Brian Gaynor 's Opinion

Investment columnist for the NZ Herald

Brian Gaynor: Demolishing the harmful economic myths

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Privatisation good, finance company investors bad - it ain't necessarily so

These little piggies went to market, but that doesn't make them greedy. Photo / Supplied
These little piggies went to market, but that doesn't make them greedy. Photo / Supplied

It is frustrating the way some influential individuals take a biased and one-eyed stance on important issues.

These prejudices inhibit robust debate and lead to some poor decision making as far as the New Zealand economy is concerned.

This column wishes to refute some widely held opinions:

* That investors in collapsed finance companies were greedy and deserved what they got.
* That foreign investment in New Zealand is always positive and should be encouraged at all costs.
* That the privatisation of state-owned assets is a huge positive for the New Zealand economy and our capital markets.

The issue of greedy finance company investors has been used often in recent years, and was raised again last Saturday in a column by Infometrics economist Benje Patterson in the Dominion Post.

Patterson wrote: "Although recent court cases have brought to public attention the greed and incompetency of many directors, these behaviours were not isolated to the financiers.

"Ironically, it was also the greed and incompetency of some investors which contributed to them losing their life savings. Proper financial education could have saved these investors from financial ruin.

"Even though these companies were only paying a per cent or two more than a bank deposit, many investors were seduced by slick marketing and their own greed into investing in highly risky products which they knew little about. This lack of knowledge stemmed from both investor naivety and the dearth of easily digestible information about the investment products."

Patterson seems to imply that all investments, with the exception of bank deposits, are greedy. This is a naive view of the investment world.

The successful prosecution of finance company directors, mainly for inadequate disclosure in prospectuses, shows investors were not greedy - they were misled.

The other important point is that a substantial number of investors were put into dodgy finance companies by their financial advisors.

One financial advisor company, which had nearly $1 billion of investor's money under management, had more than 50 per cent of low-risk client money invested in finance company debentures. All of these finance companies collapsed.

These advisors determined that a diversified portfolio of finance company investments was a prudent approach for conservative investors.

The benefits of this were clear as far as the advisors were concerned because they received fees from their clients and the finance companies.

Individuals who argue that finance company investors were greedy are themselves naive. Investors suffered huge losses because of the ineptitude of the regulators, particularly the Securities Commission, dreadful corporate governance and a huge number of unacceptable related party transactions between failed finance companies and their directors.

Overseas investment, a highly controversial issue, can be divided into three broad headings:

* Foreign direct investment in which an overseas entity establishes a new operation or subsidiary. This usually involves a transfer of knowledge from the overseas entity to the start up.
* Foreign direct investment in which an overseas company buy 10 per cent or more of an existing asset or company.
* Portfolio investment, which usually involves the purchase of less than 10 per cent of a company through the sharemarket.

Most countries encourage the first and the last forms of overseas investment, but take a much more cautious approach to the sale of assets and companies to foreign interests.

For example China's economic growth has largely been driven by a huge increase in foreign investment as defined in the first example above.

Fifty years ago a large proportion of New Zealand's foreign direct investment was in the form of new import-substitution investment. In recent years this has changed to foreign investors acquiring existing assets or companies.

These include our banks, media, drinks, energy, retail and pulp and paper companies.

Most of the country's commercial forests have been sold to overseas interests as were Telecom and TranzRail through the Crown's original privatisation programme.

New investments are usually far, far better than the sale of existing assets, particularly as we have often sold existing assets too cheaply.

Take ASB Bank for example. There was substantial public opposition to the 1989 sale of 75 per cent of the bank to the Commonwealth Bank of Australia for $252 million. The remaining 25 per cent was sold to the CBA for $560 million in 2000.

The sale proceeds were used to fund the ASB Community Trust.

ASB Bank was acquired for $812 million, and has paid total dividends of $3.3 billion to its parent since the end of 2005.

The ASB Community Trust, which had total net assets of $1.1 billion in March last year, makes donations to arts and culture, community building projects, health, learning, recreation and sport and other areas.

Its donations would be far, far greater if it had maintained ownership of the bank.

The New Zealand sharemarket has also been a loser because the bank's directors rejected an IPO and NZX listing following the 1987 crash.

They also turned down overtures from the Bank of New Zealand and went for overseas ownership instead.

The sale of forests to overseas interests has had a negative effect on wood-based industries, and the sale of our farms could have the same effect on dairying, particularly as the sales usually don't involve a transfer of knowledge from the new overseas owners to New Zealand.

Instead of selling our existing assets, we should be encouraging overseas interests to establish global data centres or other new activities in New Zealand.

Global data centres would boost electricity use and the attractiveness of the state-owned electricity companies being partially sold to the public.

The privatisation of state-owned assets is neither inherently positive nor negative; it depends on who buys these assets.

The original privatisation programme in the 1980s and early 1990s was a disaster because the shares were sold to large overseas corporate interests and/or an elite group of New Zealanders.

The private owners extracted enormous wealth from these companies even though many were poorly run and had to be bailed out by the government.

Therefore, it is not surprising that there is widespread opposition to further privatisations.

But privatisations can have positive economic outcomes if the shares are widely distributed to New Zealand investors.

In this regard, the Government is missing a big opportunity, because of poor communication, to convince the public of the merits of privatisation.

It should be communicating its distribution strategy to the public to gain support for the partial sales.

The distribution policy could go something like this:

* The Crown maintains a 60 per cent shareholding.
* Nine per cent is distributed through a public pool to New Zealanders who don't have broker accounts.
* Nine per cent is sold to New Zealanders who are clients of brokers.
* Nine per cent is distributed to non-KiwiSaver New Zealand funds, charitable trusts etc.
* Six per cent goes to KiwiSaver funds
* Four per cent is distributed to overseas fund managers who have at least $100 million invested in New Zealand .
* Three per cent is sold to iwi.

The Crown should also confirm that it will continue to hold a majority stake and overseas investors, in total, cannot own more than 20 per cent of a privatised company.

If the Key Government takes this approach, and communicates it properly, then partial privatisations will have a positive impact on the economy and our capital markets.

Brian Gaynor is an executive director of Milford Asset Management.

- NZ Herald

Brian Gaynor

Investment columnist for the NZ Herald

Brian Gaynor has written a weekly investment column for the Weekend Herald since April 1997. He has a particular passion for the NZX and its regulation. He has experienced - and suffered through - the non-regulated period prior to the establishment of the Securities Commission in 1978 and the Commission’s weak stewardship until it was replaced by the FMA in 2011. He is also a Portfolio Manager at Milford Asset Management.

Read more by Brian Gaynor

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