As many of the Government of South Africa’s state-owned enterprises (SOE) continue to struggle with financial distress, a panel of experts joined Debtwire last week to discuss recent debt restructurings and what parallels can be drawn with the looming creditor negotiations with state-owned utility Eskom.
According to Thobeka Tubela, senior director in business development at Rand Merchant Bank, the government has over recent months become more forceful in its dealings with SOEs, introducing ideas of privatisation or strategic equity partners in cases like South African Airways (SAA), which would have been unheard of five years ago.
But perhaps one of the more significant innovations is the fact that SOEs have for the first time gone into business rescue (BR), a process similar to Chapter 11 bankruptcy in the United States, Tubela said. This was again seen with SAA, which was put into voluntary business rescue in December 2019. While the future of the airline is yet unclear, panelists agreed that SAA’s BR process has been controversial and acrimonious, and questioned its appropriateness for SOE restructuring in South Africa more generally.
Lara Kahn, restructuring and insolvency partner at Webber Wentzel, believes that in South Africa, there is a fundamental tension between the key tenets of business rescue and those of the Public Finance Management Act (PFMA).
A key tenet of BR is that it is run by an independent business rescue practitioner, who takes over in the place of the board, and shareholders have almost no decision-making power, Kahn noted. But the PFMA makes SOEs answerable to government, which includes having to go through specific processes to approve asset sales and entering into certain financial agreements.
“This doesn’t sit neatly with a business rescue regime,” said Kahn, noting that in SAA’s case, the BR team had to balance obligations in terms of the Companies Act as well as obligations within the PFMA, a situation for which there is no judicial precedent.
The question that arises is whether business rescue is an appropriate tool to restructure SOEs in South Africa – and Khan believes there is no straightforward answer.
In the case of Eskom, where over 70% of the debt is government-guaranteed, it is hard to see how a statutory cram down of the debt would work, and given the negative image that BR has in South Africa, a consensual approach to the Eskom restructuring may be more suitable, Khan noted.
“A lot of people [don’t see the SAA BR] as a successful one, and I agree entirely that if Eskom were to go into business rescue there would be panic, which we would need to avoid,” Khan noted.
South Africa’s government has also changed tack in its attitude towards granting guarantees in SOE restructurings. Because of the ballooning contingent liabilities on the fiscus due to government guarantees, the National Treasury has become lot stricter with the criteria SOEs must meet in order to qualify for government guarantees, RMB’s Tubela noted.
A good example of this is Land Bank’s ongoing restructuring, where earlier this year the government dropped plans to partially guarantee a note that would restructure a large part of its ZAR 41.3bn (USD 2.75bn) debt.
Olga Constantatos, head of credit at Futuregrowth Asset Management and part of a creditor committee negotiating with Land Bank, noted that since the event of default in April 2020, three different solutions have been put on the table to restructure Land Bank debt with a new debt instrument.
These include a first version with a partial government-guarantee and staggered maturities, a second version without the guarantee and one unique five-year maturity and recourse to the loan book rather than the bank itself, and a third version which added some restrictions to the book that can be accessed and some conditionality to a ZAR 7bn government bailout appropriated in February’s budget.
While the bank’s financial condition is worsening, creditors are still hoping to reach a solution in 2Q21, Constantatos said. But the process faces challenges, some of which derive from the Land Bank’s unique legal status, Constantatos said. It is neither governed by the Companies Act, which means it cannot be put into business rescue, nor is it governed by the Banks Act, which means it cannot be put into curatorship either, Constantatos noted.
In addition, unlike in other SOEs, a majority of Land Bank’s funders are institutional lenders holding un-guaranteed debt, and not banks holding guaranteed debt, Constantatos noted.
This makes the shape of the future negotiations at Eskom, where about 70% of the debt is government-guaranteed and much of it is held by development finance institutions, likely to be completely different to the situation in the Land Bank, according to Pavel Mamai, portfolio manager at ProMeritum Investment Management.
In addition, the government guarantee in Eskom is unambiguous, and in the case of default, it gets triggered, Mamai noted. This would mean that 70% of Eskom’s debt would immediately end up on the National Treasury’s balance sheet, making NT subordinated to other lenders in Eskom, according to Mamai.
“If that would happen tomorrow, Eskom would become a very viable entity,” Mamai said, adding that unsecured, un-guaranteed creditors of Eskom (i.e. the majority of its Eurobond-holders) would benefit from that guarantee being triggered.
Eskom’s debt deleveraging options
Many solutions have been floated publicly about how the government could deal with Eskom’s debt, including a debt-for-equity swap by the Public Investment Corporation (PIC), a swap for government debt or a swap into a special purpose vehicle guaranteed by the government.
The economic substance of these solutions is the same, according to Mamai. Government-guaranteed debt is removed from Eskom’s balance sheet, essentially recapitalising Eskom by doing this. While this changes the utility’s capital structure, there is no negative impact from this particular operation on government finances, since the government is responsible for the debt anyway, according to Mamai.
While it is too early to speculate about any of these specific solutions in much detail, the debt-for-equity swap appears unlikely to work, since ratings agencies would consider it a distressed debt exchange, and hence a default by their definitions, according to Mamai.
On the other hand, swapping Eskom debt into a government-guaranteed special purpose vehicle would be unlikely to lead to creditor losses, meaning ratings agencies would probably not consider it a distressed debt exchange, Mamai added.
The purpose of Eskom’s debt restructuring will not be to save money for the National Treasury, but rather to put Eskom on a sustainable finance footing and allow it to service its debt, according to Mamai. And the debt restructuring will also serve the purpose of supporting the legal unbundling of the entity, Mamai added.
All in all, Eskom’s debt restructuring is very unlikely to be aggressive to creditors, because a fundamental decision was made in government two years ago, when a ZAR 230bn 10-year bailout was announced to underwrite debt repayments, Mamai said.
“The reason why Land Bank defaulted and SAA was put into business rescue was the government’s refusal to pay for maturing debt,” Mamai noted. “With Eskom, the government underwrote the payment of maturing debt two years ago, with the 2019 bailout, to give the entity more time to figure out a solution. If you want to save money on Eskom, you do not underwrite its debt repayments for several years.”
“Given the objectives of the government and the objectives of the creditors, we are looking to a long but very friendly [change] in Eskom’s debt capital structure,” Mamai noted.
Deep seated reform
But for any debt restructuring to be effective, it will have to be accompanied by deep-seated SOE reform, said Futuregrowth's Constantatos.
"There have been presidential panels for more than 10 years now, recommendations, 10-point plans, nine-point plans, the list goes on," Constantatos said, " [But this reform] is never actually actioned."
In tandem with restructuring these distressed entities, more attention must be paid to the reform to the boards, to the management teams, to their mandates and how they get measured, the legislation they are subject to, Constantatos said. Without this, these entities will likely find themselves in the same situation in a few years' time, Constantatos noted.
CLICK HERE for a replay South Africa’s SOE restructuring webinar, beginning at the 1h mark.
The webinar was part of Debtwire’s Emerging Market restructuring series