Briefing on Competitive Supplier Development Program

1. Briefing on Competitive Supplier Development Program CONFIDENTIAL

2. The drop in infrastructure investment between the 1980s and the 2000s had a devastating impact on national supplier industries. • The trauma and associated loss of trust and confidence by suppliers resulting from this process cannot be over-emphasized. • Consequently, something beyond business as usual is required from SOC if their national industrial supply chains are to be developed. CONFIDENTIAL

3. In this context, the Department of Public Enterprises introduced the Competitive Supplier Development Programme (CSDP). • The objective of the intervention is to build a demand platform so as to promote investment in plant, skills and technologies and the development of internationally competitive capabilities in supplier sectors relevant to the SOC, with the aim of: • Reducing costs through increasing efficiencies. • Reducing dependency on imports and foreign exchange exposure. • Developing niche export areas. A key challenge is to move from a short term transactional to a longer term developmental relationship with suppliers Increasing the duration of the procurement also increases our leverage to achieve more – the stakes of the procurement grow. CONFIDENTIAL

4. Supplier development spans a number of key performance areas. Key performance area Definition • Increasing the skill base (number and skill level) of South African workers in areas relevant to the SOC sector and where there is a national scarcity of skills. 1 Skills development 2 Localisation • Utilisation of SOC and suppliers’ spend to develop South African based suppliers • Utilisation of SOC and suppliers’ spend to foster the establishment of new competitive industries in the energy sector. 3 Industrialisation 4 Job creation • Creation of new jobs by suppliers as a direct result of SOC business. • Providing a platform for SA-based suppliers to develop into national and international suppliers, including a platform for emerging suppliers to develop the ability to do business with SOC. 5 Supplier development • Promoting economic activity in localities surrounding major projects. 6 Local Development CONFIDENTIAL Source: Eskom

5. There are some fundamental critical success factors that need to be in place for the redevelopment of competitive supplier industries. • A predictable and convincing long term demand platform against which suppliers can invest in new plant, technologies and skills and go through a sustained learning curve – it is the quality of this platform that will ultimately enable or constrain SOC supplier development. • The ability to design and manage, longer term deverlopmental relationships with suppliers • A procurement process that coherently integrates incentives and penalties for supplier development requirements in the selection and management of suppliers. • A means of co-ordinating supplier support programmes (e.g. government industrial incentives and cluster development programmes) with the SOC procurement process. • A Government consensus that rewards suppliers focused on building globally competitive capabilities, and disciplines rent seekers. CONFIDENTIAL

6. Execution Procurement Planning • Short term, transactional focus – often crisis driven. • Narrow engineering bias leads to over complex technical requirements and limited standardisation. • Institutional fragmentation means demand is not aggregated. • Balance sheet perspective further limits planning horizon – particularly when degraded. • Supplier development concerns and incentives absent from procurement requirements. • Short term relationship duration – transactional. • Focus on penalties to suppliers, rather than incentives making suppliers risk averse. • Integration of procurement with broader government resources. When the CSDP was launched, the SOC procurement capability was not geared for supplier development. Industrial Outcome • No case to invest in scale. • Short term investment mindset by suppliers. • No sustained learning curve or specialisation. • Seen as an unattractive market by OEMs. Degraded Industrial Capability SOC Governance - Process, rather than substance orientated. SOC Culture - Rigid, inward-looking, limited learning. CONFIDENTIAL

7. Procurement Planning Execution • Entrenched methodology to integrate supplier development requirements as core to procurement selection process. • Ability to enter into and manage the risks of longer term supplier relationships through appropriate incentives and penalties. • Longer term, developmental planning focus. • Engineer to build locally based on national industry capabilities. • End users define functional requirements to enable standardisation, (rather than customisation). • Aggregation of demand across all business units. • Shareholder support for long commitments to suppliers. Supplier development required a complete re-engineering of SOC procurement practices and the building of new capabilities. Industrial Outcome • Adequate duration, scale and scope of demand to enable investments in capability building and learning curve. • SOC becomes “customer of choice” by international and national suppliers. Advanced Industrial Capability SOC Governance – Focused on content rigor and substance. SOC Culture - Flexible, outward and learning orientated CONFIDENTIAL

8. As there is no simple text-book methodology, the first phase of the Competitive Supplier Development Programme was designed to enable a “learning by doing” process by the SOC. Developing an effective operational approach and associated management capability to accumulate experience and learning so as to find out what works within constraints and opportunities of the environment. Show care from the top: Hands-on top down accountability and dialogue (e.g. regular, substantive report-back meetings on progress and obstacles) Bottom up execution: Delivery organisation driven planning, implementation and learning (e.g. clear definition of projects, focus areas and targets.) Provide Support: Put in place resources and enabling initiatives that enhance delivery (e.g. specialised skills development) Output of phase one: Learning about what works in practice! CONFIDENTIAL

