely vital that
government looks at rationalizing its holdings as per the recommendations
of the PRC. Truly leveraging state resources means focusing on those SOEs
that provide public goods in the first instance then consider exiting those
sectors where market failure no longer exists and the SOE is competing
generally unsuccessfully against private sector competitors. Such careful
rationalization will allow the state to focus on the deployment of capital to
support those SOEs providing public goods. User pays has to be balanced
against the need to keep our exports and industries competitive, and to
foster development in the larger society.
Consider putting all commercial SOE’s under the management of one
Ministry or Department so that policy making is not affected by bottom line
considerations. To what extent is air travel, particularly the introduction of
low cost carriers, negatively affected by the State’s need to protect the
financial interests of ACSA? The implementation of this recommendation
should lead to:
a) Maximising the effectiveness of policy decisions for the whole
economy and ensuring economic regulation of monopolies.
b) Lessons learned and successfully applied in one entity are more
easily applied across the various commercial entities if housed
under one roof.
c) It would be easier to develop a funding model of these SOEs as
their strategic importance would be clear and articulated once
rationalization has taken place. It would also result in some rerating of the remaining commercial SOE’s as government policy
would be clear and the markets would reward that. An example
is the positive re-rating of Transnet following its rationalization
and focus on the 4 or 5 remaining businesses, with the reward
Page 27
being Transnet’s greater ability to fund without explicit
government guarantees.
(iii)
Government needs to develop a funding model for the funding of public
infrastructure. This requires that a clear distinction be made between
social and economic infrastructure so that the ‘user pays’ principle is
limited, particularly for individual users. In addition, much of the sizeable
investment in economic infrastructure is targeted at the mining sector, and
it is only right that the mining houses pay for a significant proportion of
that investment. Over and above the direct tariffs for the use of this
economic infrastructure, there should also be a contribution from the
proposed resources tax to infrastructure development. A combination of
this ‘user pays’ approach and direct taxation of the mining sector will
ensure that other general, non-mining users of this infrastructure are not
faced with unreasonable hikes in their tariffs. Paradoxically, such an
approach should also have the effect of reducing resistance to the
proposed resource tax because the proceeds (at least some of them) will
be deployed in a transparent manner for uses that would not be deemed
controversial.
(iv)
Most of social infrastructure is funded from tax receipts, but because of
backlogs as a result of apartheid social engineering, poor maintenance
and planning for obsolescence, the funding requirement for this social
infrastructure is significant. The challenges with this funding model seem
to arise at provincial and local level where increasingly exorbitant
increases for the delivery of services to individual homes is being seen.
Many municipalities suffer from tenuous finances as a result of poverty,
unemployment and poor collection systems, leaving them no choice but to
hike service delivery costs in a bid to cover the massive investment in
social infrastructure. Given the very high levels of unemployment, the
relatively small proportion of the population that pays taxes (less than
400,000), there are clear limits to this policy. Given already high levels of
tax rates for individuals in South Africa, with the effective rates probably
over 50%, other means of funding will have to be found, including:
a. finding ways to increase the debt capacity of municipalities
in particular, even the metros;
Page 28
b. finding ways to lengthen the duration of the debt profile of
municipalities;
c. centralising the delivery of services in municipalities with a
view to decreasing the proportion of the budget spent on
operating expenses like salaries; a bigger benefit will
however be an improvement in the quality of service delivery
due to the reduction of bureaucratic gridlock.
(v)
In addition to deploying a portion of the resource tax for the development
of economic infrastructure, the shareholder should also seek to create
additional capacity on the balance sheets of the SOEs by:
a. Increasing the equity of the SOEs, while at the same time tolerating
higher levels of gearing. This strategy would be suitable for the
monopoly-type long-term economic infrastructure such as ports, rail,
aspects of energy and broadband infrastructure.
b. Extending the SA yield curve by issuing longer dated paper. In the
latest budget, the government announced that it will issue new bonds
which will extend the yield curve by 6 years to 36 years. Hopefully this
presages a focused project of extending the yield curve even further in
the near term, up to 50 years, so that we can approach a better match
of the life of the assets being financed with the modified duration of
the financing portfolio of these SOEs. While issuance at these long
durations may initially be limited, there is plenty of appetite by the
retirement funds for long dated assets that better match their own
liabilities. Much of this demand has been met with equities and
probably mainly inappropriately, so there would certainly be some
switching with increasing availability of long dated paper.
c. The pricing of services and retention of earnings must take into
account ongoing maintenance requirements and the eventual need to
replace obsolete infrastructure. It should never again be permitted that
infrastructure deteriorates to the extent that it was allowed to and then
scramble for capital in order to procure new infrastructure.
