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Royal Mail sale underpriced by £1bn, says scathing select committee report
Why the Royal Mail sell-off proved a right royal rip-off
(about 9 hours later)
Taxpayers lost out on £1bn because the government and its City advisers underpriced the privatisation of Royal Mail, a committee of MPs says today.
Ministers' fear of failure and poor advice from City advisers were two reasons why taxpayers were ripped off in the privatisation of the Royal Mail, concludes the business select committee. Fair comment. The National Audit Office reached a similar damning conclusion in April. To the list, we could add gross naivety, displayed in at least three ways.
In a highly critical report, the Business, Innovation and Skills (Bis) committee said the government worried too much about pushing the privatisation through at the expense of getting the best price for taxpayers.
First, it was madness for the government to sell 60% of Royal Mail in one go. The business was fundamentally hard to value. Royal Mail had just started to reap the benefits of a softer regulatory regime on the price of stamps. Its cost of borrowing would fall steeply after privatisation because the company would escape the harsh terms on which the government was lending. The freehold property portfolio was a mish-mash of sites with disputed values. And Royal Mail's dividend-paying power – the chief valuation yardstick for a semi-utility - had been transformed by the removal of the historic pension fund liability.
Royal Mail was privatised in October when the government sold 60% of its stake at 330p a share, valuing the company at £3.3bn. On their first day of trading, the shares jumped by 38% – far higher than normal for a flotation – and continued to rise after that. They hit a high of 615p on 15 January and closed at 474p on Thursday, valuing Royal Mail at £1.4bn more than the sale price.
No wonder, then, that the investment banks, when pitching to act as bookrunners and advisers to the float, put wildly different estimates on Royal Mail's worth. The spread in valuation ran to several billions of pounds.
In evidence to the committee, Vince Cable, the business secretary, and his minister Michael Fallon defended the sale price by saying the risk of a nationwide strike hung over Royal Mail during the privatisation, making investors wary about the company's prospects. Royal Mail and the Communication Workers' Union (CWU) settled their long-running dispute soon after the flotation in an agreement that promised a new era of industrial harmony.
In the circumstances, the best pragmatic policy would have been to sell, say, 25% of Royal Mail initially and let the market establish its view of fair value. Then the bulk of the state's shares could have been off-loaded when the market price had been given time to settle.
Cable dismissed the post-privatisation rise in Royal Mail's share price at the time as "froth" that would settle once the market had judged the company's value. The committee criticised Cable for not defining froth properly and for stretching the period he had in mind from the "immediate aftermath" of the flotation to months or years later.
Second, having locked themselves into selling 60%, ministers failed to give themselves flexibility on pricing. The top of the price range was capped at 330p – the eventual float price – regardless of the strength of demand for shares.
Adrian Bailey, chairman of the committee, said: "It's not at all clear that the government's sale of Royal Mail has brought an adequate and appropriate return for taxpayers. The government cannot blithely dismiss as 'froth' our committee's concern that the low issue price of this prime public asset has cost the taxpayer around a billion pounds."
Cable, Fallon and government adviser Lazard have argued repeatedly that demand for shares would have evaporated above 330p but the evidence for this is thin to non-existent. As the select committee's report says, institutional investors had no incentive to declare an interest above 330p. "The fact that many long-term investors bought shares later at a far higher price is evidence to us that there was demand for Royal Mail shares at a higher price," says the report. Quite.
Cable's department said the privatisation raised £2bn for taxpayers and put Royal Mail on a secure footing as a publicly traded company able to raise capital from the market. It said the report ignored the size of the share sale and included factual errors.
Third, Cable's concern to endow Royal Mail with a core of "long-term investors" who would stick around to support management's restructuring plans was a bad case of honourable intentions falling down in the face of market realities.
The department said: "The committee's views on the share price are based entirely on hindsight and ignore that we were selling 600m shares – they found no evidence that the department or its advisers missed vital information prior to sale. The share price remains very volatile to this day, as the business secretary told the committee, and has dropped 25% from its high point."
If a quick 50% profit is available, the definition of long-term is about five minutes for most institutional investors. In any case, some of the selections of "long-term" investors were simply eccentric. Och-Ziff is a New York hedge fund famous for funding Malcolm Glazer's highly leveraged buyout of Manchester United.
The National Audit Office (NAO) has criticised Cable for refusing to increase Royal Mail's flotation price despite widespread fears the 500-year-old company was being sold on the cheap. He has refused to apologise and still describes the privatisation as a success.
As Royal Mail's shares soared to 455p on day one, and then climbed above 500p, most "cornerstone" investors inevitably banked a big profit. They were entitled to do so because priority access to shares required no commitment to stay on the register. So what was the point of the exercise? The government merely forfeited pricing power.
But on Wednesday, with the committee's report looming, Cable announced a review of the privatisation process, headed by Lord Myners, a City veteran and minister in the last government.
Cable, finally accepting that he is persuading nobody with his breezy insistence that the sale of Royal Mail was somehow a triumph for taxpayers, has appointed Lord Myners to conduct a review of how the state handles privatisations. Myners should let rip.
The MPs were also scathing about the role of Cable's investment banking advisers – Lazard, Goldman Sachs and UBS – as well as the shareholder executive, the government team that works on privatisations. In evidence to the committee, the advisers insisted they had got the best deal possible, despite admitting they had considered recommending the government to seek a higher price from investors.
The advisers' work on the privatisation was "not up to standard" and did not get the best deal for taxpayers, the MPs said.
The report, backed unanimously by MPs from the three major parties, criticised Cable's attempts to secure long-term investors for Royal Mail by giving preferred status to certain fund managers. They singled out Cable's unwillingness to publish the list of investors until the day before he appeared at the committee and called for more information about those that had sold their stakes.
The government also ignored NAO recommendations about the treatment of three large London sites included in the sale. The NAO argued for their exclusion from the sale or for provisions for the government to get money back from their later sale. After the privatisation, the NAO said the government's £200m valuation of the sites underestimated their worth.
Bailey said: "This was the most significant privatisation in years. We believe that fear of failure and poor quality advice led to a significant underestimate of the demand for Royal Mail shares. The government's inclusion of Royal Mail's 'surplus' assets in the sell-off, without the prospect of clawing back future proceeds, may also mean the taxpayer losing out once again."
Billy Hayes, general secretary of the CWU, which opposed privatisation, said: "The Bis select committee's damning report published today shows the extent of the government's incompetence in the privatisation of Royal Mail. The only froth came from Vince Cable and Michael Fallon's allegations that threat of strike action from the CWU last summer affected the share price."
The committee accepted that the government succeeded in privatising Royal Mail in this parliament and giving employees a stake in the business but said it failed to achieve its third aim of securing value for money.
