Could black economic empowerment (BEE) deals be South Africa’s subprime crisis?
This question was first raised by Absa banker Cliff Zephyrine who about a month ago suggested bank exposure to BEE was “subprime-like”.
“It is a radical parallel to draw, but there are obvious similarities,” the Business Times` bank sector columnist Stuart Theobald noted:
· Both were created by political rather than business priorities.
· Both involved the extension of discounted finance to cover assets that are now rapidly falling in value.
· Both are damaging to bank balance sheets when things go wrong.
· It is extremely difficult to track banks` exposure to BEE deals.
Theobald adds that the share price bloodbath that has followed in the wake of the econo-financial hurricane caused by the US sub-prime crisis has left many large empowerment deals “deeply underwater” – finance speak for insolvent.
He notes Barloworld`s share price has plunged 61% since its R1.8-billion empowerment deal of a few months ago. Anglo Platinum sold R3.3-billion worth of shares to its own staff in 2007, and the share price then fell 57%. Woolworths sold 10% of itself to its staff, a share worth R292-million at the time, but the share is now down 46%.
“The big unknown is the impact on banks. As US financial markets have taught us recently, if the risk cannot be tracked properly there is reason to be afraid.”
Business Report adds that special purpose vehicles (SPVs) – a popular financial arrangement used in BEE deals some years ago are most at risk.
The paper says SPVs “are unsustainable and do not work but funders continue to use them because of the fees these structures generate.” That cannot be good and indeed is the logic – if one can grace reckless greed with that term – that lay behind the repacking of subprime mortgages into leveraged securities.
Bravura Economic Empowerment Consulting partner Ajay Lalu says SPVs are a failure “because they were premised on increasing share prices rather than cash flows”.
He adds “it should have been known a long time ago that markets are fickle and driven largely by sentiment, as they are outside the control of BEE partners and management of the companies. It was strange that partners in the first wave of BEE deals, as well as new participants, believed that something that was beyond their control could pay great dividends.”
Strange, indeed. Suspiciously strange, in fact.
None of the deals said to be “under water” are defence related. More good news is a JP Morgan study that expects resilience in the global defence market. These happy tidings are however offset by the fog that hangs over the local defence BEE landscape.
Most defence companies now have a BEE partner in place. Trouble is most defence entities are unlisted or the off-JSE subsidiaries of global concerns. So not much more than what they want us to know gets into the public domain.
That said; we can safely assume these deals are also leveraged on some clever footwork. JP Morgan did not foresee the global system failure we are now experiencing and I, frankly, treat its optimism with caution. Defence budget cuts are coming, if not here, certainly abroad – many politicians see it as an obvious and popular economy – and with that will go that resilience.
International Air Transport Association CEO Giovanni Bisignani made some frightening predictions in that regard recently – at least as far as aircraft manufacturing are concerned. This has obvious implications for local companies that are part of the global supply chain of the large plane makers.
Let`s hope the footwork still looks clever this time next year.
In the meantime, BEE warned.