GAA Accounting

The Journal of the Global Accounting Alliance

For the public good

By Marie-Claude Morin

Energy, letter mail and liquor boards were set up as government monopolies for good reasons years ago. But are they now relics of an economic past that’s holding us back?

Although some countries such as Australia have privatized many of their government corporations, such enterprises are still very present in the global economy.

According to a 2016 Organization for Economic Co-Operation and Development (OECD) study, governments control 22% of the world’s largest companies, the highest proportion seen in decades. Some Canadians have been calling for the privatization of government corporations such as Canada Post, the Liquor Control Board of Ontario (LCBO) and Hydro-Québec. These critics consider them as relics of the past and a form of government intervention more relevant when the country had a smaller population and fewer structures in place, but no longer necessary in today’s markets.

But would Canadians benefit from privatizing government corporations?

Canada has a variety of state-owned enterprises. Some were established to meet a need, such as the Business Development Bank of Canada (BCD), which was set up to help small businesses get financing and support. Others were created to bring such industries as alcohol or electricity under state control.

According to its 2015-2016 third-quarter report, the federal government held 43 government corporations, but this number should be interpreted with caution. “Other countries would not view some of these organizations as autonomous state-owned enterprises but as government entities because they mainly serve public policy objectives,” says Hans Christiansen, senior economist at the Paris-based OECD and head of the Working Party on State Ownership and Privatisation Practices. Included in this case would be the Bank of Canada, the Canada Deposit Insurance Corporation and various museums, among others.

The number of government corporations is even greater at the provincial level. A study by the University of Calgary’s School of Public Policy estimated that in 2013 there were about 180 corporations owned by provincial governments, one-third of which engaged in non-commercial activities such as the issuance of driver’s licences and workplace accident prevention.
“It is difficult to compare Canada with the rest of the world,” Christiansen says. Canada uses a much broader definition of government corporations. “According to available data, Canada has proportionately more state-owned enterprises than the US, but fewer than most countries in Northern Europe.”

It should be noted that government corporations around the world took advantage of the 2008-2009 financial crisis to extend their reach through acquisitions. This was especially true in emerging countries, Asia in particular. “Since growth is stronger there than elsewhere, state-owned enterprises expand more quickly than other businesses and are increasingly becoming international players,” Christiansen says. The Chinese government, for example, holds a 10% interest in 128 of the 2,000 largest publicly traded companies featured in the 2015 Forbes Global 2000 ranking. Of these, 36 are in the financial sector, 23 in manufacturing, and 17 in mining and metals. India comes in second with 34 corporations, half of which are financial institutions.

Filling a gap

According to Mel Cappe, professor at the University of Toronto’s School of Public Policy and Governance, running state-owned enterprises is a useful means of intervention, providing certain conditions exist. The organization must have well-defined and measurable objectives. “Management should be accountable for results,” says Cappe. In other words, politics should be kept separate. “BDC is a good example, in that it achieves a political objective, but decisions are guided by legislation, rules and criteria.” Cappe, a former senior federal public servant, emphasizes that, without a healthy distance, other forms of intervention would be preferable.

Saskatchewan has been running many government corporations for a long time. The Crown Investments Corporation (CIC) in Regina oversees eight commercial organizations: SaskTel (telecommunications), SaskPower (electricity), SaskEnergy (natural gas), SaskWater (water), SGI (insurance), SaskGaming (casinos) and SOCO (technology parks).

“When the province began to grow a century ago, private enterprises were not interested in coming here, so the province created government corporations to bring essential services to the population,” says Blair Swystun, CIC president and CEO. “With 1.1 million inhabitants today, we still have a relatively small population spread out over a large territory.” Privatization is a hot-button issue in Saskatchewan. Last year, the government announced it was partially pulling out of alcohol retailing. It also introduced legislation that would allow the government to sell up to 49% of a state-owned enterprise without it being classified as “privatizing” it.

The province has also questioned the relevance of owning SaskTel. Following a risk assessment, which confirmed that privatization would make it more difficult and costly for the telecommunications provider to remain competitive, the fate of SaskTel was put to a public consultation. The public did not support the change. “People believe the corporation is a major player that provides a valuable service, especially in rural areas,” says Swystun. “And its head office creates jobs in Saskatchewan, as opposed to Toronto or Vancouver.”

Balancing service quality and profit

Should a government corporation’s priority be to serve the community or generate profit? The answer is not always clear. Sometimes even the board of directors does not fully understand its mandate or mission, especially in a changing industry or market, says Yvan Allaire, executive chair of the Institute for Governance of Private and Public Organizations. “The law regulating a government corporation might be 10 years old, when it should be reviewed periodically,” he says.

Government corporations pose financial risks to taxpayers, says Benjamin Dachis, associate director of research at the C.D. Howe Institute. Yes, they can finance projects at better borrowing rates than private corporations, but that’s only because the government guarantees their debt. “These preferred rates do not make projects any less risky,” Dachis says. “They simply reflect the ‘insurance policy’ that’s funded by taxpayers.” Moreover, to finance unprofitable government corporations, governments must dip into their coffers — and that means dipping into taxpayers’ pockets.

