Transcript Restructuring and Privatisation

Chapter 4: Privatisation
1
Privatisation and privatised firm

Privatisation:
• legal transfer of property rights from the state to
private agents (individuals, legal entities…)

Privatised firm:
• a firm that used to be owned by the state (SOEs) and
was partially or totally privatised through a
privatisation scheme so that the combined private
parts have majority or blocking decision power
– note that in some cases firms have been privatised but state is
still partial owner and sometimes majority owner while
waiting for new private buyers - state is passive owner
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Privatisation and privatised firm

In broader sense privatisation = destatisation of
the economy
• marketisation or commercialisation: SOEs managed
according to market rules and facing competition
• new private firms = greenfield privatisation

In broader sense privatised firm not necessarily
full ownership
• long term leasing provided have a transfer of property
rights on earnings
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Why is it important to privatise?

Objectives of Central Plan firms different from the
objectives of the Market-oriented firms:
• The Plan defines production (location and integration),
exchange, prices, quantities and quality
• The Plan maximises output and employment, not profits
• The Plan does not minimise costs or losses since the
government always bails out the loss-making firms
• The Plan does not seek ways to improve the goods’ quality
since that would imply extra coordination effort and
potential failure due to a greater number of brands for
similar goods; frequent change of the goods themselves;
variety of prices
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Why is it important to privatise?

Resulted in the former socialist firms being:
•
•
•
•
•

large and overmanned
operating with the obsolete equipment
producing low quality
hidden slack (“less discipline”)
low productivity or efficiency
General technical inefficiency - build-in
efficiency: wrong incentives  need to privatise
to correct them (together with liberalisisation)
• prices (in liberalised system) would reflect demand
and supply changes and scarcity
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Why is it important to privatise?

Property rights and related incentives:
• definition of whom is to obtain revenue/earnings of
firm, whom is to control/use the inputs and the
possibility of selling or renting, liquidate  incentive to
do more and better so you can earn more

Harder budget constraints if associated with no
state support or bail-out)= higher risk of
bankruptcy
• incentive to do more and better and at minimum
waste
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Central Plan vs Market
TC
TC
TR
A
TR
B
C
profit-max
BE
Central Plan
Output
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Aims of privatisation

An increase in managerial and general enterprise
efficiency
• profit maximisation and cost minimisation

A stimulus for restructuring
• initial restructuring (reduce labour) and deep
restructuring (change technology, management retraining, product innovation, etc)

Privatisation and the entry of new private firms
would lead to a large private sector
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Aims of privatisation
Raise state revenues
 If good results leads to political support for
reforms
 For political/ideological reasons governments
want to destatised economy and create capitalist
class
 To put to use the savings of the population by
direct sales of state assets (only Hungary)

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Reform complementarity
Liberalisation
 But note that need also to have competition
(domestic and international) for allocative
efficiency

• lack of competition = danger of monopolies which is
associated with lower bankruptcy risk and xinefficiency
Need to avoid SBCs
 Environment:

• investment, institutional
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Strategies

Different governments followed different
strategies
• speed
• modes of privatising
– traditional methods: direct sales of and/or auction of company
shares to interested individuals or firms
– non-traditional methods: give-away voucher or shares
schemes often called mass-privatisation schemes

Due to constraints and considerations:
• ideological (Czech and Slovak Republics), political
(Russia), informational, financial, administrative, equity11
(Poland), restitution (Czech and Slovak Republics)...
Small vs large-scale
privatisation

Greenfield privatisation: immediately
• from street sales to services (consulting, teaching…)

Small-scale privatisation = transfer of small
scale state assets (small firms) to private
persons
• through divestment: sales of assets, direct sales,
leasing, by auctions not open to foreigners
• through restitution in kind or cash or equivalent asset
or privatisation vouchers
• trade, services, truck transport, construction, land and
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housing
Small vs large-scale
privatisation

Large-scale privatisation:
• slow: organisation needs time
– set up legal framework
– set up institutions/agencies of privatisation and/or
ministries (big enterprises), local government, and plan
administrative process (no stock market)
– most governments did not want to be 100% involved
– transform companies: evaluate and divide company in units
with state as main stock/shareholder
– find buyers
– monitor
– 18 months in Czechoslovakia and Russia the process of giving13
away assets through vouchers
Privatisation methods

