Broad-Based BEE. Jonathan Goldberg

Broad-Based BEE

the entrepreneurial Xolani did not have. Richard, however, had the experience, expertise and resources to satisfy all the technical components of the contract and Xolani the BEE credentials.

Xolani had completed a degree in Marketing and owned his own event management company; and a friend of his, Naledi, had a degree in Commerce and a three-year traineeship with a large firm of accountants.

It was agreed that Xolani would own 30 per cent of the new joint venture private company (Newco), Naledi 20 per cent, and the owner-manager of the existing operating company Richard (white) the other 50 per cent. The tender submission was prepared by Richard, and the presentation to the tender committee was attended by all three owners, with Xolani presenting the ownership structure and Richard the technical and operational details.

Their tender was successful and, after the contract was awarded, Newco was formed, and the shares issued at nominal (par) value, i.e. Xolani 30 shares at R1,00, Naledi 20 shares at R1,00 and Richard 50 shares at R1,00. All three shareholders were appointed as directors. Two meetings were held by the three “partners” to sort out the ownership structure, the billing of the department and how the management accounts would be structured. To all intents and purposes, Richard ran Newco alongside his existing business, providing the working capital and operational infrastructure. Newco leased equipment from Richard’s company and third parties to provide the services. Xolani and Naledi did not work in the business, and continued to pursue other business interests.

After a few months the relationship between the “empowerment” partners and Richard became acrimonious. Xolani and Naledi expected that, once the provincial department had started paying for the services Newco rendered, they would receive a regular (monthly) “dividend”. Richard, however, contended that the payments received (which were settled only after 120+ days, notwithstanding that the department had contracted to pay on presentation of invoice) were first going to pay off leased assets, operating expenses and the funds he had injected into the business to fund the working capital before any dividend would be paid.

After nine months Xolani asked Richard if he was interested in buying out his 30 per cent equity stake at an amount that was mutually agreeable. Richard notified Naledi and asked if she also wished to buy Xolani’s shares in their proportional shareholding ratio. She declined, saying instead that she also wished to sell her shares. A price was agreed upon and the amounts paid over in cash. Richard immediately notified the department of these developments and advised that he was actively seeking new empowerment partners. What he didn’t know was that Naledi had gone behind his back, advising the department that, as Richard no longer had any empowerment partners, they should cancel the contract and award it to her. Naledi had a relationship with an operator in another province, who did not have infrastructure or any other tangible investment in the contracting province. Some weeks later, the department’s tender committee requested a meeting with Richard to review Newco’s continued position as its contracted supplier.

To the observer it was apparent that the tender committee, first, did not understand that broad-based BEE is not only about ownership (25 out of 100 points) – it is broad-based and comprises a number of other Elements. Secondly, they did not appreciate that the gross profit (fee charges after deducting direct costs) was not distributable monthly to the shareholders. There was no recognition of the fact that overheads, interest on working capital and tax were to be accounted for, and the remaining cash resources generated were to be used to fund working capital. The tender committee members were not happy when an observer used the adage turnover is vanity, profit is sanity but cash is reality in an attempt to explain the cash-flow realities.

This case study highlights the unfortunate fact that broad-based BEE participants, owner-managers, government officials giving effect to broad-based BEE regulations, professional advisers and other stakeholders are often at sea as to the real issues and application of the Elements in broad-based BEE implementation. Unrealistic expectations, failed consensus, a lack of transformation and buy-in to the national agenda, complex Codes of Good Practice, onerous targets and compliance levels, failure of public sector to timeously implement the Codes, and a myriad other reasons can be given as reasons for broad-based BEE failing to achieve the desired outcomes.

There are numerous examples of contracts and joint ventures that have followed similar courses, leading to continued calls that the current application of broad-based BEE by business and government is unworkable. Until such time as people strategically evaluate the potential consequences of broad-based BEE and take decisive action to implement it, transformation efforts will continue to fail. Responsible stakeholders and visionary leadership are required to make broad-based BEE work. The art of successfully implementing broad-based BEE transformation will lie in realising the reasonable and realistic expectations of all parties. The new Codes of Good Practice are a shift in direction back to black ownership, and may result in the temptation for many to form joint ventures to secure business on the basis of a better broad-based BEE score. For entities that are under an annual R50 million turnover and 51% black owned, the attraction of a level 2 recognition might drive many of these practices as illustrated in the example above.

The unfortunate fact is that broad-based BEE participants, owner-managers, government officials giving effect to broad-based BEE regulations, professional advisers and other stakeholders are often at sea as to the real issues and Elements in broad-based BEE implementation.

2	REAL BROAD-BASED BEE ISSUES

“For small and family businesses, broad-based black economic empowerment is a frightening prospect: if they don’t become empowered, their business will shrink, perhaps even die; but most have little to offer to attract potential empowerment partners, even if they knew where to find them.” – Financial Mail

Already buckling under new laws and regulations, many see BEE as another compliance cost and the far reaching amendments to the Codes, particularly majority (51%) black ownership as moving away from the broad-based to narrow BEE. Coupled to this are the substantially increased qualification requirements for the 8 BEE Recognition Levels and onerous Scorecard criteria across Priority Elements. There are also numerous grey areas, errors and ambiguity that have been created by the Amended Codes coupled with the failure to address the errors and anomalies in the original Codes.

The Amended Codes are hugely complex and, for some businesses, probably raise more questions than they provide answers. Many who have implemented BEE transformation probably fall short in relation to the Amended BEE Codes of Good Practice.

Reasons for the failure of broad-based BEE transactions have included:

•narrow focus on ownership control

•a lack of effective integration;

•divergent strategic objectives;

•incompatible corporate cultures;

•excessive imbalance between partners (“David and Goliath”);

•an unwieldy decision-making process;

•divergent financial objectives;

•a lack of trust between partners; funding, and

•complex financial structures.

IMPLEMENTATION CONCERNS

South African businesses will increasingly find themselves operating in new territory. The effects of the broad-based BEE transformation challenge on the general economy short-, medium- and long-term have been the subject of much debate.

South Africa has become increasingly integrated

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