Government Welfare Inquiry proposal leads to total ban on profit

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WELFARE SERVICES – The Government Welfare Inquiry led by Ilmar Reepalu presenting a proposal for regulating profits was premised on enabling continued private sector provision of welfare services. The Confederation of Swedish Enterprise begs to disagree, based on a special study we assigned auditors PWC, and as argued by Caroline af Ugglas and Anders Morin.

Caroline af Ugglas, Deputy General Director of the Confederation of Swedish Enterprise

Caroline af Ugglas

Anders Morin, Welfare Policy Specialist for the Confederation

Anders Morin, ansvarig välfärdspolitik.

Foto: Ernst Henry Photography

This is the first comprehensive impact assessment of the proposals issued in the Government Welfare Inquiry. In their figures, PWC show the actual consequences that implementing the proposals would have on continuing operations for most private sector welfare services providers – essentially making them impossible.

The Inquiry proposes to permit a yield of seven percent plus the government borrowing rate – currently 0.35% – on their book operating capital. The Inquiry has not presented any impact assessment showing the consequences this proposal has for private welfare services providers, despite its government directive explicitly calling for this.  

The PWC assessment is clear. Most private welfare services providers will not be able to earn surpluses sufficient enough to run stable operations.

Operating margins (net surplus after paying operating costs) for nearly 80% of all privately operated welfare services providers (privately operated schools, health care, or elderly care) will be restricted to less than two percent. The significant portion of private welfare services providers being limited to such a small operating margin is simply due to these companies’ book value (net assets and equity) being relatively low compared to the size of their operating revenues and costs.

The Inquiry ignores the possibility these companies face  in seeing revenues drastically, and quickly cut, since they cannot guarantee the long-term commitment of their patients or students, and especially that they may lose a tender. But costs are significantly fixed for longer periods, including for premises, leases, and employment contracts.

The limited earned surplus is thereby insufficient to build up the appropriate buffers for the possibility of lost revenues. The PWC assessment shows that a company would need 150 months (12.5 years) to save a buffer corresponding to three months of revenues, if their operating margins are limited to two percent. And it would need 50 years to accumulate a buffer for one year’s revenues.

Moreover, 24% of all private welfare services providers have a negative book value for operating capital. This situation was not addressed at all by the Inquiry. Negative operating capital arises when operating liabilities (including payroll taxes) exceed operating assets (buildings and equipment).

This situation is not unusual in welfare services providers, since they often have little need for assets under ‘property, plant and equipment’, while they do have significant staff expenses. Even so, these welfare services providers can show significant operating value in the form of customer volumes, strong brands, qualified staff and well-functioning processes. But the Inquiry ignores these measures of value.

As well, any company with a negative operating capital would, under this proposal, be forced to operate at a loss. This highlights the unreasonable basis the Inquiry uses in calculating operating capital and its total lack of any impact assessment.

The obvious conclusion for the Confederation of Swedish Enterprise is that the so-called ‘limit’ to operating surplus as proposed by the Inquiry, practically results in a total profit ban for nearly 80% of private welfare services providers and, what’s more, includes a government imposed requirement to show red figures for 24% of these businesses.

The total number of companies affected by this ‘profit ban’ exceeds 14,200. But this figure is only for registered limited companies, even though the Inquiry proposal applies to all types of operations. Most of these – up to 86% – are small businesses with less than nine employees.

The types of operations most affected are pre-schools, elementary schools, and personal assistance providers. In these categories, the percentage of companies which would have their operating margins limited to 2% are, respectively 90, 88 and 94. 39% of all personal assistance providers would be required to report operating losses, as they have negative operating capital. 

The Confederation assessment is that the companies hardest hit by any limit on surplus would be the smaller ones. Larger companies have greater capability to purchase the properties where they operate to increase their operating capital, and thereby raise their permitted operating margin, a strategy smaller companies cannot take.

But the Confederation sees that the services users – the customers who are students, patients, elderly and physically disabled – are those impacted most. If the proposal is implemented, the fewer surviving providers will significantly reduce diversity and freedom of choice. This would also eliminate the possibility for new operations to start and to innovate or meet the specific needs of service users.

How could this be an outcome? Was the original purpose of the Inquiry to eliminate entirely private provision of welfare services? There are two clear indications this was, indeed, the case. First is the remarkable nonchalance the Inquiry showed in rejecting the shattering criticism issued by active researchers in the fields – including Joachim Landström, Thomas Hjelström, Per Strömberg och Mikael Runsten. 

Second, is the political storm unleashed against all profits earned by private welfare services providers – despite these representing only 0.6% of the total cost of all publicly financed welfare services. Moreover, this small portion is likely overestimated, since it includes companies’ operating surplus from operations that are not tax financed. And, these companies and shareholders pay tax on any profits earned, which the Inquiry ignored.

Implementing the proposal would cause a return to the public monopoly in provision of welfare services. This will cause the loss of prerequisites for activities designed to improve quality and resource efficiency. It will also make nearly impossible joint financing of welfare services as the share of elderly increases. But those most affected will be the service users, who will lose their freedom of choice among a wider diversity of providers, thereby reducing quality competition. 

Attacking the profits of private welfare providers is not the way to address any problems in this field. Instead, general quality requirements that apply to all providers – private and public – should be seen as the appropriate approach. Policy debate should now leave this narrow focus on profit, and instead concentrate on improving quality in provision of welfare services.

Caroline af UgglasAnders Morin

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