DOCUMENTS

This would be the effect of EWC on the Land Bank - MA Moloto

Chairperson says in worst case scenario bank's entire R41bn funding portfolio may become due and payable immediately

Independent non-executive chairman

CHAIRMAN’S STATEMENT

Turbulent and changing environment

Notwithstanding the external environment, the Bank was steadfast in holding its position to strengthen its financial sustainability credentials and make meaningful progress with its support of new generation farmers.

We did however operate in a volatile environment where the country’s macroeconomic climate remained unsteady. As a consequence, economic growth has been muted and citizens and business alike are affected by the country’s lack of global competitiveness. The governance failures of some SOEs and private corporations had adversely affected the country as an investment destination. Within this challenging macro-economic environment, the effects of the drought, particularly in the Western and parts of the Eastern Cape, also had a negative impact on agricultural production and employment. This increased the Bank’s credit risk and affected our ability to execute transformational transactions.

Macro-economic and political conditions

Global economic activity stabilised, with global output estimated to have grown by 3.1% in FY2017. This was driven by an investment recovery in advanced economies, continued strong growth in emerging Asia, a notable upswing in Europe, and signs of recovery in several commodity exporters. Global growth is expected to remain unchanged at 3.1% for the remainder of 2018, supported by strong momentum, favourable market sentiment, accommodative financial conditions, and the domestic and international effects of expansionary fiscal policy in the United States. The partial recovery in commodity prices should allow conditions in commodity exporters to improve gradually.

The possible effect of the United States imposing trade tariffs and retaliatory actions by other major trade blocs is not clear yet but may affect the South African agriculture market in unexpected ways as commodity traders shift contracts to purchase grain and oilseeds to South America and other locations. Global market uncertainty on the potential actions and impact of these decisions have been reflected in volatility of exchange rates for emerging markets.

The South African economy experienced some volatility during FY2018. The domestic economy grew by 1.3% in the FY2017 compared to FY2016, following an increase of 3.1% quarter-on-quarter (q/q) in the fourth quarter of 2017. The strengthening in economic activity in FY2017 was largely driven by the agricultural sector, which bounced back from one of the worst droughts in recent history. The finance and mining sectors also contributed positively to Gross Domestic Product (GDP) growth in 2017.

While the stabilising global economy and stronger economic growth in South Africa in the last half of 2017 were positive developments, the South African economy recorded a sharp contraction of 2.2% during the first quarter of 2018 (quarter-on-quarter (q/q), seasonally adjusted and annualised), much worse than anticipated. This contraction was mainly due to significantly lower output in the agricultural, mining and manufacturing sectors. The sector contraction shows that the horticultural sub-sector in certain areas of the Western, Northern and Eastern Cape remain under pressure due to the continuing drought in that region.

In the Western Cape in particular the drought has and will continue to negatively affect agricultural exports, foreign exchange earnings and employment opportunities across the area. Agricultural job losses were recorded in most provinces, with the largest decline in the Western Cape. The outlook for domestic GDP growth for the remainder of 2018 remains subdued at +1.7%.

Continued political uncertainty during the period under review, combined with the slow pace of economic growth, contributed to low investor confidence and investment returns. International ratings agencies shared their concerns on the outlook for the South African economy in various reports and adjusted the outlook on the sovereign debt rating accordingly downward.

We remain confident that the country’s credit ratings and economic growth will improve with the implementation of the President’s detailed economic recovery plan, as well as National Treasury’s commitment to fiscal reforms and enforcement of good governance practices, particularly in SOEs. Such measures should hopefully benefit the Bank in time, creating opportunities for accelerated transformation and development impact in the agricultural sector.

Performance

In this challenging context, we must balance our financial sustainability with our transformation agenda and are pleased to report that we delivered a satisfactory set of results. We also made positive progress against our objectives to enhance our reputation and funder perception, further improve transparency and governance, and position ourselves as a credible investment destination for debt investors.

