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Headline: The politics of privatizing power Source: Euromoney Date: April 2001 Author: Nigel Dudley Those central and eastern European countries that have pushed furthest and fastest with privatization have benefited from healthy government finances, restructuring and modernization of key industries and enhanced economic growth. That’s undeniable. But privatization remains ever politically contentious. Selling their banking systems to foreigners was hard to stomach, and now these countries are selling even more essential services, their energy generators and power distributors. If they can maintain the political will, at least governments will find buyers in these sectors, unlike in telecommunications.
In many ways it was a model privatization. It was completed quickly. In contrast to some earlier sales, which had taken up to three years to finalize, there were less than eight months between pre-qualification and the final agreement. Vattenfall was also able to buy 55% of the shares, giving it actual as well as managerial control. But it seems that this type of deal is now becoming increasingly difficult to negotiate. Vattenfall’s recent purchase of electricity distribution company GZE was limited to 35%. “That reflects a clear change in strategy by the Polish government,” says an energy industry executive. Partly it reflects the acute sensitivity of handing over such essential services to foreign companies in the run-up to a general election. Yet this has not deterred foreign trade buyers, which are attracted by the chance to acquire sizeable positions in large growth markets through privatization programmes. Vattenfall says that Poland, together with Sweden, Finland and Germany, will be the main focus of its longer-term investment strategy. “The acquisition of Warsaw CHP and GZE demonstrate that Vattenfall sees Poland as one of our major markets. We were the first to buy a major CHP [combined heat and power] company and the first to buy a distribution company. We see a considerable potential for increase in gross national product in Poland and believe the market opportunities are substantial,” says Owe Sandin, who managed the Warsaw CHP acquisition project for Vattenfall. If the sale of Warsaw CHP demonstrates the best of central European privatization, the confrontation between the Polish government and the alliance of European insurance companies, Eureko, over the sale of insurance company Powszechny Zalkad Uzbezpieczen (PZU) has shown the worst. The showdown over board representation, which has included an attempt by the government to annul PZU’s sale to Eureko, is described by one banker as “dramatically lowering the credibility of Poland as a place to invest in safely”. Eureko, which, with Poland’s BIG Bank Gdanski, paid $657 million for a 30% stake in PZU, was promised half of the board representation. The government, which owns 57%, is now insisting on two-thirds of board representation and last November asked the courts to annul the sales. As relations have deteriorated, Eureko has appealed against the move in the courts and, aware of Poland’s application for EU membership, lodged a complaint with the European Commission. The government is now threatening to scrap this year’s planned flotation and instead hold a tender sale for 30% of its stake. Bankers say it is hard to assess the impact of the recent resignation of the senior treasury officials who had led the case against Eureko. Crucial election looms The latest disagreements in Poland about ownership are becoming more intense as the country nears a general election which some bankers believe will lead to a slowdown in future sales. However, bankers with long experience of the region say that setbacks like this should not be allowed to detract from the achievement of central European countries in selling off large sections of their economies in an orderly way and with little or no social unrest. “In some areas they have achieved much more than western European governments,” says Alain Pilloux, business group director for eastern Europe at the EBRD. “What eastern European governments have not done yet is significant, but not so significant compared with what they have achieved.” The next months will, however, be difficult in several sectors, coming after a period in which there have been several postponements or disputes, notably in the airline, banking and telecoms sectors. Politically weak governments have been knocked off course, particularly where there is ministerial infighting. Some countries, such as the Czech Republic, have struggled to catch up following disastrous decisions such as the introduction of voucher privatization in the early 1990s. And controversy persists over some pricing structures that owe more to political expediency than economic logic. Even if major confrontations, such as Poland’s dispute with PZU, are resolved, future sales will not be easy. But at least continental European companies interested in acquisitions in the region are becoming more familiar with the political risk and readier to respond to the challenge than some US and British companies with shareholders to satisfy. Sensitive privatizations With the banking sectors in Poland, the Czech Republic and Hungary now largely cleaned up and sold off to strategic investors, the emphasis has shifted to privatization of even more controversial and politically-sensitive sectors, including energy. Governments are also looking to sell loss makers such as the airlines or railways and telecommunications and steel companies, which, as sectors, are hardly on the buy list of any international investor. Governments have learned from some of their mistakes. The Czech Republic, for example, is now selling its banks to strategic foreign investors rather than trying to protect its industries from the full rigours of the market by keeping these financial institutions in state hands. Those countries that head the list of applicants to join the EU and have taken the lead in selling off state assets are confident they can continue to attract foreign investors. In addition, Bulgaria and Romania have been more active in the past year. Now, market conditions are making some sales difficult. Further sales of shares in the telecommunications sector are less likely given the dramatically reduced values of these companies in international markets. The sale of Ceske Telecom had been planned for the middle of this year but will now be delayed. France Télécom has postponed plans to build a majority stake in Poland’s Telekommunicaja Polska (TPSA). France Télécom, which holds 35% in TPSA, has an option to buy a further 10% and an additional 6% from an IPO which would give it a majority holding. The problem is that few international investors want to buy telecoms shares. France Télécom’s