CRITICAL ISSUES AND CONSTRAINTS TO PRIVATIZATION AND REFORM

7.1. In General

There are a number of issues, impediments and constraints which may affect success of a privatization project (see Sections 3.3 and 3.4). Some of these (legislation and regulations affecting relevant issues such as land ownership, tax, import/export regulations, exchange controls, etc) are within the direct control of government. Others (relating to global issues and the country's current economic and social conditions) are not so easily controlled. In our approach we are alert to the full range of issues impacting on a privatization and restructuring program and are able to provide early, practical solutions to overcome them, whenever possible. In cases where the constraints cannot be overcome, a strategy will be developed and recommended to work around them. A project team with a broad range of skills is necessary.

7.2. Authority of the Executing Agency

The governmental agency charged with the responsibility of implementing the privatization program must have sufficient authority to discharge its responsibilities. This has been discussed more fully elsewhere but is included here for good order's sake.

7.3. Ownership

A variety of issues surround the question of ownership of assets which may be divested. These are often widely discussed within government and by the public and can often raise contentious and emotive debate. In other countries, the issues are not fully appreciated until the privatization process begins and then only become issues as the public becomes aware of them. They ownership concerns may include:

• 7.3.1. Issues of Concentration
  A divestment of public enterprise assets in a manner which results in control going to a particular investor or investor group can be of great concern. Such concern may stem from concerns of equality and fair play. Or, they may stem from more practical economic concerns of concentration of economic power. Our specialists have had experience in structuring divestment and privatization in the industrial world, the newly industrialised nations and the developing world, which will be useful.

• 7.3.2. Indigenisation
  Concerns with maintaining a certain portion of state-owned assets (and even control) in the hands of indigenous people is a particularly sensitive issue. Our experience with Bumiputra regulations in Malaysia and Indonesia, which protect the indigenous people, will be quite relevant.

• 7.3.3. Foreign Control
  Nations often have a fear of foreign control over means of production. This concern must be balanced with the frequent need to attract both investment capital and technical know-how from offshore. A balance needs to be reached between the legitimate concerns of the host nation for a degree of local control over industry and the equally legitimate need for some significant foreign investment in certain industry sectors. The project team has had experience in New Zealand (where Overseas Investment Commission regulations monitor and control foreign investments), and in other protected capital markets, such as Korea, Japan and Thailand. This experience is often useful in reaching an balanced recommendation as to the correct level of foreign investment and influence.

• 7.3.4. Developing small investors
  One of the key issues, and indeed fine opportunities, involved in privatization is the opportunity to develop a broad base of small investors. This was done to great effect by Britain's Tory Government during the privatization of her public enterprises. The number of British shareholders was tripled during this period. Wisely formulated and carefully implemented privatization strategies will do more to introduce the small shareholder to the joys and pitfalls of investment than any number of seminars and advertisements could ever do. Widely based shareholding tends to create a stable political and economic environment, higher productivity and a more sophisticated population. We believe all are beneficial to the nation which encourages small shareholders.

• 7.3.5. Role of Government as shareholder
  The eventual role of government needs to be established. This is often done on an industry by industry basis. In the case of strategic and infrastructural enterprises, the government may delay divestment and may prefer to retain some involvement, either through shareholding or regulation. Often the concept of "golden share" (reviewed in Section 5.9.5) is sufficient to protect the government's legitimate interests in the enterprise's activities.

  Staged divestment of large enterprises may require a temporary holding of shares by government. Issues of regulation of monopoly powers represents an alternate to retaining control of strategic enterprises.

  So long as the Government remains a shareholder, whether on a temporary or permanent basis, the issue arises as to which instrumentally in the public sector will hold the Government's shares and represent its interests.

7.4. Social Safety Net

Labour will most likely be affected by public enterprise reform and divestment. While World Bank evidence suggests that divestment typically results in an increase in employment and remuneration as enterprises begin to earn profits and grow, workers managers, holding company officials and others will be uneasy. In the early days of restructuring and divestment many individuals will be made redundant or become under-employed.

There will need to be coordination and some input from the Government agency responsible for reform to ensure that the necessary safety net development is synchronised with the divestiture and restructuring process.

7.5. Transparency

A successful privatization program must be transparent. The general public and other observers must be comfortable that no vested interests are being promoted and that no principal actors have conflicts of interest. The successful establishment of transparency will do more to ensure a well-received privatization program than virtually other steps the Government can take.

Use of independent outside consultants, open tender and negotiation, and regular accurate communication with all parties will enhance transparency.