We improved our financial sustainability and delivered our transformation mandate as follows:

- Reduced our reliance on short-term funding to 43.2%, achieving our medium-term target of below 50% (from 69% in FY2015);

- Increased the number of investors from whom we received funding, specifically from multi-lateral funders;

- Concluded a number of significant development transactions with new generation farmers with specific development objectives;

- Improved investor confidence culminating in two successful listed debt auctions in terms of our Domestic Medium Term Note (DMTN) programme;

- Maintained a strong balance sheet position;

- Maintained the Bank’s external credit ratings of Global Scale Issuer Rating: Baa3.za and National Scale Issuer Rating: Aa1.za; Outlook: Stable; and

- Maintained our profitability trajectory, growing profit from banking activities by 3.7%. This was largely off-set by a decline in profitability from our insurance activities mainly due to weather-related crop insurance claims.

Land reform (Expropriation without Compensation)

The Parliamentary process instigated by a vote in favour of adopting the motion on Expropriation without Compensation on 27 February 2018, is a regulatory proposal that could potentially affect the agricultural sector and the Bank sigificantly. It is important to recognise the emotions involved in the unfolding process as people are rightfully responding to centuries of inequitable land policy that has resulted in economic hardship and psychological trauma for many families.

While the proposal around Expropriation without Compensation has taken precedence, we consider improving the overall land reform programme to achieve its stated objectives as a key departure point for the process. In our opinion as part of the broader land reform programme, expropriation (with or without) compensation, if it is well executed, has the potential for some significant economic and social benefits that may accrue to the economy of South Africa in general and to the agricultural sector in particular. The agricultural sector relies heavily on the availability of land as one of its key factors of production. The land reform process may have a potential positive result though if more land is brought into production.

Land Bank’s mandate is clearly aligned to the imperative of land reform in South Africa and its development objectives support the priorities contained within the NDP. As such, the Bank supports all efforts to advance an effective land reform programme that will achieve transformation in tandem with increased agricultural production, secured tenure, employment creation and food security. The risks and opportunities posed by this option for land reform depends on the manner in which it is implemented. We anticipate an approach that is intended to shield the economy from undesirable negative impacts, and to specifically strengthen agricultural production, employment creation and food security.

It is our considered view that it would be futile to expropriate land without compensation without an associated re-alignment and adjustment of the institutional mechanisms to deliver land reform. Land reform should be conducted in conjunction with the provision of comprehensive support to the beneficiaries which include both financial and non-financial elements. We have a central role to play in facilitating this support to the new beneficiaries towards a competitive, sustainable and transformed agricultural sector. While there are potential opportunities for the Bank associated with a well-executed land reform programme, it is difficult to quantify as the final scope of the programme is not known.

We have identified opportunities around the implementation of Expropriation without Compensation, however it would be prudent to caution that if this process is poorly executed it could have grim consequences for the Bank as a creditor, bringing the organisation’s sustainability under threat. From our perspective, poor execution would include:

- Productive land being taken out of production;

- No protection for creditors;

- No effective institutional processes;

- Poor and undefined process for selection of beneficiaries;

- Corruption; and

- Lack of comprehensive support for beneficiaries.

As the Bank is generally funded by the local debt and capital markets (and more recently international multilateral institutions such as AfDB, World Bank, Kf W and the EIB), a poorly executed Expropriation without Compensation could result in the main sources of funding drying up as investors might not be willing to continue funding Land Bank in particular, or agriculture in general. Where funders remain willing to provide funds, these would be expected to come at an added risk premium due to perceived higher risk levels. Consequently, downward pressure would be exerted on our thin interest margins and levels of profitability. Over time, this may further contribute to a deterioration of our financial sustainability.

Furthermore, our funding agreements typically include Event of Default; Cross Default and Financial Covenant clauses to provide lenders certainty of performance against their loans. To this end, the Bank must highlight that it has approximately R9 billion of debt, which includes the following standard market clause on 'expropriation' as an Event of Default:

The ability of the Borrower to conduct its business is wholly or substantially curtailed by any seizure, expropriation, nationalisation, intervention, restriction or other action by or on behalf of any governmental, regulatory or other authority or other person.

If Expropriation without Compensation were therefore to materialise without protection of the Bank’s rights as a creditor, we would be required to repay R9 billion immediately. A Cross Default clause would be triggered should we fail to pay when these debts fall due because of inadequate liquidity or lack of alternative sources of funding. This would make our entire R41 billion funding portfolio due and payable immediately, which we would not be able to settle. Consequently, government intervention would be required to settle our lenders.

