privatisation in ireland: the divestiture of bord gáis energy
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Title Page
Name: Adam Burke
ID Number: 10112545
Project Title: Privatisation in Ireland: The Divestiture of Bord Gis Energy
Internal Supervisor: Dr. Donal Palcic
Degree Title: Bachelor of Arts in Economics and Sociology
Date: 20 February 2014
Word Count: 12,983
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Abstract
A new round of divestiture in the Irish public enterprise portfolio appears imminent.
Government is pursuing privatisation as a means of raising revenue to service the countrys
debt and part-finance its NewERA economic stimulus package in the wake of Irelands
financial crisis. This paper contends that this privatisation policy is a manifestation of lead
coalition government member Fine Gaels neo-liberal economic agenda that seeks to reduce
the role of the state in the provision of goods and services previously provided by state owned
enterprises (SOEs). The theoretical and empirical case for privatisation as a means of
improving enterprise performance is demonstrated to be ambiguous. A case study of the
ongoing divestiture of Bord Gis Energy (BGE) is undertaken which finds that BGE is being
solid amidst significant regulatory and governance shortcomings and via a method of sale
widely criticised in the failed divestiture of Telecom ireann. In conclusion, a
recommendation is made that calls for the immediate postponement of any future
privatisation of Irelands SOEs.
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Contents
Acknowledgements 5
Declaration 6
List of Abbreviations 7
List of Figures and Tables 8
Introduction 9
Chapter 1 Literature Review 11
1.0 Introduction 11
1.1 Defining Economic Efficiency 11
1.2 Theoretical Literature Review 11
1.3 Methodological Issues 13
1.4 Empirical Literature Review 13
1.5 Conclusion 16
Chapter 2 Public Enterprise and Privatisation in Ireland 17
2.0 The History of Irelands Public Enterprise Formation 17
2.0.1 Introduction 17
2.0.2 Public Enterprise Formation in Ireland: 1927-1957 17
2.0.3 Public Enterprise Formation in Ireland: 1957- 1989 19
2.1 Privatisation in Ireland 19
2.1.1 Introduction 19
2.1.2 Privatisation in Ireland: 1991-1996 20
2.1.3 The Privatisation of Telecom ireann 21
2.1.4 Privatisation in Ireland: 2001-2006 22
Chapter 3 A New Round of Divestitures 24
3.0 Introduction 24
3.1 The Economic Crisis in Ireland 24
3.2 Fine Gaels New Economy Recovery Authority 26
3.3 Memoranda of Understandings 28
3.4 Report of the Review Group on State Assets and Liabilities 29
Chapter 4 The Privatisation of Bord Gis Energy 31
4.0 Introduction 31
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4.1 The Economics of Natural Gas 32
4.2 The European Gas Market 33
4.3 Bord Gis ireann 34
4.3.1 The Development of Bord Gis ireann 34
4.3.2 The Structure of Bord Gis ireann 35
4.4 Bord Gis Energy 36
4.4.1 Introduction 36
4.4.2 Market Share: Electricity 37
4.4.3 Market Share: Natural Gas 37
4.4.4 Price Regulation in the Residential Supply Sector 38
4.4.5 Business Performance 40
4.5 The Sale Process to Date 42
Chapter 5 Future of Privatisation Policy in Ireland 45
5.0 Introduction 45
5.1 A Critique of the Imminent Privatisation of Bord Gis Energy 45
5.2 Recommendations in Conclusion 47
Bibliography 48
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Acknowledgements
Firstly, I would like to thank my supervisor Dr. Donal Palcic whose guidance and expertise
were invaluable throughout the development of this project.
I would also would like to thank Shelby, for being a beautiful distraction and infinitely
patient throughout.
Finally, I would like to thank my parents Ger and David. Your sacrifice, love and
encouragement have enabled me to thrive during my four years at the University of Limerick.
One day I will be able to repay the debt I owe you.
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Declaration
I hereby declare that this project is entirely my own work, in my own words, and that all
sources used in researching it are fully acknowledged and all quotations properly identified. It
has not been submitted, in whole or in part, by me or another person, for the purpose of
obtaining any other credit / grade. I understand the ethical implications of my research, and
this work meets the requirements of the Faculty of Arts, Humanities and Social Sciences
Research Ethics Committee.
_____________________
Adam Burke
20/02/2014
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List of Abbreviations
UK United Kingdom
SOE State Owned Enterprise
BGE Bord Gis Energy
NewERA Ltd. New Economy Recovery Authority Limited
EC European Council
EU European Union
IMF International Monetary Fund
ECB European Central Banl
TFP Total Factor Productivity
ROCE Return on Capital Employed
VA Value Added
DEA Data Envelopment Analysis
ACC Agricultural Credit Corporation
ICC Industrial Credit Corporation
TSB Trustee Savings Bank
ESOP Employee Share Ownership Plan
MoU Memoranda of Understanding
GDP Gross Domestic Product
GJ Gigajoule
US United States
VAT Value Added Tax
USSR Union of Soviet Socialist Republics
NAM Nederlandse Aardolie Maatschappij
OPEC Organisation of the Petroleum Exporting Countries
KM Kilometre
CER Commission for Energy Regulation
NDM Non-daily metered
IC Industrial and Commercial
FVT Fuel Variation Tariff
RTF Regulated Tariff Formula
TD Teachta Dla
RBC Royal Bank of Canada
OECD Organisation for Economic Co-Operation and Development
ICTU Irish Congress of Trade Unions
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List of Figures and Tables
Table 1 Commercial State-Owned Enterprises in Ireland
by the 1980s
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Table 2 Privatised SOEs in Ireland and Exchequer
Proceeds
20
Fig. 1 The Structure of Bord Gis ireann and its
Subsidiaries
35
Table 3 Table 3: Market Share of Electricity Suppliers as a
Percentage of Customer Numbers Across Market
Segments
37
Table 4 Table 4: Market Share of Natural Gas Suppliers as
a Percentage of Customer Numbers across Market
Segments
38
Fig. 2 Market Share of Residential Natural Gas Supply 39
Table 5 Irish Residential Gas Prices to Residential
Consumers at Purchasing Power Parity (all
taxes included) (1st Semester 2013) EU Comparison
40
Fig. 3 Fig. 3 BGE Operating Profit before Depreciation
and Amortisation (EBITDA) 2009-2012
41
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Introduction
Since being brought into vogue by Margaret Thatchers UK conservative government in the
late 1970s, privatisation has prevailed as the most popular means of improving public sector
performance. This prevalence is largely due to a global swing towards a hegemonic neo-
liberal economic ideology which seeks to minimise government control of the economy by
establishing a liberal and competitive private sector market economy. Privatisation has thus
become a divisive issue in a wider ideological debate about the role of government in the
economy. It is often presented by proponents as the common sense approach to modern
economics, while those in opposition tout it as a malicious method of undermining public
welfare in the pursuit of maximised profits (Palcic and Reeves 2011).
The term privatisation has been used loosely to describe a variety of public sector reforms
including liberalisation, deregulation and contraction out of public sector activities. Thus,
Starr (1988) defines privatisation as any transfer in the production of goods and services from
the public to the private sector. Starr (1988: 16-17) refines this definition in the following
sub-categorisation:
Governments ending public programmes and disengaging from specific
responsibilities.
The sale or lease of public assets (public land, infrastructure or state owned
enterprises) by the state to transfer ownership to the private sector.
Government withdrawal from the production of services while remaining financier.
For example, this can occur by contracting out or through some forms of public
private partnerships.
The deregulation of entry into former state monopolistic markets.
For the purpose of this study, privatisation will hereafter refer exclusively to the transfer of
state owned enterprises (SOEs) to the private sector by sale. SOEs are to be understood as per
Palcic and Reeves (2011) explanation as commercial enterprises owned by the state, who
earn the majority of their income in selling goods and services.
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As the pioneers of privatisation policies in Europe, empirical research of the European
privatisation experience has typically focused on the experience of the UK. There exists a
small but growing trend of country specific studies which seek to illuminate the motivations,
rationale, methods and outcomes of the privatisation of state owned companies (Palcic and
Reeves 2011). This study seeks to contribute to the existing literature on the Irish
privatisation experience by providing an analysis of the ongoing divestiture of Bord
Gis Energy (BGE), the retail arm of Irelands state-owned utilities company Bord
Gis ireann.
This study is structured as follows; a review of the theoretical and empirical literature of
privatisation to date is undertaken. This theory is then applied to an analysis of Irish SOE
formation and privatisation activity to date. Irelands current economic crisis is then
identified and explained as a driving force and rationale for a renewed interest in privatisation
in the context of a structured bailout programme. A number of documents are then analysed;
the governments NewERA economic stimulus plan, the various Memoranda of
Understanding agreed in return for Irelands bailout between the Irish government and the
EC/IMF/ECB and a Report of the Review Group on State Assets and Liabilities. This
analysis will identify the trajectory of recent privatisation policy formation and demonstrate
the key role played by the Troika in the decision making process. A case study of the ongoing
divestiture of Bord Gis Energy follows.
