Sus­pi­cions can trig­ger probe of al­leged fronting

Obli­ga­tion lies on the state to in­ves­ti­gate a com­plaint and act ac­cord­ingly

Business Day - Business Law and Tax Review - - BUSINESS LAW & TAX REVIEW - LIONEL EGYPT & INGE SCH­NEI­DER

IN A post-apartheid so­ci­ety, it was ac­cepted that mea­sures were to be im­ple­mented to re­dress the so­cioe­co­nomic wrongs of the past. The en­act­ment of the Broad-Based Eco­nomic Em­pow­er­ment Act 53 of 2003 (BEE Act) in­tro­duced one such mea­sure in South African law.

In 2007, the min­is­ter of trade and in­dus­try pro­mul­gated the BEE Codes of Good Prac­tice un­der the pro­vi­sions of the BEE Act. How­ever, along with the in­tended pos­i­tive goals of BEE, a path­way was paved for in­stances of cor­rup­tion and col­lu­sion in the cor­po­rate environment. This path­way is called BEE fronting.

As a point of de­par­ture, the Guide­lines on Com­plex Struc­tures and Trans­ac­tions, and Fronting out­line three sit­u­a­tions that would con­sti­tute in­stances of BEE fronting:

“Win­dow dress­ing” en­tails cases in which black peo­ple are ap­pointed into an en­ter­prise on the ba­sis of to­kenism while be­ing dis­cour­aged or in­hib­ited from sub­stan­tially par­tic­i­pat­ing in the core ac­tiv­i­ties of the busi­ness.

“Ben­e­fit di­ver­sion” refers to the ini­tia­tives by which the eco­nomic ben­e­fits re­ceived as a re­sult of an en­ter­prise’s BEE sta­tus do not ac­crue to black peo­ple in the ra­tio pro­vided for by the rel­e­vant le­gal doc­u­ments.

“Op­por­tunis­tic in­ter­me­di­aries” in­cludes non-BEE com­pli­ant enterprises us­ing enterprises with su­pe­rior BEE cre­den­tials as in­ter­me­di­aries in or­der to lever­age off that BEE sta­tus in win­ning con­tracts or busi­ness.

Although leg­isla­tive tools ex­ist to com­bat fronting, govern­ment en­force­ment was lack­ing. The courts had not pro­nounced on the govern­ment’s du­ties re­gard­ing fronting prac­tices un­til this came un­der scrutiny in the re­cent Con­sti­tu­tional Court case of Vik­ing Pony Africa Pumps (Pty) Ltd v HidroTech Sys­tems (Pty) Ltd and An­other 2011 (2) BCLR 207(CC).

The case arose as a re­sult of com­plaints made to the mu­nic­i­pal­ity about al­leged fronting prac­tices by Vik­ing Pony. It was al­leged that the his­tor­i­cally dis­ad­van­taged share­hold­ers in Vik­ing were not re­mu­ner­ated or al­lowed par­tic­i­pa­tion in the af­fairs of Vik­ing to the de­gree com­men­su­rate with their share­hold­ings and the se­nior­ity of their po­si­tions. Ad­di­tion­ally, Hidro-Tech be­lieved that Vik­ing was guilty of rout­ing to its wholly white-owned sis­ter com­pany, Bunker Hills Pumps, the ben­e­fits re­ceived from ten­ders awarded to it.

The High Court found that an in­ves­ti­ga­tion into the com­plaints made by Hidro-Tech was in­ad­e­quate as the real is­sues, be­ing the in­ner work­ings of Vik­ing and the true rep­re­sen­ta­tion of the pre­vi­ously dis­ad­van­taged share­hold­ers, were not ad­dressed.

Fur­ther, Vik­ing was found to be guilty of fraud­u­lent mis­rep­re­sen­ta­tion and the mu­nic­i­pal­ity was or­dered to “act against” it in terms of the reg­u­la­tion 15 of the Pref­er­en­tial Pro­cure­ment Reg­u­la­tions. Reg­u­la­tion 15 pro­vides that an or­gan of state must act against a per­son who was awarded a con­tract on a fraud­u­lent ba­sis.

On ap­peal to the Con­sti­tu­tional Court, Judge Mo­go­eng held that one of the main is­sues for de­ter­mi­na­tion was the mean­ing of “de­tect” and “act against” in reg­u­la­tion 15. “De­tect” for the pur­poses of reg­u­la­tion 15 was in­ter­preted broadly by the court and in essence means no more than hav­ing rea­son to be­lieve that fraud­u­lent con­duct oc­curred. It was not nec­es­sary for Hidro-Tech to have con­clu­sive ev­i­dence against Vik­ing: a rea­son­able sus­pi­cion was suf­fi­cient to trig­ger the pro­vi­sions of reg­u­la­tion 15.

Re­gard­ing to “act against”, the court held that this is broad enough to in­clude the or­gan of state launch­ing an ap­pro­pri­ate in­ves­ti­ga­tion into the al­leged fraud­u­lent con­duct. In ef­fect, this cre­ates an obli­ga­tion on the or­gan of state that re­ceives com­plaints about al­leged fronting to in­ves­ti­gate the con­duct and to act ac­cord­ingly.

The judg­ment not only sounds a warn­ing to govern­ment en­ti­ties to take ac­tion when fronting is sus­pected, it also makes it clear to pri­vate en­ti­ties that the leg­isla­tive tools cre­ated to com­bat fronting will now more read­ily be en­forced.

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