IN Part 1 of this article I dealt with the difficult first three phases of the history of Jamaica’s utilities, from initial private ownership and a period of “quasi expropriation” through political regulation and then state ownership. In this part the subsequent reprivatisations and future opportunities are discussed.

Phase IV – Telephone reprivatisation

Deepening and broadening of the capital market objective

In 1988 the telephone system was the first utility to be reprivatised. A good feature was that a public share offering was part of the transaction. The transaction took place contemporaneously with the arrival of Hurricane Gilbert and underwriters had to take up shares that could not be placed in the normal way, so the share had an unfortunate start.

Nevertheless the transaction did happen and Cable & Wireless replaced the government as the controlling shareholder, gaining a long-term private monopoly franchise.

The rate-setting regime had to be made very clear and very simple and automatic this time (a guaranteed return on audited balance sheet equity with assets being valued at replacement cost) and timely, since objections to the calculations had to be lodged in a specific time frame. It was overly generous in hindsight, but it was needed to regain credibility.

The objective of deepening and broadening the capital market was furthered as there were some thousands of private individual shareholders (despite the devastating hurricane) including employees, individual investors, local institutions and pension schemes.

Monopoly granted

The bad aspect of the transaction was that a long-term monopoly concession was demanded and given, and this hampered the rate of expansion of the supply although there was huge investment in the system — and efficiency gains were indeed brought about in the early years following 1988. The thinking was that in order to have an investor massively expand the system (and to avoid the need for duplicating the poles, cabling and exchanges), then a monopoly had to be granted.

At the time new technologies (like cellular service) were only nascent — cellular phones did not become available to the public until 1991 in the USA, three years after this privatisation. The argument for granting the monopoly was very much the same as the one put forward in 1892 as quoted in Part 1.

After a while an overpriced and poor cellular service was grudgingly introduced by Cable & Wireless with capacity limits that made one feel privileged to get connected.

Monopoly broken by superhero Paulwell

However, there emerged a superhero in the person of then Minister Philip Paulwell who skilfully used Caribbean political alliances to negotiate the breaking of the Cable & Wireless monopoly to allow competition in the sector.

Massive equity investments were made by the newly admitted operators (as well as the now fearful incumbent) and service improved dramatically at newly affordable rates. Jamaica moved from being one of the worst-served populations in the world in telecoms to one of the best.

The economic efficiency gains from voice communications alone may not have been formally quantified but are obvious in terms of expensive trips avoided, now by the even poorest echelons who needed that gain the most, for example. Widespread data services became available to everyone, not just to an elite. There was no longer a need for a regulator to set rates to be charged to end users, as competition ensured their reasonableness.

This breaking of the monopoly and overturning of the guaranteed rates of return did not benefit the share price of TOJ of course.

The macro steps in this subsector have been taken and fine-tuning initiatives are now taking place, like number portability — though one must be on guard against mergers leading to monopolies again. This would be the job of both the FTC and the OUR.

Phase V – Electricity reprivatisation

Has the great telecom success story been replicated for other utilities? Certainly not so far for JPS. There have been no dramatic efficiency gains or the introduction of meaningful competition, nor has there been any beneficial effect on the local capital market, so far — but is there a way for this to still happen?

Staying with chronology, the Office of Utilities Regulation was established in 1997 and was given jurisdiction over transport, electricity, water and telecommunications in terms of rates and standards. The OUR also makes recommendations to the Minister about the licensing of service providers. It has been staffed with professionals and more removed from political interference than the previous arrangements. The OUR is funded by the entities it regulates and is better able to pay adequate salaries so that there is sufficient expertise.

The opportunity to democratise ownership in JPS is still available

The two recent privatisations of JPS have been opaque one-on-one deals between the government and the investors, and in one case there was no competitive bidding. Having said that, I do sympathise with our negotiators who were trying to sell a dismal asset with a dismal history and uncertain prospects. As in the case of the telecom deal with Cable & Wireless in 1988 there was a large credibility problem because of the antics of governments decades before.

Government’s retained 19.9 per cent share in JPS presents a heaven-sent IPO opportunity that would have many spin-off benefits. If there are competent regulators government need not own the shares in protection of the public. Indeed the capital tied up just carries a heavy cost as like everything else it is essentially using borrowed money.

Modelled on the NCB, Caribbean Cement and TOJ privatisations, free and discounted shares can be made available to customers and employees up to limits. Since JPS has about 610,000 customers on the books, this is the best opportunity to dramatically increase the number of persons who could own a direct stake in the formal economy. NCB’s privatisation raised 35,000 applications and was hailed as “Jamaica’s Big Bang” by Gleaner columnist Basil Buck in 1986. This JPS opportunity would be nearly 20 times the size in terms of democratisation!