9. In practice, the complexity of the procurement re-engineering process for supplier develoment cannot be over-emphasised. CSDP Strategy • Qualitatively new skills • Different composition of sourcing teams to traditional sourcing • Sourcing process redesign to integrate supplier development concerns from start to end. • New structured and systematic channels of communication with suppliers. • Ability to co-ordinate with a range of support organisation both inside and outside of government. Procure- ment Policy Other Policies Procurement toolkits Other toolkits Governance & controls Organisation Process Systems Organisational Culture People/Change Management CONFIDENTIAL

10. There are three phases to the Competitive Supplier Development Programme. • Optimisation of what is to be procured (to optimise capital, lifecycle cost, industrial impact). • Methodology to define, contract and manage localisation requirements. • Develop methodology for defining procurement process (how to procure). • Strong contract management skills. Phase One: Transactional Capabilities Phase Two: Manufacturing Partnership Capabilities • Ability to identify key fleets and define long term fleet requirement. • Standardisation of methodology to ensure economies of scale. • Across government – enterprise coordination capability including long term funding strategy, definition of procurement vision and comprehensive government support for advanced manufacturing capabilities. • Identification of design capability vision. • Structuring of design partnership. • Management of design technology transfers. Phase Three: Innovation Capabilities • We are presently moving from phase one to phase two, although enterprise capability remains weak and very uneven. • Continued focus on entrenching supplier development at a transactional level. CONFIDENTIAL

11. Transnet’s Supplier Development journey began in 2008 and has evolved to service current opportunities within its 7 year investment plan and align with broader SA objectives over time. 2008 2010 2011 2012 Pre 2008 NIPP Initiation of CSDP within Transnet Transnet applies SD in first transactions SD begins to be rolled out to all transactions Transnet launches Market Demand Strategy (MDS) with significant SD opportunities • Transnet launched the DPE’s Competitive Supplier Development Programme (CSDP) as an initiative within the Transnet group • The first SDP developed and submitted to DPE in 2008 • Transnet designs SD structure into business procurement operating model • Plans in place to expand SD to all transactions • R5,2bn committed to local content via CSDP contracts, including: • 100 GE locomotives • Additional 43 loco’s • Long-term parts agreements for the locos • 32 Mitsui/Venus 15E locos • Mobile harbour cranes • Draft gear components • The experience gained in CSDP transactions enabled Transnet to refine policies, processes and procedures • In 2011 the SD concept broadened beyond CSDP • Pursuing a broader range of SD opportunities through the supply chain could lead to improved industrial capability building and economic transformation • Transnet launches its R300bn Capital expansion programme over 7 years • SD becomes a cornerstone of the overall programme • The SD strategy and SDP is updated to ensure maximum realisation of SD over the course of MDS • The revised SD Strategy and SDP is integrated into the new SCM Policy and Framework • Post tender process not offering much leverage • Investment not necessarily industry-related (30% of contract) • Penalties were negligible and often built into price • DTI programme mandatory for all SOC’s imports over US$10 million • Suppliers were clear of what was expected of them at outset Source: Transnet *New Growth Path ** National Development Plan *** Industrial Participation Action Plan CONFIDENTIAL

12. Since the inception of the supplier development journey, Transnet has had a number of successful transactions. Source: Transnet *contracts recently awarded or in the process of being awarded

13. 0 Since the inception of CSDP (June 2008), a total actual investment spend in manufacturing facilities by suppliers was R644 million against a committed value of R1,2 billion over the life of the respective contracts Eskom has leveraged over R1 billion in investment in its supply chain. CONFIDENTIAL Source: Eskom

14. Eskom has leverage significant skills development commitments from suppliers. • Since inception of the respective contracts till end of December 2011 there were 5151 people who had completed their training at various training site throughout the country against a commitment to train 7214 people. • The skills types include: • Engineers • Artisans • Technicians • Quality Control Inspectors • Safety Officers • Construction Managers • etc. CONFIDENTIAL Source: Eskom

15. The Competitive Supplier Development plan needs to be seen in the context of the strategic sourcing process Strategic Planning Strategic Sourcing Execution 5-7 yr horizon • Commodity sourcing • CSDP • Implementation Plan • Detailed commodity strategy with integrated supplier development requirements and targets. • Selection of capability champions with associated contracting strategies. • Prioritised areas for development based on medium term demand. • Supplier development methodology. • Sourcing capability development plan. • Schedule to enable coordination. • Establishment of commodity specific forums. • Monitoring and evaluation.