7.6. Coordination of relevant programs and projects that may impinge on reform

Other technical assistance programs may be underway which relate directly or indirectly to the activities of the privatization program. Coordination with other consultants and the sponsors for these other programs can be beneficial to all concerned.

7.7. Valuation

Valuation was discussed fully in Section 4.2.2. The Government must balance between valuing assets too low (and being criticised for selling the family jewels) and valuing assets unrealistically high and preventing any sales.

Issues of valuation apply most particularly to:

• Commercial value of land
• Valuation of capital assets
• Valuation of intangibles
• Debt position
• Negotiating differences between buyer and seller positions

The vast experience that members of our team have had in negotiating, as investment bankers, commercial bankers, commercial managers, lawyers and businessmen will ensure a realistic ability to protect the interests of the Government while promoting privatization. This negotiating skill may set our proposed project team apart from most other consultancy practices and represents one of our unique strengths in the area of privatization and public enterprise reform.

7.8. Non-viability of many enterprises

Many public enterprises are simply non viable. These must be liquidated in an orderly fashion, with full awareness of the impact such liquidations will have on the community. Careful attention must be paid to the manner timing of liquidation. Labour will be affected by redundancies. This calls for a humane social safety net. Competitors may be adversely affected if machinery and equipment of the liquidated enterprises is dumped into the market at prices that will disadvantage existing commercial enterprises.

The high proportion of non-viable enterprises may imply that a major part of a privatization and public enterprise reform program will be involved in restructuring and coordination of liquidations. However, to the extent that there are some attractive and viable enterprises the need will exist for a careful and well-managed privatization program for the viable enterprises.

7.9. Levels of Indebtedness

It is likely that most existing public enterprises have extremely high levels of indebtedness. In many cases, this will have produced a massive debt burden on both the enterprises, as borrowers and upon lenders (often public enterprises themselves). The capital structure of many public enterprises will show negative equity. Some solution must be agreed to deal with this level of indebtedness. Government assumption of debt or conversion of debt into equity will be necessary in the case of most enterprises. A case by case approach to indebtedness and debt restructuring is necessary . In this context, our extensive experience with debt restructuring in many nations of the developing world will be pertinent.

7.10. Underdeveloped capital market

The capital markets of many nations are under-developed. We have already discussed the implications of this to a successful privatization and various methods of dealing with that limitation. We repeat the issue here for the sake of good order.

7.11. Level of Investor Interest

The local investment community is small. Most citizens of the country (and most countries) are unsophisticated and lack knowledge about investment practices, procedures, benefits, risks and pitfalls. An educational program needs to be established to raise the general public's level of understanding or and appetite for securities. This will enhance both the immediate efforts of privatization and the long-term welfare of the small investor. We have elsewhere discussed our suggested strategies for raising investor interest.

7.12. Legal

Legal issues have been discussed elsewhere. The regulatory, legislative and commercial environment will impact tremendously on the success of a privatization program. For this reason, careful attention is required to ensure the creation of a suitable environment which promotes private sector business.

7.13. Competition

Most nations now involved in public enterprise reform have limited competition in many sub-sectors. This will be a factor affecting both the value of enterprises and the social/political implications of divestment. These must be understood with sensitivity.

The existence of publicly owned enterprises competing with others which are private or which the Government intends to privatize, creates difficulties associated with the potential for preferential treatment of Government-owned enterprises in the area of procedures, approvals, regulations etc. This must be understood and taken into account both in working toward a "level playing field" and in restructuring, divesting and negotiating the sale of enterprises.

7.14. Vested Interests

We recognise the natural existence of a complex and often subtle range of vested interests both mitigating for and against divestment. Many will work to protect vested interests. Procedures to address and ameliorate this will be helpful. Offering shares in the divested enterprises to those individuals responsible for the success of the divestment program will do much to ensure a speedy and successful public enterprise reform program. Without such incentives, self interest in preserving the status quo will slow the reform process and may altogether stop it.

Others involved in and affected by the privatization process will have a vested interest in promoting a particular outcome as to any given enterprise. The appointment of an experienced, objective and independent team of consultants will protect the Government from risks of this nature.

7.15 Importance of Management Information Systems

Timely and accurate information is critical if management are to make the correct decisions to run an enterprise in an efficient and effective manner. Suitable management information aggregation procedures should be in place to capture relevant data. Data is best captured by a computer system that utilises the correct combination of hardware and software. Recognising the GIGO principle (garbage in - garbage out), properly trained staff are also an essential element of a successful system. Given the importance of properly functioning Information Technology (IT) to the success of any business enterprise, Admiralty International recommend a systems audit, followed by a needs analysis during the early stage of an enterprise review. This review can progress to a system recommendation and implementation as appropriate.