Q2 2021 - (released August 2021)
SA's quarterly Private Equity & Venture Capital magazine
Perspectives on Burger King decision
Takeaways from Burger King
by Heather Irvine
The recent decision of the Competition Commission to prohibit the proposed sale of Burger King (South Africa) has left lingering doubts about whether it will be possible to gain clearance for mergers in South Africa which lead to a reduction in shareholding by historically disadvantaged persons or workers.
The Commission prohibited the transaction in which two private equity funds, ECP Africa Fund IV LLC and ECP Africa Fund IV A LLC (ECP), proposed to acquire Burger King (South Africa) and Grand Foods Meat Plant (Pty) Ltd from empowered investment holding company, Grand Parade Investments, because the shareholding by black individuals in the target companies would reduce from more than 68% to 0%. The Commission relied on a fairly recent amendment to section 12A(3) of the
Competition Act, which requires that when determining whether a merger “can or cannot” be justified on substantial public interest grounds, the competition authorities must consider, along with various other public interest factors, the effect that a merger will have on “the promotion of a greater spread of ownership, in particular to include the level of ownership by historically disadvantaged persons by firms in the market” (s12A(3)(e) of the Act).
Unfortunately, the Commission has not published its full written reasons for this decision, and the Commission’s press release does not provide a full explanation of the Commission’s reasoning or whether the Commission considered any conditions,
including, for example, a condition requiring the parties to use reasonable efforts to introduce a level of black shareholding within a reasonable period of time. A condition along these lines has featured in a number of other recent mergers.
A blanket rule against any merger which leads to a reduction in ownership by historically disadvantaged persons or workers would be open to challenge on a number of grounds.
First, the amended section does not create a positive obligation on all merging parties to retain (or indeed to introduce) black shareholders. It simply requires the Commission to consider whether a proposed transaction “promotes” a greater spread of ownership, or not. There is nothing in the amended legislation which suggests that this particular factor has been elevated to be the most important consideration: it, therefore, has to be weighed against the other public interest factors, which include, for example, the impact of a merger on employment and the ability of firms owned or controlled by historically disadvantaged persons to effectively enter into, participate in, or expand within the market. If a proposed merger preserves or creates employment, or enables black investors to realise their investment and shift their capital into areas of the economy with higher returns, these positive public interest effects have to be balanced against the reduction in black ownership in the target firm.
Second, the amendments to s12A(3) have not fundamentally changed the analysis that the Commission is required to undertake in terms of s12A(1), which is to evaluate whether a merger can or cannot be justified on “substantial” public interest grounds. To warrant a prohibition, a reduction of black shareholding in a particular target firm must have a “substantial” negative effect on the public interest. There might conceivably be cases where this is so - for example, in markets in which the target accounts for a substantial proportion of the overall empowerment in a whole industry or sector, or is a very large firm.
In most cases, however, it is hard to see how a reduction in black ownership in a single target firm would have a “substantial” effect on “levels of ownership” by historically disadvantaged persons in South Africa. Lastly, this particular public interest consideration is only one of several factors listed in s12A(3) of the Act. There are other factors, which also need to be taken into account. For example, subsection (c) requires the authorities to consider whether a proposed merger will impact on the ability of firms owned and controlled by historically disadvantaged persons to enter and participate in markets. Accordingly, the Commission also has to consider the broader negative public interest consequences of making it more difficult or expensive for black shareholders to sell their shares.
One need look no further than this transaction to see the potential impact of a blanket prohibition on any reduction in empowerment ownership. Immediately following the Commission’s announcement, the shares in Grand Parade plunged in their largest one-day fall since April 2020, significantly reducing the value of the investment by its predominantly black shareholders (and making it almost impossible for them to sell their shares). Analysts and the business press were quick to point out that a sweeping prohibition of deals on this basis would deter investors from acquiring companies with a significant existing black shareholding and have a negative effect on South Africa’s attractiveness as an emerging market investment destination, particularly for foreign investors. At such a critical time in the South African economy, this seems like a much more significant public interest concern than the loss of black shareholding in a single target firm.
The Commission clearly has to do what the legislation requires, which is to evaluate whether a particular transaction promotes a greater spread of ownership and, in particular, increases ownership of firms by historically disadvantaged persons and workers. However, it must make this assessment as part of a broader examination of the “public interest”. This is a challenging task. As the Competition Appeal Court noted in the Walmart/Massmart merger, public interest concerns dwell at the intersection of competition law and industrial policy, and there is thus a need to exercise “caution in respect of competition law being employed as a surrogate for a coherent industrial policy which by its very nature involves a series of polycentric decisions ill-suited to judicial interventions”. The amendment to s12A(1), which now requires that the Commission assess whether a merger “can or cannot” be justified on substantial public interest grounds, combined with the addition of the “greater spread of ownership” criteria in s12A(3)(e) of the Act, does not fundamentally change the nature of the assessment which the Commission must make in terms of this section of the Act, or indeed eliminate the need for caution when it does so. As the Appeal Court observed, when attempting to formulate suitable conditions to address concerns arising from the entry of Walmart into South Africa, “s 12 A (3)
should not be seen as a substitute for or even a significant component of a comprehensive policy designed by the State.”
South Africa has such a policy framework, in the form of its broad-based black economic empowerment legislation. This incentivises black economic empowerment, but does not make it mandatory for all firms trading in South Africa to be partly black-owned. The legislation recognises the value of black-ownership, but weighs and balances this alongside other criteria, like enterprise development, management control, skills and socio-economic development. Against this backdrop, it would be inappropriate for the Commission to focus solely on black ownership. Moreover, if the “policy makers”, including the Minister of Trade, Industry and Competition, take the view that the existing B-BBEE legislation isn’t working or isn’t achieving its objectives quickly enough, then this legislation ought to be amended, following the usual Parliamentary process.
Enforcing different (more costly and burdensome) obligations only on parties who try to acquire firms, or to sell their interests as part of merger control, is a fundamentally inappropriate way to enforce industrial policy.
However, this doesn’t mean that merging parties can simply ignore the objectives of the legislation, as expressed in the Preamble to the Act, which makes specific reference to the “transfer of economic ownership in keeping with the public interest”. Once the Commission has identified prima facie concerns, including about a reduction in black ownership, it is up to the merging parties to satisfactorily address these concerns. This might involve presenting additional evidence about the nature and circumstances of their proposed sale – for example, a proposed transaction may allow existing historically disadvantaged shareholders in the target firm to exit and realise value; or it may salvage a distressed firm in a sector of the economy which
is not currently attractive to local investors.
Alternatively, it might require that merging parties present a package of conditions which positively address different factors within the public interest assessment, in a way that offsets the negative impact on the spread of ownership.
Merging parties should engage proactively with the Commission and other stakeholders like trade unions and the Department of Trade, Industry and Competition at an early stage of planning their transactions. Proactive and creative commitments are required to achieve public interest outcomes which foster the effective participation of historically disadvantaged persons, as well as small and medium businesses.
Irvine is a partner in Bowmans’ Competition practice.