Comment: Draft preferential procurement regulations' effect on currently exempt SOEs

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commentary.jpgAshney Chetty, Manager of Policy and Governance at Transnet, and her group offer the following commentary on the draft Preferential Procurement Regulations (“the Regulations”) to SmartProcurement readers. It will focus on the impact and effects of the Regulations upon SOEs that are currently exempted from the PPPFA.

“It is commendable that National Treasury has decided to finally align the Preferential Procurement Policy Framework (PPPFA) with the Broad-Based Black Economic Empowerment (BBBEE) Act. Many State Owned Enterprises (SOEs) adopted the DTi’s BBBEE Codes of Good Practice methodology as early as 2006 and thereafter struggled to align the DTi Codes’ thresholds with the preferences in the PPPFA.”

Ashney Chetty.jpg"Many SOEs that are exempt from the PPPFA have, however, endorsed in their policies the underlying principles of the PPPFA in order to further the objectives of the BBBEE Act by allowing for a system of preferences for BBBEE companies. Many SOEs have considerable concerns regarding the proposal to make SOEs subject to the Regulations.

Application of Regulations to all Organs of State

“The PPPFA and the current Regulations apply to certain listed organs of state, and other entities that have been recognised by the Minister by notice in the Gazette. The PPPFA and the current Regulations do not apply to numerous SOEs as the Minister has not extended the application of the legislation to these SOEs by notice in the Gazette. Many currently exempt SOEs are concerned that the intention is to extend the Draft Regulations to encompass them as well.

“The procurement activity embarked upon by SOEs, especially those involved in mega capital projects and infrastructure development, requires far more robust and innovative procurement processes than Section 2 of the PPPFA and Regulations allow. As an example, the PPPFA does not allow for the principle of post tender negotiations.

Commercial Considerations

“SOEs are at different stages in their respective journeys to achieving world class procurement processes in their supply chains. In spite of this challenge, SOEs must be able to respond in a prompt and efficient manner to market forces such as globalisation, funding constraints and capital leakage. If subjected to the PPPFA and Regulations, SOEs would become uncompetitive and this will lead to an increase in the cost of doing business in South Africa.

“Some SOEs such as Eskom, Transnet and PetroSA have embarked upon huge multi-billion Rand infrastructure programmes that involve the procurement of highly specialised goods and services from a limited number of suppliers. These SOEs are forced to procure a large percentage of their requirements from foreign companies and Original Equipment Manufacturers (OEMs). Constant changes in overseas markets require SOEs to modify their policies to meet operational demands that are unique to their environment and supply base. Therefore, SOEs operating in this environment require a great degree of flexibility in their processes to accommodate these complex and unique requirements. The imposition of rigid rules and inflexible processes such as those contained in the PPPFA and Regulations would compel SOEs to operate within a highly prescriptive procurement environment, which would in turn reduce its responsiveness and increase its costs. Experience has shown that failure to respond rapidly to a change in the market has cost SOEs invaluable time in securing deals and deriving value for money. If a SOE is required to lobby National Treasury for exclusions based on unique occurrences every time it procures from international suppliers this would severely impact on its ability to deliver in a timely manner and will increase its procurement administrative costs.

“Transnet has incorporated into its procurement process the possibility of negotiation with a preferred bidder or a shortlist of preferred bidders. Negotiation offers substantial savings, clarification of scope and the achievement of optimal value for money. However, negotiation with a shortlist of preferred bidders may create the possibility that the bidder that scored the highest points initially, may not be the highest ranked after negotiation. This is at variance with the Regulations, which state that business must be awarded to the bid with the highest number of points scored. Although the Regulations also provide that a bid may be awarded to an entity that did not score the highest points if there are “reasonable and justifiable grounds” for doing so, it is unclear whether such a decision could be based on the outcome of post tender negotiations.

“Transnet, unlike most other organs of state, sells its services to the public at large and is dependent on revenue and external lending to fund its own operations and infrastructure programmes. Untimely procurement delays and less than optimal cost of goods and services has the potential to increase the cost of Transnet’s products, which is passed on to its consumers, thus making South African businesses less competitive globally. Obtaining value for money is vital to ensure the commercial viability of Transnet and strict adherence to the Regulations will not allow it this capacity. Transnet’s ability to attract foreign investment is reduced the more it is perceived as unable to procure in a professional and world class manner. This increases the cost of borrowing, which is also passed on to Transnet’s consumers.

“SOEs conduct a significant percentage of their business with international suppliers. Although the PPPFA allows for organs of state to be exempted from the provisions of the PPPFA if the likely bidders are international suppliers, SOEs would have to request such an exemption from the Minister in each and every instance. This would create a cumbersome and unworkable situation, which would have a huge impact on administrative costs since additional staff would be required for the task and it would cause unnecessary delays in concluding tenders.

“Transnet and Eskom have adopted the Competitive Supplier Development Programme (CSDP) to ensure that skills and intellectual property are transferred to the South African supply base to make it globally competitive, which, in turn, will lower costs locally. It is bad practice to force an international supplier to partner with a local entity to build a “fronting” agency. A forced relationship, rather than a partnering approach, reduces value for money and increases the potential instance of fraud.

“The Draft Regulations do not take into consideration a SOEs unique business and commercial challenges. If SOEs are not exempted from the Draft Regulations, consideration must be given to a workable provision on how exemptions, especially with regard to purchases from OEMs, Joint Ventures, CSDP purchases, etc., will be dealt with.

