Disinvestment in India

BUSINESS ENVIRONMENT

A

PROJECT REPORT

ON

"While the case for economic reforms may take good note of the diagnosis that India has too much government interference in some fields, it ignores the fact that India also has insufficient and ineffective government activity in many other fields, including basic education, health care, social security, land reforms and the promotion of social change. This inertia, too, contributes to the persistence of widespread deprivation, economic stagnation and social inequality”

.......Amartya Sen

DISINVESTMENT IN INDIA

A FAILURE STORY

Submitted To Submitted By

Dr. K. L. Chawla Gaurav Vijay Shah (91080)

FORE School of Management Harish Mittal (91081)

New Delhi Harsh Lakhotia (91082)

Himani Agarwal (91083)

Jitesh Kejriwal (91084)

Karan Soni (91085)

Disinvestment in India: A Failure Story

Acknowledgement

Intuition and concepts constitute ... the elements of all our knowledge, so that neither

concepts without an intuition in some way corresponding to them, nor intuition without

concepts, can yield knowledge. In a similar way the credit of developing this project goes to

many others who helped us in building both our concepts and intuitions.

We are indebted to our project guide Dr K. L. Chawla for providing us with a challenging &

interesting project. We owe the credit of developing this project to him. Without his guidance

realization of this project would not have been possible.

We would also like to thank our batch mates for the discussions that we had with them. All

these have resulted in the enrichment of our knowledge and their inputs have helped us to

incorporate relevant issues into our project.

Regards

Gaurav Vijay Shah (91079)

Harish Mittal (91081)

Harsh Lakhotia (91082)

Himani Agrawal (91083)

Jitesh Kejriwal (91084)

Karan Soni (91085)

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Executive Summary

Privatization, a key component of economic liberalization remained dormant for the nearly

the entire first decade of significant economic reforms in India. The usual explanations have

been that weak governments could not overcome the many vested interests or that there has

been ideological resistance to economic reforms among India’s elites.

Indian privatization came out of the shadows, however, when the former Indian President

Dr. A.P.J. Abdul Kalam stated, "It is evident that disinvestment in public sector

enterprises is no longer a matter of choice but an imperative … The prolonged fiscal

haemorrhage from the majority of these enterprises cannot be sustained any longer," in

his opening address to Parliament in the 2002 budget session.

How does one explain both the gradualism during the 1990s and the recent episodic

acceleration of privatization in India and what does it reveal both about state capabilities and

the strength of societal actors?

This report argues that it was not “vested interests” alone, but institutional structures, in

particular those embedded in the judiciary, parliament and India’s financial institutions, that

account for the lag between the onset of economic liberalization and privatization and its

episodic nature. Changes in the perceived costs of the status quo of state-owned enterprises

also played a role in the timing of reforms. Just as the external debt crisis forced the initial

round of economic reforms, the growing internal debt problem and the fiscal crisis of the

Indian state has increased the opportunity cost of state-owned enterprises (SOEs). The

passage of time has also resulted in significant changes in Indian policymakers and citizens’

attitudes regarding the relative effectiveness of state and markets in commercial activities, as

well as their assumptions about the Indian state being a “guardian of the public interest.”

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Table of Contents

Chapter 1 – A background

Objective Relevance of study Methodology Literature review

Public sector performance since 1950 by R Nagaraj “Disinvestment in India” by Sudhir Naib Disinvestment in Privatisation in India, Assessments and options by R

Nagaraj Disinvestment in India, I loose and you gain by Pradeep Baijal

Brief Introduction

Chapter 2 – Public Sector in India

Evolution of Public sector Objective of formation of PSU’s Problem of Public sector undertakings Growth in Public sector

Chapter 3 – Disinvestment-Definition, Methods and Processes

Definition Indian scenario Types of disinvestment Objectives Disinvestment process Methods adopted in India Legal issues

Chapter 4 - Disinvestment in India-Policies, procedure and proceeds

Background Timeline

Phase 1 (1991 – 92 to 1995 – 96) Industrial reforms Rangarajan committee, 1993 Year wise disinvestment

Phase 2 (1996 – 97 to 1997 – 98) Disinvestment commission, 1996 Review of recommendations given by Disinvestment

commission Year wise disinvestment

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Phase 3 (1998 – 99 to 2007 – 08) Year wise disinvestment National investment fund

Phase 4 ( 2008 – 09 to present) Year wise disinvestment The line up for disinvestment National Investment Fund,2005

Summary of disinvestment

Chapter 5- Case studies

Modern food industries (India) Ltd BALCO VSNL Power sector reform in Orissa Divestiture in Maruti Udyog compared to other disinvestments Lagan Jute Machinery Company Limited

Chapter 6 – Critical Analysis

Review of Disinvestment in Privatisation Performance of PSUs after Privatisation Problems of Corporate governance Disinvestment – Not a great piece of reform Comparative experience PSUs are not that bad

Facts Opportunities at present in PSUs Performance of PSUs

Chapter 7 – Suggestions

Bibliography

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BACKGROUND


OBJECTIVE:

1. To Analyze the Disinvestment process in Indian Public Sector.

2. To study the disinvestment done was a Success or a Failure for the Indian

Economy.

RELEVANCE OF STUDY:

The report aims to study the evolution of disinvestment in India from the scratch and in

thorough detail so as to, not only understand the need and the procedure of the same, but also

to be able to critically evaluate the strategy and its several implementations till date.

The project enables us to discover and highlight several instances and facts and conclude that

the disinvestment was not efficiently conducted. We also conclude that the objectives behind

disinvestment, stated by the government way back in 1991have failed miserably.

After such an insightful analysis, we are in a position to say that though disinvestment in

India had several bounding objectives, it has been a failure story and much has to be done to

realize the benefits. The group could even come up with some solutions and alterations that

can be implemented to help the citizens of India reap the benefits of the strategy of

disinvestment to a greater extent.

METHODOLOGY:

The report tries to study and analyze the disinvestment in India from its very scratch. We

begin studying the post independence era, understanding the strategy of Public Sector Units

used by the government for common good, then pin-pointing the loop holes and the

consequent shortcomings of this strategy, thus identifying an emergent need for

disinvestment.

We further study the objectives of disinvestment and the process followed for the same. A

detail study over a timeline of eighteen years is done, dividing this entire span into three

phases. This study has helped us to cortically evaluate the disinvestment in several sectors

and comment on the current situation i.e. 2008 onwards.

Several legendary cases of disinvestment like the MFIL, BALCO, VSNL, Maruti Udyog

Ltd., Lagan Jute Mill etc have been developed to sheer details. This has enabled us to study

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the situation then and comment upon their worthiness. We have gone one step ahead to state

several in depth facts and conclude that neither, the disinvestment was not carried out the way

it must have been nor have the funds realized been used for the purposes intended.

LITERATURE REVIEW

1. PUBLIC SECTOR PERFORMANCE SINCE 1950, A FRESH LOOK -BY: R.

NAGARAJ

The paper elicits that since the mid-1980s, the public sector’s share in domestic investment

has been nearly halved, but its output share has remained roughly constant at about a quarter

of GDP, suggesting a sustained rise in productivity over nearly two decades. The paper

defines three major evidences for the improvement in performance.

a rise in physical efficiency in electricity generation

a fall in public sector employment growth

an increase in central public sector enterprises’ profitability (even after excluding the

petroleum sector)

The author then goes ahead to question why then the public sector finances remained adverse.

In electricity, passenger road transport and railways the revenue-cost ratio is less than one,

and has declined since the early 1990s. Moreover, over the last 40 years, the public sector

price deflator declined by 17 percentage points, relative to the GDP deflator. Hence, the

author concludes that correct pricing and collecting user charges are probably key to setting

public sector finances right.

2. DISINVESTMENT IN INDIA BY: SUDHIR NAIB

Twelve years after it was started, the liberalization of the Indian economy remains an

ideological and operational battleground. There is mainstream national consensus on the need

and irreversibility of reforms, but widespread disagreement about its pace and the sharing of

its benefits. A basic aspect of the withdrawal of the state from the economic sphere has been

the divestment to private parties of the shares (and in some cases control) of public sector

enterprises (PSUs) or state-owned enterprises (SOEs)]. This has affected thousands of

Indians, and triggered fierce political debates.

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The book gives a comprehensive roundup of the why and how of SOE privatization. It

provides a perspective on the past, present and future of PSU divestment from someone who

has studied the process up close. Before the commentary on the Indian experience, the book

touches on the historical development of the idea of private enterprise in public works, and

the major theoretical positions on the state versus private ownership debate. It provides a

comprehensive review of the disinvestment process followed by India and analyses the

impact of performance of the disinvested enterprises.

3. DISINVESTMENT AND PRIVATIZATION IN INDIA, ASSESSMENT AND

OPTIONS- BY: R NAGARAJ

The author studies close to 250 public sector enterprises (PSEs) owned and managed by the

central government, mostly in industry and services (excluding the commercial banks and

financial institutions). The study suggests an alternative institutional arrangement for

improving PSEs’ financial performance: mutual stock holding among complementary

enterprises tied around a public sector bank to minimise problems of soft budget constraint,

dysfunctional legislative and bureaucratic interference, and to encourage close interaction

between banks and firms to promote long term economic development.

4. DISINVESTMENT IN INDIA, I LOSE AND YOU GAIN- BY: PRADIP BAIJAL

The process of disinvestment in India has been fraught with challenges and controversies.

Disinvestment in India: I lose and You Gain, written by one who has been at the centre of all

privatization debates and controversies, brings to light the facts that surround the

disinvestment story. It underlines the most compelling rationales behind privatization: relief

to the taxpayer and the simultaneous need for funds for infrastructure development and

social-sector investment. This book traces privatization cycles across the globe through a

historical perspective by looking at the privatization models and processes adopted in

different countries. It also includes case studies of companies like BALCO, Maruti,

Hindustan Zinc, VSNL, Jessop and CMC, providing an insight into the different aspects of

disinvestment. This book discusses the impact of privatization and disinvestment on

companies, economies and other stakeholders, and serves to initiate a healthy and well-

informed debate on the basis of facts.

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INTRODUCTION

In macroeconomics, especially after the Latin American debt and inflationary crisis in the

1980s, privatization was widely advocated as a quick and sure means of restoring budgetary

balance, to revive growth on a sustainable basis. At the micro level, the change in ownership

is often advocated to increase domestic competition, hence efficiency; and encourage public

participation in domestic stock market – all of which is believed to promote ‘popular’

capitalism that rewards risk taking and private initiative, that is expected to yield superior

economic outcomes.

Employing about 19 million persons, Public Sector currently contributes about a quarter of

India’s measured domestic output. Administrative departments (including defence) account

for about 2/5th of it, the rest comes from a few departmental enterprises (like railways and

postal services), and a large number of varied non-departmental enterprises producing a range

of goods and services. These include, close to 250 public sector enterprises (PSEs) owned

and managed by the central government, mostly in industry and services (excluding the

commercial banks and financial institutions). At the state level, production and distribution of

electricity and provision of passenger road transport form the principal activities under public

sector, run mostly by autonomous boards and statutory corporations. Though public

investment in irrigation would perhaps rank next only to electricity in most states, it is

generally viewed as public service, hence counted as part of public administration. Besides,

there are about 1,100 state level public enterprises (SLPEs) that are relatively small in size.

While the contribution of all these varied publicly owned and managed entities to national

development is widely acknowledged, their poor financial return has been a matter of

enduring concern – especially since the mid-1980s when, for the first time, the central

government’s revenue account turned negative – an imbalance that has persisted ever since.

In 1991, a small fraction of the equity in selected central PSEs was sold to raise resources to

bridge the fiscal deficit. Though quantitatively modest (as will be seen later), the

‘disinvestment’ signalled a major departure in India’s economic policy. While there have

been instances of sale of publicly owned enterprises as running concerns on pragmatic

considerations, it is only in the last decade that such sales (and sale of limited equity)

acquired the status of public policy.

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PUBLIC SECTOR IN INDIA


EVOLUTION OF PUBLIC SECTOR:

Prior to Independence, there were few ‘Public Sector’ Enterprises in the country. These

included the Railways, the Posts and Telegraphs, the Port Trusts, the Ordinance Factories, All

India Radio, few enterprises like the Government Salt Factories, Quinine Factories, etc.

which were departmentally managed.

