Turning loss into profit

The government's delay in coming up with a privatization plan bodes ill for industry, investors and state coffers Stanisław Górski, director of the Łucznik Radom Arms Factory (FBŁR), harbors no fond memories of his years at the Łucznik Metal Factory (ZMŁ) in Radom. In business since 1925, the firearms maker went from the city's biggest employer, with 7,858 workers, to its greatest disappointment when the company folded in 2000. ZMŁ is just once example of a mishandled privatization and its effect on Polish industry and employment. Since 1991, successive governments have made sweeping changes to the economy by privatizing 1,514 companies and allowing market forces to determine who would sink or swim as the country adopted capitalism - sometimes with great success. But the process has not always been smooth and strategies clear. The indecision has left firms like Łucznik Radom in the lurch and other major players subject to government whims. When it became a joint stock company in 1999, ZMŁ had no strategic investor and its outdated technology meant that it could not modernize the manufacturer's narrow range of products and win new contracts. As a result, the public-sector orders that served as ZMŁ's lifeblood became increasingly rare, and from 1990 to 2000 the company shed 40% of its workforce. In January 2000, the Solidarity Election Action (AWS)-led government, voted out of office last fall, failed to approve a management plan to restructure the firm despite a ZMŁ staff protest in front of the prime minister's office. By the end of 2000, the Treasury Ministry was forced to declare ZMŁ bankrupt. Hived off from ZMŁ in 2000, FBŁR employs just 370 former ZMŁ workers and produces arms for the police department and border guards. "I hope to return the factory to the status of ZMŁ in the 1930s, when it was the heart of the community and a thriving business," Górski said, admitting that it has been an uphill struggle to find capital to buy technology the firm needs to adapt to changing demand. Parting with the family silver While the previous government was widely criticized for moving privatization forward in fits and starts, the current leadership, led by Democratic Left Alliance (SLD) Treasury Minister Wiesław Kaczmarek, has yet to map out a clear plan of its own. While most firms have not fared as poorly as ZMŁ, the indecision still leaves many state-controlled companies without top-level direction at a time when the economy is slowing to a halt and firms are having trouble making ends meet. To date, Kaczmarek has declared that the government would take a cautious approach to privatization, placing the emphasis on restructuring and strengthening whole industries rather than individual firms. The ministry's press office said a list of state-owned companies to be privatized in 2002 would not be available until February, four months after new leaders took charge. Even without a detailed list, it appears clear that Kaczmarek and the ex-communist SLD will not maintain their predecessor's pace with sell-offs. In 2000, the AWS-led coalition achieved record privatization revenue of zł. 26.6 billion ($6.65 billion), mainly through the sale of a 35% stake in telecommunications giant Telekomunikacja Polska (TPSA) that fetched zł. 18.6 billion ($4.65 billion). SLD, which took office last October, has announced far more conservative plans, setting a privatization revenue target of just zł. 6.8 billion ($1.7 billion) in its 2002 budget draft. But statements by former Treasury Minister Aldona Kamela-Sowińska suggested that if the incoming government merely completed the privatization transactions initiated by AWS, the potential revenue could be much higher. She said the privatization of oil companies Rafineria Gdańska and Polski Koncern Naftowy Orlen (PKN Orlen) could fetch up to zł. 3 billion ($750 million) while zł. 2.2 billion ($550 million) could be raised through the sale of the G-8 group of power distributors. She also said that zł. 2.8 billion ($700 million) was attainable for a 21% stake in Powszechny Zakład Ubezpieczeń (PZU) while the public offerings of PZU and TPSA could raise a further zł. 2.9 ($725 million) and zł. 2 billion ($500 million) respectively, totaling zł. 12.9 billion ($3.2 billion). "Judging by the recent announcements and the events of SLD's tenure (as head of government) from 1993-1997, we can anticipate a slowing of privatization," said Janusz Lewandowski, a former minister of privatization. "This is also evident from the initial decisions of the treasury minister (Wiesław Kaczmarek) who is more involved in public-sector management than in privatization." Kaczmarek signaled his intentions during the election campaign. The first post-election signs that privatizations were being slowed appeared in October when SLD halted the first stage of the sell-off of the nation's largest bank, Powszechna Kasa Oszczźdności Bank Polski (PKO BP). The treasury canceled the tender for an adviser in the privatization, which was to see 30% of PKO BP stock floated in an initial public offering (IPO) this year, claiming that the bank could not be privatized without a global strategy for the banking sector. The sale of a 21% stake in Poland's largest insurer, Powszechny Zaklad Ubezpieczeń (PZU), to Netherlands-based insurer Eureko fell through in December when Eureko failed to obtain a permit from the Interior Ministry to take possession of 639 properties owned by PZU and Kaczmarek refused to extend the deadline for the sale. Kaczmarek explained that the move was intended to hold Eureko to the contract it signed when buying a 30% stake in PZU in 1999, which barred the company from obtaining a majority stake. This foot-dragging on state sell-offs, and the lower budget revenue from privatizations planned for 2002 by the Treasury Ministry, has worried observers who fear that lower income from the sale of state-owned assets will make it more difficult for the government to service existing debt and finance the growing budget deficit for 2002, estimated at zł. 40 billion ($10 billion). "The lower privatization income will mean that the Finance Ministry will have to look for money elsewhere, mainly in the fixed-income