Strategy under uncertainty: the privatisation option

function jay(theURL,winName,features) { window.open(theURL,winName,features); } function MM_openBrWindow(theURL,winName,features) { window.open(theURL,winName,features); } Economictimes.com reproduces the speech delivered by Pradip Baijal, Secretary, Ministry of Disinvestment, at the Delhi edition of the seminar series on Strategy Under Uncertainty, presented by IL&FS Mutual Fund and economictimes.com, in association with IBM. In the first three decades after independence, India adopted a strategy of planned economic development rather than market-oriented development. This pattern was adopted all over the world during the period, both in the capitalist and in the communist countries, due to the need of huge investments in war torn and post colonial economies and such investments could only be made by the state. During this period the main element of Indiaâ€™s development strategy was importâ€™s substitution led industrialisation with explicit focus on public sector. This created a highly regulated economy practically insulated from rest of the world. Various kinds of rigid restrictions were imposed on imports and entire range of transactions involving foreign investment. The private sector was subjected to very restrictive system of licensing and various other trade controls, high rates of protection, inflation, indirect taxation, inefficient scale of operation and lack of competition resulting in moderate industrial growth, characterised by high cost and low productivity. This strategy led to growth rate of 3.5 per cent in GDP and 1.5 per cent per capita increase in income during the first three decades. Due to anti export bias in the countryâ€™s industrial strategy, Indiaâ€™s share in world exports reduced from 1.85 per cent to 0.42 per cent between 1950 and 1980. There was a marked contrast in the growth scenario of the Indian economy during the post 1985 period when economic liberalisation was initiated and more vigorously after 1991. During the post 1985 period, the country had an over all growth rate of around 6 per cent and increase in real per capita income of around 4 per cent. ( Table 1 ) The incidence of poverty declined from 44 per cent to 26 per cent and the life expectancy at birth grew significantly from 48 years to 64 years. The period from 1980-2000 was marked by rapid growth of Indiaâ€™s exports from 0.42 to 0.67 per cent share in world exports. What were the sources and engines of this growth in the post liberalisation period? The post liberalisation period saw a growth in non-agriculture private sector from 3.9 per cent to 7.2 per cent and the decline in public sector growth from 8.2 to 7.1 per cent. ( Table 2 ) The increase in private sector growth also led to an accelerated growth of total factor productivity which led to the break away from the earlier Hindu rate of growth of 3.5 per cent. The economic liberalisation provided enhanced and cheaper access to imported capital goods, global technology and global enterprises which enabled improvement in productivity. Moreover, the pressure of increased competition in the domestic and international market (in the post WTO regime of global competition and falling tariff rates) forced the domestic firms to improve the efficiency of various resources through organisational restructuring, improved managerial efficiency and better capacity utilisation. However, nothing of this sort happened in the public sector. ( Table 3 and Table 4 ) With the experience of period 1985-2000 behind us we have to adopt strategies which would improve upon the performance of 1985-2000. One of the important changes during the last few years is the rapid spread of globalisation leading to signing of WTO agreements. An important gain of globalisation has been the movement of capital from one country to another so that one countryâ€™s growth is not constrained by its own domestic savings. The inflow of foreign capital has played a significant role in the development in the recent period of the East Asian Countries. At the peak, the foreign capital flow into Malaysia in 1993 was 17.4 per cent of its GDP, while in Thailand in 1995 it was 12.7 per cent of the GDP. In India it has mostly been below 0.5 per cent of its GDP. Empirical evidence on the impact of globalisation suggests that it has been beneficial to developing countries, their share in aggregate world exports and world output increasing since major globalisation efforts in the 1990s. ( Table 5 , Table 6 and Table 7 ) Even though the post liberalisation period has clearly shown that greater participation of the private sector leads to increased growth rate and increased FDI also accelerates growth rate; he country has not yet fully accepted these growth engines. Even today there are endless debates against privatization and there is always a fear that FDI will lead to control by external factors, perhaps a very strong mind set being related to the past performance of the ''East India Company''. However, there is an increasing realisation that transnational companies cannot act in a manner inconsistent with the policy of the countries in which investments are made. Even