Legality of Regulations

“It is possible for legal challenges to arise from the inherent conflict between the ambit of the PPPFA and the widening ambit of the Regulations, which is subordinate legislation to the PPPFA. It is of concern that unsuccessful bidders may challenge the legality of the Regulations as a basis on which to attack tender processes and awards:

  • Section 217 of the Constitution and the PPPFA itself only provide for the procurement of, or contracting for, goods and services. However, the Regulations apply to both the procuring of goods and services, and the sale and letting of assets. Consequently, the Regulations would appear to be ultra vires the PPPFA, which is limited to the regulation of procurement.
  • Section 2(1)(d)(i) of the PPPFA provides that preference points may be given to persons historically disadvantaged by unfair discrimination on the basis of race, gender or disability. Hence, white females and white disabled persons theoretically qualify for preference under the PPPFA. The Regulations, however, do not give preference to gender and disability and focus only on race. The Regulations appear to unduly restrict the intended scope of the PPPFA.

Terminology

“The terminology used in the Regulations is not aligned with the definitions and terminology used in the PPPFA. It is suggested that the wording and terminology of the Regulations be reviewed to ensure consistency with the PPPFA.

“The formula provided in these Regulations is used to calculate the points for “price”. However, it is vital that the Total Cost of Ownership (TCO) is taken into account when determining points for price. The Regulations do not make provision for an assessment based on TCO. In applying the formula a bidder could obtain a negative value for points scored on price. Instead of a negative score, it is suggested that a bidder who obtains a negative score for price be deemed to have scored zero for price.

“The way in which functionality is defined in the Regulations may exclude requirements such as safety. Since safety is a crucial requirement in most bids, consideration must be given to including a reference to safety in the definition of functionality.

“The automatic cancellation of bids that do not fall within the prescribed threshold is costly and time-consuming. Despite the best efforts of an SOE at estimating the value of a bid, all bids received in response to a specific tender may be in excess of the estimated value. It is best that organs of state apply the 80/20 and 90/10 principle once they know the value of the lowest acceptable bid. For example, if all bids received are above R1-million then the 90/10 principle should automatically apply.

“The requirement that the bid invitation must be cancelled if all bids received fall outside the applicable threshold has serious implications for construction related bids. The CIDB Practice Notes prevent an employer (SOE) from re-issuing a bid within 6 months of cancellation of the initial bid invitation. Thus, if a construction related bid is cancelled in accordance with Regulation 10, the bid would be delayed by 6 months, which would unnecessarily delay the construction of infrastructure projects.

“It is suggested that a provision be made to include corruption and tender irregularities as grounds for cancelling a tender.

“The Regulations require an EME that improves on its BBBEE status to provide a certificate from a verification agency substantiating its improved status. The costs of obtaining a verification certificate would be prohibitive for most EMEs thus preventing them from providing proof of their improved status.

“The Regulations provide that bidders should not be disqualified or regarded as non responsive for being a non compliant BBBEE contributor. These bidders would score zero for BBBEE. However, other government policies prescribe minimum BBBEE levels as a prerequisite for government contracts. The Department of Public Enterprises prescribes minimum BBBEE levels for the sale of non-core property belonging to SOEs. Regulation 3(1) of the National Port Regulations 2007 provides that in the second, third and fourth years following the commencement of the Regulations at least 25% per year of all agreements, licenses, concessions, sales or leases of property and partnerships with the private sector must be entered into, issued or granted by the Authority to persons or entities who have attained as least a Level 4 status in terms of the Codes of Good Practice. From the fifth year, Regulation 3(2) provides that this percentage be increased to at least 75%. Transnet is, therefore, placed in the invidious position of having to observe conflicting pieces of legislation.

“The Regulations state that should two or more bids score equally in all respects (price, preference and functionality) the award should be decided by the drawing of lots. However, drawing lots to determine a tender award could subject the process to a charge of being arbitrary and irrational and thus not in compliance with the standard of administrative justice as outlined in section 33 of the Constitution and PAJA. A better option is to pre-determine “tie-breaking criteria” that would apply in the event of a tie. This provides for a sound and equitable determination of a bid.

“The proposal that the State only enter into contracts with entities whose tax affairs are in order is sound, however, this requirement will unfairly disqualify a supplier that has a legitimate but as yet unresolved dispute with SARS. Where such a dispute exists, an inflexible enforcement of this rule could create difficulties for SOEs in instances where the supplier concerned is a sole supplier providing goods or services that are critical to the operations of the SOE. A provision should be made for deviations in cases where the dispute is not material and there are compelling reasons to contract with the supplier.

“Furthermore, the Regulations are silent on the manner in which the preference point system would apply in instances of emergency or urgency.

Conclusion

“SOEs have always supported and implemented the spirit of the PPPFA Regulations and the BBBEE Codes of Good Practice as part of their Procurement Policies. However, application of the regulations is too rigid and mechanistic for SOEs. As stated above, SOE’s require a great degree of flexibility in order to operate in a commercially challenging environment. Therefore consideration should be given to more flexible procurement process in the Regulations that would allow for innovative procurement processes to meet the many challenges SOEs face in the procurement arena.

SmartProcurement would like to thank Ashney Chetty and her team at Transnet, Peter Volmink, Rishana Sunderlall and Wynand Esterhuizen for providing their opinions on the draft regulations’ implications.
 

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