Municipal Finance Management Bill: deliberations

Meeting report

FINANCE PORTFOLIO COMMITTEE
22 January 2003
MUNICIPAL FINANCE MANAGEMENT BILL: DELIBERATIONS

Chairperson: Ms B Hogan (ANC)

Relevant documents
Municipal Finance Management Bill - as of 10 January 2003
Memorandum by Ashira Consulting
Amendments to Clauses 96, 100, 101, 117A and 118 (Appendix 1)
Letter from the Financial and Fiscal Commission

SUMMARY
The discussion on Clause 92A focused on the definition of the term "serious financial problems, the trigger point for the intervention by the municipality and the relationship between the Board of the municipal entity and the municipal council. The role and recourse of the shareholders was also explored.

Under Clause 94, Members discussed the conditions under which the municipal entity can dispose of assets, as well as the notice requirements. The role of shareholders with regard to Clause 98 was discussed. With regard to Clause 117A, the role of the Board of the municipal entity and the municipal council was discussed. Members raised concern with granting borrowing powers to the municipal entity, as well as the philosophy and reasoning behind the introduction of municipal entities.

MINUTES
Chapter 11: Governance of Municipal Entities
Clause 92A: Powers and duties of municipalities having sole ownership control
Mr Ismail Momoniat, Deputy Director-General: Intergovernmental Relations from the National Treasury, stated that Clauses 92A and 93 of the Bill deal with the same sort of issues. The first is performance-related issues, which is dealt with in Clause 92A(1)(a), (b) and (e), with (c) being a standard provision. Clause 92A(1)(d) deals with the intervention over the municipal entity, and stems from the financial emergency provisions.

The Chair asked whether the first portion of Clause 92A(1)(d) lists the three grounds that have to be satisfied before the municipality can intervene in the affairs of the municipal entity: firstly, if the entity does not comply with this Act; secondly, if it undermines the ability of the municipality to comply with this Act and, thirdly, if the entity experiences "serious or persistent financial problems". The remainder of Clause 92A(1)(d) then spells out the nature of these "financial problems". Does the phrase "including the following" refer to "serious or persistent financial problems" or all three of the grounds listed earlier?

Mr Matthew Glasser, Consultant for the National Treasury, replied that the phrase is only intended to apply to the serious or persistent financial problems, and somewhat parallels the provisions in Clause 143 in Chapter 13 which deals with the municipalities themselves.

The Chair stated that Clause 92A(1)(d)(i) is problematic, because the mere failure by the municipal entity to "pay R2 on their telephone" would be grounds for intervention. This will be discussed again at a later stage.

Mr Glasser suggested that there is a fundamental difference here and referred the Chair to Clause 141, which lists the criteria for determining "serious financial problems" in the municipality. However, in the case of the municipal entity, National Treasury has conflated the two to now provide for mandatory intervention. This provision does not create constitutional problems with one sphere interfering with the powers of another, as is currently the case with the provincial intervention into the affairs of municipalities.

The Chair stated that she accepts this but when Clause 92A(1)(d) stipulates that the municipality "must" intervene, the provision has to contain clear principles in which this intervention can take place. It also has to spell out what the municipality would have to do next.

Ms R Taljaard (DP) suggested that although the constitutional issue does not arise in this instance, what does arise is the question of the written agreement, and whether or not this route can be followed using the written agreement. The written agreement would have to clearly stipulate that it would be "subject to the provisions of this Act" or something to this nature, so that the written agreement is at least linked to the Act. The equivalent to the constitutional impediment in this case, it seems, would be the written agreement, and there thus has to be some link between the contractual obligation and what would justifiably constitute and adequately serious financial breach or emergency within the municipal entity that would trigger this reaction, which would supercede the contractual obligation.

The Chair stated that this then brings the Committee back to the issue of the trigger point for this intervention, and when it is serious enough to warrant this kind of intervention.

Mr Glasser replied that, in the case of a constitutionally protected sphere of government, these issues are particularly sensitive. During a previous meeting Members had decided that the municipalities would have to be responsible for the municipal entities, "no ifs ands or buts". This then provides a broad envelope for potential intervention, and the corrective steps are not spelt out because it is not an instruction manual. Instead a broad range of actions, ranging from correcting the accounting errors all the way up to and including dissolution of the entity, is permitted.

