SOEs encouraged to expand into new areas of business

The Government is encouraging State-owned enterprises to expand into new areas of business, despite a warning from Treasury of possible risks.

Economic Development Minister Trevor Mallard, in a speech to the Otago Chamber of Commerce, today spoke about the role of SOEs in the Government's work to transform the economy.

Mr Mallard said SOEs were being encouraged to expand into new areas of business that were linked to what they already did.

"To do so they will have to meet strict conditions and their new business must have good spinoffs -- for communities but also potentially for private firms," he said.

"Essentially Cabinet has agreed to consider proposals from SOEs that broaden their scope of business by diversifying their technological, product and market portfolios and then extend the time horizon over which they seek to capture a return on investments."

Mr Mallard said proposals would be considered case-by-case.

In his speech, he used the example of the Gallagher Group and how it started with electric fencing and moved to selling animal management systems, then moved into designing security systems.

The Gallagher Group now sold a diversified range of products in 130 countries, he said.

The idea is for SOEs to expand into new areas, while staying true to their core businesses.

Mr Mallard said good examples of how this would work included Meridian Energy's windfarm venture in Australia and its involvement with an innovative Christchurch company that developed heat and power generation systems.

He said four criteria must be met: diversification must be into technologies; products and markets that sat alongside core businesses; new activities must have wider spillover benefits; except in rare circumstances, the diversification should be financed from existing balance sheets; and there must be a way out for ventures not going anywhere.

Treasury's advice, contained in a paper to Cabinet released by Mr Mallard today, included a warning that investments might not always go well.

It highlighted two cases -- Meridian's successful investment in South Hydro in Australia but also ECNZ's unsuccessful investments in First Electric and Wayang Windy in Indonesia.

It also said the benefits of expansion were "unlikely to be substantial".

The associated risks with such ventures were substantial, it said. Management attention could be diverted away from core activity and SOEs were not subject to the same private sector disciplines while the ability to monitor the entities was not that strong.

The Ministry of Economic Development shared Treasury's concerns over governance.

The Crown Company Monitoring Advisory Unit (CCMAU) supported the proposal, so long as new initiatives occurred within SOEs' existing operating boundaries.

The Cabinet paper listed funding options for expanding into new areas that included the issue of non-voting and preference shares, but Mr Mallard told NZPA the Government was not allowing this.

It was not ruling out joint ventures to fund the new business, he said.

Other funding options included increased borrowings, reduced dividends and equity injections from the Crown.

"Clearly as you defer dividend flow and treat them less as cash cows and more as longer term businesses that does create some shorter term pressure.

"But ... you've got to think about whether some of the SOEs are actually carrying more cash then they need -- whether some of them could be used to finance some of the others -- and also around some of the models that we use, whether joint ventures are a good approach to making some of these changes."

Mr Mallard said SOEs could start putting up proposals for new business ventures around the time they were starting to put up their plans for the 2007-08 year or subsequent financial year.

- NZPA