Getting a fair slice of the pie: Three options for the State to collect its share of SOE profits

State-owned enterprises (SOEs) account for 20 percent of the top 2,000 companies globally, according to the IMF. Many SOEs are loss-making and the main concern for the State is to return them to a financially viable pathway and manage the fiscal risk they pose. But the SOEs that operate in sectors with growing demand or enjoy a monopoly or market leader status, such as telecommunications and extractives, can be highly profitable. The question therefore becomes how much of these profits should these profitable SOEs return to the State which has financed their developments through capital contributions, subsidies and other means? The dividends SOEs distributed to shareholders are often a key source of revenue for State-owners to deliver vital public services. However, some State-owners may extract too many golden eggs, threatening the viability of the SOE. To avoid weakening the proverbial goose while ensuring the State collects its fair share of the SOEs’ profits, it is imperative that governments develop a dividend policy for SOEs.  In the recently released Dividend payments by SOEs: Policies and practices, a joint report with OECD, we propose three approaches to setting a dividend policy for SOEs. 

The Textbook approach

The World Bank iSOEF and OECD Corporate Governance Guidelines for SOEs  are a best practice example that calls on State-owners to set dividend expectations for SOEs linked to the achievement of a target credit rating, typically investment grade (optimal capital structure approach). While this approach helps ensure that SOEs operate on a level playing field with competitors in the private sector, we found that the magnitude of strategic planning and corporate governance capacity required of the SOE and the State-owner might outweigh the benefits for many countries (only 3 out of the 41 countries surveyed followed this practice).

The “No-Frills” approach

A more straightforward option is to set a minimum share of profits for SOEs to pay out as dividends. Countries following this approach usually either set a pre-defined target percentage of net income or calculate a minimum share of profit to be paid out annually based on the financial results from the previous year. This minimum dividend pay-out approach is simple to apply consistently across the SOEs portfolio and ensures a stable return to the State-owner (as practiced in 13 of the 41 countries surveyed) but does not necessarily safeguard the financial viability of the SOE. Indeed, reported profits are mainly a reflection of past performance, and SOE owners should also consider the SOE’s prospects particularly its needs in terms of capital investments, research and development activities, and the impact of the market cycle in the SOE’s sector on its finances.

The Middle-of-the-Road approach

We noted that as the capacity of the State-owner to provide effective financial oversight of the SOE portfolio improves, countries tended towards more complexity and rigor in the dividend policy setting process (10 of 41 countries surveyed) opting for broad guidelines that allow for flexibility (target dividend payout policy with exceptions). In some instances, dividend pay outs are determined for individual SOEs on an annual basis based on their unique capital requirements and planned expenditures via consultations between SOE boards and the State-owner. Companies consider a range of information such as annual financial statements, budget data, multi-year plans, the business cycle, cash flow forecasts, business plans, investments plans or feasibility studies. To maintain a basic level of financial discipline, a target dividend pay-out policy with exceptions seems to be a good approach to achieve the balance of allowing SOEs to operate at a commercially sustainable level and provide a return on the State’s investment.

Each of these three approaches has benefits and drawbacks, which governments and State ownership entities should carefully weigh when designing the SOE dividend policy. The policy should reflect the country’s ownership arrangements, the size and composition of the SOE portfolio, and the fiscal and economic context in which SOEs operate. In addition, the SOE dividend policy should be periodically reviewed to ensure it remains fit for purpose and continues to balance the interests of both the State’s and the SOEs interests.