The impact

If JPS is crudely valued at (say) 6x EBITDA the government’s stake is worth J$13.7 billion. If it allowed each employee 5,000, and each customer 1,000, free and discounted shares, the discount would reduce the proceeds by a maximum of just J$1.7 billion, still netting J$12 billion for the fiscal budget. The market capitalisation of the Jamaica Stock Exchange would increase by J$13.7 billion and better place it on the map. At net book value, the proceeds would be about 70 per cent of the above numbers. If this IPO would be too large for the local market to take up at one bite, then payment could be by installments similar to the UK privatisations in the 1980s.

Long-term financial institutions like life insurance companies and pension schemes, as well as mutual funds, which take in huge sums of money from savers that must be invested every month, would find a welcome way to diversify their portfolios without having to seek out foreign investment to that extent.

Reality check

But here is the reality check: The minister has stated that he is determined to revamp the industry structure, and whilst we should all hope that he will be able to introduce a meaningfully competitive framework, the JPS business model would be significantly impacted — so in protection of the new shareholders it would be best not to do an IPO until after the dust settles on that issue, which is discussed below.

Competition opportunities

How can the provision of electricity in Jamaica be made competitive? It’s difficult, even though perhaps now theoretically legally possible (I did not say feasible) despite the exclusive licence that has been issued to JPS.

Without more, IPPs are not the answer

At present there are independent power providers that sell electricity to the JPS grid, but this does not result in a competitive situation as the transmission and distribution networks, both owned by JPS, is the only possible customer at present — and it owns the vast majority of the generating capacity as well and is allowed to bid on new generating projects until 2028.

In an ideal world, if a transmission entity were to be owned separately from the generation and distribution entities, the entire landscape could be changed. The transmission grid could decide from which generators to buy power at different times depending on quoted prices. Local distribution companies, true natural monopolies, would buy from the grid with each having one or more service area monopolies and sell at rates agreed with regulators. However, large end users like hotels and industrial enterprises could have direct deals with generators who would pay a fee to the transmission company for wheeling that power through the grid and this would provide some competition at the distribution level.

This is more or less the system that operates in the UK, but it is undergoing refinement now to cater to the objective of encouraging more renewable energy generation.

Validity of JPS all-island monopoly licence

In January 2015 the Jamaican Court of Appeal seems to have concluded that, although the licence held by JPS giving it the exclusive right to transmit, distribute and supply throughout Jamaica that expires in 2028 was within the minister’s authority to issue, that fact does not fetter the minister’s duty to consider other applications to transmit energy in Jamaica and cannot fetter him from issuing other licences.

On the assumption that other transmission and distribution entities can be licensed, then competition is theoretically possible. However JPS investors would probably have a “suable” grievance as the basis on which the investment was made would have been altered to JPS’ detriment — so it may not be feasible.

I’m sure it can be negotiated, and from experience I can say that if one is in a deal with the government or anyone else that is unbalanced, “something’s gotta give” and reason will prevail if “win-win” is the objective of mature good-faith, negotiators .

Since the licence is valid, how can competition be introduced?

For true competition JPS should divest either its generating capacity or its transmission system, but the minister probably cannot force unbundling. Unbundling might become automatic if independent generating increases, but JPS has the right to bid on new generation until 2028 and, given the synergistic benefits, JPS can provide better financial bids. This may be why it has been difficult to attract high-quality independent bids to date.

Can there be other investment in transmission to introduce competition? The opportunity might be in the North Coast and the North-South corridor in the West is not well served. An upgraded transmission grid with distributed generation is needed, and the latter should be a condition for whoever does the upgrade or replacement. If JPS declines, then a new investor can be sought and that could be the breakthrough.

Renewable energy and by-product suppliers

The policy difficulty concerns the price for electricity sold to the system. If JPS must pay what it charges (“net metering”) JPS is uncompensated for its transmission and distribution assets. Payment at the avoided raw generating cost will discourage renewable energy projects as they are thereby more exposed to the vagaries of the cost of hydrocarbon power.

Transitionally, the difference could be subsidised and that could be a part of the US assistance mentioned by President Obama recently. There could be a contingency fund built up from the difference between net metering and avoided cost drawn upon when fuel price levels render avoided cost less than the cost of producing sustainable energy. Carbon reduction rewards could also come into the equation.

In Part 3 of this three-part series I will discuss privatisation opportunities in the water system and present conclusions from the whole series.

Richard Downer, CD, FCA, has been an advisor to the governments of 16 countries on utility privatisation strategy and transactions and was in charge of several large-scale privatisations in Jamaica. He may be reached at: rldowner@hotmail.com