In an attempt to liberate black economic empowerment (BEE) investors from ludicrous lock-in clauses, the department of trade & industry (DTI) invented a principle that has come to be known as "once empowered always empowered".
The DTI meant well but because of unintended consequences the drafters of BEE legislation in the department may have opened a Pandora's box. All sorts of schemes are gathering to take advantage of the once empowered always empowered clause. Most notable is the emergence of new equity seeking to ride on the back of this principle. As it stands, this principle is insufficient to cater even for genuine cases.
To be fair, the DTI did foresee potential problems with this principle and walked with caution. It did not coin the problematic throwaway phrase: once empowered always empowered. The title used in the BEE Codes of Good Practice to capture this concept is "Continuing Consequence Principle".
The objective of this principle is twofold. It is meant to give BEE shareholders an early exit option, if and when necessary. There are plenty of reasons why BEE shareholders would want to settle for an early exit. One of them is realising value. The principle is also meant to protect BEE investee companies against losing their empowerment credentials in case of such an early exit.
Bar the lock-in clauses, which are attached to many BEE deals, the empowerment regulatory framework was silent on this matter. The silence allowed for abuse. The best example comes from the infamous manipulation of the Harmony Gold BEE transaction by prominent businessman Mzi Khumalo.
Khumalo formed part of a broad-based consortium that earned a stake in Harmony. The cunning Khumalo then devised a plan to buy out fellow consortium members and eventually disposed of the Harmony stake, leaving the gold miner without a BEE partner. He is said to have made about R1bn from that act.
If BEE accommodates wealth creation, Khumalo should be absolved. But then why should Harmony suffer when its initiative achieved the core BEE objective?
Under the new Continuing Consequence Principle, Harmony should be able to realise some BEE ownership points from that defunct structure. The objective of this principle is to introduce an option for BEE companies to exit their investment without losing ownership points for the investee companies. But then in its current design, the Continuing Consequence Principle falls far short of meeting its objective. Though it is good enough for BEE investors, it fails dismally to protect the BEE investee companies.
This principle can kick in only when value has been created for BEE. But there is no proportionality between the BEE value created and the points to be subsequently claimed by the investee company.
This is obviously a problem, says Empowerdex CEO Vuyo Jack. "We have raised this with the authorities."
Ajay Lalu, a partner at Bravura Economic Empowerment Consulting, says one has to consider the fact that this principle was not accommodated before. The way things stand it reflects a compromise, says Lalu. While it allows companies to gain some recognition when they have created wealth for BEE partners it also ensures that companies search for another BEE partner. BEE should not be seen as a short-term project but it should be ingrained in the fabric of society and business, says Lalu.
The recent experience of mining group Coal of Africa is telling. The Australian coal mining operation linked up with a BEE group called Motjoli Resources in 2004. Led by black businesswomen Nchakha Moloi and Nonkqubela Mazwai, Motjoli injected two coal mining prospecting rights into Coal of Africa and earned a 32% stake in return. The BEE stake was whittled down to less than 15% as Coal of Africa went on a paper issuing spree to fund its growth. Motjoli did not follow its rights in the number of paper issues.
In December last year, Motjoli sold its Coal of Africa stake, leaving the Australian mining group stranded on the BEE front. Motjoli is said to have earned about R300m from the sale of its Coal of Africa stake. Even though the stake will be sold to a BEE consortium of some sort, the points due to Coal of Africa as a result of a significant net economic interest earned by Motjoli will be lost forever.
That prompted a guarded outburst by Coal of Africa CEO Simon Farrell. He told the FM that "it (the loss of an empowerment partner) demonstrates a need for change in the law [BEE legislation]". "Once a mining property is declared empowered, it should remain so permanently," says Farrell. "I'm very happy that they [Moloi and Mazwai] have made money."
The whole idea of BEE should be to create wealth. But then he is left with a serious problem. His new partner, which will be replacing Motjoli, may not be as empowered. Even if they are, he will never be able to realise the points due to Coal of Africa as a result of net equity gains registered by the Motjoli transaction.
SA's biggest bank, Standard Bank, may also feel hard done by when it reviews its BEE ownership, which has been diluted to about 8%. The dilution came from the participation of Standard Bank's BEE partner, Tutuwa, in facilitating the entry of the Industrial & Commercial Bank of China (ICBC) into Standard Bank. ICBC has taken 20% of Standard Bank for about R37bn in a deal that required existing shareholders to give up a portion (11%) of their shares while additional shares were also issued. Though Tutuwa made some serious profits from this transaction, Standard Bank is left with a heavily diluted direct BEE shareholder base. The group's CEO Jacko Maree correctly points out that this will pose a good test case.
And there are calls to extend the once empowered always empowered principle to cover the dilution of BEE equity when companies issue paper for expansion. In many cases black partners fail to follow their rights when such paper is issued and they end up with significantly diluted stakes.
