South Africa: How safe for investment?
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Politics Web | 19 October 2017

South Africa: How safe for investment?

by Peter Leon

Remarks to the French-South African Chamber of Commerce & Industry, Peter Leon, Partner and Africa Co-Chair, Herbert Smith Freehills, Thursday, Johannesburg, 19 October 2017

Some key legal issues in South Africa’s foreign investment and trade policies

The South African economy

According to the French Embassy’s most recent update in June 2017, South Africa now hosts at least 371 French companies, which employ some 37,000 people. In addition, nearly 4 500 French companies export goods and services to South Africa.

According to the Banque de France, the French capital stock in South Africa has almost tripled since 2000, from EUR 337 million in 2000 to EUR 1.1 billion in 2015, making France South Africa’s thirteenth largest foreign investor, accounting for 0.8 per cent of the total foreign investment stock. Most of this is found in manufacturing, construction and financial services.[1]

In 2016, bilateral trade between France and South Africa (exports and imports together) increased by 4.4 per cent (recovering from a 6.4 per cent decline in 2015) to reach EUR 2.75 billion. Although South Africa was only France’s 41st largest export market (accounting 0.4 per cent of total French exports) and its 55th largest supplier (accounting for 0.2 per cent of total French imports), South Africa is France’s largest consumer and second-largest supplier in Sub-Saharan Africa.

French businesses thus have a significant interest in the strength and health of South Africa’s regulatory framework for foreign investment and trade.

Overview of changes in South Africa’s trade and investment policy

President Jacob Zuma’s Administration has, particularly in its second term (2014 - ) been more protectionist, inward looking and economically nationalistic than those of Thabo Mbeki (1999-2008) and Nelson Mandela (1994-1999, in which Mbeki, as Deputy President, was chiefly responsible for foreign economic policy).

The Mandela and Mbeki administrations sought to open up the South Africa’s ossified economy inherited from the apartheid era, notably through the following key measures:

In 1995, South Africa ratified the Marrakesh Agreement establishing the World Trade Organisation (“WTO”), including the General Agreement on Tariffs and Trade (“GATT”) and the General Agreement on Trade in Services (“GATS”).

Between 1995 and 1999, South Africa negotiated the Trade, Development and Co-operation Agreement ("TDCA") with the European Union ("EU"), which provisionally came into force in 2000 and fully in 2004. Under the TDCA, the EU offered to liberalise 95 per cent of its duties on South African originating products by 2010, and in turn South Africa offered to liberalise 86 per cent of its duties on EU originating products by 2012.[2] This asymmetry in liberalisation schedules for industrial products between the EU and South Africa was intended to provide for different respective levels of development.

Between 1995 and 2008, South Africa signed 48 bilateral investment treaties (“BITs”), 23 of which entered into force, including one with France (which was signed in 1995 and entered into force in 1997). Among other things, these BITs guaranteed investors: fair and equitable treatment, no less favourable than that afforded to local or other foreign investors; due process and immediate market value compensation for any expropriation; and direct recourse to international arbitration.

Since joining the Southern African Development Community ("SADC") in 1994, South Africa led efforts to develop it into a coherent and attractive investment zone. This culminated in the adoption of a Protocol on Finance and Investment (“SADC Protocol”) in 2006, which offered BIT-type protections to investors from anywhere in the world. The SADC Protocol only entered into force in 2010, after Mbeki had already left office.

In July 2010, days after South Africa bid farewell to its guests at the FIFA World Cup, President Zuma’s Cabinet resolved to renegotiate South Africa’s BITs, deeming them too restrictive of policy space for developmental reforms.

Between 2012 and 2015, reinterpreting this resolution (and bypassing Parliament unconstitutionally), the Department of Trade and Industry (“DTI”) unilaterally terminated South Africa’s BITs with Switzerland and thirteen EU member states, including France (the latter with effect from 30 August 2014).

The DTI purported to replace the BITs by expediting a bill through Parliament in 2015, to which President Zuma swiftly assented: the Protection of Investment Act affords foreign investors no protections beyond domestic law, and pointedly disavows investor-state international arbitration. Confronted with the fact that this Act was in conflict with the SADC Protocol, the DTI insisted that the SADC Protocol would be amended to confirm with the Act.

Over the same period, the DTI negotiated robustly with the EU to replace the TDCA with a free trade agreement which more closely aligned with the Zuma Administration’s trade policy. The resulting Economic Partnership Agreement (“EPA") between the EU and six SADC states (Botswana, Lesotho, Mozambique, Namibia, South Africa and Swaziland) was signed on 10 June 2016 and provisionally entered into force 10 October 2016 (pending ratification by all 28 EU member states, only those provisions falling under the EU’s exclusive competence currently apply).

