South African M&A markets have sprung back to life in 2024 after a challenging period where tepid economic performance, intermittent electricity blackouts and wider global headwinds inhibited dealmaking.
In H1 2024, the aggregate value of deals targeting South African assets totaled just over US$12.9 billion, according to Mergermarket. This is almost double the full-year total for 2023 and represents the best H1 deal figures since 2021.
A peaceful general election in May, which has led to the formation of a Government of National Unity, coupled with less frequent power outages and cooling inflation bode well for dealmaking for the rest of 2024 and in 2025.
Navigating regulatory change
Dealmakers pursuing deal targets in the country must be mindful of a fluid regulatory and compliance backdrop for South African dealmaking across multiple areas, including benchmark interest rate changes; anti-money laundering (AML) and know-your-client (KYC) frameworks; and public-private takeover financing rules.
These dynamics are manageable with the right advice and thorough preparation. Thus, leaving regulatory and compliance matters until the end of a deal process can lead to unwelcome surprises, delays and even broken deals.
There are three key areas that dealmakers must examine when considering bidding for South African assets:
1. Switch in benchmark interest rates
Following in the footsteps of US and European debt markets—where benchmark interest rates have transitioned from the discredited London Interbank Offered Rate (LIBOR) to the Secured Overnight Financing Rate (SOFR) in the US and Sterling Overnight Index Average (SONIA) in the UK—South Africa is also transitioning its benchmark interest rates.
South Africa is winding down the use of the forward-looking Johannesburg Interbank Average Rate (JIBAR) and shifting to the alternative “risk free” South African Rand Overnight Index Average (ZARONIA) benchmark. The South African Reserve Bank (SARB) has signaled that it will cease publication of a JIBAR rate at a date still to be confirmed and has indicated that market participants are strongly encouraged to minimize the amount of JIBAR-related exposure during the transition period. It is currently anticipated that the cessation of JIBAR will take place in 2026, by which time the rate switch to ZARONIA under existing funding arrangements will need to be completed.
South African lenders and borrowers have benefitted from the experience of other jurisdictions that have already completed the switch to new benchmark rates. The Loan Market Association (LMA) has published an exposure draft, including guidance on rate-switch mechanics and fallback language, that outlines circumstances in which an existing JIBAR-linked loan will transition to a ZARONIA benchmark.
Banks have generally been happy to incorporate these provisions into agreements, although some lenders are waiting for the LMA exposure draft to be formally recognized and finalized in recommended form before including transition terms in documentation.
The SARB published ZARONIA on its website on November 1, 2022, and has indicated that ZARONIA may be used in financial contracts.
Banks and borrowers do have ZARONIA transition on their radars and are preparing accordingly, but with less than 18 months to go before the switch, dealmakers arranging deal financing that will be subject to the rate switch should be aware that there are still important details to finalize.
2. Sanctions, AML and KYC complexity
After the International Financial Action Task Force (FATF) placed South Africa on its “gray list” of countries for weaknesses in its money laundering and terrorism financing regulatory regime, South African authorities have taken several legislative and regulatory steps to address the FATF’s concerns.
It is hoped that South Africa could be taken off the “gray list” as early as 2025. The country is still implementing a program of legislative reforms to strengthen its AML and anti-terrorism financing regimes, particularly around mutual assistance protocols with other regulators. Until this process is complete, M&A investors, lenders and advisers may find it difficult to assess a potential deal’s compliance with the enhanced rules.
Compliance with international sanctions and export control regimes adds another layer of complexity. Many South African companies have extensive supplier and customer networks across the continent, raising the risk of connections with sanctioned countries and their satellites, and thus potentially contravening US, European and UK sanctions for banks and investors.
It is essential for investors and lenders to dedicate time to working through these compliance and regulatory matters early in the deal process and to undertake in-depth reviews before proceeding with transactions.
3. Takeover Regulation Panel rules
In public-to-private deal scenarios, bidders should be mindful that South Africa’s Takeover Regulation Panel is taking a firmer line on how bidders show proof of funds for take-private transactions.
Bidders have always had to show proof of funds when pursuing take-privates, with a confirmation of funds from banks sufficient to satisfy the regulator. However, recently, the regulator has taken a firmer stance on proof of funds interpretations and has required bank guarantees for proof of funds rather than just cash confirmations. In practice, the regulator’s stance (incorrectly in our view) is to treat cash confirmations as guarantees with the same consequences as the provider of a cash confirmation as if it had provided a guarantee.
These guarantees do come with additional costs and implementation complexities, and investors should factor the stricter position of the Takeover Regulation Panel into deal costings and timing.
An added complication for foreign bidders is that the guarantees must come from a local bank or local branch of a global bank. Setting up a structure to funnel financing from an offshore bank through a local financial institution or to provide the local bank with back-to-back guarantees or credit support can add complexity and prolong deal timelines. However, these requirements are not insurmountable and are manageable as long as they are factored into the timeline.
Planning ahead
The right advice and planning can help bidders smooth over these friction points, with options to structure the deal differently or carve out parts of a target business that may pose compliance problems.
With South Africa’s economic fundamentals improving and international bankers, private equity firms, companies and sovereign wealth funds seeing value in the market, putting in the extra work could prove well worth the effort.
