COMMONS AMENDMENT (Hansard, 22 July 1999)

§ Baroness Rawlings
My Lords, I beg to move that the House do disagree with the Commons in their Amendment No. 4. I thank the Minister for his helpful explanation of this highly technical clause and I believe it is of significant importance. We wish, however, to look at this provision more closely as we feel that the Government whisked their amendment through at the very end of the Committee proceedings in the other place.
Our somewhat ham-fisted amendment is intended to provide the opportunity to scrutinise more carefully the consequences of the clause. The effect of our amendment would be that the CDC would be barred from being regarded as an investment company.
1187 Why has the change been brought in so late? Is it again because of difficulties in negotiations with other departments? What were the objections to allowing this sort of modification to the Companies Act? Can a PPP only be cobbled together by making exceptions—by tailor-making both tax provisions and company law? Is it not the case that good will is not sufficient to set up a partnership, and a whole raft of exceptions are necessary to get the PPP to take off? What sort of precedent does the arrangement set for future PPPs? Are the Government as enthusiastic about PPPs now as they were before encountering the difficulties of constructing the first one? I should be grateful for the Minister's reply to those questions.
We are told that the purpose of the amendment is to place the CDC on such a footing as to make it comparable with other investors in emerging markets, which are usually investment companies. Given the nature of those markets, an investor buying into CDC will not be like Sid, who picks up a few shares in any old public utility because his mate told him so over a pint of beer. The investors we are talking about are far more sophisticated and they can clearly see that the CDC is a peculiar investment company. Does the Minister not think that will not affect their decisions negatively?
Even if my suspicions are only partly correct, I wonder whether we are dealing with a device to improve presentation. To what extent do these provisions amount to a mere gimmick to make the CDC look more attractive? If I understand the mechanisms correctly, an investment company can reflect unrealised gains both on its balance sheet and on its profit and loss account. That means that unrealised gains would be fed into the equation for calculating the return. If the investments are good, those unrealised gains will help to push up the CDC return from its exceptionally poor 1998 level of minus 3.4 per cent. The increase in return that we are likely to witness between this year and next will not be directly comparable if in the meantime the CDC has become an investment company. Is this measure just a sweetener for investors? I beg to move.

§ Lord Redesdale
I am grateful for the interpretation of the amendment given by the noble Baroness, Lady Rawlings. I was slightly surprised when I saw it on the Marshalled List, considering that it is precisely the issue for which we have been fighting. On reading Amendment No. 4, I note that it fully meets the expectations I had and fulfils the criteria that the Liberal Democrats wished it to fulfil.
I have one question on the amendment. At every stage of the Bill we were told that at the next stage this tax exemption would be put forward as part of the Bill. At what point were the Government able to finalise the agreements? I got the impression from reading the Hansard report of the other place that it was only at the last minute there—let alone at Committee, Report or 1188 Third Reading stage in your Lordships' House—that the exemption was added. I believe that certain reasons were given, not the least of which was the European dimension of the nature of the tax exemption.
I realise that this is an exceptional Bill and it is unlikely that such problems will arise again, but I would be grateful if the Minister in his reply could give us a chronology of the development of this amendment.

Viscount Eccles
My Lords, for some two and a half years I was on the board of the CDC and for some nine years I was its chief executive. We always sought a degree of tax exemption and we did not get it, so it would be difficult for me now to argue against the CDC becoming in some form tax exempt. However, I wish to make a couple of points.
The way in which the information has arrived that CDC would become tax exempt has been somewhat hurried. It is difficult on first reading of the amendment to understand exactly how far the tax exemption would stretch. There was a previous argument about whether the CDC should go offshore, and it was decided that it should not. Because all its investments are offshore, if it went offshore itself it would not be taxable in the UK anyway. That argument has already been fought out and I do not wish to go over it again.
Within the conversations about tax exemption there was some implication that it would not apply to the CDC if it earned fee income. It would only apply to tax on its investment status, and corporation tax would apply normally. There is a longer term issue about what might or might not happen when or if the golden share is no longer held by the Government, but that is probably better discussed on another amendment. I would be grateful for a little more information on how we got to this position and whether it is water-tight.