The Chair sought clarity on the governance arrangements regarding the Board of Directors (the Board), as well as on the role they would play here, if at all. Should it not be the Board that takes action in the event of a failure by the municipal entity to meet its financial obligations?

Mr Momoniat replied that it is the Board that would act, and this intervention by the municipality would then take place when the Board fails to take corrective steps in the first instance.

Ms Taljaard suggested that here too the contractual agreement would come into play, because in the event of a dispute between the municipality and the municipal entity regarding a financial matter, the first port of call would be the dispute resolution mechanism provided for in the contract. This would have to be consulted before any intervention or disestablishment of the municipal entity is triggered. The governance issue would form part and parcel of the contractual agreement.

The Chair proposed that the dispute resolution procedures contained in the contract would come into play in the event of a dispute between the municipality and the municipal entity. Yet the dispute resolution mechanisms agreed upon would not come into play when one of the bodies is not functioning at optimal financial levels, because it is not a dispute but merely a concern.

Mr Dorfling, South African Local Government Association (SALGA) Councillor, stated that he agreed with the Chair's reasoning, as the council itself has to act here.

The Chair disagreed with Mr Dorfling as the municipal entity is a separate legal body with its own board of directors, and the municipality cannot therefore be allowed to dictate to the board of directors of municipal entity the action it has to take. It is for this reason this Committee decided, on a previous occasion, to delete the provision allowing the municipality the power to cast a majority of votes at a meeting of the Board of Directors, which is the first port of call for the governance of the municipal entity. The municipality can, however, vote out the municipal entity's Chief Executive Officer or Chairperson, for example, but the municipality cannot tell the Board what it should be doing.

Mr Momoniat stated that even the Australian, New Zealand and United Kingdom legislation generally provides for the municipality and even the directors to act in the public interest, or in the interests of the owners, because they do recognise the potential conflict. But the municipality never loses political accountability, which it uses to correct the problem.

Ms Taljaard stated that this is the very reason for her emphasis on the agreement as the intermediary step, which is the equivalent to the three-tiered provincial intervention. A possible solution could be found in the following formulation of Clause 92A:

This would be preferable, instead of the current formulation which at the outset having the broad sweep in which the municipality comes in and distorts the arrangements of the municipal entity. If this option is not pursued, people would be loathed to do any dealings with the municipal entity. The current order of Clause 92A would, however, have to be rearranged.

Mr Momoniat conceded that the current structure of Clause 92A is a bit "backwards at the moment" and stated that the aim here is to ensure that, when problems arise, the Board would take responsibility for them.

The Chair requested Mr Momoniat to seek clarity on precisely what constitutes "a serious... financial problem".

Mr Momoniat replied that the ownership here is sufficient for the municipality to intervene, and the precise nature of the financial problem, as currently contained in Clause 92A(1)(d)(i) to (vi), is not necessary. The financial problems would also affect the level of service delivery, and there would thus be interventions due to service delivery problems, over and above any interventions initiated due to serious financial problems.

Mr R Joemat (ANC) cautioned against a blurring of the distinct issues of service delivery and serious financial problems.

The Chair agreed, and contended that the service delivery concerns would surely be covered in the contractual agreement, via the service delivery agreement. Yet the current situation deals with financial difficulties, and the precise roles of the municipality and the municipal entity have to be identified.

Mr Glasser responded that the rules for shared ownership intervention under Section 93 are much more flexible, and are in fact governed by the agreement. The rules for sole ownership intervention, however, were intended to be very strict, and the municipality would have to be responsible for its conduct.

The Chair stated that the problem here is that the municipal entity is a separate entity with its own board of directors, and did not merely enter into a Public Private Partnership (PPP) or contractual agreement with the municipality. The municipality cannot therefore be allowed to simply "hop in" and override the board of directors. It does not seem right to wait until the municipal entity experiences service delivery failure before the matter is taken up.

