Mining companies must ensure that their operations do not constitute a 'fronting practice' for the purposes of the Broad-Based Black Economic Empowerment Act 53 of 2003 (the Act).
It is not unusual for a group of companies to establish an entity (A) with a high B-BBEE rating for the purpose of procuring work which another company within the group (B), although it renders similar services, would be disqualified from obtaining. A may secure this work and then sub-contract some or all of its services to B.
It is essential that such transactions do not contravene the Act, in order to avoid strict penalties:
- Fronting is a criminal offence in terms of the Act.
- Individuals convicted of fronting are liable to a fine or imprisonment not exceeding 10 years, or both.
- If a company is convicted it is liable for a fine not exceeding 10% of its annual turnover.
- Any person convicted of fronting may not, for 10 years from the date of conviction, contract or transact any business with an organ of State or public entity.
The Act provides for a commission to investigate fronting either on its own initiative or in response to complaints, so companies should not labour under the misapprehension that it will go unnoticed.
It is often difficult for companies to identify whether transactions such as that mentioned constitute fronting in light of the Act's wide definition thereof. In respect of arrangements between entities, the Act defines fronting as:
"a transaction, arrangement or other act or conduct that directly or indirectly undermines or frustrates the achievement of the objectives of this Act… including but not limited to practices in connection with a B-BBEE initiative involving the conclusion of an agreement with another enterprise in order to achieve or enhance broad-based black economic empowerment status in circumstances in which –
- there are significant limitations, whether implicit or explicit, on the identity of suppliers, service providers, clients or customers;
- the maintenance of business operations is reasonably considered to be improbable, having regard to the resources available;
- the term and conditions were not negotiated at arm's length and on a fair and reasonable basis." [Our emphasis]
Applying this definition to the example of A and B, and assuming that:
- A's customers are aware that certain of its services are sub-contracted to B;
- A has access to the same financial resources as B, being part of the same group of companies, meaning that it is able to maintain its operations; but
- the terms of the sub-contracting agreement were not negotiated at market-related rates, but rather those dictated by the group
the sub-contracting arrangement fulfils some, but not all, of the definition's requirements for fronting. It is then not immediately apparent whether the conduct constitutes fronting or not.
Given the severity of the penalties imposed, we recommend that companies adopt a cautious approach and consult a B-BBEE expert to review their operations to ensure that they do not constitute fronting.