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Royal Mail Classification in National Accounts following Government's Sale of Shares

Released: 19 November 2013 Download PDF

Abstract

This is an overview of how the floatation of Royal Mail plc. in October 2013, will be classified in the National Accounts and Public Sector Finances.

Executive Summary

In October 2013, the UK Government floated Royal Mail plc. on the London Stock Exchange, selling 60% of the firm to investors. At the same time a 10% shareholding was also given to eligible employees (the majority of Royal Mail's workforce). These shares were free but subject to restrictions on their sale for a period of three years. As a result, the Government was left with a 30% stake in the company.

The ONS reviewed the status of Royal Mail following this, coming to the decision that the company should be reclassified from a 'Public Non-Financial Corporation' to a 'Private Non-Financial Corporation', taking it out of the public sector.

For all resulting transactions the offer price of £3.30 per share will be adopted. Subsequent changes in the value of shares will be reflected through revaluation of the share assets in the national balance sheet. The exception is the shares gifted to employees for which no market will exist until constraints on the employees ability to hold and transact the shares are removed in 2016; the offer price of £3.30 will be retained for their valuation until this point.

The 10% of shares gifted to eligible employees are treated as a gift from the Public Sector to the Household Sector. This results in a capital transfer of around £0.3 billion between these sectors.

The ONS will review this decision; in particular with regard to information on the voting behaviours (propensity to vote, distribution of votes) at Annual General Meetings. This review is currently expected to be completed within 18 months of this publication.

Context of National Accounts Classification Decisions

The National Accounts provide a framework for describing what is happening in national economies.  These are compiled using internationally agreed definitions and standards, and in accordance with guidance issued by Eurostat (the statistical body of the European Union).

All institutional units (such as businesses, Government departments, or charities) operating within an economy are grouped together with other similar units into a number of 'institutional sectors'. Additionally, all transactions between the sectors of the economy are also categorised as part of the National Accounts framework. This includes classifications of bodies to the public or private sector. Work to establish appropriate classifications is a key input into the National Accounts.

Classifications are particularly pertinent in the area of public expenditure, revenues, borrowing and debt.  This applies both domestically, and within the European Union. For example, in the European Union statistics based on the 'European System of Accounts' 1995 (ESA95) are used in:

  • the Maastricht Treaty Excessive Deficit Procedure measures, particularly for estimates of government debt and deficit, where they determine the 'convergence criteria' for potential entrants to the monetary union, and performance against the Growth and Stability Pact for Eurozone members; and

  • the measurement of Gross National Income (GNI), one of the main determinants of member states' contributions to the European Union's budget.

It is a legal requirement for European Union countries to compile specified statistical returns on the basis of ESA95.  The United Kingdom National Accounts are produced by the Office for National Statistics (ONS) on this basis. Further guidance is contained in Eurostat’s 'Manual on Government Deficit and Debt' (MGDD), and additional clarification is contained in the 'System of National Accounts' (SNA) 1993.

From 2014 onward, European states are required to produce National Accounts on the basis of the latest standards, codified in the European System of Accounts 2010 (ESA10). This update is consistent with the 2008 revision of the System of National Accounts (SNA08) and will be accompanied by an updated Manual on Government Deficit and Debt.

In the UK, since 1997 the fiscal policy frameworks have also been based on the National Accounts.  Fiscal policy objectives described are in terms of statistics based on National Accounts aggregates; as a result key fiscal targets are dependent on National Accounts definitions and classifications.

Classification decisions for National Accounts purposes are taken by the National Accounts Classification Committee (NACC) within ONS. This is supported by a small secretariat and makes recommendations for consideration by Caron Walker (Director of Collection and Production) who may choose to accept the recommendation and approve the proposed classification, or refer the issue back to NACC for further work.

Background

1 Royal Mail plc.

The Royal Mail has a long history dating back to 1516. It is the sole provider of 'universal service' delivery in the UK, under which it provides postal deliveries six days a week on a 'one-price-goes-anywhere' basis, serving over 29 million addresses throughout the UK1.

Royal Mail plc. was established in September 2013 to oversee the postal delivery business. Its main subsidiary is 'Royal Mail Group Ltd.', which operates UK and international parcels and letters delivery through its 'Royal Mail' and 'Parcelforce Worldwide' brands. It turn, this company has a number of subsidiaries including European and International Operations, and several majority owned partnerships with other companies.

'Post Office Ltd.' (known as 'Post Office Counters' until 2001) runs the network of Post Offices. It was a subsidiary of Royal Mail Group ltd. until April 2012, when all shares in this organisation were transferred to 'Postal Services Holding Company plc.' (formally known as 'Post Office Holdings plc.'). Post Office ltd. has operated independently since that date.