Ms Taljaard contended that, although service delivery failures and financial problems are distinct, the former does manifest itself in the latter. The result being that in the event of such service delivery failure, the municipality would retain the payment of the funds or any other consideration to the municipal entity, because the agreement would provide for this.

Mr Momoniat stated that an important consideration here is to guard against the initiation of interventions "for any little excuse". The result is that, in the first instance, the Board has to have corrective remedies for these instances, and the municipality could issue directives to the Board to take corrective measures. Whether these have to be spelt out has not yet been decided.

The Chair disagreed, as the municipality cannot issue a directive to the Board. This seems to defy the separate existence of the municipal entity and notions of governance. The shareholders have to be given a voice here as it is their prerogative here, and clarity is needed on their powers in this type of situation.

Mr Momoniat proposed that all these provision be removed from the Bill as they are not needed.

The Chair stated that this is not up for discussion at the moment. The crux of the matter here is that it is the municipality in its capacity shareholder in the municipal entity that issues the direction to the Board as a request that corrective actions be taken by it.

Mr Dorfling contended that this then creates difficulty regarding the precise identity of the municipality asshareholders. It cannot be the municipal council, because councilors are prohibited from being members of the municipal entity's board

Ms Taljaard stated that the agreement between the municipality and the municipal entity has to be used as the intermediate step between failure of the Board to do anything and its instituting an intervention, because the monitoring mechanism has already been put in place to alert them to any possible problems.

The Chair stated that this matter places enormous governance problems on municipalities when setting up an independent municipal entity.

Mr Glasser responded that all the shareholder remedies granted under the Companies Act are included in this Bill, and granted equally to the shareholders of the municipal entity here via the phrase "corrective steps" in Clause 92A(2). Thus this Bill includes this to take advantage of the wealth of jurisprudence on company law that has evolved over the years.

Mr Dorfling proposed that an express reference to the shareholder rights and remedies currently contained in the Companies Act should be included in Clause 92A(1)(d), and Clause 92A(2) would then be invokes if this first step fails. This would then bring the municipal intervention closer to the structure employed in the MEC's intervention, where the municipal council is the shareholder.

The Chair stated that the aim here, in keeping with current trends, is to set the shareholder up as an "activist shareholder", and not merely as a passive shareholder. What are the shareholders' remedies here?

Ms Taljaard proposed that Clause 92A(2) be amended to provide:

This would then place the emphasis on the corrective steps as shareholders, with the second bite at the cherry being the recourse to liquidation.

The Chair stated that a shareholders' agreement has to be concluded.

Mr Dorfling proposed that reference has to be made to who exactly the shareholders are.

The Chair stated that the Mayor should be the shareholder here.

Dr G Woods (IFP) proposed that the shareholders here would essentially be the people, and the municipality is thus the representative of the shareholders.

Mr Glasser replied that National Treasury had asked Ashira Consulting to look into the governance aspect (see document), and they have reported the following functions of the board:

With regard to intervention:

The Chair requested clarity on the meaning of the phrase "serious or persistent financial problems".

Ms Taljaard proposed that it be altered to "serious and persistent", as "serious... financial problems" by itself it too difficult a category to define.

Mr L Lekgoro (ANC) suggested that the phrase "in cash" at the end of Clause 92A(1)(d)(ii) be deleted, because it is impossible to fully anticipate at this stage whether it would be in cash.

Dr Woods added that there could be municipal entity that make use of overdraft or loan facilities, and these would not be accommodated in this provision.

Mr Glasser stated that, if the Committee so wished, the remainder of Clause 92A(1)(d) after "financial problems" be deleted, so that a more subjective test be employed.

The Chair agreed because all the trigger mechanisms were too inflexible, and it should be left at "serious or persistent financial problems".

Ms Taljaard stated that the problem which is then created is that, should a Clause 139 intervention then actually come to pass, which is based on objective criteria, it could possibly conflict with this earlier evaluation of "serious or persistent financial problems" which would now be based on subjective criteria.

Mr Momoniat replied that if, at both stages, the municipality learns that its state of finances is threatened because of a municipal entity, Chapter 13 would apply.

Mr Glasser stated that he is of the opinion that the more flexibility is granted to both the Board and the municipal council to resolve their own problems the better. The specific criteria are probably useful and could be prescribed in a framework, but he is uncertain as to whether they should be legally required because they then become an excuse if the municipality does not act. This might not be wise.

