Erasibo Consulting

Whether you are considering buying a business for a few thousand rand or for a few million rand or whether you are considering starting up a business, a due diligence exercise will prove most useful in providing you with a degree of peace of mind prior to putting pen to paper on the business agreement.

I want to stress that regardless of the size of the deal and regardless of who the parties to the deal are, make sure you undertake a due diligence. I will always advocate for the most thorough due diligence you can afford, this is money, time and effort you should spend in order to save you money, time and effort later. Also remember, you often get the value of service you pay for, so don’t cut corners.

In researching this article I have been staggered to see how little information is readily available on public platforms on the subject of due diligence. What is available is very pricey and usually only talks to high level issues. This is worrying considering how vital a due diligence exercise is, especially to the first time business owner.

What is Due Diligence?

For the purposes of this article, Due Diligence should be understood as an exercise to be undertaken as part of the purchase of a new business. Simply put, due diligence is an investigation into a business with the purpose of proving to the initiator of the due diligence (typically the buyer) whether the facts offered up by the other party to the deal (typically the seller) are in fact a true reflection of the business.

Who should do the Due Diligence?

In order to do a due diligence well you will need two key role players:

1. Professional Assistance: Due Diligence’s exercises are technical in nature and if you have the funds available make use of a professional firm that has done these types of exercises before. Apart from all the certificates and client references that you will get from the firm you hire, check to see if any of the people who will work on your due diligence have ever run businesses before – you cannot under estimate the value of experience.
2. You: Your personal involvement in the due diligence process is vital. The professionals you bring on board work for you, but will not always understand, amongst other issues, precisely what your vision is for the business, what your appetite is for risk is and how you would deal with problems that will be encountered.

I would encourage a more hands on, engagement with your team so that at the end of the day you are getting a due diligence report that will allow you to take an effective decision. You don’t just want a report that says, “Yes do it” or “No don’t do it”. A due diligence is not simply a synopsis on the business you want to acquire or startup. In fact your due diligence report (which will be a detailed report on all aspects of the investigation) can serve as a great tool for guiding your future business plans and strategies for the business should you acquire it.
Some finance houses and banks will offer to do a due diligence for you. Be wary of this service; be wary of any due diligence exercise where the companies doing the exercise for you will profit from your deal outside of the fee you pay for the due diligence.

A Due Diligence Model

Non-Disclosure Agreement

The due diligence exercises should always start with a Non Disclosure Agreement (NDA). Characteristics of the NDA that you should be aware of are:

• The NDA is to be signed between yourself and the seller.
• This agreement essentially protects both parties from the having their confidential business information made public.
• A confidentiality period must be specified. Please remember that the confidentially clause does not apply to illegal activity.
• The NDA should talk to you requiring a Due Diligence and it should specify the high level areas that the Due Diligence will cover. The seller must agree to this. If the seller does not agree to this, walk away.

Due Diligence Areas

A good due diligence exercise will cover the following nine areas1. In addition you (or your team) will need to acquire from the seller the following documents for your due diligence exercise. These documents should be made available to you quickly as the seller should already have these available. If the seller is unable or unwilling to provide this information this would be a cause for serious concern. The fundamentals of running a good business are record keeping.

: *please note the Due Diligence Item column is not exhaustive*

Due Diligence Area	Due Diligence Item	Documents Required
Financial Performance of business	Current years profit/loss? Previous years profit/loss? Current years revenue? Previous year revenue? Current year gross margin Previous year gross margin? 3-year revenue growth trend? Industry average growth trend? Profitability and margin comparison versus the industry? How does revenue growth compare to inflation? Does the company have pricing power? Why or why not?	Current annual business plan 5 years of audited financial statements 3 years tax returns (tax clearances for 3 years) 36 months of bank account history
Brand value	Can the brand be leveraged to enter new markets? Can the brand be leveraged to resist economic downturns? Is there a formal process, institution to product the brands value? Can the brand be marketed globally?	Patents Trademarks Copyrights Trade secrets
Business condition	What is the current cost of entry into the industry? Is this cost rising or falling, and why? Does the need for expensive fixed assets or other large capital expenditures limit our ability to compete? Are inventory and equipment a large part of value? If the business is service oriented, can it hold on to key talent? Why or why not? Is there a strong culture?	Articles of incorporation Amendments to articles Bylaws Office leases Other facilities leases Equipment leases Agreements with suppliers and vendors Selling agreements Special customer agreements
Prospects for the future	What is the industry outlook? Are the products or services differentiating enough? Will the products or services soon be outmoded? If applicable, is the research and development program adequately funded? Is international competition emerging, or is it a current factor within the industry? What is the company’s reliance on the overall economic conditions?
Competitive environment	How many direct and indirect competitors are there? What is the company’s relative standing against its direct competition? Are there specific costs, processes, or technologies that limit competitive entry into the market?	Available competitor information List of major customers List of major suppliers and vendors List of strategic partners and alliances
Human capital	Do the company’s products or services require special skills, education, or licensing? Is the work desirable within the job community? Are the environment and the culture considered suitable to the job community? How does the compensation rank versus industry averages? Is there a human resources strategy that promotes employee development? Are basic human resource compliance requirements met? If not, do the exceptions pose material legal risk?	Limited Liability Workers’ compensation Life insurance on key personnel Medical Aid Coverage – Documentation of recent claims Personal information about key employees to use for performing background or credit checks
Quality of assets	Real estate: Are the location and the facilities suitable for the business? Real estate: What is the underlying land value and quality of the title? Machinery and equipment: What is the degree of obsolescence? Machinery and equipment: What are the costs for repairs? What are the costs for deferred purchases?
Structure of purchase transaction	Will the purchase of the company be highly leveraged? What liabilities need to be assumed? Is the company safely capitalized in its current condition? How do cash flow ratios stack up against the industry and competitors?
Other risks	Is the labor unionized? Would critical staff remain if the company were sold? What is the general health of key personnel? Criminal Records of key staff. Are heavy government regulations prevalent in the industry, or is there potential for such regulation? Are customer accounts diversified, or are there a few large accounts upon which revenues are dependent? Are operations unusually susceptible to weather, political events, or other generally uncontrollable events? Is there any affiliation to organized crime? Can the business produce valid tax clearance certificates?

Due diligence is your safety belt, often you only realize that you need it, when the deal has gone sour and your business is in crisis. Do not make that mistake and overlook this process.

The entire transcript of tonights speech:

State of the Nation Address by His Excellency JG Zuma, President of the Republic of South Africa; Joint Sitting of Parliament, Cape Town

11 February 2010

Honourable Speaker;
Chairperson of the National Council of Provinces;
Deputy Speaker of the National Assembly and Deputy Chairperson of the NCOP;
Deputy President of the Republic, Honourable Kgalema Motlanthe;
Honourable Chief Justice of the Republic of South Africa and all esteemed members of the Judiciary;
Isithwalandwe President Nelson Rolihlahla Mandela;
Former President FW de Klerk;
Our father, Former President Kenneth Kaunda of Zambia;
Former Deputy Presidents;
Distinguished Premiers and Speakers of our Provinces;
Chairperson of SALGA and all local government leadership;
Chairperson of the National House of Traditional Leaders;
Heads of Chapter 9 Institutions;
The Governor of the Reserve Bank;
Special international Guests especially the Chairperson of the African Union Commission, Mr Jean Ping;
Former political prisoners and veterans;
Members of the diplomatic corps;
South African and foreign media;
Fellow South Africans,

Dumelang, molweni, goeie naand, good evening, sanibonani nonke emakhaya!

Siyavuya ukuba nani ngobubusuku bubaluleke kangaka.

I stand before you this evening, 20 years since President Nelson Rolihlahla Mandela walked out of prison.

We have chosen this as the day to call this Joint Sitting of Parliament to deliver the State of the Nation Address, to celebrate a watershed moment that changed our country.

The release of Madiba was brought about by the resolute struggles of the South African people.

You will recall that the masses of this country, in their different formations, responded with determination to the call to make the country ungovernable and apartheid unworkable.

We are celebrating this day with former political prisoners who we have specially invited to join us.

We welcome in particular those who have travelled from abroad to be here, Helene Pastoors, Michael Dingake from Botswana, Mr Andimba Toivo ya Toivo of SWAPO in Namibia.

We are pleased to be joined by members of the legal team in the Rivonia Treason trial – Lord Joel Joffe, who is now based in London and Judge Arthur Chaskalson.

We also remember and pay tribute to Mr Harry Schwarz, who sadly passed away last week.

He was amongst other things, a member of the Rivonia defence team.

We extend our gratitude to our friends and comrades in the international community, for fighting side by side with us to achieve freedom.

We extend a special welcome to the Mandela family.

They became a symbol of the sacrifices of many who bore the brunt of apartheid.

We greet the leadership of the ruling party and Alliance partners, for whom this is an extra special occasion.

Compatriots and friends,

On this special day, we must also acknowledge the contribution of those within the leadership of the National Party, who eventually realised that apartheid had no future.

