It is the public that bears the cost of privatisation gone wrong in Malaysia

by Ram

If one considers the background to the listing of Time dotCom, it is not hard to see why government agencies had to use public funds for the listing. That such a company obtained listing anyway, is a sad reflection on how public funds are being used to prop up groups that should have folded up years ago. More importantly, that the stock market is being abused in a way that will deter both domestic and international investors undermines a key instrument of raising financing for the nation.

Systematic misallocation of resources silently but surely retards economic progress. Will Malaysia become a sad example of how policies become twisted to save a few but jeopardizes the nation�s ability to develop a vibrant economic system able to compete internationally? Will the nation�s wealth continue to be systematically squandered for the benefit of a few at the expense of all?

The Murky Record of the Renong Group

Only last November, the ultimate controlling parent of Time dotCom, Renong, entered into a controversial deal with associate, UEM. Renong proposed to inject all its assets and transfer all its liabilities (i.e. debts) into UEM, valuing its assets at RM6.7 billion.

How a value of RM6.7 billion for these assets was arrived at was not made clear. Some market analysts estimated that it was at least 30%, or some RM2 billion, higher than the market value. A deal of that size is obviously a large transaction in itself. It was about the size of the total market value of UEM � and certainly much higher than the market value of Renong. The result, not surprisingly, was that both UEM and Renong share prices fell by about half over the following weeks.

Following this, in December 2000, UEM disappointed investors again. The company had a put option � i.e. the option to exercise at its discretion � on 30% of Renong that could be sold to its Vice-Chairman, Tan Sri Halim Saad by February 2001. The value of the option was RM3.2 billion or RM4.30 per share on Renong, more than double the market value. By exercising the put, UEM should have received just over RM3 billion that would have been very useful to reduce its total debt running at over RM15 billion (and which would have gone up about another RM4.5 billion from the November deal with Renong, including debt of Renong associates being assumed).

Instead, UEM announced it would grant Tan Sri Halim a fifteen month extension, to May 2002, to make the payment. Tan Sri Halim is supposed to make three RM100m interest payments over 2001. He has already asked for a two month extension on the second interest payment, and the market is concerned over whether he will ever be able to pay the full amount (without the government stepping in yet again).

It is worth looking back on how UEM got into this mess. In November 1997, when share prices in Malaysia and the region were crumbling during the Asian financial crisis, out of the blue UEM announced that it had bought just over 30% of Renong. This was the same block on which it now has the put exercisable on Tan Sri Halim. The cost to UEM then was RM2.3 billion � a huge amount for UEM to have come out with in cash when it had debts already of over RM8 billion � and interest rates were skyrocketing to over 20% as the country was going through a credit crunch.

Some saw the purchase of the Renong shares as an attempt to hold its share price up. After the announcement UEM ceased further purchase of Renong shares and not surprisingly Renong and UEM fell by more than 50%. Was it just coincidence that UEM�s purchase apparently was the only thing supporting Renong�s share price for a while giving temporary relief to its shareholders, including Tan Sri Halim, who owned almost 30% of Renong?

Government Agencies Step In

The shenanigans of Renong-UEM have given the Malaysian market a bad name for corporate governance (though certainly they were not the only groups responsible for sullying Malaysia�s image). It is this group, which wanted to list its telecom company, Time dotCom, to raise RM1.9 billion from the market.

Can a group that had used and abused its various listed entities and caused great damage to the market repeatedly, expect to get the support from the market for fresh capital? Can a person kick an associate repeatedly in the groin and still go back to that associate and ask for financing?

In most markets, that cannot happen. The underwriters � i.e. the merchant banks and stockbroking companies that guarantee the listing � would be too worried that the shares would go down in the market and they would not want to be holding the shares not taken up by the public. Yet in Malaysia, it happened.

When offered to the public, Time dotCom shares were heavily undersubscribed. The official subscription rate was 25%. But if one takes out the funds that were brought into the deal at an early stage, then the subscription by retail and other investors was only about half the official rate. The shares of Time dotCom, as expected, fell 35% within a week of listing.

Then it was announced that in fact the official underwriters were only there for show. Almost all of them were able to exit out of the shares that were not subscribed for, at no loss. Of the RM1.9 billion that Time dotCom raised in its listing, RM400m was derived from investors; the underwriters were holding RM1.5 billion of these shares.

