Onerous procurement requirements of S. Africa’s 2017 Mining Charter to hit suppliers

By Morne van der Merwe, Managing Partner, Govan Manuel, Senior Associate, and Tanya Seitz, Associate, Baker McKenzie Johannesburg

It is common cause that the 2017 Mining Charter has been received with widespread controversy. Much of the criticism has been around the amendments to the 2017 Charter that are intended to increase the compliance thresholds for ownership; management and control of the holders of mining and prospecting rights (Holders) and the "once empowered, always-empowered" principle.

However, in its current form, the 2017 Charter is also likely to have a significant impact on the downstream market, in particular, mining sector service providers. Little attention has been paid to the onerous requirements set by the 2017 Charter when it comes to Holders procuring goods and services from mining industry suppliers. While suppliers are not required to comply with the 2017 Charter, the procurement targets for Holders indirectly require them to meet such targets to remain competitive.

The 2010 Mining Charter required Holders to procure 70% of their mining services procurement spend from BEE Entities. BEE Entities are defined under the 2010 Charter as entities where 25% + 1 vote of its share capital was held by historically disadvantaged South Africans, as measured in accordance with the flow-through principle.

The mining services procurement requirements under the 2017 Charter are more onerous. Holders are now obliged to ensure that at least 80% of their total spend on services must be sourced from South African Companies, of which a minimum of 65% of its total spend on services must be sourced from black-owned companies (Black-owned Companies); 10% of its total spend on services must be sourced from Black Owned Companies with a minimum of 50% + 1 vote of its share capital being owned and controlled by black women (BWO Companies); and 5% of its total spend on services must be sourced from Black-owned Companies with a minimum of 50% + 1 vote of its share capital being held by youth (BYO Companies).

In addition, the definition of Black-owned Company increases the requirements of black ownership from 25% +1 vote under the 2010 Charter to at least 50%+ 1 vote being held by Black Persons. Broadly speaking, "Black Person" is defined as African, Indian and Coloured natural persons, or a juristic person that is wholly-owned by the aforementioned categories of natural persons. The flow-through principle has been excluded from the definition of "Black Person" and may not be relied upon when measuring the level of black ownership.

In its annual review for 2016, the Chamber of Mines reported that the industry had substantially complied with the services' procurement requirements of the 2010 Charter, with Holders collectively ensuring that at least 63% of their procurement spend on mining services was from BEE Entities. Despite Holders only reporting substantial compliance of 63% with the procurement requirements under the 2010 Charter in 2016, the latest amendments under the 2017 Charter increase the procurement compliance target by 10%, from 70% to 80%.

The issue is that Black-owned Companies, BWO Companies and BYO Companies are new constructs, and as such, it’s unclear whether there are sufficient service providers who would satisfy the procurement requirements, and fulfil 80% of the Holders procurement spend. In this regard, the 2017 Charter contains transitional arrangements, which make allowances for three years, to enable Holders to ramp up their procurement spend in line with certain annual targets.

However, it is not known how Holders will assist in establishing and financing Black-owned Companies and ensuring new entrants to mining service sector possess the required technical know-how within the three-year period. In addition, most new and existing Black-owned Companies will need support from third party financiers or state-owned funding institutions to acquire expensive mining equipment, but it is not yet known whether established financiers will have the appetite to fund these ventures and what their level of exposure will be.

For Government's rapid transformation objectives to be successful, it must provide adequate support in terms of initiatives such as the Black Industrialist programme, thereby unlocking access to funding from state financing institutions. However, on a best case, it seems likely that the requirements of the 2017 Charter will result in highly geared Black-owned Companies and increased costs for Holders.

Another unintended consequence of the 50% + 1 vote black ownership requirements of the 2017 Charter is that any Black-owned Company established as a joint venture between existing service providers and Black Persons will not be recognised as a subsidiary of the existing service provider. The existing service provider won’t be able consolidate the financial results of the Black-owned Company in its annual financial statements, or that of its group. Any funding provided by established service providers will only be provided off-balance sheet. Accordingly, funding of the Black-owned Company will be difficult as the shareholders won’t be able to rely on the strength of the balance sheet of the established service provider.

In addition, Holders are obliged to increase their procurement from Black-owned Companies from the date that the 2017 Charter takes effect. It is unclear what the effect on existing contracts will be but the advent of the 2017 Charter will not constitute grounds to terminate an agreement, except if the agreement provides otherwise.

It is likely that the requirements of the 2017 Charter will see the establishment of many new Black-owned Companies as service providers to the mining industry. What the 2017 Charter fails to do is to provide a framework to assist with upskilling the new Black-owned Companies, and facilitate a transfer of skills from existing service providers.

The failure to ensure that new entrants to the mining services industry have the requisite expertise raises serious concerns around mine safety. If this is not carefully managed it has the potential to increase the number of accidents in the mining sector and increase the frequency of mine stoppages. The 2017 Charter should address this.

While the need for transformation of the downstream market in the mining sector is trite, the measures proposed in the 2017 Charter are impractical. Government should engage meaningfully with key players in the mining industry, in relation to the 2017 Charter. While we encourage Government's efforts to promote transformation and rapid growth in the economy, we are concerned that if this process is not carefully managed it could have the potential to undermine the mining sector and its ability to be a catalyst for growth.