A closer look at the EPA

Over the past week, EU Trade Commissioner Cecilia Malmström has been engaging the South African private sector to highlight the advantages offered under the EPA, such as asymmetric trade opening (similar to that under the TDCA), new and increased tariff rate quotas for South African exports to the EU, and the protection of geographical indications.[3]

Importantly, the EPA incorporates the GATT’s prohibition of quantitative restrictions on imports and exports. Such measures would thus constitute a breach not only of the GATT but equally of the EPA.

- An example of such a prohibited measure would be the beneficiation regime envisaged in the Mineral and Petroleum Resources Development Amendment Bill, 2013 which is still under consideration by Parliament. It would give the Minister of Mineral Resources virtually unlimited powers to fix quantities and qualities of “designated minerals” to be offered to local manufacturers effectively at a discount, failing which they may not be exported without the Minister’s prior written approval.[4]

- Such a regime would have significant implications for France, to which South Africa exported almost U$ 750 million worth of raw minerals last year.[5]

- The Bill has not become law, as it remains stuck in an intractable constitutional logjam. If its beneficiation provisions are enacted in some form, however, they would be vulnerable to constitutional attack, as they would likely be in breach of the GATT (and thus also of the EPA).

The EPA does, however (unlike the TDCA) permit South Africa to introduce temporary export duties or taxes for up to twelve years, on up to eight products, of up to ten per cent of the ad valorem export value of the product. South Africa would, however, have to exempt certain volumes of exports from the proposed tax or duty: for the first six years, an annual amount equal to the average volume of exports to the EU of the product over the three preceding years; and, from the seventh year, half of that amount.

It is possible, therefore, that the mining sector (among others) could see the introduction of export duties in accordance with the EPA. This would, however, be economically self-defeating, and more likely to harm than help downstream industries, as it would steadily diminish the primary mining sector’s productive capacity.

A closer look at the SADC Protocol

The promised amendment to the SADC Protocol was adopted by the SADC Summit of Heads of State and Government on 31 August 2016, and formally entered into force on 24 August 2017 after Botswana became the eighth State to sign the Agreement to amend the SADC Protocol on 31 July 2017.

The Amendment has fundamentally inverted the nature and purpose of the Protocol, by restricting the definition of “investor” to “a natural or a juridical person of a State Party making an investment in another State Party”. The Protocol will thus no longer afford protection to foreign investors generally but only to investors from other SADC States. The Amendment has also narrowed the definition of “investment”, by excluding government bonds, portfolio investments and claims to money that arise solely from commercial contracts.

The Amendment significantly narrowed the Protocol’s definition of “expropriation” by excluding any “measure of general application by a State Party that is designed and applied to protect or enhance legitimate public welfare objectives, such as public health, safety and the environment”. Moreover, it dilutes the standard of compensation for expropriation, altering it from “prompt, adequate and effective” (i.e. immediate market value compensation) to “fair and adequate compensation”, assessed as “an equitable balance between the public interest and interest of those affected, having regard to all relevant circumstances”, of which “fair market value” is only one. Finally, it provided that such compensation “may be paid yearly over a three-year period” if it would be “significantly burdensome on a Host State”.

Importantly, the Amendment removes the right to “fair and equitable treatment”, as well as the crucial guarantee that “State Parties shall not arbitrarily, and without good reason, amend or otherwise modify to the detriment of investors, the terms, conditions and any benefits specified in the letter of authorisation”.

Further, it qualifies the non-discrimination (national treatment) obligation by reference to vague notions of “like circumstances”. It qualified the right to repatriation of investments and returns, by allowing states to restrict the free transfer of funds “when necessitated by economic constraints that include but are not limited to: (a) difficulties for balance of payment purposes; (b) external financial difficulties; or (c) difficulties for macroeconomic management including monetary policy or exchange rate policy”.

Most significantly, the Amendment abolished investors’ right to submit investment disputes to international arbitration after exhausting any available domestic remedies.

With the exception of South Africa, SADC member states have not manifested any moves to terminate or renegotiate their existing BITs. Beyond that, official attitudes to BITs among the member states differ vastly. At one end of the spectrum, Mauritius and Zimbabwe intend to conclude more BITs. At the other, Botswana has placed a moratorium on entering into further BITs and has expressed scepticism about its existing BITs (much as South Africa did in 2009, three years before commencing its targeted termination of BITs).

Apart from South Africa, Namibia is the only SADC member state that has adopted domestic legislation clearly diluting and deviating from the standards of protection historically provided by BITs. Botswana has indicated an intention to introduce a domestic investment law, but has not disclosed whether it would follow the example set by South Africa, Namibia or the Amendment to the SADC Protocol.

A closer look as the BIT between South Africa and France

On 11 October 1995, South Africa and France signed an Accord sur l’encouragement et la protection reciproques des investissements, which entered into force on 22 June 1997. It was unilaterally terminated by South Africa with effect from 30 August 2014, after the required minimum of one year’s notice.

