Should a lessee agree to that proposal, a local office of the Ministry of Property, shall in a month’s time review all relevant documentation submitted by a prospective buyer and in its turn prepare relevant paperwork for registering the property as a contribution of the Russian federation towards a new company’s charter capital. The lessee and a new co-owner of the property shall have a primary right for buying the state’s stake in the company.
Although the government has provided details for use of 6 out of 10 privatization methods made available by the new Law on Privatization, the remaining 4 methods still require further clarification and detailed legal base for their successful application. The need for further legal guidance is made especially apparent by the fact that these 4 remaining methods are the least familiar in Russian but potentially the most attractive privatization models in the eyes of many prominent interest groups:
1) sale of Russian government stakes in foreign joint stock companies through issuance and underwriting of depositary notes 2) sale of state-owned shares of joint stock companies through brokers 3) contribution of state-owned property towards a company’s charter capital 4) sale of state-owned shares of joint stock companies upon results of trust management.
4.2. Key Issues for Improving the Current Privatization Legislation in the Russian Federation By 2003 the legal base for property reform in Russia has matured and acquired a wealth of new legislative acts and presented a marked contrast to the state of the affairs back in the nineteen nineties.
A bitter confrontation between the Legislative and the Executive branches of the Russian government lead to a situation where the privatization’s key objective (structural reform enforcement and establishment of an institutional framework for property transformation) was carried out single-handedly by the Executive through its ability to pass decrees such as for RUSSIAN ECONOMY in trends and outlooks instance, the Presidential decrees on Voucher Model Establishment, Loans-for-Shares Auctions, etc. The 1997 Privatization Law was aimed to resolve the conflict and officially leveled the Executive and the Legislative ability to affect the privatization process.
The confrontation, however, did not fully subside since certain poorly drafted parts of this well-meaning law rendered it practically unenforceable. The government’s attempts to circumvent the inopportune piece of legislation proved futile and by the end of the nineties the privatization process had slowed significantly, although other objective reasons (please see next paragraph) were also responsible for the trend. Despite the slowdown however the government’s task to raise funds via privatization kept more or less on track (please see Table 1, Chapter on The Dynamics of Privatization Process).
The aforementioned deceleration in the privatization process also had its objective roots in the nature of the “left-over” state property that placed certain limitations on its investor attractiveness. Thus most of these enterprises either offered only minority share packages and were unattractive because of an already formed majority-vote shareholder control; or offered a majority package, appeal of which however was undermined by enormous investment requirements.
On the other hand, attractive and potentially lucrative opportunities that offered controlling or blocking stakes in national monopolies now had to be pursued in a competitive market and bought at a market-set price with strict adherence to all legal norms which also decelerated the process of privatization.
In 1999-2000 the changes in the political landscape of the country saw an end to the long-standing dispute on privatization between the two branches. On December 21, 2001 the conflict was resolved by yet another law on privatization, this timed titled, the Federal Law on Privatization of State and Municipal Property, # 178.
The new law came into force on April 26, 2002 (only 3 months after the day it was first published) and its approval by the Federal Council (Russia’s Upper Legislative Chamber) was made possible thanks to a compromise that divided the power to privatize between several governmental layers. Thus privatization of all so-called strategic enterprises as well as decisions for including an enterprise into a “privatization forbidden” list were to be made by President. Privatization of big natural monopolies, such Gasprom, RAO UES and Federal Railroads was assigned to the Federal Council and required enactment of a separate law, while jurisdiction for all other federal enterprises was given to the government. Municipal and regional properties were to be privatized by local authorities.
In general the law provided for 10 various methods for privatization, based on an enterprise’s size, liquidity and/or results of initial sales:
1) transforming a closed, single-owner enterprise into a publicly listed company;
2) sale of state and/or municipal property through actions 3) sale of shares of publicly listed companies through special auctions 4) sale of state and/or municipal property via tenders 5) sale of state-owned open joint stock enterprises abroad 6) sale of shares of open joint stock companies through brokers and exchanges 7) sale of state and/or municipal property via Dutch-style auctions open to general public (where final sale price or the cut-off point is exactly a half of the price offered at the onset of the auction) 8) sale of state and/or municipal property without disclosure of target prices (should it fail then the sale proceeds via Dutch-style public acutions) INSTITUTE FOR THE ECONOMY IN TRNSITION http://www.iet.ru 9) incorporation of state and/or municipal property as charter capital contributions for open joint stock companies 10) sale of share of open join stock companies in accordance with results of trust management with a subsequent right to buy shares.
In addition, under the Law state-owned share packages whose value at the time of sale exceeded 5 million units of minimum wages (annual) were to be privatized only by means of becoming a joint stock companies via auctions, specialized auctions, sold abroad, or in accordance with terms and condition specified in the presidential decrees, by contributing of federally owned assets to the charter capital of a strategic joint stock company.
All other types of state properties could be auctioned off, turned into joint stock companies, tendered, or privatized by contributing shares to charter capital, etc. Should a first attempt at a tender and/or an auction be deemed invalid, due, for instance, to a lack of bidders, the Law allowed for the pursuit to continue through other privatization methods described above.
The 2001 Privatization Law undoubtedly introduced important new mechanisms for transferring state assets into private ownership. Thus the Law officially recognized that: a) land of a privatized enterprise constituted an integral part of a privatized property; and b) intellectual property could be counted as a contribution to a charter capital.
