Examination of Witnesses (Questions 120
- 139)
TUESDAY 21 MARCH 2006
MR RICHARD
LAING
Q120 Chairman: The point was made
to us by one businessman in Mozambique that he wanted to pay taxes
and that tax exemption meant that the aid community pulled the
strings instead of the business community; in other words, the
businesses are saying we should be paying taxes. If the Government
were more dependent on business then maybe they would be more
prepared to listen to business—this was his sour grapes—but
they were much more prepared to listen to the donor community
than they are to the business community.
Mr Laing: I have a lot of sympathy
with that businessman.
Q121 Chairman: But they might not
have a deal if it shows they did pay taxes, the problem being
that Mozal had a tax holiday.
Mr Laing: We are talking about
one investment. The norm of our business is that once they generate
profits they ought to pay tax. Indeed, part of the development
thesis here is that by employing people, by generating profits
on which taxes are then paid which is then income for government
that is creating the wealth that will defeat poverty. The payment
of taxes at an investor company level is important.
Q122 Mr Davies: Mr Laing, it is true
to say, is it not, and it has emerged quite clearly from this
morning's discussion so far that the CDC has had for many years,
and probably still has, both in its own mind and in the public
mind, a considerable crisis of identity. The public certainly
have not really known whether you should be investing on purely
market principles, in which case you are open to the accusation
that you should not exist in the public sector, you ought to be
privatised—that of course was tried and did not work—or,
alternatively, that you should be investing on non-market principles
in which case you are going to have trouble with the treasury
and you are also not going to generate the flow of future funds
of future investment that you would like to generate. It is fair
to say, is it not, against that background you have now come up
with what you consider a satisfactory third way? I am trying to
probe whether that is a sustainable and coherent compromise or
whether it is a muddled and unsustainable compromise. Can you
tell me, first of all, how in this new regime, when you place
money with these fund managers, how you define the return that
you are going to demand from them? Presumably you say to a fund
manager I will give you this money on the basis that your target
threshold rate of return is the following, is that right?
Mr Laing: That is right.
Q123 Mr Davies: How do you define
that?
Mr Laing: What we will do is assess
a whole range of potential fund managers. In some parts of the
world we have significant choice and in others there is very little
choice. We will look at their proposition, we will do due diligence
on that team, we will assess whether the target return that they
are suggesting is (a) appropriate and (b) possible and then we
will take a view as to whether we should invest.
Q124 Mr Davies: How do you define
"appropriate"? If it is not the market rate of return,
how are you defining "appropriate"? We understand how
market rates of return are defined—they are defined by the
market—and the value of investment rises or falls to achieve
the market rate of return. That is how markets work. You are trying
to second-guess the market. You have decided that you are not
being guided by purely market principles. I want to know on what
basis you compute an acceptable rate of return.
Mr Laing: The best way to answer
that question would be to look at specific cases.
Q125 Mr Davies: In other words, you
have no guiding principles on this at all?
Mr Laing: No, what we do is we
have a case-by-case, investment-by-investment guidance.
Q126 Mr Davies: But you have no target
globally or broken down by potential activity or anything like
that?
Mr Laing: We have an overall target
set by the Government which is that we should make at least 5%
on our capital, but that is an overall target and that is, broadly
speaking, in the history of CDC what CDC is looking at.
Q127 Mr Davies: If you were going
to make a market rate of return, given the average risk across
your asset portfolio, what would you think that would be?
Mr Laing: I know you will not
like this answer because one has to disaggregate it. If you were
looking at a particular market like China, you would have to look
at that market and respond to that.
Q128 Mr Davies: You were saying that
the Treasury has given you an overall average target of 5%.
Mr Laing: That is a minimum that
we must make at the least.
Q129 Mr Davies: That is a threshold
of 5%. That is expressed as an overall rate of return on your
total investment portfolio. That is much lower than the market
rate of return, we all understand that, but what would be a market
rate of return, given the profile of your asset book overall;
in other words, an average. In some projects you might say, given
the risk, that it should be 25%; some might be 30%, some 15%.
What is the average which would be the market rate of return which
would be demanded for that asset portfolio?
Mr Laing: If you looked at it
overall it would be high teens.
Q130 Mr Davies: Between 15 and 20%?
Mr Laing: Yes.
Q131 Mr Davies: You have now given
me the answer I wanted. Would you like to go back to what you
were trying to tell me?
Mr Laing: Having said that, if
we then went into a microfinance fund we would have to take a
view as to whether it is actually achievable to get the high teens
and because—it comes from the point being made on my right
here—we feel that there is a real need for capital in that
sector that we will take the view that we will accept less than
the high teens because otherwise nothing would be done. In microfinance
we are looking for approximately 10%.
Q132 Mr Davies: In other words, you
decide yourselves what is the appropriate rate of return which,
in many cases, would be below the market rate of return, or perhaps
in all the cases below the market rate of return for each sector
of activity—microfinance, agricultural projects, manufacturing
projects, extracted projects—they will all have different
rates of return depending on their sector of activity, possibly
depending on their geographical location as well, is that right?
Mr Laing: Because we are pioneering
in nature and we are choosing to go in at an early stage—I
will continue to use microfinance as an example—we must
go in and make a return. We have got to go in and demonstrate
that you can make a return on your capital in that particular
sector. We will take a view there is no market, we are pioneers
and we are correcting the market failure. By definition there
is no market there.
Q133 Mr Davies: There is no market
rate of return.
Mr Laing: We have to take a view.
Q134 Mr Davies: You start off by
taking a view that you want to have the following rate of return
with the following activity. You then go to fund managers and
say: we will come into microfinance if you can make 15%. Is that
the sort of dialogue you have?
Mr Laing: That is the sort of
line, yes.
Q135 Mr Davies: You do, contrary
to the impression you gave a moment ago, set out guidelines for
your fund managers or those who are appointing fund managers or
monitoring them.
Mr Laing: Yes. I was pushing back
at you on the overall. We do on a disaggregated basis fund by
fund we will have a very clear idea what our return expectations
will be.
Q136 Mr Davies: The board sets those
targets?
Mr Laing: Yes, the board controls
the company.
Q137 Mr Davies: Since we now know
that the market rate of return on your particular investments
would be high teens, would you say, the average?
Mr Laing: Overall.
Q138 Mr Davies: You are going to
get 5% plus something, perhaps two or three if you can better
the treasury. We can all calculate and it is a matter of simple
arithmetic what the net value loss is going to be by the CDCs
operations over a number of years.
Mr Laing: No, I do not think you
can.
Q139 Mr Davies: You have a market
rate of return. If you are making that you are creating value.
Anything above that is additional value created; anything below
that is less than value created because the risk is higher than
the return. You are therefore losing to the taxpayer an amount
of money which is between the rate of return you are achieving,
which is just over 5% you hope, and the figure between 15 and
20%—let us say 17 or 18%—which you have acknowledged
to be the market rate of return on that activity.
Mr Laing: If we are going in to
correct market failure.
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