Differ across countries
Though most countries tried:
• 1. Sales to foreign capital (great expectations
foreign capital would be involved) and domestic
capital = strategic investors
• 2. Mass privatisation to insiders or outsiders
• 3. Sales

Choice related to set of constraints plus
difficulty in finding outsiders with respect to
insiders
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Obstacles faced by privatisation

Foreign capital
• Dilemma: want FDI - for technological know-how,
financial resources, management expertise and
restructuring incentives - but protect national interest
• Also FDI not able to achieve full privatisation

Domestic capital
• relevant but domestic saving limited and most spent on
small - scale privatisation
• took long time and few companies
• potentially less innovative
Financial constraints  state as passive owner
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Obstacles faced by privatisation

Political constraint:
• Privatisation is a difficult decision: e.g. potential
increase in unemployment
• Idea: less depolitisation and destatisation and increase
in efficiency more important than way in which
privatisation is conducted
• Politicians develop politically accepted programmes
• compromise to make privatisation reality, no other way
possible
– preferential treatment to insiders
– hope that outsiders would slowly come in
• Backlashes: parliament conflicts and party changes
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Methods: Ia) mass privatisation =
give away schemes - Voucher

Voucher or coupon (Czechoslovakia, Bulgaria, Russia,
Lithuania, Slovenia)
• piece of paper denominated in cash (e.g. Russia) or in
points (e.g. Czechoslovakia before partition)
• small fee (Czechoslovakia and Bulgaria) or free (Russia)
• tradable (e.g. Russia) but not in most countries
• Each investor had to submit his vouchers as a bid for the
company and shares were distributed proportionally or
put them in an investment fund
– e..g. 1000 shares / 40 vouchers  25 share each
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Methods: Ia) mass privatisation =
give away schemes - Voucher

Why in points and non tradable?
• Vouchers are not currencies but mechanisms of
privatisation.
–
–
–
–
–

less impression of government giving away assets
avoid speculation and large discounts if trade only shares
rich could take advantage of poor
large investors  blocs
incentivises development financial markets
Problem with biding:
• small investors do not know how to value shares
• evaluating shares is difficult when accounting books
are flawed and no information available
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Methods: Ib) Mass privatisation Shares

Distribution of shares in investment funds that
have shares in companies to be privatised
• (e.g. Poland, Romania)

Distribution of shares on subsidised credit
• (e.g. Hungary)

Distribution of certificates of ownership/shares
to be traded by shares in enterprises or funds
• (e.g. Slovenia)
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Mass privatisation

Advantages:

• politically acceptable, moral
compensation
• large fraction of assets is
covered
• simple and fast (no valuation)
• fair distribution
– small investors always have
shares
– all investors pay same price
and large investors do not
get advantages
• no need for capital and
restructuring
Disadvantages:
• if too fast  no good inventory
possible
• no revenue or negative
budgetary impact
• sophisticated investors
(investment funds) tender more
vouchers to influence the price
• private individuals difficulty in
biding
• employee ownership
– incumbent management left in
place  restructuring???,
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fresh capita???
Methods:
II) Sales of State Assets

Also called piece-meal privatisation
• define value of firm and divide it in units and sell these

Advantages:
• revenue for the state
• restructuring prior to privatisation is possible
• get rid of inefficient management

Obstacles:
• limited cash (savings) in those economies
• but: foreigners (yet risks and limitations)
• reflection of ability to pay
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Spontaneous privatisation

Workers and managers (insiders) appropriate
formerly state-owned property
• (e.g Poland and Hungary)
• companies transformed into joint-stock and managers
split companies in parts and transform some of them
into limited liability firms securing their jobs
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Insiders and outsiders:
who are they?

