ANDREW BAHLMANN: BEE deal-making becomes specialist M&A sector
The question has never been whether BEE is the right thing to do, but rather how it can best be implemented for a specific business at a specific time by correctly targeting the right audiences.
Though there are various aspects to broad-based BEE listed in the BEE Codes scorecard, the focus of attention has in recent years been on ownership in the form of equity deals, given that this is the area that has seen the least change. The objective here is to improve black ownership in business, which is typically achieved by selling a share in the business to appropriately qualified candidates.
That doesn’t imply the foot has been taken off the gas pedal regarding other scorecard categories, more that ownership hadn’t been as focal a scorecard item previously and now is. Throughout much of the history of BEE structures have been set up in ways whereby BEE shareholders sometimes received no equity at all. However, there have been some fundamental changes during this time, which means this is more rare today.
The key factor governing whether the BEE partner benefited from an equity deal was the type of funding. Beyond eight years ago most deals were vendor financed. Deals were typically structured in a way that the BEE partner paid nothing upfront for the equity, with the loan being repaid out of future dividends. These structures were open to the possibility of dividends never being declared, the BEE partner never receiving anything, and the loan account never diminishing. This left the company “empowered” even though it never paid anything to the BEE partner for that status.
The evolution of BEE
Today’s codes are a lot more stringent and BEE funders adopt more of a risk-averse approach, which ensures there is a transfer of economic benefit. We’re increasingly seeing the BEE partner paying a contribution towards the equity, meaning they have a vested interest in the business. There would still be a large debt component, and the BEE codes now stipulate that the debt must be paid down by at least 10% a year.
There are also more commonly commercial lenders involved in BEE deals, who themselves are much more stringent in their scrutiny of the deal. There are a number of ways in which capital can be raised, and the funding therefore plays an important role in terms of how the structure is set up.
There has been a shift in the nature of the BEE candidates for such structures, which is certainly helping achieve BEE objectives. Centre stage are black-owned and empowered private equity firms with strong track records in mergers & acquisitions. They have become dominant in this sector over the past five years, using their own raised capital to fund such deals. They are also able to match deals to the right strategic partner with the right BEE credentials
Elsewhere, it remains extremely difficult for BEE acquirers to raise funding for deals, and we are seeing many such parties failing to secure debt. The best option for any such acquirer is to borrow money against the balance sheet of their target company. Where this is not possible their only option is to borrow with their own balance sheet as security. Most first-time investors would have no such security. For this reason the market is dominated by a limited pocket of BEE investors who continue to grow. This is not achieving the broad-based manifesto.
A common obstacle with third-party funding is disagreement as to the valuation of the target business. A funder is bound to be much more conservative in its valuation, creating a valuation gap which the seller would rarely accept. Furthermore, international markets have a negative perception of BEE, often seeing it in the same category as land grabs in Zimbabwe. Much work needs to be done to educate global markets that BEE adds value to a business and that deals are done at fair value rather than at deep discounts.
The big picture
Most of these challenges arise because BEE deals are being done in the context of a stagnant economy, thereby simply redistributing what already exists rather than stimulating growth. As SA urgently needs foreign investment there must be mitigation of these perceived risks. Therefore, if one takes a big-picture view of BEE it must be viewed as a failure economically. An entire economy has to be viewed as a single ecosystem: you cannot drive one agenda like BEE within an economy without looking at some form of incentivisation or stimulation elsewhere to balance forces.
The BEE experiences of large listed corporates are well reported in the media, but less well analysed is BEE in the middle market, privately owned business space. Have deals enabled such companies to grow or just to tread water? This is a large part of our market, and my feeling is that in this sector BEE is a failure.
Any holistic solution to transformation in this country has to start from a premise of growing the economy and providing a better future for all. The implementation of BEE consequently must in some fashion be tied to the state of our economy and our international competitiveness, or we will simply go backwards.
• Bahlmann is CEO of corporate advisory firm Deal Leaders International.
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