This is a scenario that we come across all the time. I have a number of clients that fall into these broad categories
- They do a lot of business outside of South Africa and this impacts their turnover. One of these examples is merchanting - The Balance of Payments Manual, fifth edition (BPM5) defines merchanting as the purchase of a good by a resident (of the compiling economy) from a nonresident and the subsequent resale of the good to another nonresident; during the process, the good does not enter or leave the compiling economy. The difference between the value of goods when acquired and the value when sold is recorded as the value of merchanting services provided
- They are brokers or agents. The Financial Sector Code specifically excludes broker commission spend. Every other code doesn't. I have come across a number of companies that are brokers for an international parent or a local company. One specific client sends 90% of their revenue back to their parent for services that the parent ultimately renders.
- They sell a product that is taxed to blazes. I have a client out in Kimberly whose business is diesel fuel. They turnover close to half a billion each year but their GP figure is less than 10% of that figure. All the other money goes to the state in the forms of taxes.
What to do under these circumstances? I think that there is a strong case to regard the GP figure as turnover. This is a document I wrote for a broker. I have pasted the content into the post but if you want to read it with all the footnotes you can find it here. I write quite a few of these types of opinions if you ever need one written.
24 August 2017
Justification for viewing THE CLIENT as a Qualifying Small Enterprise (QSE) under both the 2007 and 2013 BEE codes of good practice.
It is Caird’s considered opinion that THE CLIENT should be viewed as a qualifying small enterprise under both the 2007 codes (turnover between R5m and R35m) and the 2013 codes (turnover between R10m and R50m) even though the company turns over in excess of the maximum threshold for a QSE.
In cases such as THE CLIENT, which is a local broker for its parent THE CLIENT INTERNATIONAL, the turnover thresholds in determining the size of a business are prejudicial. Our view is that the Gross Profit figure is a fairer appreciation of the company’s financial performance when it comes to determining its size in terms of the relevant scorecard. (This is made all the more pertinent as cost of sales amounts to in excess of 90% of the company’s revenue. This amount is paid the local operation’s parent.)
In determining that THE CLIENT is a QSE, Caird has adhered strictly to the key principles of the Broad-Based Black Economic Empowerment Act and the BEE Codes of good practice, specifically:
Paragraph 3.4 of the BEE Strategy document
- Black Economic Empowerment is an inclusive process.
and;
Paragraph 2 code series 000 of both the revised and original BEE codes of good practice
- The fundamental principle for measuring B-BBEE compliance is that substance takes precedence over legal form.
- In interpreting the provisions of the Codes any reasonable interpretation consistent with the objectives of the Act and the B-BBEE Strategy must take precedence.
At all times we have remained consistent with section 3 of the BEE Act
(1) Any person applying this Act must interpret its provisions so as—
(a) to give effect to its objectives and purposes;
A more detailed assessment and justification for THE CLIENT’s QSE status follows in the paragraphs below.
Our understanding of THE CLIENT’s business
The points below list the significant aspects of THE CLIENT’s South African operations as it pertains to the implementation of a BEE programme
- Formed as a local broker for its parent THE CLIENT INTERNATIONAL
- Three staff members as of last verification, currently five. In excess of 50% black and 40% black female
- No production capabilities within South Africa. All manufacturing is done by the parent outside of the borders of South Africa.
- Productive assets are limited to ICT equipment and sundries.
- Cost of sales amounts to in excess of 90% of the revenue. This amount is paid the local operation’s parent.
If one was to map the company’s size against the National Small Business Act it would appear to be somewhere between a micro or very small enterprise if the turnover is not taken into account.
Sector or subsectors in accordance with the Standard Industrial Classification
|
Size or class
|
Total full-time equivalent of paid employees
Less than
|
Total annual turnover
Less than
|
Total gross asset value (fixed property excluded)
Less than
|
Manufacturing
|
Medium
|
200
|
R40.00 m
|
R15.00 m
|
Small
|
50
|
R10.00 m
|
R 3.75 m
|
Very small
|
20
|
R 4.00 m
|
R 1.50 m
|
Micro
|
5
|
R 0.15 m
|
R 0.10 m
|
Pertinent primary and secondary legislation
Broad-Based Black Economic Empowerment Act
Section 2 states the lists the “objectives of this Act are to facilitate broad-based black economic empowerment by”
- promoting economic transformation in order to enable meaningful participation of black people in the economy;
- achieving a substantial change in the racial composition of ownership and management structures and in the skilled occupations of existing and new enterprises;
- increasing the extent to which black women own and manage existing and new enterprises, and increasing their access to economic activities, infrastructure and skills training;
- promoting investment programmes that lead to broad-based and meaningful participation in the economy by black people in order to achieve sustainable development and general prosperity;
Section 3
(1) Any person applying this Act must interpret its provisions so as—
(a) to give effect to its objectives and purposes; and
(b) to comply with the Constitution.
A Strategy for Broad-Based Black Economic Empowerment
Paragraph 3.4 lists the following key principles that underpin the national BEE strategy.
- Black Economic Empowerment is broad-based.
- Black Economic Empowerment is an inclusive process.
- Black Economic Empowerment is associated with good governance.
- Black Economic Empowerment is part of our growth strategy.
BEE codes of good practice
BEE codes referenced here are both the original BEE codes (2007, gazette number 29617) and the revised BEE codes of good practice (2013, gazette number 36928).
Paragraph 2 code series 000 lists the key principles as being (inter alia)
- The fundamental principle for measuring B-BBEE compliance is that substance takes precedence over legal form.
- In interpreting the provisions of the Codes any reasonable interpretation consistent with the objectives of the Act and the B-BBEE Strategy must take precedence
THE CLIENT as a qualifying small enterprise as opposed to a large entity
The principles and guidelines highlighted above are relevant to THE CLIENT’s specific situation.
BEE is an inclusive process
As has been discussed above, THE CLIENT’s revenue prejudices the company from being a positive and meaningful contributor to BEE. Its micro or very small size, as measured against the schedule attached to the National Small Business Act, makes it extremely difficult to adhere to the strict requirements of the large enterprises scorecard.
Conclusion
The relevant legislation (including codes and strategy) provides for deviation from the codes’ requirements, provided that deviation
- Gives effect to the objectives and purposes of the Act, and
- Is a reasonable interpretation that is consistent with the objectives of the Act and the B-BBEE Strategy
It is our opinion that the turnover thresholds in determining the size of a business can be too rigid and in this case have definitely prejudiced THE CLIENT who is a broker or agency with little choice as to who its principle is.[1] THE CLIENT is better positioned to advance the objectives and purpose of the BEE Act by regarding itself as a Qualifying Small Enterprise.
Our view was that the Gross Profit[2] figure was a fairer appreciation of the company’s financial performance when it came to determining its size in terms of the relevant scorecard. It must be stressed that the same NPBT and NPAT figures were used to determine the value adding supplier status and enterprise development and socio-economic contributions[3]. We believe that the inclusivity argument provides a stronger case for this company to make a contribution to BEE, this is in keeping with both section 3 of the BEE Act and statement 000, paragraph 2 of the original and revised BEE codes of good practice. In our opinion this interpretation is consistent with the Constitution, the BEE Act and the BEE strategy document.
[1][1] We have come across similar situations with fuel retailers who have an incredibly high turnover, most of which is based on levies and taxes, margins are a fraction of this turnover and in many cases these margins are determined by legislation.
[2] THE CLIENT had committed to measure themselves under the QSE scorecard even if the GP figure fell within the EME threshold
[3] It must also be noted that THE CLIENT is fully compliant with SARS and VAT requirements