Multinationals operating in South Africa must have a Black Economic Empowerment (BEE) status that enables them to sustainably compete, generate profits, and create value.
A company’s BEE status is first and foremost assessed as its BEE contribution level, which is essentially an expression of how well the business has embraced BEE against set targets. These targets are set across various categories, with a key one being Black ownership in the business. In addition to assessing overall BEE contribution level, most often an assessment of BEE status is also made against the company’s percentage of recognised Black ownership. “Ownership” is then a critical aspect of BEE. For multinationals it is often the most challenging.
BEE is a core policy of the South African government to drive transformation and redress the imbalances and inequality caused by Apartheid. BEE comprises various elements that collectively enhance the participation of Black people (African, Coloured and Indian people who are South African citizens) in the South African economy.
A company’s BEE status is measured by assessing its scoring on a balanced scorecard, with this score then correlating to a BEE contribution level and associated level of allowable BEE procurement recognition for customers of the company.
There is no obligation for businesses to achieve a certain BEE level, however being non-compliant or having a low BEE level will hamper a company’s ability to operate in South Africa. Besides for an often-viewed moral obligation to drive transformation, to do business with the government or organs of state there is most often a minimum required BEE level. And in the private sector a company’s BEE status impacts its customers BEE scoring and status under the ‘Preferential Procurement’ framework – thereby commercially driving BEE.
‘Ownership’ is one of the five elements measured on the overall balanced BEE scorecard, and addresses increasing the ownership of enterprises by Black people in the economy. Ownership is a focus area within the BEE framework. It is difficult to achieve a strong BEE status without addressing Ownership. In addition, as explained further below, very often a key driver in selection of suppliers or service providers is the level of Black ownership in a business, in addition to consideration of BEE status/level.
Transcend Capital is a specialist corporate finance advisory business that focusses on ESOP and BEE transaction advisory for multinational companies. We have advised on over 200 transactions for a broad spectrum of clients since 2006 and have extensive experience in structuring and implementing value-adding transactions for multinational businesses, as well as assisting with strategic Black investor selection.
Ownership is measured applying a balanced scorecard, assessing the level of Black ownership participation across three main categories – Economic Interest; Voting Rights; and Net Value. The generic Ownership scorecard is set out below in Table A. Although there are in certain cases sector-specific scorecards with sometimes differing targets, all fundamentally assess Ownership across these three same categories.
Table A. Generic Ownership Scorecard
‘Voting Rights’ addresses the right of Black people to participate in shareholder decision-making.
‘Economic Interest’ addresses the right of Black people to participate in the economic returns of ownership of the company, i.e. the right to receive a dividend and to share in capital gains.
‘Net Value’ addresses wealth creation by Black people and essentially assesses the net asset value of the BEE investor’s investment in the company against targets that escalate over time. The escalating targets indicate the government’s expectation that BEE deals should ultimately result in wealth creation for Black investors.
All Ownership scoring works on a pro-rata basis, with actual achievement being assessed against the respective target, and pro-rata scoring being applied.
In terms of the BEE Codes of Good Practice, Ownership has been identified as one of three ‘Priority Elements’. As a Priority Element, if a sub-minimum score for Net Value is not achieved, a one BEE level penalty will be imposed on the measured entity. In other words, if a company achieves a Level 4 BEE status but does not achieve the Ownership sub-minimum points, then the company’s BEE status will be discounted to Level 5.
Therefore, not addressing Ownership in a manner that is expected to sustainably enable at least achievement of sub-minimum points will have material adverse consequences for a company’s BEE outcomes. The deal structuring process must take this into account – considering possible levers to manage this upfront and over expected transaction life.
About 20% of points under the Preferential Procurement element are linked to the BEE level of suppliers. Of the balance, about 50% of the points are linked to procurement from ‘51% Black Owned’ and ‘30% Black Women Owned’ entities. Table B below sets out the generic Preferential Procurement framework. What this means is that there is a strong focus on the recognised Black ownership percentages of companies, as well as their BEE status or level. There is often a misconception that BEE status/level is the be-all and end-all of a BEE strategy.
Table B. Generic Preferential Procurement Framework
It is important to realise that there are various Ownership recognition and measurement principles that are applicable per the BEE Codes of Good Practice, including some that enable Ownership recognition at levels higher than actual shareholding. Most often the ownership percentage reflected on the BEE certificate of a multinational is higher than the actual shareholding. It is important to ensure that you are correctly applying all applicable recognition and measurement methodologies.
At a high level, multinationals may address BEE Ownership through introducing share ownership by various types of Black investors, or may choose to address BEE Ownership through approaches which do not require share ownership.
Shareholding by a Black investor in the local entity is certainly the most adopted approach to BEE Ownership. Share ownership may instead involve shareholding in a foreign parent company – most often at the level of the ultimate listed parent company.
Targeted investors may be narrow-based eg. a strategic Black investor, or broad-based eg. a charitable foundation, or employee ownership scheme (ESOP). Approaches that do not require share ownership include Sale of Assets and the Equity Equivalent Investment Programme.
Employee Share Ownership Plans (ESOPs) are an increasingly favoured approach to addressing BEE Ownership. ESOPs involve providing targeted employees with an ownership stake in their employing company. In addition to enabling BEE Ownership recognition, employee ownership can better align employee and shareholder interests, and improve employee attraction, motivation, and retention.
In terms of structuring, most often a shareholding is held by a trust, and eligible employees benefit as beneficiaries of the trust – with ESOP rules and benefit structures being tailored to suit the relevant business and needs.
In a 2021 practice note, the Department of Trade Industry and Competition (“DTIC”) confirmed the feasibility of ESOPs as an approach to address BEE ownership, which echoes previous comments from the minister as well as statements by the governing party.
