• Decisions to acquire or dispose based on strategy, not profit/loss
• Citizens should be able to get essential goods and services easily
• Parking of subsidies in SOEs is dangerous, impacts entire system
• Treasury guarantees are worthless when SL is in financial trouble

BY Marianne David

“When we speak of State-Owned Enterprise (SOE) restructuring, everyone assumes we are trying to divest everything, but the purpose of SOE restructuring is not necessarily divestment,” asserted State-Owned Enterprises Restructuring Unit (SOERU) Head Suresh Shah.

In an interview with The Sunday Morning, Shah emphasised that SOE restructuring was fundamentally about providing citizens with better quality goods and services at better prices and more appropriate availability, through a more competitive and productive economic environment.

In the course of the interview, he expanded on where things currently stand with the SOE restructuring process, the options before the Government, and the importance of ensuring SOE financial discipline, among other issues.

Following are excerpts:

Where do things now stand in relation to the SOE restructuring process?

SOE restructuring takes two or three avenues. First, when we speak of SOE restructuring, everyone assumes we are trying to divest everything. But the purpose of SOE restructuring is not necessarily divestment; it’s fundamentally about providing citizens with better quality goods and services at better prices and more appropriate availability, through a more competitive and productive economic environment.

Of course, as part and parcel of this process, there will be certain enterprises that get divested, but there will also be enterprises that government will retain. So the question is, how does government select what to keep and what to divest? If you listen to the different people commenting on this, you would get the impression that the decision should be made on whether the enterprise is making a profit or a loss, but that’s fundamentally flawed.

Even in the private sector, when we make decisions to either acquire or dispose, the decision is not based on profit or loss. The decision is based on strategy. What’s the strategy for the enterprise or the group? Does this particular business fit into that strategy? If the answer is no, whether it’s profitable or not, you will dispose. So even for government, you’ve got to go back to government strategy, objectives, and responsibilities, and then see whether holding a particular SOE fits into that overall strategy. If the answer is no, then government should not keep it. 

Then the question is, under what circumstances should an SOE remain an SOE? I spoke about citizens getting better quality goods and services. Government has multiple responsibilities, like national security, law and order, healthcare, economic policy, etc. In this, the responsibility of government or what is called the public service obligation is to ensure that citizens get essential goods and services at reasonable pricing, of a reasonable quality, and at a level of availability that gives the consumer convenience.

The first past the post is essential goods and services. When you think of an SOE, you should first ask, ‘is this SOE supplying an essential product or service?’ If the answer is no, then forget it. For example, we have Cashew Corporation as an SOE. Is cashew an essential product or service? The answer is no, don’t look at anything else. Just say ‘privatise this’. If the answer is yes, then you need to go to a second stage to ask, ‘what are the available means through which you can provide these essential goods and services to citizens?’

For example, if there are a number of private sector entities providing essential goods and services to customers – the citizens – and because there are multiple entities, then there is a competitive framework. Then should government get involved? That competitive framework ensures good quality, good pricing, and reasonable availability. Then government can say, ‘we don’t need to get involved in this because it is being supplied and the citizens’ interests are being met’.

Then does it mean that government should get involved if there aren’t sufficient private sector entities? There again, government has other mechanisms like the regulatory framework. 

Let’s say there are only two private sector entities. When that happens, there is a question whether those entities, because they are either monopolies or duopolies, have greater power over the citizens than the citizen has over them. There, government has a mechanism called regulation, so it can say ‘fine, you can supply these essential goods and services, but you have to do it under these conditions’. It can have pricing policies, minimum quality benchmarks, availability, and so on.

Then there can be a situation where there aren’t sufficient competitors and, for whatever reason, government also cannot apply the right regulations and it is an essential product or service. It’s only under those conditions that government should get involved in supplying these essential goods and services. That is the fundamental condition under which government needs to get involved, because it fits in with government’s overall responsibilities.

There are other areas in which government involvement makes sense – if there are national security concerns or if it’s a natural resource, such as minerals which are being extracted. Then there is a case for government to remain involved in that particular enterprise. 

Another is when the private sector doesn’t want to participate, but government feels there is a developmental objective. Then government may get involved to achieve those development objectives. 