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Chapter 1: Literature Review
1.0 Introduction
A thorough review of the theoretical and empirical literature of privatisation policy is
essential in moving beyond a discourse all too often hijacked by vested interests. This
literature largely developed in parallel with the implementation of privatisation policies in the
UK in the early 1980s and has advanced substantially since. A period of stagflation with
sustained unemployment, decreasing growth and rising inflation in the 1970s undermined
Keynsian economic theory and paved the way for neo-liberal reforms in the British economy.
Deregulation, liberalisation and privatisation were the order of the day as the British
government sought to emerge from economic crisis (Palcic and Reeves 2011).
1.1 Defining Economic Efficiency
The economic argument for the sale of SOEs to the private sector is generally premised on
the supposition that enterprises under private ownership will achieve superior efficiency. It is
imperative to distinguish between different concepts of efficiency. Parker (2000: xv) offers
this distinction; Technical efficiency, a supply side concept, occurs when firms minimise
costs by maximising output at a given level of resources. Allocative efficiency, on the other
hand, is conceptualised from the demand side. Firms are allocatively efficient when they
when they set prices equal to the marginal economic cost of supply. In doing so, societal
economic well being is maximised through an optimal distribution of resources.
1.2 Theoretical Literature Review
The initial theoretical rationale for employing privatisation as a means of improving
economic efficiency came from theories of government failure; public choice perspectives
and property rights. Principal-agent theory was subsequently developed as a contractual
approach to the theoretical analysis of privatisation, and has influenced much of the
theoretical developments in the area thereafter (Palcic and Reeves 2011).
Public choice theory as developed by Buchanan and Tullock (1962) focuses on the motives of
elected representatives and bureaucrats as a source of inefficiency. Chicagoan public choice
theory asserts that decision making will always be based on individuals financial self-
interest. Thus, public sector workers and politicians will always forsake maximised profits
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and efficiency in pursuit of personal financial gain. It is argued that privatisation can put in
place an incentive structure that allows for the alignment of financial self-interests and
corporate goals. Virginian public choice theory on the other hand, identifies non-economic,
political motivations for privatisation such as a reduction in state power. This leads Boycko et
al (1996) to claim that democratic elections, rather than ownership per se, are the primary
source of inefficiencies in state owned enterprises.
Parker and Willner (2007) have developed a considerable rebuttal to public choice theory in
which they question the very assumption on which the literature is built, that of the individual
as homo economicus. They assert that the concept of an economically rational, financially
driven individual is not useful in all situations, pointing to the examples of non-commercial
activity and social institutions. Furthermore, they argue there to be a bias in the preposition
that public sector managers are inherently more disposed to being self-serving and wasteful.
They go on to question whether state owned enterprises operate more efficiently in a
dictatorship as implied by Boyckos (1996) rationale and find the opposite to be empirically
true.
De Alesi (1987) concedes that state intervention in the provision of goods and services is
useful in so far as it allows for the correction of allocative and distributive market failures.
However, he employs a property rights argument to justify privatisation. He sees public
servants as pursuing their own self-interest and those of lobbying groups. They do not
maximise profit or efficiency, nor do they operate in the publics best interest. Thus public
ownership is easily corrupted, bent to political will and unaccountable. However, it can be
argued that the incentive to maximise efficiency for governments is large, as state owned
enterprises directly influence government finances and that the democratic process is such
that the pressure of future elections makes governments accountable for the performance of
those enterprises under their control (TASC 2012).
Principal-agent theory examines the relationship between a principal who delegates work to
an agent. Objective and information asymmetries characterise this relationship under public
ownership; the principal and agents objectives can become misaligned, and the principal
strains to see what the agent is doing through a thick layer of organizational bureaucracy. Bs
(1991: 92) argues that privatisation alters the context of this relationship. The layer of
bureaucracy is reduced, and ownership is diversified amongst a multitude of parties, such as
financial organizations, individual shareholders and employees. It is argued that these
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organizational and ownership changes induce an environment where incentives can be re-
aligned, monitoring increased and information can flow more freely. The struggle to design
appropriate incentive structures and contracts is overcome, thereby leading to greater
efficiency.
1.3 Methodological Issues
Prior to a review of empirical studies of privatisation, it is important to highlight the key
methodological issues that inevitably compromise any comparative study of public versus
private enterprises. As mentioned previously, state owned enterprises often operate with
motives beyond profit. These enterprises can become vehicles of government policy. Thus,
standard performance indicators used to measure performance in the private sector such as
financial, productivity and cost measures may not be appropriate for publicly owned
companies thereby undermining comparative studies. Furthermore, price as a basis of most
indicators may not be appropriate as many state owned enterprises operate in non-competitive
markets (Palcic and Reeves 2011).
The effect of ownership change is but one of a host of factors such as the regulatory
environment, size, market and incentive structures that affect performance. This is further
complicated when looking at performance over time, where one must also control for
technological variation and sector trends. The task of controlling for such a vast set of
interdependent and non-mutually exclusive variables so as to isolate the effect of ownership
on performance is a daunting one, and something that a lot of studies fail to achieve. The
following will review the empirical literature of privatisation in light of these methodological
challenges (Palcic and Reeves 2011).
1.4 Empirical Literature Review
A nominal division of the numerous empirical studies of the effect of privatisation on
financial and operating performance can be made along the lines of broad based international
studies and in-depth country specific studies. The methods, limitations and conclusions of a
selection of prominent studies from both categories are discussed and their collective results
demonstrated to be ambiguous.
Much of the early empirical research on privatisation was conducted in the UK, as academics
clamored to understand the effects of its governments pioneering public sector reforms.
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Yarrow (1986) used financial performance indicators to study productive efficiency. It was
found that private ownership was preferential over public ownership in competitive markets.
However, where there existed a market failure, no evidence of improved performance could
be observed following divestiture
Bishop and Kay (1989) used similar performance indicators to assess the productive
efficiency of a sample of UK public and privately owned enterprises in a comparative study.
A total factor productivity analysis was also undertaken. This study found that growth and
profitability can cause privatisation, and that the very threat of privatisation can improve
performance through increasing commercialisation. Bishop and Thompson (1992) studied the
performance of British utilities between 1970-1980 and 1980-90. Labour productivity gains
were found, as privatisations took hold at the end of the 1970s. Productivity gains measured
with a total factor productivity analysis were identified to be higher in the 1980s than the
1970s but the researchers suggest that changes in the regulatory environment were more
influential than ownership changes in bringing about these gains.
These studies are not without methodological problems. Both studies by Yarrow (1986) and
Bishop and Thompson (1992) were undertaken immediately after privatisation thus
precluding the longer term effects of these divestitures from their analysis. Bishop and Kays
1989 study failed to control for national productivity which may have had a significant
bearing on their findings. Furthermore, the time periods analysed in Bishop and Thomsons
1992 study did not coincide with the times of privatisations occurring thereby rendering it
very difficult to identify the effect of privatisation on the observed productivity gains. In
general, such studies fail to account for the effect of organisational and management changes
that tend to arise with an ownership change. If the effect of these changes has a significant
bearing on performance gains, a case might be made for corporate restructuring over
privatisation as a means of achieving economic efficiency (Palcic and Reeves 2011).
Three broad based empirical studies conducted by Meggison et al (1994), Boubakri and
Cosset (1998) and DSouza and Meggison (1999) collectively analysed the effect of
privatisation on the performance of 211 firms, across 42 countries and 56 industries. Using
largely the same methodology, the studies tested whether privatisation led to increased
profitability, operating efficiency, capital investment spending output, dividend payments,
decreased employment and leverage. These performance indicators were measured for the
three years prior to and following divestiture.
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Meggison et al (1994) found performance to be superior following privatisation. Profitability,
dividend payments and capital investment increased while employment remained constant.
These performance indicators were not market adjusted; however they concluded that their
results were not influenced by the macroeconomic environment by computing the average
Gross National Product growth rate, inflation rate and change in countries industrial
production index. Boubakri and Cosset (1998) found similar gains in performance while
exclusively studying privatisation in developing countries. They sought to isolate the effect of
privatisation from economy wide factors by calculating performance indicators with both raw
and market adjusted data. DSouza and Meggison (1999) made no such allowance for the
business cycle. However, their findings correspond with those of the two aforementioned
studies, as well as measuring an increase in post-divestiture employment.
