What is Commercialization?
[Response by Anton Eberhard, May 2009]
Commercialization moves beyond moving operations out of a Ministry into a separate organization that is subject to private sector law, has clear shareholders, is liable for taxes and dividends, and prepares reports for shareholders and citizens. Commercialization involves additional steps that complement steps in corporatization.
- Utility charges tariffs that are revenue sufficient (so the firm at least covers operating costs, which would include necessary maintenance of facilities)
- Utility earns a return on investment that is at least equal to its cost of capital (a difficult standard for operators in less wealthy nations, but government subsidization of infrastructure reduces funds available for education, health, road systems, and other valued public activities)
- Government does not subsidize the utility’s cost of capital (though it may make transfers of funds for social objectives, such as rural electrification or service to peri-urban areas)
- Utility has autonomy to raise finance from private capital markets (which creates additional reporting requirements, since investors with claims on a company will press for improved operating performance; that pressure provides an important counterpoint to short term political pressures. In addition, the yield to maturity or cost of debt (if widely traded) serves as a market-based index of the perceived riskiness of the firm and its financial viability.
- Employment and procurement are undertaken on a commercial basis (so operating decisions are made based on economics and not politics)
- International accounting standards are utilized (ensuring that income statements, balance sheets and flows of funds are internally consistent so the regulator, investors, and other stakeholders can evaluate the financial sustainability of the entity)
Case studies of corporatization and corporate governance in Mexico, New Zealand, Philippines, and South Africa are contained in Irwin and Yamamoto (2004). They identify the following elements of corporate governance for these four nations and explain the importance of the following features:
- Shareholding authority
- Responsibility for hiring and firing board members
- Responsibility for determining remuneration of board members
- Number of non-executive directors
- Criteria for appointing directors
- Professional experiences of non-executive directors
- Tenure of the directors
- Legal duties of the board of directors
- Audit Committee and Remuneration Committee
- Financial reporting requirements or practice
- Profitability of companies
Organizational Culture and Performance: Irwin and Yamamoto evaluate the strengths and limitations of features adopted in the four nations. The study concludes that if a SOE has a “commercial culture,” managers and employees pay more attention to cost-containment, service quality, and asset management than an SOE driven by short term political considerations. Internal incentives are more likely to promote efficiency and dealing with external groups (like the financial community) subjects the utility to pressure from lenders. Besides issuing bonds, a commercialized SOE could raise funds from minority shareholders (who may or may not have a vote on the Board of Directors—but who exercise some external discipline on the firm). Creating stakeholders who focus on economic performance serves as an important counterweight to political pressures.
Resources
Is it possible to regulate state-owned utilities effectively?
Presentation at the PURC/World Bank International Training Program on Utility Regulation and Strategy, 2007.
Eberhard, Anton
Some Options for Improving the Governance of State-Owned Electricity Utilities
The World Bank, Discussion Paper No. 11, February 2004.
Irwin, T. and C. Yamamoto