It’s the moment so many entrepreneurs dream of: the final term sheet is signed and the bubbly can be taken off ice and opened. You can finally announce that you’ve received international investment. Whether you’re looking for investment to fuel your startup’s expansion or are exiting to enjoy a life of leisure, it feels like crossing the finish line after years of hard work.
But signing the term sheet, knowing that the investors’ funds are on the way into your business account, isn’t the end. Instead, it’s the starting gun. To ensure that the investment works quickly and effectively within your organisation, you still need to clear exchange controls. And you want to get it right, because the entry transaction writes the rules for every future exit.
The importance of exchange controls
Understandably, most founders and finance teams focus the majority of their energy on getting a deal signed. Finding and securing an investor is hard work. It’s also the part most covered by media. But how the money is classified and recorded when it lands is equally important.
That’s because, whether the money coming in is booked as equity, an inward foreign loan, or another form of intra-group payment, every future outflow is marked against that classification. That means dividends, interest, shareholder-loan repayments, a return of capital, and even an eventual exit could be impacted by how you handle exchange controls today. Getting it right means having the freedom to move money out later, whereas getting it wrong can result in serious future complications.
The inward loan example
Let’s look at an inward foreign loan as an example. It’s a useful example because the mechanics are so specific, making it easy to illustrate why getting exchange controls right is so important.
First, an inward loan comes with a repayment ceiling. In other words, the capital a South African company can send out of the country for a loan repayment is capped at what was actually received and recorded here, not what figure is agreed in the loan agreement.
So, if the inflow is booked incorrectly or not recorded with the right level of detail, those numbers can start to pull apart. That, in turn, can lead to a situation where you’re paying back every cent you legally can but where the figure is still lower than what you’ve agreed to. Even when there’s legitimately nothing you can do, your lenders won’t be pleased, putting future loans and investments at risk.
Additionally, capital and interest are treated separately when funds go back out, meaning that the distinction has to be correct at the point of entry. Get it wrong and you’ll have no clean way of correcting it later.
Finally, a non-resident investor’s ability to eventually take their proceeds out of South Africa depends on the original investment having been recorded as financed in an approved manner, on arm’s-length terms. In other words, the deal has to do more than simply make commercial sense for both parties. It also has to be documented in a way that the system recognises as legitimate.
That record isn’t created by either the investor or the founder. Instead, it’s a function of the Authorised Dealer (an entity authorised to buy, sell, and process foreign currency transactions) and the South African Reserve Bank (SARB) Loan Reporting System. Authorised dealers must conform to the SARB Currency and Exchanges Manual. Operating within the confines of the manual and using the loan reporting system, they turn bank transfers into paper trails regulators and future counterparties can rely on.
Practically speaking
So, what might that look like practically? Let’s take the founder and CFO of a startup in the renewable energy space, for example. They might have taken on an international loan to expand a manufacturing facility. Unfortunately, they’ve treated the inflow as a formality and haven’t worked with an authorised dealer to get the classification and documentation right from the start.
As a consequence, they face a delay when trying to pay back the loan or are legally barred from paying back the amount that was originally agreed to. That means the original investor is going to think twice before investing more in the business. Future investors could also be put off when they notice the discrepancy during their due diligence. And even if they don’t seek out additional funding, they might struggle to pay out earlier investors when they eventually exit.
Don’t end the race early
So, if you’re an entrepreneur or part of a finance team that’s about to close a deal, maybe keep that bubbly on ice for just a little bit longer. Make no mistake, securing capital is a major milestone, but as we’ve shown, there’s a lot more to it than luring investors and signing a term sheet.
In fact, entrepreneurs and finance teams should really only consider the inflow of capital into their business as having started once they have a defined path for how that investor gets paid back. That means planning the movement and recording of foreign capital as part of the investment transaction itself, not once the investor is ready to send funds.
Getting this right up front isn’t just important for the deal at hand, either. It’s what makes future dividends, repayments and exits manageable rather than a scramble.
- Harry Scherzer, CEO, Future Forex
