Q2 2021 - (released August 2021)
SA's quarterly Private Equity & Venture Capital magazine
Perspectives on Burger King decision
The deal that could have been, should have been, would have been
by Langa Madonko
It is apt, when describing South Africa, to borrow from Charles Dickens’ greatest works of literature, a Tale of Two Cities.
In this version, the book opens with Dickens assuming the role of a prophet. He looks into South Africa’s future and sees Sandton, a beautiful and sprawling commercial and residential centre, and right next to it, he sees the township of Alex. Dickens goes on to pen what he must have believed are two separate cities, “It was the best of times, it was the worst of times, it was the age of wisdom, it was the age of foolishness, it was the epoch of belief, it was the epoch of incredulity, it was the season of Light, it was the season of Darkness, it was the spring of hope, it was the winter of despair...”
It is always important when speaking to any story of South Africa, to accept the present reality that the country exists in various conflicting states. While we have the richest square mile, tall vineyards, lush wine farms, beautiful game farms and thriving economic hubs, we also have townships that are plagued with inefficient services and lack of access to opportunities. We have written numerous stories on our past, and the path to reparations.
Economically, one of those tools is the B-BBEE legislation meant to power the redistribution of wealth, to foster a much more equal state where a broader base of the population own the means of production for the attainment of a better life. And this is the backdrop against which the Competition Commission set out to make a determination which may, regrettably, with a good notion, have had undesired consequences.
Transformation in South Africa is a non-negotiable, and by the act of legislation, is built into the tenets of corporate and investment banking in South Africa. In considering any transaction, one must consider the commercial terms and the implications for economic and social agendas, but it is expected that transactions should also consider the “Public Interest Issues”. This has led Parliament to instruct, the Competition Commission by legislation. This means that for a transaction to
be approved, one must have taken into account the impact of a transaction on the well-being, economic position and the overall benefit of the nation.
However, what has become clear in the latest transaction is that we are not fully aware of the extent to which Public Interest issues weigh on the scale of prudence when enacting a transaction.
The Competition Commission prohibited the transaction in which two private equity funds, ECP Africa, 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.
In its proposal to the Competition Commission, Emerging Capital Partners, the acquirer, planned to double the number of stores within the franchise group within 5 years, through an investment of over R500m. Further, the transaction would have led to an increase of no less than 1,250 new, permanent jobs, with an annual payroll and benefits of at least R120m. In addition, there were also undertakings to increase procurement from Black Owned Businesses, and to grow the B-BBEE shareholding to an effective 5% over time.
The President’s goal to bring in $100bn (approx. R14,8bn) in offshore investment appears to become seemingly more idealistic in a country where the effective unemployment rate amongst those under the age of 40 is above 50%, with a slow growing economy not creating enough new opportunities for employment, and constantly increasing retrenchment levels.
In my view, the determination by the Competition Commission poses the following challenges whilst producing a brilliant opportunity, assuming the costs are not prohibitive.
In assessing this transaction, the following unintended consequences seem to emanate from the barring of the transaction, from an investor’s perspective, both local and international.
First, it appears that the loss around transformation and the transformation imperatives in South Africa are unclear. It also appears as though the element of public interest is undefined. This casts the same aspersions that have been made in SA around the issue of policy certainty. It has always been my assertion that businesses will operate from anywhere, as long as the rules of engagement are clear. The rules in SA are difficult to interpret, with very fluid policy. This insinuates the framework one invests under might not be the same framework from which one exits, no matter how slow the wheels of policy creation are formed under it.
Second, this propagates a new tenet to BBBEE legislation which I have coined, the “no worse off” clause. By implication, in exiting a transaction, one can now only exit to a buyer who leaves the business no worse off from a B-BBEE perspective. This shrinks the pool of potential investors and may inadvertently disqualify international investors from doing transactions, especially with private equity funds, who in the main are becoming quite transformed with almost every new manager entering the market at 51% Black Ownership. This will definitely put pressure on pricing and slow the rate of exits if the investor/buyer pool is further reduced.
Traditionally, buyers have had clauses inserted in their agreements to allow them to meet certain thresholds over a particular time period, and to achieve other transformation imperatives alongside ownership. In the case of certain industries, this has gone so far as to require them to enter equity equivalent programmes where letting go of equity was not the international parent company’s modus operandi. This alternative could have been applied here.
Third, as an impact that has already been seen on Grand Parade Investments, which had a 17% share price drop on the day it was announced that the deal had been declined, BBBEE Investment companies could potentially be perceived as illiquid and an exit risk, which may impact their funding pools and potential to attract investor capital in various markets, at a time when a new wave of transactions in the transformation space are being mooted. It may also inadvertently widen the discounts shared and held by black shareholders, as they must prove the transaction in order to achieve exits to parties in fear of the cost of remediation should transactions not be approved in the first round, which will then require an appeal, which isn’t a cheap exercise. Never mind pricing in the potential sunk cost of putting the transaction together, should it ultimately not be concluded.
The opportunity now exists for the robust South African processes of law to come into play and provide clarity on the expectations around Public Interest Consideration in the Competition Commission Act. It is fair to say that the Competition Commissioner has said on numerous platforms that he too would welcome an appeal to the Competition Tribunal and, if needs be, the courts of South Africa, to which applications they would respond with their considerations and views. This process would, as is necessary with all laws, ventilate the thinking and allow for greater clarity for all on what to consider as we deal with issues of public interest. It would also be interesting to see if the Commission would consider hosting town hall events and opening the floor to stakeholders to contribute to a discussion about the concerns around the public interest issues, and to come up with what is the norm in SA – a broadly consulted and consensus view on how to weigh these interests.
It is always right to consider transformation in the context of South Africa and the investment landscape because, ultimately, we must not only be good business but also be good citizens who, in their pursuits, uplift communities by creating opportunities for growth and the empowerment of others. Through our activities, we must build a better society that meets the requirements of our collective dreams.
Madonko is an Investment Principal at Summit Capital.