A lunch meeting in a restaurant five years ago galvanised Jay Naidoo and Jayendra Naidoo into starting a business. The restaurant owner said to them: "If you guys start a business, you should call it J&J. I would like to invest in it."
Today the company employs about 250 people across more than a dozen subsidiaries involved in information & communications technology (ICT), financial services, logistics and property management.
J&J is a case study illustrating a new trend in BEE - entrepreneurs starting companies from scratch rather than taking part in a lottery that involves borrowing billions to buy into mature companies and then praying the share price rises.
The shrewd financing of J&J's investments has created a model for black entrepreneurs that emphasises the importance of generating cash flow from day one and intelligently using vendor finance. Amazingly, the company has no debt on its balance sheet because its transactions are either start-ups or vendor-financed. Under this model, access to procurement, and therefore cash flows, is the key to creating value.
Jay Naidoo recalls: "We had been associates for 27 years as student, community, trade union and political activists. We had both spent five fascinating years in government. I had been minister in the RDP ministry and then telecommunications. He had helped start the National Economic Development & Labour Council (Nedlac).
"We did not want to be professional politicians. We had both been offered comfortable jobs and were wondering what we would do for the rest of our lives. We realised that we had one thing in common: we were builders who had started things from scratch," he says.
The two friends eventually decided to start J&J, a technology-based company that would develop a footprint across the continent.
"The model was to first identify the market opportunities and niches that we wanted to pursue and then find the best partners whose expertise and critical mass we could leverage off to build a substantial company," he says.
The first obstacle was getting finance.
"I am now convinced that getting access to credit is the biggest obstacle to black entrepreneurship. Even for people like us it was extremely difficult. It is a huge challenge no matter how good your qualifications, track record and products are," he says.
In 2000, J&J started three companies: Consilience, an IT solutions joint venture with Tata of India; Miraculum, an e-procurement company with Old Mutual, Nedcor and Dimension Data; and One Card, a company they started alone to develop an aspirational smart card that would reduce the cost of services for trade union members.
"We started in Jayendra's garage. We had to keep our costs to the absolute minimum, while we sold our ideas. When you start a business, you have to determine accurately your required investment cost and when the revenue will start flowing. In the business plan, if you estimate that the revenue will come in six months, it usually takes 18 months."
The tech bubble burst later that year.
"We had invested a lot of money and employed many people. But there were no returns yet. We were faced with the challenge of cash flow."
It was back to the drawing board. They decided to broaden the scope of the company into a diversified services company, with interests in financial services and industrials. To achieve this, they needed a financier and partner who could provide a capital injection.
"We also decided to reorganise our team. We realised we were hunters, people who were good at marketing, deal-making and strategic planning. We had attracted people we were familiar with, which is not always appropriate. The company had reached the stage where it needed to attract people we had not worked with before and who had a different set of skills, which were required to manage and consolidate the businesses we had acquired."
J&J found a partner in Old Mutual, which invested R37,5m for a 25% stake in the business. The transaction valued the fledgling company at R150m. At the time J&J had about 25 employees at Consilience, 45 at Miraculum and five at One Card. Old Mutual did a thorough due diligence and came to the conclusion that the company had blue-sky potential. From start-up to a valuation of R150m had taken two years.
At the time, many international financial services players were leaving the country. J&J bought the local operations of Credit Suisse First Boston (CSFB), a securities trading company. CSFB retained a 10% interest in First South Securities, the new financial services company owned by J&J and gave the company an exclusive contract to trade SA stocks for its overseas clients.
First South Securities then recruited former Merrill Lynch analysts Duarte da Silva and James Slabbert.
J&J's financial services interests are now grouped under the banner of First South Holdings. First South Securities is a profitable business with a market share of about 5%, similar in size to Nedcor Securities. The group includes: First South Risk Solutions, after the purchase of the team and contracts of Enterprise Risk Management; First South Investment Banking; and First South Private Equity Management, a R300m fund that the company manages for Old Mutual.
The ICT group has also expanded. J&J bought 30% of Faritec, which was a high-flying hi-tech company before the tech bubble burst, for a song. Faritec, which still has a solid brand, has a market capitalisation of about R32m.
The transaction was vendor-financed and involved zero bank finance.
"There was no money paid upfront, though there is a price that will be settled over time, depending on our performance contribution."
The aim is to consolidate the ICT group and offer customers a bundle of IT services, solutions and products under the Faritec platform. Already J&J has bought out its partners in Miraculum, in which it now has a 50% stake. Management owns the rest.
The industrial division aims to grow into a seamless logistics player involved across the transport sector value chain - from maritime and port operations to road and rail freight. The division owns 30% of Union Carriage & Wagon (UCW), which was financed in a similar way to the Faritec stake and has a joint venture, Grindrod J&J Logistics, with shipping company Grindrod. An attempt to buy 25% of Grindrod collapsed earlier this year.
"We saw a company that could only grow. The problem is that we could not get the banks to finance the transaction. The share price also increased from R8,50, when we started negotiations, to R19. We are still keen to do a transaction."
Lastly, J&J recently started a property asset management company, which aims to secure quality leases of commercial properties.
On the company's investment philosophy, Jay Naidoo says: "The greatest financial returns will come from starting things, even though the risks are high. J&J is like an incubator that puts resources behind people to create value. The company is looking for entrepreneurial black executives who require a bit of seed capital and infrastructural support for a limited period and are prepared to work hard.
"We retain 75% ownership at the top and the approach is to dilute only below the holding company when we put resources behind a management team.
"All our management teams have meaningful equity stakes. We aim for at least 51% ownership in all transactions. J&J only invests where it can have meaningful influence, directing the board's strategy and playing a key role in transformation," Naidoo says.
Given his previous position, Naidoo could have bought into a big technology company.
But he says: "We walk away from transactions that will not make us money even if they are sexy and fashionable. We are not interested in deals that make nice headlines but have little potential to make money.
"There is no bank or government institution that will give money away for anything less than strictly commercial terms. We are cautious about borrowing money when all the cream will go to the financier, while we are sitting at operations pumping value. It is only in exceptional circumstances that you can realise value from leveraged investments that depend on the performance of a share price."
Naidoo says the aim is to grow J&J into a sustainable business. "We have spent the past few years in hunting mode. The challenge now is to consolidate all our operations and unlock value from them," he says.
