Treading carefully when it comes to fronting

In South Africa, the BEE scorecard is a very crucial element in any business. It is advised that for the growth and prosperity of a business that the business owners understand the scoring elements, as the higher the score, the more business opportunities will potentially be available to the business.

Let us briefly look at some of the basics of B-BBEE.

In terms of the latest amended Codes of Good Practice, there are five elements used to measure a company’s compliance and status:

B-BBEE ELEMENTS	GENERIC WEIGHTING	QSE WEIGHTING
Ownership	25	25
Management control	19	15
Skills development	20	25
Enterprise and supplier development	42	30
Socio economic development	5	5
Total	111	100

There are three categories classified in terms of annual turnover:

CATEGORY	ANNUAL TURNOVER THRESHOLD (R)	AUTOMATIC RECOGNITION – BLACK OWNERSHIP LEVEL 100% > 51% < 51%
EME	< 10m	Level 1 Level 2	Level 4
QSE	< 50m	Level 1 Level 2	Not automatic, use scorecard points
Generic	> 50m	Not automatic, use scorecard points

BEE compliance and the associated level depend on the score achieved. These levels have an associated procurement recognition percentage you achieve as a company as illustrated below:

B-BBEE Status	Qualification	B-BBEE Recognition Level
Level One Contributor	> 100 points	135% Recognition
Level Two Contributor	> 95 but < 100 points	125% Recognition
Level Three Contributor	> 90 but < 95 points	110% Recognition
Level Four Contributor	> 80 but < 90 points	100% Recognition
Level Five Contributor	> 75 but < 80 points	80% Recognition
Level Six Contributor	> 70 but < 75 points	60% Recognition
Level Seven Contributor	> 55 but < 70 points	50% Recognition
Level Eight Contributor	> 40 but < 55 points	10% Recognition
Non-compliant Contributor	< 40 points	0% Recognition

Apart from ownership, other important areas such as management control (including employment equity), skills development, enterprise and supplier development (including preferential procurement) and socio-economic development are all integral to measurement and scoring.

When evaluating the benefits of BEE certification, it is pertinent to consider what the actual advantages are. Businesses stand to benefit in several ways if they score higher on their BEE scorecard. Businesses with high BEE scores stand to potentially source more business, especially as larger corporates now benefit from supporting small businesses that are black owned and BEE compliant. Companies that you supply will also gain benefit from your certification, as they will be able to claim their own BEE points by virtue of being your customer. In order to tender for any government business it is also a requirement to have a BEE certificate.

Taking the considerable benefits of being BEE compliant into account, it might be enticing to pretend to meet BEE requirements to be awarded tenders or to be recognised as a BEE supplier at a specific BEE level or a certain percentage black shareholding.

These actions are termed FRONTING and can take on different forms:

Window dressing: This includes cases in which black people are appointed or introduced to an enterprise based on tokenism and may be:
- Discouraged or inhibited from substantially participating in the core activities of an enterprise; or
- Discouraged or inhibited from substantially participating in the stated areas and/or levels of their participation.
Benefit Diversion: This includes initiatives implemented where the economic benefits received because of the B-BBEE status of an enterprise do not flow to black people in the ratio as specified in the relevant legal documentation.
Opportunistic Intermediaries: This includes enterprises that have concluded agreements with other enterprises with a view to leveraging the opportunistic intermediary's favourable B-BBEE status in circumstances where the agreement involves:
- Significant limitations or restrictions upon the identity of the opportunistic intermediary's suppliers, service providers, clients, or customers
- The maintenance of their business operations in a context reasonably considered improbable having regard to resources and
- Terms and conditions that are not negotiated at arms-length on a fair and reasonable basis.

Indicators that will raise red flags in terms of fronting are:

Black people identified by an enterprise as its shareholders, executives or management are unaware or uncertain of their role within an enterprise
Black people identified by an enterprise as its shareholders, executives or management have roles of responsibility that differ significantly from those of their non-black peers
Black people who serve in executive or management positions in an enterprise are paid significantly lower than the market norm, unless all executives or management of an enterprise are paid at a similar level
There is no significant indication of active participation by black people identified as top management at strategic decision-making level
An enterprise only conducts peripheral functions and does not perform the core functions reasonably expected of other, similar, enterprises
An enterprise relies on a third-party to conduct most core functions normally conducted by similar enterprises
An enterprise cannot operate independently without a third-party, because of contractual obligations or the lack of technical or operational competence
The enterprise displays evidence of circumvention or attempted circumvention
An enterprise buys goods or services at a significantly different rate than the market from a related person or shareholder
An enterprise obtains loans, not linked to the good faith share purchases or enterprise development initiatives, from a related person at an excessive rate and
An enterprise shares all premises and infrastructure with a related person, or with a shareholder with no B-BBEE status or a third-party operating in the same industry where the cost of such premises and infrastructure is disproportionate to market-related costs.

In terms of the basic principles of BEE, it is imperative to adhere strictly to the requirements of the scorecard and avoid the pitfalls of fronting.

Please feel free to arrange a complimentary consultation with BDO Verification Services should you have any concerns or questions about your BEE scorecard.