By and large the new Law upheld a view, a traditional one of late, that privatization must maximize its fund-raising utility by concentrating on big-ticket sales pursued with individual strategy based on prevailing market conditions and use of newly available methods of privatization.
The next two to three years should demonstrate whether these newly devised methods of privatization provided by the Law are successful and conducive to the government’s overall aim of financial stability, maintaining budget surpluses and ensuring that its revenue sources are diversified and do not run dry even in the event of tumbling oil prices and peak external debt servicing. The first such results can come as early as in the current 2003, the first year in which the legislation can be applied in its full spectrum.
In theory, the variety of models for privatization should boost growth, hearten institutional reform, cut government’s costs and help it get rid off illiquid assets while stimulating a minimum demand from individuals and small businesses. Encouragingly enough, the experience with privatizing a number of enterprises since 2000 demonstrates that given a continued economic growth and enough political will the government may indeed reap significant benefits from new privatizations.
Because transferring assets into private hands will not merely cut government’s costs but also create new holding-type structures that would promote competition and growth in a number of key industries such as defense, research and development, transport and communications. Unfortunately, such hopeful prospects stand less assured for small and medium-sized companies, which in all likelihood would remain bogged down by taxation and administrative barriers.
Lastly, the inclusion of an enterprise’s land under its privatization as well as a revamped access to market financing give reasonable hope that investment will indeed be followed by a much-needed restructuring. Please see more on the subject of new privatization models in the attachment to the Chapter on The Dynamics of the Privatization Process.
RUSSIAN ECONOMY in trends and outlooks In spite of the number of aforementioned positive technical advances the Law fails to lay out a comprehensive strategic vision of how the privatization process should be pursued and what indeed it hopes to achieve.
Such long-term strategy, for instance, should first of all, in addition to overall budget goals, outline which enterprises in which industries would not be subject to privatization whatever the circumstance. Only upon determining a list of these off-privatization enterprises should the government decide which remaining entities go for sale in the short-, medium- and long-term based on an enterprise liquidity status.
The 2001 law also falls short of curing some of the biggest “headaches” of Russian privatization such as transactions transparency and lack of buyer equality in the conditions of systematic corruption – issues that obviously should come to the forefront of any technical aspects of the process. Sadly this lack of focus on bigger picture means that the Law is riddled with a number of loopholes a detailed account of which is provided below.
A first questionable innovation brought about by the Law concerns the abolition of a previous 1997 requirement to annually pass a federal law specifying a list of enterprises available for privatization in the next year, as well as expected terms and conditions for their privatization. That, in effect, takes the Duma out of the decision process and grants the executive an exclusive right to determine annual privatization program.
Curiously enough the law officially lifted another 1997 requirement for setting up separate list of enterprises that must remain in federal control, thereby giving a misleading impression that no enterprise may be beyond the privatization’s reach. The impression is false because deeper in the body of the Law, article 6 line 43 to be exact, it clearly states that unless legally specified otherwise, all state property that had been included into the privatizationbanned category up to January 1, 1995 (date of enactment of the 1st section of Russia’s Civil Code) must remain in the same.
Thus the new Law in effect upheld the 1993 privatization program, which banned privatization for 44 categories of enterprises over the less restrictive 1992 program, which did the same for only 22 categories.
Secondly, just as its 1997 predecessor the 2001 Law also failed to provide clear selection criteria for enterprises for which privatization is banned on the grounds of their strategic importance, because goods and service they produce are essential for national security. With an aim of policy consistency in mind the 2001 Law instead entrusted the government with an authority to form lists of such strategic enterprises and then subject it to approval by the President. The definition of a strategic enterprise included all federal enterprises and state-owned joint stock companies which produce goods and services essential to national security, public health and morals (hereinafter referred to as strategic enterprises and strategic joint stock companies respectively)2.
If earlier these strategic privatization-banned category amounted to approximately enterprises (211 enterprises and 495 joint stock companies) the new list may be cut in half.
With respect to joint stock companies and perhaps also unitary enterprises which undergo incorporation the new Law introduced one important criteria: to qualify as a strategic entity the Earlier these enterprises were included either in a 1996 List of Defense Enterprises not Eligible for Privatization or a 1996 List of Enterprises which Produce Goods and Services Essential to National Security not Eligible for Privatization. Clear principles for lists inclusion were also lacking although the Ministry for State Property did have 7 criteria. It is currently absolutely unclear whether the enterprises from either of these 2 lists would also be banned from privatization.
INSTITUTE FOR THE ECONOMY IN TRNSITION http://www.iet.ru government’s stake in an enterprise should exceed 50%. According to the 1997 law the requirement was that an enterprise was carrying out government orders and more than 70% of its goods and services were defense-related.
In January 2003 the Russian government produced a list of 18 federal joint stock companies, where the state’s position on all issues pertaining to their management, governing and oversight was to be determined by the government.
A third loophole can be found in a requirement that all amendments, changes and recommendations to the existing lists of strategic entities (including proposals for decreasing government’s control over such enterprises, their gradual or immediate removal from the list for the purpose of their eventual privatization) be made in the same manner, i.e. initiated by the government and then send to president for approval review.