Public Sector Reforms and Disinvestment

G V Ramakrishna

The subject of public sector and disinvestment is not only important for the economy but it is also attracting a lot of attention in the Press and Parliament. The first is the central public sector. To give you an idea of what it is consists of and what its problems are and what are the likely solutions. Many people talk about public sector as a homogenous group of companies. Public sector means all the same-- all have same origins, they have same level of profitability or loss and solutions should be found in a common manner for all public sector enterprises. This understanding must be corrected.

The public sector consists of several groups of companies with different historical backgrounds and origins. The first group consists of public sector companies acquired from private parties. There was growing concern at that time, but because of the policies prevailing at that point of time, 30 years ago these private companies were forcibly acquired. This category includes major oil companies, HPCL, BPCL which were acquired from foreign oil companies. Coal companies were also in the first category acquired from private parties through coal nationalisation in 1970-71.

The second category consists of companies that were started ab initio as new companies by government investment. They were set up as registered companies under the Companies Act and there was no possible acquisition from private parties.

Now the biggest companies you find in the public sector belong to the second category such as IOC,
BHEL, NTPC, ONGC, MTNL, VSNL, NALCO and others. These were major public sector companies set up as government companies.

Third category consists of those that had become sick and were taken over by government to save employment and to pool together the assets of the companies. The major example is the textile companies. The NTC is the holding compnay for over 130 textile companies. But the history of these companies need to be understood properly before we deal with NTC as belonging to any other category or calling for different solutions. The NTC was set up in 1968 under the Companies Act and not set up by legislation.

Later government acquired groups of private textile companies and entrusted them to NTC. They became subsidiaries and part of the NTC which itself was a registered company. The ordinances were first replaced by Acts and that textiles companies were acquired in many parts of the country- North, South, East and West. They were entrusted to NTC which had regional corporations.

So for the third category it is not necessary for any parliamentary approval or legislation to nationalize those companies because of its background history of the companies. It is still been debated. My own opinion is that based on the history of NTC registered and set up in 1968 as a government company before the companies were acquired-- shows that it was meant to be part of the government company.
Now the public sector accounts for 230 companies. It includes all the three categories mentioned above. It is not a homogenous group of companies --it could have 50 companies in one category, 100 in other, 20 or 30 in another category and five or six in the first category of acquired ones. Of the 230, 109 are loss- making units, some of them are making cash losses. Loss making units are in all categories, not just in first, second or third. The total losses made by these loss making units is Rs 10,000 cr a year and cash losses are Rs 3000 cr a year. So if we take cash losses into account, it is Rs 15,000 for the past five years. When one wants to start rectifying the finances of the central government it is essential to start looking at these loss making units first to stall the drain of Rs 3000 cr a year. The 121 profitable PSUs also belong to all the three categories and the made profits of Rs 36,000 cr in 2001-02. They contributed Rs 8000 cr by way of dividends and they raised direct and indirect taxes to the extent of Rs 5500 cr. Their export earnings of Rs 20,000 cr generated internal resources of 52,000 cr in the last five years. It is a huge investment.

What ails public sector? What are its weaknesses? What are its strengths? What can be done to these public sector enterprises both profit-making and loss making. Loss making should get priority because they are major drain on our resources.

What are the problems of our public sector? Before the process of liberalisation and globalisation, public sector companies had a sheltered existence. Policies with a high level of tariffs gave some sort of protection from international competitions. Licensing also gave protection. Licenses were not easily available and they were a major entry barrier. Industrial license was required to start a unit. Government extracted a high price for sheltering the public sector company by deriving a lot of benefits justified or unjustified. The consequence was public sector became a milch cow for the government. Loss making industries did not have to bear the burden as they didn't pay the taxes.