If you go back to when Air Ceylon was formed, the Government may have thought ‘tourism is an important industry and for us to promote tourism to Sri Lanka, we need an airline. The private sector doesn’t have the wherewithal to get involved in starting and running an airline, so we will start an airline.’ But today, the circumstances have changed and the private sector has the wherewithal; you can attract people from different parts of the world to come and invest, so the development objective can still be met through private investment. Then the Government moving out is fine. 

The decision to retain an investment within government doesn’t rest on profit and loss; it rests on these factors. We have to ask ourselves these questions and then decide what remains within government and what goes out to the private sector.

How many SOEs is SOERU looking at and how many have already been analysed in line with these parameters?

We are only looking at commercial enterprises and have managed to unearth about 130 commercial enterprises. 

Of these, how many have you made a decision on?

The decisions have to be made by the Cabinet, not by us. We are just the implementing party. 

When I look at the enterprises, from a purely technical perspective I think there are 80 or so that don’t need to remain within the Government. The Government can of course decide what it wants to retain or not. There are around 15 enterprises that aren’t doing anything, which need to be liquidated, and then there are the remaining enterprises which the Government needs to retain.

When you talk about retaining these enterprises, again there are ways in which it can be done. One is, government retains, manages, and runs these businesses, or moves into a PPP model, where government retains a shareholding but it is operated on a commercial basis by the private sector. These are the fundamental areas in which there needs to be agreement on: what government is going to retain, how that retention will work, what needs to be wound down, and what needs to be passed on to private hands because they will do better in private hands. 

Now, why would these enterprises do better in private hands? Because you’re unchaining them from government systems and processes. That, to me, is the one of the most important things. 

Think about it like this. In the private sector, let’s say a company wanted to put up a building. What we would do is get approval from the board. Management would make a proposal to the board, the board will take a look, and within two to three weeks, you will have approval. 

When it comes to government, let’s say an SOE wants to put up a building. Management will put up a proposal to the board. If the board agrees, it will go to the ministry secretary. If the secretary agrees, it will go to the minister. If the minister agrees, it’ll end up going to Cabinet. 

What the private sector might do in two or three weeks will probably take six months to do within government. A government entity competing with the private sector is almost an impossible thing, because the systems, the processes, the decision making are all very different. These actually hold back the effectiveness and the efficiency of SOEs.

There are other factors that have contributed even more to the inefficiency of the SOE sector. I think the most important point is that subsidies have been parked under SOEs. Take the example of the Ceylon Petroleum Corporation (CPC). All of us as citizens got subsidised fuel until recently, a subsidy given by the Government. The Government decides that consumers shall pay so much for fuel, irrespective of the cost to the CPC.

If, for example, you say you want to give money to your sister, you make the decision and you bear the cost, but when government decides, it’s not the government that bears the cost but the SOE. That’s not right. If the government decides it wants to give a subsidy, it must come into government expenditure. Instead, we have parked these in the SOE concerned, which leads to a very vicious cycle. 

When CPC made a loss, to recover some part of that loss, it started charging a high premium on jet fuel on every airline flying in and out of Colombo. When I say premium, it’s in relation to jet fuel in the Southeast Asian region. Close to 30% of the operating cost of SriLankan Airlines is jet fuel and due to the premium it pays for it, its losses increase.

Now CPC is making a loss and SriLankan Airlines is making a bigger loss than what it normally would because of jet fuel cost. Both these enterprises are not sustainable because of the losses, but to keep the enterprises going, they need cash. No self-respecting commercial bank will lend to them because their balance sheets are weak, so they go to State banks with a Treasury guarantee. The State banks then give them the facilities and then the State banks’ balance sheets also come under pressure because they don’t get paid. So CPC’s balance sheet is stressed, SriLankan Airlines’ balance sheet is stressed, and the State banks’ balance sheets are also under pressure. 

The State banks will wave a Treasury guarantee, but under the current circumstances the Treasury guarantee is worthless because the country is in financial trouble. This parking of subsidies in SOEs is really dangerous, because it doesn’t only impact that particular SOE, but impacts the entire system. Going forward, we must not park the subsidies inside these enterprises.

At the same time, we must also understand that government has every right to give a subsidy to its citizens. Then it must agree on a mechanism with the enterprise concerned to reimburse the subsidy. They need to come to that arrangement. That is one of the most important reforms that needs to be done that we have proposed.