Allow me to mention the role played by former President PW Botha.

It was he who initiated the discussion about the possible release of political prisoners.

President Botha worked with the former Minister of Justice, Mr Kobie Coetzee, who was in turn assisted by Dr Neil Barnard and Mr Mike Louw.

They played a significant role in the process leading to the release of Madiba.

Honourable Members,

South Africa is yet to acknowledge in full, the critical role played by the former President of the ANC, Comrade Oliver Tambo, who laid the foundation for this country to become a shining example of freedom and democracy.

It was his outstanding leadership, foresight and clarity of vision that led the ANC to intensify the pursuit of a negotiated settlement.

His wisdom was also displayed in the Harare Declaration which he wrote and championed.

It was this that laid the groundwork for the historic announcements by President FW de Klerk, 20 years ago.

In this, President de Klerk demonstrated great courage and decisive leadership.

On this great day, let me also acknowledge the role played by the late Ms Helen Suzman.

She was for a long time, a lone voice in Parliament, calling for change.

We also recognise the role of the leader of the Inkatha Freedom Party, Inkosi Mangosuthu Buthelezi, who also called for Madiba’s release, as well as that of other prisoners and the return of exiles.

We reiterate our heartfelt gratitude to the international community for its unwavering support to our struggle.

These moments in our history demonstrate our ability to come together, even under the most difficult of circumstances, and to put the country’s interests first above all other interests.

Deur saam te werk, kan ons meer bereik.

Honourable members,

During the course of this year, we will mark the centenary of the establishment of the Union of South Africa.

This created a unitary state.

Significantly, the exclusion of black people from this Union was one of the chief reasons for the formation of the African National Congress in 1912.

As we mark this centenary later in the year, we should reflect on how far we have travelled as a country.

Honourable Members,

We recall the words of Madiba on his release, when he said:

“I stand before you, not as a prophet but as a humble servant of you, the people.

Your tireless and heroic sacrifices have made it possible for me to be here today.

I therefore place the remaining years of my life in your hands.”

These words inspire us not to rest, until we achieve the ideals of a society free of poverty and deprivation.

In the two decades since the release of Madiba, our country has changed fundamentally.

President Mandela united this country behind the goal of a non-sexist, non-racial, democratic and prosperous South Africa.

As we celebrate Madiba’s release today, let us recommit ourselves to building a better future for all South Africans, black and white.

Let us pursue the ideal for which Madiba has fought his entire life – the ideal of a democratic and free society, in which all persons live together in harmony and with equal opportunities.

Honourable Members,

We called a joint sitting in the evening so that the majority in our country, workers and school children, can be part of the occasion.

We are impressed by the enthusiasm of the youth about the occasion.

Two hundred and sixty six children from all provinces participated in the pre-State of the Nation debate on the role of the youth in the fight against poverty.

We congratulate the overall winner, Charlotte Le Fleur of Worcester Secondary School and all the participants for the hard work.

Compatriots and friends,

We are meeting against the backdrop of a global economic crisis.

Last year, we experienced our first recession in 17 years.

The crisis cost our economy about 900 000 jobs.

Many of those who lost their jobs were the breadwinners in poor families.

In February last year, government, business, labour and community representatives agreed on a package of measures to reduce the scale and impact of the crisis.

We have put many of these measures in place.

We have implemented decisive anti-recession spending by government, especially on infrastructure.

To ensure a safety cushion for the poor, we brought social grant increases forward, and extended the child support grant to children over 14 years of age.

In the next three years, an additional two million children from poor households, aged 15 to 18 years, will benefit from the child support grant.

The Industrial Development Corporation has put aside R6 billion to help companies in distress.

Government introduced a “training lay-off scheme” to allow workers the option of a period of training instead of retrenchment.

These efforts were enhanced by our public works programme.

The nation will recall that during the 2009 State of the Nation Address, I announced that the Expanded Public Works Programme would create 500 000 work opportunities, by December 2009.

Let me reiterate that these are not jobs in the mainstream economy.

These are job opportunities created to provide unemployed people with an income, work experience, and training opportunities.

Honourable Members, Fellow South Africans,

We are pleased to announce that by the end of December, we had created more than 480 000 public works job opportunities, which is 97% of the target we had set.

The jobs are in areas like construction, home and community based care, and environmental projects.

We have identified some areas of improvement which we will effect going forward, including ensuring more labour intensive projects.

We know that these and other measures cannot fully mitigate the effects of the recession.

We are grateful for the spirit of family, community and voluntary work that inspires many people to help those most affected by the crisis, through these difficult times.

Honourable Members,

Economic indicators suggest that we are now turning the corner.

Economic activity is rising in South Africa, and we expect growth going forward.

The labour statistics released on Tuesday, show that the economy is now creating jobs rather than shedding them.

It is too soon, though, to be certain of the pace of recovery.

Government will therefore not withdraw its support measures.

Now is the time to lay the groundwork for stronger growth going forward, and for growth that gives rise to more jobs.

Our long-term infrastructure programme will help us grow faster.

Our education and skills programmes will increase our productivity and competitiveness.

Our Industrial Policy Action Plan and our new focus on green jobs, will build stronger and more labour absorbing industries.

Our rural development programme will improve rural productivity, and the lives of people living in rural areas.

Underpinning our strategy for economic recovery and growth, is our capital investment programme.

Over the next three years government will spend R846 billion on public infrastructure.

On transport, we will maintain and expand our road network.

We will ensure that our rail network is reliable, competitive and better integrated with our sea ports.

To ensure reliable power supply, we have established an Inter-Ministerial Committee on Energy, to develop a 20 year integrated resource plan.

Among other things, this will look at the participation of independent power producers, and protecting the poor from rising electricity prices.

We will establish an independent system operator, separate from Eskom Holdings.

Eskom will continue to build additional generation capacity and improve the maintenance of its power stations.

To ensure the promotion of an inclusive economy, to aid growth and development, we have established the Broad-Based Black Economic Empowerment Advisory Council, chaired by the President.

The most urgent focus of policy change must be interventions to create jobs for young people.

Unemployment rates for young people are substantially higher than the average.

Proposals will be tabled to subsidise the cost of hiring younger workers, to encourage firms to take on inexperienced staff.

A further expansion of public employment programmes is also underway.

This includes local infrastructure and literacy projects, home-based care, school maintenance and early childhood development initiatives.

Last year we launched the National Youth Development Agency.

We have directed the Agency to work faster to establish its structures, throughout the country, so that it can assist us to mainstream youth development programmes within government.

Honourable Members,

When this administration came into office last year, we undertook to work harder to build a strong developmental state.

We said it would be a state that responds to the needs and aspirations of the people, and which performs better and faster.

This year, 2010, shall be a year of action.

The defining feature of this administration will be that it knows where people live, understands their needs, and responds faster.

Government must work faster, harder and smarter.

We will expect the executive and the public service to comply with this vision.

We are building a performance-oriented state, by improving planning as well as performance monitoring and evaluation.

We also need to integrate gender equity measures into the government’s programme of action.

This action will ensure that women, children and persons with disabilities can access developmental opportunities.

We are pleased to announce a new way of doing things in government.

The work of Departments will be measured by outcomes, developed through our performance monitoring and evaluation system.

The Ministers who are responsible for a particular outcome, will sign a detailed Delivery Agreement with the President.

It will outline what is to be done, how, by whom, within what time period and using what measurements and resources.

As you are aware, we are committed to five priorities:
education, health, rural development and land reform, creating decent work, and fighting crime.

In addition, we will work to improve the effectiveness of local government, infrastructure development and human settlements.

We will undertake a number of key activities towards the achievement of these outcomes.

We have placed education and skills development at the centre of this government’s policies.

In our 2010 programme, we want to improve the ability of our children to read, write and count in the foundation years.

Unless we do this, we will not improve the quality of education.

Our education targets are simple but critical.

We want learners and teachers to be in school, in class, on time, learning and teaching for seven hours a day.

We will assist teachers by providing detailed daily lesson plans.

To students we will provide easy-to-use workbooks in all 11 languages.

From this year onwards, all grade 3, 6 and 9 students will write literacy and numeracy tests that are independently moderated.

We aim to increase the pass rate for these tests from the current average of between 35 and 40% to at least 60% by 2014.

Results will be sent to parents to track progress.

In addition, each of our 27 000 schools will be assessed by officials from the Department of Basic Education.

This will be recorded in an auditable written report.

We aim to increase the number of matric students who are eligible for university admission to 175 000 a year by 2014.

We urge parents to cooperate with us in making this a success.

We welcome last month’s statement by the three teacher unions, NAPTOSA, SADTU and SAOU, reaffirming their commitment to the Quality Learning and Teaching Campaign from the beginning of 2010.

Honourable Members,

We need to invest in our youth to ensure a skilled and capable workforce to support growth and job creation.

We therefore plan to increase the training of 16-25 year olds in further education and training facilities.

This will enable us to provide a second chance at education, for those who do not qualify for university.