These studies do not overcome the methodological issues as outlined previous. The
performance measures employed cannot accommodate the non-profit motive of state owned
enterprises, nor can the effect of divestiture be isolated from the wide array of determinants
of performance. Further problems arise when one analyses the composition of the companies
studied in these broad based studies. Boubakri and Cosset (1998) dealt exclusively with
divestitures in developing countries. The relevance of their experience could be questioned
for a study of a small open economy such as Irelands. Furthermore, DSouza and Meggison
(1999) used a sample with a high proportion of electricity and telecom companies. Such
companies experiences have been unique, with a global policy preference towards
privatisation as a means of funding the capital investment needed for a rapid technological
advancement in the sector. Thus, their findings are limited in their application to other sectors
at different stages of development (Palcic and reeves 2011).
While the methodological difficulties in studying privatisation are such that the academic
literature is unavoidably imperfect, Martin and Parkers (1997) study of 11 privatised
companies in the UK represents one of the most comprehensive to date. Throughout, national
productivity trends were accounted for and averages figures used for periods before and after
divestiture. The researchers employed several methods to establish the impact of privatisation
on performance:
Martin and Parker (1997) began by studying the effect of the change from public to private
ownership had on labour productivity, finding it increased in most cases. However, a Total
Factor Productivity (TFP) analysis saw TFP increase in only 2 cases. The researchers
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concluded that overstaffing occurred in public enterprises through managerial slackness and
inefficiencies arising from political intervention. Repeating the study using the accountancy
ratios Return on Capital Employed (ROCE) and Value-Added (VA), the researchers could
not support the hypothesis that private enterprises performed better than their public
counterparts on efficiency grounds.
In looking at the affect of privatization on technical efficiency, Martin and Parker (1997)
employed a Data Envelopment Analysis (DEA). This linear programming method derives the
relative efficiencies of decision making units. Using 3 different models, no systemic evidence
of technical efficiency gains following divestiture were found, despite 3 of the 11 privatised
companies demonstrating technical efficiency gains. Finally, the effect of business
restructuring on performance was analysed in the context of privatisaion and a change in the
competitive environment. This highlighted the importance of internal factors on performance,
as privatisation and a more competitive market were found to bring about several positive
changes internally, such as an increased focus on profits and consumer needs, flexible
working practices, a flattening of organisational structures and an increase in disposals and
acquisitions.
1.5 Conclusion
The theoretical literature of privatisation is inconclusive. Even if we agree that in theory,
privatisation can lead to improved efficiency and profitability, the effect of privatisation on
wider society must be considered. One must acknowledge that economic efficiency is not
always the primary motive of a state owned enterprise. The deliverance of a good quality
product or service at an affordable price, with universal access may not be a technically
efficient strategy, but is equitable and beneficial to the wider society. Nobel Prize laureate
Joseph Stiglitz (1994) describes privatisation as a trade off between Technical and Allocative
efficiency, the result of which is ambiguous at best:
We cannot, in general, be assured that private production is necessarily "better" than
public production. Privatization involves costs and benefits, which, as always, must
be weighed against each other.
(Stiglitz 1994: 194)
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Chapter 2: Public Enterprise and Privatisation in Ireland
2.0 The History of Irelands Public Enterprise Formation
2.0.1 Introduction
An analysis of the rationale for the formation of SOEs in Ireland is necessary to contextualise
subsequent privatisation policies, and understand the key role SOEs continue to play in
important sectors of the Irish economy. The following explores the history of Irelands public
enterprise formation up until the 1980s, as underpinned by factors both common to SOE
formation in Europe and unique to Irelands experience.
Parris et al (1987: 14-21) explains why Post-World War Two European governments sought
the establishments of a strong public enterprise sector. A socialist political ideology
prevailed, which advocated for public ownership. Countries saw SOEs as necessary to
developing national wealth in the absence of private sector initiative. Such SOEs could be
used as a vehicle for regional development. Sectors characterised by duplication were being
rationalised with the establishment of state mandated monopolies. Although many of these
factors which underpinned European SOE formation are relevant to Ireland at particular
points in time, the chronology of Irelands SOE formation is somewhat different. Having
gained independence in 1922 and exercised neutrality throughout World War One and Two,
Ireland did not develop its SOEs in accordance with wide European trends (see Table 1 for
chronology).
2.0.2 Public Enterprise Formation in Ireland: 1927-1957
Protectionist policies were pursued in Ireland following independence from British rule in
1922. The state sought to break neo-colonial ties with Britain by vying for self-sufficiency
with an extensive import-substitution program. The successful establishment of the
Electricity Supply Board in 1927 set a precedent for public enterprise as a means of achieving
economic development (Palcic and Reeves 2011). Sweeney (1990) explains that SOEs were
subsequently established to meet the extraordinary needs of the fledging state. The
Agricultural Credit Corporation was also established in 1927, and the Industrial Credit
Corporation in 1933, to provide much needed funding to Irelands agricultural and industrial
sectors respectively. The Irish Sugar company was established in 1933 as a prototype of a
commercial SOE. As government continued to strive towards self-sufficiency, Ceimici Teo
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was established in 1939, initially as a producer of industrial alcohol, but then extending to
produce a multitude of chemicals. In 1936 Ireland established Aer Lingus as the state airline,
while Aer Rianta took control of Dublin Airport.
Table 1: Commercial State-Owned Enterprises in Ireland by the 1980s
Company Established Sector
Agricultural Credit Corporation 1927 Banking & Finance
Electricity Supply Board 1927 Electricity
Industrial Credit Corporation 1933 Banking & Finance
Irish Sugar 1933 Sugar Production
Aer LIngus 1936 Air Transport
Aer Rianta 1937 Airports
Ceimici Teo 1939 Chemicals
Irish Life 1939 Insurance
Irish Shipping 1941 Sea Transport
Cras Iompair ireann 1944 Rail & Road
Transport
Bord na Mna 1946 Peat Production
Irish Steel 1946 Steel Production
Arramara Teo 1949 Seaweed Processing
Voluntary Health Insurance 1957 Health Insurance
Raidi Teilifs ireann 1960 Broadcasting
Ntrigin ireann Teo- IFI 1961 Fertiliser Production
B&I Line 1965 Sea Transport
Foir Teo 1972 Banking
Bord Gis ireann 1976 Gas Distribution
Irish National Petroleum Corporation 1979 Oil Refining & Supply
Telecom ireann 1984 Telecommunications
An Post 1984 Postal Services
Coillte Teo 1989 Forestry
Source: Palcic and Reeves 2011
The outbreak of World War Two in 1939 provided an additional impetus for Ireland to
operate self-sufficiently. Irish Shipping was founded in 1941 to secure service between
Ireland and Britain during the war. The transport company Cras Iompair ireann, Irish Steel
and a seaweed processing company Arramara Teo were established throughout the 1940s
following nationalisations and mergers (see Table 1). The state established itself in the
financial services sector with the formation of Irish Life Assurance Company in 1939
following the nationalisation of 5 British companies the state had invested in, and formed the
Voluntary Health Insurance company in 1957 to insure those not covered by the Health Acts
(Palcic and Reeves 2011).
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2.0.3 Public Enterprise Formation in Ireland: 1957-1989
SOEs now existed across many sectors, and were essential in implementing broad
government policies as Ireland began to embark upon an era of outward looking economic
planning from 1958. Governments emphasis shifted from self sufficiency to establishing an
export orientated economy which was attractive to foreign direct investment. Agencies such
as Cras Trchtl and the Irish Export Board were formed to service the needs of this private
capital by offering advice and information (OMalley 1989:86). Other agencies were
established such as Gaeltarra ireann in 1959 to develop Irish speaking areas and Bord
Iascaigh Mhara in 1952 to develop Irelands fishing industry. Commercial SOEs continued
to be established; the state broadcasting agency Raidi Teilifs ireann in 1960, the fertiliser
company Ntrigin ireann Teo in 1961 and B&I Line, a ferry company formed in 1965
following the nationalisation of a failing British company (Palcic and Reeves 2011).
SOE formation continued into the 1970s, with the establishment of the state rescue bank Foir
Teo in 1972. Of particular interest to this study is the establishment of Bord Gis ireann in
1976 as the monopoly distributor of natural gas in Ireland. Telecom ireann and An Post
(1984) and the state forestrys company Coillte Teo in 1989 were corporatized from the civil
service to become commercial SOEs. At the beginning of the 1980s, 23 SOEs were
categorized as commercial entities engaging in the production of goods and services (Palcic
and Reeves 2011).
In sum, the rationale for establishing SOEs in Ireland was largely due to the need for the
creation of national wealth in a newly independent state without basic industries or the means
of attracting private enterprise. The formation of SOEs provided state autonomy and the
means to pursue state goals (Palcic and Reeves 2011).