The Chair proposed that this matter be discussed at a later stage, and the whole of Part 1 has to be reworked.

Clause 93: Powers and duties of municipalities having shared ownership control
Ms Taljaard stated that Clause 93(1)(a)(iii) would probably capture the entire discussion on Clause 92A, and would make the link explicit, especially with regard to shareholding.

Mr Dorfling stated that Clause 93(1)(c) would also have to amended in accordance with the amendments effected to Clause 92A(1)(d).

The Chair agreed.

Mr Momoniat suggested that Clause 93(1)(a)(ii) be amended to read more generally "the exercise of the powers of shareholders over the entity".

The Chair agreed, because "ownership control" is part of the shareholders' powers, but is not the full extent.

Ms Taljaard whether, in the context of either a minority shareholder or a shareholder in the private sector, there is not a difference in threshold with regard to the need for criteria to guide the matter.

The Chair noted that Clause 93(1)(b) to (d) would have to be revised, and Clause 93(2) would be revised in accordance with the outcomes of the discussion on Part 1.

Mr Momoniat stated that Part 3 is not an exact duplication of corresponding chapters dealing with municipalities, but it will be amended to be as such.

Clause 94: Disposal of capital assets by municipal entities
The Chair contended that it would seem to be far easier for the municipal entity to enter into a PPP agreement than own assets jointly. This clause has been structured in such a way so as to create "much higher hoops" for jointly owned assets, including approval of National Treasury.

Mr Glasser stated that there is an open question as to whether there is a need for both co-owned entities and multi-jurisdictional service districts, as they serve much the same function. Clause 94 provides that the governing body of the multi-jurisdictional service district is treated in terms of the rules for co-owned entities. The rules applicable here are identical to those in Clause 14 that apply to municipalities themselves.

The Chair sought clarity on the situation in which the municipality does in fact transfer the asset to the municipal entity.

Mr Glasser responded that, should the assets be transferred to the municipal entity by the municipality, they would have to be used by the municipal entity in accordance with the service delivery agreement to deliver the services that have been contracted for. The municipal entity would not be able to get rid of these without the approval of the municipal council, except where the authority of the accounting authority of the municipal entity could be delegated, under Clause 94(4).

Mr Dorfling suggested that the last sentence in Clause 94(5) is broadly formulated and should be made more specific, perhaps by stipulating that this notice be given via publication in the newspaper, or something to that effect.

Mr Momoniat replied that the "30 days prior notice" requirement was taken from the Systems Act, but National Treasury has made plans to clarify exactly what any publication or notice requirements in the Bill means.

Mr Glasser stated that this provision should not be read to mean that a single notice has to be published for every individual asset sold, as the publication could inform the public of the sale of several assets.

Mr Momoniat stated that this last sentence can actually be deleted, because the procedure for publication is dealt with in Clause 166.

Clause 96: Governing boards
Mr Momoniat referred Members to the revised Clause 96 (see document).

Clause 98: Meetings of governing boards
The Chair asked whether there is a reason for singling out "the accounting officer" in this clause, and whether this effectively excludes other officials?

Mr Dorfling cautioned against allowing shareholders, who could be some of the councilors, to be present at these meetings, because this could amount to some sort of interference.

Mr Momoniat replied that these meetings would be open to observers, such as from the municipal manager or the designated person.

The Chair requested National Treasury to look into the attendance of shareholders or designated representatives at these meetings, because there are "very real reasons" for which the municipal manager would want to attend these meetings just as an observer.

Ms Taljaard proposed that all necessary steps be taken to ensure that this law does not conflict with similar provisions in the Companies Act, in dealing with shareholders.

Mr Momoniat replied that the certain provisions of the legislation currently dealing with the powers of the Auditor-General does take precedence over their counterparts in the Companies Act, but agreed that this should be limited.

The Chair requested Mr Momoniat to check whether the councilors here should also be shareholders, or just officials. Furthermore, who exactly the shareholders are also has to be ascertained, and perhaps the New Zealand legislation would be useful here.