We are working with higher education institutions to ensure that eligible students obtain financial assistance, through the National Student Financial Aid Scheme.

We have also set ambitious targets for skills development, to produce additional engineers and technicians, and to increase the number of qualified mathematics and science teachers.

We must also increase the number of youth who enter learnerships in the private and public sectors.

Honourable members,

Another key outcome is to ensure a long and healthy life for all South Africans.

We will continue to improve our health care system.

This includes building and upgrading hospitals and clinics, and further improving the working conditions of health care workers.

We have partnered with the Development Bank of Southern Africa to improve the functionality of public hospitals and their district offices.

We are also collaborating with the DBSA and the Industrial Development Corporation, in a Public-Private Partnership programme to improve hospitals and provide finance for projects.

Honourable Members,

We must confront the fact that life expectancy at birth, has dropped from 60 years in 1994 to just below 50 years today.

We are therefore making interventions to lower maternal mortality rates, to reduce new HIV infections and to effectively treat HIV and tuberculosis.

We will also reduce infant mortality through a massive immunisation programme.

We will reinstate health programmes in schools.

We will implement all the undertakings made on World Aids Day relating to new HIV prevention and treatment measures.

Intensive work is underway to ensure that this work is on schedule.

We will also continue preparations for the establishment of a national health insurance system.

Fellow South Africans,

We are working hard to ensure that everyone in South Africa feels safe and is safe.

We will take further our work to reduce serious and violent crimes, and ensure that the justice system works efficiently.

We are implementing plans to increase the number of police men and women by 10% over the next three years.

We have identified the fight against hijacking, business and house robberies, as well as contact crimes such as murder, rape, and assault, as top priorities.

We all have a role to play.

Let us participate in community safety forums.

Let us stop buying stolen goods.

Let us always be ready to provide the police with information about criminal activity.

Tshebedisano mmoho etla lwantsha botloko-tsebe.

Compatriots and esteemed guests,

Local government must work.

Municipalities must improve the provision of housing, water, sanitation, electricity, waste management and roads.

We held a meeting with mayors and municipal managers last year.

This provided valuable insight into the challenges in local government.

We also visited various communities and municipalities, including Balfour in Mpumalanga and Thembisa in Gauteng.

After the Balfour visit, we sent a nine member Ministerial team to visit the area to address the issues that had been raised by the community.

A number of issues have already received attention.

I have directed the Ministers to attend to the outstanding matters.

We reiterate, that there are no grievances that can justify violence and the destruction of property.

We have directed law enforcement agencies to take a tougher stance on lawlessness in Balfour and other areas.

In December 2009, Cabinet approved a turnaround strategy for local government.

This will ensure that local government has the correct management, administrative and technical skills.

During this year of action, let us work together to make local government everybody’s business.

We are working to upgrade well-located informal settlements and provide proper service and land tenure to at least 500 000 households by 2014.

We plan to set aside over 6 000 hectares of well-located public land for low income and affordable housing.

A key new initiative will be to accommodate people whose salaries are too high to get government subsidies, but who earn too little to qualify for a normal bank mortgage.

We will set up a guarantee fund of R1 billion to incentivise the private banking and housing sector, to develop new products to meet this housing demand.

Bakwethu,

Ngonyaka odlule sathi, abantu basemakhaya nabo banelungelo lokuba nogesi, amanzi, izindlu zangasese ezigijima amanzi nemigwaqo.

Sathi kufanele babe nezindawo zezemidlalo kanye nezindawo zokuthenga ezinkulukazi eziphucuzekile njengasemadolobheni.

In this regard, we launched the first pilot site of the Comprehensive Rural Development Programme in Giyani, Limpopo in August last year.

Since then, 231 houses have been built.

Progress has also been made in providing infrastructure to support agricultural development, and training for community members.

Access to health and education facilities has improved.

We are implementing similar programmes in seven sites across the country, benefiting 21 wards.

By 2014, we aim to have sites in 160 wards.

We want 60% of households in these sites to meet their food requirements from own production by 2014.

Kancane kancane kuze kulunge, phela bakwethu, kuthiwa nempandla iqala ngenhlonhlo.

We also need to better integrate land reform and agricultural support programmes.

Our success in this area will be measured by the increase in the number of small scale farmers that become economically viable.

Honourable Speaker and Chairperson of the NCOP,

We are not a water rich country.

Yet we still lose a lot of water through leaking pipes and inadequate infrastructure.

We will be putting in place measures to reduce our water loss by half by 2014.

Honourable Members,

As part of our efforts to encourage greater economic growth, we are working to reduce the cost to communicate.

The South African public can look forward to an even further reduction of broadband, cell phone, landline and public phone rates.

We will work to increase broadband speed and ensure a high standard of internet service, in line with international norms.

Fellow South Africans,

This government will ensure that our environmental assets and natural resources are well protected, and are continually enhanced.

Together with Brazil, India and China, and joined by the United States which represented the developed world, we made a significant contribution to the accord adopted at the Copenhagen Climate Change Summit in December last year.

Although it does not go as far as required, it is an important step forward as it commits all countries to respond to climate change.

We will work hard with our international counterparts towards a legally binding treaty.

As South Africa we have voluntarily committed ourselves to specific emission reduction targets, and will continue working on our long term climate change mitigation strategy.

Honourable Members,

We will intensify efforts to promote the interests of South Africa globally.

We will support efforts to speed up the political and economic integration of the SADC region, and promote intra-regional trade and investment.

South Africa continues to play a leading role in continental efforts to strengthen the African Union and its organs, and to work for unity.

We will focus energy on revitalising the New Partnership for Africa’s Development, as a strategy for economic development on the continent.

Fellow South Africans,

The public service has to respond to the call to make this term one of faster action and improved State performance.

We require excellence and hard work.

We need public servants who are dedicated, capable and who care for the needs of citizens.

Government is already working on the development and implementation of a public service development programme, which will set the norms and standards for public servants in all spheres.

Honourable Members,

We continue our efforts to eradicate corruption and fraud in procurement and tender processes, and in applications for drivers’ licences, social grants, and identity documents, among others.

We are pleased with the progress government is making in some areas.

This week, we terminated 32 687 fraudulent social grants payments, valued at R180 million.

Our Inter-Ministerial Committee on Corruption is looking at ways to decisively defeat corruption.

Nga u shumisana rothe ringa bveledza zwinzhi.

Compatriots,

As you are aware, we introduced the Presidential Hotline to make government and the Presidency more accessible to the public, and to help unblock service delivery blockages.

The Hotline represents our determination to do things differently in government.

It has made a difference in the lives of many South Africans.

We can mention Mrs Buziwe Ngaleka of Mount Frere, whose call about her late husband’s pension was the first we took on the first day of the service.

She is with us here tonight.

We also have among us Mr Nkululeko Cele, who was helped to obtain identity documents which allowed him to enroll at Tshwane University of Technology.

These are just two among many success stories.

From these and other examples, we identify weaknesses that should be rectified by various spheres of government.

Through the Speaker, we have invited a multiparty delegation from Parliament to visit the call centre, so that MPs can get a first hand account of the work done.

Compatriots and friends,

I have outlined the main elements of our plans for 2010, our collective commitment as government to the people of South Africa.

The State of the Nation Address provides a broad overview of our action plan.

Ministers will provide the detail in their respective Budget Vote speeches.

Honourable Members, Fellow South Africans,

In November this year, we will mark the 150th anniversary of the arrival of Indians in South Africa.

It provides an opportunity to recognise the important contribution of the Indian community in the fields of labour, business, science, sports, religion, arts, culture and the achievement and consolidation of our democracy.

Compatriots and friends,

Let me take this opportunity to once again extend our heartfelt condolences to the government and people of Haiti on the monumental tragedy that has befallen them.

We are pleased that our rescue teams were able to go and assist.

I would like to especially recognise one South African who never fails to assist in times of disasters, and helps us to promote the vision of a caring society.

We welcome Dr Imtiaz Sooliman of the Gift of the Givers in this House.

Ladies and Gentlemen,
Fellow South Africans,

The hosting of the FIFA World Cup makes 2010 truly a year of action.

We have spent many years planning for this World Cup.

We only have three months to go.

And we are determined to make a success of it.

The infrastructure, security and logistics arrangements are in place to ensure a successful tournament.

As a nation we owe a debt of gratitude to the 2010 Local Organising Committee for their sterling effort.

We wish the LOC Chairperson Irvin Khoza, CEO Danny Jordaan and Bafana Bafana coach Carlos Alberto Parreira all the best for the months ahead.

President Mandela was central in assisting the country to win the rights to host this great event.

We therefore have to make the World Cup a huge success in his honour.

Compatriots, let us also stand behind the national team Bafana Bafana.

Most importantly, ithikithi esandleni bakwethu!

Let us all buy tickets timeously to be able to attend the games.

Fellow South Africans,

As we celebrate Madiba’s release today, we recommit ourselves to reconciliation, national unity, non-racialism and building a better future together as South Africans, black and white.

