LRP

Long Range Planning 37 (2004) 259276

long range planning

www.lrpjournal.com

Risk management and the

business environment
in South Africa
Jay van Wyk, William Dahmer and Mary C. Custy

Risk management involves tracking market and non-market long-range risks, understanding
their adverse impact on the business environment, and managerial responses to reduce risk
exposure. As an emerging market, South Africa poses a challenging array of long-term
political, economic, financial and operational risks to investors. Risks such as concerns about
increased costs, lack of transparency, limited capacity to enforce the rule of law, government
intervention, a volatile currency, regional contagion and the HIV/Aids pandemic heighten
uncertainty about the business environment. Managerial responses to anticipate and mitigate
risks include matching mode of entry with risk tolerance, superior intelligence and lobbying,
maintaining low tolerance for corruption, selecting appropriate financial instruments and
balancing shareholder and stakeholder interests.
The risk management framework presented, consisting of three elements: type of risk, impact
of risks and managerial response to counter adverse risk impacts, may be refined and
expanded for potential application to other emerging markets.
Q 2004 Elsevier Ltd. All rights reserved.

Introduction
South Africa (SA) is known as the engine of growth for the African continent, generating 45
percent of the continents GDP from only 10 percent of its population. The countrys economic output ranks 29th in the world, making it one of the 10 leading emerging markets. SA
offers a sophisticated business environment in terms of infrastructure, legal system, natural and
human resources, telecommunication network and financial services.
Since 1994, SA has undergone sweeping political and economic transformation, but, as with
all emerging markets, transformation is a work-in-progress. Since the end of Apartheid, the
democratically elected ANC government has embarked on an extensive program of economic
liberalization. The positive results have included an increase in competitiveness, international
trade and inward bound investments. However, a variety of risks are still present in the business
0024-6301/$ - see front matter # 2004 Elsevier Ltd. All rights reserved.
doi:10.1016/j.lrp.2004.03.001

environment. After a decade of dramatic changes, it is prudent to assess the risk profile of SA
and to raise awareness of the long-term risk management policies for present and potential
investors. It is our intent to outline a risk management framework consisting of three interrelated elements: first, to identify the manifestations of various market and non-market risk
types in SA; second, to illustrate how these risks may impact on business operations; thirdthe
primary thrust of our frameworkto analyze the various policy options that managers and
firms may adopt to preempt or mitigate the adverse impact of risk.
We have organized our paper into three parts: (1) a theoretical analysis of risk management;
(2) a study of risk management in South Africa that addresses the three elements of risk identification, risk impact and managerial policy options; and (3) conclusion and suggestions for
further inquiry.

Framework for risk management analysis

Strategic management theory has accumulated into a large body of knowledge, and understanding about managerial decision-making has been well advanced in terms of firms sustainable competitive advantage over their competitors. However, risk management, as an integral
part of strategic management, remains underdeveloped. Too often, strategic risk management
is narrowly perceived as the impact of market, industry and financial factors upon the performance or return of firms. Managers, fixated on the risk-return paradigm and financial
metrics based on accounting data, often under-emphasize non-market forces as a source of
risk.1

Managers often under-emphasize non-market forces as a source of risk

Even respected models, like Porters Five Forces and the Resource-Based View, pay little
attention to non-market risk factors.2 The PESTEL approach to strategy is also problematic
since its broad analysis of external influences on decision-making is not cost effective and creates information over-load for risk management. It is good to identify long-term external
trends outside industry but, as Narayanan and Fahey have noted, it is less effective in distinguishing between vital and merely important developments.3 Noy considers risk as a major
component of strategy, particularly the risk attitude of managers. Eisenhardt and Sull regard
risk as one of the seven strategic logics of a simple rules-approach to strategy.4
Three general assumptions underpin risk as a concept. Risk is viewed as a (1) unit of analysis
or level of analysis which must be determined; (2) broad rather than a narrow concept that is
not necessarily mutually excluded from related concepts; and (3) multi-dimensional concept.5
Specifically, risk may be analyzed on three subordinate levels: (1) general environmental uncertainty, i.e. systematic countrywide risks cutting across all industries or individual firms; (2)
industry risks, i.e. differences in industrial or product specific variables; and (3) firm specific
risks, i.e. operating uncertainties.
The subject unit of analysis has influenced the definitions of risk. Studies linking risk and
performance or variance of return are more concerned with firm specific risks. Risk in this
regard refers to financial risk, an ex post accounting measure of stock returns, financial ratios
and income stream uncertainties.6 While crucial, the tendency to term this concept strategic
risk is unsatisfactory because it does not reflect the full range of market and non-market risks
facing the firm.
The ordinal ranking approach to risk that is applicable to all three subordinate levels of
analysis defines the concept as the probability for any reference set (firm, industry, market for a
product, country) losing rank position vis-a`-vis other competitors. Risk is viewed as the chance
of loss, the degree of probability of loss and the amount of probable loss.7 In our view ordinal
rankings, like country risk, are too broad and diffused. As managerial guides they fall short
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Risk management and the business environment in South Africa

since countries are lumped together with similar aggregate scores, but different profiles for specific risks (political, financial, operational).
In this analysis the definition of risk is broad-based and captures both market and nonmarket uncertainties. Our definition includes uncertainty associated with exposure to loss
caused by unpredictable events and variability in the possible outcomes of an event based upon
chance. The degree of risk depends on how accurately the results of a chance event may be predicted. The more accurate the prediction, the lower the degree of risk. It is questionable to
regard risk as a situation where each action leads to a few known outcomes, each of which
occurs with a specific probability. Studies of risk-return utilizing sophisticated mathematical
models have mixed results with regard to outcome predictions.8 Resources (business intelligence, market or country experience, access to political power) will enhance the certainty of
outcomes. The outcome of actions related to risk may be uncertain. Each action may lead to a
set of consequences, yet the probability of these outcomes is unknown. A risky situation is one
in which the decision-maker is unsure which outcome will occur. Such uncertainty may lead to
erroneous choices and, consequently, may increase costs or the chance of loss.
To understand uncertainty, Milliken suggests risk should be viewed as a phenomenon
shaped by three related variables: state, effect and response.9 We have added type of risk to
emphasize the sources of risk and the time dimension (short, medium, long) to create a comprehensive risk management framework. Our framework for analyzing risk management in SA
is outlined in Figure 1.