Mr Glasser responded that, as a technical legal issue, the shareholder would be the municipality as a corporate entity. It then merely becomes question of exploring who represents the municipality in its role as a shareholder. This is an issue that the Johannesburg municipality has been struggling with, and it has been exploring the concept of creating a separate office of the council that would be a shareholder's representative office. This would then complement the contract management unit which manages the contract, because they have realised that the contract management issues are different from the shareholder issues. This approach could be followed in this law.



Clause 117A: Budgets
Mr Momoniat stated that there are two questions that have to be addressed are, firstly, what fiscal powers should be granted to municipal entities. Mr Glasser would say "why set up an entity if not to borrow?" Should municipal entities therefore be granted borrowing rights and, if so, in all cases?

Secondly, what then would the role of the municipal council be with regard to the budget? It would have to approve, at the very least, things like the subsidy for free basic service to the municipal entity, dividends or any other grant that may be awarded.

The Financial Fiscal Commission (FFC) is not obliged to respond to this Bill as it has done in its letter (see document), but "they make a good check". He argued that the FFC should look at every piece of legislation dealing with the provinces and local government, and should comment on them. This is the only way to obtain the views of a party outside government, and several of the provisions that seemingly do not have financial implications actually do. The FFC could just take a quick view on the provisions in the Bill.

The Chair disagreed with the last statement made by Mr Momoniat by reminding him that whenever such an opinion is delivered on a piece of legislation, it is not a quick view, but is instead the result of research and consideration. Which provision in the Constitution deals with FFC's mandate?

Mr Momoniat responded by referring the Chair to Section 214 and, more specifically, Section 220(3).

When dealing with budgets here it does become critical to deal with the roles of the municipal council and Board of the municipal entity. On the one hand the Board takes responsibility for approving the budget, but the municipal council also plays a part in this approval, be it in the form of tariffs to be set, revenue limits or grants to be awarded. The current formulation does not rally stipulate what would happen should the Minister of the National Treasury (the Minister) not approve the budget of the municipal entity. Are there any problems with the structure proposed by Clause 117A?

Mr Dorfling stated that this proposed approval process will lead to a duplication of the decision-making process, because the Board would take a decision and this decision would then be referred to the municipal council to make a decision as well. This would then lengthen the decision-making process, and will eventually affect service delivery on the ground.

Mr Momoniat replied that all the approvals from the Mayor should have been furnished by the time the budget is presented, so that the municipal council can approve the budget of both the municipality and the municipal entity at the same time.

The Chair stated that this could then absolve the Board of any responsibility because it could simply throw up its arms and say that it has done its budget, but is now unable to deliver all the services due to the delay by the municipal council in disagreeing with the budget of the municipal entity. Perhaps here a contractual arrangement or agreement could be struck between the Board and the municipal council, stipulating that the municipal council will not become "tied in with all the nitty-gritty of management", for example, because this is one of the very reasons for creating the municipal entity.

Mr Momoniat responded that this may simply take the form of an internal procedure, but the municipal council cannot delegate the power to approve the budget of the municipal entity to another body. There is generally consensus on the macro limits set on the budget and the degree of borrowing that it permitted, the tariff levels etc.

The Chair contended that this suggests that the annual appropriation process now takes over from the agreement with the municipal entity.

Mr Momoniat replied that a particular approach has to be taken here to secure the long-term agreement, via Clause 31. Surely the municipal entity here has to be subject to annual review, as is the case with all government departments.

The Chair stated that the municipal council would clearly want to ensure that the municipal entity's budget complies with the service delivery agreement, and there should be checks in place to ensure this takes place. But when the municipal council amends the budget of the municipal entity, problems with the governance aspect are then created, and the Board might then simply decide that the municipal council itself might as well compile the budget.

Mr Momoniat responded that he understands the tension but finds it very surprising, because the budget is about the executive exercising its oversight once a year. This does not have to be a micro-approval, but if the communication that takes place between the municipal council and the Board in approving the budget is removed, there would be failure in any event.

The Chair maintained that this does not make sense, because it runs contrary to the very reason for establishing the separate level municipal entity. How can the municipal council be allowed to amend the budget of the municipal entity? Can the municipal council not simply be required to check that the municipal entity's budget complies with its service delivery agreement?