We are guided by what Madiba said in the dock, that:

“During my lifetime I have dedicated myself to this struggle of the African people.

I have fought against white domination, and I have fought against black domination.

I have cherished the ideal of a democratic and free society, in which all persons live together in harmony, and with equal opportunities.

It is an ideal which I hope to live for, and to achieve.

But if needs be, it is an ideal for which I am prepared to die”.

Inspired by our icon Madiba, it is my honour to dedicate this 2010 State of the Nation Address, to all our heroes and heroines, sung and unsung, known and unknown.

Let us work together to make this year of action a successful one for our country.

I thank you.

This is a new research report on income trends in South Africa.

This report presents a detailed analysis of changes in both poverty and inequality since the fall of Apartheid, and the potential drivers of such developments. Use is made of national survey data from 1993, 2000 and 2008. These data show that South Africa’s high aggregate level of income inequality increased between 1993 and 2008. The same is true of inequality within each of South Africa’s four major racial groups. Income poverty has fallen slightly in the aggregate but it persists at acute levels for the African and Coloured racial groups. Poverty in urban areas has increased. There have been continual improvements in non-monetary well-being (for example, access to piped water, electricity and formal housing) over the entire post-Apartheid period up to 2008.

From a policy point of view it is important to flag the fact that intra-African inequality and poverty trends increasingly dominate aggregate inequality and poverty in South Africa. Race-based redistribution may become less effective over time relative to policies addressing increasing inequality within each racial group and especially within the African group. Rising inequality within the labour market – due both to rising unemployment and rising earnings inequality – lies behind rising levels of aggregate inequality. These labour market trends have prevented the labour market from playing a positive role in poverty alleviation. Social assistance grants (mainly the child support grant, the disability grant and the old-age pension) alter the levels of inequality only marginally but have been crucial in reducing poverty among the poorest households. There are still a large number of families that are ineligible for grants because of the lack of appropriate documents. This suggests that there is an important role for the Department of Home Affairs in easing the process of vital registration.

This report presents a detailed analysis of changes in both poverty and inequality since the fall ofApartheid, and the potential drivers of such developments. Use is made of national survey data from 1993,2000 and 2008. These data show that South Africa’s high aggregate level of income inequality increasedbetween 1993 and 2008. The same is true of inequality within each of South Africa’s four major racialgroups. Income poverty has fallen slightly in the aggregate but it persists at acute levels for the African andColoured racial groups. Poverty in urban areas has increased. There have been continual improvements innon-monetary well-being (for example, access to piped water, electricity and formal housing) over theentire post-Apartheid period up to 2008.2. From a policy point of view it is important to flag the fact that intra-African inequality andpoverty trends increasingly dominate aggregate inequality and poverty in South Africa. Race-basedredistribution may become less effective over time relative to policies addressing increasing inequalitywithin each racial group and especially within the African group. Rising inequality within the labourmarket – due both to rising unemployment and rising earnings inequality – lies behind rising levels ofaggregate inequality. These labour market trends have prevented the labour market from playing a positiverole in poverty alleviation. Social assistance grants (mainly the child support grant, the disability grant andthe old-age pension) alter the levels of inequality only marginally but have been crucial in reducingpoverty among the poorest households. There are still a large number of families that are ineligible forgrants because of the lack of appropriate documents. This suggests that there is an important role for theDepartment of Home Affairs in easing the process of vital registration.

Trends in SA Income Distribution

Cross reference this study against this presentation for more depth.

Another excellent TED presentation. This time the presentation is by author and activist Shashi Tharoor is a member of Parliament and the Indian minister of state for external affairs.

India is fast becoming a superpower, says Shashi Tharoor — not just through trade and politics, but through “soft” power, its ability to share its culture with the world through food, music, technology, Bollywood. He argues that in the long run it’s not the size of the army that matters as much as a country’s ability to influence the world’s hearts and minds.

On the 2nd December 2009 the South African cabinet approved the Local Government Turnaround strategy. A copy can be downloaded from here.

The strategy states that the root cause of much of the failure in municipalities is because of:

• Inappropriate national and provincial government policies, practices and onerous requirements;
• Socio-economic conditions prevailing in many municipalities that are not been adequately addressed through macro, micro-economic and industrial policies and plans of the State;
• Political parties that are undermining the integrity and functioning of municipal councils through intra and inter-party conflicts and inappropriate interference in councils and administration;
• A breakdown of values at a societal level that is breeding unethical behaviour, corruption, culture of non-payment, and lack of accountability;
• Communities that are engaging in destructive forms of protest including withholding of payment for local taxes and services;
• Those municipalities that are not geared for delivering basic services and are not responsive and accountable enough to residents; including to failure to involve communities in their own development;
• Absence of communications resources (people, technology, equipment processes) and no accountability for how and when municipalities communicate to communities

For the most part the strategy is impressive. However (unfortunately this is a common gap with public sector strategy documents ), there is zero allowance for the possibility that this turnaround may not meet the deadlines or intentions it sets.

The local government sphere is not homogenous, the department (Cooperative Governance and Traditional Affairs) is going to need to be aggressive about the implementation of this turnaround strategy.

This is the presentation delivered by Prof Haroon Bhorat at Parliament earlier this month (should have put it up earlier), he and his collegeaues used the 1995 and 2005 Income and Expenditure Survey reports to give an overview of inequality and poverty over the past ten years in South Africa.

Their research shows that:

• Inequality in South Africa increased in the period 1995-2005.
• Absolute levels of inequality remained high and race as well as gender was still critically associated with poverty.
• Income inequality was rising and was very high by international standards and income inequality between African and white people were driving the overall inequality.
• Since 1995 a disproportionate share of economic growth has gone to the top of the income band and social transfer programmes were a key source of rising incomes at the bottom end of the income band.
• South Africa was entrenching its reputation as a very unequal society.
• Social grant transfer programmes were a key source of rising incomes at the bottom end of the income band
• The international trend showed a declining share of national income across a number of countries.

The question raised by Minister Ebrahim Patel (Minister for Economic Development) was whether the country was seeing market outcomes based on economic activities over the last couple of years, regarding rising inequality, with state interventions that partially mitigated the effect on inequality.

This study when compared against the rest of the data coming out of government’s review of its performance shows us the magnitude of the challenge still facing the country.

This is a very frank speech given by Deputy Minister of Cooperative Governance and Traditional Affairs (COGTA), Yunus Carrim on the occasion of Institute of Municipal Finance Officers (IMFO) Conference, Johannesburg the 6th October 2009.

This speech shows the seriousness with which COGTA is tackling the failings at the municipal level. The national department has been over hauled rapidly and are geared to being more hands on in striving to improve delivery – on the departments biggest problems in its previous incarnation as DPLG is that it was disassociated from what was going on, on the ground in municipalities. and communities .

COGTA’s success is critical in ensuring that a) a coherent 360 degree vision of service delivery is developed – developmental planning is still a fractured practice – and b) that the right systems and people are motivated to support that vision.

Addressing financial challenges in municipalities in the context of the review of the local government model

Allow me, in the first place, to say how pleased and honoured I am to be here. I convey too the heartfelt good wishes of Minister Sicelo Shiceka who, as much as he was keen to attend, simply could not be here today. He spoke last Tuesday at the Association of Public Accounts Committees Conference in Cape Town, and I would commend his speech to you, as it is of immediate relevance to the work you do.

On behalf of both of us, I extend our sincerest congratulations to you on your 80th anniversary. I am struck by the value of your theme for this conference ‘Making the Elephant Dance’. And I agree with your President, Mr George van Schalkwyk, when he says in the foreword to the conference programme, “So making the elephant dance is not easy. We will have to do things differently as the current strategies, management practices; environmental governance and work ethic are just not sustainable. We will need to innovate and learn the new tune, the beat and the appropriate steps to better utilise the available resources”.

And I agree too when he says “what really matters is not what Institute of Municipal Finance Officers (IMFO) members put into the profession or what they get out of serving the profession, the real test is what they leave behind when they move on”. And it is around these themes of ‘Making the Elephant Dance’ and on innovation and leaving a legacy that this talk is pegged.

You are indeed, as municipal finance officers, crucial to the success of local government. A lot depends on you. How much, it sometimes seems, you are not aware of. But, believe you me, you are absolutely crucial. And so it is too that we welcome the memorandum of understanding you signed with South African Local Government Association (SALGA) last year and we hope it will be effectively implemented.

It is clear, certainly, that unless we improve financial management and fiscal governance in municipalities we will not be able to significantly improve service delivery and development. There is a very close relationship between improved financial management and fiscal governance, and effective service delivery and development. Indeed, it may well be too that if we improve service delivery and development, we will also in turn, improve financial management of municipalities.

It is clear that the “service delivery protests” that have been breaking out all over the country this year are not just about municipal service delivery. They are about a range of issues affecting all three spheres of government and are better termed “community protests”. But, interestingly, in many cases residents protested about issues relating to financial mismanagement, fraud and corruption at municipal level. In some cases they seemed to have separated these issues from service delivery, but in others they clearly identified these issues as being responsible for the poor service delivery in their areas. Whatever the case, it is clear that financial management and service delivery are closely related.