Independent India adopted planned economic development policies in a democratic, federal

polity. The country was facing problems like inequalities in income and low levels of

employment, regional imbalances in economic development and lack of trained manpower.

India at that time was predominantly an agrarian economy with a weak industrial base, low

level of savings, inadequate investments and infrastructure facilities. In view of this type of

socio-economic set up, our visionary leaders drew up a roadmap for the development of

Public Sector as an instrument for self-reliant economic growth.

This guiding factor led to the passage of Industrial Policy Resolution of 1948 and followed

by Industrial Policy Resolution of 1956. The 1948 Resolution envisaged development of core

sectors through the public enterprises. Public Sector would correct the regional imbalances

and create employment. Industrial Policy Resolution of 1948 laid emphasis on the expansion

of production, both agricultural and industrial; and in particular on the production of capital

equipment and goods satisfying the basic needs of the people, and of commodities the export

of which would increase earnings of foreign exchange.

In early years of independence, capital was scarce and the base of entrepreneurship was also

not strong enough. Hence, the 1956 Industrial Policy Resolution gave primacy to the role of

the State which was directly responsible for industrial development. Consequently the

planning process (5 year Plans) was initiated taking into account the needs of the country.

The new strategies for the public sector were later outlined in the policy statements in the

years 1973, 1977, 1980 and 1991. The year 1991 can be termed as the watershed year,

heralding liberalisation of the Indian economy.

The public sector provided the required thrust to the economy and developed and nurtured the

human resources, the vital ingredient for success of any enterprise; public or private.

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OBJECTIVES FOR THE FORMATION OF PSUS

The main objectives for setting up the Public Sector Enterprises as stated in the Industrial

Policy Resolution of 1956 were:

To help in the rapid economic growth and industrialization of the country and create

the necessary infrastructure for economic development

To earn return on investment and thus generate resources for development

To promote redistribution of income and wealth

To create employment opportunities;

To promote balanced regional development

To assist the development of small-scale and ancillary industries

To promote import substitutions, save and earn foreign exchange for the economy

PROBLEMS OF PUBLIC SECTOR UNDERTAKINGS

The most important criticism levied against public sector undertakings has been that in

relation to the capital employed, the level of profits has been too low. Even the government

has criticised the public sector undertakings on this count. Of the various factors responsible

for low profits in the public sector undertakings, the following are particularly important: -

1. Price policy of the Public Sector undertakings.

2. Underutilization of capacity.

3. Problem related to planning and construction of projects

4. Problems of labour, personnel and management

5. Lack of autonomy

GROWTH IN PUBLIC SECTOR

The investment in public sector enterprises has grown from Rs.29 crore as on 1.4.1951 to

Rs.2, 52,554 crore as on 31.3.2000. The details are summarized in the table below:

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Source: http://dpe.nic.in/newpayrevision/Chapter-1-Overview%20&%20Profile_Final.pdf

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DISINVESTMENT: DEFINITION, METHODS,

PROCESSES


DEFINITION:

Disinvestment refers to the action of an organization or the government in selling or

liquidating an asset or subsidiary. In simple words, disinvestment is the withdrawal of capital

from a country or corporation. Some of the salient features of disinvestment are:

Disinvestment involves sale of only part of equity holdings held by the government to

private investors.

Disinvestment process leads only to dilution of ownership and not transfer of full

ownership. While, privatization refers to the transfer of ownership from government

to private investors.

Disinvestment is called as ‘Partial Privatization’.

INDIAN SCENARIO:

A large number of PSUs were set up across sectors, which have played a significant role in

terms of job creation, social welfare, and overall economic growth of the nation; they rose to

occupy commanding heights in the economy. Over the years, however, many of the PSUs

have failed to sustain their growth amidst growing liberalization and globalization of the

Indian economy. Loss of monopoly and a protectionist regime, and rising competition from

private sector competitors have seen many of the government-owned enterprises lose their

market share drastically. In many instances, many of the PSUs have found themselves unable

to match up to the technological prowess and efficiency of private sector rivals, although

many have blamed lack of autonomy and government interventions for their plight.

Few factors that have prohibited Indian PSUs from performing upto the standards laid down

for them at their incorporation include among others:

The first order issue is that of competition policy. When the government hinders

competition by blocking entry or FDI, this is deeply damaging. Once competitive

conditions are ensured, there are, indeed, benefits from shifting labour and capital to

more efficient hands through privatisation, but this is a second order issue.

The difficulties of governments that run businesses are well-known. PSUs face little

"market discipline". There is neither a fear of bankruptcy, nor are there incentives for

efficiency and growth. The government is unable to obtain efficiency in utilising

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labour and capital; hence the GDP of the country is lowered to the extent that PSUs

control labour and capital.

When an industry has large PSUs, which are able to sell at low prices because capital

is free or because losses are reimbursed by periodic bailouts, investment in that entire

industry is contaminated. This was the experience of Japan, where the "zombie firms"

- loss-making firms that were artificially rescued by the government - contaminated

investment in their industries by charging low prices and forcing down the profit rate

of the entire industry.

Further, in many areas, the government faces conflicts of interest between a

regulatory function and an ownership function. As an example, the Ministry of

Petroleum crafts policies which cater for the needs of government as owner, which

often diverge from what is best for India.

There is a fundamental loss of credibility when a government regulator faces PSUs in

its sector: there is mistrust in the minds of private investors, who demand very high

rates of return on equity in return for bearing regulatory risk.

Then the problem of corruption and misappropriations are all well known in India.

Thus, privatization was accepted in Indian context.

TYPES OF DISINVESTMENT

There are various types of disinvestment. Some of them are as follows:

1. OFFER FOR SALE TO PUBLIC AT FIXED PRICE: In this type of disinvestment, the

government holds the sale of the equity shares to the public at large at a pre determined price.

Examples:-MFIL, BALCO, CMC, HTL, IBP, HZL, PPL, and IPCL.

2. STRATEGIC SALE: In this type, significant management rights are transferred to the

investor i.e. majority of equity holdings are divested. Examples: -Offer of 1 million shares of

VSNL, listing of ONGC IPO.

3. INTERNATIONAL OFFERING: This is essentially targeted at the FII (foreign

institutional investors). Ex:-GDR of VSNL, MTNL etc.

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4. ASSET SALE AND WINDING UP: This is normally resorted to in companies that are

either sick or facing closure. This is done by the process of auction or tender. Ex:-Auction of

sick PSU’s.

OBJECTIVES OF DISINVESTMENT:

Privatization intended to achieve the following:

• Releasing large amount of public resources

• Reducing the public debt

• Transfer of Commercial Risk

• Releasing other tangible and intangible resources

• Expose the privatised companies to market discipline

• Wider distribution of wealth

• Effect on the Capital Market

• Increase in Economic Activity

DISINVESTMENT PROCESS:

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Admin Ministry input through Disinvestment

Ministry

Core group of secretaries

Core group of secys CGO

does monitoring

Cabinet Committee on Disinvestment

CCD

Ministry of finance DEA

does analysis

Disinvestment Commission

IMG constituted for implementatio

n

List of enterprises

to be considered

for disinvestm

entSends recommendations

Gives recommendations for these enterprises

Inputs from Admin Ministry input

through Disinvestment

Ministry

Sends final

recommenda

tions to

After approval

IMG reports to Core Group

1

7

65

4

3

2


METHODS ADOPTED IN INDIA:

The following are the three methods adopted by the Government of India for disinvesting the

Public sector undertakings. There are three broad methods involved, which are used in

valuation of shares.

1. NET ASSET METHOD:

This will indicate the net assets of the enterprise as shown in the books of accounts. It shows

the historical value of the assets. It is the cost price less depreciation provided so far on

assets. It does not reflect the true position of profitability of the firm as it overlooks the value

of intangibles such as goodwill, brands, distribution network and customer relationships

which are important to determine the intrinsic value of the enterprise. This model is more

suitable in case of liquidation than in case of disinvestment.

2. PROFIT EARNING CAPACITY VALUE METHOD:

The profit earning capacity is generally based on the profits actually earned or anticipated. It

values a company on the basis of the underlying assets. This method does not consider or

project the future cash flow.

3. DISCOUNTED CASH FLOW METHOD:

In this method the future incremental cash flows are forecasted and discounted into present

value by applying cost of capital rate. The method indicates the intrinsic value of the firm and

this method is considered as superior than other methods as it projects future cash flows and

the earning potential of the firm, takes into account intangibles such as brand equity,

marketing & distribution network, the level of competition likely to be faced in future, risk

factors to which enterprises are exposed as well as value of its core assets. Out of these three

methods the discounted cash flow method is used widely though it is the most difficult.

LEGAL ISSUES IN THE DISINVESTMENT PROCESS:

Legality of the disinvestment process has been challenged on a variety of grounds that slowed

the sale of public assets. However, there were two significant judicial rulings that broadly set

the boundaries of the D-P process. These are:

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1. Privatisation is a policy decision, prerogative of the executive branch of the state;

courts would not interfere in it.

2. Privatisation of the PSE created by an act of parliament would have to get the

parliamentary approval.

While the first ruling gave impetus for strategic sale of many enterprises like Hindustan Zinc,

Maruti, and VSNL etc. since 2000, the second ruling stalled the privatisation of the petroleum

companies, as government was unsure of getting the laws amended in the parliament.

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DISINVESTMENT IN INDIA- POLICY,

PROCEDURE AND PROCEEDS


The basic objective of starting Public Sector in India was to build infrastructure and rapid

economic growth. However, a number of problems such as low productivity, over-manning

and other economic compulsions like deterioration of balance of payment position and

increasing fiscal deficit led to the adoption of new approach toward the public sector in 1991.

BACKGROUND:

1. LOW PRODUCTIVITY OF INVESTMENT

From 1950-51 to 1980-81, India’s growth rate was roughly constant but savings and

investment rate more than doubled. From the table it can be seen that it was because

of low productivity that India’s growth was slow.

Investment and Savings as a percentage of GDP

Year 1950-51 1960-61 1970-71 1980-81 1989-90

Investment(Current Prices,% GDP)

10.2 15.7 16.6 22.7 24.1

Investment(Constant 1980-81 prices, %GDP)

14.7 18.1 18.7 22.7 21.8

Domestic Savings(Current Prices, %GDP)

10.4 12.7 15.7 21.221.7

Source: Disinvestment in India, Sudhir Naib

2. FISCAL SITUATION IN 1980

During 1980’s the fiscal situation deteriorated rapidly. This was largely due to an

escalation of current expenditure of the government. The table below gives the

consolidated Central and state government revenue, expenditure and deficit over the

period 1960-61 to 1980-81, divided into five year averages and expressed as

percentage of GDP.

Consolidated finances of Central and state Government, 1960-61 to 1989-90

Year 1960-61 to1964-

65

1965-66 to 1969-70

1970-71 to 1974 -

75

1975-76 to 1979-

80

1980-81 to 1984-

85

1985-86 to 1989-

90

Revenue 12.7 13.4 14.6 17.8 18.1 20.0Current Expenditure 11.8 12.9 14.2 16.3 18.6 23.0

Current Revenue Balance

0.9 0.5 0.4 1.5 (0.5) (2.9)

Capital Expenditure 6.6 6.0 5.1 6.9 7.5 7.1Total Expenditure 18.4 18.9 19.3 23.2 26.1 30.0

Fiscal Deficit 5.7 5.5 4.7 5.4 8.0 10.0Primary Fiscal

Deficit5.3 5.2 4.2 4.7 6.8 7.5

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Source: Disinvestment in India, Sudhir Naib

3. FISCAL DEFICIT OF THE CENTRAL GOVERNMENT

The fiscal deficit of the central govt rose consistently from 4% in mid – 1970’s to 8% of GDP

in 1985-86.