But they had managed to get three government agencies, KWAP (the Government employees pension fund), Danaharta and EPF, to take up this RM1.5 billion. The 35% loss on the market value of Time dotCom was incurred by the government agencies. Certainly not by the underwriters, or they would not have touched the deal with a barge pole.

Perverting the Market

The RM500m or so loss that the government agencies are incurring from this deal is the obvious but not the most significant part of the loss for the public. RM500m is less than 1% of total government revenues per year and equivalent to only about RM25 per individual Malaysian. But the longer term cost of letting this deal happen, although harder to see, is where the insidious but real harm to the nation comes. And that works through the perversion of a key means of raising financing for Malaysian corporates.

The stock market is supposed to be a means for corporates to raise required capital and for investors to utilize their savings. It is meant to allocate capital at the right price to the right parties. Time Engineering with RM5 billion of debt was at very high risk of insolvency if it could not raise the funds from listing Time dotCom.

When the stock market becomes an instrument to bail out groups that would otherwise sink, investors become wary of the market. If it no longer plays the function of capital allocation but becomes a bailout mechanism, where value is destroyed not created, no serious investor would want to participate in the market. The present volumes on the KLSE, with very little trading by local funds, but almost no interest by retail investors (individuals) or international investors, is a sign of what happens to a market that has been perverted.

A Disturbing Pattern is Taking Shape

The market may shrug off an exceptional case. But the pattern of seeing groups that would not stay afloat on their own, surviving through public funds channelled their way is most disturbing.

The Ministry of Finance�s decision to buy back 30% of MAS from Naluri, the holding company of Tan Sri Tajudin Ramli, is another example: RM1.8 billion of public funds went to Naluri (not MAS), a company that otherwise had RM1 billion of debt that it could not service the interest on.

The government is buying back the LRT systems for RM6 billion, from Renong and others.

Ekran was paid RM900 million as compensation for the Bakun dam project although Ekran could not get the project off the ground � and that project is now being revived.

Petronas acquired Proton from DRB-Hicom for over RM1 billion as the latter also has multi-billion ringgit loans that it cannot service.

Earlier, the national shipping company, MISC, bought shipping assets from Konsortium Pekapalan for RM1 billion, as Konsortium was also burdened by excessive debt of RM1.2 billion which was also assumed by MISC.

Bank Bumiputra which raked losses that wiped out its capital (government funds) of nearly RM2 billion was injected into the Commerce Asset group with the government underwriting the bad loans.

A billion here, a billion there � it soon adds up to real money and a disturbing trend for all Malaysians.

If the so-called entrepreneurs see that when their projects go bad they can get the government to take these off their hands, it will most certainly guarantee greater waste in the future. Any entrepreneur who can get a large project should do so: if he makes a good profit, it is his; if he makes a loss, he sells it back to the government to recover his cost with public funds. Malaysia must be holding the world record for privatizing profits and socializing losses. The winner would be the (few) successful entrepreneurs; the losers are the public.

It is the public that bears the costs of privatization going wrong. Not just in higher government revenues that will be necessary to foot the bill of buying back these projects. But also in higher costs they have to pay for the services previously they used to get for free via paying taxes. The outcry from the public will get louder in a few months, when PLUS (a UEM subsidiary) reminds road users that by their concession agreement, toll rates on the North-South highway are to be increased by 30% effective next January.

The Long-term Cost is Frightening

The cost to the nation, in the long-run, will be heavy. The government�s debt will rise and eventually the public will have to pay up. Good companies will not be able to raise capital in a market that is no longer taken seriously. The government itself may not be able to raise financing as easily in international markets.

If badly managed groups continue to be propped up, resources that should go towards nurturing new and dynamic groups get diverted. The economy will be dominated by dinosaurs that cannot compete internationally, which will require the country to become increasingly insulated from the world economy and globalization - so that favoured ones continue to be protected.

The effects of bad management and wasteful use of resources magnify over time, like compounded interest. For a country to use its resources wastefully is like for a company or a family to squander its wealth. People who used to be prosperous become paupers. It is hard to imagine that just after the Second World War, Burma had one of the highest per capita incomes among South East Asian nations. It is frightening to consider how Malaysia will rank 20 or 30 years from today, if present policies run their course.