Enterprises, unlike bears, don’t hibernate: lockdown will cause the death of firms and people

Johannes Wessels
@johannesEOSA1

Government’s decision for a stringent lockdown has put at least 100,000 formal enterprises – incorporated and sole proprietorships – on death row by effectively freezing the economy. Unlike bears, firms do not hibernate well: without customers and clients buying their goods and services, they starve and die.

Business relief measures by the government and the funds established by the Ruperts, Oppenheimers, Motsepes and others may enable some enterprises to pull through. But a substantial percentage of formal SMEs will not. Not with an economy that is likely to retract by between 6 and 10%.

Enterprises are already in a predicament and have run up more losses than profits since 2014. SARS data shows that the assessed losses exceed the assessed taxable income for the period 2014 to 2018 by R830 billion (Figure 1).

An economy already damaged by anti-growth policies has now been dealt a vicious blow. The damage is systemic and a systemic approach is required to restore a healthy business environment.

Figure 1: The pre-Covid 19 situation of SA firms was dire

The economy doesn’t resemble Eskom’s electricity supply. Load-shedding means no electricity during the power lockdown, but when the switch is thrown on again with the transmission lines conveying electrical current, the lights burn, the fridges cool, the stoves cook and TVs entertain just like before. 

That is not how an economy works. 

The economy and the enterprises, as key players in that economy, form a complex system. There is a spontaneous unplanned enterprise order that emerges, based on the uncoordinated interactions from millions of people performing billions of choices on how to spend their money, with entrepreneurs responding to the run of the mill demand, and special entrepreneurs creating new demands through innovative products and services. Just as interdependence and symbiosis are crucial for the well-being of a large ecosystem like the Amazon rainforest, a spontaneous complex network of production, distribution and retail provide jobs and growth and opportunity.

This is the way the vast majority of the world population find their livelihoods since modernising beyond subsistence levels

Non-essential nonsense

The government, however, decided that lives are more important than livelihoods. That is a false choice. And it will cause the demise of both livelihoods and lives.

In centrist command fashion, the government decided:

  • some firms are “essential” and others not;
  • which goods and services are “essential” and can be sold, and which not, resulting in absolutely silly pettiness with shelves in supermarkets being taped with the sale of available products becoming a crime.
  • on-line shopping and delivery of “non-essential” goods like books, music, kitchen ware, clothing was stopped with Takealot losing R350 million in turnover in the first 3 weeks of lockdown;
  • fast food outlets and restaurants should not prepare and deliver meals and supermarket chains were instructed to stop selling prepared food;
  • dentists, dental surgeons and physiotherapists can only perform emergency interventions;
  • enterprise sectors with high face-to-face interaction but with low contagion risk since physical distancing can easily be observed were stopped (e.g. estate agents, personal trainers, mechanical and auto electrician workshops, sales of motor vehicles, garden services);
  • and the list doesn’t stop.

What did stop is the free choice of individuals and firms to procure or produce goods. Consumer spending has plummeted. Enterprises all around are in dire need. Whilst many, especially small formal enterprises, were in dire straits before the lockdown, the impact of an extended lockdown intensifies over time.

An exponential rate of firm destruction

It is a fallacy to think that the number of enterprises that will go out of business will be at a fixed ratio over time. The longer the lockdown, the higher the damage. Firms that could survive for three weeks may not survive for 4 or 5 weeks, let alone 8 or 10. The rate at which businesses will run out of reserves, scale down and shut down, will increase exponentially.

That may happen even to firms that can partially operate. A massive Builders Warehouse that may only sell items deemed by the government as essential, will not be able to pay its electricity bill or rent with the limited income due to denuded demand.

The exponential rate of enterprise destruction will also be accelerated by the interdependence of enterprises. If, by a government decree, all berry-bearing trees and shrubs and the blossoming vegetation would stop producing, bees, birds and butterflies will die at an increasing rate, and since pollination will not take place of annuals and the other fruit-bearing vegetation, more insects, birds and animals relying on these annuals or fruit, will starve and die as well.

Enterprises that may have the reserves to survive the lock-down, may go under afterwards, because important enterprises in the supply-side have succumb. The exemptions the government had granted on aspects of the labour laws, providing enterprises to operate with no-work-no-pay, reduced pay, and other options for the duration of the State of Disaster (SAD), will disappear immediately once SAD is lifted. Firms will immediately incur all labour related costs without demand being restored by the dictate.

A case in point is the hospitality industry where demand will remain low with people either afraid, or too out-of-pocket, to travel (this will be dealt with further in a future blog, specifically focusing on the hospitality industry.)  

Small formal SMEs particularly vulnerable

Whilst the lockdown impacts negatively on all businesses, whether formal or informal, whether incorporated or sole proprietorships, it is especially the segment of small formal enterprise that is the hardest hit from an enterprise survival perspective. Whilst some of the JSE-listed firms will go bust, the vast majority of them have proper financial arrangements in place to tide matters over. There will naturally be those which will be stunted and become targets for take-overs.

Informal businesses with a large percentage of informal job opportunities will suffer as well. But the vast majority of survivalist businesses would again emerge the day after lockdown.  They:

  • do not struggle to pay rent or a mortgage;
  • are not exposed to the compliance cost of labour law;
  • do not carry the costs of maintaining prescribed health and safety standards; and
  • in most cases are not exposed to debt. 

It is the formal SMEs that are most at risk. Before the lockdown regulations, firms with taxable income below R10 million disappeared at a rate of 31 per week.