Mr Momoniat and the Chair debated the nature of the relationship between the budget and the service delivery agreement, with Mr Momoniat arguing that the two are interrelated.

The Chair referred Mr Momoniat to the wording of Clause 117A(1) and (2) and stated that Clause 117A(4) indicates that both the budget and the limits would be approved, which goes beyond what is mentioned in the text.

Mr Momoniat replied that the municipal council might now approve the entire budget of the municipal entity, but it would approve the tariffs, revenue, expenditure and borrowing mentioned in Clause 117A(1). The service delivery agreement and draft budget are approved simultaneously, and it is thus important that the two are consistent.

The municipal council would only approve the four items mentioned above with regard to the budget, and the municipal entity would itself then have to approve its own budget within those parameters.

The Chair stated that this is reasonable on the macro level. Should the municipal council in fact have real concerns with the budget of the municipal entity, would these be pursued via the shareholders?

Mr Momoniat replied that this would then be transmitted to the shareholders by the municipal council via a resolution.

Ms Taljaard expressed concern with the singling out of the four specific items at the end of Clause 117A(1) and restricting approval to these four areas, because of the way in which the voting moment is integrated and the cross-reference to Clause 17 in Clause 117A(5).

The Chair stated that this whole issue of approval of budgets and the extent to which the municipal council should have a say in the approval be looked at further.

Mr Van Ronge, from SALGA, stated that it is impossible to set up an entity and expect it not to borrow, this would be totally unreasonable. Yet because it is a separate entity, the municipal council should not guarantee or grant security for the borrowings of the municipal entity. The municipal entity should be totally independent.

Dr P Rabie (NNP) contended that it would not even be necessary for the municipal entity to borrow if it is given sufficient venture capital, for example, for the full year.

The Chair stated that this might not hold true if the municipal entity becomes involved in infrastructural investments, these are long-term investments for which the municipal entity would have to borrow.

Mr Van Ronge suggested that the very purpose of establishing a municipal entity is so that it may acquire funds which the municipality itself may not be able to acquire, and if it is unable to do so, it is simply not a viable municipal entity.

Mr Glasser responded that, if the municipal council is required to approve the municipal entity's budget, service delivery agreement and business plan, no lender is his/her right mind would do business with a municipal entity whose annual revenues are so closely controlled by the municipal council. Furthermore, if no guarantee is provided with the result that the lender would have no recourse against the municipal entity in the case of default, the municipal entity would probably end up paying more. A decision therefore has to be made as to whether the steeper cost of borrowing is worth avoiding the risk of liability.

Dr Woods stated that he agrees that municipal entities should be allowed to borrow, and it can be controlled. The first form of control would be via the budget, which would serve to confirm that borrowings would be allowed. The second would be via the balance sheet, which puts in place certain limitations, and its capital and gearing aspects would inform lenders whether the municipal entity is exceeding these limitations or not.

The Chair stated that she has reservations about allowing the provision of guarantees for borrowing by the municipal entities, because this then opens the door to recklessness by the Board.

Mr Glasser replied that the conditions for long-term borrowing are to be found in Clause 46, and these are sufficient checks to allow the provision of guarantees.

The Chair proposed that the New Zealand legislation be considered, because it seems to have considered more carefully the concept of a municipal entity and what it wants to achieve via these bodies. There does not currently seem to be any reason to include the concept of municipal entities in this Bill, other than to permit those municipal entities which are already in existence from continuing to do so. The manner in which municipal entities are dealt with in this Bill simply involves too many complex relationships to the extent that it becomes pointless, as it on the one hand provides that borrowing will only be allowed unless it is guaranteed, and on the other it provides that there is no way of really controlling the guarantee. There are simply too many contradictions, and there does not seem to be any point to it.

What would the implications be if the New Zealand approach were followed and the concept of municipal entities, apart from allowing those that are already in existence to continue, be held back and dealt with in a separate piece of legislation.

Mr Glasser stated that the greatest repercussion would probably be that municipal entities are currently permitted by the Municipal Systems Act.