Fiscal Deficit of Government 1975-76 to 1990-91

YearFiscal Deficit

Budget Deficit

Primary Deficit

Revenue Deficit

Monetised Deficit

1975-76 4.1 0.5 2.5 1.1 0.01980-81 6.2 1.8 4.3 1.5 2.61981-82 5.4 0.9 3.4 0.2 2.01982-83 6.0 0.9 3.8 0.7 1.91983-84 6.3 0.7 4.0 1.2 1.91984-85 7.5 1.6 5.0 1.8 2.61985-86 8.3 2.0 5.5 2.2 2.41986-87 9.0 2.8 5.8 2.7 2.41987-88 8.1 1.7 4.7 2.7 2.01988-89 7.8 1.4 4.2 2.7 1.61989-90 7.8 2.3 3.9 2.6 3.11990-91 8.4 2.1 4.4 3.5 2.8

Source: Economic Survey, 1992-93, Government of India

A significant factor was government’s non-plan expenditure and an inefficient interest

payment system.

Again the gulf war of 1990 brought the nation to the brink of international debt.

There were huge net outflows of NRI deposits from October 1990 and continued till

mid 1991.

RBI adopted sharp contractionary measures and had taken huge amounts from

International Monetary Fund in July, 1990 and January, 1991 amounting to $2.4

billion.

Foreign Exchange Reserves were reduces $ 1 Billion which could support only two

weeks imports.

Inflation was staring at 14%

On July6, 1991 47 tons of gold were transferred from RBI to Bank of England,

London. Already 20 tons of gold were sold in International market through State Bank

of India.

When India turned to IMF and World Bank for further support, they showed concerns over

returns on State owned enterprises and budgetary support provided to them. It was then a

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decision was taken in July, 1991 to bring about macroeconomic stabilisation and structural

reforms of industrial and trade policy.

TIMELINE:

In February, 1991 the Department of Economic Affairs submitted a paper to Cabinet

Committee on Political Affairs (CCPA) to approve the government intentions to disinvest up

to 20% of its equity in selected public sector undertakings.

The disinvestment announcement was made on 4March, 1991 during the interim budget

session for 1991-92 under the Chandrashekhar government. The Policy of disinvestment has

evolved over the years. This period can be broadly divided into 4 phases.

The first phase being 1991-92 to 1995-96 where partial disinvestment was taken in

piecemeal manner.

Second Phase 1996-97 to 1997-98, an effort to institutionalize the disinvestment

process was undertaken on a firm footing by constituting the Disinvestment

Commission.

The third Phase 198-98-99 to 2007-08 where Department of Disinvestment (Now a

Ministry) and National investment fund was formed to look after the disinvestment

process and the funds generated from it.

Fourth phase, the Current one where government is planning to sell its stake in

NTPCL, SJVNL, RECL and NMDCL.

PHASE 1 (1991-92 TO 1995-96):

Phase one Started when Chandrashekhar government, while presenting the interim budget for

the year 1991-92 declared disinvestment up to 20%.The objective was to broad-base equity,

improve management, enhance availability of resources for these PSEs and yield resources

for exchequer.

INDUSTRIES RESERVED FOR PUBLIC SECTOR PRIOR TO 1991

1. Arms and Ammunition and allied items of defence equipment.

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2. Atomic energy.

3. Iron and steel.

4. Heavy castings and forgings of iron and steel.

5. Heavy plant and machinery required for iron and steel production, for mining.

6. Heavy electrical plants.

7. Coal and lignite.

8. Minerals oils.

9. Mining of iron ore, manganese ore, chrome ore, gypsum.

10. Mining and processing copper, lead, zinc, tin.

11. Minerals specified in the Schedule to the Atomic Energy.

12. Aircraft.

13. Air transport.

14. Rail transport.

15. Ship building.

16. Telephones, Telephone cables, Telegraph and Wireless apparatus (excluding radio

receiving sets).

17. Generation and distribution of electricity.

The Industrial Policy Statement of 24th July 1991 stated that the government would divest

part of its holdings in selected PSE’s, but did not place any cap on the extent of

disinvestment. Nor did it restrict disinvestment in favour of any particular class of investors.

During this Phase the sole was to generate revenue without following any objective seriously.

INDUSTRIES RESERVED FOR PUBLIC SECTOR AFTER JULY, 1991

1. Arms and Ammunition and allied items of defence equipment, aircraft and warship.

2. Atomic Energy.

3. Coal and Lignite.

4. Mineral Oils.

5. Mining of iron ore, manganese ore, chrome ore, gypsum, sulphur, gold and diamond.

6. Mining of copper, lead, zinc, tin, molybdenum and wolfram.

7. Minerals specified in the schedule to Atomic Energy Order, 1953.

8. Railway Transport.

RANGARAJAN COMMITTEE 1992-1993

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The government reconstituted the committee which it formed in February 1992 to

institutionalize the disinvestment process. The committee included Dr. C. Rangarajan, the

then Member Planning commission as chairman and Dr. Y. Venugopal Reddy as Member

Secretary. The committee gave its report on April, 1993. The Highlights of the committee

report are as follows:

1. 49% of equity could be divested for industries explicitly reserved for the public sector

2. In exceptional cases the public ownership level could be kept at26%.

3. In all other cases it recommended 100 per cent divestment of Government stake.

4. Holding 51% or more equity by the Government was recommended only for six Schedule

industries, namely:

Coal and lignite

Mineral oils

Arms, ammunition and defence equipment

Atomic energy

Radioactive minerals

Railway transport

DISINVESTMENT IN 1991-92:

A steering Committee was formed for selection of PSEs for disinvestments. The Department

of Public Enterprises (DPE) coordinated all activities under the Ministry of Industry.

A) FIRST TRANCHE OF DISINVESTMENT (DECEMBER, 1991):

Out of 244 public enterprises 41 were selected, but 10 were dropped on the grounds of being

consultancy firms, negative asset value or they incurred losses in previous financial year. The

Remaining 31 were grouped into 3 categories “Very Good”, “Good” and “Average” on the

basis of net assets value per share vis-a-vis face value of Rs10 as on March,1991. The total

value of equity in each basket was Rs50 million.

Bids were invited from 10 financial institutions/ mutual funds which consisted of 825 bundles

each consisting of 9 PSEs. A total of 710 bids for 533 bundles were received from 9 mutual

funds/ institutions and 406 bundles for a total value of Rs14.2billion were sold. Unit Trust of

India was the major purchaser accounting for Rs. 7.75 billion of the sale.

B) SECOND TRANCHE OF DISINVESTMENT (FEBRUARY, 1992):

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In second tranche DPE asked ICICI to evaluate and advice issue price equity of selected

PSEs. A List of 16 PSE’s was prepared and shares were grouped into 120 bundles as before.

The reserve price fixed per bundle was Rs 10.08 crore. Bids were invited from 36 institutions

and banks. A total of Rs. 1611 crore were realised with Unit Trust of India again being the

major purchaser. The Shares of Metal Scrap Trading Corporation remained unsold.

Details of the PSEs Divested in 1991-92

Name of the EnterpriseNo. Of Shares(in crore)

% of Disinvestment

Andrew Yule (AY) 0.1015 9.60

Bharat Earth Movers Ltd. (BEML) 0.6000 20.00

Bharat Electronic Limited (BEL) 1.6000 20.00

Bharat Heavy Electricals Limited (BHEL) 4.8952 20.00

Bharat Petroleum Corporation Limited (BPCL) 1.0000 20.00

Bongaigaon Refinery and Petrochemicals Ltd. (BRPL) 3.9961 20.00

Cochin Refineries Ltd. (CRL) 0.4219 10.01

Computer Maintenance Corporation (CMC) 0.2528 16.69

Dredging Corporation of India Ltd. (DCI) 0.0402 1.44

Fertilizers and Chemicals Ltd. (FACT) 0.5232 1.54

Hindustan Machine Tools Ltd. (HMT) 0.4268 5.43

Hindustan Organic Chemicals Ltd. (HOCL) 0.9870 20.00

Hindustan Petroleum Corp. Ltd. (HPCL) 1.2768 20.00

Hindustan Photo Films Mfg. Co. Ltd. (HPF) 1.9190 16.05

Hindustan Zinc Ltd. (HZL) 8.0746 20.00

Hindustan Cables Ltd. (HCL) 0.1669 3.64

Indian Petrochemical Corp. Ltd. (IPCL) 3.7200 20.00

Indian Railway Construction, Co. Ltd. (IRCON) 0.0013 0.27

Indian Telephone Industries Ltd. (ITI) 1.7538 20.00

Madras Refineries Ltd. (MRL) 1.9316 20.00

Mahanagar Telephone Nigam Ltd. (MTNL) 12.0000 20.00

Minerals & Metals Trading Corp. (MMTC) 0.0334 0.67

National Aluminium co. Ltd. (NALCO) 3.5100 2.72

National Fertilizers Ltd. 1.1163 2.28

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Neyveli Lignite Corp. Ltd. (NLC) 7.1791 5.00

Rashtriya Chemicals and Fertilizers Ltd. (RCFL) 3.1136 5.64

Shipping Corp. Of India Ltd. (SCI) 5.2246 20.00

State Trading Corp. Of India Ltd. (STC) 0.2393 7.98

Steel Authority of India Ltd. (SAIL) 19.9075 5.00

Videsh Sanchar Nigam Ltd. (VSNL) 1.2000 20.00

Total 87.2125

Source: percentage disinvested from Public Enterprises Survey, 1995-96, VOL- I and number of shares disinvested is from Public Accounts Committee 1993-94, 75th report, 10th Lok Sabha.

The Narasimha Rao Government kick started this phase with small lots of disinvestment of

shares in 47 companies, a record. A sum of Rs 3,038 Crore was generated against a target of

Rs 2,500 Crore making 1991-92 one of only three years in the last 13 when actual

disinvestments receipts exceeded the target.


As per the budget of 1992-93 Rs. 3500 crore were to be raised by disinvestment during the

year. Out of this Rs. 1000 crore was meant for National Renewal Fund (NRF) which was set

up in February, 1992 to protect the interest of workers and provide a social safety net for

labour.

A) FIRST TRANCHE OF DISINVESTMENT (OCTOBER, 1992):

In this phase auctioning of shares on individual PSE basis was done. Tenders were invited for

a total of 8 PSEs. The minimum bid limit was set at Rs. 2.5 crore. The minimum reserve price

was fixed on the basis of recommendations from merchant bankers like ICICI, IDBI and

SBCM (State Bank of Capital Market) The average of their prices was set as the “Upset

Price”. A total of 12.87 crore shares were sold for a value of Rs 681.95 crore with 286 bids

being received.

Details of the PSEs Divested in October, 1992

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Name of the EnterpriseNo. Of Shares Sold(in crore)

% of Total number of shares of the PSE

Amount of Sale(in Rs Crore)

Bharat Petroleum Corporation Limited (BPCL) 0.2500 5.00 169.53

Hindustan Petroleum Corp. Ltd. (HPCL) 0.3192 5.00 178.10

Hindustan Zinc Ltd. (HZL) 1.0416 2.58 44.33

Hindustan Machine Tools Ltd. (HMT) 0.3928 5.00 21.98

National Aluminium co. Ltd. (NALCO) 6.4431 5.00 124.13

Neyveli Lignite Corp. Ltd. (NLC) 1.4969 1.04 35.03

Rashtriya Chemicals & Fertilizers Ltd. (RCFL) 0.8685 1.57 26.36

Steel Authority of India Ltd. (SAIL) 2.0567 0.52 82.49

Total 12.8688 681.95Source: Public Enterprise Survey, 1995-96, VOL-I

B) SECOND TRANCHE OF DISINVESTMENT (DECEMBER, 1992):

In November, 1992 the government invited bids for the purchase of 46.27 crore shares of 14

PSEs. The minimum bid limit was reduced to Rs 1 crore from Rs 2.5 crore. The criterion was

kept same as in first tranche. A total of 225 bids were received and 31.06 crore shares of 12

PSEs were sold at a total amount of Rs 1183.83 crore.

