Government sales aheadMay 12, 2011
An urgent need for additional funds is forcing governments around the world to re-examine their assets to see what could be put up for sale. But past experience has shown the need to tread carefully.
By Rodrigo Amaral
Cash-strapped governments in some countries will need to use every tool at their disposal to restore public finances to health.
And while tax increases and spending cuts will be the main methods used to reduce deficits, a significant number will turn to privatizations as an additional way of raising much-needed funds.
The disposal of state-owned assets could certainly play an important role in raising government revenues. Over the next five years, it has been estimated that in total, European governments could raise more than €650b through privatizations.
In the United Kingdom alone, the sale of remaining commercial enterprises held within the public sector could yield up to £90bn over the next few years, according to the Adam Smith Institute, a think-tank.
In addition to providing a much-needed injection of capital, privatizations can also help governments to cut costs over the longer term.
By handing over responsibility for a service to the private sector, governments can reduce the costs of delivering essential services to the public, giving an extra boost to deficit-cutting efforts.
For corporates turning their attention to growth strategies, this new wave of privatizations could well be a source of potential acquisition targets.
“It is likely that many cash-rich companies and pension funds would jump at the opportunity to buy some of the assets that are coming to the market,” notes James Close, of the Government Services Practice at Ernst & Young in the United Kingdom.
Governments seeking to maximize the sale price of their assets will need to consider the timing of their sales carefully.
Conditions in financial markets will be an important factor. More buoyant equity markets will lead to higher valuations, although ongoing volatility means that it will be difficult to plan ahead.
In recent months, a number of European governments have announced that they will engage in privatization efforts, which means that many assets could be coming to market at around the same time.
This creates the potential for market saturation and a depression in prices. For example, Greece aims to raise up to €7b by selling stakes in airports, energy firms, the postal service and a manufacturer of defense equipment.
Portugal has outlined plans to sell its remaining stakes in the energy companies Galp and EDP and an electricity distributor REN, along with TAP, the airline.
Among other things, Spain is launching the partial privatization of its national lottery operator and its airport authority, AENA, while also offering both its Madrid and Barcelona airports as private concessions under a 40-year license system.
It is not only cash-strapped, Western governments that are following the privatization route. Some emerging European countries are using it as a means to enhance their economic prospects.
Poland has an ambitious divestment program in place, while Turkey, Serbia and Croatia are also considering disposals.
Russia has embarked on an ambitious privatization process, which includes the sale of a 15% stake in Rosneft, the oil giant, a 7% stake in Sberbank, and the recently completed secondary public offering of VTB, a formerly state-controlled bank.
The Russian government hopes to raise a total of US$32b from these sales over the next three years.
Proceed with caution
While budget pressures may encourage governments to act quickly, research shows that officials would do well to proceed cautiously with privatizations.
In a survey by Ernst & Young of officials in several countries that had been involved in privatizations, 70% said that they did not maximize value during the process.
And an overwhelming majority of 90% said that they would like to have had more time to prepare if they were to go through the process again.
Careful planning of a privatization, including the consideration of more innovative structures for the transaction, can help to maximize the value of the sale. At the most basic level, it may well prove more profitable to sell off an asset in component parts over a period of years rather than all at once.
Governments may also want to look at less conventional deal structures – for example, at present there is extensive press speculation as to how the UK government will go about selling off its 84% stake in RBS and 41% stake in Lloyds Banking Group, which were taken on following emergency bail-outs in the financial crisis.
One idea mooted is the prospect of each UK citizen taking a stake in the banks.
But governments also need to look at a broader range of factors than just maximizing the price. They also have a responsibility to ensure that the privatization process brings benefits to society that are not always financial.
“The goal of privatization may be to raise money for the government, but this is not the only factor to be considered,” says David Murray of Ernst & Young’s Transaction Advisory Services in the UK.
“Governments also need to think about the post-privatization landscape and the impact of the sale on both the economy and society.”
Risk of controversy
Privatization can sometimes be a controversial issue, particularly if voters consider the asset to be part of their national heritage or culture.
When the UK Government announced that it was planning the sale of woodland held by the state-owned Forestry Commission, public opposition to the plan was extremely vocal. In February 2011, the Government announced that it would put part of the sale on hold and re-examine the criteria for the disposal.
This highlights the importance of choosing assets to be privatized carefully. In general, governments prioritize assets that are likely to generate the most investor interest and that are straightforward from a political and economic perspective.
Equally, financial markets may complain that privatization efforts are not going far enough. The Irish Government has been criticized for not including the sale of its attractive utilities companies among the budgetary measures introduced to cut the country’s deficit.
“Privatization remains an emotional political term, and there are divergent views about it in Europe,” says James Close.
“But the scale of deficits makes the economic reality more significant than political ideology. The bottom line is that governments need the money.”