in a recent East Asian crises it was found that foreign direct investment was the stable element. While to some extent foreign capital through banks went out, FDI flows were consistent. ( Table 8 ) India has to win the race, by increasing privatisation and direct FDI, if there has to be rapid economic development. India is losing the race to attract FDI and achieve faster growth rate, while China, Brazil, Poland and a number of South East Asian countries have attracted inflows in the region of 3 to 6 percent of GDP leading to higher growth rate, where Indiaâ€™s FDI is a mere 0.5 per cent per cent. ( Table 9 ) India is thus foregoing the significant benefits that FDI can bring: improved GDP growth, a stable source of funds and more productive assets. There is enough evidence to show a co-relation between increased FDI and faster GDP growth. A number of countries including China, Malaysia and Brazil have used the more productive FDI assets for quick development and increased competitiveness in exports. Malaysia is one of the largest electronic exporter in the world. China has increased its productivity. Brazilâ€™s case is interesting that it has attracted $30 billion of FDI through privatisation during the last ten years. China has also allowed unlimited FDI in a number of industries, particularly for the takeover of sick industries. Owing to injection of high dosage of FDI ($40 billion per annum) over a number of years for both domestic and export sector, China has increased its productivity significantly causing grave concern to the Indian manufacturers, in regard to a number of items. ( Table 10 , Table 11 and Table 12 ) Another reason for increased Chinaâ€™s competitiveness was large scale privatisation of state owned enterprises and lay-off of state workers, which began in 1995. More than 30,000 companies have been privatised and about 50 million workers have been laid off since 1997 and given VRS at scales which are 3-5 times lesser than the Indian scales. Fortunately in India, the size of state owned enterprises was not very large and therefore, the reduction in CPSUs employees has only been from 2.3 million to 1.7 million in the last 10 years. ( Table 13 and Table 14 The discussion above would reveal that privatisation has to be the next main thrust in increasing the rate of growth of the Indian economy and this privatisation has to be accompanied with a huge FDI input, particularly for sick industries and in sectors where unlimited FDI has been permitted. Rules of FDI for disinvestment should also not be different from the sectoral rules for new investments, otherwise, distortions would come in soon. However, it has to be realised that FDI in disinvestment is an extremely sensitive issue and has to be handled very carefully. It would be recalled that the Queen of England had to use the Golden share to stop the takeover of National Power of UK by Southern Utilities of US, only ten years back. Now of course, London Electricity and Surrey Electricity have been taken over by EDF, France without any public debate. The policy of the government on disinvestment has evolved over a period of 10 years. It started with selling of minority shares in 1991-92 and continues today with emphasis on strategic sale. The implementation of the present policy has shown tremendous benefits of privatisation to the taxpayers, the economy, the stockmarket and the employees. The Central Governmentâ€™s direct involvement and involvement through holding companies was of the order of about Rs. 80,000 crore on 31st March 2000. Prior to this date, most of the equity sales were through sale of minority shares in the market. The policy changed around 31st March 2000 and subsequently all the sales have been strategic sales i.e. with change in management. The benefits of disinvestment through the two policies need to be analysed. The actual disinvestment in CPSUs/subsidiaries from April 1991 to date have been of the order of Rs 30,738 corers, the first phase of minority sale of shares yielding about Rs 19,000 crore and the second phase of privatisation yielding more than Rs 11,000 crore. ( Table15 ) Let us now look at the strategic disinvestment completed during the last two years and their benefits and the realisations to the government, holding companies, Statutory bodies etc. During the last two years the government has sold about 1 per cent of its total equity yielding more than Rs 11,000 crore. The entire equity may thus lead to an income of about Rs 10 lakh crore. The pace needs to be quickened if the benefits of privatisation are to be realised by the taxpayer, the economy and the employees. ( Table 16 and Table 17 ) The government has received Rs 11,335 crore from these sales. The government of Indiaâ€™s borrowing rate is about 10 per cent. Hence, this realisation would lead to a benefit of Rs 1,133 crore to the country every year, in perpetuity. As against this benefit, the dividends received by government on its equity, which has been sold, averaged Rs 52.41 crore during the last eight years. However, PPL and Jessop led to an average annual outgo of Rs 126 crore. Thus, the government lost Rs 74 crore ever year due to its majority