2.1 Privatisation in Ireland
2.1.1 Introduction
The Irish state has to date raised 8.36 billion in privatisation revenues, significantly
changing the structure and composition in several key sectors of the Irish economy (Palcic
and Reeves 2011). This section explores these divestitures by applying the aforementioned
theoretical rationales of principal agent and public choice theories. Furthermore, it is
explained that European integration influenced government to privatise SOEs; the Single
Common Market necessitating liberalisation incompatible with certain public monopolies, the
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Maastricht Treaty asserting a pressure to quickly reduce government debt and deficits to meet
its criteria and the issuing of EU directives banning state aid to failing SOEs (Palcic and
Reeves 2011). In conclusion, it will be demonstrated that decisions to privatise in the Irish
case have been made pragmatically, and not based on any single rationale.
Table 2: Privatised SOEs in Ireland and Exchequer Proceeds
Company Year of sale Exchequer proceeds
(000s)
Irish Sugar Apr. 1991 210,650.8
Irish Life Jul. 1991 601,930.8
B&I Line Jan. 1992 10,792.8
Irish Steel Apr. 1996 0
Telecom ireann Jul. 1999 6,399,907.9
Industrial Credit Corporation Feb. 2001 322,274.8
Trustee Savings Bank Apr. 2001 408,350.3
Irish National Petroleum Corporation Jul. 2001 20,000.0
Agricultural Credit Corporation Feb. 2002 154,603.0
Aer Lingus Oct. 2006 240,902.3
Total 8,369,412.7
Source: Palcic and Reeves 2011
2.1.2 Privatisation in Ireland: 1991-1996
Throughout the 1980s, Ireland opted to commercialise its SOEs rather than follow a growing
trend of privatisation in the UK and Europe, despite facing a severe financial crisis.
Government promises to trade unionists to avoid privatisations were eventually broken
however, as the pro-privatisation Progressive Democrats came into power as a minority
coalition member in 1989. The dual divestiture of Irish Sugar Company and Irish Life
Assurance in 1991 set a precedent for further divestitures in Ireland. These privatisations can
largely be explained with Chicagoan public choice theory, which demonstrates internal
actors ability to lobby relevant government ministries and officials. The privatisation of Irish
Sugar Company and Irish Life Assurance was driven by decision makers within the
companies, who pushed their privatisation agendas through to IPOs in 1991 (Palcic and
Reeves 2011).
Government continued to proceed cautiously and pragmatically following these divestitures.
Increasing the commercial performance of SOEs took priority over changing ownership.
Government took a hard line on loss makers, as evidenced by the liquidation of Irish
Shipping and Ceimici Teo in 1984 and 1986 respectively. It can be noted that the hard line
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taken at this time was partly due to increasing European integration, with the conditions of
the Maastricht Treaty necessitating stricter fiscal discipline. By 1991, shipping company B&I
Line had accumulated losses of 170.71 million, relying on exchequer funding to service its
debt. Irish steels performance was similarly weak. Between 1980 and 1993, the steel
company received 234.9 million funding from government, but remained unprofitable, with
a net loss of 16.48 million in 1993. Rather than opt for liquidation, government choose to
sell the companies as going concerns. B&I Line was sold in 1992 to Irish Continental Group
for 10.79 million, with government agreeing to pay 44.4 million of its debt. Irish Steel was
sold in 1996 to ISPAT International (Palcic and Reeves 2011).
2.1.3 The Privatisation of Telecom ireann
By far the most significant divestiture in the history of the Irish state is that of Telecom
ireann (T); the national telecommunications operator. From its establishment in 1984, T
operated as a monopoly in the Irish telecommunications market. EU legislation saw T
facing full market liberalisation in 1998. To adapt to this impending competitive market,
internal management sought large capital investment. It was argued that such an investment
could only come from private sources thus management instigated a partial strategic
privatisation, eventually leading to full privatisation. In 1996 Comsource consortium
purchased a 20% stake in T, with an option to increase this holding to 35%. The
Communications Workers Union, the final hurdle in the full divestiture, agreed on the basis
of a generous 5% employee share ownership plan, with a further 9.9% stake bought at a fair
price (Palcic and Reeves 2011: 155-177).
T, rebranded as Eircom, was fully privatised in 1999 with the remaining 50.1% stock
flotation generating sales revenue of approximately 6.4 Billion. To put this in the context,
this represents 76.47% of total exchequer proceeds from privatised SOEs in Ireland.
Government promoted Ts flotation as a means promoting popular capitalism. Its goal of
widening share ownership seemed successful initially, with 575,000 people purchasing stock.
However as stock prices deteriorated, many thousands of these small shareholders were
burned, curbing the publics appetite for future privatisations (Palcic and Reeves 2011: 155-
177).
The privatisation of T has become known to be an example of failure in privatisation. The
lessons learned from this should be applied in future privatisations. Central to this failure was
governments decision to sell T as a vertically integrated business, not keeping the network
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element of the business in state control. Also, selling T in one go as opposed to gradually
reducing ownership and keeping a golden share, which would have allowed the state to
prevent undesirable changes in ownership has been a source of much criticism (Palcic and
Reeves 2011: 155-177).
Eircom, was split up, with its fixed line business sold to private equity consortium Valentia.
In 2006, Australian investment firm Babcock and Brown bought Eircom in a leveraged
buyout and subsequently sold it to Singapore Technologies Telemedia in 2010. Eircom now
holds over 4 billion in debt, which has hampered its ability to invest in capital infrastructure
and contributed significantly to the slow roll out of broadband services in Ireland. This
infrastructural deficit persists in Ireland today, and has necessitated government intervention
(Palcic and Reeves 2011: 155-177).
2.1.4 Privatisation in Ireland: 2001-2006
Between 2001 and 2002, the 3 state owned commercial banks were privatised; the
Agricultural Credit Corporation (ACC), Industrial Credit Corporation (ICC) and Trustee
Savings Bank (TSB). Government policy sought to foster competition in Irelands banking
sector and considered a number of options for the 3 publicly owned banks including a
merger of the three or the sale of TSB to recapitalise a merged ACC and ICC. With
privatisations initially mooted in 1992, it was 2001 before the ICC was sold to Bank of
Scotland (Ireland) for 349 million. TSB was sold later that year to Irish Life and Permanent
for 430 million to form Permanent TSB. In 2002, the ACC was sold to Rabobank for 165
million. In all three cases, ESOPs of 14.9 % were agreed which ensured worker cooperation.
Successive governments were in agreement that government should exit the banking sector,
selling 3 small players to aid competition. This rationale guided the privatisations through a
protracted period of practical difficulties in finding an appropriate buyer for each (Palcic and
Reeves 2011).
In July 2001, the Irish National Petroleum Company was sold to Tosco Corporation for 116
million. The cost of capital investment necessary to upgrade its refinery facilities was deemed
too high to be paid from the exchequer and the sale proceeded with a number of conditions;
Tosco agreed to commercially operate the refinery and terminal operations for 15 years while
maintaining existing jobs and employment conditions. Also, they agreed to undertake any
capital investment necessary to adhere to future EU regulations (Palcic and Reeves 2011).
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23
The state-owned airline Aer Lingus had struggled to remain commercially viable through a
volatile 25 year period which included the Gulf War of 1990-91, the outbreak of foot and
mouth disease in 2000 and the terrorist attacks on New York and Washington in September
2001. 2 rationalisation plans saw injections of state capital, sale of non-core assets, a pay
freeze, redundancies and a granting of a 14.9% ESOP. As the state made it clear it would not
provide any further capital injections, management sought to mobilise private capital to meet
the cost of funding necessary fleet renewal. Government opted to retain a 25% stake in the
company, and floated the remainder on the stock exchange in 2006. The decision to privatise
was initially made in 1999; however a lack of political impetus for privatisation following the
failed privatisation of T among other political considerations protracted the process (Palcic
and Reeves 2011).
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Chapter 3: A New Round of Divestitures
3.0 Introduction
A new round of divestitures in the Irish public enterprise portfolio is imminent. The historical
context of Irelands public enterprise development has been explained. This chapter will go
on to locate Irelands return to privatisation in its economic and political context. The Irish
government is making privatisation decisions in a situation unprecedented in an Irish context;
public finances have been decimated and economic sovereignty surrendered. The potential
for an economically ill-advised fire sale of state assets is large. Bord Gis Energy, the retail
arm of the state owned utilities company and network operator Bord Gis ireann, has been
identified by government as a non-strategic asset and a suitable candidate for privatisation.
