ARTICLE ON BEE - BUSINESS DAY - OCTOBER 2007

Cash flow … the oxygen that breathes life into BEE

Our series on private business BEE continues with a look at the key ingredients of a sustainable transaction funding structure. Kevin Homann, a deal-maker with a private business focus and a director of Spirit Capital, spells out the crucial facets of transactions that are built to last …

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Kevin Homann

MONEY can’t buy you love, but in the shape of continuing cash flows to your new partners it can buy you a sustainable and mutually rewarding BEE relationship. Cash flow is the oxygen that breathes life into empowerment ownership structures.

This should be acknowledged at the outset.

Improved BEE status improves the competitive position of a business. This involves a financial cost.

There are perhaps five key elements to sustainable funding structures for empowerment purposes and in each case there are financial implications in some form or other. In business, it is not enough to commit your hearts and minds to BEE, you must bring along your wallet as well.

You’ll see what I mean when we unpack The Big Five of sturdy, long-haul BEE vehicles…

1. The shareholder agreement: A well considered and documented shareholder agreement is essential in setting the tone for the future relationship. The shareholder agreement should have clear provisions dealing with issues such as director appointments, director’s and shareholders meetings and voting rights and the respective parties rights in the event that they wish to exit.
2. Explicit expectations: As mentioned in our first article, it is imperative that parties to the transaction set out their expectations. The majority shareholder usually expects his new partner to help him protect his current base of business while assisting the pursuit of new business opportunities. Attendance and input at board meetings should also be covered. Make sure the expectations are discussed and documented. Include benchmarks for measuring performance.
3. Vendor support: It is rare for a BEE buyer to have sufficient cash or assets to enable him to buy a stake in a business on standard commercial terms. Some financial support is usually required. This often takes the form of a pricing discount or a loan from the vendor to facilitate the sale (sometimes both). This is why it is vital that expectations are clearly spelled out. The potential benefits should be sufficient to justify a degree of vendor support.
4. Assured future cash flow: A new buyer who has taken on debt has to service the loan. For this, he needs an assured cash flow. This can be provided through an appropriate transaction structure or by dividend payments. Tax efficiency is a key issue here. With a debt structure, interest payments on the loan can be deducted from the pre-tax cash flow.
5. Provision for refinancing: Most transactions have an initial term of five years. It is most unlikely that the new equity stakeholder will have made enough money in that period to service the interest on the loan and pay off the entire principal. Therefore, it is necessary to make arrangements for refinancing once the original term comes to an end. Of course, the parties may wish to go their separate ways after five years – a contingency covered in the pre-emptive clauses of the initial shareholder agreement.

From the above pointers, it is evident that BEE involves a cost-benefit trade off. It is an investment in the future, and like all investments, it entails risks and returns. The focus at every stage should be on the value that BEE brings to the business.

The cash that flows to new partners obviously could be used to invest in new capacity and provide for new growth. But without a BEE dimension is the business likely to show substantial growth in an environment where BEE status governs (or at least influences) the placing of contracts?

It is not only government departments, parastatals and municipalities that scrutinise a supplier’s BEE credentials. It is also a key requirement for major private sector groups.

The BEE deals that are worth doing are those that are structured for the long-term. The key issues of pricing, vendor support and cash flow have to be carefully considered.

In business, every transaction comes down to value for money. BEE transactions are no exception.

Homann is director of corporate and structured finance service provider Spirit Capital. This is the second in a series of articles on BEE.

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