But when the process began in 1991, licensing was dismantled, imports liberalised, tariffs have been brought down to meet WTO committment. These policies by the government have affected the PSU in a major way. If you have to open up the market place and also allow the PSUs to compete with private sector and foreign companies they should have the same degree of freedom to compete. The management should have the same degree of freedom to compete. The private sector was able to make arrangements internally by way of organizing, by way of restructuring, labor policies etc. But public sector was not able to respond to the market condition to the same extent. Therefore, many PSUs became sick after 1991-92 because of these policies and rigidities of administration, government control and interference in management. Now public sector enterprises after liberalisation had to fight in the market place. Many PSUs could not invest Rs 200 cr of their own reserves as they had to go through the government procedure, it could take one year or more and still may not be approved. Take for instance, HPCL. It had a huge investment in Mangalore Refineries and wanted to sell their stake to Birlas. But they could not sell it because of government restriction. Public sector could not sell or transact business worth Rs 200 cr without specific government approval.

In many other cases they had to make adjustments for procurement to react to market in speed and government procedures did not allow that speed of response from management so necessary to compete in a competitive environment. So they lost out and they began to incur loss and market share to private companies. Their share fell steadily over the past few years. Some of them also became sick. The management for all categories of companies-- whether it was loss-making , small or big company was based on a uniform criteria and not fixed on market rates. The good people were taken away by the private sector which came into the field of activity after 1991-92. So they have been given three to four times the salary and other perquisites.

People who left the management were not the best and there is still a number of good managers in the public sector. They were hampered by a number of disincentives, lack of incentives at the officer level and they didn't get performance bonus for good performance. Disincentives were also there. They try to react to the market and take quick decisions-some decisions may be right, some may be wrong in the market. But they are invariably prosecuted and given to investigating agencies if they made a wrong decision. Many public sector managers said even if they are given autonomy they will not be able to utilise the autonomy because of the threat of criminal action and criminal prosecution.

Decisions are of three types--1) correct in decision, correct in the market and secondly there are risky commercial decisions genuinely taken which may have a loss making effect because of market conditions and other things. Therefore, it may not turn out to be the best. Third category consists of decisions that were taken out of corrupt, ulterior motives. We have no system of separating these three decisions. And any decisions that is later found to be wrong is handed over to the investigating agencies and the chairman and directors are hauled up. In some cases years after they have retired.

Four years after retirement, a chairman of a large company came and met me and said he was sitting at home eating cashew and a police inspector came and said he wanted to arrest him. Why? He was said to have made a bad decision five years back as chairman of a PSU. That has been brought into question. A reference has been received by Central Bureau of Investigation (CBI). These kind of things happen and to may knowledge disincentives are very high. This is how the PSU's is not able to grow even in a liberalised environment.

When we set up the Disinvestment Commission we had addressed these issues in the first report we gave and we said they should be given greater autonomy and there are companies that do not depend on the government for a rupee. Large companies do not need one rupee for the exchequer and they have not asked money for the last 10 years. Yet to take decisions they have to consult the government. This is not the way you allow them to compete in the market. They are not given a level playing field. And we had recommended they they may be given the autonomy.

Regarding decisions we said there should be a pre-investigation board. All decisions referred to in question should be examined by the pre-investigation board and not by the criminal investigation agencies. This board will consist of business people, PSU people, retired PSU people, few government people. This board will examine the decisions that are being questioned and the board will take a decision. Some may require an action within the management by demoting some one or withholding increment. The category of decisions that involve corruption can be taken up by an investigating agency.
We made this proposal in 1997 and this is not yet been implemented and therefore public sector is hampered.

I would like to review how the disinvestment process started. In 1991-92 when we started the dis-investment process because of foreign exchange problems, high inflation, high deficit, one of the things thought about was the reform of public sector. But they did not know how to go about it. Only thing they did was to raise money to bring down the deficit. So 1991, '92 and 1993 what they did was sell shares to raise money- five percent ,10 percent, 15 percent etc of various companies. They were good, bad and indifferent companies. They could not sell it in the market because they did not have a market quotation. So they got instituitions such as UTI, LIC, GIC and told them to take shares. Institutions obediently took some shares for years. They said this did not take them anywhere. They were long term, ill-liquid shares which cannot be sold in the market. So they decided to bundle the companies into good and bad to sell the good shares first. The bad ones could be kept till their performance improved. But again the instituitions were not interested.

In 1993, the Rangarajan Committee was appointed to look at the whole process in a more systematic way. They recommended that the entire disinvestment process was unsatisfactory and a separate Disinvestment Commission should be set up. In 1996, based on their recommendation a Disinvestment Commission was set up.