Details of the PSEs Divested in October, 1992

Name of the Enterprise

No. Of Shares Sold(in crore)

% of Total number of shares of the PSE

Amount of Sale(in Rs Crore)

Bharat Petroleum Corporation Limited (BPCL) 0.2500 5.00 161.65

Bongaigaon Refinery & Petrochemicals Ltd. (BRPL) 1.00 5.00 42.18

Fertilizers and Chemicals Ltd. (FACT) 0.05 0.15 1.30

Hindustan Petroleum Corp. Ltd. (HPCL) 0.32 5.00 153.75

Hindustan Zinc Ltd. (HZL) 1.03 2.54 36.47

Indian Telephone Industries Ltd. (ITI) 0.10 1.14 10.78

National Aluminium co. Ltd. (NALCO) 6.44 5.00 118.19

National Fertilizers Ltd. 0.03 0.06 0.72

Neyveli Lignite Corp. Ltd. (NLC) 1.73 1.20 34.94

Rashtriya Chemicals & Fertilizers Ltd. (RCFL) 0.15 0.28 4.00

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State Trading Corp. Of India Ltd. (STC) 0.03 0.10 2.25

Steel Authority of India Ltd. (SAIL) 19.93 5.00 617.60

Total 31.06 1183.83

Source: Public Enterprise Survey, 1995-96, VOL-I

B) THIRD TRANCHE OF DISINVESTMENT (MARCH, 1993):

Shares of 15 PSEs were offered for sale thorough auction. Out of 192 bids which were

received, 57 bids emerged successful on the basis of the reserve prices fixed by the core

group based on the recommendations of the merchant bankers. A total amount of Rs 46.73

crore was realised through sale of 1.0096 crore shares of 9 PSEs.

PSE Disinvested in March, 1993

Name of the enterpriseNo of shares sold(in crore)

% of total no of shares of the PSE

Amount of sale(in Rs crore)

Bharat Heavy Electricals Limited 0.1117 0.45 8.21

Bongaigaon Refinery & Petrochemicals Ltd 0.0800 0.40 3.22

Hindustan Copper Ltd 0.3411 1.12 8.07

Hindustan Zinc Ltd 0.0300 0.07 0.75

Hindustan Machine Tools Ltd 0.0300 0.34 1.41

Indian Telephone Industries Ltd 0.0700 0.79 4.85

National Aluminium Company Ltd 0.1023 0.08 1.88

National Mineral Development Corp. Ltd 0.2140 1.59 17.88

Neyveli Lignite Corp Ltd 0.0305 0.02 0.46

Total 1.0096 46.73

Source: Enterprise-wise details regarding number of shares and amount realised obtained by author from Department of Public Enterprises, Percentages of equity disinvested worked out by author based on paid up equity.

Amount realised from divestment in 1992 – 93

MonthNo of PSE disinvested

No of shares sold(in crore)

Amount realised(in crore)

Oct 92 8 12.87 681.95

Dec 92 12 31.06 1183.83

Mar 93 9 1.01 46.73

Total 16 44.94 1912.51

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Thus a total of 1912.51 crore was realised during 1992-93 against the target of Rs 2500 crore.


The target during this fiscal year was kept at Rs 3500 crore but the government could not go

in for further sale of shares due to unfavourable stock market conditions through 1993-94.


No divestment of PSE shares took place during 1993-94 due to adverse market conditions. In

spite of this an advertisement for sale of shares in some PSE’s was released in March 1994.

Actual realisation of funds took place from this round of divestment took place in 1994-95.

Changes effected in the procedure to encourage divestment are:

Bidding amount was lowered from Rs 1,00,000 to Rs 25,000 or value of 100

shares(whichever higher)

Registered FII’s were permitted for auction of PSE shares.

A) FIRST TRANCHE OF DISINVESTMENT (MARCH – APRIL 1994):

Considering the stock market conditions, Government evaluating the recommendations of

two merchant bankers – Industrial Credit and Investment Corporation of India, and Industrial

Development Bank of India fixed the minimum price to off-load shares of 7 PSE in March

1994.Out of these 7 PSE, only 1 PSE was not sold as no bid had been received.

PSE Divested in March/April, 1994

Name of the enterpriseNo. Of shares sold(in crore)

% of total number of shares of the PSE

Amount of sale(Rs in crore)

Bharat Electronics Limited 0.331 4.14 47.17

Bharat Earth Movers Ltd 0.150 4.07 48.27

Bharat Heavy Electricals Ltd 2.692 11.74 301.34

Hindustan Petroleum Corp Ltd 0.447 7.00 563.11

Mahanagar Telephone Nigam Ltd 7.694 12.82 1322.17

National Aluminium Company Ltd. 0.003 0.04 0.096

Total 11.317 2282.156

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Source: Details of total number of shares sold and amount realised as per Public Enterprises Survey, 1995-96, VOL-I Percentage of equity disinvested worked out by author based on paid-up equity.

B) SECOND TRANCHE OF DISINVESTMENT (OCTOBER 1994):

Notice inviting tenders was issued in October 1994 for sale of shares in seven PSE’s. Shares

were not sold for MTNL as there was no bid. Non-Resident Indians (NRIs) and Overseas

Corporate Bodies (OCBs) were permitted to bid for the shares for the first time.

PSE Divested in October, 1994

Name of the EnterpriseNo of shares sold(in crore)

% of total no of shares of the PSE

Amount of sale (in crore)

Container Corporation of India 1.299 20.00 99.71

Indian Oil Corporation 1.443 3.77 1028.11

National Fertilizers Ltd. 0.007 0.01 0.28

Oil and Natural Gas Co Ltd 0.686 2.00 1051.52

Steel Authority of India 0.372 0.41 22.66

Shipping Corporation of India Ltd. 0.387 1.37 28.08

Total 4.194 2230.36

Source: Details of total number of shares sold and amount realised as per Public Enterprise Survey, 1995-96, VOL-I. Percentage of equity disinvested worked out by author based on paid up equity.

C) THIRD TRANCHE OF DISINVESTMENT (JANUARY 1995):

In January 1995 shares of 6 PSEs were offered for sale. Out of 556 bids received, 209 were

accepted in respect to 5 companies and government decided not to sell shares in VSNL.

PSE Divested in January, 1995

Name of the enterpriseNo of shares

sold (in crore)

% of Total no of shares of the PSE

Amount of sale (in Rs crore)

Engineers India Ltd 0.108 5.99 67.526

Gas Authority of India Ltd 2.853 3.37 194.120

ITDC 0.675 10.00 51.985

Indian Oil Corporation Limited 0.008 0.03 5.538

Kudremukh Iron Ore Company Ltd 0.616 0.97 11.399

Total 4.260 330.568

Source: Details of number of shares sold and amount realised as per Public Enterprises Survey, 1995-96, VOL-I. Percentage disinvested worked out by author on the basis of paid-up equity.

FMG 18 B, GROUP-IV


MonthNo of PSEs Disinvested

No of shares sold(in crore)

Amount realised(in crore)

March/April 1994 6 11.317 2282.156

October 1994 6 4.194 2230.360

January 1995 5 4.260 330.568

Total 17 19.771 4843.084

DISINVESTMENT IN 1995 – 1996:

Against the target of Rs 7000 crore, the government decided to disinvest from only 4 PSEs –

MTNL, SAIL, CONCOR and ONGC in October 1995. Details are:

PSE Divested in October, 1995

Name of the enterpriseNo of shares sold

(In crore)Amount realised

(in crore)

Mahanagar Telephone Nigam Ltd (MTNL) 0.87 135.90

Steel Authority of India Ltd (SAIL) 0.44 13.30

Container Corp of India Ltd (CONCOR) 0.20 14.12

Oil & Natural Gas Corporation Ltd (ONGC) 0.02 5.16

Total 1.53 168.48

Note: All these PSEs were partially disinvested earlier also.Source: Public Enterprises Survey, 1995-96, VOL-I.

In addition, shares of Industrial Development Bank of India (IDBI) were disinvested during

the year and an amount of Rs 193 crore was realised. Although Public Enterprises Survey

does not reflect this amount but Ministry of Finance takes this into account. So the total

disinvestment receipts for the year was Rs 362 crore (Rs. 168.48 crore from disinvestment in

4 PSEs plus Rs 193 crore from disinvestment in IDBI).

PHASE II (1996-97 TO 1997-98):

DISINVESTMENT COMMISSION:

The government constituted Public Sector Disinvestment Commission under G. V.

Ramakrishna on 23 August, 1996 for a period of 3 years with the objective of preparing an

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over-all long term disinvestment programme for public sector undertakings. The main terms

of reference were:

A comprehensive overall long-term disinvestment programme (extent of

disinvestment, mode of disinvestment etc.) within 5-10 years for the PSUs referred to

it by the Core Group.

To select the financial advisors for specified PSUs to facilitate the disinvestment

process.

To monitor the progress of disinvestment process and take necessary measures and

report periodically to the Government.

The “core” group industries-telecommunications, power, petroleum etc that are

capital-intensive and where the market structure could be an oligopoly.

By December 1997, the commission had given six reports which included recommendations

in 34 enterprises. The commission also showed concern about slow progress in

implementation of its recommendations and it was particularly critical of government’s going

ahead with strategic sales leading to joint ventures in some PSEs not referred to the

commission.

However its power was axed later by the government. Out of 72 companies referred to it the

commission gave its recommendations on 58 PSEs and finally the commission lapsed on 30

November, 1999.

REVIEW OF THE RECOMMENDATION GIVEN BY THE DISINVESTMENT

COMMISSION:

The disinvestment Commission did not follow an ideological approach. It examined each

PSE and classified it as strategic and non-strategic.

Strategic units are those engaged in defence and security related production. In such

companies the government holding could be maintained at 100%. The non-strategic were

classified as core or non-core. The classification of PSE into core and non-core was made by

taking into account the structure of the industry, the competitiveness of the market in which it

operates its market share and the public purpose served by it.

The commission opined that the core group is one which is capital intensive and there is

tendency towards oligopolistic market structure. Examples were telecom, power generation

and transmission, petroleum exploration and refining industries. The commission

recommended disinvestment up to 49% in core area.

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Non-core areas were those in which private investments had grown considerably and markets

were fully contestable. The commission suggested disinvestment up to 74% in non core

areas.

Classification of Enterprises as Core and Non-Core by Disinvestment Commission

Industry (Core) No Public Sector Enterprises

Petroleum 3Oil and Natural Gas Corporation Ltd (ONGC)

Oil India Ltd (OIL)Gas Authority of India Ltd (GAIL)

Steel 1 Steel Authority of India Ltd (SAIL)

Minerals and metals 2National Aluminium Company Ltd (NALCO)National Mineral Development Corp (NMDC)

Transport services 2Air India (AI)

Container Corporation of India Ltd (CONCOR)

Ind. Dev. And Tech. Consultancy services

2Rail India Technical and Economic Services Ltd. (RITES)

Power Grid Corp of India Ltd (POWERGRID)

Coal and Lignite 1 Neyveli Lignite Corp Ltd (NLC)

Power 2National Thermal Power Corp (NTPC)

National Hydro Electric Power Corp. (NHPC)

Telecommunication 1 Mahanagar Telephone Nigam Ltd.(MTNL)

Total 14

Industry (Non-Core) No Public Service Enterprises

Petroleum 2Bongaigaon Refineries and Petro Chemicals Ltd

(BRPL)IBP Ltd

Steel 2Sponge Irol India (SIIL)

Rashtriya Ispat Nigam Ltd (RINL)

Mineral and Metals 5

Hindustan Zinc Ltd (HZL)Hindustan Copper Ltd (HCL)

Bharat Aluminium Co (BALCO)Kudremukh Iron Ore Co Ltd (KIOCL)

Manganese Ore India Ltd (MOIL)

Transportation services 2Pawan Hans Helicopters Ltd (PHL)Shipping Corporation of India (SCI)

Ind Dev and Tech consultancy services

3

Engineers India Ltd (EIL)Engineering Projects (I) Ltd (EPIL)

Metallurgical and Engg Consultants (India) Ltd. (MECON)

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Chemicals and pharmaceuticals 3Indian Petrochemicals Corp Ltd (IPCL)

Hindustan Insecticides (HIL)Hindustan Organic Chemicals Ltd (HOCL)

Fertilizer 6

Fertilizers and Chemicals (Travancore) Ltd (FACT)National Fertilizers Ltd (NFL)Madras Fertilizers Ltd (MFL)

Pyrites, Phosphates and Chemicals Ltd (PPCL)Rashtriya Chemicals and Fertilizers Ltd (RCFL)

Paradeep Phosphates Ltd (PPL)

Medium and Light Engineering 3Hindustan Teleprinters (HTL)

Indian Telephone Industries (ITI)Central Electronics Ltd. (CEL)

Heavy Engineering 1 Bharat Heavy Electronics Ltd (BHEL)