Postal Services Holding Company plc. is wholly owned by the UK Government and overseen by the Secretary of State for Business, Innovation, and Skiils. It continues to hold the Government's shares in both Post Office ltd. and Royal Mail plc.

2 Share Sale

In July 2013, the Government announced its intention to sell shares in Royal Mail via floatation on the London Stock Exchange. Through an Initial Public Offering (IPO) launched on September 27th 2013, ordinary shares equating to 60% of the business were admitted for limited trading on the London Stock Exchange on October 11th, with full trading open from October 15th.

At the same time, a 10% shareholding, plus a further 160,000 shares were transferred to the 'Royal Mail Share Incentive Plan'. This formed part of an 'Employee Free Share Offer' through which over 150,000 eligible employees were offered equal portions of this shareholding. However, the shares will be held in trust for three years from the IPO and, while the employees can vote their shares during this time, they do not have the right to hold their free shares in their own name or to sell them. Furthermore, any employees leaving the company during this period will forfeit their free shares (except in certain circumstances such as retirement, redundancy, disability, or death). Such forfeited shares will be re-allocated to other members of the plan and at no point would they be transferred back to the Government.

Overall, this has left the Government with a 30% stake in Royal Mail plc.

Analysis and Classification Decisions

1 Royal Mail plc.

Although at 30% this is a minority shareholding, the key issue for consideration is whether or not holding 30% of voting rights would enable the Government to have overall control of corporate policy. This is in accordance with the guidance given in the System of National Accounts 2008 , paragraph 4.702:

'Because many shareholders do not exercise their voting rights, a single shareholder, or small number of shareholders acting together, may be able to secure control over a corporation, even though they may hold considerably less than half of the total shares. When ownership of shares is widely diffused among a large number of shareholders, control may be secured by owning considerably less than half of the total shares.'

With a 30% stake, the UK Government will remain in position to strongly influence corporate policy. However, there are two key factors which moderate the level of control the Government will have over the activities of Royal Mail plc.:

  1. The company has entered into a 'relationship agreement' with Postal Services Holding Company plc and the Secretary of State (for Business, Innovation, and Skills) which states that they undertake not to 'influence the day-to-day running of the group at an operational level'. Furthermore, it prohibits them from taking material stakes in any subsidiaries. The Government has the right to appoint one non-executive director to the board as long as it continues to hold at least 10% of the company but this is only one position out of 12 on the board.

  2. As of October 28th 2013, three institutional investors have taken significant shareholdings, each over 4% and totalling 18.3% overall. It was judged that the concentration of a significant number of shares with institutional investors would make it easier for a majority of votes to be secured, even in the case of Government opposition.

Proposals for takeovers by 'schemes of arrangement' (where the company's board of directors proposes a takeover to shareholders) were considered in particular because they require support from 75% or more of the shareholders to proceed. Clearly, with a 30% shareholding, the Government would be in a position to block such a proposal if it desired. However, it was judged that this alone was not enough to indicate government control, especially as market investors took stakes in the knowledge that this would be the case.

The National Accounts Classification Committee considered possible impacts on this decision arising from a likely delay in allocation all employee free shares due to elevation in the market price of traded shares meaning the free shares' values had exceeded the individual tax-free allowance so that some shares would not be allocated until the 2014-15 tax year. However, as there is no AGM scheduled until July 2014, this was deemed to be of little consequence and all free shares will be treated as transferred to the household sector from the IPO date.

On balance, the ONS believes that the Government will not have overall control of Royal Mail plc or its subsidiaries. As a result, the Royal Mail will be re-classified as a Private Non-Financial Corporation (S.11002) from previously being classified as a Public Non-Financial Corporation (S.11001). However, the ONS will review this decision with particular regard to information on the voting behaviours (propensity to vote, distribution of votes) at Annual General Meetings.

2 Postal Services Holding Company plc.

This company is wholly owned by the Secretary of State for Business, Innovation, and Skills and exists to hold and manage the Government's shares in Royal Mail plc. and Post Office ltd. It will remain classified to Central Government.

3 Post Office ltd.

Post Office ltd operates the network of 'Crown Post Offices' (generally larger high-street branches). It continues to be a wholly owned subsidiary of Postal Services Holding Company plc. while gaining the majority of its income from market sales and therefore remains as a Public Non-Financial Corporation (S.11001)

Treatment and Impacts of Transactions

1 Creation of shares in Royal Mail Plc.

Royal Mail Plc was incorporated on September 9th 2013 (as Royal Mail Limited); a company limited by 1bn shares of (of nominal value 1p) which were all held by Postal Services Holding Company plc from that time until floatation. This will be recorded as a conversion of the equity held by Government in Royal Mail (AF.516) to 'unquoted shares' (AF.515).

