The Centre for Development and Enterprise (CDE) today called on the National Treasury to reconsider and withdraw the preferential procurement provisions in its draft public procurement regulations, warning that they will increase the cost of everything the state buys, delay delivery and create new opportunities for corruption.

This call is contained in a new CDE report, Buying Badly: How the draft procurement regulations will raise costs and deepen corruption, CDE’s formal submission on the draft General Public Procurement Regulations. These were published by the National Treasury in April and public comment closes on 15 July.

There is no authoritative estimate of the value of goods and services procured by government agencies and state-owned entities from the private sector each year, but it is considerably more than R500 billion.

Given its scale and its strategic importance, procurement should be one of the most important management functions in government. Procurement systems determine whether hospitals have medicines, gloves, oxygen, scanners and maintenance contracts. In policing, they determine whether detectives have cell phones and airtime, and whether they have vehicles and petrol. In education, they determine whether schools receive textbooks, meals, desks and infrastructure repairs.

Critical as the system is, public procurement in SA is a strategic failure, the source, all too frequently, of inflated costs and corrupt extraction.

CDE argues that two questions should govern any reform of public procurement: whether reform makes the system simpler, and whether it will improve value for money – the state’s ability to buy the right goods and services at the right time and at the right price so that public services can actually be delivered. Some of the most consequential provisions of the draft regulations fail on both counts.

“Simplicity is one of the most powerful instruments available for reducing corruption,” said Ann Bernstein, CDE’s executive director. “It is often complexity – discretionary decision points, opaque processes and rules that are hard to interpret, administer and monitor – that creates the openings for corruption.

“While public comment on these provisions has been marked by some significant misunderstandings that exaggerate the regulations’ defects, even an accurate reading of the proposals reveals significant problems that are going to greatly complicate the process of procurement and which are also bound to raise costs for procuring entities,” she added.

The proposed regulations have some good features, said Bernstein. Greater transparency and better central reporting are welcome steps in the right direction. “But the core preferential procurement mechanisms in the regulations – set-asides, prequalification and compulsory subcontracting – are likely to make procurement more expensive, less efficient and more vulnerable to abuse,” said Bernstein.

Set-asides

Contrary to widespread reporting, the regulations do not require that all tenders under R20 million be set aside for designated groups – but the rules remain deeply flawed. When set-aside procedures are used, qualifying firms will have to be 100 percent owned by members of a designated group, meaning a company that is 90 percent black-owned would not qualify, and companies fully compliant with B-BBEE rules and codes for the past two decades would be excluded. This penalises partnerships between black and white businesspeople and strongly incentivises fronting. This is partly mitigated by the possibility that a tender might be set aside for small businesses. In that case, there would be no race or gender requirements on a bidding company’s ownership, but any foreign owners would be excluded. So too would big businesses, who might actually be best placed to deliver what the procuring entity wants.

“A set-aside procurement process is guaranteed to ensure that procuring entities will generally pay more than they need to because that is the natural consequence of reducing the pool of eligible bidders,” said Bernstein. “Set-asides are inherently inefficient and should not be used. To the extent that set-aside policies are to be implemented, however, it is essential that the ‘100% owned’ requirement be dropped in favour of a standard of ‘majority owned’.”

Prequalification

Bidders for contracts expected to cost between R20 million and R100 million may be subjected to prequalification processes that would  require them to demonstrate that at least 40 percent of their prior procurement was spent on majority-black-owned firms. This test ignores the structure of the B-BBEE Codes, under which companies need to know their suppliers’ empowerment contributor levels but not necessarily their ownership. The regulations also leave “prior procurement spend” undefined. These requirements mean that companies might have to prove they pursued a goal that did not even exist when the spending occurred.

“This is the worst kind of arbitrary, unilateral change in policy. Effectively, the requirement asks whether companies were pursuing an empowerment goal that government itself had not deemed necessary until these regulations were passed, and which is not currently embodied in the B-BBEE Codes. CDE believes that prequalification should not be allowed as a procurement method: it will be expensive, messy and, as currently drafted, impossible to apply rationally,” said Bernstein.

Compulsory subcontracting

For contracts over R100 million, winning bidders will have to subcontract at least 25 percent of contract value to firms wholly owned by members of designated groups. Before issuing such tenders, procuring institutions will have to complete and publish a feasibility study – something that will be costly, slow and open to gaming by interested parties.

Compulsory subcontracting may sound developmental, but in practice it will create a new class of gatekeepers. If there are only a few qualifying subcontractors, those firms will have enormous bargaining power. Main contractors will have to partner with them not because they are the best subcontractors, but because they are necessary for compliance.

“The result will be higher prices, weaker accountability and greater opportunities for politically connected intermediaries to extract rents,” said Bernstein.

“Of the three forms of preferential procurement, compulsory sub-contracting is likely to be the most costly. Because only a small pool of firms is wholly owned by members of designated groups, qualifying subcontractors will hold substantial bargaining power over main bidders, and the premiums they extract will flow into the total contract price,” said Bernstein.

The corruption risks of all of this are significant.

The country’s procurement system is already vulnerable to manipulation, fronting, inflated prices, and politically connected intermediaries. The proposed regulations would add many new discretionary decision points: whether qualifying suppliers exist, whether preferential procurement is feasible, whether ownership structures of bidders’ suppliers comply, whether subcontracting is feasible and main bidders’ subcontracting plans are acceptable, whether feasibility studies are reliable, and whether substitutions of subcontractors should be allowed. Every additional test creates another place where insiders can shape outcomes.

CDE recommendations

The proposed regulations should be substantially redrafted. CDE recommends that Treasury:

• Reconsider set-asides. These are inherently inefficient and should not be used. If Treasury decides to go ahead with them, then we recommend replacing the 100 percent ownership requirement with a “majority-owned” standard, and confining set-asides to “routine, non-critical” procurement – standardised, low-value goods and services with numerous suppliers.
• Ditch prequalification as a procurement method. At a minimum, abandon the 40 percent prior-procurement test, which overrides two decades of B-BBEE practice.
• Abandon the compulsory subcontracting model. This is the most cost-inflating of the three instruments and should be scrapped altogether.
• Ensure that the authority to determine whether preferential procurement is not possible rests unambiguously with the procuring institution’s accounting officer. 

Government should recognise that procurement is not primarily a vehicle for pursuing multiple competing social objectives. It is first and foremost the mechanism through which the state acquires the goods, services and infrastructure required to govern effectively and deliver public services. A procurement system that is excessively complex, excessively restrictive and excessively vulnerable to manipulation ultimately undermines service delivery and public trust in the state.

“The fastest way to empower the largest number of black South Africans is to have a state that works, not one mired in corruption and hamstrung by complicated time-consuming procurement processes that seek, first and foremost, to funnel resources to favoured constituencies,” said Bernstein. “South Africa’s government needs value for money which will help all citizens.”

For media enquiries, please contact Refiloe Benjamin: media@cde.org.za | 079 863 6134

ABOUT THE CENTRE FOR DEVELOPMENT AND ENTERPRISE

CDE is an independent policy research and advocacy organisation. It is South Africa’s leading development think tank, focusing on critical development issues and their relationship to economic growth and democratic consolidation. Through examining South African realities and international experience, coupled with high-level forums, workshops and roundtables, CDE formulates practical policy proposals outlining ways in which South Africa can tackle major social and economic challenges.