To evaluate the economic case for this planned privatisation, this chapter analyses the
evolution of this policy through a number of influential documents; Fine Gaels New
Economy Recovery Authority (NewERA) plan, Memoranda of Understandings (MoUs)
between the Irish government and the Troika of global institutions over seeing their bailout
program and a Fianna Fil requested Report of the Review Group on State Assets and
Liabilities published in 2011. These documents have shaped recent Irish privatisation policy.
3.1 The Economic Crisis in Ireland
It can be noted that since 2002, there had been a general lack of appetite for privatisation. The
state had withdrawn from several key sectors of the economy, and those commercial SOEs
that remained were large utility companies or companies not appropriate for private
ownership because they held considerable market power (Palcic and Reeves 2011). The
following section explains the national economic crisis that has emerged since 2008 which
has seen the state re-enter the banking sector and return to privatisation as a means of raising
revenue for the exchequer.
Between 1994 and 2007, the Irish economy experienced an unprecedented period of
sustained real economic growth. During the period, the Irish economy expanded at an
average rate of 9%, had average unemployment of just 3.6%, and experienced low inflation at
1.4%. Commentators dubbed it The Celtic Tiger economy. Donovan and Murphy (2013)
argue that up until 2002 this growth was sustainable. Ireland was established as a springboard
to Europe for investors. Boasting favourable corporate tax rates of 12% and as the only
English speaking country in the Euro currency zone, Ireland was well positioned to take
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advantage of a global technological boom. Good macro-economic policies underpinned this
growth, as evidenced by an ability to reduce its debt to GDP ratio to 25% (Central Statistics
Office 2012).
Donovan and Murphy (2013) note the global economy began to contract in 2002. Equity
markets in the US and Europe fell due to unrealistic profit expectations largely in the
technology sector. Terrorist attacks in the US on September 11th 2001, and the foot and
mouth crisis of the same year saw a downturn in the US and European economies. They
suggest that Ireland resisted this contraction by pursuing policies to grow its construction
sector. Where in the 1990s increasing property prices were arguably justifiable by real
economic growth, an artificial property bubble was created. This second phase of economic
activity was fuelled by cheap access to European wholesale credit from an Irish financial
sector under light regulation from government, the financial regulator and the central bank.
The Irish government received windfall revenue through stamp duty, capital gains tax and
construction sector related VAT. Government pursued pro-cyclical policies by increasing
budget expenditure and balancing it against unsustainable property related tax revenue. By
2007, the property bubble had developed to the extent that residential property prices had
quadrupled since 1996 (Palcic and Reeves 2013).
This property bubble inevitably burst after 2007. Prices of residential properties in Ireland in
September 2013 have fallen 62.2% from their peak in August 2007 (Central Statistics Office
2014a). This collapse in construction activity saw a sharp rise in unemployment, from 4.5%
in 2007 to 12% in 2009 (Central Statistics Office 2014b) which squeezed public finances
already reeling from the loss of property related revenue such as stamp duty, on which the
exchequer had become overly reliant on. As the economy contracted, it became apparent that
the Irish banking sector was overly exposed to the property sector. At the end of 2007, bank
loans and advances to customers were over twice the size of the countrys GDP, at almost
400 billion (Nyberg 2011).
By late September 2009, the Irish banking sector was on the brink of collapse. The Irish
government took the decision to guarantee the deposits and most liabilities of all Irish banks,
a gross liability guarantee of 375 billion, 33% of which was senior unsecured debt.
Government decided that it would prevent any Irish bank from defaulting on its maturing
obligations, thereby avoiding a crisis of confidence in the Irish banking sector and preventing
a run on Irish banks. This decision has proven to be an extremely costly one. Government did
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26
not foresee the extent of Irish banks bad debts, largely arising from property related loans.
To date, the recapitalisation of Irish banks has cost the state 64 billion (Nyberg 2011).
Ireland faced a dual dilemma; the true cost of recapitalising its banks was becoming apparent
and a massive structural deficit was developing. International financial markets were in a
liquidity crisis, and the global economy had begun to slip into recession. International money
markets became increasingly reluctant to lend to Ireland. By late 2010, Ireland was unable to
access credit and government was forced to enter into an EC/IMF/ECB bailout program on
29 November 2010. Ireland secured 85 billion in funding composed of 45 billion in
bilateral loans and funding from the European Stability Fund, 22.5 billion from the
International Monetary Fund and 17.5 Billion from Irish contributions via the National
Pension Reserve Fund (Donovan and Murphy 2013).
The effects of Irelands economic collapse are made stark by key indicators; Unemployment
rose from a low of 3.7% in the first 5 months of 2011, and peaked at 15.1% in February 2012.
This figure has improved somewhat to 12.3% in January 2014, although economic emigration
accounts for some of this reduction (Central Statistics 2014b). Real GDP for the second
quarter of 2013 was 9.8% lower than its peak in the fourth quarter of 2007. Irelands Debt to
GDP ratio averaged 71.3% between 1980 and 2012, and fell to a low of 24.8% in December
2006 (Central Statistics Office 2014c). At year end 2013, Irelands Debt to GDP was 124.1%
(Irish Fiscal Advisory Council 2013). Government policy in response to this crisis, and the
stipulations of the bailout program with the EC/IMF/ECB has significantly altered the
composition and function of Irelands public sector; with a raft of nationalisations, new SOE
formations and planned privatisations occurring (Palcic and Reeves 2011). Although Ireland
left this structured bailout program in December 2013, the decision making process around
public enterprise appears to have been altered indefinitely.
3.2 Fine Gaels New Economy Recovery Authority
In November 2009, Fine Gael was the opposition political party in the Irish government when
they released the New Economy Recovery Authority (NewERA) plan; an economic stimulus
plan that sought to create 105,000 new jobs with a 18.2 Billion investment in Irish
infrastructure over a four year period. Fine Gaels NewERA plan aimed to increase long term
competitiveness, increase energy security, eliminate the digital divide that has developed
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between Ireland and Europe and create a new governance structure for the public sector (Fine
Gael 2009).
This stimulus was to be financed from a number of sources; The European Investment Bank,
The National Pension Reserve Fund, commercial borrowings of SOEs, a NewERA recovery
bond to be offered to the Irish people and, of primary interest to this study, from revenues
accruing from the sale of non-strategic state assets. The non-network elements of both major
state utilities companies, Bord Gis ireann and the Electricity Supply Board, were
earmarked for sale (Fine Gael 2009).
The governance of the state sector would be restructured with the establishment of NewERA
Ltd. as the states holding company. 100 professionals would be employed at NewERA to
commercially manage 5 new SOEs in a consolidated public portfolio. Smart Grid and
Gaslink would become owners and operators of Irelands electricity and gas networks
respectively. Furthermore, a National Recovery Wholesale Bank would be established to
facilitate commercial borrowings of SOEs (Fine Gael 2009).
Fine Gael came into power as the majority party in a coalition government with Labour in
September 2011 on the back of an economic mandate largely represented by NewERA. It
must be noted that Fine Gaels neo-liberal economic policies, which seek to minimise the
states role in the provision of services, is at odds with Labours policies. In their pre-election
manifesto in 2011, Labour stated its commitment to public enterprise:
Labour is committed to the concept of public enterprise, and is determined to ensure
that semi-state companies play a full role in the recovery of the Irish economy.
Labour is opposed to short-termist privatisation of key state assets, such as Coillte or
the energy networks.
(Labour 2011)
As Taft (2012) observes, Labour failed to protect this commitment in negotiations for the
program for government, which when published contained Fine Gaels commitment to
raising 2 Billion in revenue from the sale of state assets (Fine Gael and Labour 2011).
At the time of writing, much of this program has not been implemented. The NewERA Ltd.
holding company to manage public enterprise has not been established. NewERA has instead
developed as a non-statutory body within the National Treasury Management Agency tasked
with overseeing the financial performance, corporate strategy, capital and investment plans of
the five commercial semi-state companies within its remit; ESB, Bord Gis ireann, EirGrid,
Bord na Mna and Coillte (NTMA 2013). Planned divestitures of ESB and Coillte have been
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rowed back on due to union resistance and popular protest respectively. To date, the
establishment of Irish Water as a subsidiary of Bord Gis ireann, a new SOE to take over
the operation of the Irish water infrastructure, has been the only full implementation of the
plan.
3.3 Memoranda of Understandings
Upon receiving bailout funding from the Troika of global institutions, Ireland signed a bailout
agreement renouncing its economic sovereignty. Both the political decision making process
and economic landscape were altered from that in which NewERA was developed.
Government now had to operate within the parameters of a Troika specified program for
government which was to be communicated in a series of Memoranda of Understandings
(MoUs) between the government and the Troika. Of interest to this paper is the
conditionality for the sale of sale assets prescribed (Palcic and Reeves 2013).