I was appointed the first Chairman of the Commission in 1996 and the references were restricted. And the terms of reference was handed over to me, I found it unacceptable. It was not consistent in terms of reference, contradictory and there was no clarity regarding the advisory and supervisory role of the Disinvestment Commission. They never replied to my queries. Then they said we could not choose to examine the companies that had to be disinvested. The government would send a list of such companies from time to time and 20 of the 230 companies were referred to begin with.

We informed the government that there is a difference between what we perceive as disinvestment or privatisation and how it is perceived in other parts of the world. The whole process of privatisation began when Mrs Thatcher was the Prime Minister of U.K. in the late 1970'.When privatisation of public sector was started in UK they understood that it means transfer of shareholding and management out of government but not in the hands of a private company. And shares were sold to the citizens of the country.

An independent and competent management will run it and it will be independent of the government. They managed to sell shares to people of UK and also at the same time ensured an autonomous management which will react to market conditions. But sale of bulk shares to any UK company or international company was disallowed. In the first ten years, they collected $80-90 bn and major utilities such as steel, power were privatised. They did not know what to call this process? Some said it was People's Capitalism but Thatcher disagreed. There was already People's Republic, People's Revolution and all that. She called her policy, Popular Capitalism which is totally different from what we understand as privatisation.

Many countries in Europe- including Germany and France followed this philosophy by selling PSU shares to people and not block shares to private companies. We recommended this type of privatisation but the government did not accept it.

One or two major points we emphasised in our report were we should enhance the value of the PSU shares and their value can be enhanced by better management. If you have good management the share value goes up. So we said PSU managements should have autonomy.

Public sector assets have been created out of tax-payer's money. Therefore it is not wise to put the proceeds of sale of shares into a general budget to meet current expenditure. It should not be a conversion of capital assets into revenue income. It should be a rearrangement of assets of government as many of us do in our personal lives-- sell one house to buy another flat or sell a property to buy another. And assets should not be sold to meet the revenue or fiscal deficit. This warning was given in our very first report itself.
Getting people's support for the disinvestment process is another issue. It has to get the support from the Parliament, political parties and others. For popular support a disinvestment fund should be set up and the proceeds from the sale of assets should go for creating social infrastructure-- for building schools, hospitals, roads. Thus people will be able to know that the sale of assets has resulted into a conversion of assets for the benefit of common people. These proceeds can also be used for housing and for meeting voluntary retirement scheme (VRS) committments and retiring public debt. This also was not accepted and disinvestment fund was also not set up. The proceeds of disinvestment goes to the general exchequer and not on creating social infrastructure.

In the first 10 years of disinvestment a total of Rs 20,000 cr was raised. If the disinvestment fund was created, the proceeds would have gone to build 40 lakh houses, one lakh schools, 5000 dispensaries and yet still have the money to pay for VRS for companies that need to be restructured before sale to get a better value. This opportunity was entirely lost. And the benefits of disinvestment was a reduction in fiscal deficit to the extent of 0.02 percent. So a fiscal deficitof 5.72 percent became 5.7 percent.

Now questions are being raised about disinvestment. How is the sale price is fixed? Is it transparent? Is there a reserve price and what is the reserve price? Is there a shareholder agreement? There is so much talk about the freedom of information act but all these important points have not been made public.
The first casuality in all these is transparency. Sometimes the Press picks it up, sometimes they report correctly and mostly incorrectly and government also does not say what are the facts.
We made a recommendation in October 1998 to model our privatisation in the model of the British system. There was a proposal to keep 26 percent of the shares with the government, in the hands of a Minister. I opposed to this because the Minister becomes the single largest shareholder without any checks and balances of the conventional public sector. What will happen is 26 percent shares are been held by a Minister who will have the authority to appoint anyone on any salary, give contracts to anyone he likes and it will work like a private sector. It would create a personal fiefdom in the hands of the Minister. At present , PSUs have better checks and balances-- there is the Parliament, the Public Accounts Committee and so on.

All that becomes wiped out once the shareholding comes below 50 percent. Therefore, there is no checks and balanced, therefore, we recommended that the residual shareholding of 26 percent should be transferred to a national shareholding trust. It should consist of five or six eminent people from private sector, public sector and government. They will not hold the shares but they will not join if it is a public sector company. They are not going to answer questions raised in Parliament or Public Accounts Committee.