(vi)
It is still our view that economic infrastructure investment patterns
generally tend to reinforce colonial and apartheid policy, where regional
trade and the beneficiation of mineral was simply not a priority. This has to
change, and the State of the Nation and the Budget 2012 provide a
welcome glimpse of a more progressive infrastructure investment future.
This will require policy changes that compel beneficiation, perhaps through
limiting the export of certain mineral ores.
Page 29
(vii)
Numerous studies indicate that more will need to be done to expand
private sector involvement in the provision of infrastructure in areas such
as ICT and power generation, where there is ample appetite. A focused
review of the many barriers to new entrants in the economy, due to the
South African economy’s mainly oligopolistic structure in key sectors
(finance, professional services, construction, mining and mining service,
etc.), with a view of eliminating such barriers for increased direct foreign
investment, as well as the creation of new SMMEs, the backbone of any
successful, growing economy!
B.VIABILITY
Much of the recent discussion on the role of SOEs in developing the South African state
and in creating jobs has, as an inherent assumption, that SOEs are appropriate vehicles
for delivering on these objectives. Economic theory, discussed in detail elsewhere in
this interim report, outlines the various rationales for state involvement in the economy.
In brief, justification in state involvement in economic activity is generally on the basis
that there exists a natural monopoly, capital market failure, externalities (the public
goods argument) or there is a need to achieve equity.1 The analysis of viability in the
SOE context will take account of the accepted rationales for state involvement, but will
also evaluate the facts of SOE performance in the South African context. Primarily, the
PRC has been concerned with evaluating the viability of SOEs by asking the following
questions:
1) Is the SOE financially viable using the appropriate financial measures for
each SOE? Much of this analysis will be based on the database developed by
KPMG, however inadequate for the purpose.
2) Are these SOEs meeting the mandate for which they were created? Is the
mandate of the SOE aligned to the State’s developmental objectives?
3) The landscape in which the SOEs operate. Is it possible for an SOE that finds
itself in a highly competitive environment to viably meet the State’s
developmental objectives? A good example in this regard is Telkom.
4) If the SOE’s mandate is aligned with the State’s developmental objectives,
are other objectives, such as profitability targets, leading it to not providing
basic services cost effectively, which in our definition of viability would mean
that the SOE is possibly not viable?
In general, viability in this context is a measure of how well a State Owned Entity
delivers on its development objectives. This definition of viability takes into account
the fact that in some State Owned Entities, viability, will have a bottom-line
orientation, while in other entities, other attributes will be of equal or even more
1
Ha-Joon Chang, ‘State Owned Enterprise Reform’, 2007
Page 30
importance in determining viability. Much of the analysis in this section will depend
extensively on the work done by PwC using the balanced scorecard methodology.
a. Background
In much of the discussion that takes place with regards to the role the State Owned
Enterprises can play in driving the development agenda generally, and the objectives
of the New Growth Path, specifically job creation, the question of whether or not the
State is the appropriate vehicle to achieve these objectives is assumed. The
assumption is that there has been some sort of market failure2 that requires
government intervention to rectify. This may very well be the case, but there are many
others who argue that the lack of job growth is South Africa is more symptomatic of
policy failures, poor skills profile in South Africa, and pervasive barriers to entry that
have discouraged entrepreneurship – BUSA amongst others have made this
argument. Moody’s Investor Services, in its report from which the beginning of this
document quotes extensively, identifies ‘intractable constraints’ as the reason for the
position South Africa finds itself in. In the section of the report titled “Prospects for a
‘New Growth Path’”, these are listed as ‘profound education and skills shortages,
labour market rigidities, inefficient and often corrupt bureaucracy, infrastructure
shortages, [and] crime”. These observations have been made elsewhere. The ANC
NEC sub-committee that reviewed the Schedule 2 SOEs identified the following
challenges:
i.
ii.
iii.
iv.
v.
vi.
vii.
Massive under-investment in infrastructure;
A complex regulatory and policy framework;
Balancing low prices with sustainable investment and security of
supply;
Diversifying sources of funding;
Policy uncertainty hampering the infrastructure investment
program;
Rising levels of corruption; and
High salaries of SOE management have not equaled best talent.
