11 December 2023

A common theme when dealing with transactional intellectual property (“IP”) matters in South Africa, where one party to a transaction is not a South African resident, is exchange control.  Exchange controls are a system of government regulations which limit or regulate the movement of currencies and capital in-and-out of a country.  The logic behind it is that the system is put in place to protect a country’s economy and currency from external pressures and fluctuations.

The concept of exchange control is not unique or new to South Africa.  The first iterations of these regulations can be traced to 1930s as part of the war-effort to conserve foreign exchange reserves, while Apartheid South Africa expanded and tightened controls, which were used as political and economic tools.  The controls remain in place to this day.

Where South Africa is somewhat unique from other jurisdictions, is that the same regulations which are applied to currency transfers also apply to the movement or exploitation of IP.

The relevant sections of the South African Exchange Control Regulations were promulgated under the Currency and Exchanges Act No. 9 of 1933, and are quoted below for ease of reference:

Regulation 10 (1) provides that:

“…No person shall, except with permission granted by the Treasury and in accordance with such conditions as the Treasury may impose – (c) enter into any transaction whereby capital or any right to capital is directly or indirectly exported from the Republic…”

Applying this regulation specifically to IP matters, regulation 10(4) defines the terms “capital” and “exported from the Republic” as follows:

“…’capital’ shall include, without derogating from the generality of that term, any intellectual property right, whether registered or unregistered; and

’exported from the Republic’ shall include, without derogating from the generality of that term, the cession of, the creation of a hypothetic or other form of security over, or the assignment or transfer of any intellectual property right, to or in favour of a person who is not resident in the Republic…”

To confuse matters, the term “intellectual property” is not defined in the regulations and as such it is not always clear to which IP assets the regulations apply.  It is beyond doubt that the regulations will apply to the better-known statutory IP assets such as trade marks, copyright, patents and the like, but it is less clear whether it should also apply to more abstract forms of IP such as trade secrets, know-how, confidential information, domain names or goodwill (in the form of common law trade marks).

The definition and application of IP in the regulations has been described as “vague and dangerously open-ended” by the most prominent commentator on the subject, and a conservative interpretation is generally recommended.

The specific IP assets in play can be very important as the manner in which IP rights vest (thus, who becomes the first owner of the right) differs between different forms of IP and in certain cases this can be a deciding factor on whether the ownership triggers an exchange control event.  On this point, it is important to consider the implications of the use of the words “any right to capital” above, as the intention seems to be to capture a wider right than the actual asset being transferred. This has led to some controversy and the application of this phrase is by no means settled between prominent IP practitioners in South Africa.

As to how the rights are exported, this is also an important consideration.  It is relatively uncontested that an assignment (thus, transfer of IP ownership) needs to be regularised but given the wide description in the regulation, the general interpretation is that any rights transfer of IP from a South African exchange control resident to an offshore entity can only take place with the approval of the South African Reserve Bank.  This will include licensing, as well as more unusual IP arrangements such as securitisation, IP settlement agreements or the like.

The most obvious sanctions in terms of the Exchange Control Regulations regulation 22 which provides that failure to comply with the Exchange Control Regulations may amount to a criminal offence, punishable by a fine of not more than ZAR 250 000 and/or five years imprisonment.  This risk chiefly resides with the South African resident which “exports” the IP.

While criminal sanctions are always very serious, the more practical concern is a commercial one which tends to vest with the acquiring entity.  This risk typically materialises downstream when the new IP owner looks to on-sell or otherwise exploit the IP (for instance by raising capital) which is when a due diligence can uncover the non-compliance.  This can also extend to usage within any limitation imposed by the South African Reserve Bank (“SARB”), which can be onerous.  In most cases the risk cannot be priced into the transaction and it can be difficult, or even impossible, to rectify without significant restructuring – which may include reversing the initial IP transfer.

The process to obtain approval involves an application to the commercial bank of the South African party (known as an “authorised dealer”) from where the authorised dealer may either approve the export of IP if it meets certain requirements, or it may escalate the decision to the SARB if it is beyond the mandate of the authorised dealer.  The rule-of-thumb is that an arm’s length IP transfer between unrelated parties at fair value, using funds which did not originate from South Africa, should be approved.  Any variation from this will require motivation and caution is advised as most of these terms are defined widely in the Currency and Exchanges Manual for Authorised Dealers.  As an example, the manual defines “related parties” as:

“…means a party to a transaction that has a direct or indirect interest in the other party and has the ability to control the other party or exercise significant influence over the other party in making financial and operating decisions or both parties are under common control. For the purpose of the Authorised Dealer Manual, this includes transactions between parties that belong to the same group of companies such as parent, subsidiary, fellow subsidiary and/or an associate company…”

It should be obvious that exchange control regularisation does not happen in a vacuum and various other factors may come into play, including for instance transfer pricing considerations.  Clients are generally advised to seek professional assistance to regularise the export of IP.  Depending on the mandate, this will typically include a commercial IP expert, an IP valuator, tax advisors and structuring experts.

Published in Business Brief e-magazine, December 2023