Ownership Enterprise Supplier Development and Socio-economic Development - BEE Seminar 29 Jan 2014

THE (VEXING) OWNERSHIP, ENTERPRISE/SUPPLIER DEVELOPMENT AND SOCIO-ECONOMIC DEVELOPMENT

PROVISIONS OF THE NEW CODES

29 January 2014

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PRIORITY ELEMENTS

The priority elements are - ownership, socio-economic

development and enterprise/supplier development.

If a QSE or a Large Enterprise fails to comply with the 40%

minimum target for any of the priority elements, it’s BBBEE

status will automatically be downgraded by one level.

By way of example, if its score would have otherwise been

a level four, it will be downgraded to a level five.

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KEY CODE AMENDMENT: OWNERSHIP

Ownership represents 25 of the 118 points which it is possible to achieve under the amended Codes.

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KEY CODE AMENDMENT: OWNERSHIP (cont.)

“NET VALUE” is the portion of ownership interest of

Black people within a firm which is not subject to

outstanding acquisition debts.

This fundamental change in the calculation of the

ownership interest will require an overhaul of the

traditional funding mechanisms for BBBEE transactions

and may in fact stifle BBBEE transactions.

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OWNERSHIP - COMPLEX FORMULAE

The Codes contain a multitude of formulae that are to be

used when calculating the Ownership score. Separate

formulae are provided for –

measuring voting rights;

measuring economic interest;

calculating the deemed value for all Black Participants;

calculating the Net Value, which is determined as the lower

result achieved by the application of two different formulae;

and

calculating the recognition of ownership after the sale or loss

of shares by Black Participants.

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OWNERSHIP - GENERAL PRINCIPLES

Black people may hold their rights of Ownership in a Measured Entity as direct Participants or as Participants through some form of Entity such as –

a Company;

a Close corporation;

a Co-operative;

a Trust;

a Broad-Based Ownership Scheme;

an Employee Share Ownership Programme;

a Partnership or other association of natural persons; and

any other form of juristic person recognised under South African law.

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OWNERSHIP - SUB-MINIMUM REQUIREMENTS

A Measured Entity is required to achieve a minimum of

40% on Net Value points.

Non-compliance with this sub-minimum target will result

in the achieved BBBEE status level being discounted.

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OWNERSHIP - FLOW-THROUGH PRINCIPLE (must be used for all elements except Black peoples Exercisable Voting Rights and Black peoples Economic Interest, where the “Modified Flow-Through Principle may be applied)

As a general principle only rights held by natural persons

are relevant. If the rights of Ownership of Black people

pass through a juristic person, then the rights of Ownership

of Black people in that juristic person are measurable.

This principle applies across every tier of Ownership in a

multi-tiered chain of Ownership until that chain ends with a

Black person holding rights of Ownership.

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OWNERSHIP – ILLUSTRATION OF KEY PRINCIPLES

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OWNERSHIP - MODIFIED FLOW-THROUGH PRINCIPLE

The Modified Flow-Through Principle applies to BBBEE owned or controlled companies in the Ownership of the Measured Entity.

In calculating Exercisable Voting Rights of Black people and Economic Interest of Black people the following applies –

where in the chain of Ownership, Black people have a flow-through level of participation of at least 51%, and then only once in the entire ownership structure of the Measured Entity, such Black participation may be treated as if it were 100% Black;

the Modified Flow-Through Principle may only be applied in the calculation of the Voting Rights of Black people and the Economic Interest of Black people.

In all other instances, the Flow-Through Principle applies.

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OWNERSHIP - EXCLUSION OF SPECIFIED ENTITIES WHEN DETERMINING OWNERSHIP

When determining Ownership in a Measured Entity,

Ownership held by Organs of State or Public Entities

must be excluded.

Exclusion of Ownership held by the Organs of State or

Public Entities is to be effected before any other

Ownership discounting methods are applied.

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OWNERSHIP - BBBEE FACILITATOR STATUS

The Minister may by notice in the gazette, designate

certain organs of State or Public Entities as BBBEE

Facilitators. In calculating their Ownership score,

Measured Entities must treat BBBEE Facilitators as

having rights of Ownership held –

100% by Black people;

40% by Black woman;

20% by Black designated groups;

without any acquisition debts; and

without any third-party rights.

