Examination of Witnesses (Questions 80 - 99)
TUESDAY 7 JULY 1998
RT HON
EARL CAIRNS,
CBE and DR
ROY REYNOLDS
Mr Rowe
80. It is often said that CDC sets the salary
standards which means that not only NGOs but also, more importantly
perhaps, entirely indigenous companies find them extremely difficult
to match, so in a sense while you are giving with one hand you
are taking with another because you are stripping out some of
the best people because you are paying above the otherwise going
rate. Is that a fair criticism?
(Dr Reynolds) I hope not. Coming from the private
sector myself, I would hate to see us paying above the going rate
for the talent we need to do the job. I hope we are not doing
that and, if we are, we should look to put it right. The other
point here is if we are paying salaries which are too high, if
we start to look at whether the business makes money, we will
be struggling there too. So we cannot afford to pay very high
salaries if we want to have a business that is profitable.
81. Both you and the Government acknowledge
that with your current profitability levels you would find it
hard to attract private investment. You plan to increase the proportion
of your investments in equity rather than loans, which in general
attract a rather higher rate of return but are also subject to
higher risk. I just wonder how much you need to raise your profitability
to meet the needs of the private investor?
(Earl Cairns) When we have looked in the past
at the CDC, the Government has set us targets to make an 8 per
cent return and maximising development content thereafter. Against
that background there has been a high loan content in the overall
portfolio mix. I actually think that part of our development contribution,
or indeed development subsidy, in that period has been that we
have been taking equity risks and only been receiving a loan type
reward for them, ie if all goes well you get your money back,
and if it does not go well you do not get your money back, whereas
as we move on to a greater emphasis on equity we can share in
the up-side as well as the down-side of the fortunes of the enterprises
which we develop. Our sense is that in order to attract the private
sector, the risk profile that we have would indicate rates of
return—and this is overall return, part may be capital,
part may be income—of around 15 per cent. We are told, and
this is at an early stage, those are the sort of returns we need
to aim for in order to attract the interest of the private sector.
I think that is quite a conservative estimate.
(Dr Reynolds) I do think we recognise as we move
more into equities that this will mean looking at each individual
investment and having to scrutinise it with perhaps greater rigour
than we have in the past, because when you are taking that equity
share you need to see that that business is going to be profitable
and it is sustainable long-term. That means looking at it in a
rather different way from when you are looking to see if they
can pay back, do you have the right security on a loan. This is
where it comes to the greater developmental role we think we are
going to be playing. It does mean our staff will have to look
at these investments in a different way and a lot more vigilant
way.
82. Is it not going to put enormous pressure
on you to move to middle income countries from the lower income
countries?
(Earl Cairns) If I had—"disagreement"
with the Secretary of State would be the wrong way to put it—a
difference of view, and luckily we both came to the same conclusion
for slightly different reasons, it is that I believe the comparative
strength of the CDC as much in the private sector as in the public
sector is our knowledge and involvement in the poorer countries.
If we move into the middle bracket countries where there are more
alternative people with skills and experience, we lose our comparative
advantage. Our competitive advantage is (a) the knowledge and
the understanding and the relationships we have within those countries
and (b) it is because we have such a spread of investments that
we can afford to take on each one of them a relatively high risk
for, we hope, a full return in a way which nobody else can. If
we move too far away from that, we lose our advantage and we become
just another set of investors. So I think in commercial terms
we will want to do exactly what the Secretary of State wants us
to do because she does not so explicitly believe the commercial
pressures are sufficient to keep us on what she would call the
straight and narrow.
(Dr Reynolds) I would like to re-emphasise that.
I think that is where our competitive strength lies, that is what
has been built up over 50 years, that is what we can offer which
no one else has. What we are looking to do is ask the private
sector to join us in doing that. It would be foolish to move away
from where our competitive strengths are. We have these 27 offices
all around the world, we are very well-known. It was asked earlier
why Commonwealth Development Corporation. We are so well-known
as CDC in, for example, Zambia or most of Africa, that that is
our strength and we have built up a critical mass of investments
which gives us a competitive advantage that we would be silly
to give away.
83. Do you have a general CDC view about
how long you stay in a particular enterprise before you try and
sell it on? Or is that absolutely dependent on other factors?
(Earl Cairns) We wish to look on the basis that
within seven to ten years we are likely to be out of the business.