They will increase the share value and shares would be sold to Indian people. Indian Oil, ONGC, BHEL are owned by Indian people and the shareholding trust will hold the balance. In England, the government held `golden shares' which had overriding powers to prevent takeover by private parties by selling shares in the market. After two years they found the managements were managing well on their own and they removed the `golden shares' in the company.

The National Shareholding Trust is a substitute for the `golden share'. Shareholders trust is more democratic and it will have the responsibility of managing the company. The Trust will have the freedom to hire the best people at market rates, reward for good performance and provide disincentives for bad performance. This system is very similar to a system operating in Singapore for the past 10 years. There the government shares are entrusted to the Trust who in turn can raise money or sell shares in the market. The Trust submits its report every year to the Finance Minister and there is no financial audit by Parliament. This was not accepted by our government in 1998, their argument was how can we trust these people to trust the Trust and said the government minister should hold 26 percent. I said we are creating a personal fiefdom and jumping from the frying pan to the fire.

Then four question arise-- How was the reserve prices fixed? Is there a proper shareholders agreement? Is the government getting good value, how is the valuation done? There is a lack of transparency. The Parliamentary Standing Committee in their report of April 2002 raised this relevant question. They pointed out that no comprehensive policy for disinvestment has been formulated and it continues to be done on a case to case basis. The procedures are redifined and modified from time to time. They said that the decade long experience of the government was sufficient enough to frame a policy and do away with the case-by-case approach. As with all committee recommendations this too was ignored. The commitee had also recommended that proceeds from PSU disinvestment should be utilised in social and infrastructure sectors.
People have complained about the `crony capitalism' somewhat akin to what has happened in the erstwhile Soviet Union. There an oil company valued at $3 billion was sold for $ 300 m. The acquirer sold the shares to his friends and relatives. He was arrested recently and jailed. The present President said he has taken the state property for a song and the government will pay 10 times that money and take it back.
Take the Indian cases. The Centaur Hotel case-- the government wanted to prequalify the bidders. The bidders had to have Rs 25 cr networth, altogether 28 bidders came and 12 were qualified. The successful bidder came and said he held six percent shares of a Rs 40 cr hotel and this was accepted to make up for the Rs 25 cr networth mandatory requirement. When the bidding was done the rental to be paid to Airport Authority was reduced from 6 percent to 2 percent and this benefit was transferred to the buyer. He bought the shares for Rs 83 cr. Within two months the bidder sold the shares for s 113 crore. Where is the shareholder agreement? We had recommended that the bidder should not sell shares for three years. But he sold it within two months for a profit of Rs 30 cr. The person who bought it was qualified to but but did not take part in the process, but he got it at a low price any way.

Second case is that of Paradip Phosphates. Here again complete facts are not given, no shareholder agreement is there. They had a bid price of rs 151.7 crore. Then the bidder came and said there was a liability of Rs 151.55 crore. So he said he will pay Rs 15 lakh. At this price he got Paradip Phosphates which has its own railway line, 100 acres of land, its own port facility for import of raw materials. When they fixed the price of Rs 15 lakh what reserve price they fixed for land and other facilities. This has gone for verification and arbitration etc.

In the case of IPCL the procedure differed significantly. We should not prequalify a bidder who would become a monopoly in that industry. Now the company that brought IPCL shares now hold 80 to 90 percent of the market for petrochemicals. In the case of IBP, the public sector was also allowed to compete but not in the case of IPCL. VSNL sold 25 percent of its shares to a private company for Rs 1400 when its cash reserves itself was Rs 1200 cr. The bidder got management control and within two years they transferred the cash reserves to their sister company. VSNL has hundreds of major properties in all major cities in India. The acquirer had only 25 percent stake, then how come he had access to Rs 1200 cr cash reserves. A Parliamentary Committee which looked into disinvestment procedures said that asset valuation guidelines were inadequate and vague and especially in the case of land, the actual land value is not considered.

The bottomline is the need for a shareholder agreement, more transparency and a more systematic approach to disinvestment.