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OWNERSHIP - MANDATED INVESTMENTS

When determining Ownership in a Measured Entity, rights of Ownership of Mandated Investments (i.e. pension funds, medical schemes, insurers, banks etc.) may be excluded.

The maximum percentage of the Ownership of any Measured Entity that may be so excluded is 40%.

A Measured Entity electing not to exclude Mandated Investments when it is entitled to do so, may either treat all of that Ownership as non-Black or obtain a competent person’s report estimating the extent of Black rights of Ownership measureable in the Measured Entity and originating from that Mandated Investments.

A Measured Entity cannot selectively include or exclude Mandated Investments. An election to exclude one Mandated Investment is an election to exclude all Mandated Investments and visa versa.

A Measured Entity applying the Exclusion Principle to Mandated Investments cannot benefit from the Modified Flow-Through Principle.

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OWNERSHIP - RECOGNITION OF OWNERSHIP AFTER THE SALE OR LOSS OF SHARES BY BLACK PARTICIPANTS

A Measured Entity is allowed to recognise a portion of Black Ownership after a Black participant has exited through the sale or loss of shares as long as –

the Black participant has held shares for a minimum period of 3 years;

net value, calculated on a time-based formula, has been created in the hands of Black people; and

transformation has taken place within the Measured Entity using the BBBEE Recognition level from the period of entry of Black participants to the exiting period.

Black participation arising from continued recognition of Black Ownership cannot contribute more than 40% of the score on the Ownership scorecard.

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OWNERSHIP - BBBEE OWNERSHIP SCHEMES AND EMPLOYEE SHARE OWNERSHIP PROGRAMME

Black participants in BBBEE Ownership Schemes and

Employee Share Ownership Programmes which hold

Ownership rights in a Measured Entity may contribute –

a maximum of 40% of the total points on the Ownership

scorecard of the Measured Entity if they meet specified

qualification criteria;

100% of the total points on the Ownership scorecard of the

Measured Entity if they meet additional qualification

criteria.

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OWNERSHIP - PRIVATE EQUITY FUNDS

A Measured Entity may treat any of its Ownership arising from a Private Equity Fund as if that Ownership were held by Black people, where the Private Equity Fund meets the following criteria –

at least 51% of any of the private Equity Managers’ Exercisable Voting Rights associated with the Equity Instruments through which the Private Equity Fund holds rights of Ownership, must be held by Black people;

at least 51% of the Private Equity Funds’ Executive Management and Senior Management must be Black people;

at least 51% of the profits made by the Private Equity Fund Manager after realising any investment made by it, must by written agreement, accrue to Black people; and

a long list of additional rules and qualifications apply.

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OWNERSHIP - TRUSTS

Black participants in a Trust holding Ownership rights in

a Measured Entity may contribute –

a maximum of 40% of the total points on the Ownership

scorecard of the Measured Entity if the Trust meets certain

qualification criteria;

100% of the total points on the Ownership scorecard of the

Measured Entity if the Trust meets additional qualification

criteria.

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OWNERSHIP - OPTIONS AND SHARE WARRANTS

Exercisable Voting Rights and Economic Interest will be recognised where a Participant holds an instrument granting the holder the right to acquire an Equity Instrument or part thereof at a future date, if the following requirements are met –

the Exercisable Voting Rights attached to that instrument are irrevocably transferred to the holder for the option period and are exercisable by the holder before acquiring the Equity Instrument;

the Value of any Economic Interest is irrevocably transferred to the holder for the option period and paid to the holder of that instrument before the exercise of that right; and

the Value of the instrument must be determined by using a Standard Valuation Method for calculating the Net Value.

Not sure when this scenario would ever arise!

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OWNERSHIP - EQUITY INSTRUMENTS CARRYING PREFERENCE RIGHTS

An Equity Instrument carrying Preferential Rights is measurable in the same manner as an ordinary Equity Instrument.

