# **7. CONCLUSIONS AND POLICY IMPLICATIONS**

The role of the state in markets is still at play and it can have implications for firm performance. This paper analyzes the performance differentials in terms of operational efficiency measured by labor productivity and financial performance through profitability, liquidity (current ratio and solvency ratio), and return on investments (ROA and ROE) between privately owned enterprises (POEs) and Businesses of the State (BOSs). The latter are defined as firms with state direct and indirect state participation of at least 10% following Dall'Olio et al. (2022). This paper uses two main data sources: firm-level data from the ORBIS financial module and the World Bank’s Businesses of the State (BOS) database.

This paper provides new evidence on the relationship between state ownership and firm performance studying 16 countries in the European and Central Asia region. Findings suggest important opportunity costs of state ownership as firms with state participation seem to achieve lower labor productivity outcomes and subpar financial performance in terms of profitability and return on investments. Yet, BOSs seem to be more financially leveraged and rely more on external debt compared to private peers suggesting potential soft budget constraints.

This paper suggests important trade-offs between state ownership and firm performance and highlights some policy implications that are relevant when designing and embarking on reforms.

First, the findings highlight that the private sector can play an important role in driving operational and financial performance. Firms with private shareholding seem to obtain better outcomes in terms of labor productivity as well as profit margins, and higher returns on assets and equity, and are less likely to support operations through external debt. Compared to firms in which the state is the sole owner, the results of this paper are indicative that private ownership can instill marketbased incentives to improve performance.<sup>29</sup> It has important policy implications. Reforms can explore alternatives to crowd-in private participation beyond full divestiture or privatization through public-private partnerships or joint ventures (Alfalter & Sanchez-Navarro, 2023). The findings emphasize that private ownership can help mitigate principal-agent problems by strengthening supervisory power and weakening the government’s control of day-to-day management.

Second, the paper finds evidence of the potential opportunity costs of state ownership that policy makers should consider when determining in which sectors to operate. While state ownership can address market failures and provide public services, it also seems to curb operational and financial performance for firms operating in competitive markets where the economic rationale for state ownership is less clear. Compared to POEs, BOSs obtain lower results in terms of labor productivity, profit margins, liquidity, and return on investments across all sector types but achieve lower profit margins and returns on investments when the state invests in competitive sectors. BOSs in natural monopolies such as electricity transmission and utilities tend to exhibit lower levels of labor productivity and higher levels of debt against their assets vis-à-vis POEs, which could be linked to potential public service obligations (PSOs). These findings highlight the importance of differentiating by markets in which BOSs operate and underscore the importance of understanding ex-ante what the economic rationale for state ownership and whether the benefits (e.g., provision of PSOs) offset the potential costs in terms of reduced profits and returns on

> 29 It can occur through the transference of skills, management, and ‘know-how’, which may translate into better financial outcomes.

34