The second biggest reason why these SOEs are in the state they’re in is because they have poor boards. Board members have not been appointed because of their skills, capacity, knowledge, or educational qualifications, but because of connections to the political system. We need to have a mechanism to appoint qualified professional boards to these enterprises so that they are well managed. We have submitted a proposal in that regard as well. 

The third reason why these enterprises are not producing the results they should is because we have created jobs which do not exist. Some of these enterprises may be overstaffed. We need to put a stop to that and one way to do so is to have proper boards. 

The fourth is the way in which the Government operates, the red tape, the systems, and the processes. These are the very important things that need to be corrected if entities that remain within the Government are to be managed profitably, efficiently, and effectively. 

Then there are other things that need to be done. Public quoted companies listed on the stock exchange may have 500 shareholders or 1,000 shareholders, but they’ve got to publish their accounts every quarter and every year. SOEs have how many shareholders? The 22 million people of this country. Have you ever seen quarterly accounts published by an SOE? Or even annually? We need to get those things done. We need to tell every SOE that they have bigger responsibilities than listed companies and that at a minimum they have to follow listed company rules, including publishing accounts.

Then the other important thing is SOEs borrowing from State banks with Treasury guarantees as security. This must come to an end. 

Then we come to single borrower limits. All these SOEs have a single owner – fundamentally government – but when they go to banks, there are no single borrower limits. They’re looked at as independent entities. We need to bring single borrower limits into the SOE sector.

These are the ways in which we push financial discipline: published accounts, no Treasury guarantees for borrowings, and work on single borrower limits. Now, some of these things, like no Treasury guarantees and single borrower limits, cannot be implemented overnight. We need to bring these enterprises into this system over a period of time.

Do you see all of this happening?

We hope it will happen.

Does the Government have the willpower to see this through?

You have to ask the Government, but we have made the recommendation.

If these proposals are taken on board, how long will it take to get things on track?

Different things will take different time periods. 

Take something like the publishing of quarterly and annual reports. First the different entities need to be able to produce their accounts quickly. If you take a listed company, the annual accounts have to be published within six months of the close of the financial year, prior to which there is an auditing process. Now with the SOEs, all SOEs are audited by the Auditor General. I don’t know whether the Auditor General has the necessary infrastructure to do all these SOE audits within that timeframe. These are things that we need to work through. 

At this moment, in instances like this, what we are doing is trying to get the principle and the policy established. Even in things like publishing of the accounts, there are entities where accounts are up to date and they can be asked to do it now. In the case of entities which don’t have that at present, we’ll have to work with them.

Have you presented these proposals and are you allowed to implement any of them?

We submitted a policy paper to the Cabinet about one-and-a-half months ago. That proposal was approved by the Cabinet, so all these things that I’m telling you about are in that. Now it’s a question of trying to get these things done, one by one.

Will your unit be engaged in the implementation?

We have given a proposal saying that the implementation of all of this is best done through a holding company, like Singapore’s Temasek. What we are proposing is the establishment of a holding company to manage these SOEs in this manner that I described, where ownership falls under the holding company but the Government is the sole shareholder of the holding company and its ultimate shareholding still remains. Then you have a good mechanism to appoint the board of the holding company and a professional way of appointing holding company directors, who from that point onwards will take on the management of the various SOEs. 

Do you see these appointments happening in a credible manner?

We have given a very good proposal on how that can be done and we are working through that at the moment. We also need to bring in SOE legislation to cover this and we are working on all of these things. Let’s hope that they come fast. 

What is the approach you are proposing for CPC, the Ceylon Electricity Board (CEB), and SriLankan Airlines?

The CEB and CPC do not come under our purview; they are being handled at the ministry level. I must say that the way in which the retailing of fuel has been restructured, where three new parties will soon be retailing fuel, is very good. As citizens, we will have the choice of five different suppliers.

With SriLankan Airlines, we are looking at divesting the airline and we have got in-principle approval from Cabinet to do that, along with six other entities – Sri Lanka Insurance, Sri Lanka Telecom (SLT), Lanka Hospitals, Canwill Holdings, Hotel Developers, and Litro Gas Lanka.