An Equity Instrument carrying Preferential Rights that has the characteristics of a debt must be treated as an ordinary loan. If the debt is that of a Black Participant, it may be subject to measurement under Net Value.

In evaluating an instrument that has a hybrid nature including the characteristics of a debt, only that portion that represents a debt, will be measured under current equity interest. The remainder is measurable as an ordinary equity instrument.

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MORE RULES!

The Codes contain detailed rules (and additional

criteria) for –

Broad-Based Ownership Schemes;

Employee Share Ownership programmes;

Trusts; and

Family Trusts.

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OTHER CHANGES TO OWNERSHIP

Two BBBEE ownership points (with a 2% compliance target) have been

allocated to the economic interest of “black new entrants”.

The definition of “Black New Entrant” has also been widened to cover

BBBEE owners who have not held equity in another firm with a total

value of R50m (R20m under the current Codes).

These changes widen the pool of new entrants and incentivise firms to

use new entrants in their BBBEE ownership transactions.

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ENTERPRISE/SUPPLIER DEVELOPMENT

A firm must achieve a minimum of 40% of each of the targets in the

following areas (excluding bonus points) –

Preferential Procurement;

Enterprise/Supplier Development.

A firm’s BBBEE status will be automatically reduced if it fails to meet

the minimum 40% target (even if the firm has made genuine efforts to

comply).

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ENTERPRISE/SUPPLIER DEVELOPMENT (cont.)

Enterprise/Supplier Development accounts for 40 points (plus 4 bonus points) out of the total of 118 points. The preferential procurement component accounts for 27 points as follows

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PROCUREMENT The requirements for an “Empowering Supplier” are -

a “BBBEE compliant entity” and a “good citizen”;

complying with “all regulatory requirements”; and

a large enterprise must meet at least three of the following criteria, or one if it is a QSE –

at least 25% of cost of sales, excluding labour cost and depreciation, must be procured from local producers or local suppliers in SA;

50% of jobs created are for black people provided that the number of black employees since the immediate prior verified BBBEE Measurement is maintained;

at least 25% transformation of raw material/beneficiation;

skills transfer – at least spend 12 days per annum of productivity deployed in assisting Black EMEs and QSEs beneficiaries.”

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PROCUREMENT (cont.)

EMEs and Start-Ups are automatically recognised as “Empowering Suppliers”.

The recognised BBBEE procurement spend attributed to a supplier or QSE/EME with a minimum 3 year contract, and first time suppliers, is multiplied by 1.2.

The amended Code assumes that “Empowering Suppliers” are available in every sector of the economy, which is clearly not the case.

Ironically these changes will prejudice black-owned and controlled firms that do not qualify as “Empowering Suppliers” as there will no incentive to prefer such black-owned and controlled firms.

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EXCLUSIONS FROM TOTAL PROCUREMENT SPEND

Taxation – any lawful tax or levy, including rates imposed by a municipality

Salaries, wages, remuneration and emoluments

Pass-through third party procurement

Imported capital goods or components for value added production in RSA provided –

no existing local production;

such import promotes further valued-added production within RSA.

Imported goods and services, which are not produced in RSA and carry a different brand name and have different technical specifications.

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Enterprise/Supplier Development accounts for 40 points (plus 4 bonus points) out of the total of 118 points. The supplier development component accounts for 17 points as follows

CRITERIA WEIGHTING POINTS COMPLIANCE TARGETS

SUPPLIER DEVELOPMENT

Annual value of all Supplier Development Contributions made by the Measured Entity as a percentage of the target

10 2% of NPAT

ENTERPRISE DEVELOPMENT

Annual value of all Enterprise Development Contributions and Sector Specific Programmes made by the Measured Entity as a percentage of the target

5 1% of NPAT

BONUS POINTS

Bonus point for graduation of one or more Enterprise Development beneficiaries to graduate to the Supplier Development Level

1

Bonus point for creating one or more jobs directly as a result of Supplier Development and Enterprise Development initiatives by the Measured Entity

1

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Beneficiaries of Supplier and Enterprise Development are EMEs or QSEs which are at least 51% black owned or at least 51% black women owned.

