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MS empowerment deal sets benchmark


Johannesburg, 29 Mar 2011

Software giant Microsoft could end up spending more than the R475 million it has earmarked for investment into empowerment partners.

It has agreed to spend 4% of its annual revenue - for the next seven years - on small companies in the ICT sector.

In addition, the Department of Trade and Industry (DTI) is looking at how it can leverage Microsoft's equity equivalency plan as a way of unlocking future potential investments of about R40 billion from other multinationals operating in SA.

The company this morning unveiled the first four companies with which it will partner, as the first step in its seven-year equity equivalency plan, which analysts have previously hailed as “unique”.

Microsoft will provide funding and advice to help the companies - BUI, Chillisoft, Home Grown and Maxxor - grow internationally and become globally competitive, but will not take an equity stake in return.

The announcement has been a long time coming, as Microsoft first stated its intention to invest R475 million in a handful of small empowerment companies in the sector last April.

Microsoft SA MD Mteto Nyati says he is “excited” to finally announce the partners, after spending two-and-half years working on the equity plan.

The local software company and the DTI also spent 18 months in talks to iron out differences over funding. Also discussed was how Microsoft would be monitored to ensure it earns the 20 points that will take it from a level four empowerment contributor to level two, the second-highest possible.

Microsoft initially expected to announce the first handful of partners in October, and then last month. However, the announcement was held up when concerns arose within the DTI over how to measure the outcomes of the equity equivalency plan.

First of its kind

Nyati says many companies have been on “this journey” for longer than Microsoft and “are still nowhere”. He adds that with the ground-breaking deal being finalised, other companies can use it as a model for their plans.

The chosen

Johannesburg-based BUI focuses on security software solutions and services. Its current clients include Standard Bank, Nedbank, Investec, Absa, South African Police Service, Department of Justice, National Prosecuting Authority, Primedia and Famous Brands. It is a level one empowerment contributor and has 18 staff with branches in Johannesburg and Cape Town.
Durban-based Home Grown specialises in the design and development of custom application software, and has been in business for the past five years. It has designed a prepaid electricity open-platform solution for municipalities, allowing rural communities access to prepaid electricity, water, rates and airtime remotely, as it includes a central payment mechanism. It has six staff members.
Cape-Town based Maxxor provides custom software development and Web development services. It develops Web and mobile applications on the Microsoft platform and has 30 staff members. It is a level one empowerment contributor.
Pietermaritzburg-based Chillisoft develops software for use in the healthcare sector. Its clients include government and parastatals, manufacturing, forestry and paper, software companies and the health sector. It has 22 staff members. Its core skill is software development using Microsoft technologies.

One of the hurdles Microsoft faced was that the DTI wanted it to put the full amount in a special purpose vehicle to fund the entire deal. However, as the local company is funding the entire amount, this would have crippled it, says Nyati.

Instead, Microsoft and the DTI agreed the company would ring-fence 4% of annual revenue over the next seven years, which could increase the value to beyond the initial R475 million, says Nyati. However, the final amount cannot be predicted, as the company's revenue will grow each year, he points out.

Nyati says, before Microsoft even went to the department, it had an independent company value the local unit. This formed a starting point for negotiations between the DTI and Microsoft, and ensured the company invested a sufficient amount to earn its 20 points, instead of selling a stake to equity partners.

The department's acting deputy DG, Sipho Zikode, says “there was a lot of fighting between Microsoft and the department”, but the end result is worth it. He notes there has been a trend in empowerment deals where people benefit, but don't even know how the company operates.

Zikode says beneficiaries “just get a cheque at the end of the financial year”, without contributing to the economy. He says allowing equity equivalency plans enables multinationals, which often can't sell a stake, to invest in the economy and help small companies become globally competitive.

The Microsoft deal was the most challenging equity equivalency deal the department has dealt with, says Zikode, and different to all other projects it has looked at.

However, says Zikode, the department has “learnt our lessons” from the Microsoft deal and is encouraging multinationals to invest in deals such as the one unveiled this morning. In addition, he comments, the department wants to encourage multinationals to invest in funds that collectively can be put into similar programmes.

Mvuzo Mtyhobile, the department's director of BEE transformation, notes there is about R40 billion that can conservatively be unlocked by allowing multinationals to undertake equivalency deals.

Mtyhobile says the department is consulting other government departments to locate investment areas. He explains that these would be offered to multinationals as an investment “menu”, which would speed up empowerment in SA.

More to come

The software company received more than 680 applications from prospective companies in response to its nationwide request for proposals. Of these, 141 met the qualifying criteria, and were whittled down further through a selection panel.

The four companies were chosen after a panel - including representatives from the Black Management Forum, the UKZN Centre for Entrepreneurship and well-known venture capitalist head Julia Fourie - short-listed 12 companies. These firms were invited to present their business plans and demo their technologies to the panel.

Microsoft will cap the number of partners it works with to 10 during the seven-year period, with a minimum of five partners, says Nyati. He adds that the first four partners will spend the next few months working with independent consultants to develop a business plan, which will then determine how much funding each will receive.

Microsoft, its advisors and venture capital backers Vunani will immediately start working with the successful companies to establish their specific needs.

“Some companies may need more help with marketing; others with recruitment; others with building a watertight business model to take their product global,” explains Kethan Parbhoo, equity equivalence lead at Microsoft SA.

The company will launch another round later this year to identify more “great” companies, says Nyati. He points out that the model the local company has developed may be replicated by other Microsoft subsidiaries globally where there is a similar empowerment requirement.

Nyati adds it is important that the deal helps address challenges facing the country, such as the need to create jobs. Government wants to create five million jobs in the next decade.

SA is a net importer of technology, says Nyati. He believes the country can do better and become a global player in the same way that Israel is, for example.

The partners will also be given a boost through the opportunity to have their applications bundled with Microsoft offerings, notes Nyati. He says this will aid them to gain visibility and become global players.

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