Tourist Services 4

Indian Tourism Dvp Corp (ITDC)Hotel Corp of India Ltd (HCIL)

Ranchi Ashok,Utkal Ashok

Consumer goods 5

Hindustan Latex Ltd (HLL)Modern Food Industries Ltd (MFIL)

Hindustan Vegetable Oils Ltd (HVOC)North Eastern Papers (NEPA Ltd)

Rehabilitation Industries Corp Ltd (RICL)

Trading and Marketing Services

5

Electronic Trade and Technology Devp Corp (ET&T)State Trading Corp (STC)

Minerals and Metals Trading Corp (MMTC)Projects and Equipments Corp (PEC)Metal Scrap Trading Corp (MSTC)

Contract and construction services

3Hindustan Prefab Ltd (HPL)

Hindustan Steel Works Construction (HSCL)Mineral Exploration Corp Ltd (MECL)

Total (Non-Core) 44

Grand Total 58Source: Disinvestment Commission Reports

Disinvestment Modalities Recommended by the Disinvestment Commission

Modalities of Disinvestment No of PSEs Name of PSEs

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Involving change in ownership/management

Strategic sale

Trade sale

31

8

HTL, ITI, BALCO, BRPL, KIOCL, MFL, EIL, HPL, IBP, NEPA, HZL,

PPCL, NFL, FACT, IPCL, HCL, SCO, HLL, AI, HSCL, STC, MMTC, PPL,

MECON, BHEL, Hindustan Insecticides, HOCL, RCFL, RINL, NLC, MOIL

ITDC, MFIL, HCIL, R-Ashok U-Ashok, PHL, SIIL, MSTC

Involving no change in ownership/management

Offer of shares 6 GAIL, CONCOR, MTNL, NALCO, NMDC, RITES

No change disinvestment deferred

8 OIL, ONGC, NTPC, NHPC, POWERGRID, SAIL, CEL, MECL

Closure/sale of assets 4 EPIL, ET&T, HVOC, RICLManagement employee

buyout/strategic sale/closure1 PEC

Total 58

Source: Disinvestment Commission Reports (1 to 13)

DISINVESTMENT IN 1996-97

In 1996-97 a target of Rs. 5000 crore was fixed for mobilization of resources through

disinvestment of PSE shares. In order to do this, companies from petroleum and

communication sectors were chosen namely IOC and VSNL. But due to unfavourable market

conditions the GDR of only VSNL could be issued. In the GDR, 39 lakh shares of VSNL

were disinvested resulting in an amount of Rs 380 crore.

DISINVESTMENT IN 1997-98

The budget for 1997-98 had taken a credit for an amount of Rs 4800 crore to be realised from

disinvestment of government held equity in PSEs. This was supposed to be achieved by the

disinvestment of MTNL, GAIL, CONCOR and IOC..

A GDR of 40 million shares held by the government in MTNL was offered in international

market in November, 1997. A total of Rs. 902 crore was collected but due to highly

unfavourable market conditions the GDR issue of GAIL, CONCOR, and IOC was deferred.

PHASE III (1998-99 TO 2007-2008)

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This phase marked a paradigm shift in the disinvestment process. First in the 1998 – 99

budgets BJP government decided to bring down the government shareholding in the PSEs to

26 %to facilitate ownership changes which were recommended by Disinvestment

Commission. In 1999 – 2000 government state that its policy would be to strengthen

strategic PSEs privatise non-strategic PSEs through disinvestment and for the first time the

term ‘privatisation’ were used instead of disinvestment. The government later formed the

Department of Disinvestment on 10 December 1999. The following criteria were observed

for prioritisation for disinvestment:

Where disinvestments in PSEs would lead to large revenues to the government

Where disinvestment can be implemented with minimum impediments and in

relatively shorter time span; and

Where continued bleeding of government resources can be stopped earlier.

DIVESTMENT IN 1998 – 99:

The government decided to disinvest through offer of shares in GAIL, VSNL, CONCOR,

IOC and ONGC. The budget for 1998 – 99 had taken a credit for Rs 5,000 crore to be

realised through disinvestment. The details of the various transactions are:

PSEs Disinvested in 1998 - 99


Mode of DisinvestmentNo of shares sold (in crore)

Receipts(in crore)

CONCORDomestic issue

0.9000 221.65

GAIL Divested/sold to institutional investors Cross holding by ONGC Cross holding by IOC

3.0610

4.08404.0840

181.78

245.04245.04

IOC Cross holding by ONGC 3.1272 1208.96

ONGC Cross holding by IOC Cross holding by GAIL

12.53492.7719

2034.96450.00

VSNL GDR issue 1.0000 783.68Total 31.5630 5371.11

Note: All these PSEs were partially disinvested earlier alsoSource: Public Enterprises Survey, 1998 – 99, VOL-I gives total amount realised as Rs 5,371 crore. Enterprise-wise details are obtained from Ministry of Disinvestment

DISINVESTMENT IN 1999 -2000:

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The budget for 1999 – 2000 had taken a credit for Rs 10,000 crore to be realised through

disinvestment. The government disinvested from Modern Foods India Ltd and did a strategic

sale to their strategic partner – HLL for Rs 105, 45 crore for a 74 % equity stake. This was

the first time government had sold more than 50 % holding. Further government adopted the

following ways to raise money through disinvestment:

Disinvestment in 1999 -2000

Name of the enterprise

Mode of disinvestmentNo of shares sold(in crore)

Receipts(in crore)

GAIL GDR issue 13.5000 945.00IOC Cross holding by ONGC 0.4212 162.79

ONGC Cross holding by IOC Cross holding by

GAIL

1.17180.6548

190.19106.29

VSNL Domestic Market 0.1000 75.00Modern Food Industries Ltd

Strategic sale of 74 % equity 0.0920 94.51

Total 15.9398 1573.78Note: Other than MFIL, all other enterprises were partially disinvested earlier also.Source: Enterprise – wise details obtained from Ministry of Disinvestment.

DISINVESTMENT IN 2000 -2001:

Against a target of 10,000 crore, the government realised Rs 1868.73 crore. The details are:

Disinvestment in 2000 – 2001

Name of the enterprise Mode of Disinvestment Receipts (in crore)BALCO Strategic sale of 51% 551.50BRPL and Chennai Refineries Taken over by IOC 658.13Kochi Refinery Taken over by BPCL 659.10Total 1868.73

Note: Other than BALCO, all other enterprises were partially disinvested earlier also.Source: Ministry of Disinvestment


Against a target of 12,000 crore, the government realised Rs 3130.94 crore during the year.

The highlight of this disinvestment was that strategic sales were affected in CMC, HTL, IBP,

VSNL and PPL. The details are:


FMG 18 B, GROUP-IV



Mode of Disinvestment Receipts (in crore)

CMC Strategic sale of 51 % 152.00HTL Strategic sale of 74 % 55.00IBP Strategic sale of 33.58 % 1153.68VSNL Strategic sale of 25 % 1439.00PPL Strategic sale of 74 % 151.70ITDC Sale of 8 hotels and long term lease of one hotel 179.56Total 3130.94

Note: Out of these six PSEs, three – CMC, VSNL and ITDC were partially disinvested earlier also.Source: Ministry of Disinvestment website


Target of the government for disinvestment in the year was Rs 12,000 crore. The major

highlight was the two-stage sell off in Maruti Udyog Ltd with a Rs 400 crore right issue at a

price of Rs 3280 per share of Rs 100 each in which the government renounced whole of its

rights share (6,06,585) to Suzuki, for a control premium of Rs 1000 crore. Relative share

holding of Suzuki and government after completion of the rights issue was 54.20 % and

45.54 % respectively. The second stage government offloaded its holding in two tranches –

first where government sold 27.5 % of its equity through IPO in June 2003. The issue was

oversubscribed by over 10 times. Later keeping in view the overwhelming response from

sale of Maruti, government sold its remaining shares in the privatised companies of VSNL,

CMC, IPCL, BALCO and IBP to public through IPO’s.

Strategic sale of IPCL was also finalised in May 2002. The decision to disinvest IPCL was

although taken in December 1998, it took three and half years to finalise the deal. Reliance

Petro industries Ltd (Reliance group) was finally inducted as a strategic partner with a 26 %

sale in IPCL. The details of the disinvestment during 2002 – 2003 are:


Name of the Enterprise Mode of DisinvestmentReceipts (in crore)

HZL Strategic sale of 26 % 1.46 % equity disinvested in favour of employees

445.006.18

Maruti Udyog Ltd Control premium for sell off to Suzuki 1000.00IPCL Strategic sale of 26 % 1491.00ITDC Sale of 10 properties 272.81MFIL Residual sale of 26 % equity 44.08CMC 6.06 % equity disinvested in favour of employees 6.07Total 3265.17

Note: Other than Maruti Udyog Ltd, other PSEs were partially disinvested earlier.

FMG 18 B, GROUP-IV


Source: Ministry of Disinvestment reply to Lok Sabha. Unstarred question no. 1351 answered on 26 Feb 2003.

From a summary of the Disinvestment from 1991-92 to 2002-2003 we can know what targets

were set by the government and how much was realised. Also the various companies from

which the government has disinvested are mentioned.

DISINVESTMENT FROM 2003 – 2004 TO 2007 - 08:

The government had fixed a high target for the year 2003 – 04 as 14,500 crore. The strategic

sale of JCL, and offer sales of many PSEs like MUL, IBP, IPCL, CMC, DCI, GAIL and

ONGC has exceeded the target fixed by the government to a total receipt of Rs 15,547.41

crore. Out of this Rs 12,741.62 crore receipts through sale of minority shareholding in

CPSEs. In 2004 – 05 the target was reduced to Rs 4,000 crore and share sales of NTPC,

ONGC spillovers and IPCL shares to employees pushed the total receipts to Rs 2,764.87

crore. In the other 3 years of this phase – from 2005 – 06 till 2007 – 2008 the government

fixed no targets and the total receipts were very less to with the year 2006 – 07 yielding no

receipts at all.

NATIONAL INVESTMENT FUND

On 27th January 2005, the Government had decided to constitute a “National Investment

Fund” (NIF) into which the realisation from sale of minority shareholding of the Government

in profitable CPSEs would be channelised. The Fund would be maintained outside the

Consolidated Fund of India. The income from the Fund would be used for the following

broad investment objectives: -

(a) Investment in social sector projects which promote education, health care and

employment;

(b) Capital investment in selected profitable and revivable Public Sector Enterprises that

yield adequate returns in order to enlarge their capital base to finance expansion/

diversification.

SALIENT FEATURES OF NIF:

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(i) The proceeds from disinvestment of Central Public Sector Enterprises will be channelised

into the National Investment Fund which is to be maintained outside the Consolidated Fund

of India.

(ii) The corpus of the National Investment Fund will be of a permanent nature.

(iii) The Fund will be professionally managed to provide sustainable returns to the

Government, without depleting the corpus. Selected Public Sector Mutual Funds will be

entrusted with the management of the corpus of the Fund.

(iv) 75 per cent of the annual income of the Fund will be used to finance selected social

sector schemes, which promote education, health and employment. The residual 25 per cent

of the annual income of the Fund will be used to meet the capital investment requirements of

profitable and revivable CPSEs that yield adequate returns, in order to enlarge their capital

base to finance expansion/diversification.

FUND MANAGERS OF NIF:

The following Public Sector Mutual Funds have been appointed initially as Fund Managers to

manage the funds of NIF under the ‘discretionary mode’ of the Portfolio Management

Scheme which is governed by SEBI guidelines.

i) UTI Assets Management Company Ltd.

ii) SBI Funds Management Company (Pvt.) Ltd.

iii) Jeevan Bima Sahayog, Asset Management Company Ltd.

CORPUS OF NIF:

The corpus of the Fund is Rs.1814.45 crore being the proceeds from the disinvestment in

Power Grid Corporation and Rural Electrification Corporation. The pay out on NIF was

Rs.84.81 crores in the first year. The payout received in the second year was Rs.209.24

crores. Average income of first year was 8.47%. Average income of second year was

10.02%. Thus, the average income was 9.245% against the hurdle rate of 9.25%.

