The new Broad Based Black Economic Empowerment (BBBEE) Act and Codes have undergone a rather big transition, one that has a direct impact on organisations of all sizes across South Africa. The way in which these new Codes will impact on small to medium-sized enterprises (SMEs) is significantly different to how they’ll affect the industry behemoth. The SME — the apparent saviour of the South African economy and cure to all unemployment woes — has been left holding a short, confusing and frustrating stick.
“The amendments to the BBBEE Act and the Codes represent a fun- damental change to government policy,” says Chris Darroll, chief executive of the Small Business Project (SBP). “To date, the policy has been on a voluntary basis, the manner in which a firm applies BBBEE decided by the firm in accordance with their business needs. The new framework now introduces penalties for the first time and a firm’s BBBEE status is an important factor in successfully tendering for government and public entity tenders.”
Having a BBBEE rating will impact on any organisation that is trying to do business in South Africa. The Codes originally provided for seven elements on the scorecard that covered employment equity, skills development, preferential procurement, enterprise development, ownership, management control and socio-economic development. Now there are only five as enterprise development and preferential procurement have been merged, as have management control and employment equity.
Taking a closer look under the hood, the requirements are more onerous, compliance more demanding and the complexity enough to make the average SME owner want to give up and start a shebeen. Fortunately there are plenty of experts that translate the BBBEE into understandable jargon, and it is not all bad news. In fact, for some the news is very good indeed.
The levels at which organisations qualify for specific ratings have changed considerably — the Exempted Micro Enterprise (EME) and first-year start-up sits at Level 4 and the annual income has increased to R10-million or less, while the Qualifying Small Enterprise (QSE) threshold has been increased to between R10-million and R50-million, and will now be measured against all five of the new BBBEE ratings.
According to Petra Rees, managing director of Lean Enterprise Accelerator Programmes, a subsidiary of the PLP Group, the BBBEE legislation provides the perfect ecosystem to encourage the growth of SMEs.
“The revised codes make specific provision for this growth, especially when it comes to procurement targets,” says Rees. “Companies must procure more and more from small businesses going forward and the EME enjoys automatic Empowering status. The Empowering supplier status is key; if a company is not an Empowering supplier, then their certificate is worth nothing.”
The challenge is that the QSE has to comply with all of the revised codes and these are not even gazetted yet. So how do staff at SMEs know what they should be getting themselves ready for, and what are the exact guidelines? Rees puts it this way: “It’s like planning to go to the Olympics, but you don’t know what sport you’re going to participate in.”
While BBBEE is designed to support the majority and to encourage black-owned businesses and entrepreneurship — a worthy cause — it is going to present significant challenges to the white-owned business. And when considered in light of how every SME is of value to the economy, it seems odd to hamstring those businesses that are already thriving and established, and to place additional pressure on the EME where the Codes may impact the future of the business. The EME receives instant Level 1 status for 100% black owner- ship, Level 2 for 51% and Level 4 for all others. The QSE requires signifi- cantly more changes as ownership is just one element out of five against which they are judged.
“The most controversial aspect of the new Codes for qualifying SMEs — and especially entrepreneurial new businesses — is the compulsory minimum ownership score,” says Darroll. “Without meeting this, businesses with incomes of between R10-million to R50-million will automatically be downgraded and the probable impact could be that they lose accounts with government and corporate business, who themselves are required to contract with suppliers that have a minimum BBBEE rat-ing of 1or2.”
Faith Ngwenya, technical executive at South African Institute of Professional Accountants, says: “While ownership might be difficult to deal with if the entity is, for example, a single owner or family-owned entity as there is very little flexibility to enhance this, the other elements could be re-prioritised with the BEE focus.”
The ownership issue is definitely one of the hottest debates around BBBEE and not everyone thinks that it is a bad idea. Sivu Maqungo, chief executive of Opentenders.com has an entirely different take on the topic.
“Human beings run businesses and it is human nature to have a sense of ownership over the idea, the money and the outcome,” he says. “What BBBEE asks of us is that we learn to share, we are asked to learn to bring diversity into our companies through the integration of race, gender, culture and disability. This does not automatically mean that owners give away their business. It means to share opportunity — whether this is based in shareholding or other [ways].”
A fair point, but not one that a business consisting of only one person can buy into (pun intended).
The 2013 Global Entrepreneurship Monitor found that entrepreneurship in South Africa was already experiencing a decline, with only 14% of South Africans planning to start their own business by 2016. Alongside having to navigate the sticky path to BBBEE compliance, the SME now has to attract a partner based on the value-add of the busi- ness as well as ethnicity. This could end up being an expensive undertaking for the SME in terms of remuneration or equity, or both.
Daniel Hatfield, managing direc- tor of Edge Growth, says: “The SME has to work against the ability of the enterprise to attract good black talent into their environment. The Employment Equity element of BBBEE Codes creates an incentive for top, black talent to remain in the corporate world – there is less risk and greater financial reward than an SME could offer them.”