Importantly, however, the BIT contains a "sunset" clause, which extends protection, for a further period of twenty years, to French investments made before the effective date of termination. Thus, French investments made in South Africa before 30 August 2014 continue to enjoy the full protection afforded by the BIT until 29 August 2034. Such protection includes: fair and equitable treatment; unrestricted repatriation of funds; and access to international arbitration.

A closer look at the Protection of Investment Act

President Zuma assented to the Protection of Investment Act on 13 December 2015 (the same day that he reluctantly appointed Pravin Gordhan as Finance Minister, ending Des van Rooyen’s four-day tenure).

The provisions of the Act do little more than affirm the Government’s regulatory authority, rather than give foreign investors any assurance of a predictable regulatory environment conducive to investment.

The Act has yet to come into force, as regulations are still being finalized for the creation of a mediation facility for foreign investors (a somewhat weak substitute for international arbitration). The current draft regulations in fact further weaken foreign investors’ recourse to domestic mediation, by making it conditional on the consent of the government department concerned. Moreover, the mediation process prescribed in the current draft does not match international best practice, such as the International Bar Association’s Model Rules for Investor-State Mediation.

The International Arbitration Bill

One positive development, in April this year, was the introduction into Parliament of the long-overdue International Arbitration Bill, 2017, which will effectively replace the antiquated Arbitration Act, 1965, with the widely-recognised UNCITRAL Model Law. The 1965 Act was designed only for domestic disputes and is thus, according to the Department of Justice, “deficient for an expanding international trade and investment regime”. It affords domestic courts wide discretion to interfere with the functioning of any arbitral tribunal seated in South Africa, which is inimical to the efficiency and consistency that modern international businesses seek when selecting a seat for arbitration.

While the tabling of the Bill is welcome, it is insufficient, on its own and in its current form, to modernise South Africa’s arbitration framework and to persuade international businesses to place their confidence in it. The Bill’s potential is affected by the same insularity that has delayed its enactment for so many years, and has driven the country to move from rules-based investor-state arbitration back to the outdated and arbitrary regime of state-state diplomatic protection for foreign investments.

In particular, the Bill not only fails to provide for investor-state arbitration, but makes itself subject to the Protection of Investment Act, which provides that the South African government may consent to international investment arbitration only after exhaustion of domestic remedies and only if “[s]uch arbitration will be conducted between [South Africa] and the home state of the applicable investor”.

When Parliament begins to deliberate on the Bill later this year or early next year, it is crucial that legislators hear submissions from foreign businesses about the importance of remedying these defects to boost their confidence to invest further in South Africa.

Conclusion

As Africa’s most industrialised, technologically advanced and financially sophisticated jurisdiction, boasting a robust and well-respected judiciary, South Africa remains an almost irresistible trade partner and investment destination for French and other foreign businesses.

In an uncertain and increasingly competitive global economy, however, South Africa simply cannot afford to rest on its institutional laurels, let alone to erode them as the Zuma administration has, in many ways, set itself upon. It is critical that both foreign and local businesses continue to impress on this administration (as well as the one to come in 2019) the importance of establishing and maintaining a predictable and commercially sensible regulatory framework for trade and investment.

Footnotes:

[1] French investments in South Africa include, in the industrial sector: energy (EDF, AREVA, Engie), transport and logistics (Alstom, RATP DEV, Bollore, Necotrans, CMA-CGM), aeronautics and defence (AIRBUS, Thales, Safran), pharmaceuticals (Sanofi-Aventis, Servier, Virbac, Ceva, Biomerieux), petrol and chemicals (Total, Air Liquide), electrical equipment (Schneider, Nexans), mining (Imerys, Saint Gobain), vehicle manufacture (Renault, PSA, Faurecia, Michelin), construction materials (Lafarge, Saint Gobain, Colas, etc.); and in the services sector: advertising (JC Decaux, Publicis), engineering (Ingerop, Begreen), control (Veritas), telecommunications (Orange), consumer goods (L’Oréal, Danone), distribution (Decathlon, Leroy Merlin), financial services and auditing (BNP, Mazars).

[2] Under the Economic Partnership Agreement (“EPA") between the EU and six SADC states, the EU fully removed customs duties on 96.2 per cent of products imported from South Africa, and partially removed customs duties for 2.5 per cent of imported products. South Africa has likewise removed customs duties for approximately 86.2 per cent of products imported from the EU (fully for 74.1 per cent of products and partially for 12.1 per cent of products).

[3] See the annex to these speaker’s notes for more information.

[4] In international trade law terms, the local offer requirement amounts to an unlawful export quota regime, while the prior Ministerial approval requirement amounts to an export licensing regime, both of which are prohibited by the GATT and thus also by the EPA. See the annex to these speaker’s notes for more information.

[5] According to the United Nations Comtrade database (https://comtrade.un.org/data).

source: Politics Web