Privatisation as a condition of financial support has been a staple of IMF/World Bank
bailouts since the 1980s (Bennell 1997, Martin 1993). Where NewERA sought revenue from
the sale of non-strategic assets for investment in a stimulus plan aimed to restore growth and
finance national investment programs, Troika bailout agreements have prioritised the paying
down of national debt. However, Ireland has received somewhat favourable terms in
comparison to bailouts in Greece and Portugal (Palcic and Reeves 2013). Indeed, the first
MoU signed in November 2010 contained no specifics regarding privatisation. Updated six
times since, targets for revenue from divestments have emerged. Although there is significant
pressure being exerted from the Troika outside of these MoUs, the Irish government has
been afforded independence in deciding which SOEs are to be privatised and some
flexibility in the spending of revenues accrued as a result (Palcic and Reeves 2013).
Fine Fil ordered a report from the Review Group on State Assets and Liabilities. 5 billion
in revenues from recommended divestitures were identified in this report which was endorsed
in an IMF country report in September 2011 (IMF 2011a). However, upon coming into power
as the majority party in a coalition government with Labour in September 2011, Fine Gael
indicated it would seek only 2 billion in privatisation revenues. By January 2012, the
Troikas Quarterly Review sought specifics from government who scaled this target up to 3
billion (IMF 2011b).
This revenue would come from a sale of a minority stake in ESB, a full divestment of the
state forestry company Coillte, sale of the states majority stake in the semi-state owned
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airline Aerlingus and the privatisation of the non-network elements of Bord Gis ireann.
However, mass public protests saw a reversal of the planned divestment of Coillte.
Furthermore, government reversed its decision to sell a minority stake in ESB. The sale of
Aerlingus will be delayed until market conditions become favourable. Thus, the only planned
privatisation to date is that of Bord Gis Energy, the retail arm of Bord Gis ireann. The use
of the proceeds of any privatisation is much debated, and again the Troika have been flexible
in this regard. The latest indication resulting from negotiations in March 2011 is that 50% of
revenues will be used to pay down government debt with the remainder available for state
investment as per NewEra (IMF 2012).
3.4 Report of the Review Group on State Assets and Liabilities
A report by The Review Group on State Assets and Liabilities as requested by Fine Gael
exists as the principle document directing privatisation policy in Ireland. In it, McCarthy et al
(2011) recommend 5 billion of revenues to be garnered from the sale of non-strategic state
assets. Unfortunately, this report does not contextualise its recommendations in Irelands
bailout program and the subsequent changes to the decision making landscape that resulted. It
was undertaken amidst a dynamic situation of bargaining between the Irish government and
the Troika, who had not yet set specific revenue targets. However, the flexibility afforded to
the Irish government as discussed previously means that this does not completely undermine
its recommendations. The Review Group recommends sales revenues from privatisation be
used to pay down government debt and decrease the burden of necessary spending cuts. They
do not advocate for the reinvestment of revenues in infrastructure development as per
NewERA (McCarthy et al 2011).
As a prelude, the Review Group stresses that there should not be an accelerated sale process,
and that sales should only be undertaken after state companies have been restructured and the
regulatory environment strengthened. Recommendation 4 calls for a comprehensive review
of legislation governing economic regulatory agencies, and necessary legislative amendments
made prior to any disposals (McCarthy et al 2011). However, in light of Irelands bailout
program, the time needed to undertake this may not be available and the sale process could be
inevitably accelerated.
The report warns that without significant regulation, there may be a subsequent under
investment in infrastructure as occurred in Irish telecoms networks following the sale of T
to a private equity fund with little interest in investment (Palcic and Reeves 2011: 155-177).
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As revenues are recommended to be diverted from infrastructural investment to offset
spending cuts, such a situation could undo any short term gains to the exchequer made
through revenue realisation.
Bord Gis Energy is dominant across all market sectors in the supply of natural gas,
especially in the residential sector. Thus, regulation must be stringent to protect competition
and avoid a situation whereby a privately owned BGE could influence market price.
Acknowledging this, McCarthy calls for a full review of the system of energy regulation in
Ireland prior to any divestiture; which has not been done. The Review Group does ultimately
recommend the privatisation of all Bord Gis ireanns operations except its transmission
and interconnector assets (McCarthy et al 2011). Government has acted on this
recommendation, but this paper contends they have done so while ignoring concerns and
recommendations regarding the adequacy of Irelands energy regulatory regime.
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Chapter 4: The Privatisation of Bord Gis Energy
4.0 Introduction
Despite a near blanket failure to implement their public enterprise policy, Fine Gael-Labour
government has persisted with the planned divestiture of the non-network elements of Bord
Gis ireann. In July 2013, the government brought before the Dil the Gas Regulation Bill,
which creates the legal basis for the divestiture of Bord Gis ireann (Gas Regulation Bill
2013). This followed a press release by BGEs Financial Director, Michael G OSullivan in
May 2013 which stated that the sale process had commenced and that the sale was expected
to be concluded by the end of that year (Bord Gis ireann 2012a). This bill faced significant
legal challenges for government as they worked to comply with the full ownership
unbundling requirements of the EU Gas Directive 2009 (Council Directive 2009/73/EC). In
consequence, both the Minister for Communications, Energy and Natural Resources and the
Minister for Public Expenditure may not retain any decision making role in the new Bord
Gis Network business as they are shareholders in other state energy companies.
Despite regulatory reform being a staple prerequisite of divestiture in the NewEra document,
The Report of The Review Group on State Assets and Liabilities and Fine Gaels program for
government, none such reform has been delivered. Despite this, the sale of BGE has
commenced. Fine Gaels 2011 election manifesto offered the only clear indication from
government of the potential composition of this reform. In it, it committed to establishing the
Competition, Consumer, Utilities Commission as one supra-regulator of the Irish economy.
This commission has not been established. The Commission for Energy Regulation regulates
the Irish electricity and natural gas sectors largely unchanged from its establishment in 1999
(Fine Gael 2011). Thus, BGE is being sold amid significant regulatory shortcomings that this
paper contends could lead to an economically harmful situation post-divestiture.
This chapter undertakes a case study of the ongoing divestiture of Bord Gis Energy. The
study begins by outlining the economic theory of natural gas supply, both as a network and a
natural resource industry. The development of Bord Gis ireann in the context of the
European gas market is then described. An overview of Bord Gis ireann follows, which
distinguishes the network and non-network elements of the business. An overview of Bord
Gis Energy is then provided, describing BGEs place in the Irish retail gas market. A
summary of the sale process will explain that a consortium led by a British multinational
utility company, Centrica, is poised to purchase BGE. In conclusion, recommendations are
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made that call for reform of Irelands system of energy regulation and SOE governance
structure prior to any future privatisations, and that these privatisations are undertaken in a
series of tranches.
4.1 The Economics of Natural Gas
The market for natural gas combines a network industry and a natural resource industry. With
network industries, economies of scale are essesntial. The domestic transport and distribution
system services of natural gas in Ireland are made up of a high pressure long distance
pipeline, with a low pressure distribution grid connecting it and end-consumers. There is a
high fixed cost associated with the construction of such a network, with a relatively low
marginal cost of extending it. In Ireland, it is not feasible or efficient for different natural gas
suppliers to operate via duplicated parallel pipelines thus the countrys gas network is a
natural monopoly (CPB 2006).
In Monopoly and the Rate of Extraction of Exhaustible Resources (1976), Stiglitz explains
that in exhaustible resource markets such as that of natural gas, the total stock of resource is
fixed. Total production for a monopolist or a firm in a competitive market cannot change.
However, a monopolist does have the power to change the pattern of production over time to
influence price. Assuming constant elasticity of demand and zero extraction costs, Stiglitz
demonstrates that the rate of extraction for a monopolist and a firm in competition will be the
same. However, in reality price and elasticity of demand are positively linked, thus
monopolists tend to produce less than a competitive firm and welfare is not optimized.
Resource rents occur when there is a difference between market price and marginal cost of
extraction.
Both characteristics have regulatory implications. The Irish government has seemingly
learned from the failure arising from the privatisation of Ts network, and has committed to
keeping the network element of Bord Gis ireann in state control. Government can thereby
guard against rent seeking and ensure the integrity and safety of the system if regulation is
adequate. Of strategic importance to the state is security of supply. By controlling the gas
network and the interconnectors to the UK, from which Ireland imports 93% of its natural
gas, government can effectively manage our energy security, an issue particularly important
to Ireland as a small island country with a high reliance on imported gas (TASC 2012). The
EU mandated that European gas markets be liberalised in 2003 and forced ownership
unbundling in 2009 (Council Directive 2003/55/EC, Council Directive 2009/73/EC). These
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33
policies are an endorsement of neo-classical economic theory which advocates for the welfare
optimality of competitive equilibrium, however as will be demonstrated, such perfect
competition does not exist across all sectors of Irelands natural gas supply market which
remains price regulated in one sector.