The interventions by the various lifelines will limit the damage, but it will not suffice. The Rupert funded Sukuma Relief Programme, administered by Business Partners and the Oppenheimer funded SA Future Trust administered by five banks for SME clients of these banks, cannot meet all the requests from businesses in distress.  Neither will the governmental programmes succeed therein.

Considering that there are at least an equivalent number of sole proprietorships than incorporated SMEs (companies, close corporations, trusts) with the latter around 300 000 in 2018, EOSA’s estimate is that at least one in six businesses will not survive the economic lockdown and its effects.

Get rid of the hostility against business

A more comprehensive approach that will create an enterprise-friendly environment is required. Mike Brown, CEO of Nedbank, openly referred to the hostility in government circles to business.

A more business-friendly environment would require government to step back from the interventionist and prescriptive mode they operate in. EOSA therefore proposes the following:

Lift the VAT ceiling & deregister vendors with a turnover under R2.5 million

Treasury and SARS should lift, retrospectively from 1 March 2020, the entry turnover level for VAT registration to at least R2.5 million and peg the turnover level then to CPI.

In addition, all VAT vendors with a turnover below R2.5 million should be deregistered by administrative decree (authorized by the required legislation) without a cumbersome administrative process required.

This will free a quarter million VAT vendors that constitute more than 50% of all VAT vendors (Figure 2).

Figure 2: A multitude of VAT vendors with low turnover

It will not only free the sole proprietors and owners of small businesses from administrative slog, it will also free SARS to apply their resources to the many cases of tax fraud that had occurred during state capture and to follow through.  The yield of the latter will exceed the VAT income forfeited through this step, since these vendors contribute around 2% of total VAT income (Figure 3)

Figure 3: Small VAT vendors contribute a minute percentage of VAT

CIT: take the mouse out of the mouse & elephant pie

SARS data on Company income tax (CIT) indicate that the thousands of small firms are contributing the proverbial mouse part in the one-elephant-one-mouse pie. Figure 4 indicate the percentage of the SME taxpayers with those with taxable income under R5 million constituting 86% of the SME taxpayers (the blue and red bands).

Figure 4: 85% of the SME taxpayers have taxable income under R5 million

The CIT paid by these 86% form only 29% of the CIT raised from SMEs (Figure 5).  

Figure 5: SMEs with taxable turnover under R5 million contribute 29 % of SME CIT

However, when considering the overall contribution of the SMEs with assessed taxable income below R5 million, it becomes almost negligible (Figure 6). In 2007 these companies contributed 0,489% of CIT and it had declined steadily to 0,322% of CIT in 2018

Figure 6: But their contribution to overall CIT is minimal

By reducing the company tax rate for firms with an assessed taxable income below R5 million to 5% and to peg it there for at least tax years 2021 to 2023, would enable existing SMEs to survive.

And it is far easier to retain jobs in enterprises than to create jobs. SA’s governmental efforts for job creation through enterprise stimulation has been as effective a cure as bloodletting for treating cancer.

 

Suspend BEE until it is revised to be growth compatible

Since 2006 the government is aware of the growth-retarding impact BEE has on the economy. The report by Ricardo Hausman as chair of the international panel of experts on ASGISA, however, was thrown in the garbage bin by government

To facilitate growth, all BEE measures should be suspended for 30 months by when a growth compatible BEE-system should be adopted.

Peg port tariffs to 10% below the world average

South Africa’s port tariffs are more than double the world average of port tariffs. That implies higher import as well as export costs, with all 60 million consumers in South Africa paying more for imported goods than would have been the case and SA exporters hamstrung against exporters with lower tariffs. Effectively consumers and businesses are, being compelled to use the state’s monopoly on ports, subsidising an inefficient Transnet to continue with the income from ports covering the more and more inefficient rail road system.

Pegging port tariffs immediately 10% below the world average would free the South African economy of the python-like stranglehold and to boost local consumption in the country (lower tariffs implying less costly imports) and more competitive exporters.

Stop retrying failed business development strategies

Stop retrying proven failed strategies

The Pandora Box of government interventions and incentives at all spheres to create and support enterprises (e.g. the cooperative drive, the Gazelle initiative, the One-household-two-cows scheme) have not yielded much success.

Continuing with these interventions amount to wasting money on proven failed approaches. These funds should be allocated to the Sukuma Relief Programme and the SA Future Trust to identify and finance enterprises with potential (including a SMEs loan guarantee scheme offering distressed enterprises with recovery potential loan finance at prime minus 2.5%).

Free SMEs from the bargaining councils

Labour laws should be reviewed: there is no decency or justice bullying SMEs with a turnover of below R20 million into the outcomes of bargaining councils.

How to finance these?

This is another topic, but the privatisation of the ports of Richards Bay, Durban, Ngqura, East London and Cape Town in a competitive manner would bring in much needed capital. By ensuring that these ports are owned and operated by at least five competing consortia, logistical efficiencies will also generate growth and an enabling environment for business development. Large port operators like Hamburger Hafen & Logistik AG, PSA International, DP World, Hutchison Port Holdings and APM Terminals could add, in addition to large SA like Bidvest and Grindrod, much value.

The next blogs will deal with the implications of the economic fall-out on medium and small towns, as well as on the hospitality industry.

Further reading: South Africa’s constant slide to the bottom – losing our competitiveness

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One thought on “Enterprises, unlike bears, don’t hibernate: lockdown will cause the death of firms and people

  1. As shown, the disappearance of 31 SMEs per week has mainly been the consequence of inappropriate government interventions in the economy. The lockdown has now hit the final nails in the coffins of thousands of the remaining SMEs. Who will survive this catastrophe?
    Pieter Haasbroek

    Like

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