We are following a process where, first and foremost, we are appointing financial advisors or transaction advisors. To appoint the transaction advisors, we took two routes. One is, we spoke to the International Finance Corporation (IFC) and asked whether it would take on the transaction advisory role for SriLankan Airlines, SLT, and Lanka Hospitals and it agreed. The Cabinet paper is being prepared to get IFC appointed as transaction advisors. 

With IFC, we didn’t have to do a competitive bidding process because it is part of the World Bank Group, but for the others we did a competitive bidding process. We called for Expressions of Interest (EOIs), shortlisted based on the EOIs, looked at the technical proposals submitted as part of the Requests for Proposal (RFPs), and based on the technical proposals and financial proposals, we have now arrived at who we believe should be appointed.

We are not the ones who do the evaluation, it is done by a Cabinet-Appointed Procurement Committee and we only facilitate the process. Now the committee has identified whom they believe should be the transaction advisors for these different entities and now it is going to Cabinet for approval. It’s a very transparent process to appoint the transaction advisors. 

The transaction advisors will first do the sell-side due diligence to understand the business, the challenges of the company, the opportunities, and the intricacies within the company, because from the sell-side due diligence that’s input into a valuation. They will do a valuation which will have to be approved by the Government valuer, who has to be part of the process, and that valuation then sets a base price.

The transaction advisors will also create the data rooms, which will have all the information a potential investor needs to make an informed decision. How do we get investors? We will call for EOIs, then we will shortlist based on that EOI, and the shortlisted investors will be allowed access to the data room. They will do their due diligence and submit technical and financial proposals, which will get evaluated by a project committee, which is again appointed by Cabinet.

This process allows anyone who is interested in bidding for one of these enterprises to submit a bid. Then there’ll be a very transparent and credible process in how they get selected from that point onwards. We will not accept unsolicited bids.

How do you view the charges by the Opposition and trade unions that the Government plans to sell off profit-making entities and that the reforms process lacks transparency?

I just explained the process. What else can you do?

Some unions have spoken to us and we have explained the process. They may have certain philosophical objections about privatisation, but I don’t think they are unhappy about the process.

Some people are scared, not just about privatisation. People are concerned when ownerships change. It’s natural. Even here I think there is a natural concern when there is a possibility of a change in ownership. But leaving aside that worry and that concern, are they unhappy about the process being followed? Given the people who have come and spoken to us, we are confident that they are not worried about the process.

Do you believe that the Government has the intention and willpower to see this process through or is it just another eyewash?

Only time will tell. We have to go on the basis that the Government is willing. When you think of the country’s situation, I don’t think we have much choice either.

So you’re positive about this whole process you’ve undertaken? Why did you agree to take this on?

I really believe that this is something we need to do. I genuinely believe that the country needs a heap of reforms and this is one aspect. 

When you think of reforms, we need to shift our economy from being a very inward-looking economy into a very outward-looking economy. I use the term export-centric economy. We need to get our expenditure under control. We need to broad-base our tax base. We need lots of governance reforms. We need lots of regulatory reforms. The reforms process is extremely complex. 

We need a lot of reforms and SOE reforms is one of those things. I really believe that what we are doing is the right thing. The day I feel that it is not the right thing, then I won’t be around.

Profile

Suresh Shah is a Fellow Member of the Institute of Chartered Accountants of Sri Lanka. He is a Past Chairman of the Ceylon Chamber of Commerce and of the Employers’ Federation of Ceylon. 

Previously, he has served as a Commissioner of the Securities and Exchange Commission of Sri Lanka, a member of the Council of the University of Moratuwa, and a member of the Monetary Policy Consultative Committee of the Central Bank of Sri Lanka.

He served as CEO and board member of a public listed company for 30 years prior to retirement. He currently sits as an independent, non-executive director on a number of listed and private sector entities whilst serving as chairman in two of them. 

He also heads the SOE Restructuring Unit of the Government of Sri Lanka.

The SOERU team

• Suresh Shah
• A.R. Deshapriya
• Ajit Gunawardene
• Dr. Arittha Wikramanayake 
• Kasturi Chellaraja
• Mangala Yapa
• Murtaza Jafferjee 
• Nissanka Weerasekera
• Shea Wickramasinghe