OVERSEAS INVESTMENT: IS NEW ZEALAND 'OPEN FOR BUSINESS'?

1. OVERSEAS INVESTMENT: IS NEW ZEALAND 'OPEN FOR BUSINESS'? Presented to the Law and Economics Association of New Zealand 12 July 2010 Bronwyn Howell1 & Dave Heatley2 1General Manager bronwyn.howell@vuw.ac.nz 2Research Fellow dave.heatley@vuw.ac.nz http://www.iscr.org.nz

2. OVERSEAS INVESTMENT • Economic growth • “economic growth will occur if property rights make it worthwhile to undertake socially-productive activity” (North & Thomas, 1973) • clearly defined property rights, individuals free to bargain with each other ⇒ rights traded so as they are owned by those whose ownership confers greatest value to society • buyer, seller both better off than if trade did not occur • society better off unless there are negative externalities in excess of private gains • NZ policy position (Cullen, 2003) • “committed to maintaining a liberal investment regime because NZ needed foreign capital … to develop the economy to its fullest potential”

3. WHY SCREEN OVERSEAS INVESTMENT TRANSACTIONS? • Some overseas investments might have net external costs (in NZ) that exceed the net private benefits • desirable to prevent such investments if net costs are high and risks cannot be easily diversified • Some overseas investments might have particular risks • investor character • nature of asset • ‘strategic’ importance? • No need to intervene as long as net benefit is positive • private gains exceed external costs • compensation could (but need not) be paid by ‘winners’ to ‘losers’ (Kaldor-Hicks Criterion)

4. SCREENING CREATES ADDITIONAL COSTS • Transaction costs • uncertainty, delays and statutory requirements may discourage worthwhile investments • Risk allocation • current owner(s) bear risk of proposed transaction being prevented • cannot sell to highest valuer ⇒ opportunity cost • Screening should therefore focus on transactions posing greatest risk to NZ economy

5. OVERSEAS INVESTMENT ACT 2005 • Purpose statement • “to acknowledge that it is a privilege for overseas persons to own or control New Zealand assets” • Three distinct asset classes • significant business assets (over $100 million) • sensitive land • over 5ha of non-urban land, or smaller parcels (as small as 0.2 hectares) of foreshore, seabed, conservation land, etc. or properties adjoining such land • businesses (of any size) with an interest in sensitive land • fishing quota [not considered in this research]

6. THREE DISTINCT TEST TYPES • Good character of applicant(s) • all applications • Economic tests • only apply to land transactions • investment must be of benefit to New Zealand and/or New Zealanders (positive benefits test) • if over 5ha of non-urban land, then benefit must be significant and identifiable (significantly positive benefits test) • Process tests • must ensure farm land has been offered to potential NZ purchasers before transaction can be approved • Crown has option to purchase foreshore, seabed, riverbed or lakebed

8. THE ACT IN PRACTICE I • Land is special • No economic test applied to businesses without land • Screening applies to very small land parcels • Incentive to structure businesses to avoid land tests • Highly discretionary process • Benefits test is superficially like a cost-benefit analysis, but arbitrary weighting of specified statutory factors is permitted – supporting any preconceived outcome • Risks of future negative outcomes can be weighted more highly than certain current gains • Evidence that private benefits are excluded from consideration • ‘locks in’ existing (unwilling) owners • lowers value of (and incentive to create) NZ business assets

9. THE ACT IN PRACTICE II • Decisions made by Ministers • or delegated to Overseas Investment Office (OIO) • Limited transparency • increases transaction risks • Judicial review on process • but not on substance of decisions

10. CASE STUDY METHODOLOGY • Considered all OIA determinations in 2008 • 130 approved, 4 declined • 112 involved sensitive land • Chose four case studies that demonstrated specific issues with the Act: • Consistency of application and low transparency • Costs and benefits considered • Unintended consequences • Scope for gaming the system

11. 1. J.O. Adams & Son Limited Pension Fund • Applied to purchase 61.8ha of land near Taihape adjacent to their existing farm. Declined in October 2008: • “The overseas investment transaction has not satisfied the criteria in section 16 of the Overseas Investment Act 2005” • However and application for the purchase of the same land by the same purchaser was approved in February 2009: • “The overseas investment transaction has satisfied the criteria in section 16 of the Overseas Investment Act 2005. The 'substantial and identifiable benefit to New Zealand' criteria were satisfied by particular reference to the following [nine] factors…” • Lack of transparency - what had changed in the interim?