A review of the cooperative governance model

As you know, our department is facilitating a major review of the cooperative governance system. The respective powers and functions of national, provincial and local government are being reviewed. The review is dictated by practical, not ideological, imperatives. We are 15 years on now. What has been our experience? How has our system of cooperative governance been working? What aspects of the system work and what do not?

Remember that we shaped our current system in a particular context of a negotiated settlement. But are we in the same context as in 1994 to 1996? Are we under the same pressures? Do we need a more objective foundation for our governance system that is based more on our long-term needs and less on the need to strike immediate political compromises? Which features of our cooperative governance system should endure and which are contingent, having been shaped largely to meet the needs of a different context? We need a debate about this! A huge public debate, the debate has barely begun. As key stakeholders, you need to actively participate in this debate.

A major imperative for the review of the cooperative governance system is our need to build a developmental state and ensure far more effective service delivery and development. It is unlikely that the cooperative governance system that is at the heart of our Constitution will be dismantled. It is likely though that the form of our cooperative governance system will change. The particular powers and functions allocated to the three spheres of government may well change. At the very least, they will be fine tuned and clarified. A much more integrated and effective inter-governmental system is likely to be developed that is more consistent with the needs of an atavistic developmental state committed to accelerating service delivery and development.

Local government in distress

It is certainly clear that the current model of local government is not working. We just can’t afford to let local government continue the way it does. We need changes. Among the questions we need to ask are:

* should the boundaries of municipalities without a minimum fiscal base be re-drawn?
* is the two-tier system of district and local municipalities working? Do we need to improve the system or abolish it?
* how do we ensure greater national and provincial government support for local government?
* do we need to more clearly separate the legislative and executive functions of local government as we do in the case of provincial and national government?
* how can we ensure that internally displaced persons (IDPs) are productively linked with provincial and national development plans?
* what would be an effective funding model for local government?
* what would a good financial management and fiscal governance model for municipalities?
* how can we improve public participation in local government, including through ward committees?
* how can we ensure effective capacity building of municipal councillors and officials?

Of course, there are many other crucial questions too. And you must help to shape them. You will be particularly helpful in helping us to deal with the financial challenges. Perhaps you could also help us with a fundamental question: To what extent are the many current financial and financial management challenges in municipalities linked directly to the complex local government model we have? How by changing the model would we be better able to cope with the financial and financial management challenges being faced by municipalities?

In other words, which of the financial and financial management challenges we currently experience at local government level can be addressed by changing the model and which challenges are more general and will persist whatever the model? And in respect of the latter, how do you think we could address these challenges effectively? We need new methods, surely, new ways of dealing with the challenges? As we have failed so far to effectively deal with these challenges.

It’s not, of course, as if we can take major decisions on the local government or cooperative governance system overnight. There will be full and considered discussions with all the key stakeholders, and the public generally will be given full space to have their say. Some of the changes agreed to may be introduced before the 2011 local government election. But most of the changes will probably follow the 2011 elections.

Local government is, however, currently in severe distress. And we have to act more immediately to address the distress. So, the department, together with other key stakeholders, including SALGA, is working on a local turnaround strategy. We have received “state of local government” reports from the provincial departments of local government and are putting together a national report as the basis for a turnaround strategy to be developed at a National Indaba on Local Government from 20 to 22 October which will be addressed by the President.

The turnaround strategy will be implemented in two phases. The first phase will be from January 2010 until the 2011 local government elections. The second phase will be implemented from the 2011 elections onwards. The strategy will evolve and be fine tuned as the features of the new model of local government are shaped through the policy review process.

Some financial challenges

But whatever the model of local government decided on, there are some financial challenges that will have to be addressed and addressed far more effectively than now. It is on these aspects that I will focus on today and not on all of them which you, in any case know more about than me, but on some of them. Aspects of how to address the challenges must, certainly, be inserted into the turnaround strategy.

Most of us know what the financial challenges are. What we don’t know are the answers to them. The “state of local government” reports submitted by the provinces are still being processed. But, so far, what is emerging from them about the financial challenges is largely familiar. Based partly on these reports and what we all know generally the following, very briefly, are some of the financial challenges of municipalities that can be identified:

* There are municipalities that are simply not financially viable. They just do not have a fiscal base. Without grants from the national and provincial government they will wither away. In fact, according to our department, 57 municipalities receive more than 75 percent of their revenue from national transfers. According to our department, a number of local municipalities have indicated that they are 100 percent grant dependent, these include for example; Aganang and Molemole (in Limpopo), Ndwedwe and Maphumulo (in KwaZulu-Natal), and Mamusa and Molopo (in North West).

* To increase the efficiency of service delivery, the intergovernmental system is dependent on the proper co-ordination of policy, budgeting, planning, implementation and reporting between the spheres. Substantial increases have been made to the transfers (both operational and infrastructure) to local government over the last few years in acknowledgement of its increased service delivery responsibilities.

Yet, many municipalities are not in a position to meet their developmental mandate due to an inadequate economic base or high levels of poverty and unemployment. An increasing reliance of municipalities on transfers (equitable share and others) from national government to fund their activities is evident, with government grants at 22.4 percent of total operating revenue in 2007/08 as the second largest source of revenue for municipalities.

“The local government budgets and expenditure review: 2003/04 to 2009/10” indicates that at 42 percent in 2006/07, service charges are the largest source of operating revenue for municipalities. The share of service charges in total operating revenue has however declined from 49 percent in 2003/04 to 42.9 percent in 2009/10 mainly due to the sharp increase in national transfers.

* There is an acute lack of financial management skills, even of the most basic kind. There is a scarcity of professionals with financial skills. But also, in far too many cases the people appointed to financial positions in municipalities do not have the necessary skills. Often they are political appointments; people appointed because of their political leverage, not their technical skills. Even where financially skilled people are appointed, they are not retained; there is too high a turn-over of financial staff.

* There is a lack of internal controls and poor governance. Most of the audit committees in municipalities do not function effectively

* There are ineffective business processes and systems

* There are onerous, complex and costly financial reporting requirements, placing a major administrative burden on municipalities. According to the Financial and Fiscal Commission (FFC) submission for the division of revenue for 2009/10, 225 questionnaires from national organs of state were distributed to municipalities within one year.

Many of them seek similar data. This is not to mention requests from provincial government departments. The analysis of this data is seldom shared with municipalities, says SALGA. Municipalities are also required to conform to generally recognised accounting principles (GRAP) accounting standards by 30 June 2010, irrespective of their fiscal and financial capacity. At 30 June 2008, according to SALGA, at least one third of the municipalities had still to convert to the new standards

* The financial capacity building programmes need to be coordinated and be significantly more effective

* According to the Auditor General’s 2007/08 report, the audit outcomes of the municipalities were as follows:
adverse opinion three percent
disclaimer of opinion 30 percent
qualified 20 percent
unqualified, emphasis of matter items 32 percent
unqualified, no findings one percent
audits outstanding 13 percents.

* Municipalities have poor debt collection records. Municipalities are owed over R53 billion. According to our department, in June last year 85 municipalities had debtor levels higher than 50 percent of their own revenue. Of course, a significant part of this debt to municipalities is owed by government departments and the private sector.

Service charges are the main source of revenue for municipalities, and so challenges experienced with enforcing debt collection and an increase in the age of debts (for example, outstanding debts of more than 90 days) impact hugely on their financial viability. This is compounded by the high number of indigents and the culture of non payment. 43 municipalities reported negative opening cash positions for the third quarter ending 31 March 2009. Of course, many municipalities report losses (both water and electricity) due to illegal connections.

* Many municipalities show a poor ability to accurately plan and spend their budgets. The NT reports, with the preliminary results of the financial year 2008/09, those 35 municipalities over spent their budgets by R2.6 billion while 182 municipalities under spent by R19.1 billion.

* The grants allocated from national government are not coordinated. Last year, according to SALGA, there were about 17 different grants administered and managed by different national sector departments

* In several cases, municipal infrastructure grants and other conditional grants are spent on operational activities

* There are uncertainties about the financial implications of the restructuring of the electricity distribution industry

* Assets are managed badly

* There are high levels of fraud and corruption

* Implementing the Property Rates Act has proved to be far more challenging than expected

* There is undue political interference by both political parties and councillors in the financial management of municipalities, with the lines of division between politicians and administrators being blurred.

Some responses to the financial challenges

These are just some of the challenges. Of course, there are many more. But the point really is what to do about them? And we just cannot anymore afford the luxury of inadequate responses any more. We simply have to get the right answers. Of course, some of the things we have to do will be the same as before, only we will have to do them far more effectively and maybe in new ways. But we also have to think of doing new things.

We have to find new methods, new responses, that are far more effective. You are the experts. We want your help. We want you to be innovative and imaginative, and we want you to come up with effective responses to the many financial challenges municipalities confront. As a department we are, in cooperation with other stakeholders, obviously working on responses. I will deal with some of them here. And also raise other responses that we might want to consider too.