In the context of this review, the evaluation of the State’s role in the economy through
the SOEs, and the use of these SOEs to achieve developmental objectives, orthodox
economic theory have fixed views. However, it is clear that the State can successfully
steward parts of the economy for two purposes, namely to address real instances of
market failure, and to create the conditions that would make it possible for the
private sector to drive development. However, Capobianco and Christiansen (2011)
argue that this should be done in such a way that the State does not, through its
policies, give SOEs an unfair advantage. Many countries have identified this as the
insidious effect of government policy that is too concentrated on SOEs, with many of
these countries introducing policies to ensure this ‘competitive neutrality’. Australia
2
Market failure in this context would be a refusal by the private sector to invest in job creating
activities because of a perceived high risk relative to reward.
Page 31
defines “competitive neutrality [as] requiring that government business activities
should not enjoy net competitive advantages over their public sector ownership”3.
Others have argued that successful developmental economies are those that
recognize that their policies and strategies should be ‘comparative-advantagefollowing’ (CAF) rather than ‘comparative-advantage-defying’ (CAD) (Lin, Justin Yifu,
‘Economic Development and Transition: Thought, Strategy and Viability’, 2009). At the
heart of Lin’s argument is that ‘the fundamental determinant of development is not
natural resources or capital investment, but the choice of institutions, which depends
heavily on the government’s development strategy’. While this is very much in line
with the thinking adopted by many heterodox economists on developments, the
nuance in Lin’s argument, which seems to be appearing more increasingly in
development economics, is that developmental economies that succeed take into
account the particular vicissitudes of their own economies – its opportunities and
weaknesses. What is also emerging in the evolving discourse on developmental
economics is the recognition that the conditions that prevailed in the 60s through to
the 80s that facilitated the rapid development of the economies of the Far East are
changing. Peter B. Evans for example suggests that ‘…21st century development will
depend on generating intangible assets (ideas, skills, and networks) rather than on
stimulating investment in machinery and physical assets oriented to the production
of tangible goods. This makes investment in human capabilities (which include what
is traditionally known as “human capital”) more economically critical. At the same
time, new development theories assume that economic growth depends on political
institutions and the capacity to set collective goals (Evans, Peter B.’ ‘In Search of the
21st Century Developmental State’). In the context of the South African
developmental state, strategic priorities have to take into accounts these new
imperatives. While it remains true that even the most liberal economies are planned,
albeit at a micro-level, ‘..and therefore the question is not whether you plan or not. It
is about planning the right things at the right levels’ (Chang, Ha-Joon, ‘23 Things they
don’t tell you about Capitalism’, 2011).
Another development worth noting in discussing South Africa’s developmental
agenda is the global shift from manufacturing being the predominant creator of jobs
to jobs being created predominantly in the service sector. Contrary to popular belief,
this is not a phenomenon afflicting poorly managed developed economies as the
argument goes, who have neglected to invest in their manufacturing sectors.
Surprisingly, this is a phenomenon that has already spread to the poster economies
for developmental economies such as China and Brazil. In Brazil, job creation by the
manufacturing sector peaked in the late 1990’s, and the majority of jobs are now
created in the service sector, a phenomenon familiar to South Africans, where the
service sector became the predominant driver of jobs growth since the 1990s. In
fact, this is well reflected in the falling number of jobs in the SOEs as depicted in the
table below. The implications of this, which will also be familiar to South Africans, is
‘for most workers, the current shift from employment in manufacturing to service
sector jobs lacks the promise of the earlier shift from agriculture to industry.
3
Copobianco and Christiansen, May 2011
Page 32
Schedule 2 Employment Data: 2006 - 2010
Year
Labour#
Rev./Employee
2006
160 998
976 876
2007
158 583
1 072 579
2008
160 564
1 239 963
2009
151 526
1 377 252
2010
150 359
1 422 394
Change in Productivity
8,92%
13,50%
9,97%
3,17%
A narrative built around the shift from an industrial to a service economy seems likely
to be marked, not by the creation of a new, relatively affluent working class, but by
expanding inequality and stagnating wages for the majority of workers’ (Evans). What
this suggests is that strategies for fostering the developmental state in South Africa
must recognize that as important as investment in basic infrastructure will be in
achieving those objectives, of even more importance is likely to be the investment
into human capital through education, and health. Ironically, education and health
are classic public goods that the private sector is unlikely to invest in because they
are unable to fully capture the returns in those investments, meaning that the State’s
role looms large in developing human capability. The preceding is not a rejection of
the classic 20th century model of the developmental state, but a review of the
literature suggests that it will be inadequate without an equally ambitious program of
investment in human capability.