In response, the Bank has participated in numerous forums and discussions including appearances at parliamentary portfolio committees to articulate our position on Expropriation without Compensation and made a formal submission to the responsible parliamentary committee. It has modelled and assessed the impact of various outcomes of the Expropriation without Compensation process on its loan book and funding arrangements. The Bank also reviewed its processes and products to support land reform beneficiaries and investigated partnerships with government and the private sector to strengthen its ability to execute its mandate within its current funding model;

Governance

SOE instability, state capture allegations and governance failures remained an unpleasant theme in the South African discourse, and these matters affect stakeholder's perceptions of the Bank. The Board continues to demonstrate effective and ethical leadership throughout the Group governance and executive functions, and maintains a strong oversight role for risk and compliance management and governance – including financial, social and environmental governance. We are therefore proud of our status as a financially sustainable SOE that is demonstrably committed to maintaining sound governance practices.

Governance and risk were identified as material matters during FY2018 and were a key strategic theme across our business units and functions. As a result there have been numerous interventions this year to strengthen risk management and control applied to the business, and to monitor and report on the effectiveness thereof. Throughout this report stakeholders will find evidence of our commitment and effort towards improving our risk and compliance management maturity, fostering the highest standards of ethical conduct throughout and enhancing governance oversight throughout the Bank.

During FY2018, a key component of our commitment to ethical practice was the Ethics Institute’s appraisal of the Bank’s corporate ethics environment. The report found many behaviours that contribute positively to a robust ethical culture as well as some key opportunities on which the Bank can build to create a stable ethics platform. Many expansive initiatives have been implemented to date in response to this appraisal and to further enhance the organisation's ethics environment.

Board changes and succession planning

Leadership is of utmost importance to us and we rely on the Board’s collective skills, experience and diversity for responsible oversight of the Bank’s conduct in its efforts towards creating an ethical and resilient institution that creates value in both the financial and developmental context.

We bade farewell to board members Professor ASM Karaan in August 2017 and post year-end to Ms N Zwane in June 2018. We thank them for their valuable contributions to the Board and wish them well in their future endeavours. Several directors were re-appointed post-year-end specifically Ms S Lund, chairperson of the Risk and Governance Committee and Ms D Hlatshwayo who has also been appointed as Deputy Chairperson, and myself as Chairperson. We welcomed two new, independent non-executive directors to the Board, who were appointed post-year-end: Mr M Makgoba and Dr ST Cornelius. Their extensive experience in development, veterinary sciences and agriculture respectively are respected additions to the Board.

Outlook

Our people are at the heart of our business and our future as a sustainable SOE that delivers its development objectives. They stand apart because they care about their clients, their co-workers and society, and they find meaning and purpose in their work at Land Bank. The Bank’s future depends on expanding and reinforcing this culture along with the capabilities of our people. One of the biggest challenge this institution faces is ensuring that we have the human capital that is equipped with excellent technical ability to lead the organisation and ultimately the agricultural sector into a prosperous future.

The fast pace of technological change and its effects on the financial and agricultural sectors creates the opportunity to deploy creative solutions related to risk management, market access and technical support for our clients. These changes require advanced technical skills from our employees and thus targeted interventions by our Human Capital division to recruit and provide ongoing training to improve our employee and institutional capabilities. Our ability to embrace and utilise digital innovation in our unique environment and in providing support to our clients are critical to both the Bank’s future and its potential impact on the sector. Land Bank acknowledges that it has not been at the forefront of this change and has identified digital innovation as a critical area of current and future development.

Building institutional capacity for the future

- For FY2019 we have set ourselves ambitious targets for transformation;

- We are initiating a number of strong collaborations with the private sector towards an inclusive agricultural sector;

- We will apply our collective mind to embrace the fourth industrial revolution and the benefits that technology can bring to the financial and agricultural sectors; and

- We intend to maintain our position of financial sustainability.

Appreciation

We rely on the support of our multiple stakeholders to deliver on our financial and development commitments. I would like to thank my fellow Board members for their commitment and contributions to the company over the past year. Furthermore, I wish to express my sincere gratitude to the Bank’s CEO, Mr TP Nchocho, his executive team and our employees for their commitment to building an ethically sound financial institution that is fit for the future and a driver of transformation in the sector.

Mr MA Moloto

Independent non-executive chairman

Source: Land Bank Annual Report, 2017/18