The Chair proposed that the issue of municipal entities should perhaps then be handed over to the Provincial and Local Government Portfolio Committee to sort out.

Dr Petra Bouwer, Director of Legal Services in the Department of Provincial and Local Government, contended that if municipal entity are to be accepted in the legislation, it has to be regarded as a private company and its governance regime: it is a separate entity and separate from the municipality, with the municipality governing it indirectly via holding shares in the municipal entity. The other interaction between the municipal entity and the municipality would be with regard to service delivery. Furthermore, inasmuch as a municipality does no guarantee loans by Anglo American, in the same token it should not guarantee loans by the municipal entity.

The purpose behind the inclusion of municipal entities in this legislation is to allow those municipalities that cannot borrow as much as they would like, from setting up a separate entity to facilitate borrowing. The municipal entity should thus not feel as restricted as far as its borrowing powers are concerned. Also, if a municipality is restricted as far as tendering, acquisitions etc. a municipal entity can be established to facilitate these efforts, because they are not bound by the same rules.

The Chair stated that this sounds like municipal entities are set up in an effort to circumvent the law.

Dr Bouwer replied that that might in fact be one of the results of establishing a clearly separate entity. The municipality would then not approve the budget of the municipal entity, but the municipal entity could be required by legislation to submit a draft budget to the municipality so that it can determine whether the service delivery agreement has been adhered to, and whether the municipal entity is still complying with its Articles of Association. The municipality would thus be policing and monitoring, and would not be governing the municipal entity as an internal department would be governed.

The Chair agreed and stated that under this view the shareholders would be allowed to intervene when things go wrong, and not in terms of normal operating activity. Approval of the budget would be required to check for compliance with the service delivery agreement, and there would also be no guarantee of loans by the municipal entity. These would be the set of criteria used to define a municipal entity and its operation base.

The other route would be to not recognise municipal entities because it is not a viable vehicle, as adequate control cannot be exercised as this would then defeat the purpose of the entity. The biggest problem here though is that the primary reason for establishing a municipal entity is to circumvent the law.

Dr Bouwer stated that this is also the reason for the popularity of the PPP, because it allows the municipality to access capital that the municipality itself cannot acquire within its budget. The PPP is thus used to circumvent the total permissable growth of a municipality of 14% per annum, and the trade-off that the municipality makes for this benefit is to allow the private company to make a profit.

The Chair requested the expert on the New Zealand legislation to shed some light on the matter.

The New Zealand Expert stated that he would be sketching the New Zealand approach in broad terms. Since 1996 New Zealand Local authorities have been engaging in ten year plans and these are mandatory and must be reviewed every ten years. One of the obligations that was imposed when the person refused the ten year plans was that the accountant had to decide what services they were going to provide and how they were going to provide them. Broadly, the sort of services provided by the New Zealand municipalities are very similar to those provided by South African municipalities. An attempt to provide an overarching framework for municipal entities in New Zealand is settled to provide some flexibility, because the only reason for using municipal entities from a New Zealand context is to help the municipality for further achieve the objectives of the local authority. It is therefore not set up to sidestep an impediment in existing legislation.

Behind the scenes the relationship between the municipality and an entity is through the statement of intent, and this has been restructured in New Zealand in late eighties. The principles that were applied at central government level are not being applied at local government level. The key thing is that the relationship is governed through the statement of intent. The statement of intent is effectively the equivalent of service delivery in South Africa, but the budget and various planning machines form part of the statement of intent. One of the key changes has been the requirement for the entity and not the municipality to specify the governance processes to be included during a particular year. The focus of the statement of intent is one year only but the budget has to be appear in the context of a three year budget, but also the council has taken a wider view.

The statement of intent covers what New Zealand is concerned about, but does it in a slightly different way. The legislation sets out a process detailing how one would start with a draft statement of intent, incorporating a draft budget, how the municipal entities board takes that through to the municipality, and the municipality basically agrees on the budget. One of the differences between the New Zealand and South African situation is that there are councilors on the municipal Board and, in the New Zealand context, this is helping to provoke the governance. Through requiring the municipal entities to set up governance processes, the annual reports are specifying performance objectives in terms of governance. When it then comes to the preparation of a draft budget, the Board of the municipal entity understands what the objectives of the municipal council are for that particular project. The Board could also have had the opportunity of some workshops that could have been conducted during the year, between the committee of the council that exercises oversight over the municipal entity and the Board of the municipal entity. There is therefore an exchange of ideas regarding strategy taking place on a regular basis. There is a hint of this in Clause 92(f), but this has been taken to a much more formal level in New Zealand.