RESTRUCTURING OF NIF:

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In view of the deceleration of GDP growth due to global economic downturn coupled with

unprecedented drought this summer, we are facing a reduced budgetary resource generation

possibility. To ensure that this does not negatively impact the growth of economy;

Government has approved (on 5th November, 2009) one-time exemption permitting full

utilization of disinvestment proceeds deposited in the National Investment Fund, over this

and the next two Financial Years, in meeting the capital expenditure requirements of selected

social sector programmes decided by the Planning Commission/Department of Expenditure.

The status quo ante will be restored from April 2012.

PHASE IV (Current Scenario)

THE LINE-UP FOR DISINVESTMENT

It is quite clear that the Government does have divestment of its stakes in PSUs high on

its agenda for the near future. Which companies are likely candidates? Here’s a line-up:

The IPOs that may flag off the divestment process may well be NHPC, RITES and Oil India,

which have already filed their respective draft prospectuses with SEBI over the past two

years.

NHPC: NHPC is the country’s largest hydro power generator, engaged in planning,

development and implementation of hydro-electric projects. Based on the offer document, the

government stake will come down to 86.3 per cent post-issue. The earnings per share (EPS)

for the FY09 is Rs 1.01.

FMG 18 B, GROUP-IV


RITES: RITES, under the Ministry of Railways, provides transport infrastructure

consultancy, engineering and project management services. The PSU plans a fresh issue,

bundled with an offer for sale that may bring down the Government’s stake to 72 per cent.

The book value/share and EPS for the year ended FY07 were Rs 133 and Rs 30 respectively.

OIL India: Oil India is engaged in the exploration, development, production and

transportation of crude oil and natural gas onshore. The company comes under Ministry of

Petroleum and Natural Gas. The Centre’s stake will fall to 89 per cent post-issue. The offer

document mentions an EPS of Rs 73.6 for the last financial year.

Long on the stake sale shortlist, the following PSUs are possible candidates which may seek

listing through an IPO/offer for sale route.

Coal India is among the largest coal-producing companies in the world and is the only un-

listed navaratna PSU (except for HAL, which comes under strategic area). CIL had a turnover

of Rs 38631 crore in 2007-08. It is expected to hit the IPO market in near future.

Telecom major, BSNL and steel maker, RINL (Vizag steel), Cochin Shipyard,

Telecommunications Consultants India and Manganese Ore are the other likely candidates

that may tap the market. These entities have been on the divestment shortlist for quite a

while.

Stake dilution is also possible in listed PSUs with a high proportion of government

holdings. A 5-10 per cent stake sale in these companies will bring huge gains for the

government, even without losing the management control. NMDC, BHEL, NTPC, SAIL,

Neyveli Lignite, MMTC, RCF are likely follow-on offer candidates.

At current market prices, a 5 per cent stake sale in NTPC would fetch the government around

Rs 8,864 crore. In case of Neyveli Lignite, SAIL, BHEL, MMTC and NMDC, the receipts

would be around Rs 1,168 crore, Rs 3,570 crore, Rs 5,321 crore, Rs 6,800 crore and Rs 8,900

crore respectively.

Public sector banks that have a high proportion of government holdings are ripe for a

dilution of stake, given their capital needs. While the stake dilution in PSBs will not help the

government in terms of receipts, as fresh issues may be needed to bolster the banks’ capital

adequacy requirements, it will save the government equity infusion from time to time.

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Central Bank of India (80 per cent), Canara Bank (73 per cent), Indian Bank (80 per

cent) and Bank of Maharashtra (76 per cent) are banks with high government stake. The

unlisted United Bank of India is also considering an IPO in the near future.

Proposal under implementation during 2009-10

i)NTPC Limited:-Government on 19th October 2009, approved disinvestment of 5%

equity of the company out of Government shareholding through Public Offering in the

domestic market.

ii)SJVN Limited (Satluj Jal Vidyut Nigam Limited) -Government on 19th

October 2009 approved disinvestment of 10% equity of the company out of Government

shareholding through Public Offering in the domestic market.

iii) Rural Electrification Corporation Limited (REC) - Government on 29th

October 2009, approved disinvestment of 5% equity of the company out of Government

shareholding in conjunction with the issue of fresh equity of 15% by the company

iv) NMDC Limited - Government on 3rd December 2009,approved disinvestment of

8.38% paid up equity of NMDC Ltd. out of Government shareholding through Public

offering in domestic market.

Summary of Disinvestment till 1992 – 2010

Year Target amount(in crore)

Amount realised (in crore)

Enterprises disinvested *

Methodology

1991 – 92 2,500 3038.00 30 (30) Minority shares sold by auction method in bundles of ‘very good’, ‘good’, and ‘average’ companies.

1992 – 93 2.500 1912.51 16 (2) Bundling of shares abandoned. Shares sold separately for each company by auction method.

1993 – 94 3.500 Equity of 7 companies sold by open auction but proceeds received in 1994 – 95

1994 – 95 4,000 4843.08 16 (7) Sale through auction method, in which NRIs and other persons legally permitted to buy, hold or sell equity.

1995 – 96 7,000 362.00 4 (-) Equities of 4 companies auctioned and government piggy-backed in the IDBI fixed price offering for the fifth company.

1996 – 97 5,000 380.00 1 (-) GDR (VSNL) in international market.

FMG 18 B, GROUP-IV


1997 – 98 4,800 902.00 1 (-) GDR (MTNL) in international market1998 – 99 5,000 5371.11 5 (-) GDR (VSNL)/ Domestic offerings with

the participation of FIIs (CONCOR, GAIL). Cross purchase by 3 oil sector companies i.e., GAIL, ONGC & IOC.

1999 – 00 10,000 1573.78 5 (1) GDR (GAIL) in international market, VSNL domestic issue, cross – holding in IOC and ONGC, and strategic sale of MFIL.

2000 – 01 10,000 1868.73 3 (1) BALCO, KRL (CRL) & MRL through strategic sale/acquisition

2001 – 02 12,000 3130.94 6 (3) Strategic sale of CMC, HTL, IBP, VSNL and PPL. Sale of eight hotels and long term lease of one hotel of ITDC.

2002 – 03 12,000 3265.14 5 (1) Strategic sale of HZL, IPCL, Maruti Udyog Ltd. Sale of 10 properties of ITDC and residual equity of MFIL.

2003 - 04 14,500 15,547 10 Strategic sale of JCL, call option of HZL, offer for sale of MUL, IBP, IPCL, CMC, DCI, GAIL, and ONGC; sale of share of ICI Ltd.

2004 - 05 4,000 2,764.87 3 Offer sale of NTPC and spillover of ONGC; sale of shares to IPCL employees.

2005 - 06 No target fixed

1,569.68 1 Sale of MUL shares to Indian Public Sector financial institutions and banks and employees.


- - -


2,366.94 1 Sale of MUL shares to public sector financial institutions, public sector banks, and Indian mutual funds.

2008-09 No target fixed

- - -

2009-2010 No target fixed

4,259.90 - - -

(Rs.2012.85 - NHPC and Rs.2247.05 - OIL)

Total 37,803.46 (60)

Note: *Enterprises disinvested for the first time given in brackets.* Out of Rs.5371.11, Rs. 4184 crore constitute receipts from cross purchase of shares of ONGC, GAIL and IOC.** Out of Rs.1479.27, Rs.459.27 crore constitutes receipts from cross purchase of shares of ONGC, GAIL and IOC.

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MODERN FOOD INDUSTRIES (INDIA) LIMITED:

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CASE STUDIES


Modern Food Industries was incorporated as Modern Bakeries (India) Ltd. in 1965. It had

2042 employees as on31 January, 2000. It went through minor restructuring when its Ujjain

plant was closed, the Silchar project was abandoned and the production of Rasika drink was

curtailed. The company was referred to Disinvestment Commission in 1996. In February

1997, the Commission recommended 100% sale of the company, treating it in the non-core

sector. As per the Disinvestment Commission the major problems at MFIL were under-

utilization of the production facilities, large work force, low productivity and limited

flexibility in decision-making.

PRE – DISINVESTMENT SCENARIO:

MFIL: Pre-Disinvestment Performance

Details 1995-96 1996-97 1997-98 1998-99 1999-2000

Sales- Bread 95.0 104.0 103.5 89.0 78.0

Energy food/ Non-Bakery Operations

45.2 62.8 78.0 71.0 71.0

Total 140.2 166.8 181.5 160.0 149.0

Net Profit/loss 11.52 16.45 7.65 (7.00) (48.00)

Source: Ministry of Disinvestment, Government of India

During 1995-96 to 1997-98 MFIL recorded profits as wheat was provided to it at a subsidised

rate but once that was withdrawn it started making losses as the increased costs could not be

passed on the consumers. Also the high overhead cost of Rs 1.90 per loaf against the industry

norm of Rs.0.90 per loaf added to the problem.

In September, 1997 the government approved 50% disinvestment of MFIL to strategic

partner through competitive global bidding. In October 1998, ANZ investment Bank was

appointed as the global advisor for assisting in disinvestment. In January, 1999 the

government decided to raise the disinvestment level to 74 % and an advertisement inviting

expression of interest from perspective strategic partners was issued in April, 1999.


In a response to the advertisement 10 parties submitted Expressions of Interest. Out of these,

4 conducted the due diligence of the company, which included visits to Data Room,

interaction with the management of the MFIL, and site visits. In October, 1999 post due

diligence, 2 parties remained in the field, and on the last day for submission of the financial

FMG 18 B, GROUP-IV


bid (15.10.99), the only bid received was that from Hindustan Lever Limited (HLL). Finally

in January, 2000, the Government approved the selection of HLL as the strategic partner in

and the deal was closed on 31.1.2000.

VALUATION OF MFIL:

The 100% value of MFIL by different methodologies is give below:

MFIL: Valuation under different Methods

Valuation Key Assumption Value (in Rs crore)

Discounted Cash Flow“As is Where is”&

Growth in Market Share

Negligible

32.11

Transaction Multiple Sales Multiple 78.55

Balance Sheet Net Worth 28.51

Asset Valuation Liquidation 68.18

Market Value of Land & Buildings Unrestricted use 109.00


Sales realization for 74% equity was Rs. 105.45 crore. This corresponds to Rs. 142.50 crore

for sale of 100% equity. The agreement with HLL provided for post-closing adjustments –

difference between net working capital as on 31st, March, 1999 and net working capital on

closing date 31st January, 1999 and increase in debt amount on closing date 31st, January,

1999. Due to reduced working capital and increase in debt amount, the government paid back

Rs. 10.94 crore. Thu the net realisation was Rs. 94.51 crore for 74% equity.

POST-DISINVESTMENT PROCESS:

MFIL: Post Disinvestment Performance

Details Pre- Disinvestment Post-Disinvestment

Year 1998-1999 1999-2000 2000-2001

Sales -Bread 89 78 102

Energy Food 71 71 66

Total 160 149 168

Net Profit / Loss (7) (48) (20)


FMG 18 B, GROUP-IV


The decline in the sales of Modern Bread, which continued till the beginning of 2000,

was arrested. Weekly sales in December 2000 were around 44 lakh SL, which is a

100% increase over the figure of April 2000.

As on 31.12.2000, HLL has extended secured corporate loans to MFIL to the extent

of Rs. 16.5 crore for meeting the requirement of funds for working capital and capital

expenditure.HLL has provided a corporate guarantee to MFIL's banker, viz., Punjab

National Bank, which has helped the Company in getting the interest rate reduced

considerably to the extent of 3-4% of its earlier borrowing cost.

Steps were taken to improve the quality of bread, its packaging and marketing with

trade-promotion activities, and to train the manpower in quality control systems. In

November, 2002 wages have increased by an average of Rs.1800 per employee. Rs.

30 crore was spent for VRS. Again Rs. 7 crore were infused for safety & hygiene

purposes at various manufacturing locations

The Government was also entitled to ‘Put’ its share of remaining equity of 26 %

at Fair Market Value for 2 years from 31st January 01 to 30th January 03. The

Government exercised this option and thereby received Rs. 44.07 crore on 28th

November 02.

THE FAILURE:

Despite HUL’s best efforts MFIL continued to make losses, HUL had invested 157 crore in

MFIL’s equity. In 2005, its losses were Rs 15 crore and accumulated losses were Rs 79 crore.

At the operating profit level, before interest and depreciation, it did make a profit though of

Rs 22 crore compared to a loss of Rs 7 crore in the previous year.