Clearly, there has to be better overall governance in municipalities to ensure better financial management. Changes to the current model of local government will have to provide for more effective governance of municipalities. Aspects of this would, for example, include greater clarity on the respective roles of politicians and administrators in the financial management of municipalities; a clearer separation of the legislative and executive functions of municipalities; and more effective oversight by councillors of executive structures.

A key consideration in the shaping of changes to the current model of local government and the entire cooperative governance system has to be the funding model of local government and the financial management challenges. We need to ensure that changes made provide that local government is able to get the funds necessary to implement its constitutional mandate and manage its finances more effectively.

The financial management model needs to be simplified yet effective. Certain core requirements should apply to all municipalities, but other requirements should differ according to the fiscal and financial capacity of municipalities. There is a need for a reasonable differentiated approach. In this regard, it will be very useful to hear from you what changes you think should be made to the Municipal Finance Management Act and other legislation affecting the financial management of municipalities.

Some of us believe that the Municipal Demarcation Board needs to give serious attention to the re-drawing of the boundaries of municipalities that are not financially viable. We need a new, massive financial training programme for councillors and officials to be developed through the concerted co-operation of all the stakeholders, including IMFO, SALGA, National Treasury, Cooperative Governance and Traditional Affairs, Development Bank of South Africa (DBSA), the private sector, tertiary education institutions

As you probably know, our department, in co-operation with National Treasury, the Auditor General’s office, SALGA and DBSA has launched the Operation Clean Audit programme, 2014. Our aim is to significantly improve financial management and fiscal governance in local and provincial government so that service delivery and development can be improved. I will focus mainly on the municipalities here.

We want to see municipalities produce quality financial statements so that the AG can express accurate opinions on the financial state of municipalities. The campaign also seeks to encourage managers to have a holistic and integrated approach to fiscal management that is linked to constantly improving service delivery, rather than a narrow focus on financial statistics. Sometimes there is too narrow a focus in municipalities on aspects of financial management.

There needs, in our view, to be more focus on asset management, procurement, value for money, cost benefit analysis with regard to projects and on economy, efficiency and effectiveness. It doesn’t help for managers to look at financial statements without looking at the overall constitutional mandate of municipalities to ensure service delivery and development.

Municipalities also have to have functioning and effective audit committees. Audit committees must scrutinise financial statements and risk management reports so that the ability of a municipality to deliver services to people is clearer.

Operation Clean Audit is also directed at ensuring that the key political leaders of municipalities are keenly aware of financial issues and take decisions with financial implications that are sustainable, and they should not be “short-term implicators” and populist. For Operation Clean Audit to work there has to be an effective relationship between the political leaders and administrators in municipalities.

As part of Operation Clean Audit we will be encouraging the provincial government departments to work closer with municipalities. We feel that it is important too that provincial departments and municipalities share information and learn from each other and emulate best practices.

Our aim is that by 2011 municipalities will not have adverse reports or disclaimers from the Auditor General, and by 2014 municipalities will have unqualified audits with no matters of emphasis. We are under no illusions about how challenging these targets are. But we think if we all cooperate properly these targets are attainable. Certainly, we should try to achieve them.

We believe that by doing some very simple things we can improve financial management in municipalities. For example, the filing systems in many municipalities can be improved fairly easily. There are some basic lessons that can be drawn on to improve financial reporting. Together with National Treasury, DBSA and SALGA we are finalising a major capacity building programme to improve financial management at municipal level. We are very keen to hear from you on what you think of this capacity building programme and how you can help. Our department will soon contact you in this regard.

We are also to work closely with National Treasury and DBSA to assist municipalities to find chief financial officers and other financially skilled people. Here again IMFO could help. Please do!

We launched Operation Clean Audit at a major meeting in Johannesburg in July. We have since launched Operation Clean Audit in four provinces and hope to have covered all the provinces by year end. Minister Shiceka led a debate in the National Assembly on Operation Clean Audit, and is to address several parliamentary committees on the programme tomorrow. We want parliament to monitor progress on Operation Clean Audit and hold us to account for it. So it’s clear that we are serious about Operation Clean Audit and we appeal to you for help!

As you know, the Municipal Finance Management Act (MFMA) provides for financial oversight committees in municipalities. And there is also National Treasury circular 32 on oversight. We feel that this oversight must also be undertaken by Municipal Public Accounts Committees (MPACs). However, it is only in Gauteng that municipalities have MPACs in all municipalities. But, in general, they do not seem to be particularly effective. National Treasury is meant to assist with the establishment of MPACs, but municipalities show little interest in them.

Our Minister has now sent letters to all the MECs of Local Government to seek to ensure that MPACs are set up in all municipalities by 15 December. Obviously, this deadline will be difficult to meet, but we believe that reasonably soon MPACs must be set up. We are going to work with National Treasury, Association of Public Accounts Committees (APAC), SALGA and other stakeholders to do this. We are also working on a model for MPACs. Here too you could help.

These MPACs should learn from the experiences of Public Accounts Committees in the provincial legislatures and national parliament. They should examine:

* financial statements of all the executive organs of a municipality.
* audit reports on those statements
* audit reports on municipal entities
* the council’s annual reports
* any other reports with a financial bearing.

The MPACs should also initiate any investigation in areas that fall within their competence.

Clearly, some of the failures in financial management at municipal level result from weaknesses in our cooperative system of government where unhelpful and wasteful “silo mentalities” still persist. For improvements in municipal financial management, both national and provincial government have to support local government more effectively. Both provincial and national government are going to more actively monitor how municipalities manage their finances. We are considering requiring municipalities to present monthly financial reports to the provincial and national departments. We are also thinking of requiring provinces to play a direct role in the management of the municipal infrastructure grant

Our department is acutely aware that there are far too many local government capacity building programmes by too many different organisations with differing orientations. This is costly, wasteful, confusing, and unproductive. And it must come to an end. We need coordination among the capacity building organisations and stakeholders and a clear, consensual and focused approach. Our department is very keen on this and we are engaging with others to get agreement on this, but even more important, united action on this.

Of course, part of the support national and provincial government can offer to local government is simply pay the debt they owe municipalities. The Minister is committed to actively intervening through the cabinet and other structures to ensure that government departments pay the debt they owe to municipalities. Of course, the arrears will not all be paid immediately, but we are determined to see improvements over time.

We are also looking into how we can help municipalities recover the debt owed to them by the private sector. Of course, the recession is biting hard and scores of people are losing their jobs. So the numbers of indigent are increasing and the numbers who can pay their debts to municipalities increasing. But there is still significant scope for municipalities to recover part of their debt from those who can afford to pay and they simply have to do this! We would like to see municipal debt reduced by half by 2014. We also need to consider extracting the arrears owed to municipalities from the salaries of civil servants and public representatives.

At its September National Executive Committee Lekgotla, SALGA considered a report that stressed that municipalities must “improve their overall handling of revenue matters, especially current collections and the management of debtors. If policies on free basic services, indigent and credit control are all correct and in place, and if billing is correct, there is no reason for anyone not to pay what is billed. This is first of all a social and political matter before it is a technical matter, and SALGA calls on all its members to ensure that all revenue collections are greatly improved.” We agree.

Very briefly, among other issues that need to be considered to improve the financial position of municipalities are the following:

* The Division of Revenue Act has to be reviewed to ensure a more equitable and differentiated support to municipalities. The formula for the equitable share also has to be reviewed, partly to ensure that it is more redistributive and provides more support to financially weaker municipalities

* There needs to be a review of all grants to local government to ensure co-ordination of the grants and their more effective use

* There is a need for a massive anti-corruption campaign. The supply chain management process also has to be reviewed and the procurement process must be tightened to reduce the prospects of fraud and corruption

* With the phasing out of the regional services (RSC) levies, the need for an appropriate temperate, sensible business tax for municipalities

* A more productive and effective relationship between party political structures, councillors and administrators.

I understand that this Conference will also be considering the King III Report as it applies to corporate governance in municipalities. This is very important. We are very keen to know what the outcomes of your deliberations are.

So let’s “make the elephant dance’” then!

So there we are then! Some, by no means all, of the financial challenges confronting municipalities! And some, by no means all, of the possible responses. So what do you say then? And more importantly, what are you going to do? We, as politicians, must do our bit and we will. But we need your help! Please give it!

Of course, the road ahead isn’t going to be easy. Nor will it be traversed quickly. But it’s you who said that we must “make the elephant dance”. And you acknowledged that it won’t be easy. But you believe that you can “make the elephant dance”. So let’s, together, do it!

Issued by: Department of Cooperative Governance and Traditional Affairs
6 October 2009

A nation and a health system under extra pressure from a  quadruple health burden, requires extraordinary effort. South Africa has many of the essential ingredients in place  to save hundreds of thousands of lives –  will we act in time?

That is the opening statement on the cover of the Executive Summary of the “Health in South Africa” series released by one of the worlds leading medical journals; The Lancet. Contributors to this series include some of the most progressive South African health experts. The series does not make for happy reading.

