1

State Ownership and Improvement of Corporate

Governance in Russia

Andrei Yakovlev, Institute for Industrial and Market Studies

at State University – Higher School of Economics

Moscow, March 19, 2009

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The problem

Strong scepticism in the mainstream literature about the efficiency of government intervention in the economy: SOEs experience in many countries in 1950-70s – and

privatization policy as the consequence in 1980-90sNew evidences on underperformance of politically

connected firms (Faccio, 2006; Choi, Thum, 2007; etc)

However – a number of papers confirmed alternative view: state ownership can be efficient if market institutions are weak (Ang, Ding, 2006) or depending on quality attributes of products / services supplied (Kwoka, 2005)

Russia of 2000s as an interesting case: strong increase in state involvement in the economy and high economic growth ratio

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Russian contextMacroeconomic tendencies• Deep economic crisis in 1990s

(50% decline in industrial production, high inflation, arrears, barter etc.)

• Financial crisis of August 1998 (4-times devaluation of rubles, default on GKO, resignation of the cabinet)

• In 1999-2000 – economic growth 8-9%, after that – 6-7% annually; decrease of inflation (about 10% in 2006); huge currency reserves.

• One of reasons – increase in oil prices, but more important is real improvement of government policy

Privatization vs. state ownership• Privatization as one of key priorities

in 1990s – vaucher mass schemes 93-94, investment auctions 94-95, loan-for-share scheme 95-96.

• Results: no effect on productivity even 5 years after (Brawn et al, 2006), huge violations of property rights (Black et al, 2000), state capture (Hellman et al, 2000)

• 2000 - mid 2008: strong CG improvement (information disclosure, IPOs etc.) and 12-times increase of RTS-index

• Since 2003: strong state intervention (Yukos affaire, Gazprom, Sibneft, OMZ, Power Machines, Guta-bank). Just now – TNK-BP and Mechel…

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Why Corporate Governance?• Standard approach: performance measurement. But in the

Russian case of 2000s: improvement can be explained by the influence of external factors (devaluation of rubles, increase of oil prices)

• Increasing interest in the literature to CG as a system of incentives. A number of studies based on different CG scorecards or ratings (Doidge et al, 2007 etc).

• The basic idea – good CG procedures are costly + return on such kind of ‘investment’ can be expected only in mid-term perspective. Therefore CG improvement at firm level can be a signal of real changes in firms’ strategies.

I tried to find links between state interventions and the quality of CG

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How to measure the quality of CG?

• For relevant studies is typical to use – scorecard or rating based on the information disclosed by the

companies (S&P transparency & disclosure rating)– evaluations of financial analysts (FTSE ISS)

But in both cases we can have information only about public companies listed at stock exchanges.

• For Russia it is very restrictive approach. – We have about 170,000 open joint-stock companies (result of mass

privatization), but only 1000 firms are listed anywhere and in last S&P rating for Russia were included only 80 corporations.

– What about the other thousands of Russian firms? • We applied alternative approach. Using survey data

(with a number of questions about corporate behavior of surveyed firms) we constructed for our sample CG Index covered both listed and non-listed companies

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Data description

I n d u s t r y C o m m u n ic a t io n s

N u m b e r o f s u r v e y e d f i r m s , t o t a l 7 5 1 7 1

1 0 0 - 2 9 9 p e r s o n s 2 9 , 4 % 3 8 , 0 %

3 0 0 - 4 9 9 p e r s o n s 2 3 , 0 % 9 , 9 %

5 0 0 - 9 9 9 p e r s o n s 1 9 , 6 % 1 2 , 7 %

1 0 0 0 - 4 9 9 9 p e r s o n s 2 1 , 4 % 1 5 , 5 %

5 0 0 0 - 9 9 9 9 p e r s o n s 3 , 5 % 9 , 9 %

> 1 0 0 0 0 p e r s o n s 3 , 1 % 1 4 , 1 %

Survey of 822 large and middle-sized Russian joint stock companies in 64 regions in the Spring 2005. Surveyed firms represent 10% of all workers employed in 2004 by the industry and communications.

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Questionnaire

About 150 questions concerning:• General performance of the surveyed companies

(output growth rates in 2001-2004; financial conditions; presence and scale of investment; innovation activity; presence of export; etc.)

• Their corporate behavior (listing on stock exchanges in Russia and abroad; independent directors at the board; international auditor; regularity of dividend payments; etc.)

• Characteristics of ownership structure and control (concentrated/ dispersed ownership; state/ private/ foreign shareholders; affiliation to the business groups)

• Indicators of indirect ‘political connection’ (participation of top-managers in advisory bodies acting under different levels of government; top-managers worked before as public servants; financial and organizational support from authorities; participation in state procurement; etc).

