Further credit ratings downgrades pose a risk to Transnet

Environmental factors remain fluid and are a risk factor to Transnet’s financial sustainability. On the upside, the new leadership at Transnet has infused a new organisational culture that prioritises governance and sets the company on a better footing. However, the after-effects of State Capture and recessionary conditions linger, while Covid-19 lurks.

The economic headache spawned by Covid-19 has exposed pre-existing underlying risks among some businesses, while reinforcing the sound fundamentals of others. In terms of state-owned entities, Transnet falls somewhere at the midpoint of these two dynamics, according to the latest assessment of the company by credit ratings agency S&P Global Ratings.

In October, the state-owned integrated logistics company released its results, showing a credible, but not particularly spectacular performance for the financial year that ended on 31 March 2020. The official statement couched the results as “solid”.

That is fair enough when taking into account how in recent years Transnet has been mired in State Capture controversy and its internal governance has been less than stellar. This was most apparent in the quantum of irregular expenditure documented in the 2019 financial year. A deterioration in its governance correlated robustly with weakened operational performance in some segments, endemic low morale throughout the group and less than adequate procurement controls.

In the 2020 financial year, revenue increased by a modest 1.3% to R75.1-billion. In 2019, revenue improved by 1.6% to R74.1-billion. An important distinction has to be drawn between the 2019 and the 2020 revenue growth. The former was driven by operational factors, while the latter was pushed up by a price increase – or an upward tariff adjustment.

The company states: “Transnet reported an increase… in revenue, supported by the weighted average tariff increase of 2.9%. The revenue increase was offset by a decline of 1.3% in rail freight volumes, and a volume decrease of 2.4% in port container throughput… compared with the prior year.”

This reality is reflected in the company’s bottom line, which has contracted substantially.

In 2020, profit dropped by a drastic 34.9% to R3.9-billion. In 2019, Transnet posted a R6-billion profit, representing a 24.7% improvement. In addition, the company’s gearing in 2019 was 44.5% compared with 47.6% in 2020. That 3.1 percentage points difference might not seem like much, but it is quite significant given the current macroeconomic environment uncertainties that are attributable to the volatility sparked by Covid-19.

In simple terms, the 2020 results do not fully encompass the realities of the coronavirus outbreak with reference to Transnet’s operational performance. That will become clearer when the company presents its 2021 results. As such, it can be argued that the 2020 results are demonstrative of the recessionary conditions South Africa was in prior to Covid-19 being the factor it is at present.

But … [in] our assessment of Transnet’s standalone credit profile… we consider Transnet’s less than adequate liquidity… the high amount of debt subject to varied and complex covenants, which is uncommon for similarly rated peers, as well as the covenants’ potential to further affect liquidity.