Figure 1. Risk management framework

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Four types of risks

Several authors have suggested classification of risk types, but our classification will distinguish
between political, economic, financial and operational risks:10

. Political risks refer to government policies and societal instabilities that adversely affect the
general business environment;
. Economic risks refer to the general condition and structure of a countrys macro-economy;
. Financial risks refer to interest and foreign exchange risks and the confidence financial markets have in a countrys government and central bank. It is determined by (and is reflected
in) the volatility of a currency in its exchange rate with major currencies;
. Operational risks such as employee issues or credit uncertainties, are similar to firm specific
risks as outlined above.
State of the risk environment
State of the risk environment refers to uncertainty about the current actions of key players and
stakeholders in the business environment, i.e. the government, labor unions, competitors, suppliers, shareholders and customers. General changes in this environment such as socio-cultural
trends, demographic shifts and instability during the transformation of economic and political
life in a country can also produce uncertainty. Uncertainty about the future behavior of stakeholders such as government intervention in or withdrawal from the economy, regime changes,
and nation-wide labor strikes has a bearing on the state of risk in a country. As Cummings and
Doh find, players or stakeholders behavior toward the processes of change in the business
environment can also influence the state of risk.11 In general, business managers perceptions
of risk and uncertainty will be increased in a business environment characterized by volatility,
complexity and deep societal cleavages.

perceptions of risk will be increased . . . . by volatility, complexity and

deep societal cleavages
Impact of risk
The impact of risk on the business environment deals with the level of understanding of causeeffect relationships. The impact of a given state of events may cause uncertainty for a firm,
industry or the general business environment. For example, a labor strike may increase the cost
of goods sold and adversely affect the supply chain: these will, in turn, influence customer
satisfaction and profitability.
Time dimension
Risks are dynamic rather than static in nature and may increase or dissipate over time, and
Eisenhadt notes that a temporal dimension is crucial for effective risk management.12 Shortterm risks have an immediate impact requiring priority and remedial action. Medium term
risks require monitoring since an early warning system is essential in business strategy. Longterm risk assessment (510 years) is vital for firms that have committed large sunk costs in
foreign countries for operations that will only come online in the future. Future risk projections are essential to protect investments and to anticipate changes that may impact on competitive advantage.
Managerial response
Managerial response refers to managements ability to predict the likely impact of risks on the
firm as well as to adopt alternative policies that protect or enhance profitability. These policies
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Risk management and the business environment in South Africa

include choices about mode of entry, lobbying political decision makers, intelligence about
unfolding events, low tolerance for corruption, financial instruments, balancing shareholder
and stakeholder interests.

Risk management and the business environment in South Africa

The study of short-term risks in the SA business environment is covered in periodic country
risk analyses.13 The focus of this analysis is the longer-term nature of various risks and their
impact on the business environment. Firms may implement appropriate policies to anticipate
or to respond to existing risks, thereby, reducing their exposure to risk. In Table 1, the types of
risk, their manifestations and their impact on the SA business environment are outlined. A
cross section of examples is provided to illustrate firms exposure to risks.
Political risks
The African National Congress (ANC) is positioned to win the 2004 elections since opposition
parties will remain weak. The government will continue to co-opt opposition parties and
societal interest groups. It will also continue as a powerful stakeholder in the economy and will
continue to embrace a neo-liberal macroeconomic policy (Botswana Model) rather than blatant redistribution of wealth (Zimbabwe Model). The governments hegemony will not alleviate business concerns about an over-regulated economy and insufficient transparency of
government policy. The tenets of democracy will also be challenged by the controlled rather
than open debate associated with co-optation.
Corruption will continue as a long-term issue for firms. Despite stepped-up law enforcement, the root causes of corruption will remain, i.e. cronyism and self-enrichment due to conflicts of interest in government procurement contracts and insufficient capacity to enforce
ethical governance. According to Transparency International, the respected corruption watchdog, countries with a Corruption Perceptions Index (CPI) score of below 5 out of 10 have a
serious corruption problem. The seriousness of corruption in SA is evident in its CPI scores of
4.8/10 in 2001 and 2002, and which have worsened to 4.4/10 in 2003. Transparency International also warns that the politicization of offices such as those of Public Prosecutor and
Auditor General, which are designed to support constitutional democracy by preventing corruption and the violation of human rights, is likely to limit their independence and effectiveness.14
SA has laws in place to fight crime and corruption, and to protect contracts and intellectual
property, but it lacks the capacity and resources to enforce the law at consistent and acceptable
levels. The integrity of the police and the courts is in question due to low crime conviction
rates and persistent irregularities. This creates uncertainty and diminishes the confidence of
investors who seek transparency and a predictable business environment based upon
unequivocal applications of the law. A lax enforcement environment is a magnet for international crime syndicates and has increased the cost of legitimate business due to money laundering, fraud, extortion and smuggling.15