A recent report by the World Bank4 has identified the low savings rate in South Africa
as being a key constraint in achieving South Africa’s key developmental objectives.
This observation is not new – it is identified as such in the Accelerated and Shared
Growth Initiative for SA (Asgi-SA), and in the New Growth Path. It is of vital
importance because if it is not addressed in the long term, it can set severe limits on
the transformation of the South African economy, and render the State’s ambitious
infrastructure investment goals unattainable. There is plenty of evidence that the
most successful developmental states have savings rates well north of 30% of gross
national product. South Africa’s savings rate of around 16% does not compare
favourably, when in fact its ratio of young people to the total population should
position South Africa well for a growing savings rate. Sadly, it is the very high
unemployment of these young people that is capping South Africa’s savings rate at
levels that will limit its developmental potential. Savings are important in the South
African context because a range of issues are limiting access to international capital
that would supplement the country’s low savings rate. Specifically, the short term
nature of the capital flowing to South Africa to purchase mainly bonds and equities,
as opposed to long term capital such as foreign direct investment (FDI) means that it
is not a reliable source of capital for investment in the required long term
infrastructure. This highlights the limits of the strategy of accessing private sector
capital for investment – eventually, this savings ceiling will impact the extent to which
‘South Africa Economic Update – Focus on Savings, Investment and Inclusive Growth’, Issue 1,
The World Bank Group Africa Region Poverty Reduction and Economic Management, July 2011.
4
Page 33
these types of investments can be made.
Toward a Virtuous Cycle for Inclusive Growth
Higher
savings and
investment
Inclusive
Growth
Higher
employment
intensity of
production
Higher
productivity
The World Bank report identifies a ‘virtuous cycle for inclusive growth’, illustrated
above, which starts with more production coming from labour employment intensity,
which in turn leads to higher labour productivity because of improved skills, and
which in turn would lead to a higher savings rate. The jobless growth that has
characterised the South African economy in most of the last 15 years has kept this
virtuous cycle of inclusive growth elusive. Instead, ‘a suboptimal equilibrium of low
rates of savings and investment-low employment intensity of production-slow
productivity growth has emerged in South Africa….undermining the quest for
inclusive growth’ (World Bank Report). Despite evidence of high investment returns
(see table below) in South Africa across a range of industrial sectors, investment,
especially in ‘employment intense productive capacity’ has been very low.
Real returns to capital in SA
SECTOR
Construction
Trade
Manufacturing
Agriculture
Finance
Mining
Transport
1993-1999
2000-2010
65%
40%
17%
22%
10%
8%
5%
85%
60%
25%
25%
20%
16%
10%
Source: World Bank Report
The World Bank report identifies several reasons for this, namely:
i. Weak industrial competition in South Africa compared to its peers, due
mainly to barriers to entry that prevent new entrants pursuing the high
Page 34
investment returns as described above;
ii. Poor skills development at all levels, from basic education to higher and
technical education levels. SA ranks third from the bottom in terms of
quality of Maths and Science education.
iii. Contentious labour relations, with bargaining in this country that conflates
economic as well as political issues. SA ranks 132 out of 137 countries
in the Labour Relations Index. International investors as a result are not
keen on long term investments (FDI) in South Africa despite the high
returns;
iv. Low savings rates.
The World Bank points out that between 1980 and 2008, only nine countries in the
world achieved growth rates greater than 6%, the target South Africa has set itself in
order to create 5 million jobs. All of them had minimum savings rates of 25%, which
is substantially above the 16% that South Africa averaged between 2006 and 2010.
SA savings peaked in 1980 at 35%. Savings come from households, corporates and
government, and evidence shows that the biggest dis-saving has been by
households. The only way to fix this cycle is to increase employment of the youth, and
in addition to this, to increase productivity. Investment in job creations needs to be
accompanied by improved total factor productivity5 for it to be sustainable.