options are set at a share price of Zl38 ($9.16) compared with the present market price of Zl23. “The government was hoping to raise $3 billion from the sales, but they will be lucky to raise $1.5 billion now. Rather than give France Télécom a lower price, I think they will postpone the new share issue,” says one banker. However optimistic bankers still argue that there is enormous potential in the mobile phone sector in Poland. Hungary has had to abandon plans to sell off a minority stake in national airline Malev because of international market conditions. Although at least four western airlines expressed interest, not one made a bid. APV, the Hungarian privatization company, and the advisers, ING Barings, blamed the worldwide oversupply of airlines and pointed out that the continent’s leading airlines are already committed to the region. But falling world stock markets have not brought privatization entirely to a halt. Poland continues to sell off generation and distribution companies, including most recently Wybrzeze CHP, where a 45% stake was sold to a consortium of Electricité de France and Gaz de France. The Czech Republic is moving less quickly on energy sales but plans this year to sell off its electricity industry – though bankers consider this schedule over-optimistic. Most ambitiously of all, Hungary is considering selling off the extremely sensitive water industry and Poland is looking for a foreign investor to help transform its railways. Four international companies have expressed an interest in buying the assets of a package of state-controlled Polish steel mills. The EU is urging the government to find strategic investors for the company, which is overmanned and has $2.5 billion of debts. However the Polish treasury is reluctant to agree any deal that allows investors to cherry pick the best assets. The Czech Republic is completing the sale of Komercnibanka and has begun the long- awaited privatization of Unipetrol, the country’s dominant petrochemicals group, by appointing advisers – the government hopes to choose a buyer for its 63% holding by the end of the year. The sale of Ceske Radiokommunicace should also go ahead later this year. This stuttering approach to privatization is likely to characterise future sales as the only companies remaining in state hands are those that are difficult to sell or whose market values do not coincide with the sums of money the governments expect to raise. The successful companies, financial institutions and advisers involved in central and eastern European privatization accept that negotiating and implementing sales is a long and complicated process that does not end with the conclusion of a privatization agreement.
There is no doubting the political commitment in principle of the central European governments to privatization, though, particularly at election time, they are less likely to be enthusiastic about price liberalization and the virtues of international competition. Privatization has made possible the radical transformation in little more than a decade of central and eastern European countries from communist command economies to ones driven by market forces. The reform process was accelerated by the sale of inefficient companies, generating the revenue to sustain a painful political transformation at a time when many voters appeared tempted by a return to the old order. According to the Economist Intelligence Unit, Poland and Hungary, the most energetic privatizers in the region, have shown a rise in output of 150% and 127% respectively since 1992, while the Czech Republic, where the process has been slower, has grown by 112%. Pilloux says it is no coincidence that the Czech government’s renewed focus on privatization has come at a time when it “has a significant fiscal deficit which is running at 7% to 9% of GDP.” Modernization gains Even more important than flows of cash into state coffers have been the benefits to the companies themselves. Without privatization, which gave them access to the capital-raising power of their international shareholders, they would never have been able to finance the industrial modernization needed to make them internationally competitive. Corporate governance has also improved dramatically. “One of the most important factors in driving forward privatization in central and eastern Europe has been the spur of EU membership. It preserves, and, in some cases, has resurrected the momentum of privatization, which has not always been constant,” says Olga Grygier, a partner in the project finance and privatization team at PricewaterhouseCoopers. The prospect of EU membership has also – just about – ensured that governments continue to liberalize their economies and bring the prices of essential services like gas and electricity into line with market rates. This has raised political tensions even in Hungary, which is the most market-oriented of the central European economies. Last year, oil and gas company Mol had wanted to increase prices by 30% to 35% but was forced to accept an increase of only 12% in July 2000 and consequently dropped plans to expand production. The state competition office is also investigating a dispute between the company and the government over some oil prices, which are not regulated. The position could have been worse. UBS Warburg upgraded its rating for Mol because “the government’s decision to increase gas prices by 12% was bigger and broader than we had anticipated,” its analysts say. Some bankers point out that the need for price increases can be exaggerated, as most energy companies have significant scope for cost- cutting. A key lesson from the west is that privatization only works if former state monopolies face adequate competition. But competition can be damaging if it is introduced too rapidly and in such a way that newly-privatized companies are unable to restructure. For example, it may be that the Hungarian government is liberalizing its telecommunications sector too quickly by introducing competition into its local telephone service in 2002. According to one banker: “the Hungarian fixed line telecom market is set to become increasingly competitive without growing overall. Consequently liberalisation is coming too soon for the incumbent company.” A disjointed approach It can be a difficult balance to strike. The Czech Republic was the first central European country to liberalize its telecommunications market, when Ceske Telecom’s monopoly of international, long-distance and local fixed-line services was removed. However, potential competitors believe that competition will be little more than cosmetic unless there are interconnection agreements on reasonable terms and genuine choice through a dialled prefix. There are also complaints that regulators are weak and that Ceske Telecom has dragged its feet during negotiations.