A lax enforcement environment is a magnet for crime and increases

the cost of legitimate business
The implosion of the Zimbabwean economy has exposed the weakness of SA as a regional
leader and protector of private property rights and democracy. SAs failed foreign policy has
revealed the volatility of its currency (Rand) and the vulnerability of the economy to regional
contagion, with DFI and job growth adversely affected. Demands are on the rise in SA and
neighboring Namibia for the expropriation of commercial farms: in the next decade, the ANC
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Table 1. Risks in South Africa (SA)

Type of risk

State of risk

Impact on business environment

Firm examplesi

Political

One Party dominates

politics

Insufficient transparency State as

Stakeholder

Regional Instability
Weak Capacity to
enforce law
Corruption due to Conflicts of Interest

Undermines investor confidence

Concerns about property, patents,
piracy, safety
Liability & reputation, uncertainty
in procurement practices

1. European Aeronautic Defense & Space

(EADS) uses bribes to secure defense
contract. CEO not prosecuted in SA, but
under investigation in Germany. Airbus (80%
EADS stake) also secured $3.5bn deal w/ SA
Airways.
2. Zimbabwean contagion cost SA economy
$1.9bn & > 30,000 new jobs in 3 years,
according to think tank, Zimbabwe Research
Initiative.

Economic

Slow economic growth

In GEAR scenario; weaker competi- 1. SA firm, Freeplay Energy Grp, relocates to far
tive advantage
East, citing desire for economies of scale,
Critical unemployment Strengthen populism, weaker free
elimination of middlemen, & bigger intl marlevels
market
kets
Inadequate liberalization Over regulated sectors
2. Leak of government BEE plan scares away
$1.5bn investment in mining industry. BHP
Black Economic Empow- Uncertainty re current & future
Billiton, Rio Tinto & Anglo American suffer
erment
government intervention & regulalarge sell-off.
tions
3. Chemical firm Omnia increased imports by
Infrastructure
Supply chain concerns
40%. Transport system could not cope causing late deliveries to
customers

Operational

Labor market rigidity

Dangerously high crime

level

1. 74% of 325 large manufacturing firms & 800

SMEs surveyed in Johannesburg cited labor
legislation as major impediment to business
Increase cost, HR concerns, liability 2. Mining Co. Anglo American spends $3m extra
on 3000 Aids infected workers pa. Cost will
exposure, societal instability
escalate as disease progresses. Company estiIncreased cost, compromise safety
mates 1/4 of 90,000 workers infected.
of personnel
3. In one year JD Grp. suffered 355 burglaries, 81
high-jackings, 11 armed robberies, 3 guards
killed. Cost > R20m pa.
4. Food retailer, Pic n Pay, spends R2m pa on
trauma counseling of employees & insurance
deductible of R50,000 per robbery.

Volatile Forex market

High inflation, high
interest rates
Vulnerability to systemic
crises

Variance in future earnings

Operational cost, cost
of capital
Unanticipated losses, undermines
investor confidence

Settlement & Counterpart

Financial distress, credit

worthiness, risks of SMEs
& BEEs,

HIV/AIDS pandemic

Financial

264

Increased cost, lower productivity

Over-regulation

1. Wine & spirit group Distell suffers R66.8m

forex loss (June 02June 03). Net profit loss
despite increase in earnings and sales.
2. Nail & Rail 5% BEE interest and all
voting power. Loan repayment hedged
on future earnings & share price rise. Nonperformance risk: BEE partners walkaway, bank ends up w/ undesired
shares.

Current examples but with long-term relevance.

Risk management and the business environment in South Africa

governments commitment to property rights and the rule of law will be tested in the face of
radicalized political expedience.16
Economic risks
In the long-term, Boyd, Spicer and Keeton envisioned three possible scenarios for South
Africa.17 A top-gear scenario is characterized by GDP growth of 56 percent pa, unemployment halved within a decade, and per capita income doubling over 25 years. An in-gear scenario outcome includes modest improvement in governance, GDP growth of 34 percent pa,
but increased unemployment. A reverse-gear scenario outcome entails negative growth, political instability and large-scale state intervention in the market place to meet populist demands.
The in-gear scenario appears to be the most likely for the next decade. SA averaged annual
GDP growth of 2 percent over the past decade, and a 34 percent growth rate is projected for
the next five years. SA has made tremendous advances in economic liberalization and in the
improvement of market competitiveness. This transformation has reached a plateau, and it is
the opinion of these authors that it is vital for the SA government to continue with deregulation, privatization of SOEs, appropriate education and skills transfer, and the promotion of
small business entrepreneurship in order to meet long-term challenges. The high unemployment rate and poverty levels are long-term threats to political stability and neo-liberal economic policies, and only a move towards the top-gear scenario can mitigate these risks.18