Insiders (e.g. Russia up
to 70%)
• employees of privatised
firm
– workers
– managers

Outsiders
• foreign investors
– most desired
– important in Hungary
mainly, followed by Czech
Republic and Poland
• domestic capital
– entities (financial investment or
privatisation funds - and
non-financial)
– individuals
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Outsider privatisation
Fresh capital  availability of funds to update
obsolete equipment
 Technical know- how, management expertise
 Workers remunerated according to their
performance
 High incentives for managers to do well
 Deep restructuring
 Firms move closer to their production frontier
 But: unknown environment and technology transfer
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takes time

Insider privatisation
Politically acceptable
 Know production well
 But: not trained in new/market management and
used to old routines
 Lack of funds to buy new equipment
 Layoffs of inefficient workers blocked by the
insiders
 Initial (survival) restructuring only
 Low or negative profitability of the enterprise
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
Obstacles to deep restructuring
1. Those whose jobs are at risk will oppose
restructuring
2. Restructuring is likely to require large capital
expenditures
3. Privatisation mode (e.g.insiders)
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The insiders’ reaction
“If the company in which you are employed
becomes privatised, what do you think the private
owner will do? Choose 3 answers.”
Fire all unneeded workers
76%
Squeeze the company for profit for a short time
44%
Employ competent workers in all positions
38%
Replace some of the executives in the company
29%
Buy new equipment and machines
23%
Limit the role of employees in decisions
21%
Limit the role of unions
19%
Increase wages
18%
Improve working conditions
8%
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Outcomes of mass privatisation

Czech Republic: one of the very few successful cases
• Tighter pre-transition control of the firms
• Privatisation started quickly and involved big reversal costs

The Slovak Republic
•
•

Quick start
Fast suspension (1995)
The Russian Federation
• Managers were given majority stakes in their firms to ensure their support
• Mass insider privatisation resulted in little or no “deep” restructuring
• Deep restructuring especially politically sensitive (town enterprises; social
unrest)

Poland
• Complex institutions
• Political backlash, hence indefinite postponement of privatisation
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Firm performance and
ownership
 Firm performance
•
•
•
•
investment and technology
employment (growth rate)
sales revenues (growth rate)
productivity (growth rate or levels)
– sales per worker or value added per worker
• profitability (growth rate or levels)
– account profits (bad measure)
– gross operating profit divided by net fixed assets
plus inventory
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Performance of firms in Hungary and Poland, by ownership
type, 1993
Source: EBRD (1995, ch. 8 , table 8-5)
State
Insiders
Outsiders
Domestic
Foreign
Hungary
Employees per firm
% new technologies
Investment-to-sales ratio (%)
699
13.9
0.6
293
16.7
0.2 *
74
23.1
1.1*
364
42.9
1.1*
Poland
Employees per firm
% new technologies
Investment-to-sales ratio (%)
548
51.6
1.2
273
75.0
2.8*
132
71.4
0.0*
432
87.5
5.8*
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Konings (1997) employment growth rate
*: denotes significant at 5% critical level ** denotes significant at 10% critical level
Ln(age)
-
De novo
Ln(empl)x de novo
0.54 *
(0.058)
0.052
(0.059)
-
(2)
-0.048 *
(0.009)
0.017
(0.015)
0.17 *
(0.059)
0.006
(0.041)
-
Ln(empl)xprivatized
-
-
Ln(age)xde novo
-
-
Ln(age)xprivatized
-
-
Comp
-
-
Ciner
-
-
Union
-
-
873
0.31
561
0.30
Ln (employment)
Privatized
Number of obs
Adjusted R²
(1)
-
(3)
-0.056 *
(0.022)
0.049 *
(0.021)
0.48 *
(0.20)
0.061
(0.18)
-0.012
(0.028)
0.24
(0.025)
-0.16 *
(0.09)
-0.069 *
(0.031)
0.018
(0.033)
-0.052
(0.039)
0.014
(0.047)
548
0.33
(4)
-0.027 *
(0.009)
0.030
(0.024)
0.74 *
(0.26)
0.15
(0.12)
-0.043 *
(0.019)
-0.001
(0.010)
-0.25 *
(0.16)
-0.048 **
(0.028)
0.012
(0.022)
-0.038 *
(0.020)
0.033
(0.029)
548
0.32
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Frydman et al. (1999)
Table II The Ownership Effects
Revenue
Employment
Individual
All
Individual
All
Individual
All
Individual
owners
categories
owners
categories
owners
categories
owners
categories
7.26**
Foreign Investorsa
Cost per unit of revenue
All
of owners
Privatisation Effects
Productivity
of owners
of owners
4.29
3.34***
of owners
-3.05
12.17***
8.40**
6.57
-3.69
18.54*
-0.31
16.37**
-6.77
-2.92
0.71
0.71
4.46
Domestic Individualsa
7.57
-1.87
3.66
-8.41
State (in a privatised firm)a
9.85
-0.48
13.83
-6.71
Managersa
3.29
6.82***
-7.15
2.55
Workersa
1.61
4.14
-3.41
3.33
a
Private domestic financial firms
Private domestic nonfinancial
a
firms
a: dummy variable set to 1 for the post-privatisation performance of privatised firms where the given type of owner is the largest shareholder, 0
otherwise.
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Frydman et al. (1999)
Table III Privatisation Effects Outsiders versus Insiders
Privatisation
Effects
Outsidersa
Insidersa
Revenue
Employment
Productivity
Cost per
unit
of
revenue
9.70*
1.51
9.16**
-4.36
0.68
7.72*
-7.92
1.12
a: dummy variable set to 1 for the post-privatisation performance of privatised firms
where the given type of owner is the largest shareholder, 0 otherwise.
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Classens and Djankov (1999)
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Outcomes of privatisation
Impact of privatisation on private sector share of
the economy is small
 Revenues resulting from privatisation rather small
and wide variation and very high costs