16. To focus their supplier development plan, Eskom screened 188 strategic focus areas. CONFIDENTIAL Source: Eskom

17. Going forward, based on their spend analysis, Eskom has announced priority commodities for supplier development. The following commodities were identified: • Strengthening • Substation Construction • Direct Customers • Transformers • Spares • Pipes • Tubes • Boiler • Valves • Mills • Vessel • Economiser • Air Heater Pack • Motors • Pumps • Bushings • Fans • Resins • Membranes • Bearings • Current Transformers • Power Transformers • Insulators • MRO: PPE • Auto reclosers • Clamps • Voltage Transformers • Auxiliary Transformers • Capacitive voltage Transformers • Acrylic Clamp covers • Forged steel (e.g. Grinding Media) • G Step Up Transformers • Line Hardware • Optical Ground Wire • Pole mounted Transformers • Substation hardware • Variable speed drive Supported by their forecast spend for the next 6 years (Rm): Strengthening FY2011/12 Substation Construction FY2012/13 Direct Customers Transformers FY2013/14 Spares FY2014/15 Pipes Tubes FY2015/2016 Boiler FY2016/17 Valves Mills Vessel Economiser Air Heater Pack Motors Pumps Bushings Fans Resins Membranes CONFIDENTIAL Source: Eskom

18. Attached to each commodity is a core leverage strategy. CONFIDENTIAL Source: Eskom

19. Going forward, for the MDS Transnet has identified over a 1800 procurements that will involve supplier development processes. CONFIDENTIAL

20. Going forward, for the MDS Transnet has identified over a 1800 procurements that will involve supplier development processes. CONFIDENTIAL

21. Transnet is also leveraging its operational expenditure with a focus on achieving transformation and enterprise development objectives Indicative Overview of Transformation Plan Transnet Spend per cluster 2012/13-2018/19 Rm Spend Cluster 3.637 3.390 3.142 2.953 2.780 • Set asides • Preferential procurement • SD initiatives 2.611 2.596 Professional Services 967 904 843 796 747 Health, Safety & Sanitation 706 665 • Set asides • Preferential procurement • SD initiatives 4.887 4.381 3.861 Equipment and Operation Critical 3.521 3.232 • Set asides • Preferential procurement • SD initiatives 2.903 2.958 255 238 222 208 194 Various ED 184 180 • Preferential procurement 2012 2013 2014 2015 2016 2017 2018 SOURCE: Team Analysis 21

22. In the strategic sourcing process, detailed evaluation criteria will be defined for each commodity.

23. The DPE prefeasibility study suggests that to renew the locomotive fleet and create new capacity for growth, approximately 150 locomotives will be required per annum. Long Term Growth 3% Long Term Growth 6% Long Term Growth 9% Volume Scenario mtpa Transnet’s Market Demand Strategy requires 1064 locomotives over the next seven years at an average of 152 locomotives per annum. Recommended locomotive demand Plan +3% Plan +6% Plan +9% Locomotive Demand Scenarios* Units Ø 148 • *Small increases in efficiency of between 1% y.o.y. (GF) and 0,5% y.o.y. (Export ore), spike post 2026 due to locomotive 45 year run out, could be smoothed through procurement practices CONFIDENTIAL

24. The locomotive fleet procurement has a number of objectives. • To get the best value for money in relation to locomotive power – that is the lowest cost per ton kilometer combined with high levels of reliability through the lifetime of the locomotive. • To promote investment, economic activity, employment creation and the building of world class industrial capabilities throughout the locomotive supply chain. • To drive a process of black economic empowerment throughout the locomotive supply chain. • We are not leveraging the procurement in the hope of achieving supplier development and empowerment. • We are procuring supplier development and empowerment as a core dimension of value required from the suppliers for the money we pay them CONFIDENTIAL

25. These multiple objectives need to be systematically integrated in the procurement. • Capital Cost • The initial cost of the locomotive • Lifecycle cost (LCC) • The total cost of the locomotive over its lifecycle including energy, maintenance and operating costs. • The speed of absorbing a technology into the system. • Industrialisation • The capability and capacity of the domestic locomotive manufacturing & service industry to “absorb” a technology. • The ability to use capabilities for manufacture in different applications • The ability to compete in global supply chains • Performance Risk • The cost to the company in lost revenue due to the non-availability, delay or cancellation of trains • The cost of customers moving from rail due to poor perception of rails reliability Capital Cost Performance Risk Lifecycle Cost Industrial-isation • Standardisation • Higher standardisation leading to larger demand and lower LCCs through inter-operability, lower maintenance costs, less specialised skills. CONFIDENTIAL