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The methodology

• A set of ordinary probit-regressions for checking my hypothesis that connection of firm to the government can be positive for the quality of CG (under Russian conditions of the early 2000s)

• As dependent variable – CG_Index based on 13 questions about corporate behavior of surveyed companies

• Two explaining variables reflected the influence of the government on the quality of CG: State_Owner (dominant shareholder, minority shareholder, no governmental stake) and Polit_Connect (based on 9 questions about indirect links between firm and government)

• A set of control variables (Size, Sector, Region, Finance, Dominant_Owner, Foreign_Stock, Business_Groups, Foreign_Exp)

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Construction of CG_Index

Q u e s t i o n s o n c o r p o r a t e b e h a v i o r

F i r m r e c e i v e d + 1 p o i n t i n t h e

C G _ In d e x i f a n s w e r w a s

S h a r e i n t h e s a m p l e

C o m p a n y ’ s s e c u r i t i e s ( s h a r e s , b o n d s ) a r e l i s t e d o n s t o c k e x c h a n g e s i n R u s s i a ( q 5 ) y e s 1 2 , 8 0 %C o m p a n y ’ s s e c u r i t i e s ( s h a r e s , A D R , b o n d s , e u r o b o n d s ) a r e l i s t e d o n s t o c k e x c h a n g e s a b r o a d ( q 7 ) y e s 4 , 1 0 %L o n g p l a n i n g h o r i z o n - 3 y e a r s a n d m o r e ( q 2 1 ) y e s 2 7 , 9 0 %B a n k c r e d i t s fo r 1 y e a r a n d m o r e ( q 4 5 ) y e s 2 3 , 7 0 %C o m p a n y p a i d a n n u a l c o m m o n s h a r e d i v i d e n d s a l l t h r e e y e a r s i n 2 0 0 2 - 2 0 0 4 ( q 4 5 _ 5 0 ) y e s 2 5 , 6 0 %C o r p o r a t e c o n fl i c t s b e t w e e n s h a r e h o l d e r s / s h a r e h o l d e r s a n d m a n a g e r s i n 2 0 0 1 -2 0 0 4 ( q 6 6 ) n o 7 3 , 2 0 %

In d e p e n d e n t d i r e c t o r s a n d / o r r e p r e s e n t a t i ve s o f m i n o r i t y o u t s i d e s h a r e h o l d e r s n o t w o r k i n g a t t h e c o m p a n y a r e m e m b e r s o f b o a r d o f d i r e c t o r s ( q 6 7 _ 6 + 7 ) y e s 2 7 , 3 0 %

D o m i n a t i o n o f o u t s i d e r s i n a c o r p o r a t e b o a r d ( q 6 7 ) y e s 4 5 , 9 0 %

P r e s e n c e o f e x p e r t s , l a y e r s a n d p r o fe s s i o n a l a u d i t o r s i n a n a u d i t c o m m i t t e e ( q 7 0 ) y e s 2 6 , 4 0 %

E n g a g e m e n t o f i n t e r n a t i o n a l a u d i t f i r m i n c o m p a n y 's i n t e r n a l c o n t r o l ( q 7 2 ) y e s 8 , 3 0 %

A d o p t i o n o f a c o l l e c t i ve e x e c u t i ve o r g a n i n a c c o r d a n c e w i t h t h e L a w o n J S C s ( q 7 5 ) y e s 3 4 , 1 0 %

T h e i n f l u e n c e o f s h a r e h o l d e r s m e e t i n g o n k e y c o r p o r a t e d e c i s i o n s ( q 8 2 A ) h i g h 4 8 , 0 0 %

T h e i n f l u e n c e o f t h e b o a r d o f d i r e c t o r s o n k e y c o r p o r a t e d e c i s i o n s ( q 8 2 B ) h i g h 6 3 , 8 0 %

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To avoid the overestimation of CG quality (due to close interrelation between some variables) we divided the sample in the 5 categories (0-20%; 21-40%; 41-60%; 61-80%; 81-100%) depending on the total score of CG_Index

Value of CG_Index

D i s t r i b u t i o n o f f i r m s d e p e n d i n g o n t h e q u a l i t y o f c o r p o r a t e g o v e r n a n c e

0 ,0

5 ,0

1 0 ,0

1 5 ,0

2 0 ,0

2 5 ,0

0 1 2 3 4 5 6 7 8 9 1 0 1 1

L e v e l o f C G _ In d e x

Sh

are

in

th

e

sa

mp

le (

%)

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How to evaluate the influence of the government on CG? (1)

S t a t e o w n e r s h i p i n t h e f i r m s s u r v e y e d ( 7 2 4 o b s e r v a t io n s , f o r 9 8 f i r m s - la c k o f d a t a )

6 % 1 4 %

8 0 %

s t a t e c o n t r o l s t a t e a s m in o r i t y s h a r e h o ld e r n o g o v e r n m e n t a l s t a k e