4.2 The European Gas Market
The strategic importance of SOEs in post-war Europe, as explained, is particularly relevant
to the utilities sectors. Governments undertook extensive reconstruction efforts and faced
very real threats to energy supply (Palcic and Reeves 2011). The oil and gas sector was
therefore tightly controlled. In 1959 the European natural gas business was mainly confined
to Northern Italy and South West France, with additional imports from parts of the USSR. At
the time, energy multinational ExxonMobil had acquired a 50% share in NAM as a balancing
item in a global asset swap. NAM, operated by Royal Dutch Shell, was the exploration
company working at Groningen, in the northeast of the Netherlands. This exploration
established the European gas business proper. The joint venture uncovered a giant natural gas
field, 2.8 trillion cubic meters in size with 2,800 BCM of recoverable gas. NV Nederlandse
Gasunie was established as the monopoly producer and transmitter of Groningen gas for 30
years, 50% owned by the Dutch government and a 25% stake owned by Shell and Exxon
respectively (Heren 1999).
Exxon insisted on the controlled supply of this gas, pegging its value to that of other fuels,
and guarding against an over-supply of cheap natural gas. Further discoveries followed;
onshore in Germany, offshore in the UK and Norway, with supply further supplemented with
imports from Algeria and Russia. ). Ireland was no exception. In 1971, natural gas was
discovered off the coast of Kinsale, in southern Ireland. Deemed commercially viable, Bord
Gis ireann was established by the Gas Act 1976 as the state gas development agency (Bord
Gis ireann 2013a).
OPEC had traditionally been the primary supplier of oil to Europe. However, having suffered
an OPEC induced oil price shock in the 1970s that rattled the European economy,
governments sought to move away from an over-reliance on OPEC oil. Suppliers pushed out
by OPEC began to find an outlet in these new reservoirs (Heren 1999).
Governments generally opted for a hands on approach in managing their nations new found
natural wealth. With the exception of a liberalised British market in the late 1980s, the
European gas market is traditionally characterised by an absence of rights to transmission and
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34
distribution pipes, the prevalence of state monopolies, and prices pegged to those of
competing fuels (Heren 1999). EU directives have sought to correct this by creating a single
internal market for natural gas. In doing so, they liberalised European gas markets in 2003
and forced ownership unbundling in 2009. The EUs objectives are to increase service
quality, achieve universal service, increase consumer protection and achieve security of
supply with a competitive internal market with appropriate regulation. It seeks to achieve this
by removing government from the European gas market and relying on competition between
profit maximising private enterprises to achieve their objectives (Council Directive
2009/73/EC, Council Directive 2003/55/EC). However as we have seen, privatisation
literature does not definitively support this approach.
4.3 Bord Gis ireann
4.3.1 The Development of Bord Gis ireann
In 1971, natural gas discovered off the coast of Kinsale, Co. Cork was confirmed as
commercially viable. With the approval of the Gas Act by the Oireachtas in 1976, Bord Gis
ireann was established as the State Gas Development Agency. The beginning of natural gas
production in Ireland was marked by the first delivery of natural gas, received on-shore by
then Taoiseach Jack Lynch, in 1978. Throughout the 1980s pipelines were built, first in the
Cork area, then to Dublin with a series of spurs ever broadening the availability of natural gas
in Ireland. By 1995, 35% of Irelands dwellings were connected to the network. In 1985 Bord
Gis ireann was ordered to acquire Cork Gas, who found themselves in a perilous financial
position. In 1987 Bord Gis ireann took over the assets of Dublin Gas Company, whom
government had placed in receivership (Bord Gis ireann 2012).
In 1994 an inter-connector came into operation, completed with 35% funding from the EU,
which connected Irelands gas network with the UK and the European Gas networks,
securing a supply of gas beyond the exhaustion of gas in the Kinsale field. 1999 saw the
beginning of the opening up of 80% Irelands natural gas market. By 2002, any consumer
consuming 500,000 standard cubic meters of natural gas was free to choose from any
supplier. In 2001, Bord Gis ireann began to diversify its portfolio by entering the Irish
electricity supply market. This diversification has proven successful, evidenced by BGEs
ability to construct a gas-fired power plant at White-Gate, Co. Cork which became
operational in 2008 and acquire a 30 megawatt wind farm development in the West of Ireland
in the same year. BGE now operates as an all-island natural gas supplier with its subsidiary
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35
Firmus in Northern Ireland, having entered the Northern Irish market in 2003 via network
connections from Belfast to Dublin and Carrickfergus (Co. Antrim) to Derry city (Bord
Gis ireann 2012).
4.3.2 The Structure of Bord Gis ireann
Today, Bord Gis ireann operates as a commercial enterprise owned by the Irish state. Bord
Gis ireann has evolved from a gas transmission company to become a major energy
provider. Recently, government has created a subsidiary, Irish Water, which is being
established as Irelands new public water utility (Bord Gis ireann 2013b). The firms
business structure is illustrated in Fig. 1. This study focuses solely on the divestiture of Bord
Gis ireanns retail arm, Bord Gis Energy. As such, an understanding of the parent
companys structure is essential.
Fig 1. The Structure of Bord Gis ireann and its Subsidiaries
Source: Bord Gis irean Annual Report and Financial Statements 2012
Gaslink is the independent gas system operator, created as per the unbundling requirements
of the EU. Gaslink is responsible for the maintenance and operation of the gas distribution
and transmission networks. Bord Gis ireann owns the networks, and in practice Gaslink
uses Bord Gis Networks as a service provider to carry out the majority of this work. It is
thought in the future much of Bord Gis Networks work will be transferred to Gaslink (Bord
Gis ireann 2013b).
Bord Gis ireann
Bord Gis Networks
Bord Gis Energy
Firmus
Irish Water Gaslink
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36
Bord Gis Networks work on behalf of Gaslink to develop and maintain Irelands natural gas
transmission and distribution network, as well as providing gas transportation services to
suppliers and shippers. This network now consists of over 14,000 km of pipes and 2 sub-sea
interconnectors to the UK (Bord Gis ireann 2013b).
Irish Water has been established as per NewERA to take over the public water services from
34 local authorities. Irish Water will deliver services to public water uses and are responsible
for the installation and of water meters and subsequent billing of water users. As a subsidiary
of Bord Gis ireann it is thought they will better be able to raise finance on international
markets to fund capital investment projects necessary to maintain and upgrade Irelands
public water infrastructure, and will benefit from the groups experience in network
operations (Bord Gis ireann 2013b).
Firmus is Bord Gis Energys subsidiary in Northern Ireland, where it is licensed to supply
natural gas and electricity in 10 towns and cities including the greater Belfast area, Derry,
Newry and Ballymena. It is also responsible for developing and connecting the gas network
in licensed areas to that of the Republic of Ireland. As Bord Gis Energys subsidiary, Firmus
will also be privatised (Bord Gis ireann 2013b).
4.4 Bord Gis Energy
4.4.1 Introduction
Bord Gis Energy is the retail arm of Bord Gis ireann. It is a dual-fuel, all island supplier
of electricity and natural gas to residential, commercial and industrial customers in the
Republic of Ireland and Northern Ireland (via Firmus). BGEs trading arm procures natural
gas, electricity and carbon on international wholesale markets and works to optimise its
portfolio with hedging and trading strategies, risk management and market modelling. Its
assets arm manages BGEs existing assets, develops new assets to meet the companys needs
and invests in emerging energy technologies. In 2012, the latest year for which full market
data is available, BGE supplied electricity to 327,000 residential customers and 21,000
businesses. BGE supplied natural gas to 416,000 residential customers and 11,096
businesses. Residential natural gas supply persists as the only market in which BGE is price
regulated by the Commission for Energy Regulation (CER), Irelands independent energy
regulator (Bord Gis ireann 2013b).
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At the end of 2012, BGE employed 453 people in the Republic of Ireland. The following
outlines BGEs position across all market segments in the electricity and natural gas supply
markets as per the data of the Commission for Energy Regulations annual report 2012 (CER
2013). An overview of BGEs financial performance is then given.
4.4.2 Market Share: Electricity
All market segments in Irelands electricity supply market have been deregulated, however
Irelands state owned electricity company the Electrical Supply Boards retail arm Electric
Ireland remains dominant across all market segments. In 2012, BGE saw a decline in its
market share in electricity supply. Table 3 details BGEs market share across the 4 market
segments as per year end 2012. Total customer numbers for all suppliers for the year were
2,237,203. BGE supplied 328,617 of these in the domestic market, and 19,030 in the business
and large energy users segments (CER 2013).