26. Localisation from the locomotive fleet procurement can be significant. Current Localisation Breakdown for Locomotives Percentage of Loco Value (%) ILLUSTRATIVE • Localisation can be improved from ~ 33% of the value of a locomotive to as much as ~ 85% through focussed programmatic procurement of locomotives • An additional 8% of the locomotives value is currently localisable and would not require large amounts of support to achieve • A further 44% of future potential exists to localise components. This would require support and investment into the supplier industry to facilitate learning and incentivise supplier effort • Realistically, of the 44% of future potential to localise, approximately 30% can be converted to tangible development opportunities • Approximately 15% would not be feasible to localise owing to a lack of financial and commercial viability 100,00 43,39 15,00 8,18 33,43 Local Content Localisable Future Potential to Localise Not Feasible to Localise Total CONFIDENTIAL Source: Transnet

27. Rolling Stock The locomotive fleet procurement could drive the localisation of key technologies relevant to a number of industrial sectors. • Companies producing components for locomotives tend to manufacture for a variety of sectors. • Industrial capabilities such as robotics, lean, six sigma, kaisan, etc. developed for the localisation of the locomotives will be utilised in complementary industries such as the manufacturing of mining equipment, power transmission equipment, defence equipment etc. • Similarly, skills developed in locomotives manufacturing such as quality engineering, welding, electrical & electronic engineering can be transferred to other heavy industries. Mining Power Transmission Yellow Metal Power Generation Automotive Defence CONFIDENTIAL Source: Transnet

28. Filter Bags are used in coal power stations to filter out toxic gases - as Eskom is re-equipping its fleet, the annual demand for filter bags for its power stations for the period up to 2050 creates a strong case for a localisation strategy. 1 Ton represent 503 filter bags. Assumptions : Length = 8m, Diameter = 135mm, Wastage 2.5% Source: Eskom

29. A Filter Bag manufacturing development programme could provide much needed support for our clothing and textiles industry. Final Product Fibre Production Filter Bag Bag Stitching Weaving / Needling of Fabric • The fibre is produced from synthetic material suitable for the thermal boiler conditions. • The fabric is weaved or needled to Eskom’s specifications. • Filter bags are stitched according to each power stations dimensions.

30. There are opportunities to localise to localise the fibre production and needling as this comprises 86% of the cost of a filter bag and is presently imported. 14% 43% Acquisition Costs Component Breakdown 16% 100% 70% Final Product Fibre Costs Needling Costs Bag Acquisition Costs Stitching Costs • The fibre and needling cost account for 86% of the cost of a filter bag. • Local suppliers are currently active in the filter bag stitching in the value chain which accounts for only14% of the acquisition cost of filter bags. • The potential localisation opportunities are within the 86% in fibre and needling costs in the value chain.

31. Eskom has developed a strategy to progressively localise the value chain. • Eskom has three approved imported fibre for filter bag usage namely Polyacrylonitirle (PAN), Polyphenylene sulphide (PPS) and Polyimide (PI) for low and high temperature applications. • The fabric is weaved by seven suppliers and only one of these is locally based in South Africa • The bags are stitched by four local suppliers. • In the short term: • Eskom to consolidate filter bag volumes and engage in a strategic sourcing process to secure bags for the period until the local supply chain is in place. • Skills transfer, in line with the long term strategy, to be driven as part of the SD&L targets. • Long term: • As a buyer, Eskom will share the fabric filter forecasted tonnages to inform the aggregated volumes with other buyers. • Eskom to commit to utilising the outcome of the hub process as the value chain becomes successfully implemented by competitively procuring locally through the value chain. CONFIDENTIAL Source: Eskom

32. EMBEDDING ENHANCING • Integration of SD and transformation throughout sourcing cycle. • Harmonising procurement policies across SOC. • Institutionalising supplier intelligence and research. • Creating an enabling broader policy environment for CSDP. As a next step, the DPE will be leading key initiatives to both embed and enhance the impact of the supplier development programme. • Penalties and incentives for Tier 1 supplier performance. • Penalties and incentives for national supplier effort. • Price premiums for local production. • Leveraging export promotion. CONFIDENTIAL

33. The next stage of enhancing the planning process will involve designing a longer term “localisation blueprint”. Localisation Blueprint Strategic Planning Strategic Sourcing Execution 15-20 yr horizon 5-7 yr horizon • Holistic industry development plan • Commodity sourcing • CSDP • Implementation Plan • Detailed commodity strategy with integrated supplier development requirements and targets. • Selection of capability champions with associated contracting strategies. • Detailed long term vision for industry. • Identification of areas requiring industry champions. • Key milestones. • Key contracting strategy changes. • Design of coordinating agency. • Prioritised areas for development based on medium term demand. • Supplier development methodology. • Sourcing capability development plan. • Schedule to enable coordination. • Establishment of commodity specific forums. • Monitoring and evaluation.

34. Thank You CONFIDENTIAL