2 Sale of shares by Government

This is the exchange of one government financial asset (AF.515 unquoted shares) for another (AF.2 currency and deposits). However, at the time of floatation these would change from unquoted shares (AF.515) to quoted shares (AF.514) due to being listed on the London Stock Exchange. Holdings of these shares will be recorded to the various sectors that purchased them. These shares are valued at the offer price of £3.30 at the time of sale.

This transaction has no effect on the government deficit (or surplus) as it is simply a re-classification of assets in the Government balance sheet (ESA10 paragraph 20.210).

3 Recording of free shares gifted to eligible employees

As these are unrequited transactions, they are recorded as a capital transfer of shares from Government to Households. However, as above these will change from unquoted shares (AF.515) to quoted shares (AF.514) as they are now listed on the stock exchange. As there will be no market for these shares for three years after the IPO (due to the restrictions on employee free shares outlined in section 4.2, these are valued at the offer price of £3.30 until the time when they become tradeable.

This is the transfer of share assets from Government to households, with no countervailing remuneration made. As such it reduces the net worth of Government but will have no direct effect on the government deficit (or surplus).

 

Implementation and Impact on Key Statistics

The impact of this classification decision on the sale of Royal Mail Group shares will be included in the Public Sector Finances statistical bulletin on 21 November 2013. Only the latest months data (October 2013) will be affected as this is when the sale took place. The changes in the Public Sector Finances are described below according to their impact on net borrowing, net cash requirement and debt.

The impact on net borrowing is caused by the shares awarded to eligible employees. These shares will be recorded as a capital transfer from central government to the private sector. This leads to an increase in central government net borrowing and therefore public sector net borrowing by £0.3 billion in October 2013. This is calculated based on a price of £3.30 for the 10% (plus 160,000) shares provided to employees.

The impact on public sector net cash requirement is primarily from the receipt of cash from the sale of shares. The central government (and the public sector) net cash requirement will be reduced by £2.0 billion in October 2013. This is calculated based on a price of £3.30 for 60% of the shares in Royal Mail. In addition, the cash requirement related to Royal Mail will no longer be included in the public sector, however this is of a smaller order of magnitude.

Public sector consolidated gross debt is calculated from the sum of all public sector liabilities (but where the corresponding assets are held within the public sector the liabilities are cancelled out). All liabilities held by Royal Mail are now in the private sector which means that the non-financial public corporation gross debt position will be reduced by approximately £1.4 billion in October 2013. However, the reduction in the consolidated public sector gross debt position is closer to £0.4 billion because a large proportion of Royal Mail liabilities are owed to central government.

Net debt is defined as gross debt minus liquid assets. Royal Mail liquid assets have been estimated at £0.5 billion for October 2013. The removal of these assets from the public sector leads to an increase of approximately £0.1 billion in the public sector net debt position.

The unwinding of public sector liabilities and assets in the coming months may lead to slight revisions to these debt impacts.

The Royal Mail classification decision will be implemented in the Q4 2013 dataset for National Accounts. The first publication of this dataset will be in the February 2014 publication of GDP.

Further Information

Further information on ONS classifications and the NACC can be found on the National Statistics website.

References and Background Information

1. About Royal Mail Group: http://www.royalmailgroup.com/about-us/who-we-are

2. System of National Accounts 2008: http://unstats.un.org/unsd/nationalaccount/sna2008.asp

Further information can be found in the 'share sale prospectus' and 'pricing statement' available from http://www.royalmailgroup.com/investors/privatisation. These were used for information throughout.

All web references retrieved on 12th November 2013.

Transparency

As part of our Classification process, ONS commit to declare whether advice has been given by ONS during the policy development stage for Classification cases, and in particular if advice has been given more than once.

In the case of the Privatisation of Royal Mail, advice was given on two occasions. In May 2013 HM Treasury and the Department for Business, Innovation, and Skills sought advice on a proposed sale of shares in Royal Mail. On the second occasion, in August 2013, the Government sought advice on a proposal which introduced a cap on voting rights if the proportion of shares held by Government remained above 30 per cent.

It is ONS procedrure to reconsider cases when the policy proposed has changed significantly from that on which advice was previously sought. The National Accounts Classification Committee had never previously discussed caps on the voting rights of shares held by Government. Given this, the August 2013 proposal was considered to be substantially different from the previous proposal and hence was considered by the National Accounts Classifications Committee. In the end, the Government sold 60% of the total shares in Royal Mail, which after accounting for the transfer of 10% of shares to eligible employees, left the Government with 30% stake and so the proposed cap on voting rights was not a material consideration for the final classification.

Background notes

  1. Details of the policy governing the release of new data are available by visiting www.statisticsauthority.gov.uk/assessment/code-of-practice/index.html or from the Media Relations Office email: media.relations@ons.gsi.gov.uk

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