“Clearly, there is a risk that government corporations might be inefficient, especially those in monopoly positions,” says Swystun. To prevent this, his organization performs benchmarking analyses, not only with other state-owned enterprises, but also with private companies. It emphasizes transparency: “The public must see our results to assess our performance.” Annual reports present past objectives, actual results, reasons for variances and targets for the year to come. Some figures are also released quarterly.

Christiansen believes Canada would benefit from using standard legal forms, such as those used by business corporations, for its state-owned enterprises instead of passing specific laws for each. “It’s more transparent this way,” he says. The government can still regulate the organization, either through legislation or through an agency that consolidates ownership of government corporations with a commercial orientation. Most countries are moving toward this model, with Scandinavia leading the way. Some countries, such as Sweden, even require government corporations to follow the same rules as publicly traded companies.

The consolidated ownership approach has three advantages, says Christiansen: it ensures directives align with the government’s overall orientation and not those of a single minister; it establishes a healthy distance from the government, which is responsible for regulation; and it brings together a critical mass of expertise. This has been Saskatchewan’s approach with the CIC.

Setting guidelines for so-called natural monopolies

The cost of building infrastructure in some industries — such as power transmission — is so prohibitive that it’s almost impossible for competitors to gain access. Many public corporations were therefore created to prevent such natural monopolies from falling into the hands of private companies.

Governments also use state-owned enterprises when they cannot provide for all future needs through a contract with the private sector. What will a public transit network or an airport look like in 30 years? It is difficult, or risky, to turn to private subcontractors when so many variables, such as demographics and economic growth, could significantly change the equation.
Unfortunately, the purpose of these organizations is not reviewed regularly enough, says Cappe. As technologies and markets evolve, the conditions that once made an industry a natural monopoly may no longer exist. “Does the postal service still qualify as a natural monopoly?” he asks. “Given technological changes and the competition from private parcel delivery companies, it’s no longer clear.”

However, wanting to introduce competition in an industry does not justify privatization on its own, says Allaire. “Over time, companies acquire each other, and the end result is a privately owned monopoly.” And, unlike a public monopoly, the main objective of a private monopoly is to maximize returns to shareholders.

“Government corporations are a good thing,” says Marie-Soleil Tremblay, a professor at the École nationale d’administration publique in Quebec City. First, they give citizens the means to own a piece of major economic players, “which partly offsets the power of the very rich who control a large percentage of global assets.” Second, the profits go into the public purse. “It’s money we don’t need to pluck from taxpayers’ wallets,” she says.

Introducing competition isn’t a snap

Independent telecommunications provider EBOX is the 19th fastest-growing company in Canada and the fourth in Quebec, according to the 2016 Profit 500 ranking. With more than 100 employees and close to 100,000 customers from Gaspé, Que., to Windsor, Ont., EBOX provides telephone and Internet services, and, if all goes as planned, it will soon offer an alternative to Fibe and Netflix. “The major players were welcoming at first, but they quickly declared war,” says CEO Jean-Philippe Beïque.

The telecommunications industry has changed significantly since Bell lost its monopoly on long-distance services in 1992, but the situation is not yet optimal. To reach their clients, independent providers such as EBOX must connect to wireless networks that are owned by a few large corporations. The wholesale high-speed access rates charged by the large providers are so high that last October, the CRTC imposed revised interim rates. The agency had already asked the major providers to review their practices, but the CRTC deemed the proposed rates were “not just and reasonable.”

In the early days of the Internet, when connecting made a racket, new highspeed network licensees were more than happy to sign contracts with independent providers. “They wanted to reach a critical mass by facilitating customer migration from dial-up,” says Beïque. Access rates really took off when licensees, who also owned television networks, began losing cable subscribers to the Internet. They sought to protect their television revenue by limiting downloads.

Beïque estimates that, while independent providers continue to win customers, they hold only 8% to 10% of the Canadian market. The bundles sold in Canada, laden with high rates charged by major providers, are more expensive than those in Europe. As is the case in many industries, the key players are fighting to maintain the status quo with marketing campaigns and promotional offers. For their part, customers are hesitant to switch to lesser-known companies.

Considering the variables

“There are many arguments to support privatizing Loto-Québec, SAQ [Quebec’s liquor corporation] or Hydro-Québec,” says Allaire. “But people are forgetting a small technical problem: the newly privatized entities would immediately be subject to federal corporate taxes.” A sale of 10% or less would not have these tax implications, but it would not add up to much for the province.
According to the Canadian constitution, each level of government — federal, provincial and municipal — exempts the others from taxes. This tax concession extends to government corporations that are agents of the government, where the government assumes financial responsibility for their operations. However, the benefit of this tax relief is reduced by the Federal Provincial Fiscal Arrangements Act and the Payments in Lieu of Taxes Act.

Selling a block of shares or fully privatizing a state-owned enterprise is one way for governments to raise capital, says Allaire, “but does the government really win in the long term given the dividends lost?”

Tremblay shares his concern. “Believing that consumers will get better services at lower cost is not enough. We must also take the social costs and regulatory limits into account.” Government corporations benefit the community as well. So it is important to determine whether Canadians will come out ahead before privatizing.

This article was originally published in the May 2017 issue of CPA Magazine.

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