Did the break-up of large state-owned enterprises improve or worsen the performance of the spun-off subsidiaries, the remaining master enterprises, or both? The economics literature on the desirability of takeovers, mergers, and break-ups of firms in market economies focuses on the tradeoff between transactions costs in markets and the internal inefficiencies within organizations. In the context of transition, the conceptually more relevant studies focus on the bargaining among the key decisionmakers (managers, government officials, workers, new private owners).

In Czechoslovakia break-ups and spin-offs were initiated by the management teams of master enterprises or subsidiaries. Four hypotheses can be posited to explain why these break-ups took place:

Managers of the divisions (subsidiaries) of state-owned enterprises spun more efficient units off from the master enterprises.

The hypotheses can be tested by examining the effects of the break-up on the master enterprise and the subsidiary (table 1).

Our empirical analysis is based on quarterly and annual data reported by firms to Czechoslovakia’s Federal Statistical Office and the Ministry of Finance during the 1990–92 period. The data cover all industrial enterprises employing more than 25 employees.

Our econometric estimates suggest that the major wave of break-ups of state-owned enterprises that took place in Czechoslovakia in the early 1990s had an immediate significant effect on the efficiency and profitability of industrial firms. The effect was positive for small, medium-size, and slightly above average–size spin-offs; it was negative for very large ones. We cannot reject the hypothesis that the estimated effect of spin-offs on performance was identical for the spun-off subsidiaries and the master enterprises that experienced the spin-offs. Taken together, the positive short-term effects on performance of both the master firms and the spun-off units are consistent with hypothesis 3 (that the large state-owned enterprises suffered from inefficiencies that were rapidly overcome by the break-up into smaller units). The finding that the short-term performance effect was negative for very large spin-offs is consistent with the notion that sizable break-ups involve large adjustment costs and thus have a negative short-term effect on performance.

We find that most 1992 estimates are similar to those for 1991 but that many yield statistically insignificant effects, including the negative one for sizable break-ups. We conclude that the lack of significance is likely caused by two factors: the increased competition brought about by the break-ups of the large firms into competing units and the 1992 elimination of the 20 percent import surcharge (the main trade protection measure) and the dissipation of profit by management as central controls were gradually eroded. Dissipation of profits reflects hypothesis 4 and is consistent with recent reports of siphoning off of profits and asset stripping ("tunneling") by managers in the Czech Republic, Slovakia, the Russian Federation, and other transition economies with weak ownership structures.

Lubomir Lizal is professor of economics at CERGE-EI, Prague and a research fellow at the William Davidson Institute. Miroslav Singer is an economist at CERGE-EI, Prague and Expandia Holding. Jan Svejnar is Executive Director of the William Davidson Institute and C. Everett Berg Professor of Business Economics at the University of Michigan Business School.