12

How to evaluate the influence of the government on CG? (2.1)

Q u e s t i o n s o n 'p o l i t i c a l c o n n e c t i o n s ' o f s u r v e y e d f i r m s + 1 p o i n t i n

P o l i t _ C o n n e c t i f a n s w e r w a s

S h a r e i n t h e s a m p l e ( % )

T h e j o i n t - s t o c k c o m p a n y w a s e s t a b l i s h e d a ft e r 1 9 9 2 - w i t h o u t a n y c o n n e c t i o n t o p r i va t i z a t i o n ( q 4 ) n o 8 4 , 7R e p r e s e n t a t i ve s o f t h e fe d e r a l , r e g i o n a l o r m u n i c i p a l g o ve r n m e n t a r e t h e m e m b e r s o f b o a r d o f d i r e c t o r s ( q 6 7 ) y e s 1 6 , 1T o p m a n a g e r s o f t h e f i r m a r e m e m b e r s o f a d v i s o r y b o d y o r e x p e r t c o u n c i l a c t i n g u n d e r fe d e r a l , r e g i o n a l o r l o c a l g o ve r n m e n t ( q 1 0 2 ) y e s 2 9 , 9F i r m i s a m e m b e r o f b u s i n e s s a s s o c i a t i o n a n d d u e t o t h e m e m b e r s h i p a t t h i s a s s o c i a t i o n f i r m c o u l d e s t a b l i s h c o n t a c t s w i t h a u t h o r i t i e s ( q 1 0 1 . 3 ) y e s 1 5 , 3J u s t b e fo r e c o m i n g t o t h e c o m p a n y C E O o r c h a i r m a n o f t h e B o a r d o f d i r e c t o r s w o r k e d w i t h fe d e r a l , r e g i o n a l o r l o c a l a d m i n i s t r a t i o n o r w i t h t h e l e g i s l a t u r e ( q 9 0 _ 8 5 ) y e s 8 , 2J o b e x p e r i e n c e o f t o p m a n a g e m e n t o f t h e c o m p a n y i n fe d e r a l , r e g i o n a l o r m u n i c i p a l a d m i n i s t r a t i o n d u r i n g t h e l a s t 1 0 y e a r s ( q 9 3 ) y e s 2 7 , 7F i r m d i d t a k e p a r t i n t h e g o ve r n m e n t p r o g r a m o f p r o c u r e m e n t i n 2 0 0 1 -2 0 0 4 ( q 9 9 ) y e s 2 3 , 9F i r m d i d r e c e i ve a n y o r g a n i s a t i o n a l s u p p o r t fr o m r e g i o n a l o r l o c a l a d m i n i s t r a t i o n i n 2 0 0 1 - 2 0 0 4 ( q 9 8 ) y e s 2 8 , 7F i r m d i d r e c e i ve a n y f i n a n c i a l s u p p o r t fr o m r e g i o n a l o r l o c a l a d m i n i s t r a t i o n i n 2 0 0 1 - 2 0 0 4 ( q 9 7 ) y e s 2 3 , 1

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0 , 0 %

5 , 0 %

1 0 , 0 %

1 5 , 0 %

2 0 , 0 %

2 5 , 0 %

3 0 , 0 %

S h a r e in t h e

s a m p le ( % )

0 1 2 3 4 5 6 7 8

L e v e l o f P o l i t _ C o n n e c t in d e x

D i s t r i b u t i o n o f f i r m s d e p e n d i n g o n P o l i t _ C o n n e c t i n d e x

• To avoid the overestimation of political connection I divided the sample in the 3 categories depending on the total score of Polit_Connect Index

• As expected there is high correlation between State_Owner and Polit_Connect (Pearson Chi-Square = 0,000) but about 18% of private firms have high level of political connection and 45% - moderate

How to evaluate the influence of the government on CG? (2.2)

0 % 2 0 % 4 0 % 6 0 % 8 0 % 1 0 0 %

s t a t e c o n t r o l

s t a t e a s m in o r i t y s h a r e h o ld e r

n o g o v e r n m e n t a l s t a k e

P o l i t ic a l c o n n e c t io n is lo w m o d e r a t e h ig h

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Empirical results: model 1 (State_Owner)