Critical to sustainable ESOP success is managing employee expectations. This can be best achieved through tailored employee and trustee training and communication.
Multinationals considering ESOP implementation need to be clear on their objectives, understand available ESOP options and identify the optimal ESOP structure that makes the most business sense.
Transcend Capital is unique among services providers in that we provide full turnkey ESOP solutions. We have an in-depth understanding of the employee ownership process from the perspective of the scheme founder and the employee beneficiaries, allowing us to design workable ESOP structures, and create optimal communication programmes that manage employee expectations.
For more detail on ESOPs please see this article.
In South Africa’s competitive and dynamic business climate, having a strategic Black partner is often crucial for success. A contextually strong investor may add value by stimulating growth, introducing new business, or keeping existing clients.
Strategic Black partners may be operational, where they are involved in day-to-day operations, but most often they take the form of external investment companies or Black private equity firms.
Finding, engaging with, and successfully structuring, negotiating and executing a transaction with a ‘good-fit’ strategic investor can be challenging. Transcend Capital has a deep network of qualified Black investors and has successfully supported numerous multinationals through the investor selection process.
South Africa, unfortunately, has a significant proportion of the population that are living below the breadline, as well as massive unemployment ironically coupled with skills-shortages. Vehicles like broad-based trusts enable meaningful empowerment targeted at selected groups of beneficiaries, ultimately driving transformation.
Broad-based Ownership Schemes have historically been a common approach for multinational transformation. This is likely due to the ability to achieve real grass-roots empowerment that is often desperately needed, as well as to tailor such schemes to provide optimal BEE Ownership outcomes for the multinational.
In recent years the BEE Commission has raised concerns regarding appropriate structuring of broad-based trusts. In mid-2021 the DTIC issued a practice note which provided clarity on some of these issues and confirmed the feasibility of broad-based trusts as part of an Ownership strategy.
If considering a Broad-based Ownership Scheme, it is important to understand concerns raised by the BEE Commission, and ensure that your advisors have the knowledge and experience to assist you in implementing a robust and BEE-compliant broad-based trust.
Sale of Assets involves an entity selling a productive asset to Black investors. An “asset” can be a hard asset like property and plant, but also includes equity investments and businesses.
Although this approach to BEE Ownership does not result in share ownership in the selling entity, it is aligned to one of the government’s stated goals of BEE, being to empower more Black people to own and manage enterprises.
The percentage of BEE Ownership that can be recognised in a Sale of Assets transaction is driven by the relative value of the asset sold to value of the selling entity, and the Black ownership credentials of the purchaser.
For example, if an entity with a valuation of R1bn pursues Sale of Assets recognition by selling a business worth R200m to an investor who is 100% Black, the selling entity may be able to recognize 20% BEE Ownership (R200m/R1000m x 100%).
As the relative value of asset sold and/or the purchaser’s ownership credentials increases, so does the percentage of recognised BEE Ownership for the seller.
In order to qualify for BEE Ownership recognition, a Sale of Asset transaction must meet certain recognition requirements. The deal must therefore be structured and related legal documents drafted to ensure this is achieved.
Sale of Assets may be a favourable approach for certain multinational businesses to address BEE Ownership because:
there may be opportunity for positive BEE implications in various places on the BEE scorecard;
having more liquid assets is preferred; and
it does not raise concerns from foreign decision-makers about dilution of control or realising fair value, and may then be more palatable and easier to execute.
See this article for more detail.
The South African government recognized that many multinationals have a restriction on sale of equity in regional operations. Accordingly the Department of Trade Industry and Competition (DTIC) has enabled eligible multinationals to earn BEE Ownership points by making contributions to an approved Equity Equivalent Investment Programme (EEIP) in lieu of Black ownership in the local entity, or other approaches to BEE ownership.
To be eligible, a multinational must be able to prove an existing global practice of restricting regional sale of equity.
Multinational Equity Equivalents involve targeted investment that promotes economic development or socio-economic advancement, and supports Black-owned small business development, research and development and/or development of critical or core skills. The EEIP must be approved by the Minister of Trade and Industry following consultation with provincial and local government.
Ownership points from an EEIP are recognisable for a limited period, linked to overall value of contributions. For full points, the value of contribution must be to the value of 25% of the value of South African operations or 4% of revenue annually. Partial contributions are allowable, as are top-ups at the end of the period of recognition.
In practice relatively few multinationals have implemented EEIPs. This is likely because implementation is relatively costly, lengthy, there is a relatively high level of upfront and ongoing government engagement as well as programme administration required.
BEE Ownership furthers transformation through increased ownership by Black people in businesses and productive assets, or in the case of Equity Equivalents through enterprise and/or socio-economic development. As a Priority Element, BEE Ownership is an important aspect of a sustainable BEE strategy and related BEE success.
Before deciding on your preferred approach to addressing BEE Ownership it is imperative that you have properly evaluated the various options. Also important is deciding on the targeted BEE Ownership positioning, which is a question beyond just the Ownership points scoring, and which must consider optimal strategic positioning to customers in terms of the Preferential Procurement framework as well as specific supplier requirements.
Once a preferred option is identified and your targeted outcomes are clear, the transaction must then be structured to ensure BEE compliance and optimal and sustainable BEE Ownership outcomes are achieved over the expected transaction life. Achievement of Net Value points against evolving time-based targets is a critical aspect to be considered.
Transcend Capital has over 15 years of experience in supporting multinationals on their ESOP and BEE Ownership journeys. This experience, together with our deep knowledge of the BEE landscape and strong corporate finance ability enable us to structure and implement BEE transactions that are sustainable and makes business sense. Through our deep network of qualified Black investors, we can also assist in engaging with value-adding investors.
Call us today to set up an exploratory discussion about your own BEE Ownership strategy.
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