12. 2. Auckland International Airport Limited • Canadian Pension Plan Investment Board $1.7bn partial takeover of 40% of Auckland airport • Transaction involved sensitive land (but peripheral to operation of airport) • Politically sensitive transaction with a high level of documentation • Minister of Finance directed Treasury to draw up legislation to prevent the transaction. Treasury recommended a new factor which was added to Regulations during the assessment process • Difficult to see how any overseas investment could “assist New Zealand to maintain New Zealand control of strategically important infrastructure on sensitive land”

13. 2. Auckland airport assessment • OIO assessment recommended sale proceed • ignored private benefits to New Zealanders (estimated at $331m from premium offered on share price) but recommended approval based on ‘significant and identifiable’ historic heritage and walking track access benefits • Ministers overrode OIO assessment. Private benefits also ignored. • ‘not persuaded’ that a positive benefit existed as to “whether the overseas investment will, or is likely to, result in added market competition, greater efficiency or productivity, or enhanced domestic services in New Zealand” • ‘unknown’ “whether the overseas investment will, or is likely to, result in the introduction into New Zealand of additional investment for development purposes” • Ministers’ rejection did not require the ‘strategic infrastructure’ test

14. 2. Auckland airport implications • Poor Act design • Decision makers chose to ignore private benefits (prima facie evidence of greater economic efficiency) • But even if private benefits had been acknowledged, decision-makers could have chosen to assign a zero weight • Act thus permits almost any decision, principled or otherwise • Decisions are political • No redress for losers • NZ shareholders $331 worse off • Opportunity cost to NZ economy substantial

15. 3. Taharoa Iron Sands • BlueScope Steel (100% Australian owned) agreed to sell Taharoa Iron Sands mining operation to Cheung Kong Infrastructure (100% China-Hong Kong owned) • ‘sensitive land’ – exceeds 0.2 hectares adjoining foreshore • application to OIO included plans for CKI to invest to increase mine output • Global Financial Crisis means CKI could not proceed with investment plans but still wished to purchase operation under original terms • OIO declines application: failed to meet ‘substantial and identifiable benefits’ test

16. 3. Taharoa Iron Sands implications • Simply change of foreign owners • unwilling owner locked into ongoing ownership • willing owner locked out • Proposed transaction had no net detriment to NZ • but Act required it to pass strictly positive benefits test • costs of rejection not considered • Foreign owners of NZ assets bear economic risks outside their control • increased risk ⇒ lower price offered by all foreign purchasers • NZ firm values overall lower as consequence • reduced incentives to start firms in NZ • if likely to be ultimately sold to foreigners

17. 4. Wellington Electricity Network • OIO approved 100% sale of Vector Wellington Electricity Network (WEN) to Cheung Kong Infrastructure • Significant business asset (>$100 million) • Electricity lines business with over 2500km of infrastructure • But no economic tests applied – only investor character test • As no ‘sensitive land’ involved the ‘strategic infrastructure on sensitive land’ factor not assessed • Scarcely credible given nature of business (decision made after inclusion of regulation to preclude such transactions during AIA) • Was business “carefully structured” to avoid scrutiny under the land-based tests? (Hansen, 2008) • ‘Gaming’ to avoid scrutiny is ultimately costly to the NZ economy • Exposes weakness of the Act for assets that do not involve sensitive land

18. CONCLUSION • Act in its current form is harmful to NZ’s economic growth prospects • Recommendations: • Economic tests should apply to all applications • Assessment processes must follow principled cost-benefit analysis guidelines • Include private benefits accruing to New Zealanders • No arbitrary weightings • Criteria for ‘sensitive land’ definitions should be relaxed • To reduce requirements that small, low-risk transactions be assessed • If some assets are so sensitive that foreign ownership can never be contemplated, then separate instruments to control their ownership will limit economic harm and reduce uncertainty arising from current processes • Transparency is paramount to reduce uncertainty • Allow an appeals process • Holds decision-makers accountable for decision quality

19. THANK YOU • Heatley, D. & Howell, B. (2010). Overseas Investment: is New Zealand Open for Business? ISCR Working Paper. • http://www.iscr.org.nz/f578,16550/16550_Overseas_Investment_Act_paper_v20_15Jun10_.pdf