Bread sales grew by about 7%. The company suffered as it lost some lucrative government

contracts and changed its operational structure. Hence overall sales declined by 35% to Rs 95

crore. However, HUL did enjoy tax benefits as MFIL was a sick industrial unit. The company

put MFIL on the block in 2006 but failed to clinch a deal

However, HUL still was unsuccessful in turning around the business and due to high

employment costs and low margins. As per the company, the culture of MFIL was a complete

misfit with its own. The company has committed a mistake while conducting the due

diligence process.

FMG 18 B, GROUP-IV


BALCO – DISINVESTMENT STORY

COMPANY PROFILE:

Bharat Aluminium Company Limited, set up in

1965 at Korba in Madhya Pradesh to manufacture

aluminium rods and semi-fabricated products, is

today the third largest player in the Indian

aluminium industry.

BALCO has its corporate office in New Delhi. Its

main plant and facilities are situated in Korba

(Chhattisgarh), which includes bauxite mines, an alumina refinery, a smelter and a fabrication

unit, besides a 270 MW power plant which meets a substantial part of the unit's power

requirements. It also has another fabrication unit in Bidhanbagh (West Bengal). The refining

capacity of BALCO is 2, 00,000 tonnes per year and its smelting capacity is 1, 00,000 tonnes

per year. BALCO also curtails a fully built township of over 15,000 acres where over 4,000

families live.

THE DISINVESTMENT DECISION:

The Government of India had 100% stake in BALCO prior to disinvestment. In 1997, the

Disinvestment Commission classified BALCO as non-core for the purpose of disinvestment

and recommended immediate divestment of 40% of the Government stake to a strategic

partner, and reduction of the Government stake to 26% within 2 years through a domestic

public offering. It further recommended divestment of the entire remaining stake at an

appropriate time thereafter. The Cabinet accepted the recommendation of the Disinvestment

Commission for divestment of 40% stake through a strategic sale and further divestment

through the capital market.

Later, in 1998, the Disinvestment Commission revised its recommendation and advised the

Government to consider 51% divestment in favour of a strategic buyer along with transfer of

management, which was accepted by the Cabinet. The Government thereupon appointed M/s

Jardine Fleming as Advisor to assist in the sale of its 51% stake in BALCO to a strategic

buyer.

FMG 18 B, GROUP-IV


This was followed by BALCO's equity being reduced by 50% thereby reducing the

subscribed share capital to Rs.244 crore from Rs.488 crore. As a result, the Government

received Rs. 244 crore from the capital restructuring of BALCO and another Rs. 31 crore as

tax on this amount, prior to disinvestment. The strategic sale process for BALCO started in

late 1997, after the first decision of the Government, and finally came to end in 2nd March

2001. The 51% stake was sold to Sterlite Industries, the highest bidder, and fetched the

Government Rs. 551.50 crore. The government thus recovered Rs 827.50 crore from this

privatization.

BALCO: Pre- Disinvestment Performance

Details 1997 - 98 1998 - 991999 – 2000

Sales 848.51 870.90 896.64

Other income 48.10 68.84 70.08

Total income (1+2) 896.61 939.80 966.72

Total expenditure 714.08 758.24 806.28

Profit before depreciation, interest & taxes (PBDIT)

182.53 181.56 160.44

Profit before interest & taxes (PBIT) 141.53 140.64 122.01

Profit before tax (PBT) 134.87 134.34 116.19

Profit after tax (PAT) 79.84 76.32 55.89

Dividend 20.00 23.00 18.00 Source: Public Enterprises Survey, 1999 – 2000

VALUATION OF 51% STAKE:

There were three bidders viz the US-based Alcoa and Indian market leader Hindalco and

Sterlite. Sterlite’s financial bid was the highest among the bidders, according to an official

release by the government. The company was valued by three different methods:

Discounted cash flow

Comparative valuation

Balance sheet and asset valuation

BALCO: Valuation under Different Methods

Valuation method Value (in Rs crore)

Discounted cash flow (DCF)(computers likely earnings in coming years)

651.2 to 994.7

FMG 18 B, GROUP-IV


Comparables (looks at peer group companies) 587.0 to 909.0

Balance sheet method (looks at net worth from balance sheet) 597.2 to 681.9

Asset valuation (replacement cost/sale value of assets) 1054.9 to 1072.2

Source: Ministry of Disinvestment, Government of India.

The valuation was applied by the official valuer J P Morgan. The reserve price of Rs 514.40

crore was reached by marking up the valuation, arrived at by using the discounted cash flow

(DCF) technique, by 25 per cent, used as the control premium.

SCENARIO POST SALE:

Post sale, a number of doubts have been raised by various quarters on the disinvestment of

BALCO, especially with regard to

Transparency

Valuation

Protection of employees’ interests

No sooner was the BALCO deal announced than it created a furore within and outside

Parliament. The opposition raised eyebrows. There was distrust from state government and

the workers of BALCO went on a 67 days strike. It seemed as if the Sterlite management had

to sweat a lot before it actually got the right over the catch it craved for. This finally came to

an end when the new management stroke a deal with the employees. Several new steps were

undertaken, some of which are:

The new management had introduced VRS ie Voluntary Retirement Scheme from

31.07.01 to 16.08.01. 981 applications (151 executives and 830 workers) were

received. 694 old VRS applications were pending. A total of 956 applications were

accepted mostly where units were lying closed.

In spite of losses of Rs. 200 crore due to the strike, an exgratia payment of Rs. 5000

was made to all employees.

Long-term wage agreement for a period of 5 years was entered into/

Workmen get a guaranteed benefit @ 20% of basic pay.

An Increase in allowances was also announced:

o Night shift allowance: Rs.10 to Rs.20 per shift.

o Canteen allowance: Rs.400 p.m. (instead of subsidised canteen facilities)

o Education allowance: Rs. 50 to Rs. 75 per month

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o Hostel allowance: Rs.150 to Rs.200 per month

o Scholarship amount to meritorious children doubled.

o Leave Travel Assistance of around Rs. 6000 as cash every year.

o Conveyance allowance: Scooter users Rs. 400 to Rs. 500 pm, Moped users Rs.

240 to Rs. 350 pm, others users Rs. 150 to Rs. 260 pm.

Several new practices introduced. Few were:

o Job rotation

o Appraisal system

The new management is proposing an investment of Rs. 6000 crore which will increase production 4

times.

THE REAL PICTURE:

The disinvestment of 51% stake in BALCO by the government of India towards a strategic partner

was backed by two justifications:

From a market share of around 17 per cent in 1995-96 in the primary aluminum

business, BALCO’s share had dropped to 14 per cent in 1998-99. Several reasons

were mentioned that were responsible for hindering its growth. They were:

o Lack of economies of scale

o Old age technology

o Overstaffing

o Operational bottlenecks

o Lack of managerial autonomy

Thus, a complete review and restructuring was urgent to enable the company to stand

a better chance to stake its claim in the globally competitive Indian aluminium

industry.

Although there were three bidders, Sterlite’s financial bid was the highest among the

bidders, according to an official release by the government. Intact, government

claimed that it was getting a price greater than expected.

However, there are certain facts from the other angle that demand attention. The following

tries to uncover some of them:

FMG 18 B, GROUP-IV


Government had no modernisation and expansion under consideration for the

aluminium giant:

To quote the Disinvestment Commission: "BALCO as a PSU has suffered from

procedural bottlenecks and lack of managerial autonomy. The CRM project at Korba

has been cleared after eight years with near-doubling of the capital outlay. The

company was not able to get clearance from the government for setting up 100%

captive power generation. As a result, the company had to depend on high cost power

from the State Electricity Board which resulted in avoidable cost increases. The delays

and the lack of autonomy have certainly affected its operating profits which would have

been much higher had it been able to implement these projects earlier."

Thus even the Disinvestment Commission's recommendation that the government should

resort to a strategic sale of 40 per cent of BALCO equity can be seen as misplaced. What was

required instead was a reorganisation aimed at allowing BALCO the freedom to use its own

capacity to mobilise resources to modernise, expand its captive power facility and raise its

profitability. In practice, as a prelude to the privatisation process, in March 2000 the

subscribed share capital of BALCO was brought down to Rs.244 crore from Rs.488 crore, by

appropriating part of the Rs.437 crores into the government's account. This was a clear

indication that modernisation and expansion was not even under consideration.

BALCO, a profit making PSU, was valued at what is considered a

throwaway price:

o Cash flows determined by undermining profitability:

This also implies that BALCO's profitability has been undermined by the

government's own role in stalling modernization and expansion at Korba. Hence,

the then profit performance of the unit cannot be the basis on which the future

profile of profits could be estimated. However, the tendency for Arun Shourie, the

Minister for Disinvestment, to emphasize repeatedly that profits earned by

BALCO had fallen from Rs.163 crore in 1996-97 to Rs.25 crore in 2000-01

suggests that this stream of profits has entered into assessments of the future

profile of profits that have been discounted to value the worth of the company.

This amounts to squeezing the profits of a public sector unit and then using that to

undervalue the firm, consciously or otherwise.

FMG 18 B, GROUP-IV


o BALCO’s assets were undervalued:

It is still being argued that a direct valuation of BALCO’s assets was worth around

10 times the value paid by Sterlite. In fact, officials from the power sector have

argued that the captive power plant alone would cost more than the sum being

paid by Sterlite. According to reports, a senior official held that if Sterlite were to

invest in a captive power plant of the kind owned by BALCO, it could cost Rs.1,

215 crore and this figure matters, for the value of the plant at Korba (set up in

1988-89) is still substantial, since a thermal power plant has a lifespan of around

35 years.

BALCO was self-sufficient to fund its projects:

Since BALCO was a profitable and cash-rich public sector corporation with an

extremely low debt to equity ratio, it would have been possible for it to finance its

proposed modernisation plan (estimated to cost Rs.1, 000 crore) without recourse to

budgetary funds. The project was to include the setting up of a cold rolling mill, the

expansion of captive power generation and modernisation of existing facilities. This

would have allowed the corporation to improve its profitability and increase the

dividend it pays to the exchequer.

No transparency in the deal:

The valuation procedure that yielded the undeclared reserve price below which

the government was not willing to sell has neither been transparent nor undertaken by

qualified valuers capable of valuing the plant and machinery of the company and the

bauxite mines that it has on lease.

The whole procedure had been gone through in haste. Even though the bids had been

invited some time back, the valuation of the firm, the setting of the reserve price and

the acceptance of Sterlite's bid were all allegedly done within the span of a month.

Leaked evidence of undue haste has accumulated and this further puts a question

mark over the government's claims of transparency in the execution of the deal.

TO CONCLUDE:

A combination of inappropriate procedure, undue haste and unwarranted secrecy had created

a veritable mess. This was followed by a roar and strike amongst the company workers.

There was an opposition from the state government to the extent of throwing an offer to buy

FMG 18 B, GROUP-IV


the Centre’s 51 % stake at Rs 5.52 bn. The claims on the lack of transparency are being

continued till date.

As stated by The Times of India, December 28, 2009, in response to an RTI query filed by

advocate Arjun Harkauli, the Central Information Commission (CIC) observed that the tender

documents and minutes pertaining to the Rs 551.5-crore divestment of Bharat Aluminium

Company (BALCO) in Chhattisgarh’s Korba district eight years ago could not be traced by

the ministries concerned.

BALCO marks the first ever disinvestment deal in the history of India and is stained with

several question marks and pointing fingers. The deal certainly did not occur the way it was

meant to, did not bring the profits to the extent possible, nor was it intended towards any

social cause. Corruption and lack of accountability still remain the two worms eating away

the Indian economy.

POWER SECTOR REFORM IN ORISSA

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Orissa was the first State in the country to embark upon reforms in the power sector.

Supported by both the World Bank and DFID, it went in for the full package: unbundling,

corporatisation, and privatisation. Let us look at the genesis and the process of the reforms

and identify the winners and losers and highlight the lessons learnt.

GENESIS

Orissa State Electricity Board (OSEB) was established in 1961 to undertake generation,

transmission, and distribution of electricity in the State. Over the years, OSEB’s financial

health deteriorated due to various factors. It survived due to subsidy from the State

Government; in 1995-96, the State subsidy payable had gone into arrears totaling Rs.369

crore.