There are plenty of investments we have held for 30 or 40 years—we
have been in Chilanga on and off since 1949———
Chairman: You have
recently gone back in there.
Mr Rowe
84. Is that because you cannot get out or
is it because it is profitable for you to stay?
(Earl Cairns) It is because we continue to see
our presence as providing (a) reasonable returns but (b) extra
development value. There are other things we can do from Chilanga,
like our involvement in the Malawi Cement Business, which are
complementary and we try to make those two work together for the
benefit of the whole of that region. At some stage it will be
right for us to come out but it will be when the extra dimension
that CDC can put into that is no longer necessary, it does not
give us a special objective, a special right.
Chairman
85. Do you think on this basis that you
can attract the private sector investment in CDC which you are
looking for? Who is going to invest in CDC as proposed?
(Earl Cairns) The Secretary of State indicated
that maybe the amount of change that is going on in the CDC might
cause her to look at whether there were some halfway houses before
a full public offering. Clearly CDC can be sold to the public
at a price. We have got £1.5 billion of assets and somebody
is going to pay more than sixpence for them. Sorry, sixpence is
no longer——
86. Six pence is alright!
(Earl Cairns) That may not be as we go through
the initial process the most attractive way. Frankly, it is too
early for us to say. We certainly believe that we have—I
hate the word unique—but we have some unique characteristics
which should be attractive to some elements of the investment
community at a price and one of the issues is how to structure
that so that that price is one which is satisfactory to the United
Kingdom taxpayers and to DFID in its recycling of any part of
the sale proceeds. It is also very important from the CDC's point
of view that it should be seen to be an attractive and successful
organisation because that is the way we are going to attract other
funders to come in along side and other people to support our
investments. We are in a period when equity investment in the
third world for whatever reason is under more of a cloud than
it has been for some time. By the time CDC is ready to offer shares,
what the state of the markets is going to be I am no more able
guess and probably less able to guess than you are, Chairman.
I think those are decisions that have to be taken further down
the line but, yes, there is a price at which people must be interested
in owning shares in CDC.
Mr Robathan
87. Just before going on to investment policy,
can I just ask you one final question on this and that is the
amount of money invested in so-called ethical funds in the City
is pretty minute, as I understand it. Do you think that your ethical
investment is likely to be different and do you think it is likely
to be attractive to the City and why? Do not go through every
reason because we have heard many already.
(Earl Cairns) I do not think that people are going
to buy shares in CDC just because we are ethical. I think that
some funds that are willing to support people who are explicitly
ethical. Both in our behaviour and in the developmental aspirations
that we have they will be attracted. I do not think that particular
block will be sufficient to acquire the 60 per cent of CDC which
might at some stage be for sale. Nonetheless, I think that they
can be an important part, if you like, of the shareholders' supporters
club of CDC going forward which we very much hope to develop.
We will be under the slide rules of the general market as well
which sets some pretty severe standards and we are going to have
to satisfy them that we are worth some of their money.
(Dr Reynolds) Our problem of course is we do not
have that track record because we previously have been operating
in a rather different regime so our returns of eight per cent
are not going to be the ones as such commercial investors are
going to find attractive. We are changing to invest in equity.
We have now got to show that track record and that is why we believe
there is a certain transition period. Those who know us well can
understand the potential. Those who do not know us well will say,
"Where is your track record?" and I think this is the
issue that we now have to manage that transition period.
88. Can I move on to investment policy which
is still about ethics, I suppose. Your criteria are set out in
your Annual Report for development investment. First, do you adhere
to these criteria in every investment that you make?
(Earl Cairns) I think what we have done here and
what we are continuing to do (and we are still working on this)
is making explicit quite a lot of what was implicit in the way
in which CDC operated from long before I was involved. We now
have a monitoring policy which we refer to.
89. The EDIs?
(Earl Cairns) Yes, which checks on a random basis
a high proportion of past investments to see whether we fulfil
the criteria that were laid down.
Chairman
90. Can I interject here. Who does this
actual work?
(Dr Reynolds) We have one very small section which
co-ordinates this activity and also goes out to audit the country
managers, doing it under the auspices of a small group who sets
the terms on how it has to be done and then audits on that basis
and then co-ordinates the total activity.
91. It is internal?
(Dr Reynolds) It is internal.
92. The other question on your report is
do you report it to the Department?
(Dr Reynolds) Yes it gets reported to the Department
and we actually share with the Department how we are going to
do it. We also share with the Department how we were putting this
whole process together and we share with the Department our results
as we do with the Development Committee of the Board.
