Privatization, foreign acquisition, and firm performance: a new empirical methodology and its application to Hungary.

• Author: Iwasaki, Ichiro
• Position: Report

1. Introduction

   The privatization of public enterprises is becoming increasingly common throughout the world due to the globalization of market principles. This process began in the West with the U.K. as it adopted a denationalization program under the leadership of Margaret Thatcher, and it then spread to other industrialized states and developing countries. At the end of the 20th Century, when state socialism came to an end, privatization became an overriding trend in the international political and economic arena. The perception of the boundary separating public and private enterprises has changed considerably in the last 20 years. The denationalization process has grown steadily, even in such sectors as post services and social securities services, which were once believed to be traditional state-run businesses.

   The philosophical foundation of the widespread privatization of public enterprises currently observed in many countries lies in the high degree of trust in the overwhelming advantage of private over public ownership in terms of efficiency. Many citizens now expect that the transfer of public firms to private owners could alleviate the financial burden of the state as well as significantly improve the management efficiency of privatized firms themselves, remarkably contributing to the betterment of society. Accordingly, it has become an important subject of contemporary economics to ascertain whether such an expectation is feasible. In response to this demand, many studies pioneered by Megginson et al. (1994) and Boubakri and Cosset (1998) have been conducted, which repeatedly verified the positive change in firm performance before and after privatization through case analyses of industrialized and developing countries. Furthermore, it is almost certain that the effect of privatization was observed in enterprise privatization in the post-communist states. In fact, reviewing the recent literature on privatization in transition economies, Estrin et al. (2009) conclude that the effect of privatization has been mostly positive in Central and East European countries (CEECs). In contrast, it has been negligible or even negative in the Commonwealth Independent States. Nevertheless, privatization to foreign owners resulted in considerable improvement of the performance of former state-owned enterprises (SOEs) virtually everywhere.

   On the other hand, however, most previous studies fall short in identifying whether these effects are due to the privatization process itself or to other factors (Omran, 2004). Furthermore, many studies focusing on the effect of a new ownership structure on a firm's performance following privatization fail to identify a statistically significant relationship between the two elements. This is particularly so for studies covering transition economies (Dewenter and Malatesta, 2001; Harper, 2002; Megginson, 2005; Aussenegg and Jelic, 2007). Therefore, despite the strong belief of economists in the superiority of the private sector over the state regarding ownership structure, no empirical study on privatization has presented a definitive conclusion regarding this point.

   Using annual census-type data of Hungarian enterprises for the early 2000s, we analyze the impact of ownership transformation from the state to the private sector on firm performance in the post-privatization period. Unlike the early transitional period, which witnessed an economic crisis triggered by the collapse of the COMECON system and large-scale institutional changes leading toward a market economy, the early 2000s is a suitable time to investigate the relationship between the privatization and firm performance in Hungary because of the stability of the social and economic circumstances and the legal system at the time. Furthermore, as explained later, the data we employ cover almost all business firms, including SOEs, therefore ensuring the representation of the Hungarian corporate sector. The data available, however, limits any study of performance among these companies to two years after privatization. An insufficient observation period poses a significant obstacle to empirical analysis of the effects of privatization policies.

   To deal with this problem, we present a new empirical approach, which nearly ensures the identification of the impact of ownership transformation even if short-term data are used. The essence of the proposed methodology is to reject the null hypothesis, in which the effects of ownership transformation are zero, by regressing a variety of performance indices into the scale and the type of ownership transformation and then synthesizing the estimates (effect size) using meta-analysis techniques in order to fully capture restructuring efforts by new owners and managers of privatized enterprises. Meta-analysis is a precise scientific method to combine the results from individual studies for the purpose of integrating the research findings. There are plenty of examples of applications of meta-analysis in the fields of education, psychology, and the biomedical sciences (Hartung et al., 2008). Meta-analytic work can be broadly classified into two categories: (a) tests of the statistical significance of combined results and (b) methods for synthesizing estimates across studies (Hedges, 1992). Owing to great efforts by statisticians, we now have a variety of approaches from the vote-counting method to meta-regression analysis. (7)

   As the empirical literature grows, economists increasingly apply meta-analysis as a quantitative method in literature reviews with the aim of drawing a general conclusion on a targeted research topic. Although there are only a handful of studies, meta-analysis has also been applied to the literature on transition economies, such as Djankov and Murrell (2002) on enterprise restructuring, Fleisher et al. (2004) on returns to schooling and the speed of reforms, Egert and Halpern (2005) on equilibrium exchange rate, Fidrmuc and Korhonen (2006) on the business cycle correlation between the Euro area and the CEECs, and Iwasaki (2007a) on enterprise reform and corporate governance in Russia.

   As described above, meta-analysis is a statistical method designed primarily to combine empirical results across studies conducted by different researchers and institutions. It is also quite effective, however, for summarizing various tests conducted within a single study (Borenstein et al., 2009). The approach in this study focuses on this latter function of meta-analysis. More concretely, we perform more than 4,000 regression trials using a large-scale panel data of Hungarian firms and integrate this large correction of estimation results by various meta-analysis techniques to test the hypothesis on the effect of enterprise privatization and foreign acquisition. Because everything is self-contained when conducting meta-analysis, we can prevent the so-called "publication bias" and other problems from occurring due to the lack of commonality of model structures and variables. Moreover, the researcher's arbitrariness can be effectively eliminated by setting no limitations on the firm performance to be analyzed.

   Our empirical analysis confirmed that the ownership transformation from the state to the private sector has statistically and economically significant impacts on post-privatization firm performance in Hungary. We also found that there are clear differences in the performance improvement effects among privatization implemented with no lower limit on the scale of ownership transformation, privatization with strategic control rights, and full privatization. Moreover, we found that ownership transformation to foreign investors has greater positive impacts on firm performance than that to domestic investors. These results were obtained with due consideration to the selection bias of the privatization decision by the Hungarian government and acquisitions by foreign investors and by controlling other potential determinants on firm performance in the post-privatization period. The advantage of using regression coefficients in meta-analysis over using odds rates or single correlation coefficients is that multivariate regression makes it easier to take such analytical measures when estimating the effect size of ownership transformation.

   The remainder of this paper is organized as follows. The next section reviews the privatization policy in Hungary. Section 3 contains testable hypotheses. Section 4 describes the data employed for this study. Section 5 explains our empirical methodology, and Section 6 presents the empirical results. Section 7 concludes the paper.

2. Overview of Privatization Policy in Hungary

   Unlike Russia and the Czech Republic, Hungary avoided, as much as possible, giving away public assets to private interests and, instead, thoroughly pursued the direct sale of public assets to strategic investors, including foreigners. This privatization strategy was, in principle, applied to all industries across the country. As a result, almost all of 1,859 former socialist enterprises designated in 1990 as to-be-privatized firms had become completely privately owned or liquidated by the end of the 1990s. (8)

   The policy approach during the large-scale privatization period was substantially passed on to the privatization process in the early 2000s or even strengthened under strong pressure from the European Commission to balance the national budget before accession to the EU (Iwasaki and Suganuma, 2009), leading to the steady privatization of dozens of government-owned companies left in the portfolio of the Hungarian Privatization and State Holding Company (APV Rt.) and other public firms, mainly through open bidding. In fact, due to this firm policy of the Hungarian government, the share of SOEs in the total number of employees and total added-value for 2002 (2005) shrank to 15.0% (12.0%) and 17.6% (15.6%), respectively, suggesting that the state sector is now playing only...