Public (Sector) and Private (Equity) Hallucinations

Public (Sector) and Private (Equity) Hallucinations

Ganga Prasad G. Rao
http://myprofile.cos.com/gangar


Living in a socialist country with government-sponsored 'public sector' enterprises, it is easy to forget what the objectives of these entities are. In truth, they are oriented more to the nation's cause of infrastructure development, to a less-endorsed extent employment generation, and, as I would like to (mis)believe, to raise the per-capita consumption of various goods and services (why else would they compare inter-country per-capita figures in Planning Commission documents?). With government appointed board members who take their orders from their political masters at the Ministry, these entities also serve to control investment, prices and inventories in the market, not to mention stock up goods meant for subsidized distribution. I half-suspect, the government plays a strategic 'duopolistic' game with the private players – the government's interpretation of the 'dominant firm' type competition!

Anyway, the point I would like to make here is that different entities have different objectives that influence their market behavior. A PSU perforce seeks to satisfy its Ministry (the Government typically owns a majority if not a overwhelming share of stock). And the Minister is not satisfied with a dividend cheque. The PSUs must fund his pet projects, favor his clients (So what if the tender is closed; reopen it and pull my contractor in), share in his obligations, provide him opportunities to make welfare announcements of various kinds and, of course, pull in funds for his political masters even while negotiating wages and benefits with various cadres of workers and officers. And don't forget the obligation to participate in national cause of reducing inflation by cutting back prices! I'd be surprised if any of these PSUs even have an optimization model to guide their actions.

Talking about profit max models, gone are the days when the company economist could plug in prices in to his LP model that spit out production of various products at various production sites along with a matrix of inputs. In these days of stock options, commodity hedging, derivatives trading and switching strategic regimes, the conventional optimization model merely achieves static efficiency – at most. Depending on the ownership structure of the firm (promoter's stake and the amount/nature of stock options), 'policy stability', firm's investment plans and market structure, a true inter-temporal model of profit maximization could be very complicated indeed. It is an open question whether our managers in the public and private sectors appreciate these complexities. It's another question whether they should even take cognizance of it (In the land of inferiors, laissez faire is immortal!)

Did you say 'laissez faire'? Enter the Dragon, I mean the private equity firms – staffed by those shadowy smart necks who did not socialize in the Corporate Strategy lecture at your Ivy League College! Admittedly, there are different kinds of private equities with different motives, but I mean those who takeover a (publicly-listed, perhaps loss-making) business, turn it around, and exit when its stock price zooms by a factor of a hundred – all in a period of a decade or so. Surely, they do not go by your profit max model? Profit max move aside. It is the day of EPS growth-based optimization models – the only denominator that investors recognize! Pray, what is that? These private equity players have a gameplan that achieves their goal that is squarely focused on actions that turn the stock attractive in the market. Engineering mergers and bankruptcies, working with the elected representatives to modify regulations and the books to their advantage, reappraising markets and product mix across the quality dimension, product differentiation, focused advertising around brand-recognition, focusing on IPR-protected markets and anticipating the future with knowledge of yet unpublished technological advances – these are the hallmarks of these entities. Behind them, I presume, is the unholy troika of MIT brains with hybrid financial-economic-accounting models, large international consulting organizations and strategic investors with supercomputers that churn all the data that the CIA and World Bank/IFC could conceivably gather to evaluate the course of international economies, stock markets and sectoral trends under alternative strategies. What chance do 'mortals' have against these behemoths?

Makes you wonder, if they are so efficient at their game, why not turn our sick PSUs over to these guys? They could even share in the spoils when these PSUs are offered in a public IPO following the turnaround. Food for thought!

More hallucinations, anyone?