Some of the major outcomes (our shortcomings)  of the series are diagrammed in the image below (click to view in full):

The series notes:

• what is in essence a systematic breakdown in the health provision structure in South Africa.
• that incompetence and political loyalty has been rewarded as opposed to the ability to deliver, and
• Unprofessional behaviour in state facilities through rudeness, uncaring and even physical assault

The authors of the series are supportive of:

• a back to basics approach to primary health care
• investment at the foundation of health care
• the proposed National Health Insurance

Below is the National Department of Healths Strategic Plan, worth viewing.

This is the second article in our series on franchising (especially restaurant franchising). Best to familiarise yourself with our first article which sets our tone.

In this article we look at the rare instance of being the first franchisee. In our move into the franchise game we were approached to be the first franchisee of a new concept of stores for an established restaurant chain – the chain we are currently suing. We turned down that deal these are some of our thoughts on being the “ground breaker”

Starting a business is a tall order for most people and even a scary prospect especially for non-entrepreneurs hence the preference of starting with a proven model where the concept, business plan, and operating system are already put together in a franchise package.

However every franchise system has a first franchisee. The groundbreakers or icebreakers if we may call them, are the people who risk it all in pursuit of success and financial excellence.

And as important as success is to the first franchisee, it’s even more important to the franchise company. Their future growth will depend to a great extent on the validation and results of the first franchisee.

These are just some points to consider regarding getting involved with a startup franchise outfit, or an outfit that are expanding into new untested markets.

• Ground breaker: The first franchisee is comparable to being a first child. Being first means getting all the extra attention that normally comes with the position. The challenging thing is that the first child has to break the ice on every little thing. This makes it much easier for the children that come later, but it’s sometimes a real pain for the first child. They have to effectively train the parents to be reasonable and have realistic expectations, and this is often the same dynamic at play between the franchise company and the first franchisee.

• Acceptance of risk: As a first franchisee, you must be much more accepting of risk than a normal investor. Bold and brave, you should also be the type of person who’s willing to deal with a more fluid situation, where changing and adapting to unforeseen circumstances is a welcome part of business development. The first franchisee is usually a true entrepreneur and, much more so than later franchisees, is a partner with the franchise company in the development of the franchise system.

• Comfortable with uncertainty: It’s essential for both you and the franchise company to understand the unique role the first franchisee plays. The first franchisee is a person who’s comfortable with the uncertainty involved in being the groundbreaker for a system. The good news is that you’re undoubtedly going to receive a great deal of extra support from very senior staff of the franchise company. The bad news is that you’re going to represent a learning environment for the franchise, and you need to be accepting of that role.

• Learn by making some mistakes: Have realistic expectations. No matter how well the franchise prototype operations have performed, it’s going to be different running the first franchise unit. You aren’t going to intuitively understand everything about the business, and both you and the franchisor are going to learn by making some mistakes. There must be a fair amount of open and frank communication about what areas of the business are set in stone, and what areas will involve testing and learning as you build your business.

• Fair deal: The reality is that the franchisor is going to be using you as a learning tool. So both sides need to be reasonable about who should pay what in terms of “tuition” for this schooling. Though the support level given to the first franchisee is typically much more significant than for later franchisees, other value factors, such as the system documentation, are probably not going to be nearly as well defined or developed as they’ll be later. When negotiating the franchise agreement and other financial considerations, you should address these factors. Both you and the franchisor must feel the deal is fair and proper.

The following are the pros and cons of being the first franchisee:

Pros

• Availability of open territories: One advantage is the availability of open territories. The market has to be completely open.Today certain markets are closed and gaining entry into them is some what cumbersome however due diligence in research, realization and utilization of open markets can bring huge success to the franchisee. Give an example. I’m not exactly sure what you mean by an open market

• Financially sound franchisor: A financially sound franchisor committed to growing the franchise, and committed to the franchisees can be invaluable to the franchisee. The franchisor’s commitment has to be unquestionable as the first franchisee would rely on their support more so than later franchisees when systems are in place. (rephrase this- and the absence of such would be a tonic for disaster.  )

• Franchisor participation in risk sharing: Your success as a first franchisee is as crucial to you as to the franchisor because not only will you provide a bench mark of proven systems you will also provide a basis for a successful track record. To this regard the franchisors are likely to shoulder a larger risk in the business and operations than they would with later franchisees.

• Investor participation in risk sharing only a private investor would come on board with an unproven concept: Investors like the Industrial Development Corporation (IDC) who come on board as partners until the loan is repaid provide the much needed security for first franchisees considering the unproven systems and franchisor inexperience in dealing with franchisees and the business expansion itself.

Disadvantages

• No proven systems: You can receive a lot of glory and recognition for your part in advancing the franchise system, but there are certainly trade offs. You won’t have other franchisees to consult with that have already traveled the path before you. You’ll have lots of support and assistance, but the support won’t be tested and proven on others, so mistakes are going to be made. You’ll have to make your decision to get involved with the franchise without the benefit or assurance provided by an existing system with a number of successful franchisees, and that increases the risk of getting involved.

• Expandable concept: The biggest thing you want to look for is a concept that is expandable; your best bet today is really researching the franchise opportunity for uniqueness. Does the concept have a niche, or is it a blatant copy of another concept? Can you set yourself apart from your competitors? Unless the concept is expandable, franchisees are not able to extract value out of the transaction. However most people looking to buy into a franchise  don’t consider such a crucial factor hence they buy into already saturated lines of business like the fast food outlets.

• Chances of obtaining finance: The chances of obtaining finance from any institution on an unproven concept are slim if not next to nothing and the prevailing economic conditions have forced the crafting of more stringent criteria for obtaining finance. A business which has less than ten operating outlets is usually not considered a bankable franchise entity hence making it difficult for first franchises.

Perhaps the best approach for expanding the franchise model is to open up these initial franchises as partnerships between franchisor and franchisee. This protects both interests. From a franchisor perspective they get to protect their investment and further expansion of a new model and for a franchisee, you get the support and investment needed to set up and test a new business concept.

The sharing of risk is the safest and fairest approach to expanding a franchise concept model.

We have dedicated this blog to put up a number of thought pieces on the franchised restaurant industry in South Africa. We do this because the franchised restaurant industry has great personal interest for us as a result of our recent experience of having bought, run, cancelled the sales agreement and sued the franchisor.

As management consultants we have worked with researching, conceiving, redesigning, managing, marketing and evaluating all ranges of businesses- big and small. So when confronted with the challenge of buying a suitable franchised restaurant- it seemed like a “no brainer”!  After all we had evaluated and ran much bigger business investments, and restaurants have been an area we have researched extensively. In addition most franchisors we encountered were not the most sophisticated business people. In fact many were poorly educated but flamboyant characters. Plus we had resources to support our decisions- we had assistance from deal makers who put together billion rand investments and one of the oldest and largest law firms in the country (been around since the days of the gold rush). So we were ready to take on this industry and make it a success.

But still we got scammed.

Being scammed hurts your pride as hard as it does your pocket. But the experience of it has been priceless. We have interrogated all aspects of the business in detail. We have learn an incredible amount about the contracting, financing and operating a franchised business in South Africa We have also discovered a great interest in the prevention and investigation of fraud in businesses- which has become a new area of consulting for us. We have developed amazing contacts in forensics and with the specialised units of the police and security industry and banks.

There are unique aspects to South African businesses, from its closeness to organised crime to its labour issues. We (Garsen and myself) shall share with you some of the pointers and tricks to surviving a franchise investment in subsequent articles in the hope that you will benefit from our experience, research and learnings.

Lets fall in Love:

So we made a few mistakes. The first being that we found love. We found it in the business we wanted to buy- it was doing a great trade in a “recession proof” end of Johannesburg. We liked the franchisor they were young, daring and dynamic with a fast growing empire. We also liked the partnership approach they adopted to working with their franchisees and saw much potential for working together with them to build something better. This fit well with our needs. We did not originally come from a background in retail; in fact we have spent the last many years of our working career scoping, designing, marketing and rebuilding businesses of others. Broadly referred to as management consulting. Consulting is fabulous, intellectual, challenging and we had gotten really good at creating something from nothing. But we needed more ownership, more emotional investment. Food has always been my idea of sensuality-passionate love (sad I know!). So finding this fit of restaurant and franchisor felt like the coming together of a puzzle. That should have been the first warning sign. Anything too good to be true- usually is! But this was pure seduction and we were in love with the idea of the business. So this brings us to our first lesson we share with you, of loving the deal and not the business.

Whatever your motivating to get into franchising- whether you are looking for something low risk to start- working off a proven business concept, or have extra cash to put into an investment or been enticed by the advertised success rates or the business itself and the prospects thereof. Whatever the reasons, negotiating for the business has to be the prime focus and not the business itself.