High unemployment rate and poverty levels are long-term threats to

political stability and neo-liberal economic policies
The SA government has adopted a broad-based Black Economic Empowerment (BEE) policy with the aim to increase Blacks share in business ownership and economic wealth.19 The
government has set up charters for various industries that set targets (quotas) and timetables
for black empowerment in firms and government agencies. BEE is an intrusive policy that will
prescribe many aspects of business operations including equity ownership, executive control,
employment, affirmative procurement and supply, the transfer of skills, corporate social investment in disadvantaged communities, and the development of entrepreneurship for SMEs and
micro-enterprises.
From a business risk perspective, BEE should be evaluated on principle and method. The
principle or intent of BEE is sound. The transformation of business and economic life in SA is
crucial to empower the black majority to gain a larger stake in business ownership, managerial
positions and jobs, wealth sharing and training. Whether BEE is the best method to empower
Blacks economically without harming business opportunity and economic growth has caused
serious dispute between the government and business community. The dispute was ignited
when SASOL, SAs leading petrochemical company listed on the New York Stock Exchange,
filed a 20-F disclosure to the United States Securities and Exchange Commission. This report
highlighted BEE as one of thirty risk factors the company faced in SA. According to SASOL,
there could be risk to shareholders that value may not be achieved in the case of BEE equity
transactions. SASOL could not guarantee that BEE transactions would take place at fair market
price. The BEE charter for the liquid fuel industry prescribed equity sales to BEE firms at discounted prices. SASOL warned that its shareholders might have to pledge the sale of a portion
of the companys assets (up to R15bn) to finance BEE partners in their acquisition of a 25 percent stake in the company. President Thabo Mbeki attacked SASOLs risk assessment of BEE.
He called it a bigoted company bad-mouthing South Africas attempts to address the legacy
of racism. Other SA companies listed on the NYSE also disclosed BEE as a risk for investors,
including SAPPI, Harmony Gold, AngloGold and Telkom, a utility company in which the
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government has a majority stake. SAs largest business association, SACOB, has supported
firms that cited BEE as a risk factor.
Affirmative procurement under BEE guidelines, which has not been fully defined, has raised
new uncertainties about access of foreign firms to government contracts. Foreign firms that
seek government contracts face the risk of restrictions on the repatriation of earned income. A
contract with an import content of US$10m or more will require the seller to invest at least 30
percent of the value in a local black owned business. In the case of defense bidding, the figure
increases to 50 percent.
BEE will subject businesses to more governmental regulations. Firms will have to meet
extensive balanced score card evaluations of their BEE progress. Long-term uncertainties have
also emerged in the business community regarding the likelihood that the government may
increase BEE targets and quotas in the future or penalize firms that fail to comply voluntarily
with BEE targets and timelines. In sum, BEE is likely to harm the complementor relationship
between business and government that has been built over the last decade.

BEE is likely to harm complementor relationship between business and

government built over the last decade
Achieving the goals set out in the BEE charters will be costly for firms, but will contribute
substantially to economic transformation and Black empowerment. Equity transfer is the
exception, however, since it has the appearance of an involuntary redistribution of wealth. The
authors argue that continued economic liberalization in terms of the top-gear strategy as previously described would be a more suitable route to the goal of Black economic empowerment.
Higher levels of economic growth will attract foreign investment, create jobs and alleviate poverty. The net result would likely benefit a much larger portion of the population in a more sustainable manner.
Another long-term economic risk stems from the weak infrastructure and the necessary
upgrades required to cope with economic growth and logistic demands.20 Most container shipping lines classify Durban, the largest entry point for goods in Southern Africa, as a congested
port and charge additional fees. The antiquated rail infrastructure suffers from logistical problems and late deliveries to inland destinations. The privatization of Transnet, the SOE that
operates the harbor and rail systems, will likely reduce long-term supply chain risks. The construction of the N4 toll road, which was successfully completed by a consortium of private
construction firms, may stand as a model for future capacity upgrading.
Operational risks
Three issues present persistent operational risk to firms. First, the labor market has restrictive
regulations regarding minimum wages, inflexible hiring and firing policies and a collective bargaining system that favors trade unions. The Employment Equity Act and BEE require firms to
adhere to affirmative action hiring of personnel and executives. The Skills Development Act
places a tax levy to fund training. The Labor Relations Amendment Act allows trade unions to
block or to reverse retrenchments and to limit the outsourcing of contracts. This legislation
creates risks for firms planning to acquire SOEs by constraining the ability to cut cost and
increase profitability by laying-off workers. SAs labor costs, at face value, appear to be low.
However, once the effective tax rate, interest rate, investors earning expectations and the
country risk premium have been taken into consideration, labor costs are not particularly
competitive in comparison with other emerging markets.21
Second, according to the Metals Economics Group, high levels of violent crime and
employee security issues will remain a long-term risk for firms. The safety of personnel and the
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Risk management and the business environment in South Africa

security of assets and inventory are time consuming and costly for firms. The lack of capacity
and credibility within the criminal justice system compounds this risk exposure.22
Third, the HIV/AIDS pandemic has added a new facet to the long-term risk landscape. SA
has the highest infection rate in the world with 5 million out of a population of 43 million HIV
positive. SA is facing the death phase (deaths > infection rate) of the disease over the next
decade. The depletion of human capital, i.e. the stock of experience, skills and education, will
adversely impact on the economy in the long range. Poverty and government intransigence
have resulted in poor access to anti-retroviral drugs and a low priority for preventative
education. In the long-term, labor productivity will suffer. In work places, there will be high
absenteeism, high staff turnovers due to deaths, diminishing transfer of skills and a generally
sickly workforce. Lowly skilled workers and young managers face the highest risk of infection.
In turn, low productivity will result in lower profitability and higher costs for firms, low
economic growth and a reduction in market attractiveness to both existing and potential
investors.23