market, increasing the volume of debt that must be issued this year," said Marcin Mróz, senior economist at SG Bank. The slowdown in privatizations is also expected to exacerbate long-term unemployment growth, which reached 16.8% in November compared to 9.7% three years earlier, with the government forecasting an increase to more than 18% in 2002. "The inflow of money from privatizations leads to improvements in the production base; it may create new jobs for people and increase the production ability of the economy, making it more competitive in foreign markets, and this is what really counts from a long-term growth perspective," Mróz said. At the same time the SLD has a short-term interest in minimizing restructuring and job cuts that would make the party politically unpopular in the upcoming local elections in June. The government's decision to reduce the pace of privatization has also awakened concern about the prospects for Poland's state-owned industries. Even with the introduction of appropriate corporate governance structures, privatized industry would outperform national industry in the long term, said Erik Nielsen, an economist at Goldman Sachs. "In the longer run (state-owned industry) would suffer because you wouldn't have optimal capital allocation," Nielsen said. According to Lewandowski, the competitiveness of Polish industry is the key to a successful transition to the European market. "I am concerned that we may be losing time on the eve of EU (European Union) accession and how competitive these non-privatized industries will be on the European market," he said. In presenting a draft bill outlining the guidelines for privatization last month, Kaczmarek said the government aims to use privatization within the framework of industry-wide restructuring to create viable industries and use privatization revenue to create competitive and effectively managed companies to expand capital markets and create jobs. "We have no intention of halting the privatization process," Kaczmarek said. "But we must focus privatization on stimulating investment and not budget revenue." For the banking and finance sector this means waiting for the government to come up with a sector-wide strategy. The last three banks still in the state treasury's hands - PKO BP, Bank Gospodarki Żywnościowej and Bank Gospodarki Krajowej - will only be privatized if their sale benefits the government's strategy for the functioning of state-owned banks, although Kaczmarek has not said when such a strategy is due. Kaczmarek's caution over the sale of the three banks mirrors the concerns of the SLD and of many Poles that 80% of the country's banking sector is in foreign hands. Meanwhile, there are unclear signals about continuing the privatization of PZU. Despite saying that an IPO of 5-10% of the firm would be the optimal solution in December, the treasury has since agreed to set up a working group to prepare a revised privatization plan for the insurer and announce its findings this month. Restructuring dilemma Several factors have slowed the privatization process and induced government caution. A proposed IPO for chemicals concern Zakłady Azotowe Puławy last summer, for example, fell through because of poor market conditions and the pending change in government. The privatization of the energy sector has also been curtailed. The negotiation deadline for Hungarian oil giant MOL and government agency Nafta Polska to come to terms on the sale of a 17.6% stake in PKN Orlen passed earlier this month without effect. Although Nafta spokesman Krzysztof Mering said last week that the decision is imminent, Kaczmarek has indicated that the treasury's final decision depends on the outcome of talks on the sale of Rafineria Gdańska (RG) to British group Rotch Energy. A decision is not expected before May. Kaczmarek also said that if the deal with Rotch fell through, the government would consider restarting the privatization or merging RG with PKN Orlen. Kaczmarek warned last year of a change in direction in energy sector privatization, involving a consolidation and restructuring scheme to vertically integrate distributors with generators and coal mines. Although the sale of the G-8 group of northern energy distributors was canceled in 2001 after a consortium headed by Polish conglomerate Elektrim failed to agree with trade unions on employment guarantees, in December the Treasury Ministry restarted talks for a 25% stake in the G-8 group of power generators with Elektrim, Belgium's Electrabel, Germany's E.On and Spain's Iberdrola. Effectively, Kaczmarek halted all privatizations that were not completed by the AWS government. But the new government may follow through on some industry-wide restructuring programs initiated by the AWS - potentially the most difficult phase of Poland's 10-year privatization history, said SG Bank's Mróz. "The trade unions are very strong in these sectors and a lot of potential voters work there," Mróz said. "So far every government has been reluctant to deal seriously with these sectors." The mining industry has debts of zł. 20 billion ($5 billion) and while its restructuring cost zł. 5.3 billion ($1.32 billion) in 2001, the government estimates that a further zł. 9 billion ($2.25 billion) will be needed before EU accession. The privatization of the steel industry will probably happen according to restructuring plans set up last year by AWS. The Treasury Ministry is looking to create steel conglomerate Polskie Huty Stali (PHS) by merging five mills: Huta Tadeusza Sendzimira (HTS), Huta Katowice (HK), Huta Cedler (HC), Huta Florian (HF) and Huta Czźstochowa (HC). But the successful restructuring of these sectors will be jeopardized if the government decides against their privatization, Lewandowski said. "It is necessary to tread carefully because in these areas the sale of a company entails the sale of a market, so there is the greatest pressure to consolidate these firms instead of privatization." he said. "But this leads to doubt about the competitiveness of these industries because compared to the privatized part of the economy they still have greater overstaffing, lower productivity and will soon have to face competition in the single European market."