equity presence in these companies. The sales of part equity in 16 companies would bring an annual real benefit to the economy to the tune of Rs 1133 + 74 = Rs 1207 crore. There can be no justification for maintaining public sector character in these industries, if the taxpayer has to lose more than Rs 1207 crore every year by non-privatisation. Additionally, the total annual loss in hotels during the pre-privatisation period was of the order of Rs 32.88 crore. Tax-payer would ultimately have paid for this loss. There can be no justification for the tax-payer subsidising the inefficiencies in PSU hotels and the bills of the rich, in the hotels. There is often an argument that the government should not sell profit-making companies. Balco was a profit making company, which earned the government an average dividend (over eight years) of Rs 5.69 crore every year on the equity sold. The government would now get Rs 82.65 crore every year. CMC was a very well managed and profitable company, yet the average dividend was only Rs 0.80 crore. The governmentâ€™s benefit now is Rs 15.2 crore annually. Similarly, Maruti Udyog gave average returns to the tune of Rs 13 crore annually to the government and IPCL gave Rs 16.24 crore on equity sold against Rs 242 crore and Rs 149 crore respectively which can be expected now. There can possibly be no justification of maintaining public sector character in such companies. The argument can be multiplied in each sale implemented so far. Before the year 2000, the Government had primarily sold minority shares in public sector companies. The price realised through the sale of shares, even in bluechip companies like IOC, BPCL, HPCL, GAIL & VSNL was 4 to 6. On the other hand, the prices realized through strategic disinvestment have been very high, from 11 to 89. It is interesting to note that a monopoly VSNL was sold at a P.E. ratio of 6 earlier, while a VSNL, in the opened up period has yielded 11. Marutiâ€™s case is even more interesting. Half of Marutiâ€™s control was given to Suzuki in 1994. Shares were sold at Rs 269. The shares have now been sold for Rs 3,280, while giving away the other half of the control. No control premium was charged in 1994. We have now recovered Rs 1000 crore. We will now start the sale of Government of Indiaâ€™s 66 lakh shares in the market. Balcoâ€™s case is interesting too. We got a P.E. ratio of 19. In the private sector, Indal was bought by Hindalco at 11, indicating that our sale was more efficient. ( Table 18 ) During the period 1991-2000, the sale of minority shares of public sector undertakings had led to an income of about Rs 19,000 crore. Most of the shares during this period were picked-up by financial institutions. Unit Trust of India was one such institution, which had picked up sizeable number of shares. Since, the public perception of public sector companies is that they would not perform well, the prices of shares fell in a number of cases after sale, with the result that UTI lost Rs 5,056 crore over an investment of Rs 6,403 crore made by them. However, with the market prices of PSU shares picking up after a few major disinvestments, the loss to UTI on PSU portfolio decreased to Rs 3,673 crore and recently to about Rs 2,000-2,500 crore. ( Table 19 ) The figures given in the preceding paragraphs would show that the policy announced by the Finance Minister in the Budget speech of 2000-2001 in favour of strategic sales of identified PSUs has paid dividend. To recall the Finance Minister had said: â€œGovernment have recently established a new Department for Disinvestment to establish a systematic policy approach to disinvestment and privatisation and to give a fresh impetus to this programme which will emphasise increasingly on strategic sales of identified PSUs.â€� The taxpayer has gained above Rs 1,200 crore per year from the sale of a few undertakings. If this exercise moves forward, the gains to the taxpayer would be tremendous. The economy would gain, as the public sector assets would yield much higher dividend to the economy than what they are yielding at present. The performance of a very large number of public public sector undertakings is disappointing, often owing to reasons beyond the managementâ€™s control. Performance is particularly poor in public sector manufacturing industries. Some of the public sector industries have done extremely well, but these are in monopoly sectors like Petroleum, Power and Telecom, where government determines prices on a cost plus basis. Once these monopolies go, public industries will come under severe pressure and generally become loss making. Sail is a classic example where the company started making heavy losses after liberalisation and after it had to compete with private sector industries. VSNL now is under tremendous competitive pressure. MTNL and BSNL are also open to this danger, and it is necessary that their future structure is quickly decided. Of course, there competitive pressures are bringing tremendous benefits to the consumers. The deteriorating performance of PSU companies has forced the Central government to give huge subsidies in the form of equity and loans, guarantees, waivers etc. In comparison