How you negotiate for the purchase inevitably determines what happens thereafter in your business not sparing your leverage should you engage in legal battles with the franchisor. Unpleasant as this thought may be. A business doesn’t come with guarantees and no one is going to take care of your interests except you. So diligently cover all the areas of the contract and be more persistent than the franchisor is resistant, make sure you get what you want from a deal or you take your business elsewhere.

About the Contract:

The most important vetting exercise is really to find out how you can be in this business that you think you like without signing a franchise contract. If you can do that effectively, your return on investment over what would have been the franchise period will be at least double. And, no matter what they tell you, franchisees never have a better chance of success than independent, unaffiliated new business start-ups. The likelihood for success is exactly the same either way. Unless you are buying into a big brand concept, like a McDonalds or KFC which has a unique product that customers identify with. Being someone’s franchisee makes absolutely no difference whatsoever. There are usually many ways to obtain equivalent start-up and continuing support assistance without having to sign a franchise agreement. You just have to take the trouble to find out where they are. In most cases what you pay to set up a business or for the acquisition of an existing business is far in excess of the value of the business you are buying. Furthermore you continue to pay royalties for a name which in most cases has limited capital but comes with high restrictions that impact on your ability to survive in a changing economy. Also ensure that you know what comes along with your franchise contract. Franchise rules, license products, standard menus etc are all part of the package. These must enhance your business’s chance of survival and not just create another avenue of income for your franchisor- who is now able to force you to purchase new products which they have licensed that may be a lower quality, higher priced good that impacts on your business’s profitability. The Franchise contract must specify these products and the applicable quality standards. I have fond memories of returning deliveries of burnt coffee beans and putrid meats to the franchisor only to receive in return letters claiming breach of franchise agreement.

The representations about the wonderful support that you can expect to receive as a franchisee are always overstatements. ‘You are in business for yourself, but not by yourself’ is the mantra. Don’t believe everything you hear- read the contract to see what you are really being promised. The contract always says — in some form of legalistic sounding language — that you get whatever support the franchisor feels like providing from time to time. That’s it. There is never a contract covenant to provide competent and competitively effective support. But nobody ever figures this out before the franchise investment is made. It is always discovered after the fact, when it is too late and you have bought nothing but the right to sue, if you can afford to sue. Buying the right to sue is always a bad investment!

Consult a lawyer who specializes in franchising. Consider the time and money you put into hiring an expert as an investment in your future. A lawyer can tell you what your rights are in a specific situation and help you craft the right business plan to protect your business. As a business owner, you owe yourself nothing less. Consider the old saying” free advice is worth every cent that you have paid for it”.

One of the primary reasons that franchise scams still exist today is due to the individuals who do not do their homework and invest in these “opportunities”. They allow the bad opportunities to remain in business. Go on line and research news stories about the company and the industry. Visit their web site and get information about their consumer offering as well as their franchise offering. Learn what you can about their management and thoroughly research their background. When you first contact the company ask them about the process they use in selecting franchisees. If you get the sense that they don’t select franchisees but are in the business of selling franchises, that’s the first indication you should have that the franchise is risky. If the company is willing to “sell” you a franchise before you can perform a thorough evaluation of them and they can perform a thorough evaluation of you, that’s another indication of a poor franchise system. If on top of that the salesman you are talking with is not an employee but an outside sales broker that’s even a stronger indication. Remember, unless you buy, the franchise the brokers don’t earn any money. Never pay any monies or deposits upfront. Any franchisor who asks for money before you are happy to commit to an investment cannot be trusted- they are interested in making a sale and not the success of your business.

Conducting the Due Dilligence:

Start off with the disclosure document. Once you get the disclosure document be prepared to analyse it thoroughly. If this is an opportunity that still interests you after you read the company’s information, you should engage a qualified franchise attorney, consultant or accountant to help you in conducting your due diligence. The franchise salesperson or broker works for the franchisor and should not be a source of advice that you rely upon. Neither is your bank. Your bank’s only interest is whether you can pay back your loan- and it’s all the same to them if it’s from the proceeds of a successful business of the repossession of everything you own. So don’t rely on your banker’s advice with regard to the credibility of the franchisor. They will not take responsibility for this advice when the deal turns sour. Rely only on the qualified resources you hired to help you with the due diligence.

What is the financial condition of the company? Your investment is likely to be significant. In some franchises between debt and equity your investment may be more than seven figures. What about the franchisor, will you have more skin in the game then they do? Do they have a history of profitability? Are they earning their revenue from royalties and other continuing sources of revenue or are they relying on the sale of the next franchise to make payroll. Even new franchisors need to have financial resources to meet their commitments.

Whats the Franchisor’s Litigation History?

Franchisors must disclose relevant litigation. Sometimes litigation is good. Any franchisor that enforces system standards will occasionally need to sue its franchisees. If they are able to still maintain a good relationship with their other franchisees than that type of litigation is an indication of a strong and responsible franchisor. However, if there are pages upon pages of lawsuits from franchisees in the disclosure documents, that is not a good sign. You need to understand the basis for the lawsuits and make a decision based upon the facts. Your attorney can help you analyse the franchise litigation. These are just a few of the questions you will need to assess in determining whether the franchise is a scam. Your outside advisors will be able to help you put aside your entrepreneurial burn to get into the game and assist you in conducting a proper due diligence on the opportunity. Don’t get into a franchise unless you have the assistance of a qualified expert. The franchise salesman that has befriended has the advantage of having been through the selling process hundreds of times. This is likely to be your first experience.

No Current Franchises:

Treat a franchisor that has few or no current franchises with extreme caution. In the past, it has not been unheard of for companies that have never actually opened a single operating unit to aggressively sell franchises to unsuspecting franchisees. Naturally, the few franchisees that were eventually able to open for business failed because the company’s franchise business plan was ill-conceived and had never been tested. Minimally, the franchisor should be able to document the success of several existing franchises. They should also be willing to put you in touch with current franchisees so that you are able to confirm their success firsthand.

Inferior Selection Process:

Something else that should make you cringe is an inferior selection process. Quality franchisors run potential applicants through a fairly comprehensive selection process. This process screens applicants not only for their financial capacity to purchase a franchise, but also for their industry experience and their ability to manage a small business. If a franchisor doesn’t seem to be interested in any qualifications beyond your ability to buy into the franchise, bells and whistles should be going off. It’s quite likely that the success of the franchise isn’t a real concern for these franchisors. All they’re really looking for is a way to make a quick buck – at your expense.

Lack of Verifiable Financial Data:

Legitimate franchisors should also be able to produce verifiable financial data for the company as well as data for individual franchises. This information is vital in helping you assess the feasibility of owning a franchise should you decide to do so. You not only need to know the earnings of a typical franchise, but also whether or not the company’s financial position is sound enough to ensure its long-term survival. If a franchisor is hesitant or unable to produce financial data it’s usually because the numbers don’t paint a very rosy picture. Make sure that you get raw sales data as well as financial accounts. Financial accounts which are provided are only useful if they are audited statements and not internal management accounts. You must be able to get your auditors to do a verification of these figures from the raw data sources and an audit of equipment that is part of the sale. Remember the registration numbers of equipment on the audit must match that which you receive as part of the sale. Also compare the financials with what the franchisor says it is paying in tax- this gives you a good indication of income and/or the honesty of your franchisor. Avoid investing in a franchisor that is changing banks at the time of your deal. You may not know the reason for this decision, but it does break the “audit trail” and that prevents you from getting essential information.

Inadequate Disclosure Documents

Franchisors are required to provide franchisees with disclosure documents specifying the details of franchise ownership within their company. If the disclosure documents are overly vague and the franchisor is unwilling to fill in the blanks with details, run away from the opportunity as fast as you can. Otherwise, you risk becoming tied into a dead-end business with little (if any) legal protection for your interests. This disclosure must also include breech letters from landlords, financiers, health and other violations and summons and all licenses contained by the business.

Finally, make sure that the contract is everything it is supposed to be. If they promise that you will make a certain amount of money or that your expenditure is pitched at a certain level, you need to get it in writing in the contract, otherwise, you have no guarantee that they will follow through on that promise.  Also, it is strongly recommended that you get a lawyer to read through the contract before you sign anything, no matter how confident you are in your ability to understand it and the reputability of the company. Experience does count so bring in a specialist- much better to avoid the bitter personal experiences.

While some franchises do offer a good business concept, there are many scams out there and many businesses serve as fronts for organized crime and money laundering. Also many franchises are nothing more than a pyramid scheme the only beneficiaries being those first pioneers of the franchise. So beware in your dealings and look out for inconsistencies and hesitations- you could be dealing with a scam. Pay upfront for good advice its way cheaper than the forensic and legal costs that follow later if the business deal was not transparent and turns into a failure or a fraud. At the end of the day- all business is a risk. There are no guarantees against outright and clever fraud, as we had discovered in our own experience. But the above pointers protect you against the likelihood of you being a victim of a scam. Most importantly don’t begin any negotiations until you have worked out what you are looking for in deal. If the deal on the table is not the deal you want- simply walk away. There are many other options available to you. Do not compromise. Look for the deal you will love.