• costs to measure equity/asset value, privatisation
agencies. In Hungary = 28.5 % of revenues

Effect on firm efficiency not clearcut
• new de novo private firms performed better but
privatised firms only in some context outperformed SOEs
• only outsider privatisation led to increased
35
performance
Outcomes of privatisation

Outsider privatisation
• increased revenue and productivity thus efficiency
• actually employment increased (foreign investors)!

Insider privatisation
• increased employment
No evidence on cost or employment reduction
 Type of privatisation (insiders vs outsiders)

• no impact on choice of defensive (cost reduction) vs
strategic restructuring (revenue increase) but on the
effectiveness of the latter
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Outcomes of privatisation

Some evidence that ownership concentration
leads to higher profitability and productivity in
Czech Republic
• Voucher scheme was a way to go from individual to more
concentrated structure

In Russia little move from insiders to outsiders
• weak financial markets, solidarity among workers and
desire to keep control
• difficult for outsiders and are these good?
• But actually some variation

Outsider concentration also important in Russia
37
How fast should privatisation take
place ? Big bang vs gradualism

Big Bang: Speed of privatisation is main objective
• Why ? Private property is needed for incentive reasons
– Absence of clarified property rights
– Getting the state out of the economy
– state should correct market failure only
• Privatisation faces political constraints:
– redistribution effects of privatisation
– blocking of programmes (which impacted on choice of more
politically acceptable programme)
– backlash or reversal
– restructuring after privatisation? Uncertainty
– financial constraints(financial markets are developing…)
38
How fast should privatisation take
place ? Big bang vs gradualism

Because of these constraints  Gradualism
• Firms are identified for privatisation and those who get
an interested buyer are sold
– this buyer is interest in financing and restructuring the firm
– they use financial markets contributing to sound financial
system
• SOEs gradual restructuring towards privatisation.
– Can harden the budget constraints of SOEs
– financed by state budget so do not impact on financial system
– only bail-out those that not possible to close down
• The best firms are privatised first
39
How fast should privatisation take
place ? Big bang vs gradualism

Advantages
• reduces cost of experimenting
– if successful the programme the electorate will support further
reform
– if unsuccessful the cost of reversal is small
• increases likelihood of success as best firms are
privatised first and of restructuring
– less likely that employment decreases and more likely
restructuring takes place
– if these are successful then popular support
• allows the development of better financial sector

Disadvantages: few firms are privatised
40
State intervention
 To correct market failures
•
•
•
•
public goods
externalities
incomplete contracts
monopolies
 Through provision or funding or regulation
(if not enough competition)
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