Gaynor: Icon businesses stripped by greed

By BRIAN GAYNOR

Why have a large number of our privatised companies failed to perform on a long-term basis?

Why has the Government had to bail out Air New Zealand and Bank of New Zealand and why has the financial performance of Telecom and Tranz Rail deteriorated in recent years?

To answer these questions, we have to examine the concept of ownership and the way it has evolved in New Zealand over the past 20 years. The Business Roundtable has played an important role in this process.

Business theorists have hotly debated the rights and responsibilities of ownership, but in terms of the New Zealand corporate scene the issue can be narrowed to two basic alternatives:

* The "company first" concept. This is where the long-term interests of the company are put ahead of most others, particularly those of any one shareholder or a controlling group of shareholders.

* The "me first" concept. This is where the interests of the major controlling shareholder, who usually has a short-term horizon, are given priority. Under this approach a company is heavily reliant on debt, has a high dividend payout policy, large directors' fees, generous golden handshakes and a strong emphasis on capital repayments.

In the worst cases, the major shareholder sells assets to the company at inflated prices and these transactions are verified by dubious independent appraisal reports.

Most well-known theorists believe the "company first" concept is the best.

Michael Porter, of the Harvard Business School, believes: "The long-term interests of companies would be better served by having a smaller number of long-term or near-permanent owners, whose goals are better aligned with those of the corporation."

This model is well established in western countries. The most widely respected companies in the United States and Europe are governed by the "company first" principle.

Unfortunately, the "me first" style of ownership has become dominant in New Zealand over the past 20 years and many of the privatised companies, including Air New Zealand, Telecom and Tranz Rail, were sold to owners who followed this philosophy.

Air New Zealand quickly found that most of its original owners were short-term holders. American Airlines and Japan Air Lines got out relatively quickly and Qantas sold its 20 per cent stake in March 1997 for a profit of more than $120 million.

The national carrier ended up under the firm control of Brierley Investments, a classic "me first" style of operator.

Under BIL's stewardship, the company had a high dividend payout ratio, raised directors' fees from $400,000 to $900,000 and paid generous golden handshakes to BIL executives. It also relied on borrowed money to buy Ansett when a higher equity contribution would have been better.

Air New Zealand's balance sheet has been destroyed as a result of BIL's "me first" style of ownership.

The airline has only $156 million in shareholder funds' compared with $619 million just before its April 1989 privatisation. Its total assets rose nearly three-fold over the same period.

The Crown is usually criticised for its management of commercial assets but its "company first" style of ownership has been much more successful than BIL's stewardship, particularly as far as Air New Zealand is concerned.

Telecom is a classic example of an organisation that has been plundered under the "me first" model.

In the 11 years since privatisation, the company has had net earnings of $6.6 billion and dividend and capital repayments of $8.2 billion.

The group's balance sheet has been devastated. The telco now has shareholders' funds of only $2 billion, representing 22 per cent of total assets, compared with shareholders' funds of $2.5 billion, representing 59 per cent of assets, just before its September 1990 privatisation.

The "me first" ownership strategy can be expected to have a negative influence on a company over the longer term and the key objective of the controlling shareholder is to have sold before the music stops.

In this regard Sir Michael Fay, David Richwhite, Alan Gibbs, Trevor Farmer and the two American telcos timed their Telecom departure to perfection.

Ameritech was particularly astute when it sold a 25 per cent stake - a large proportion of which was bought by New Zealand investors - at $8.85 a share.

BIL made a big mistake when it did not get out of Air New Zealand before the music stopped.

It also fell for one of its own tricks when it pushed the airline into Ansett. News Corp ran Ansett on a "me first" basis and when Air NZ bought the Australian carrier it had been stripped to the bone and was heading downhill at breakneck speed.

Tranz Rail has also been run under a "me first" style of ownership.

Immediately after privatisation the Fay, Richwhite/Wisconsin Central Transportation consortium effectively stripped $322 million of equity out of the company.

The rail operator now has $465 million of shareholders' funds, representing 50 per cent of total assets, compared with $265 million, representing 63 per cent of assets, just before its September 1993 privatisation. But minority shareholders supplied $177 million of this extra money when they bought new shares at $6.19 each in the 1996 public float.

It is not surprising that eight of the more prominent members of the Business Roundtable - Alan Gibbs, David Richwhite, Peter Shirtcliffe, Bob Matthew, Roderick Deane, Trevor Farmer, Sir Ronald Trotter and Ralph Norris - have played leading roles in Air New Zealand, Telecom and Tranz Rail, because the "me first" style of ownership has been a backbone of that organisation's philosophy.

During the Takeovers Code debate the Roundtable argued that controlling shareholders should have unrestricted rights because they created value, and that minority shareholders were free-loaders. Controlling shareholders can do almost anything when they take the view that everyone else is a free-loader.

The unregulated takeover market also made it easy for a controlling shareholder to get out before a company's performance deteriorated.

Many of the country's leading fund managers were seduced by the "me first" argument and stood back as many of our listed companies were severely damaged by pernicious controlling shareholders.

Two of the more successful privatisations, Auckland International Airport and Contact Energy, have no members of the Business Roundtable on their boards and are run with a "company first" emphasis.

Both have built much stronger foundations for long-term growth than Air New Zealand, Telecom or Tranz Rail.

The private sector has also produced companies that have benefited from the "company first" style of stewardship, two of the more prominent being Fisher & Paykel and The Warehouse.

These two organisations have given excellent returns to their shareholders and do not have any Roundtable members as directors.

Stephen Tindall of The Warehouse embodies the best features of the "company first" style of operation, but he made a mistake when he joined the board of eVentures, a company dominated by Craig Heatley, who has adopted a classic "me first" attitude to that organisation.

One of the problems with this style of ownership is that the controlling shareholders often appoint to their board lawyers and accountants with whom they have had long associations.

These outside directors are unlikely to challenge a controlling shareholder, particularly if the shareholder is a large fee-paying client of such directors.

Boards stacked with representatives of a "me first" style controlling shareholder and acquiescent outside directors are the root cause of the problems at Air New Zealand, Telecom and Tranz Rail.

The politicians who sold these three companies should have been far more careful who they sold them to.

A byproduct of the "me first" style of stewardship is that it makes it extremely difficult for management to operate effectively.

One has a great deal of sympathy for Gary Toomey, Theresa Gattung at Telecom and Michael Beard at Tranz Rail, because none was given well-structured asset bases or strong balance sheets from which to operate.

It will require New Zealand's leading company directors to reject the Business Roundtable's "me first" philosophy and embrace the "company first" approach before we see an improvement in the long-term performance of our larger listed companies.

* bgaynor@xtra.co.nz