According to research about SMEs in Ghana and South Africa, published in 2010 by the International Research Journal of Finance and Economics, SMEs account for SMEs account for around 60% of employment in the country — the global average is around 77% — and further studies have shown that up to 76% of South African SMEs fail within the first two years. The fields are littered with the bones of failed SMEs and, understandably, black talent isn’t necessarily keen on being a part of that risk when the corporate environment is stable and affluent.
“The biggest challenge is that SMEs, by their nature, do not have the same resources that big companies have, from both human and financial perspectives. In some cases they have single or very few shareholders which makes compliance with the ownership element impossible,” says Ngwenya.
The price on compliance is one that SMEs are not always in a place to afford, certainly not compared with bigger enterprises. The SBP’s SME Growth Index 2014 found that the average SME spends nine days a month dealing with government red tape. The Davis Tax Committee Interim Report on Small Businesses estimated that the cost of SME com- pliance was around R216 000 a year — and this was before the introduction of the new BBBEE mandate.
“In the current economic climate, the high cost implications of meeting these new requirements are sure to place an additional, significant burden on qualifying small enterprises and entrepreneurial business owners,” says Darroll. “The potential price of compliance is as yet unknown. It may in some instances necessitate a complete restructuring of the business in terms of its shareholding.”
Indeed the money element extends across all five of the BBBEE pillars, impacting the SME at a time when economic and political issues, not to mention load shedding and investment concerns are already placing significant pressure on their ability to survive, much less thrive. Transforming the business to meet the expectations outlined by the Codes can be expensive.
Vuyisa Qabaka, partner at Inye Business Consulting, believes that the sector charters will determine the extent of the impact of BBBEE on businesses operating within specific sectors, but that the investment in skills is likely to have potentially negative and hidden cost implications for many SMEs. However, he does think that the amended act makes compliance more affordable and accessible.
“Your accountant can now issue a compliance certificate and compliance is now incentivised,” says Qabaka. “This allows for more small businesses to be at the forefront of transformation in the economy.”
“A slight concern is that it is now more difficult to reach targets on procurement in that the minister has defined ‘empowering suppliers’, which is a more complex definition than having a simple recognition level. It implies that even if a company does reach a compliant level, it may not be sufficient to help its customers earn BEE points,” says Roche Mamabolo, business mentor at The Hope Factory. “The driver behind BEE compliance is that a company asks its suppliers for BEE certificates in order to earn points and therefore companies obtain certificates to satisfy their customers. If a company cannot meet the requirement of being an ‘empowering supplier’, even if it can reach a BEE level, it may discourage that company from continuing its transformation journey.”
Another factor to consider is the deadline of April 2015. This can now be counted in days, almost hours, and the automatic downgrade nature of the new BBBEE Codes applies, regardless of the reasons behind a SME’s failure to comply.
“Before the Codes are due for implementation on April 30 2015, most SMMEs are likely to be in possession of valid BEE certificates based on their compliance with the current codes,” says Darroll. “Verification in 2016 will be based on compliance with the new Codes, which means most qualifying firms will need to start implementing the required changes in the current financial year. Furthermore, the Act introduces draconian criminal offences; contravention may result in a fine and/or up to 10 years imprisonment for individuals, and the firm may be fined up to 10% of annual turnover as well as banned from contracting with government and public entities for 10 years.”
This may result in SMEs purposefully keeping their income beneath the R10-million threshold so they remain compliant. This is not what the economy needs and it is in direct contradiction of the National Development Plan, which wants 90% of employment opportunities to be created by small and expanding companies by 2030.
That said, there are methods for SMEs to adopt to avoid any madness, steps towards compliance that can be taken today to support their growth in the future.
Heather Lowe, FNB’s business head of enterprise development, recommends that SMEs start analysing the potential impact of BBBEE immediately and have conversations with their clients to reassure them that their keeping your business won’t lose them BBBEE points. She believes that a gradual process of realigning the business, alongside understanding the areas that give the SME a competitive edge, will make the process smoother.
“The SMEs that adopt a proactive approach to the change objectives of the BBBEE and amended codes of practice are likely to come out as leading performers in compliance, grow their market share, gain from strength of people’s diversity and translate these into superior business performance,” says Khutso Sekgota, senior manager at Deloitte. “Entities with black ownership of less than 51% should pro-actively search for complementing black-owned partners who will enable them to achieve at least 51% black ownership. The identification of these suitable partners can be field-tested by undertaking pilot partnership in the form of joint ventures and sub-contracting agreements. These pilot partnerships will allow members to assess the compatibility of cultures, strategic fit and growth potential.”
SMEs need to prepare for the impact that BBBEE will inevitably have on their business structure and income. Hadfield points out that the flipside is that large corporates now have even greater pressure on them to support and grow small businesses. This is an opportunity to reclaim some of the losses from compliance and turn them into gains — the ecosystem of BBBEE is being shared by all and everyone is impacted, so learn the codes and build business with big business. This is also, hopefully, the time for the government to dust itself off and start fresh, meeting the sector halfway and providing the right levels of support and advice, Hadfield says.
“Government must never use BEE ratings as a stick to deprive good service providers of the right to offer services, and they must deal with the conflicts in legislation such as the PPPFA and BEE Acts,” says Ngwenya. “The professionalisation of the industry is long overdue.”