Table 3: Market Share of Electricity Suppliers as a Percentage of Customer Numbers across Market
Segments
Domestic Small Business Medium
Business
Large Energy
User
Electric Ireland 64.55% 45.88% 55.97% 42.13%
Airtricity 18.06% 21.29% 15.98% 26.20%
Bord Gis
Energy
16.26% 9.33% 4.85% 9.38%
Vayu - - - 4.51%
Energia - 23.41% 22.49% 15.63%
Others 1.14% 0.09% 0.72% 2.16%
Total 100% 100% 100% 100%
Source: CER Electricity and Gas Retail Markets Annual Report 2012
4.4.3 Market Share: Natural Gas
BGE remains dominant across all market segments in the supply of natural gas, however
competition is driving their market share down year on year. The CER (2013) divides the
natural gas market into segments as per the following:
Domestic: non-daily metered (NDM) residential customers.
Industrial and Commercial (IC): businesses with a supply point capacity of below
3,750kWh and consumption level below 73,000kWh.
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Fuel Variation Tariff (FVT) : NDM gas customers with a supply point capacity of
above 3,750kWh and consumption level above 73,000kWh.
Regulated tariff formula (RTF): annual consumption of between 5.5GWhs and 264
GWhs.
8 suppliers compete across 4 market segments in the supply of natural gas in Ireland. In
the domestic market in 2012, BGE had a very large market share. This share is falling in
line with CER targets however, and was significantly lower at year end 2013 as discussed
in detail below. In the IC market of 22,949 customers, BGE supplied 10,677. In the FVT
market BGE supplied 589 of 1,750. Although Vayu and Energia hold a larger market
share in the RTF market as a percentage of the 246 customers, BGE supplied the largest
volume of natural gas (1,194 GWhs or 21.09% of total volume). Across all deregulated
market segments BGE faces ever increasing competition and declining market share
however it remains dominant as the markets largest supplier (CER 2013).
Table 4: Market Share of Natural Gas Suppliers as a Percentage of Customer Numbers across Market
Segments
Domestic IC FVT RTF
Bord Gis
Energy 65.65% 46.52% 33.66% 19.51%
Airtricity 17.14% 5.29% 2.63% 9.76%
Electric Ireland 12.38% 2.92% - 4.07%
Flogas 4.83% 25.65% 22.34% -
Energia - 17.14% 19.77% 21.54%
Vayu - 2.46% 21.20% 31.71%
Phoenix - - - 7.72%
Gazprom - - - 5.69%
Others - 0.01% 0.40% -
Total 100% 100% 100% 100%
Source: CER Electricity and Gas Retail Markets Annual Report 2012
4.4.4 Price Regulation in the Residential Supply Sector
Policies which have liberalised and deregulated areas of Irelands market for natural gas aim
to maximise social welfare through competition. These policies are premised on the
assumption that the firms operate within a perfectly competitive market. The following
section analyses the residential market for the supply of natural gas in Ireland, detailing the
suppliers in operation, their market share as of December 2013 and the switching rate
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between them to assess if there exists an appropriate level of competition for the successful
divestiture of Bord Gis Energy into a deregulated market (CER 2014).
The Irish natural gas market was fully liberalised in 2007, however new entrants had existed
since 2004. All areas of the market are now deregulated except residential supply. The
Commission for Energy Regulation (2014) has outlined three criteria that must be met before
it ceases to regulate prices set by BGE in this market:
BGE must hold less than 55% of the market share of residential gas supply.
There must be 3 (2 non-BGE) suppliers in the market with more than 10% of the
market share of residential gas supply.
Consumer switching rates between natural gas suppliers should be greater than 10%
per year.
Source: CER Review of the Regulatory Framework for the Domestic NDM Retail Gas Market Competition
Review December 2013
As illustrated in Fig. 2, 2 of the CERs criteria for full deregulation of the natural gas sector
in Ireland have been met. There are 3 suppliers, BGE, Electric Ireland and Airtricity, with a
market share in excess of 10%. Furthermore, the consumer switching rate for the year 2013
was 17.33%. However, BGE hold a market share of 57.23% at year end 2013, in excess of
the 55% threshold for deregulation. As such, BGEs decisions of supply and price setting are
57.23%
20.32%
17.33%
5.12%
Fig. 2 Market Share of Residential Natural Gas Supply
BGE
Electric Ireland
Airtricty
Flogas
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40
non-negligible. It holds market power in an imperfectly competitive market for residential
supply.
Table 5: Irish Residential Gas Prices to Residential Consumers at Purchasing Power Parity (all taxes
included) (1st Semester 2013) EU Comparison
Residential Consumption Bands Price /kWh Relative to EU average
2013 Semester 1
Consumption < 20 GJ 6.58 75%
20 GJ < Consumption < 200 GJ 6.04 93%
Consumption > 200 GJ 5.77 93%
Source: Eurostat 2014
Currently, BGEs residential gas prices are competitive relative to the EU average as
evidenced in Table 5. Privatising BGE in such a scenario will require stringent regulation to
guard against BGE abusing this market power (CER 2014) and increasing prices across the
market. However, the effectiveness of Irelands current regulatory agencies has been
questioned, notably in the Report of the Review Group on State Assets and Liabilities;
The Review Group recommends that a comprehensive review of the legislation
governing economic regulatory agencies be undertaken and that necessary legislative
amendments be enacted prior to any state disposals.
(McCarthy et al 2011)
4.4.5 Business Performance
Bord Gis Energy is a profitable, commercially viable SOE. Fig. 3 graphs BGEs EBITDA
growth from 2009-2012. BGE have performed strongly throughout Irelands economic
downturn, despite facing volatile markets for wholesale gas and electricity and decreasing
consumer demand. BGE successfully entered the electricity supply market in 2009 (Bord
Gis ireann 2010), pioneering the dual-fuel supply model in Ireland. Although they have
faced significant competition in both markets, BGE has consolidated its market share in
electricity supply and remain dominant in the supply of gas as discussed previously. BGE
experienced a large increase in EBITDA in 2012, up to 79.4 million from 44.3 million in
2011. This increase is largely attributed to increased retail performance as a result of a
reduction in costs, a lowering of discounts having established themselves in the electricity
supply market and an increase in residential gas tariffs of 8.5%. BGEs strong financial
performance has made a significant contribution to Bord Gis ireanns ability to pay a
dividend of 23.8 million to the exchequer in 2012, bringing the total dividends paid since its
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41
inception in 1976 to 854 million. BGE employed 453 individuals in 2012 (Bord Gis
ireann 2013b).
Fig. 3 BGE Operating Profit before Depreciation and Amortisation (EBITDA) 2009-2012
Source: Bord Gis ireann Annual Reports (2009-2012)
Beyond being a source of dividend and employment for the exchequer and economy
respectively, BGE fulfils wider social aims. Throughout the economic downturn, BGE has
worked closely with government agencies and non-profits such as Saint Vincent de Paul,
ALONE and MABS to ensure energy is supplied to vulnerable customers who struggle to
meet their payments. It has facilitated flexible payment plans and deems cessation of supply a
very last resort, only to be undertaken when all other avenues have been exhausted (Bord
Gis ireann 2010, 2011). Also, BGE plays an important role in the development of new
energy technologies. It has committed capital and resources to the Irish Energy Research
Centre and the Irish Maritime and Energy Resource Centre, contributing 1.5 million to the
latter for the construction of new premises (Bord Gis ireann 2013b).
In the absence of a full cost-benefit analysis of the divestiture, this paper can only observe
that BGE will cease to contribute to Bord Gis ireanns dividend to the state and that no
commitment has been made to retain BGEs staff. These employees however, will benefit in
the short-run from the sale of their employee share ownership plan which sees them hold a
stake of 3.27% of the company (Bord Gis ireann 2013b). Uncertainty prevails over a
20
30
40
50
60
70
80
90
2009 2010 2011 2012
EB
ITD
A
'mil
lion
Year
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privately owned BGEs policy regarding universal access, consumer debts and BGEs
commitment to the research and development of new technologies.
4.5 The Sale Process to Date
Labours pre-election opposition to privatization has waned, and two Labour Party TDs now
preside over the sale; Minster for Public Expenditure and Reform Brendan Howlin and
Minister for Communications, Energy and Natural Resources Pat Rabitte. Management of
Bord Gis ireann have co-operated with the sale of BGE, as acknowledged in Chairperson
Rose Hynes statements in Bord Gis ireanns annual reports in 2011 and 2012 Bord Gis
ireann 2012b, 2013b). However, it does not appear that the sale was advocated for by
management as it was, for example, in the case of T and Aer Lingus.
The timeline of the sale process to date is as follows:
22 Febraury 2012: Government initially announces its plans to sell BGE, indicating
that the sale would only take place
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