Examples of Enterprise and Supplier Development Contributions are –

investments in beneficiary entities;

loans made to beneficiary entities;

guarantees given or security provided on behalf of beneficiaries;

credit facilities made available to beneficiary entities;

preferential credit granted by the firm to beneficiary entities;

direct costs incurred by the firm in assisting and hastening development of beneficiary entities.

It must be noted that “Annual Expenditure” is used.

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SOCIO-ECONOMIC DEVELOPMENT

Socio-Economic Development only accounts for 5 of the possible 118 points. This is very surprising.

Socio-Economic Development Contributions (“SED Contributions”) are both monetary and non-monetary contributions, made by a firm with the purpose of facilitating income generating activities for targeted beneficiaries.

SED contributions are recognisable annually.

The full value of SED contributions that are made to beneficiaries who consist of at least 75% black people, is fully recognisable.

Where SED contributions are made to beneficiaries who consist of less than 75% black people, the value of the contribution multiplied by the percentage of black people that benefited, is recognisable.

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SOCIO-ECONOMIC DEVELOPMENT (cont.)

The following are a few examples of SED Contributions –

grant contributions to beneficiaries;

guarantees given or security provided for beneficiaries;

direct costs incurred by a firm in assisting the beneficiaries;

overhead costs of a firm that are directly attributable to SED Contributions;

developmental capital advanced to beneficiary communities;

preferential terms granted by a firm for its supply of goods or services to beneficiary communities;

payments made by a firm to third parties to perform socio-economic development on the entity’s behalf;

providing training or mentoring to beneficiary communities (quantified by the measurement of cost of time).

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SOCIO-ECONOMIC DEVELOPMENT (cont.)BENEFIT FACTOR MATRIX

QUALIFYING CONTRIBUTION TYPE

CONTRIBUTION AMOUNT BENEFIT FACTOR

GRANT AND RELATED CONTRIBUTIONS

GRANT CONTRIBUTION FULL GRANT AMOUNT 100%

Direct Cost incurred in supporting socio-economic development, sector specific initiatives or Qualifying SED Contributions

Verifiable Cost (including both monetary and non-monetary)

100%

Discounts in addition to normal business practices supporting socio-economic development, sector specific initiatives or Qualifying SED Contributions

Discount Amount (in addition to normal business discount)

100%

Overhead Costs incurred in supporting socio-economic development, sector specific initiatives or Qualifying SED Contributions

Verifiable Cost (including both monetary and non-monetary)

80%

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SOCIO-ECONOMIC DEVELOPMENT (cont.)BENEFIT FACTOR MATRIX

QUALIFYING CONTRIBUTION TYPE

CONTRIBUTION AMOUNT BENEFIT FACTOR

CONTRIBUTIONS MADE IN THE FORM OF HUMAN RESOURCE CAPACITY

Professional services rendered at no cost supporting socio-economic development, sector specific initiatives or Qualifying SED Contributions

Commercial hourly rate of professional

80%

Professional services rendered at a discount supporting socio-economic development, sector specific initiatives or Qualifying SED Contributions

Value of discount based on commercial hourly rate of professional

80%

Time of employees of the firm productively deployed in assisting beneficiaries and supporting socio-economic development, sector specific initiatives or Qualifying SED Contributions

Monthly salary divided by 160

80%

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TARGET

The Net Profit After Tax (“NPAT”) or average target applies unless –

the company did not make a profit in the last year or on average over the last five years;

the net profit is less than a quarter of the norm in the industry.

If the Turnover is used, the target will be set at –

1% X Indicative Profit Margin (NPAT/Turnover) x Turnover

“Indicative Profit Margin” is the profit margin in the last year where the company’s profit margin is at least one quarter of the industry norm.

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The criteria and method used to derive a score for Socio-Economic Development is –

THANK YOU

Dave Walker

Date

Legal notice: Nothing in this presentation should be construed as formal legal advice from any lawyer or this firm. Readers are advised to consult professional legal advisors

for guidance on legislation which may affect their businesses.

© 2013 Werksmans Incorporated trading as Werksmans Attorneys. All rights reserved.

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Ownership Enterprise Supplier Development and Socio-economic Development - BEE Seminar 29 Jan 2014