I n d e p e n d e n t v a r i a b l e s E s t im a te S td . E r r o rS I Z E _ lo g 0 ,4 1 0 * * * 0 ,0 4 4[ S T A T E _ O W N E R = s t a t e c o n t r o l] 0 ,4 0 7 * 0 ,2 0 9[ S T A T E _ O W N E R = s t a t e a s m in o r ity ] 0 ,3 4 9 * * 0 ,1 3 8[ S T A T E _ O W N E R = n o g o v e r n m e n ta l s t a k e ] 0 .[ S E C T O R _ r e g = y e s ] 0 ,4 3 4 * * * 0 ,1 4 2[ S E C T O R _ r e g = n o ] 0 .[ B U S I N E S S _ G R O U P S = n o ] - 0 ,4 7 8 * * * 0 ,0 9 7[ B U S I N E S S _ G R O U P S = y e s ] 0 .[ D O M I N A N T _ O W N E R = y e s ] - 0 ,0 7 1 0 ,1 3 5[ D O M I N A N T _ O W N E R = n o ] 0 .[ F I N A N C E = g o o d ] 0 ,3 0 5 * * * 0 ,0 9 9[ F I N A N C E = b a d ] - 0 ,0 9 3 0 ,1 4[ F I N A N C E = m o d e r a t e ] 0 .[ F O R E I G N _ S T O C K = n o ] - 0 ,3 6 1 * * 0 ,1 4 9[ F O R E I G N _ S T O C K = y e s ] 0 .[ F O R E I G N _ E X P = n o ] 0 ,0 7 6 0 ,1 3[ F O R E I G N _ E X P = y e s ] 0 .N u m b e r o f o b s e r v a t io n s- 2 L o g L ik e lih o o dM c F a d d e n p s e u d o R - S q u a r e

1 7 0 0 ,6 70 ,1 3 4

6 3 2

M o d e l 1 . 2

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Model 1: comments

• Four specifications: in all cases firms with stake of government have significantly higher quality of CG

• Test of robustness: – Model 1.0: only State_Owner and Size, Sector, Region

variables– Model 1.1: a number of new variables affecting the

quality of CG (Finance, Dominant_Owner, Foreign_Stock, Business_Groups, Foreign_Exp)

– Model 1.2: SECTOR_reg instead of Sector variable– Model 1.3: all firms listed at foreign stock exchanges

are excluded (due to their higher level of CG)• Results are more robust for minority shareholding

of government

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Empirical results: model 2 (Polit_Connect)

I n d e p e n d e n t v a r i a b l e s E s t im a te S td . E r r o rS I Z E _ lo g 0 , 4 1 2 * * * 0 , 0 4 5[ P o lit _ C o n n e c t = lo w ] - 0 , 0 9 6 0 , 1 2 2[ P o lit _ C o n n e c t = m o d e r a t e ] - 0 , 0 2 3 0 , 1 1 3[ P o lit _ C o n n e c t = h ig h ] 0 .[ S E C T O R _ r e g = y e s ] 0 , 5 1 8 * * * 0 , 1 3 9[ S E C T O R _ r e g = n o ] 0 .[ B U S I N E S S _ G R O U P S = n o ] - 0 , 4 5 3 * * * 0 , 0 9 6[ B U S I N E S S _ G R O U P S = y e s ] 0 .[ D O M I N A N T _ O W N E R = y e s ] - 0 , 0 6 7 0 , 1 3 3[ D O M I N A N T _ O W N E R = n o ] 0 .[ F I N A N C E = g o o d ] 0 , 2 9 1 * * * 0 , 0 9 8[ F I N A N C E = b a d ] - 0 , 0 8 0 , 1 3 9[ F I N A N C E = m o d e r a t e ] 0 .[ F O R E I G N _ S T O C K = n o ] - 0 , 3 7 1 * * 0 , 1 4 8[ F O R E I G N _ S T O C K = y e s ] 0 .[ F O R E I G N _ E X P = n o ] 0 , 1 1 4 0 , 1 3 0[ F O R E I G N _ E X P = y e s ] 0 .N u m b e r o f o b s e r v a t io n- 2 L o g L ik e lih o o dM c F a d d e n p s e u d o R - S q u a r e

1 7 5 2 , 6 40 , 1 3 0

M o d e l 2 . 2

6 3 7

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Model 2: comments

• Four specifications of model 2 – only Polit_Connect and Size, Sector, Region; + other control variables; + SECTOR_reg instead of Sector variable; + regression only for private firms. In all cases Polit_Connect variable was not significant

• A number of control variables is significant (the same as in model 1):– Positive influence on CG: Size, Sector_reg, Finance,

Business_Groups, Foreign_Stock

– No influence on CG: Foreign_Exp and Dominant_Owner

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Discussion of results

• Main conclusions: – State controlled and mixed firms in Russia demonstrated higher

quality of CG (that is close to experience of Singapore of 1990s - see Ang, Ding, 2006). These results are more robust for minority shareholding of government

– ‘Political connections’ did not have any influence on CG – Regulation of entry, tariffs etc acts as an additional channel of state

influence (quality of CG is higher in regulated sectors)

• Possible essential interpretation: in 1990s Russian government as an owner suffered from management abuses. In early 2000s government started to use standard CG instrument to defend its own property rights.

• But on the base of our empirical data I can attribute this positive effect of state ownership only to 2001-2004. Evaluation of current trends is an open question.