The depletion of human capital, the stock of experience, skills and

education, will adversely impact on the economy in the long range
Financial risks
Investment in SA faces a number of financial risks to firms including foreign exchange volatility, high interest and inflation rates, counterpart and settlement concerns, and vulnerability
to regional and systemic crises. SA has the institutions, legal structures and regulations for
dealing actively with financial risks. The Rand, although not fully convertible, is not subject to
artificially high official exchange rates as far as commercial transactions are concerned. Selling
the Rand short in the spot or forward market requires underlying transactions in stocks,
bonds or physical import of goods. Commercial banks in SA or offshore are free to transact on
behalf of their customers. The market, while volatile, is relatively liquid with reasonable bid
offer spreads. Historically, the Rand has been very volatile even in comparison with other
emerging market currencies, losing 75 percent of its value against the dollar in the period
19942001, but gaining 40 percent in 2002.24 A weak Rand makes SA exports very competitive
while making imports of capital, oil and consumer goods more expensive. This complicates
business planning. During extreme volatility, the market tends to be very illiquid with prohibitively wide bid offer spreads. During crises, hedging instruments, such as forward outrights
and options, become expensive. SA, unlike other peers such as Russia, Turkey and Brazil, has
an active forward and options market. Investors have a wide range of risk management tools at
their disposal with an ease-of-use not available to investors in other comparable markets.
SA suffers from high and volatile inflation rates, but succeeded in 2003 in achieving its own
targeted inflation rate of 36 percent. Structural problems bedevil sound monetary policy
including dependency on imported oil, high food prices, the boom-bust cycle of domestic borrowing and demands for higher wages. Pressure on the Rand and surging imported inflation
inevitably leads to interest rate hikes. As a result, SAs risk premium is heightened by both the
difference between SA interest rates and that of major trading partners and the poor purchasing parity of the Rand which makes imports expensive.25
Settlement risk occurs when a firm settles its accounts payable, but does not get paid for
accounts receivable; or a firm pays, but does not receive bonds or stocks that is due. Banks and
financial firms are more affected than manufacturers and service companies. Counterpart risk
(or credit worthiness) is more applicable to SA due to the large number of SMEs, which are
seldom rated by rating agencies due to having a credit history that is shorter and known only
locally and to fewer creditors. Ratings have helped foreign investors and suppliers to assess
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credit worthiness and to manage counterpart limits to control risk. International and local
credit rating agencies such as Duff & Phelps Credit Rating Agency of SA currently rates
approximately 200 of the largest companies in SA. For larger counterparts, securitization of
receivables and credit derivatives may be used. For SME counterparts, prepayment, cash
against delivery and letters of credit may be used to mitigate risk. BEE has spawned many firms
and consortiums with uncertain credit worthiness, and firms setting up supplier contracts or
joint ventures with such firms can face a daunting task to limit exposure to counterpart and
settlement risks ranging from financial distress to operational uncertainties and bad debts.
SA presents interesting event risk and contagion risk perspectives for management. Since it is
more politically stable than its neighbors, a firm may use SA as a launching pad for distribution into Sub-Saharan Africa. However, if investments involve large upfront sunk costs and
long pay back periods, then SA represents more risk than developed markets. With a global
credit crunch or jitters in other emerging markets, SA tends to get punished by financial markets along with other debtors in this category: political instability in Zimbabwe and debt
defaults in Argentina have both unnerved international investors in SA.

Managerial response
To conduct business in SA, management must reduce, mitigate and transfer risk exposure. Five
board policies have relevance for anticipating and reducing risk: mode of entry, lobbying and
intelligence, low tolerance for corruption, financial instruments, and balancing shareholder
and stakeholder interests. Policies are not necessarily risk type specificrather they may be
used to counter the full array of risks.

To conduct business in SA, management must reduce, mitigate and

transfer risk exposure
Mode of entry
Management of economic and operational risks has a strong bearing on the choice of mode of
entry into the SA market. Three types of entry modes may be distinguished:

1. non-equity or export mode, preferred by firms perceiving high risk since it shifts most of the
risk to another firm;
2. joint venture mode (JV), whether with a majority, minority or 5050 percent share, suitable
where risk is perceived as moderate and
3. wholly owned subsidiary, established or acquired, when the perceived risks are low.26
Given SAs risk profile, the exporting and joint venture modes offer the best risk management options.
The desire of foreign investors to reduce risk exposure as well as the government policy to
promote BEE have made Joint Ventures the most common mode of entry. JVs may take many
organizational forms. A foreign firm and a SA firm may establish a JV. Renault, the French
automaker, formed a JV with Imperial Holdings Ltd., SAs largest transport firm, to sell automobiles. Renault acquired 51 percent of the JV at a cost of $9.8 million. The JV operates 47
auto dealerships in SA and has targeted an increase in market share from 4 percent to 7 percent
in three years.27 A second form is a JV between a foreign firm and a South African BEE. The
worlds largest marine salvage operator, Tsavliris Salvage Group of Greece, formed a JV with
Cape Diving & Salvage of South Africa that has a 66 percent black equity stake. This JV is well
positioned to negotiate a government salvage and rescue contract and to secure competitive
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Risk management and the business environment in South Africa

