Due to the current trying economic times, companies will be required to perform a balancing act to ensure that their businesses survive the harsh economic realities facing them, while achieving their BEE targets set out in our empowerment laws. BEE has found a dogmatic base in South Africa, but its implementation is being stumped by economic influences.
South African company laws previously prohibited a company from providing financial assistance for the purchase of its own shares. The purpose of this rule was to ensure that the company's capital was preserved, thereby protecting the minority shareholders and creditors of the company. However, this also had the effect of hindering the implementation of black economic empowerment in South Africa in that empowerment partners could not look to the company for financial assistance to take up shares in the company. Rather, empowerment partners were compelled to approach third party financiers or concoct complex preference share structures to implement their deal.
In 2007 our Companies Act was amended to provide some relief for companies looking to become empowered. A company may grant finance to a purchaser to take up its shares thus allowing the company to take on the risk itself. The amendment is however not unrestricted. The directors of the company must be satisfied that subsequent to providing the finance, the assets of the company will exceed its liabilities and the company will be in a position to pay its debts as they become due in the ordinary course of business. A special resolution, in other words 75% shareholder approval, approving the terms of the assistance is also required. The amendment has been used substantially by parties to BEE transactions. JSE listed ceramic tiles retailer Italtile concluded a BEE transaction in terms of which it was proposed that 10.7% of its share capital was to be placed in the hands of black owned entities. Similarly, Rainbow Chicken concluded a deal in terms of which 15% of its equity was sold to a broad-based black consortium and company employees for R915,6 million. Both transactions were structured on the basis of the amendment to the Companies Act.
Before the market crash of 2008, the value of the companies was much higher than now. The result is that some empowerment partners paid more for their shares than they are now worth and on top of it, the deals were highly leveraged. Most BEE deals rely on an increasing value of the company's share price and sufficient dividend income for repayment of the financing debt. The credit crunch has proved how risky this type of arrangement is. The Rainbow Chicken deal was concluded at a time when its shares were worth R17.89, whereas its shares as at the beginning of April 2009 were trading at R15. Similarly, Sasol's shares were trading at R269 at the beginning of April 2009, whereas at the date that the BEE deal was signed its price was in the region of R366 per share.
Due to increasing interest rates and decreasing share prices many companies are scurrying to refinance, restructure or cancel deals. Mvelaphanda and Afrisam have already refinanced their deals and some deals, such as MTN's, have been delayed. As share prices and company profitability drop, the repayment of these loans is becoming increasingly difficult. Central Rand Gold recently gave notice to its empowerment partner, Puno Gold Investment, to repurchase their entire shareholding of 26% following disagreements over shareholder funding obligations. The confidence of third party financiers has also been affected, with the result that external financing for this type of investment has all but dried up. Funding by the company itself may be easier to administer as there is more flexibility for parties to renegotiate, reprice or restructure the transaction. A negative consequence is that the company and its shareholders may ultimately suffer, as the company may have to write off these loans in its books.
As a result of the current unfavourable economic climate, we expect that current BEE deal activity will be confined to situations in which companies are compelled to introduce black equity partners into their businesses due to operational considerations. An example is where entities require licences from government to continue their operations in South Africa or where entities are contracting with government. BEE deals that have already been implemented face the risk of insufficient flow of dividends from the company to pay off the debts owed by BEE shareholders to financiers who provided funds to finance their acquisitions. And future deals face a risk of a lack of funding to conclude such transactions. The credit crunch may result in companies having to carefully consider alternative finance options when looking to bring in empowerment partners.
Looking ahead, the new Companies Act 2008 will, when enacted (probably 2010), allow for financial assistance to be provided to individuals who wish to take up shares in the company. Whilst the wording of the new provision is different to the present position, the provisions are conceptually similar.
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