the incomes to the government by way of dividends earned have been meagre, and consequently, the public sector ownership is now a liability to the government and the tax payer. Like in all other countries in the world, the government must quickly get out of public sector ownership, thus reducing the hazards to the tax payer. ( Table 20 ) Since the CPSUs have not performed well, except in companies where Public Sector has a monopoly, the share prices of public sector have performed badly. Often, these shares have been termed as non-performing shares in the market leading to huge losses to investors in such shares. The disinvestment policy was implemented with vigour during the last few months. This has led to a huge upside in the share prices of disinvesting companies ( Table 21 ) and also in the market cap of CPSU shares. The market capitalisation of listed CPSUs increased by 73.5 per cent i.e. from Rs 96062.63 crore to Rs 166671.87 crore against a 14 per cent increase in total market capitalisation of all BSE listed companies, between January and May 16, 2002. ( Table 22 ) It is remarkable indeed that the public sector market cap in 32 listed companies tracked by BSE has increased in value by about Rs 70,000 crore in four months and if this performance can be improved by initiation of more privatisations, huge benefits would accrue to the economy, Government and financial institutions. This will also catalyse improvement in the performance of our stock markets, so vital for development. Performance of our stockmarkets is at present dismal, with markets growing only by 0.5 per cent against an overall GDP growth of about 6 per cent last year. This is in sharp contrast with Indonesia and Thailand, where stock market index improved by 23 to 31 per cent against the GDP growth of 2.5 per cent and 3.9 per cent. A fear is often expressed that the employees would lose if companies were privatised. Recent privatisations have shown that these fears are totally unfounded. Privatised companies have not retrenched a single person. Some of the companies are now in the process of restructuring and would accept some voluntary retirement applications. These companies are giving VRS to the employees, at scales, which are normally higher than the government VRS. Shareholders agreement with private companies normally have a provision that employees interest would be protected by ensuring VRS, which is higher or equal to the government VRS, if there is a need for restructuring in the number of employees. As has been stated above, such exercises are done during the public sector regime also. Very often additional recruitment also takes place in privatised companies and the wages are increased. To give an example, monthly wages have been increased by an average of Rs 1,600 per employee in Modern Food Industries. Within a month after privatisation, the company had been referred to BIFR. At the time of privatisation everyone knew that based on its past performance, Modern Food was fast approaching BIFR. Hindustan Levers are now taking measures to financially restructure the company and bring it out of BIFR, at their own expense. Had the Modern Food remained a government company, the tax payer would have paid for financial restructuring of the company perhaps repeated by another restructuring a couple of years later, again at tax payers expense, as is usual in the public sector. In Balco, wages had not been increased after 1.4.1999, even though a revision was due. In spite of loss of about Rs. 200 crore due to the strike, an ex-gratia payment of Rs 5,000 was paid to all employees and a long term wage agreement for a period of five years entered into by the management with the employees on 7.10.2001, which guaranteed benefit of 20 per cent of basic pay to each employee, besides increase in a number of allowances. Similar increases were made in the other privatised companies as well. Due to the current drought situation in most parts of the country, the agricultural growth rate and therefore, the overall growth rate is bound to be low. We have to offset the adverse impact to the economy, by converting our present assets to more productive assets through privatisation, and by reducing fiscal deficit again through a well-structured privatisation programme so that more funds can be made available to trade and industry for more investment in the economy. No one has summarised our economic scenario better than Shri C Rangarajan, Governor, Andhra Pradesh ''Risks of an open economy are well known''. We must not, nevertheless, miss the opportunities that the global system can offer. As an eminent critic put it, the world cannot marginalise India. But India, if it chooses, can marginalise itself. We must guard ourselves against this danger.â€� Click here Â to download Pradip Baijal''s presentation

Strategy under uncertainty: the privatisation option

Economictimes.com reproduces the speech delivered by Pradip Baijal, Secretary, Ministry of Disinvestment, at the Delhi edition of the seminar series on Strategy Under Uncertainty, presented by IL&FS Mutual Fund and economictimes.com, in associatio...

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