What MNCs should expect from South Africa’s 2017 budget

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In late November and early December 2016, when the three main credit rating agencies conducted their year-end reviews, South Africa narrowly avoided being downgraded to sub-investment grade, a fate that has befallen other major emerging economies such as Russia and Brazil. Markets viewed this as a vote of confidence in Finance Minister Pravin Gordhan’s plan – outlined in his October “mini budget” speech – to stabilize the country’s finances and restore growth. The rand subsequently stabilized and business sentiment rose, suggesting improved conditions for MNCs in 2017. However, critical details of Gordhan’s program will only be announced in the full budget, due in February, including several measures that will directly impact MNCs’ performance in the year ahead.

Tax increases on consumer goods

Due to weak economic growth, government revenue collection has not kept pace with the government’s spending plans. To help plug the fiscal gap and reduce the need for heavier borrowing (a major concern for rating agencies), Gordhan in October announced the overall tax take would rise by ZAR 28 billion (US$ 2 billion) in 2017 and ZAR 15 billion in 2018, but provided no specifics. In all likelihood, the government will proceed with steps that it believes to be politically feasible and the least economically damaging. An increase in value added tax (VAT), for example, is improbable, given that it would prove especially burdensome for lower-income households, the ruling party’s core constituency. Similarly, corporate income tax hikes are unlikely since this would further damage already weak investor confidence.

It is much more likely that the February budget will contain details on how the government plans to introduce a new tax on sugar-sweetened beverages, which it indicated in 2016 would become effective from April 2017. Since the tax will probably take the form of an excise duty on the amount of sugar added to drinks, the rates effective to will likely differ from product to product, and may be introduced incrementally to soften the adverse consequences for the beverage industry, which is a large employer. MNCs in the beverage sector will need to weigh the merits of passing the extra tax burdens onto consumers through higher prices. Given that South African consumers are already under pressure from stagnant real wages, MNCs with diversified product portfolios that are able to offer lower-cost alternatives – thereby allowing consumers the option to trade down – may be the best placed.

In addition, so-called “sin” taxes on alcohol, tobacco, and other non-staple products could see real increases, as has been the case in successive February budgets with consequent knock-on effects for consumer demand, particularly among middle- and higher-income segments. MNCs should also expect sales to be affected by Gordhan’s trimming of government entertainment budgets, which will, for example, undermine on-trade B2G sales of alcohol products. 

Budget will outline costs and benefits for MNCs

The February budget is also likely to outline the government’s approach to implementing a new carbon tax. The relevant legislation was introduced to Parliament in late 2015, but has since been revised following intense lobbying. As with the sugar tax, Gordhan may seek to phase in the new regime in order to minimize the negative consequences for industry, particularly the critical automotive sector, which is seeing falling sales as consumers put off big-ticket purchases amid tightening credit conditions. MNCs with B2B customers in the automotive space should plan for the carbon tax to become effective during the course of 2017, and take the opportunity to aggressively market low-carbon technologies.

One area where Gordhan is likely to prove more generous is the government’s Employee Tax Incentive (ETI) scheme, which effectively subsidizes companies to hire younger workers. Due to political pressure to address South Africa’s rampant unemployment, MNCs can expect Gordhan to outline plans to increase the amount the government can spend on supporting the ETI, abandoning the present cap on how much individual firms can claim, while extending the scheme’s duration, likely to 2019. The ETI provides a compelling inducement for MNCs eager to reduce their exposure to currency volatility risks by localizing production. However, its benefits should be weighed against more stringent Black Economic Empowerment rules coming online in 2017, which tighten regulations on MNCs’ hiring practices, while also requiring firms to be partially owned by local black partners.     

Public-private partnerships to open limited opportunities

Gordhan has on several occasions raised the issue of increasing the use of public-private partnerships in strategic port, rail, and energy projects in order to alleviate the financial burdens on South Africa’s beleaguered state-owned enterprises (SOEs). He will likely reiterate this strategy in February’s budget announcement, though politically connected interests – aiming to prevent their monopolies from being opened up to greater competition and scrutiny – could complicate this process. MNCs with strong government liaison capabilities will be best placed to take advantage of emerging opportunities.

More details on FSG’s outlook on the business operating environment in 2017 can be found in the South Africa Market Spotlight. Not a client? Contact us to learn more.

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