Minority Report
Senator Brian Harradine - Independent
I accept that the majority report is a fair statement of the major issues.
However, there are some further comments which may be made.
Redeemable preference shares
It should be observed that long-term optional redemption preference shares
with no fixed dividend rights but with dividends tied to the dividends
on ordinary shares would function much as an ordinary share in terms of
market signalling to Telstra management. Nor is there anything in company
law to stop voting rights being conferred on preference shareholders so
that management is responsive to investor concerns.
Given the estimated $20 billion gap emerging in debt markets, redeemable
preference shares should be attractive to institutional investors. Fixed
dividend redeemable preference shares could be attractive to investors
seeking investments closer to debt instruments while variable dividend
redeemable preference shares could be attractive to those seeking investment
closer to ordinary equity. The alleged unpopularity since 1987 of redeemable
preference shares flows from the threat of double taxation of dividends
under section 46D.
From a taxation point of view, leaving aside whether section 46D's double
taxation approach could ever be justified on tax equity grounds, it may
be noted that section 46D does not apply to optional redemption
preference shares.
Similarly, from a corporate finance point of view, arguments about gearing
ratios or refinancing risk as put forward by Telstra are irrelevant for
optional redemption preference shares. Nor can one describe
as “interest” a non-cumulative dividend contingent on current
year profits, even if that dividend were prima facie fixed as a
percentage of capital subscribed.
The Treasury arguments
It has been notable that the Treasury advice on this subject was shown
to be seriously in error.
The Treasury tried to argue originally that a share buyback financed
by the issue of redeemable preference shares would be illegal. That advice
was shown to be based on basic misconceptions about the Corporations
Law and was not revived before the Committee.
The Treasury also tried to argue that redeemable preference shares were
necessarily debt and should be subjected to double taxation on the dividends
(treated as taxable interest to the holder but treated as non-deductible
dividends to the paying company).
Witnesses observed that there was no theoretical argument to be found
to support a double taxation outcome for dividends on redeemable preference
shares (and Treasury advanced none).
More to the point, evidence was later produced which showed that Treasury
had contradicted itself in relation to optional redemption
preference shares. Treasury's paper on Taxation of Financial Arrangements
had accepted that such shares should be treated as equity for tax
purposes. Thus, Treasury's submission obfuscated the issues before
the Committee rather than helping the Committee and the Commonwealth examine
all possibilities for using hybrid securities to extract value most efficiently
from its Telstra assets.
The Committee's conclusions
Faced with such gaps in argumentation, it may be observed that the majority
recommendation does not seem to follow as a matter of logic from the evidence.
Perhaps too much credence has been given to the Telstra and official submissions.
In relation to the Telstra submission, it may be noted that Telstra executives
did not declare that they may have a conflict of interest in view of the
likelihood of ordinary shares being used in due course for executive share
option schemes. It is fair to guess that some of them may become very
rich men indeed from such executive incentive schemes. Similarly, the
evidence from some brokers must be looked at in the light of their prospective
underwriting profits from a float of ordinary shares as opposed to securities
which leave them with a lower margin.
Accordingly, it is my view that the Committee should have suggested that
the Government seek quotes from brokers and institutions on a range of
issue instruments, including ordinary shares, convertible preference shares
as well as fixed and participating optional redemption preference shares.
While recognising that one can lead a horse to water but one cannot make
him drink, the Government should at least make the brokers work somewhat
harder for the large amounts of money they will be paid for disposing
of public assets.
Future policy
The disposal of the Crown lands in the 19th century was Australia's first
great privatization. Many people at the time warned that it would leave
the colonies bereft of revenue as land sales revenue dried up and would
create problems for future settlement. They were proved right. Later governments
had to resort to new taxes on the people, such as tariffs and income taxes,
to make up for the loss of land revenue. They also had to pass closer
settlement and land tax legislation to try to break up the land monopolies
their earlier policies had created.
The current privatizations of natural monopolies pose similar dangers.
That brings me to the question of future policies.
The current Government has no mandate to sell more than one-third of
Telstra equity. A major reason why I suggested the issue of redeemable
preference shares is that it would allow this government to implement
its policy without tying the hands of future governments, including itself.
I suspect that regulated competition of a natural monopoly will ultimately
collapse under the logic of efficiencies of amalgamation and co-operation.
We see this already as the costs of dual cable roll-out are felt by the
competitors. We see it in the need to force co-location of telecommunications
facilities.
Competition to secure a natural monopoly is inherently wasteful competition.
Left to itself, the market would rationalize and we would end up with
one private monopoly.
The Government thinks it can avoid such an outcome through a regime of
legislated access to competitor's infrastructure. I suspect it would be
better to have that monopoly infrastructure remain in public ownership,
finance it by some sort of rating of the land serviced, and make it available
to all users, much like the roads.
I suspect that future governments will come to see the inefficiencies
inherent in the American model of regulated natural monopoly and may come
to see the virtues of structural separation. If structural separation
is good enough for railways and electricity grids, it may emerge as a
preferred option for core telecommunications infrastructure.
That is why I would prefer the government not tie either its own hands
or those of future governments by selling ownership of Telstra's underlying
natural monopoly assets.
However, for the record and without commenting on its desirability as
public policy, I can set out here how it is possible for a future government
to proceed to unscramble the telecommunications infrastructure omelette.
Unlike redeemable preference shares, it will involve cracking a few investor
eggs.
A government minded to resume public ownership of Telstra could act as
follows:
1. It could use its remaining two-thirds majority ownership to amend
the Articles of Association of Telstra to prohibit the payment of dividends
to shareholders and require that profits be applied to give rebates to
business customers.
- This would have three effects. First, listed shares in Telstra would
drop substantially because of an indefinite suspension of dividends. Second,
the pressure on competitors would see them anxious to quit the field and
sell their infrastructure to Telstra. Third, the Government would recoup
by way of taxes on increased business profits much of the dividend lost
from Telstra.
2. Telstra could then announce a series of non-renounceable rights issues.
- Such non-marketable rights issues for non-dividend paying shares would
be poorly subscribed by the private sector. By subscribing, a future Government
could move its equity back up to the 90% level, after which it could proceed
by compulsory acquisition of the remaining ordinary shares at their depressed
price.
If the experiment in regulated competition fails, some such rationalization
might well be inevitable. Redeemable preference shares would have been
a fairer way of achieving such an outcome, but private investors could
hardly complain if a future Government acted as above. Such methods of
squeezing out minorities are often said to be part of the “rough
and tumble” of commercial life and a future government might feel
as entitled to use such methods to secure a public policy result as a
private owner seeking his personal gain.
Meanwhile, however, perhaps the current government might like to ask
its officials about what the history of economic theory and economic history
might be able to tell us about the likely future of this particular privatization.
SENATOR BRIAN HARRADINE