Bumiputra partner engagement calls for higher-level due diligence

August 3, 2015

Literally translated as ‘princes of the land’, ‘bumiputra’ (or ‘bumiputera’) is a Malaysian term to describe the Malay race and other indigenous people living in Malaysia. The Malay people group, plus natives from East Malaysia (such as Iban, Kadazan, Dusun, Kayan, and Melanau, to name a few tribes) and Orang Asli (literally meaning ‘native’) in West Malaysia (Peninsular Malaysia), are classified by the Federal Constitution as ‘bumiputera’. Bumiputra accounts for roughly 60 percent of Malaysia’s total population, while ethnic Chinese and ethnic Indians account for 23 percent and seven percent respectively.

Under Malaysia’s constitution, bumiputra are entitled to certain privileges solely based on their race. This came about when the Malaysian government decided to implement the New Economic Policy (NEP) in the 1970s. The NEP was drawn up as a result of a violent Sino-Malay sectarian conflict in May 1969 and is regarded as the federation’s new social contract by which local Malays were to be given special privileges and rights.

Since that time, the Malaysian government has set out various economic policies that favour bumiputra, ensuring that local Malay businesses enjoy a competitive advantage in the local market. A good example is the legal requirement that companies in Malaysia should allocate at least 30 percent of their share to bumiputra while publicly listed companies must have a minimum of 12.5 percent bumiputra shareholding.

Although in recent years some sectors have been liberalised in order to increase the country’s overall competitiveness, the bumiputra equity ownership target remains in some strategic sectors. These include agriculture, banking and finance, biotechnology, education, petroleum, oil and gas, textiles, and minerals. Foreign participation in these sectors is generally not encouraged by the Malaysian government.

It was not until 2009 that foreign parties were allowed to acquire Malaysian companies without approval from the Foreign Investment Committee (FIC). The FIC now only reviews major foreign acquisitions of local companies valued larger than RM20 million (about US$6.5 million). Some service-subsectors were further liberalised by the government in 2012. For example, the Malaysian government now allows 100 percent foreign ownership in vocational education providers and private universities, private hospital services, specialist medical and dental clinics.

However, all ministries are required to create a Bumiputra Development Unit to be responsible for proposing and implementing the government’s bumiputra agenda. This includes ensuring bumiputra participation in the country’s commercial activities. For example, many government tenders are to be awarded based on the amount of bumiputra shares a bidder has. What this means is that non-bumi contractors tend to team up with bumi companies in order to satisfy the race-based bidding requirement, while in return bumi partners are usually awarded a certain portion of the profits. This common business practice is known as ‘Ali Baba’ in which Ali, the bumiputra, fronts a Baba, a Chinese or Indian company.

Integrity due diligence

There have been numerous scandals surrounding these bumi contractors. These include a report by WikiLeaks in 2011 revealing the findings of an unpublished study by the Works Ministry that bumi contractors commonly sold lucrative government contracts to non-bumi companies to finance their own luxury cars and villas. This partnership between ‘bumi agents’ and ‘non-bumi implementers’ was noted as being well-oiled and entrenched in the Malaysian market.

It is obvious that these concerns surrounding bumiputra partners add more complexity to the management of integrity and compliance risks, particularly when a company is already faced with industry-specific challenges to comply with corruption laws and other regulatory mandates. To take the life science and healthcare industry in Malaysia as an example, healthcare and pharmaceutical companies have to use local partners in order to effectively compete in the market. Suppliers of pharmaceutical goods and medical devices partner with bumiputra intermediaries who have licences with the government to bid for government contracts and to facilitate the payment of invoices. As such, while healthcare companies are already more prone to bribery and corruption risk, as they have to interact and work with practitioners who are deemed as ‘government officials’, they will also need to manage the heightened integrity risks posed by the bumi agents with whom they are to work.

When planning to establish an extended business presence in Malaysia, companies not only have to think about they want to do in terms of how to set up their businesses. More importantly, they should conduct appropriate integrity due diligence on their bumi partners or bumi vendors. Due diligence should at a minimum include verification of ownership details and corporate structures. Local language media checks are also necessary to ensure that these bumi companies are in good commercial standing.

For certain types of business, it is also important to check your partners’ operating licences and permits. However, based on the type of engagement, companies may also want to go one step further to obtain business intelligence and conduct site visits. As discussed, certain sectors in Malaysia are heavily controlled by the government to push the bumiputera agenda. As such, many classes of licence are heavily biased in favour of bumi companies. So before engaging a bumiputra company, it is worth checking on its reliability. Just because a company holds a licence does not mean it is the best. The system is not solely based on meritocracy.

Similar to the laws in other jurisdictions, conducting due diligence not only allows companies to detect and prevent integrity problems and non-compliance, it also helps them to mitigate the costs when problems arise. For instance, section 74 of the Medical Device Act 2012 gives medical device companies a defence to the vicarious liabilities created by offences committed by a partner or agent (such as non-conformance to licencing and permit requirements, and illegal product advertising) if they have exercised due diligence to prevent the wrongful act.

 

While Malaysia continues to be a major attraction for foreign investment, companies should not overlook the potential integrity risks they may face when dealing with local companies in the Southeast Asian country. In order to manage these risks, companies should be more cautious and perform more in-depth due diligence on bumiputra contractors.

Companies must ensure that the privileges and advantages bumiputra enjoy do not turn into an integrity issue. Of course, not all bumi are able to profit from preferential treatments. At the end of the day, it remains the case that there is a noticeable gap between the social strata even among bumiputra. However, bear in mind that the ones that are positioned to take advantage of the privileges are often themselves in high positions and, in getting there, may have had to ‘curry a few favours’.

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