advantage in salvage operations to the oil exploration industry off the southwest coast of
Africa. Services include fire fighting, medical evacuation and pollution control.28
SA subsidiaries of foreign firms have also formed JVs with other SA firms. Ranbaxy SA Pty, a
wholly owned subsidiary of Ranbaxy Laboratories Ltd. of India, formed a JV with SAs Adcock
Ingram, the health care division of Tiger Brands. This 5050 percent JV competes in the antiretroviral market in SA. Adcock Ingram leverages its strong distribution and supply network and
leadership position in the pharmaceutical private market and hospital sector. Ranbaxy manufactures and markets branded generic pharmaceuticals in over 100 countries. Ranbaxy has a
strong R&D capability with proprietary platform technologies. Although a low margin business,
this JV will rely on cost effectiveness and economies of scale for long-term profitability.29
Eurasia Mining PLC joining with Randgold & Exploration Company is an example of a JV
between a foreign firm and a SA firm where the foreign firm has the option to acquire a majority
share. The JV was established to explore for platinum in the Bushveld Complex. Eurasias initial
acquisition of a 25 percent share, may be increased up to 75 percent within 12 to 15 months.
Merger and acquisition is another approach. The SA subsidiary, PricewaterhouseCoopers,
merged with MSGM Masuku Jeena, Inc., SAs largest black owned accounting firm. The merger
met the BEE targets of equity ownership, operational control and employment equity.30
The non-equity export entry mode into the SA market has grown exponentially since 1995.
These exports constituted one-fifth of the total local market in 2002. Major exports to SA
include capital equipment and intermediary goods such as machinery (30.9 percent), primary
goods such as mineral products (12.8 percent), chemicals (11.8 percent) and consumer goods
(7 percent).31
Due to non-viable domestic economies of scale, the expansion of SA manufacturing sector
has added to the volume and value of imports of investment goods and capital equipment.
Exporters to SA often enjoy a competitive advantage since their products are often less expensive and perceived as superior in quality when compared to local products. For example, SA gas
container manufacturer Cadac has lost about 25 percent of its share in the local market to less
expensive imported products from Thailand and Portugal. Cadac blames its loses on the high
cost of imported valves and inflated prices paid for steel produced by ISCOR. ISCOR employs
import parity pricing which results in domestic buyers paying more than foreign buyers for
ISCORs steel.32

Exporters . . . products are often less expensive and perceived as

superior in quality when compared to local products
Many consumer durables manufactured in SA are indeed inferior to imported products,
notably white goods and electronics.33 Despite the quality of their products, US firms exporting goods and services to SA still face numerous trade barriers. These include trade permits;
increases and reclassification of tariffs due to the lobbying of SA competitors and labor unions;
questionable anti-dumping action against foreign firms; rebates that restrict exports to SA,
notably textiles and automobile parts; customs duties; bureaucratic delays for products that
must meet regulatory standards; government export subsidies to SA competitors; poor
protection of patent rights; and unfair competition from state monopolies in various industries.34 The anticipated free trade agreement (FTA) between the USA and the Southern African
Customs Union (SACU) will remove most of these barriers, if enforced, and will facilitate the
export mode of entry.
Lobbying and intelligence
The reduction of political risk is a long-term, incremental process in which lobbying is used to
achieve goals such as the strengthening of good governance and transparency, and the lessening
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of regulations. Intelligence monitoring is essential to track the progress of these goals, and
access to political decision-makers in SA and in the firms home country is an advantage.
Obviously, large multinationals have an advantage over SMEs as lobbyists and campaign
finance contributorsnonetheless, all firms, regardless of size, should endeavor to influence
economic decision-making. Interest aggregation is the most effective form of lobbying, and
trade associationsindustry based or countrywidewill be more effective lobbyist than individual firms. Government consultations with interested parties offer opportunities during the
legislative process to influence bills dealing with labor relations, free trade negotiations and
BEE. Presentations during the committee stage of a bill provide trade associations with a public
venue to shape legislation and regulatory outcomes. Political power in SA is concentrated in
the Executive rather than the Parliament, and thus the most effective lobbying efforts are those
directed primarily at the political executive (president and cabinet ministers) and the bureaucratic executive (managers of government departments and SOEs).
Firms may utilize lobbying to renegotiate the terms of BEE industry charters. The mining
sector and its trade association, Chamber of Mines, have successfully lobbied the government
to reduce the 51 percent quota to 26 percent for equity ownership for BEE firms within ten
years. The governments prescribed ten-year term for mining companies to underwrite R100bn
to finance black equity ownership has been reduced through negotiations to five years. The
experience of the mining sector with other BEE targets shows that it will be difficult and costly
to effect change within a ten-year period. Negotiations or lobbying, rather than noncompliance, will determine adjusted BEE timeframes and targets. The ten-year target of 26 percent BEE equity ownership will be subject to the availability of debt finance and the presence of
willing sellers-buyers. Foreign investors will be frightened if stocks are not sold at fair market
value and within the bounds of acceptable risk exposure. Firms may lobby the government for
tax incentives to offset additional costs and risks incurred with the implementation of BEE
quotas.35
For the next few years, FTA negotiations between the USA and SACUof which SA is the
dominant memberwill be ongoing. The institutions, laws and practices that will shape free
trade between the USA and SACU will be established. Firms and trade associations have a
unique opportunity to lobby the USA and SA governments to further deregulation, to improve
good governance (transparency, capacity building and anti-corruption), and to establish fair
competition for government procurement contracts. SA concluded a FTA with the EU in 1999
and is currently pursuing FTAs with the US, China, India and Mercusor which will afford
similar opportunities to influence the long-term outcomes.36
To retain competitive advantage in an emerging market like SA, it is vital that firms maintain sound intelligence in anticipating risk-generating events and behavior of key stakeholders.
Domestic and international issues that create uncertainty and could potentially degenerate into
crises must be continuously monitored with a long-term perspective in mind. If SA moves
from an in-gear to a top-gear scenario, risks will dissipate and more business opportunities will
emerge. However, contraction of operations to limit losses might be necessary if the economy
slides from an in-gear to a reverse-gear scenario. Political, economic and business data are
freely available due to the global reach of the Internet and the IT connectedness and sophistication of the SA business and communication environment. Outsourcing risk management to
SA or global consulting firms is another sound option.

