Owner’s Expectations Manual for State-Owned Enterprises

7. SHAREHOLDER CONSULTATION AND STRATEGIC INITIATIVES

The board of each SOE is required to seek the approval of, and expected to consult with or inform, shareholding Ministers before certain transactions or strategic initiatives are entered into.

Consultation expectations and thresholds

It is important to distinguish between ‘approval’ and ‘consultation’. In the SOE environment, most consultation with the shareholder is just that (unless the board is required to seek approval and/or an equity injection is required) and the responsibility for decision-making lies with the board.

Approval

Under the Companies Act, SOEs may not enter into a ‘major transaction’ (as defined by that Act), unless it has been approved by a special resolution signed by shareholding Ministers, or is contingent on such approval.

Consultation

Shareholding Ministers expect the board of each SOE to include in the company’s SCI the matters on which they will be consulted before certain transactions or strategic initiatives are entered into.

Under section 14(2)(h) of the SOE Act, the board of each SOE is required to include in the SCI for the group the procedures to be followed before the group subscribes for, purchases, or otherwise acquires shares in any company or other organisation. Shareholding Ministers expect these procedures to include an obligation to consult with them where the acquisition exceeds a threshold that is agreed by shareholding Ministers and the board as part of the annual business planning round.

Under section 14(2)(j) of the SOE Act, the SCI should also include any other matters agreed by the shareholding Ministers and the board. Shareholding Ministers expect this to include an obligation to consult with them on matters such as the sale or other disposition of shares, the acquisition or sale of assets, and any capital investment, where such transactions exceed a threshold agreed by shareholding Ministers and the board as part of the annual business planning round.

The board of each SOE may also wish to consider agreeing separate consultation thresholds with shareholding Ministers for transactions which relate to the SOE’s core business activities, and for transactions which are not core business activities but which fall within the nature and scope of the SOE’s activities as defined in its SCI.

In addition to the above, shareholding Ministers expect the board of each SOE to consult with them in relation to any proposed activity that falls outside the nature and scope of the SOE’s activities as defined in its SCI, as this will require an amendment to the SCI.

Inform

Shareholding Ministers expect the board of each SOE to inform them, in advance, of any transaction that does not meet the consultation thresholds specified in the company’s SCI, but which falls within the scope of the ‘no surprises’ policy.

Process for consultation

Shareholding Ministers are, on occasion, consulted on or asked to approve investment proposals. This usually arises either because the investments are major transactions under the Companies Act 1993, shareholding Ministers are being consulted by the board as required under the SCI, or shareholding Ministers are being asked to consider an equity injection.

The consultation process, as distinct from shareholder approval, is expected to be conducted in good faith and to involve the following steps.

• Based on advice from its management team, the board forms a view on the commercial merits of the proposal.
• The board advises Ministers of a relevant pending decision.
• The board provides information to Ministers.
• Reasonable time is given for Ministers’ consideration, depending on the circumstances of the particular decision.
• The board considers Ministers’ comments, with an open mind.
• The board proceeds to take the final decision for which it is responsible.

Shareholding Ministers will continue to assess investment proposals against the principles set out below:

• the business case for the proposal, including expected financial returns and risks, and the sensitivity and volatility of returns to various alternative scenarios,
• the size of the proposal and fit with core business,
• the company’s track record of success in similar expansions, and
• whether the proposal can be funded from the company’s balance sheet without recourse to new equity finance from the Crown.

In addition, the provision of new capital is a decision for Cabinet, which will consider its relative capital priorities across government. Shareholding Ministers, accordingly, expect that any request for additional capital will demonstrate what shareholder value will be added, to assist them in prioritising demands on capital.

In order to assess investment proposals, shareholding Ministers prefer that sufficient information be made available to allow them to make an informed assessment of the proposal. If investment approval is being sought during the business planning process, Ministers’ views on the proposals should be explicitly sought, ie consultation should not be inferred from consultation on the business plan, and Ministers may still choose to consider the proposals outside of the planning process.

Diversification and expansion

Diversification supporting economic transformation

In June 2006, shareholding Ministers announced a change in policy for SOEs to encourage expansion into new businesses to help build New Zealand’s wealth.

In general terms, shareholding Ministers have agreed to consider proposals from SOEs that broaden the nature and scope of their existing activities by diversifying their technological, product and market portfolios and that extend the time horizon over which they seek to capture a return on investments.

SOEs will be responsible for establishing how they can achieve this, and for preparing robust business plans that can preferably be funded off their own balance sheet and that meet the relevant criteria.

The relevant criteria include the following.

• Diversification must be based on an effective utilisation of existing core competencies and into adjacent technologies, products and markets.
• New activities should have a demonstrated potential to enhance the competitive competencies of other firms and industries, ie spillover benefits.
• Other than in very rare circumstances, the diversification should be able to be financed off the SOE’s existing balance sheet.
• Any revised scope of business must be accompanied by robust evaluation processes using explicit performance indicators, leading to a clear exit route for ventures that are not meeting expectations.

SOEs are encouraged to consider options for diversification based on their existing core competencies. Each proposal will be considered on a case-by-case basis by shareholding Ministers, who will consider the proposal’s strategic fit with the government’s policy framework, including the benefits to the economy as a whole and any Commerce Act implications.

Where an SOE has been through the long-term hold process, shareholding Ministers will also consider expansion proposals against the Statement of Shareholder Preferences.

Overseas expansions

Overall, shareholding Ministers have the following preferences for overseas expansions (and expansions generally).

• The SOE should not lose focus on its core business.
• Expansion should not significantly increase the risk profile of the SOE and/or the Crown.
• Expansion strategies should tend to develop and leverage from domestic activities rather than developing entirely new products and services for international markets.
• Overseas expansion should not put at risk the SOE’s New Zealand operations or assets.
• The SOE should have some level of non-Crown private sector debt for expansion and should not seek total funding by the Crown, eg through withholding dividends.
• Overseas expansion should not create a risk that the New Zealand Government may be associated with and held accountable for poor company actions and behaviour overseas.

Subsidiaries

In relation to subsidiaries, shareholding Ministers expect that:

• the parent company will comply with any restrictions in its SCI relating to the acquisition or formation of subsidiaries,
• the powers and functions of each subsidiary will be treated in practice as if it is subject to the same statutory limitations as the parent company,
• in establishing the governance arrangements for the subsidiary, the parent will act in accordance with any relevant provisions of its SCI and accepted best practice in the identification and appointment of directors,
• the parent company will be accountable to the Minister for SOEs (or the relevant responsible Minister) for the subsidiary’s activities and performance and will have appropriate financial controls, business planning and monitoring procedures in place, and
• public accountability documents for the parent company (SCIs, financial statements and annual reports) will include information on the subsidiary’s activities and performance.

Joint ventures

Boards of SOEs should only seek partnering solutions that allow them to retain substantive control over their business activities. In general, shareholding Ministers will not support joint ventures that result in Crown-owned assets and capabilities being transferred or diluted.

This concern about dilution of control also extends to financial and budgetary controls. Shareholding Ministers expect that any joint ventures entered into by the Board would be subject to at least the same level of financial budgeting and monitoring control as that which applies to SOEs and their subsidiaries.

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