So why is any of the preceding important? It is clear that any assessment of the role
of the SOEs in advancing the developmental agenda must consider that given the
myriad challenges and contraints, is the State allocating resources efficiently? Are
the results of its investments leading to inclusive growth? Is the State creating the
conditions that are necessary for inclusive growth in the way in which it deploys its
resources?
b. Assessment of Viability
The report by PwC has assessed a sample of the SOEs to test whether, along 12
identified themes, the SOEs pass the viability test. This is done using the
methodology of the balanced scorecard, and the results are discussed elsewhere in
the document. What we wish to highlight here is what is emerging from this analysis.
i.
ii.
iii.
iv.
v.
Tension between funding capacity and tariffs
Fragmentation, proliferation in the sector
Inclusiveness of infrastructure investment
Limits of state role in contested sectors (example Telkom)
Alignment to the developmental state
Elsewhere in this report, there is detailed discussion on the justification for the
existence of SOEs as detailed in the report by Ha-Joon. It is clear from this analysis
that there is little strategic justification for much of the State’s participation in the
5
Improvements in human capital (quantity and quality) and technological innovation result in
increasing productivity. Without these conditions being met, investment will always lead to
diminishing returns.
Page 35
economy, with the exception of a small number of areas. While further research is
required in this regard, it is clear that since 1994 while the number of large SOEs has
declined, and the competition they face increased, the increase in the number of
Provinces and local authorities has led to a proliferation of SOEs at these tiers of
government. The bulk of these tiers were designed to improve service delivery, with
very poor results in most instances. Some were designed to address funding
shortages by being set up to attract private sector capital. Some were created as a
result of constitutional requirements. Some were created to address perceived
market failures, with the SETA’s being a good example of this. While most of the
proliferation of SOEs has been at local and provincial level, there has also been
proliferation at national level – a good example of this is the creation of SITA in order
to centralize the purchase and management of the IT needs of national government
for the purpose of increasing interoperability of systems, and to save costs.
The most obvious risk of this kind of proliferation is that it becomes nearly impossible
for the shareholder to manage these assets. In a country with limited skills, the ability
to find the appropriate management for these SOEs is also a major problem,
compounding the problem of shareholder oversight. A less obvious problem is also
that SOEs created to address temporary or short term problems take on a life of their
own, where decision-making is designed to protect the interests of the management
of that SOE, even when it has become clear that the decisions of that SOE may not be
aligned with the broader policy objectives of the State. The most interesting example
in this regard is SANRAL. Originally conceived to creatively look for solutions in the
development and maintenance of the major national roads in the country through
partnering with the private sector, it’s beginning to be apparent that it’s decisions,
which are legitimate within its narrow mandate, may not be in the interests of the
country. In a country where public transport is poor, and too much cargo moves on
roads and not enough on the struggling rail system, does the continued drive to build
more national roads (such as the Wild Coast toll road that nobody wants) represent
the most efficient allocation of resources? In other words, is it ‘inclusive’ in the
context of the discussion earlier? However, this result should not be surprising – now
that SANRAL exists, until its mandate is changed it will continue to build roads in
areas where the private sector investor can maximize its returns, and not consider
other more efficient ways of ‘moving South Africa’. There has been a perverse
outcome as a result of the creation of these entities – the decentralization of policy,
and possibly the inefficient allocation of resources.
Another observation that can be made as a result of this As-Is analysis is the conflict
the State faces when it competes in a sector that is well serviced by the private
sector. An excellent example of this is in telecommunications. With the issue of the
discussion paper on the unbundling of the local loop, it is now abundantly clear that
for Telkom, state ownership is a disadvantage. There is plenty of evidence that SOEs
anywhere in the world have responsibilities that the private sector does not, including
the responsibility of supporting the maintenance of employment even when it puts
the SOE at a competitive disadvantage because it is forced to maintain a higher cost
base. Telkom’s tariffs are consistently higher because it is estimated that it may have
as many as 5000 to 10,000 too many employees. In a sector where the SOE has no
Page 36
competition, it can sustain a higher cost base. Where it has certain protections from
competition, such as Telkom’s monopoly in the ‘last mile’, it can perhaps sustain a
higher cost base. Where an SOE ceases to have any advantage, as is it about to be
the case with Telkom with the unbundling of the local loop, but faces stiff
competition, continued state ownership can constitute an insurmountable
disadvantage for the SOE.
The issue of funding concerns all SOEs, including the large schedule 2 enterprises.
This is variously evidenced as concerns about on balance sheet debt, or the limits of
tariff increases to fund the investment requirements. In this context, the discussion
on the low savings rate is instructive. The country’s low savings rate represents a
ceiling to the extent of investment that the economy can undertake.
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