Stephen Davies: Veil of silence over Royal Mail pensions

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THE Government’s handling of the sale of Royal Mail has attracted a great deal of criticism, most of it focusing on the fact that the share price has increased by 70 per cent since its flotation. The accusation is that the Government got the pricing wrong and cost taxpayers a significant amount of money.

This is to misunderstand the nature of most company flotations (known as initial public offerings or IPOs in the jargon of the City) and the details and context of Royal Mail’s sale in particular. Meanwhile, something that the Opposition should have been rightly vexed about has largely passed without notice.

The first thing to realise is that the majority of IPOs have the shares on offer underpriced, so that initial investors enjoy a significant and immediate gain as the shares rapidly rise in price. This is because all company flotations are trying to balance two goals – to raise as much money as possible while ensuring that all of the shares are sold.

As the recent case of Facebook shows, it’s very easy to get this wrong and so the promoters of flotations (in this case the Government) tend to err on the side of caution and underprice the shares to ensure that the sale goes through smoothly.

Investors don’t always get it right either though. Those who bought shares in the Government’s share of BP in 1987 were left nursing a 25 per cent loss after two weeks. In other privatisations (such as that of Britoil in 1982) the share offer has simply not been taken up, to the great embarrassment of the Government.

All of this is because it is actually quite difficult to work out what a company is worth to investors without having an actual market in its shares. There are various ways of arriving at a rough estimate but there is always a considerable margin of error. It’s only once the issue is made and the shares start to be traded that you find out how right or (more likely) wrong, you were.

This was particularly severe in the case of Royal Mail as there were no other comparable quoted companies in the same line of business. Foreign post offices such as Deutsche Post and the Dutch Post Office had been privatised before but their business prospects and record were so influenced by regulation in their home country that they did not offer a reliable guide.

In Royal Mail’s case, there was uncertainty about the likely impact of the continuing statutory commitment to providing a uniform service throughout the entire country at a standard price, as well as a lack of real information about things such as the future staffing levels and the real (as opposed to nominal) value of its real estate portfolio. Much of this is still unclear, so although the price of shares has risen steadily there is no guarantee that this will continue.

Given all of this the Government was right to be very cautious in terms of the price it set for the IPO, so as to ensure that all the shares were sold and the flotation went through smoothly. Moreover, the subsequent rise in the share price confirms that it was correct in its original decision to sell the company because this rise reflects the confidence of investors that Royal Mail has good prospects now that it’s in the private sector.

There is now a strong incentive to improve the efficiency of the service and make it more valuable to consumers. This wouldn’t happen without privatisation because governments are simply not designed to run innovative, profit-making businesses. As in the case of British Telecom (whose share price doubled after privatisation), investors have now decided that the prospects are sufficiently rosy to make the value of Royal Mail higher than the Government’s cautious guess.

In the meantime, while Labour’s Chuka Umunna MP has been berating the Government unfairly for getting the IPO price wrong (ignoring the previous Labour Government’s intention to privatise Royal Mail through a direct sale to a single buyer) he has been relatively silent about an area where the Government does deserve criticism. This is their move to take over the Royal Mail’s pension obligations, announced by George Osborne in 2012.

Because of the strange way in which the Government keeps its accounts, the assets of the pension scheme were counted as a plus for the Government and a reduction in the deficit while the much larger future liabilities were not counted on the Government’s debit side.

However, given that there’s a general conspiracy on the part of politicians of all parties to ignore such liabilities, the relative silence over this disgraceful sleight of hand is understandable.

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