The government’s present policy is for some 64% of Ceska Energeticke Zavody (CEZ), the dominant power generator, and six out of eight power distribution companies to be sold as a package. All eight gas distributors and 97% of Transgas, the gas transporter, would also be sold as a single entity. The government is hoping to sell CEZ later this year in a package that will also include the grid – this will later be sold to an independent operator. But bankers think it is unlikely to meet this timetable. There is disquiet among western banks over the way the government appointed Deloitte & Touche and NM Rothschild as advisers. Though the sale of dominant companies may enable the government to get better prices and keep a stronger control over the energy sector, the decision on the sale of CEZ has significantly reduced competition and infuriated foreign energy groups. It has meant that existing foreign investors in the electricity industry have either to join a consortium bidding for the whole company, or reach a deal with the consortium that wins the tender. According to Jan Slaby, equity analyst for central European brokers Wood & Co, there was a real danger “competition will be reduced by the creation of large corporate blocks.” Consolidation has already begun with Vattenfall selling its 42% stake in the East Bohemian Power Distribution Company to Eon, a German power group. Eon, which has already invested $515 million in six power and three gas distributors, has also bought a 22% stake in the North Moravian Power Company from TXU Europe, which is part of US company, Texas Utilities. The Czech Republic is not the only country to have problems with the energy sector. Even Hungary, which has generally been the most effective at selling off its assets, needed two attempts before selling off its power sector. The first effort failed on lack of price guarantees, but it has now successfully sold off six generating companies and six distributors. The major doubts remain about Poland following a series of resignations and the prospect of the election in June of a government less keen on privatization. Energy privatization had been gathering momentum since last year with the sale of seven generating companies, leaving 10 left to be sold. The sale of distribution companies has begun with most attention now focused on a block of eight companies in northern Poland which are scheduled for sale next year. Political impediments All bets are now off following the resignation of the head of the Polish treasury, Andrezj Chronowski in February, which was immediately followed by that of his deputy, Jakub Tropilo, the leading supporter of allowing foreign strategic investors to hold majority stakes in privatized energy companies. This is a particular blow because it is the second senior management team in the treasury to have resigned since the announcement of electricity privatization last September. Potential foreign investors are also unhappy about the government’s rejection of its advisers’ plans to sell the coal industry by putting the best mines in one group and gradually running down the less efficient ones in state hands. Instead the government wants to sell groups that will each include strong, weak and non-performing mines. Most of the banks in the region have now been put in the private sector. One of the last major sales, that of Komercni Bank in the Czech Republic, is about to be completed. “The main candidates look to be Deutsche Bank or Hypovereinsbank,” says one banker. Countries have moved at different speeds. Hungary was the first to sell strategic stakes in its banks and is now moving on to the next stage of consolidation between privatized banks. Last year, K&H Bank, which is majority owned by KBC of Belgium, merged with Dutch-owned ABN Amro Hungary. Poland adopted a similar strategy a few years later but it has only been in the last year that the Czech Republic accepted that the whole economy would benefit from the disciplines that come from a commercially oriented, privately owned banking sector. Ironically several of the failures have taken place in Poland and Hungary. The government has rejected a Ft25 billion ($84 million) bid by OTP, Hungary’s largest and most successful bank, for Postabank, which the state had rescued from bankruptcy in 1998. In Poland, Deutsche Bank’s attempt to buy a controlling stake in BIG Bank Gdanski ended in acrimony. The political row over this possible sale has meant that PKO BP, a retail savings bank, and Bank Gospodarki Zywnosciowej, are likely to remain in the state sector for the foreseeable future. Go to Energy page |
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