The South African Broad-Based Black Economic Empowerment ("B-BBEE") Commission recently issued a non-binding practice guide regarding the enhanced recognition status for exempted micro-enterprises ("EMEs") and qualifying small enterprises ("QSEs") through the application of the modified flow-through principle.
In terms of the current Codes of Good Practice (the
"Codes"), which are promulgated under
the Broad-Based Black Economic Empowerment Act, 2003, as amended
(the "Act"), EMEs and QSEs benefit from
the enhanced recognition status principle, in that a 51%
black-owned EME or QSE will qualify as a level 2 contributor and a
100% black-owned EME or QSE will qualify as a level 1 contributor,
provided that such EME or QSE has completed a sworn affidavit
confirming its turnover and percentage of black ownership. The
Codes set out a number of rules stipulating how entities are to
measure their black ownership, including:
- the flow-through principle: when
measuring ownership of black people in an entity, only the rights
of natural persons are relevant. Where the rights of natural
persons pass through a juristic entity or entities, then only the
ownership rights of black persons in the juristic entity or
entities are measurable; and
- the modified flow-through principle:
where a company in a chain of ownership is more than 51% black
owned and controlled, then once in that chain of ownership, despite
the flow-through principle, that company can be treated as being
100% black owned and controlled.
In terms of the practice guide, the B-BBEE Commission is of the view that the measurement of black ownership in an EME or QSE must be calculated using the flow-through principle only (and not the modified flow-through principle) in order to benefit from the enhanced recognition status.
Interestingly, the B-BBEE Commission acknowledges that the Codes, as currently drafted, do not provide for such limitations in claiming any enhanced recognitions status. However, and despite such acknowledgment, the B-BBEE Commission is of the view that that the effect of applying the modified flow-through principle to the enhanced recognition status undermines the objectives of the Act.
While the practice guide is intended to be non-binding, it notes that any contrary advice would be regarded as a misrepresentation of an entity's B-BBEE status, which is an offence in terms of section 13O(1)(a) of the Act. Accordingly, it would appear that the practice guide is more of a "ruling" than a guide, and is perhaps indicative of the manner in which the B-BBEE Commission will evaluate and investigate fronting practices in relation to EMEs and QSEs. This also brings into question the legal validity of such a "ruling", as it purports to amend legislation.
Furthermore, the B-BBEE status/level of an EME or QSE benefiting from the enhanced recognition status through the application of the modified flow-through principle may be adversely affected in terms of its next B-BBEE verification.
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.