§ Lord McIntosh of Haringey
My Lords, it is an anomaly of the procedure of your Lordships' House on consideration of Commons amendments that we move straight to a speech on disagreement before I have had the opportunity of explaining what the amendment does. That is contrary to the way in which we normally deal with such matters. The noble Baroness, Lady Rawlings, was entirely in order when she did what she was invited to do, but it seems to me to be the wrong way around.
The purpose of this amendment is to permit CDC to have the status of an investment company for the purposes of the Companies Act. The CDC's business is in substance that of an investment company. It will seek funds from investors by offering active management of its investments and the spreading of risk. Although it does still have holdings of senior debt, its investments in recent years have increasingly taken the form of equity and risk capital. As noble Lords who took part in earlier proceedings will know, it is our intention to intensify that trend. However, because of the nature of the countries in which it operates, it does not meet all the technical requirements of the Companies Act definition of an investment company. This amendment allows it nevertheless to have the status of an investment 1189 company by not applying to the CDC—and to the CDC alone—the requirement to meet these specific Companies Act criteria.
That has two practical effects. The first is that CDC would be permitted to prepare its accounts in the way that investment companies do, which is different from other companies. In particular, it allows investment companies to reflect unrealised gains on investments in its accounts. We are advised that potential investors will see and value CDC as an investment company, and will expect it to account in this way.
The second point concerns distribution of profits. Companies other than investment companies can, broadly, only pay dividends from accumulated realised profits less accumulated realised losses, without distinction between revenue and capital. Thus, for example, if a company made revenue profits but capital losses it may not be able to make a distribution. Investment companies on the other hand can in addition pay dividends from accumulated realised revenue profits minus accumulated realised revenue losses, and so may he able to pay dividends even if they make capital losses. That reflects the fact that an investment company's business is subject to fluctuations in the value of its investments which are classed as capital assets, and can be affected by provisions, for example, against transient restrictions on remittability of funds from abroad, which do not reflect on the underlying soundness of the investment. It would not be possible to list the CDC as an investment entity without the secure prospect of regular dividends, and it is therefore important that, like other investment entities, CDC is able to make distributions in this way.
There are three reasons why the CDC will not be able to meet the Companies Act requirements. First, it will need to retain more than the permitted 15 per cent of its income from securities. Secondly, it holds more than the permitted 15 per cent by value of its investments in subsidiaries. Thirdly, initially, it will not be listed. Those are set out in the amendment and unless your Lordships wish to press me on the point I shall not describe in detail how it works.
The reason for the first of these is that in countries where the CDC invests, where sophisticated stock markets often do not exist, it is necessary to look for gains through higher income returns rather than through crystallisation of gains on exit from a transaction, as tends to be the case in western venture capital transactions. Since a high proportion of the CDC's returns will therefore come from income, a requirement to retain not more than 15 per cent would significantly affect its ability to reinvest.
The reason for the second is that because of shortages of management capacity as well as capital in developing countries, the CDC sometimes needs to exert management control or is unavoidably the largest equity participant, so it has a higher proportion of majority owned subsidiaries than would be allowed. It would not be able to fit either of these criteria without changing the whole nature of its business. The listing point, on the other hand, is essentially a transitional issue.
1190 Noble Lords asked about the timing of Amendments Nos. 4 and 5. I shall try to deal with them together. I acknowledge that it will be later than we would have wished. When we first introduced the Bill here we wanted to have the taxation and investment company provisions on the face of the Bill. It is not a matter of power struggles; it is a matter of trying to get it right. We have come up with a solution which is particular to the CDC. The investment company provisions in Amendment No. 4 are tailor-made only for the CDC. They are not applicable to anyone else. They do not provide a precedent for future public private partnerships. They do not indicate a change in the Government's views about public private partnerships in general. They are serious exceptions. They have been made because this is a different case. I hope that noble Lords will feel that this amendment and Amendment No. 5, because they are so carefully thought out for the purposes of the CDC, are worthy of approval.

§ Baroness Rawlings
My Lords, I am grateful to the Minister for his detailed answers to our questions. We hope that the CDC, which has been such a successful company for so many years, will be able to continue in its dedicated wonderful work after all the dramatic changes have been made.
I thank the noble Lord, Lord Redesdale, for his contribution to the debate and for the wise intervention from my noble friend Lord Eccles who has had great experience with the CDC. I do not believe that at this stage there is any benefit in dividing the House arid I beg leave to withdraw the Motion.

§ Lord McIntosh of Haringey
My Lords, I beg to move that the House do agree with the Commons in their Amendment No. 4.