The reason state enterprises keep bleeding trillions

Pakistan's state-owned enterprises (SOEs) have suffered a staggering cumulative loss of Rs5.9 trillion since 2014. There are multiple reasons for this. Among them, for example, are chronic operational inefficiencies such as poor cost controls, outdated systems and weak financial discipline. This, in turn, leads to corruption. Employees in key positions use their privilege to get kickbacks in procurement and the award of contracts.

Weak financial controls mean that such corruption often goes undetected. And if it is detected, the perpetrators fear no reprisals, due to the incompetence and often collusion of security agencies tasked to investigate such corruption.

There is also the issue of overstaffing and political hiring. Every new government that comes in seeks to induct its cronies into SOEs. A blatant example of this is PIA, a one-time leader in aviation, which is now reduced to a shadow of its former self primarily by politically motivated overstaffing.

Mismanagement and weak leadership often result from the lack of professional and merit-based hiring and promotions. Anytime a strong, competent leader is appointed, usually by accident, the establishment, realising that he is not pliable to their whims, gets to work to remove him. This has happened in recent years, for example, at Pakistan Petroleum Limited (PPL), an incident to which I was personally a witness.

The absence of competent leadership results in the lack of accountability, poor or no strategic planning, resistance to reform and failure to innovate. In today's highly competitive business environment, these failures amount to the kiss of death for any organisation.

One could make a powerful argument that all the ailments mentioned above result from a single overriding failure. And that is the lack of an independent and professional board. Look across the boards of all SOEs today, and you will see people sitting on them who simply lack the qualifications, competence and industry-specific experience that is needed at this level.

The issue that needs to be looked at is who appoints the directors on these boards and on the basis of what basis. The appointments process works as follows: Nominations of directors to the board are made by the line ministry responsible for that particular SOE. So, in the case of PPL, for example, the Ministry of Petroleum – or the Petroleum Division (PD), as it is now called – nominates a panel of directors. This is sent to the federal government, which is the approving authority.

That the line ministry has the responsibility for nominating directors sits at the heart of the problem. The reason is that the PD is also the regulator of PPL. So, there is a fundamental conflict of interest in having the regulator select the board of a company it regulates.

It gets worse. Senior officials at the PD nominate themselves as members of the board, which means that, on a board of 10 directors, three or four will be ministry bureaucrats. And of course, the other so-called independent directors will be people they – the officials – have nominated. Any reasonable arbiter of corporate affairs will accept that a board so constituted is not only conflicted but can also never be independent.

Consider now the following direct quote from Section 17 of Chapter 6 of the SOE Act 2023, which regulates the governance of SOEs: "The Board (of an SOE) shall be given autonomy and independence in the discharge of its functions under this Act or any other applicable law in accordance with the adopted business plan and no administrative or standing instructions by any Division of the federal government shall apply to any state-owned enterprises."

Or to put it in simpler language: The board must act independently of the federal government! So, how can a board whose directors owe their positions to PD officials, and on which sit several of those same officials, possibly be independent of the federal government? By definition, it cannot.

And the problem does not end there. The appointing PD officials only appoint people with one of two traits. One, those who will follow instructions from the PD. Or two, those who have political connections. This is what, in the world of chess, is known as checkmate. There is zero probability that such a board will be independent – an outcome that directly violates the government's own regulations.

Notice what has happened here. The board has become an instrument of the line ministry. It is a rubber stamp, a ruse to camouflage the reality that the SOE is just another department of the ministry, controlled by its officials to serve their own personal interests.

I have used PD here merely as an example. The same happens at all line ministries regarding the SOEs they regulate. If this subjugation of the SOE to the relevant line ministry is indeed the government's intention, then why continue with the elaborate façade of a rubber-stamp board? Better to do away with it and hand control of the SOE directly to the ministry. At least this way, when things go badly, it will be clear who is responsible. If the government is serious about appointing independent boards of SOEs, as it seems to claim in the SOE Act 2023, then as a first step, it must take away responsibility from line ministries of appointing directors to these boards. And further, ban line ministry officials from sitting on the boards of the SOEs they regulate.

The responsibility for appointing SOE boards must pass to a body that itself is independent of the government. This could be, for example, a committee composed of the heads of key professional organisations such as the heads of ICAP (Institute of Chartered Accountants), PBC (Pakistan Bar Council), PIDE (Pakistan Institute of Development Economics), PEC (Pakistan Engineering Council) and Pakistan Academy of Sciences (PAS). The committee can also include CEOs from several prominent private sector companies and banks.

This "SOE boards nominating committee" would be entrusted with nominating directors for all SOEs for subsequent confirmation and appointment by the government. Such a procedure would virtually guarantee the independence of SOE boards.

Clearly, this single reform of appointing independent boards is not a panacea. The problems of SOEs are deep and manifold. But there is no doubt that this important first step will go a long way to at least stem the deepening rot and start the process of recovery.

The writer is Chairman of Mustaqbil Pakistan and holds an MBA from Harvard Business School