(Earl Cairns) We are in the risk business and
we are looking at longish term investments. We will, and probably
should, make some mistakes. Not every investment is going to be
successful.
93. You will be a superman if you do not.
(Earl Cairns) What we are trying to do in this
process is to learn as much as we possibly can from every mistake
we make, so we do not do it again. If we can cry over enough spilt
milk, we will become a much better organisation.
Mr Robathan
94. Do you intend to continue with this
method of EDIs when and if you become a public-private partnership?
(Dr Reynolds) Yes. Not only yes, we are looking,
as Lord Cairns was saying, to actually build on this whole process
because we do believe it is a learning process. So, yes, is the
answer.
(Earl Cairns) Following on from that question
and the questions you were asking earlier, we shall have to think
about how in our annual report—and it is not a difficult
thing to do—we can have a section which deals with the various
constraints that Government intends to put upon us. One section
of our annual report I think will be a sort of check list against
whether we have done that which we were supposed to in terms of
fulfilling what will be the constitutional objectives, so that
we will have a financial report and we will have a constitutional
report.
95. So would you describe that as a formal
way of ensuring your investments correspond to the Department's
country strategies?
(Earl Cairns) No. I would see that as conforming
to the objectives which are laid down in the memorandum and articles
which will be there in the prospectus which will form the constraints
on our activities. As far as country strategies are concerned,
to the extent it is a question of do we meet the 70 per cent criteria
that you talked about earlier or the 50 per cent criteria, yes,
those will be in. On an individual country basis I would see it
as being subject only to those two constraints. It may be we will
see fit, and probably will, to talk to a large and knowledgeable
shareholder about their views of Country X or Country Y, but the
decision on whether we follow the advice of the Department or
Government I think at that stage, as a company answerable to its
shareholders, has to be the decision of the board.
96. Do you see this as leading to any conflict
with the Department which will be, as you say, a valued shareholder
and a large shareholder?
(Earl Cairns) I very much doubt it. I think we
find ourselves sharing objectives and there is no reason why we
should not continue to share those objectives. We value the advice
we get from DFID and from the FCO and to the extent that we can
go on benefiting from that advice and the very public association
that exists through the large shareholding, we have got to be
daft if we do not do it.
97. There was one other question which relates
to this which is we have seen your criteria for investment, but
do you intend to have a new code of practice? Do you intend to
consult with NGOs as to whether you should change your code of
practice because they have made representations to us?
(Earl Cairns) We are still working on this. Roy,
I know you have got the latest draft. I am sure at some stage
you will want to share it with certain of the NGOs and with other
organisations.
(Dr Reynolds) I think, as I said before, it builds
on what we set out in that Annual Report. We now have to fill
in all of the detail and help our country managers and investment
managers make the right sorts of decisions and that is what we
are doing. We are going back to first principles in a way in consulting
with staff on what the core values of the CDC are so that they
are part of the organisation and they are not something that comes
down from on high. Out of that we are building up our business
principles and out of that we get our ethical behaviour and our
social policies and at the same time we are working on the detail
of our social policies. Currently we are in that process. We hope
by the end of this year that we shall have finalised that document
and again we will share with it with DFID as we go through as
we will be sharing it with NGOs as we will be sharing it with
other organisations, both potential future investors as well as
other governments, etcetera, etcetera to see that everybody is
comfortable in the values which we are going forward with.
Mr Canavan
98. What do you do to ensure that CDC investment
is ethical investment in terms of respect for human rights, health
and safety at work, reasonable wage rates, etcetera?
(Earl Cairns) Every investment that comes to the
board will have a section which deals very precisely with each
of those headings. They will be evaluated in full before they
come to the board. I suspect nothing will come before the board
which is not likely to satisfy the board because the people arranging
those investments will know the importance we attach to each of
the subjects.
99. Some years ago before your time I initiated
an adjournment debate. The complaint was about a plantation in
the Philippines which was financed by the CDC and the allegation
was that the plantation was in effect run by a crowd of homicidal
gangsters. Do you ever get similar complaints now or was that
a fairly unique case?
(Earl Cairns) We do not and we have not had complaints
of that sort. We do look and the board would expect to see on
each investment an assessment of the individuals who are behind
each of those investments and we would want to be very careful
that they were people of the standards that both you and I would
approve of, Mr Canavan.
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