Thursday, February 5, 2009

Australian Industry: Commonwealth Bank

Introduction - All over the western world it is becoming more common for governments to privatize publicly owned companies. However, is the privatization of publicly owned businesses beneficial to the Australian economy? This essay will examine this question with specific reference to the recent privatization of the Commonwealth Bank of Australia (CBA).

History - The Commonwealth Bank of Australia was first founded in 1911 and was the first bank to combine both savings and general trading in the same company. This ingenuity gained them the security of a federal government guarantee and created ties between the bank and the federal government. From this foundation, the CBA became a government owned company. However, poor returns and inefficiency recently left the government no option but to privatize the company.

Privatization Theory - A basic argument given for privatization is that persons who work in government owned companies have few incentives to ensure that the enterprises they own are well run. On the other hand, it is believed that private owners do have incentives, for if their businesses perform poorly the companies will lose money. The theory holds that, not only will the business' customers see benefits, but as the privatized company becomes more efficient, the whole Australian economy will benefit. In the privatization of the CBA customers saw improvements in customer service, with the specialization of labour within the company. This included the creation of branches designed solely for processing, which utilized the specialization of labour. (Commonwealth Bank:About Us -

Similarly there are some negative consequences to the privatization of companies. Improvement in company efficiency is almost always accompanied by large layoffs of staff. The Commonwealth Bank was no exception, as the specialization of the workers dramatically improved their efficiency, which enabled the company to layoff staff without sacrificing any working capacity. An example of this can be found in rural Australia, where many workers were made redundant to improve branch productivity and company profits. (Financial Review: Events –

Commonwealth Bank Events - The Australian Government decided to sell off the Commonwealth Bank in small sections, before fully privatizing the company. This proved successful. However, one minor problem the process encountered was in the selling of their shares to foreigners off shore. The state allowed this, for the money invested by foreigners helped to provide the capital needed to upgrade and modernize the firm, making it internationally competitive. Improvements in the CBA's operating and stock market performance, and rival banks reaction to the partial and full privatization announcements, were strongest after the Bank had been fully privatized. Long-term stock market performance improved markedly as the proportion of government ownership decreased, with the Bank's cumulative abnormal returns being 50% more than those of its rivals three years after the Bank had been fully privatized.

By reducing costs and improving its profitability in the post-privatization period, it has outperformed its rivals on almost all the operating performance measures, and has become the most profitable bank in Australia. This is partly due to the effectiveness of the ‘performance based incentives’ system. The profits don’t end there, for the Government also benefits directly from the privatization. This is because Privatizations are usually organized as auctions, where bidders compete to offer the state the highest price, creating real income that can be used by the state as investment capital.

Commonwealth Bank – Profit Details
2001 2002
Revenue $8.824b $9.068b
Expenses $7.396b $6.016b
Pre-Tax Profit $3.405b $3.572b
Income Tax $993m $916m
Net Profit $2.398b $2.655b
Earnings Per Share $1.896 $2.093
Dividend Per Share $1.36 $1.50
Table 1: Commonwealth Bank Profit Details (Financial Review)

Relation to Government - The benefits governments gain from privatizing companies extends further than just receiving money from the sale of the assets. The improvements in company efficiency not only removes the financial burden from the government but also help to strengthen the Australian economy. This is done through the creation of new capital and the specialization of the labour force. These two factors are significant in providing and maintaining a strong economy.

Conclusion - The implications of these results are that governments contemplating privatization of state-owned enterprises are required to fully privatize, in order to achieve strong gains in efficiency, profitability and stock market performance. The keystone in the success of privatization is the ‘profit motive’ which is responsible for improvements in efficiency and functionality of the business. The Privatization of the Commonwealth Bank of Australia is a perfect illustration of the benefits available in not only the end product, but also in the process involved. So the privatization of public owned companies can be beneficial to, and successful in, creating a stronger economy.

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