With regard to intervention, the Schedule in the New Zealand legislation covering the statement of intent provides for the municipal council to vary the service delivery agreement during the year, and the requisite procedure is also stipulated. There is also a similar process via which the Board of the municipality can initiate this variation, via a process of consultation with the Board of the municipal entity. The upshot of the situation is that New Zealand now has a framework that is working.

Furthermore, with regard to the types of municipal entities, the overarching concept is an entity, and within that New Zealand legislation recognises a trading entity, which is purely for operations that go to operational profits. There are also non-profit municipal entities which are for economic development reasons, or are for environmental initiatives in terms of waste production, for example.

The new system established in New Zealand is working, and covers the concerns that have been raised in this Committee today.

The Chair thanked the New Zealand expert for his input, and stated that the relationship between the municipality and the municipal entity is governed primarily through the service delivery agreement. Thus matters such as tariffs etc. are governed by the service delivery agreement. The question regarding the role of the shareholders is not an operational activity, but is just in that instant in which financial management forms a part. In this situation the shareholders would do whatever shareholders do in those circumstances, which is to address the Board on financial improprieties within the municipal entity.

The budget of the municipal entity is not approved by the municipality, but matters relating to the budget are governed by the service delivery agreement.

Dr Bouwer stated that the budget has to be submitted to the municipal council to check for compliance with the municipal entity's Articles of Association and service delivery agreement.

The Chair stated that this has to take place.

[The remainder of this meeting was not covered by PMG]

Appendix 1

Governing boards

96. (1) Every municipal entity must have a governing board.

(2) Participating municipalities must ensure that the governing board of the entity has the requisite range of expertise to effectively manage and guide the activities of the entity.

(3) No councillor of a municipality may be a member of a governing board of a municipal entity (or any corporate entity in which any municipality has a share). (4) No person that has a financial or private business interest in the activities of a municipal entity may serve on the governing board of the entity.

Accounting authorities

100. (1) Every municipal entity must have an accounting authority, which must -

(a) be accountable for the purposes of this Act; and

(3) A municipal entity must inform the Auditor-General promptly and in writing of any approval or instruction in terms of subsection (3)(a) and any withdrawal of an approval or instruction in terms of subsection (3) (b).

(4) To the extent that the accounting authority of a municipal entity is in terms of this Act required to communicate with a municipality, the accounting authority must do so through the accounting officer of the municipality.

Fiduciary duties of accounting authorities

101. (1) The accounting authority of a municipal entity must—

(2) The accounting authority, or if the accounting authority is a governing board, a member of the accounting authority, may not -

Budgets

117A. (1) The governing board of the municipal entity must submit a draft budget to the municipal manager of each participating municipality on dates determined by the municipal manager. Such a draft budget must be in accordance with the service delivery agreement and within a framework determined by the municipality, including any limits set on tariffs, revenue, expenditure and borrowing.

(2) The mayor of each participating municipality must table the budget of the municipal entity with the annual budget of the municipality.

(3) The budget of a municipal entity must be balanced.

(4) The municipal council of each participating municipality must approve the annual budget of the municipal entity when approving the annual budget of the municipality.

(6) Any projected income to the entity from a participating municipality must be provided for in the annual budget of the participating municipality, and to the extent not so provided, the municipality entity's budget must be adjusted.

(7) Any projected income to a municipality from a municipal entity must be provided for in the annual budget of the municipal entity, and to the extent not so provided, the municipality's budget must be adjusted.

(8) A municipal entity may only expend funds in accordance with its approved budget.

Business plans

118. Each municipal entity must have a multi-year plan for the entity that—

(a) is consistent with the approved annual budget of the municipal entity;

(b) sets key financial and non-financial performance objectives and measurement criteria;