. . it is vital that firms maintain sound intelligence in anticipating riskgenerating events and behavior of key stakeholders
270

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Low tolerance for corruption

A commonly held perception is that firms must bribe to stay competitive in emerging markets.
Facilitation such as small payments, gifts and favors will remain a necessary element to smooth
business in SA. Large-scale corruption was revealed in SA when the PAC opposition party
exposed bribes to politicians in a $5bn arms deal. A permissive culture requires managers to
remain vigilant about corruption. Government procurement contracts will remain susceptible
to bribes and kickbacks in the long run. The latest BEE prescription for affirmative procurement will not eliminate briberys root causes, i.e. conflicts of interest, nepotism and the selfenrichment schemes of officials. Prosecution rates for corruption and white-collar fraud will
remain at low levels due to lack of capacity. In dealing with government agencies, firms should
not assume that officials will necessarily follow laws and procurement rules. Dealing with provincial governments is especially difficult since political and bureaucratic oversight is poor.
Many companies appoint well-connected black board members to guide them through the
procurement process, the uncertainties of BEE policies and the intricate relationship between
the ANC and new emerging companies and consortiums dominated by black shareholders.
The anticipated US-SACU FTA will hopefully improve transparency in procurement and
licensing practices in SA.37
The Foreign Corruption Practices Act (FCPA) of 1977 outlaws the payment of bribes by
American firms to foreign officials and politicians anywhere in the world. The UK adopted
similar legislation in 2002. The OECD Convention on Bribery, signed by 35 countries in 1997,
decrees that enterprises should not, directly or indirectly, offer, promise, give, or demand a
bribe or other undue advantages to obtain or retain business. The pace of prosecution has
increased and has been expanded to include the prosecution of subsidiaries of parent companies in emerging or foreign markets and non-resident foreign nationals.
Firms operating in SA may take practical, nuanced steps to establish a low tolerance policy
for corruption. First, they should provide employees with clear advice on the steps to be followed when they suspect that bribes are being offered or demanded. Employees need telephone
numbers and emails to report suspicious incidents. A wise firm will not only protect whistleblowers but reward them for their ethical behavior. Second, training is essential. Although a
bribe occurs as part of a brief transaction, the process that leads up to it is often what makes
the bribe possible. Training may assist employees to recognize early warning signals. Third,
carefully designed internal audit procedures may help flush-out bribes disguised as legitimate
transactions (e.g. agents commissions). Fourth, due diligence is essential to avoid unintended
future liabilities arising from government procurement contracts. Fifth, benchmark the best
practices of firms that have successfully executed low tolerance policies toward corruption, e.g.
Friends Ivory & Sime, a large UK fund manager; United Technologies, the US conglomerate;
and the multinational Proctor & Gamble. Their experience demonstrates that the elimination
of bribery had no adverse impact on profitability.
Financial instruments
A full range of products exists in SA for hedging foreign exchange and interest risks, ranging
from overnight money market rates through the 25-year benchmark government bond to cross
currency and interest rate swaps and a repo market. Firms can hedge their interest rate risk and
lower their cost of capital while putting surplus capital to work efficiently. A steady external
debt rating of Baa2/BBB-/BBB3 and a local currency rating of A2/A- means that SA may effectively access both domestic and international markets to raise debt more cheaply. The continuous benchmark government yield curve has also helped SA issuers such as Eskom and the
Development Bank of South Africa to issue domestic bonds. International corporations and
supra-nationals may issue Rand bonds with a variety of maturities and issuers, thereby facilitating transparency and efficient allocation of capital.38
Equity transfers, the typical BEE deal, must be done in a sustainable manner. Risk involves
the transfer of equity from those who have money to those who do not. The pressure for quick
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equity transfers to hastily-created consortiums comes at the risk of insufficient attention to due
diligence and financial scrutiny. Commercial loans, instead of financial engineering and specialpurpose vehicles, should be used to protect a firms competitive advantage and shareholder
gains, and to limit financial distress among BEE firms. In any deal, the gearing risk of BEE
firms (debt or cover ratio) should be determined before a sale. Firms may exploit BEE by selling under performing business units to BEE firms.39

. . . quick equity transfers to hastily-created consortiums come at the

risk of insufficient attention to due diligence and financial scrutiny
Risk insurance, albeit costly, is a prudent way to share the risk burden since emerging markets are susceptible to sudden and dramatic shocks. Government sponsored, multilateral and
private insurances are available for foreign investors. For example, the World Banks Multilateral
Investment Guarantee Agency charges investors between 1.2 percent and 6 percent of their
investments value to protect against all political risks. The UK government provides insurance
(amber zone budget of the ECGD) for capital goods exporters doing business in emerging
markets such as SA.40 The USAs Overseas Private Investment Corporation also provides similar risk insurance.
Shareholder versus stakeholder interests
With the introduction of BEE, firms are pushed away from shareholder wealth maximization
(SWM) towards a model of corporate wealth maximization (CWM). In the SWM model, firms
assume responsibility for operational and market risks, but the individual investor is responsible for personal investment decisions. For SWM, the dominant goal of firms is to achieve satisfactory returns for shareholders. Company governance is based on one-share-one-vote,
although abuses of the agent-principle practice have somewhat undermined the SWM model.
The model emerging in SA is closely related to CWM. Firms should not only pursue profits,
but also advance the governments policy for the economic empowerment of the disadvantaged
black majority. The government considers business enterprises as social institutions that
should treat other corporate interest groups or stakeholders on par with shareholders. These
stakeholders include government, management and employees, trade unions, disadvantaged
communities, suppliers and even NGOs. BEE policy will increase the stakeholder role of
government in the business environment. The government aim is to co-opt firms without
coercion as partners in the provision of public goods to society while at the same time allowing
firms to pursue profits, albeit at a lower return rate.
Even if firms embrace the SWM model, a reduction of operational risk will require a managerial strategy that addresses the welfare and safety of employees. The pursuit of profitability
and market share must have a human face.

