The GEPF faces five red flags

The Government Employees Pension Fund (GEPF) recently released its annual report for the financial year ended March 31, 2020, showing a marked decrease in investment values.

Approximately 87% of its investments are managed by the Public Investment Corporation (PIC), which has been under scrutiny. The Judicial Commission of Inquiry into allegations of impropriety at the PIC – chaired by retired judge Lex Mpati – released its report in April, after the GEPF’s financial year-end.

It is to be noted that the commission did not have the resources to investigate every allegation of malfeasance.

The GEPF made losses of R214.4 billion for the year, and the market value of investments dropped 11.47% to R1.61 trillion. The investments were knocked by the downturn in the economy, the devastating Covid-19 pandemic, as well as the cost of malfeasance perpetrated by a few officials at the PIC.

The GEPF, through the PIC, now has to try to claw back what has been lost or impaired. This article considers five red warning flags.

Red flag 1: Actuarial valuation

A statutory actuarial valuation is carried out at least once every three years. The last one was done by Alexander Forbes Financial Services as at March 31, 2018. The next one will be carried out on the fund for the financial year ended March 31, 2021, but will only be completed in December 2021.

The minimum funding level is defined as the funding level determined excluding any contingency reserves.

The long-term funding level is determined using solvency reserves and other contingency reserves which the trustees deem realistic in the long term.

Funding levels	2018	2016	Required level per the funding policy
Minimum funding level	108.3%	115.8%	90%
Long term funding level	75.5%	79.3%	100%

Whereas the minimum funding level is above the 90% stipulated in the funding policy, the long term funding level in 2018 falls short of the required 100%. Since 2018, investments have plummeted. The 2021 long term funding level rate will be negatively impacted if the investments do not fully recover by then.

In a discussion after the press briefing, GEPF principal executive officer Musa Mabesa assured Moneyweb that the long-term funding rate is being continuously monitored.

Red flag 2: The investments carry further risk of deterioration

The reasons for the risk of deterioration are provided in the notes below.

Investments (Rm)	2020	2019	2018
Money market instruments, Note 1	29 171	42 323	30 228
Direct loans, Note 2	42 344	41 887	44 245
Bills and bonds, Note 3	568 766	575 542	576 691
Investment properties	14 989	14 651	14 296
Equities – primary listing on JSE, Note 4	557 489	763 107	781 485
Equities – secondary listing on JSE, Note 4	205 528	199 891	188 601
Equities – unlisted equities, Note 5	70 412	68 063	62 993
Preference shares	2 951	5 044	4 379
Collective investment schemes	118 460	108 331	98 899
Total investments	1 610 110	1 818 839	1 801 817

Note 1: The money market instruments include promissory notes with the Land and Agricultural Development Bank (Land Bank) of R4.4 billion. The Land Bank is experiencing liquidity problems and defaulted on its obligations post balance sheet. At the press briefing, Mabusa said the Land Bank made its outstanding interest payments in September 2020.

Note 2: The direct loans were impaired by R11.9 billion. Further impairments are a possibility.

Note 3: Bills and bonds include bonds with: Eskom (R78.2 billion), Sanral (R20.9 billion), Transnet (R20.3 billion) and Trans Caledon Tunnel Authority (R6.9 billion). In this worsening economic climate, bonds and money market instruments held with state-owned entities may be at risk of defaulting.

Note 4: The loss on fair value is R297.2 billion.

Note 5: The Mpati commission reported that “41% of the R123 billion of unlisted investments are on watch, underperforming or not servicing loans [non-performing loans]”.

Post balance sheet event: The GEPF had to take up the direct exposure of R250 million to GroCapital in July 2020 through a put option agreement with Nedbank, and was also required to lay out R126 million to purchase Drive-In Trading from Bank of America and Merrill Lynch through a CRO (contingent repurchase obligation) agreement.

At the press briefing, Mabesa was asked about the risk of further guarantees that the GEPF had been committed to. He said a moratorium has been placed on all such structured investments.

Red flag 3: Impairments on direct loans

Many of these investments should not have been made at all. For example, Erin Energy Corporation was technically insolvent and did not own any oil leases. The PIC (on behalf of the GEPF) lost the whole investment.

Some investments do however recover. Mabesa gave as an example Daybreak Farms, previously impaired, which recovered after the PIC had intervened and improved governance processes.

R’000	2020	2019	2018
Afrisam Group	527 593	2 354 506	252 815
Lancaster Group	3 361 426	959 277	4 275 782
Erin Energy Corporation		646 054	269 782
Allied Mobile Communications	415 573	867 764
Smile Telecoms Holdings	322 857	542 057
Firefly Investments 326	401 289	480 633
Independent News and Media SA	112 531	338 510	1 058 320
Belelani Capital	2 334 171
Kilimanjaro Sakhumnotho Consortium	1 038 464
Kuseni Group	809 412	307 067
Other	2 627 195	2 271 103	1 533 912
	11 950 511	8 766 971	7 390 611

There is a view that the direct loans represent a small percentage of the overall portfolio. The Mpati commission pointed out that “when evaluating materiality and prudence, it is important to note that the use of percentages obfuscates the numerical size of the funds in question.”

Red flag 4: Overall net investment earnings

R million	2020	2019	2018
Dividends	34 051	34 825	30 557
Interest	52 275	47 916	44 620
Other income	596	393	429
Foreign exchange gain	5 942	2 934
Reversal of impairment	259	454	625
Property income	1 822	1 742	1 742
Income from investments	94 945	88 264	77 973
Net profit on sale of investments	38 031	11 376	18 716
Adjustment to fair value	-297 168	-40 455	69 034
Impairment of investments	-11 951	-8 767	-7 391
Total investment loss/income	-176 143	50 418	158 332
Less: expenses incurred in managing investments	-3 518	-3 641	-4 923
	-179 661	46 777	153 409

By September 2020 many investments had recovered.

The real test however, will be the audited annual report as at March 31, 2021.

Red flag 5: The current Investment Management Agreement (IMA)

Certain investments made by the PIC, such as the investment in Ayo Technologies, were queried by GEPF principal executive officer Abel Sithole (now CEO of the PIC). However, he had no power to stop the investment.

According to the Mpati Report (page 621): “… the PIC did not involve or inform the GEPF when it considered and made the investment in Ayo.

“The PIC contended that they considered the Ayo investment fell under the listed investment delegation of authority [per the IMA], a view that Mr Sithole strongly disagreed with and said that while he could not pronounce on the legality of the action, it was certainly a breach of faith and trust.”

The IMA is now under review, and the GEPF is expected to have more power to intervene in any proposed investment. Consequence management will also be strengthened. Until then, the current IMA remains as a red flag.

Briefing to parliament

In the evening of December 2, National Treasury and the PIC briefed the Parliamentary Standing Committee on Finance on the Mpati Report.

Finance Minister Tito Mboweni made it clear that they are going to get to the bottom of what happened, they will deal with all the issues, and they will deal with the malfeasance.

The National Prosecuting Authority and the Hawks have already been engaged. The PIC has already implemented many of the recommendations of the Mpati Report. The difficult part will be clawing back the loss.

Listen to Nompu Siziba’s interview with Abel Sithole, former GEPF principal executive officer and now CEO of the PIC (or read the transcript here):