South Africa: Let us Not Mince Words on The Subject of Indirect Ownership

Last Updated: 4 August 2005
Article by Kevin Lester

Since minister Mandisi Mphalwa's embargoed briefing on the revised Codes of Good Practice under the Broad Based Black economic Empowerment Act (BEE ACT) on 24 June 2005, much has been made in the media of the purported exclusion of so-called "indirect ownership" in those Codes.

"Indirect ownership" as a BEE concept, is the invention of the financial service sector, which sought to target a level of 15% indirect ownership in their charter. They defined "indirect ownership" as arising when an "institution or other investor owns equity in a company on behalf of beneficiaries and there may not be direct participation by the beneficiaries in the voting rights". That definition is broad enough to encompass ownership by a trustee of a trust, by community ownership schemes as well as ownership by pension funds and private equity funds. Underscoring the considerable opaqueness of what commentators mean when they talk about "indirect ownership" is the fact that notwithstanding the definition in the financial services charter, several financial services entities have purported to recognise as direct ownership, equity participation by staff trusts and similar vehicles.

It is to be noted that that Public Investment Corporation (PIC), the oft-quoted example of an ideal vehicle for "indirect ownership", is purportedly reluctant to permit the recognition of any portion of the funds under their administration as qualifying as black ownership (see "An urgent rethink needed" by Duma Gqubule in Business Day 2 April 2004). Given that 94% of the funds under administration by the PIC are those of public sector pension funds, it would seem clear that the question of "indirect ownership" is hardly a settled issue.

Having said that, it is crucial to understand that many of the reasons offered in the past to justify treating "indirect ownership" as not constituting black ownership are dubious to say the very least. One such reason was reported by Hillary Joffe's opinion piece for the Business Day of 28 June 2005. She quoted the revised Codes as stating that the reason for excluding pension fund ownership was that "it is difficult to determine the ultimate black beneficiaries in a reliable manner". This "reason" was in fact included in an "explanatory note" to the Codes, but be that as it may, the reason offered is not a valid one, since the interest of black beneficiaries should be entirely capable of actuarial determination.

Similarly, it has in the past been suggested that the barrier to recognition lies in the indirect nature of the participation by black beneficiaries in the voting rights exercised by pension fund administrators in respect of their investments. As Hillary Joffe quite correctly points out, if that purported barrier represents the entire substance of the non recognition of pension fund ownership, the same logic could be applied to "trusts and charities serving the aged, disabled or abused". Precisely the point that that the financial service charter sought to overcome in its definition of "indirect ownership". Clearly that reason merits no further discussion.

So what is the truth about "indirect ownership" and the purported exclusion thereof from the Codes? Well firstly, we must not mince our words in this regard. The Codes have expressly included recognition of black ownership arising through equity held by trusts and broad based ownership schemes under very specific circumstances. So to suggest that this is a debate about indirect ownership is factually wrong.

However, more significantly, the exclusion of pension funds is in respect of one of what is anticipated to be a number of statements to be issued under the Code in relation to ownership. In response to a question posed by a representative of the financial services charter council at the minister's 24 June briefing, it was explained that it was not the case that the DTI's wished to permanently exclude black ownership arising from "pension fund" investments from all measurement under the BEE Act, but that Statement 100 (in which the controversial exclusion is contained) would not be dealing with that issue. However, and this was made abundantly clear at that briefing, there was nothing preventing the measurement of black participation in pensions funds under Codes if the financial services sector (the major administrator of pension fund assets), other pension fund administrators (including the PIC and trade unions) and the government could reach an accord as to how best to include this form of "indirect ownership".

The measure of the controversial nature of the recognition of pension fund ownership from a BEE perspective must lie in the unresolved tensions between various pension fund administrators as to the treatment of the funds under their administration from a BEE perspective and the conditions required to ensure that black participation in BEE deals through pension fund investments remain consistent with the BEE Act's stated objective of "achieving a substantial change in the racial composition of ownership and management structures … of existing and new enterprises".

But the debate around the purported exclusion of pension funds from the Codes does not end here. Duma Gqubule, in his aforementioned article, alludes to the fact that there exists a suspicion that many of the demands for recognition of indirect ownership that emanate from large corporates disguise an attempt to actually dilute the effort required from them in achieving the 25% ownership of the economy by black people. This suspicion cannot be simply wished away, it has to be publicly addressed by those corporates

Another, more significant argument often encountered in support of the non-inclusion of black ownership arising from pension fund investments is based upon the fact that pension fund participation is a function of employment and that the gradual transformation of the employment environment over the past 25 years is a function of a basket of previous initiatives ranging from the Sullivan Codes in the 80's to the restructuring of the legislative context of employment law and employment benefits in the 90's. Taken to its logical conclusion, this argument suggest that black participation in pension funds is not part of the transformative agenda of the BEE Act, but rather a result of other previous successful transformative interventions. Thus, the recognition of black ownership arising out of pension fund investment allows businesses to opt out of doing more by relying on that which they had already done in compliance with other imperatives. This view is best reflected by the lament of one high profile black business woman who was overheard saying after the 24 June briefing, "My parents were always beneficiaries of pension funds, how does their inclusion facilitate a transformation of the economy?"

This contention is not without its merits, but it does tend to ignore the fact that there are also is significant imperatives for finding ways to incentivise conduct of pension fund administrators in their support of BEE initiatives. This extends not only to the types of investments that they make, but also to how they empower their members (and black members in particular) in relation to their membership participation.

This was what the financial services charter seemed to be saying when it linked recognition of indirect ownership to the rather oblique concept of "shareholder activism". In this, the financial services charter finds support from the chairman of the PIC, deputy minister of finance Jabu Moleketi, who in his 31 March 2005 address to the Black Management Forum was at pains to emphasise the importance of "shareholder activism".

Recognition of black ownership arising through pension fund investment is not an easy issue, and those who wish to be reductionalist in their thinking need to reconsider this fact. There are many competing views in the marketplace, and it is submitted that the DTI has acted entirely justifiably by placing the ball back into the court of the pension fund industry. It is up to them to come up with a model that addresses the many discordant voices clamouring for a platform to be heard.

Perhaps Reg Rumney of BusinessMap was providing some very useful guidance in his article, ("Decoding the Codes", Mail and Guardian 1 July 2005) when he stated that: "… should we not be using indirect shareholding as part of the eventual, overall target for empowerment, aiming for, say 50% of the JSE Securities Exchange to be owned indirectly or directly by black people in 10 years, rather than the 15% or so present level, or the 25% target in the code?". While many would challenge his proposed target or its limitation to the JSE, the point he (perhaps inadvertently) makes is that indirect ownership need not be part of the subject matter of Statement 100 to be included within the Codes.

There is room here for a substantial and enduring intervention, but who is going to grasp the nettle of making it happen?

Kevin Lester is a director with corporate legal services firm Cliffe Dekker. Lester advised the department of trade and industry in the drafting of the revised Codes of Good Practice. He writes in his personal capacity and does not purport to represent the views of the department of trade and industry.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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