The pursuit of profitability and market share must have a human face
Some firms, such as Anglo American and Old Mutual, have adopted comprehensive health
care programs, including provision of free anti-retroviral therapy. These programs have
reduced long-term costs by 3240 percent. SMEs, with fewer resources, will still benefit by providing prevention information to employees. By spending $1015 per worker, the infection
rate may be reduced by as much as 50 percent. It is essential for firms to calculate fully the cost
of HIV/Aids. This includes individual costs, direct (medical care) and indirect (productivity
losses); and organizational costs, direct (insurance premiums) and indirect (managerial time
and depressed morale). The cost of Aids accumulates over time as the health of a worker dete272

Risk management and the business environment in South Africa

riorates. The SA Institute of Chartered Accountants favors the inclusion of Aids costs as a balance sheet item. The cost of prevention may range from 0.4 percent to 5.9 percent of a firms
annual wage bill.41 However, firms are not solely responsible for fighting HIV/Aids, but should
develop a coordinated strategy with other stakeholders such as medical scheme providers,
government agencies, NGOs like the Global Fund, labor unions such as COSATU and trade
associations.
Firms will also incur additional crime prevention costs including (1) employee training and
counseling for personal safety issues such as kidnapping, rape and carjacking; (2) surveillance
of workplace, plant and warehouse, and supply chain; and (3) associated insurance coverage
for loss and liability.
Firms operating in SA already add value to many stakeholders via direct and indirect taxes;
interest to lenders; rent to landlords; and wages, salaries and benefits to employees. The BEE
policy will, at least in the short-term, add additional value to many stakeholders that will come
at the cost of shareholder dividends and returns unless high economic growth rates increase
sales to consumers. BEE requirements that suppliers (B2B, B2C) should be at least 51 percent
black owned may have a disruptive impact on supply chains that have been built over time.
Three coping strategies have emerged:
1. frontingthe practice of firms to use businesses controlled by Blacks or women to acquire
procurement contracts;
2. first-to-marketthe oil firm, Engen, moved first to award a tender for freight and cleaning
to Emtateni Freight Plus, a BEE supplier with a solid reputation; and
3. non-complianceSMEs, often family owned, lack the resources to meet BEE requirements.
The BEE policy will also increase demands for corporate social investment (CSI). Although
the demand is still at the low rate, firms will be expected in the long range to provide more
public goods such as education, crime prevention and health care to disadvantaged communities. Firms may benchmark the CSI of SAs National Business Initiative or banks such as
Citibank, Westpac (Australia) and Standard Bank (SA).42

Conclusion
Risk management in SA requires the identification of specific risks and their adverse impact on
business. A number of response strategies are suggested to reduce exposure to long-term risks.
As part of strategy, these policies offer a more focused approach to deal with risk, something lost
in the aggregated rankings in country analysis. The utility of our framework requires further
application in SA. The uncertainties in many sectors in SA challenge managers to understand
and control industry or firm specific risks more effectively. For management researchers faced
with multidisciplinary demands to understand risk management in foreign markets, continued
exploration is essential to comprehend the impact of politics and other non-market forces on
business decision-making. The future role of the SA government as an owner and co-opter or
consumer and business-friendly rule-maker will determine market attractiveness in SA.

The (many) uncertainties in SA challenge managers to understand and

control industry or firm specific risks more effectively
Our intention was to develop a risk management framework and apply it to SA. Any generalization based upon our analysis about risk management in other emerging markets is
premature. However, our framework and its three related elements (risk type, risk impact,
managerial response) may be refined and expanded for possible application in case studies or
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comparative studies of emerging markets. This will be a positive step in identifying potential
common trends in risk management in societies in the process of political, economic and
social transformation.

Acknowledgements
The authors would like to acknowledge the helpful comments of two anonymous reviewers
and the editor as well as Philip Court, Pieter Haasbroek, Jorge Jara and Wilbert Baerwaldt.

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Biographies
Jay van Wyk is an international business consultant and the author of Contemporary Democracy, published by
Congressional Quarterly. He holds a Ph.D. in International Relations/Political Science from the University of Pretoria, a MBA from Purdue University and a MBA from Tilburg University, The Netherlands. Meerkat Associates, 6
Camino Norte Vista, Placitas, New Mexico 87043 USA Tel: 1-505-771-0463 Email: meerkat@nm.net
William Dahmer is a Managing Director at Reserve Invest Cyprus Limited. His experience is in banking, treasury
and finance with a special focus on the emerging markets of EEMEA. He holds a MSM from Purdue University and
a MBA from Tilburg University in The Netherlands. He is a FSA Registered Person and an Affiliate Member of the
Securities Institute in the U.K. Reserve Invest Cyprus Ltd., Bld. 1, 47 Bolshaya Polyanka St., 119180 Moscow, Russia.
Tel: 7 095 929 9526 ext. 1247 Email: William.dahmer@capital-ig.ru
Mary C. Custy is an international business consultant focusing on legal and political issues in emerging markets.
She holds a JD and MA in International Relations from the University of South Carolina and a MLIS from Catholic
University of America. She is the author of Jurisprudence of United States Constitutional Interpretation, published
by Fred B. Rothman Publications. Meerkat Associates, 6 Camino Norte Vista, Placitas, New Mexico 87043 USA.
Tel: 1-505-771-0463 Email: meerkat@nm.net

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