The gap between peak demand and supply had reached almost 45 per cent by 1993-94.

Though, the consumer strength increased to more than ten lakh, the overall financial

performance deteriorated. Table-13.4 below shows the comparative position of OSEB for

1994-95.

Return on Net Fixed Assets

Non Technical Losses

Debtors in Sales Months

Tariff as % of Cost

PLFCustomers per Employee

OSEB -16.4% 27% 7.6 82.8% 34.9% 38

KEB -11.83 6.1 87.8 53.1 153

WBSEB -12.79 7.0 80.3 37.8 53

MSEB 4.74 4.6 99.6 56.5 93

TNEB -0.08 1.6 97.2 48.3 99

RSEB -16.2 7% 4.2 71.6 51.4 80

PSEB -13.3 1.83 74 52.9 60

Source: Annual Reports of the respective SEBs.

Due to OSEB’s overall pathetic performance, the Government of Orissa commenced, in

1993, an extensive reform programme of the electricity sector. The reform programme was

intended at improving the quality of electricity supply and stimulates economic growth in the

region.

FMG 18 B, GROUP-IV

OSEB

OHPC

GridcoTransmission and Distribution

OPGC

Wesco(Distribution)

Nesco(Distr.)

Southco(Distr.)

Gridco(Transmission)


BROAD OBJECTIVES OF THE REFORM PROGRAMME WERE AS FOLLOWS:

To give the power sector autonomy by keeping it away from governmental

control.

To attract large amounts of private finance into the power sector.

To introduce competition in the power sector.

TO ACHIEVE THE ABOVE OBJECTIVES, THE ORISSA POWER SECTOR REFORM

PROJECT WAS DESIGNED TO UNDERTAKE THE FOLLOWING:

To establish a separate act (The Orissa Electricity Reform Act)

To un-bundle and corporatize OSEB

To develop an autonomous power sector regulatory body

To privatise the generation and distribution businesses

PROCESS:

The reforms process started with the enactment of The Orissa Electricity Reform Act in 1995.

The Act was designed to address the fundamental issues responsible for the poor performance

of the power sector in the State. The new legislation was aimed at restructuring the electricity

industry, taking measures conducive to increasing the efficiency of generation, transmission,

and distribution of electricity, opening avenues for private participation, and establishing a

Regulatory Commission. The Act allowed for transfer of the assets, liabilities, staff, and

statutory obligations of the OSEB to successor companies. Chart-2 below gives a pictorial

representation of the change in the structure of the industry.

FMG 18 B, GROUP-IV



Some of the important steps taken after the enactment of the OER Act are as follows:

UNBUNDLING AND CORPORATISATION:

Electricity business was divided into three separate activities: Generation, Transmission, and

Distribution. The business of generating of hydel power was transferred to OHPC. The

thermal power stations were transferred to the existing Orissa Power Generation Corporation

(OPGC). The transmission and distribution businesses were transferred to Gridco. Though,

OHPC and Gridco began operation on I April 1996 as government owned entities,

corporatisation agreements were signed with the Orissa Government. Under the agreement,

Government reiterated its commitment to distance itself from their operation and

management and to give them autonomy as commercial organisations. OHPC continues to be

Government Company; Gridco, however, took long strides in the direction of full

privatisation.

INSTITUTION STRENGTHENING PROJECT (ISP), THE PREPARATORY STAGE

FOR PRIVATISATION:

To ensure that privatisation leads to efficiency gains, Gridco had to bring changes in the

internal environment variables like management, labour relations, and communication and

reporting. Towards this end, Gridco initiated a comprehensive programme known as ISP to

address many of its weaker areas. This programme was undertaken by the consultants.

Three important steps taken under ISP were as follows:

1. INTRODUCTION OF COMMERCIAL FUNCTION AT THE FIELD LEVEL

FMG 18 B, GROUP-IV

1st Stage

2nd Stage


OSEB was managed principally by engineers, and it was standard practice for the engineers

to undertake commercial, administration, and other non-engineering jobs. The management,

thus, had a strong technical bias. One of the major organisational changes introduced during

the ISP was therefore to bifurcate the field level activities into Commercial and Engineering.

The commercial function comprised of Revenue Management, Accounting, and Customer

Management. The engineering function comprised of System Operation, Repairs and

Maintenance, and other technical activities. Coupled with the bifurcation, commercial

procedures were implemented. This small intervention improved the business environment at

the division level.

2. INTRODUCTION OF PROFIT CENTRE ACCOUNTING

Gridco was divided into Cost Centres and Profit Centres. Transmission divisions were treated

as cost centres and distribution divisions as profit centres. To ensure proper control and

reporting system, the entire distribution business was divided as shown below:

Chart

Each distribution division was managed by a divisional manager (Executive Engineer) who

reported to the circle manager (Superintending Engineer). The latter, in turn, reported to the

Zonal General Manager (Chief Engineer), who reported to the Board of Directors at the

corporate office. Each divisional manager was required to attend the monthly performance

review meeting chaired by the CMD (Chairman-cum-Managing-Director) of Gridco.

During these meetings, a detailed discussion on billing, distribution losses, collection, and

other related matters used to take place and an action plan used to be prepared. This was a

successful intervention during the pre-privatisation period, which helped in the following:

Stressed the commercial aspect of the utility business,

FMG 18 B, GROUP-IV


Developed interrelationship between technical and finance executives,

Enabled the divisional managers to understand the financial implications of the

various activities undertaken,

Involved the field personnel in various managerial decisions, and

Established an authentic database for important business parameters like billing,

collection, T&D loss, etc. through a well-developed Management Accounting System.

3. INTRODUCTION OF REVENUE IMPROVEMENT ACTION PROGRAMME (RIAP)

This programme focused on the

reduction of non-technical losses

and concomitant improvement on

the financial position of Gridco.

One of the major contributions of

RIAP was the quantification of the

actual T&D losses. On the basis of

field studies, the magnitude of non-

technical loss and causes of the

different types of losses were

established. The energy lost and energy billed in the year 1996-97


This finding of high T&D losses against the reported 22 per cent figure in various forums and

published sources was an eye opener to both the shareholders and the management. The

programme established that, though the reduction of technical losses requires huge capital

investment, the non-technical losses can be reduced without any major investment and capital

outflows. Efforts were made to reduce the non-technical losses by managing the revenue-

cycle efficiently, by understanding each of the following activities and identifying and

addressing problem areas.

In the process, even before the privatisation, Gridco improved its performance in the

following areas: (1) Regularisation of un-authorised connections, (2) Increase in bills based

FMG 18 B, GROUP-IV

Energy Delivery Meter

Reading

Bill

Preparation

Bill Distributi

on

Collection Credit Control

18%

28%

54%

0%

20%

40%

60%

Billed Non-Technicallosses

Technical losses


on actual meter reading, (3) Increase in billing as a percentage of input, (4) Increase in

collection as a percentage of billing, and (5) Improvement in customer relationship.

However, RIAP could not be extended to all the divisions of Gridco. As a result, the financial

and operational performance of most of the divisions could not be improved.

WINNERS AND LOSERS

Reform and privatisation changed the way one looked at electricity, from a universally

available product to a commercial one. But, the moot question is, “Who gained and who

lost?” Entities affected by the reform were the Government of Orissa, suppliers of power,

investors, consumers, and the electricity sector as a whole. It would be interesting to check

how each fared under the restructuring exercise.

GOVERNMENT

Government is major winner in this reform, which allowed it to reduce its exposure to this

volatile sector at a time when its financial position was precarious. It realized Rs.159 crore

by divesting 51 per cent of its stake in the distribution companies and around Rs.600 crore by

divesting its stake in OPGC. It also got Rs.356 crore by selling TTPS (Talcher Thermal

Power Station) to NTPC, which was adjusted against erstwhile OSEB’s overdue payments to

NTPC. But, more important, the Government has already saved more than Rs.1200 till now

by stopping subsidy to the electricity sector.

SUPPLIERS OF POWER

One of the drivers of the reforms was the intention to reduce the financial burden on

generators. It was expected that, after reforms, Gridco would make timely payments to

OPGC, OHPC, and NTPC. However, it has not happened.

INVESTORS

Table below shows the parties who have acquired stakes in the newly formed distribution

companies.

New Investor Stake acquired Money paid (Rs. in crore)

Cesco AES 51% 42.00

Wesco BSES 51% 88.19

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Nesco BSES 51%

Southco BSES 51% 28.80

Source: Based on the Government of Orissa Gazette.

The balance-sheets of Gridco (which remained as a transmission company) and the four

distribution companies highlight the benefit that has been extended to the investors. Common

size balance sheet of these companies is as follows.

Gridco Cesco Wesco Nesco Southco

Total Funds

Capital and

Reserves

20% 13 18 13% 13%

Accumulated Profit

(- for Loss)

-26% 0 0 0 0

Long Term Loans 69% 48% 50% 50% 57%

Current Liabilities 37% 40% 33% 37% 30%

Total Assets

Fixed Assets 61% 60% 67% 63% 70%Current Assets 39% 40% 33% 37% 30%

Source: Based on the Government of Orissa Gazette.

It is interesting to note that the entire loss of transmission and distribution business was

retained in the balance-sheet of Gridco, resulting in a negative book net-worth of Gridco; the

distribution companies were not required to share it. Moreover, the capital structure of

Gridco was also highly leveraged, with long-term loans accounting for 69 per cent of the total

sources.

The lop-sided balance sheet created liquidity problems for Gridco, which, in turn, affected its

suppliers. The generous balance-sheets doled out to distribution companies and the handing

over of three companies to one player shows the Government’s obsession with completing

the privatisation process rather than reforming the sector.

CONSUMERS

Consumers can be divided into three broad categories, namely, LT, HT, and EHT. As the

reforms endeavour to reduce the cross-subsidization there is every possibility of the large

consumers to benefit from the process. Consumers, irrespective of the category, benefit if the

tariff reduces and the service improves. But, the tariff has already been revised four times.

And, what is more important, the increase in tariff has far surpassed the rate of inflation, as

FMG 18 B, GROUP-IV


depicted by Figure-4 below. Moreover, though the overall power available has increased

over the years, the quality of service has not improved to the extent it was expected. Since

the distribution companies have decided not to make any capital expenditure, the quality of

the service that was offered by them has been affected. Consumers clearly have, so far, borne

the brunt of the reforms and privatisation.

97-98 98-99 99-00 00-010.00

2.00

4.00

6.00

8.00

10.00

12.00

Tariff % Increase (Net)

Inflation % (Base 93-94)

1. Source: Based on the Government of Orissa Gazette.

VIDESH SANCHAR NIGAM LTD.

ABOUT VSNL

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In 1947, the Overseas Communication Service (OCS) was established in the Department of

Telecommunications (DoT). Videsh Sanchar Nigam Ltd (VSNL) was created from the OCS

as a government owned corporate in 1986. The government felt that corporatization would

enable it to raise financial resources, an activity that would not have been possible under the

government framework. It was envisaged that this would also enable greater freedom to

managers to plan, operate, develop and accelerate the international telecommunication

services.

In the initial years, VSNL offered voice telephone, telex, telegraph, television, bureaufax etc.

Efforts had started to increase India’s connectivity through investments in projects like

submarine cables. Compared with 2.69 billion telephone minutes in 2000-1, in 1986-7 the

figure was 0.13 billion minutes. Table 1 gives some comparative figures of VSNL’s

performance over the years.

Some Aspects of the Performance of VSNL

Sr. Item 1992-3 1996-7 2000-1

No.

1 Telephone Paid Minutes (billions) 0.61 1.38 2.68

2 Internet Access Customers (numbers) 0.0 28,042.0 630,970.0

3 Total Revenue ( Rs crore) 747.6 5,285.3 7,965.0

4 Net Profit (Rs crore) 112.4 504.7 1,778.8

5 Dividends(Rs crore) 24.0 28.0 76.0

6 Network Charges (Rs crore) 307.6 3,604.7 4,562.0 Source: VSNL Annual Reports

VSNL TRAFFIC

In 2001, the world international telephone traffic was 167 billion minutes [ Voice Data, April

18 2002]. India's was 1.6% of this global traffic. In comparison with VSNL, the two largest

ILD carriers in the world, WorldCom and AT&T carried 16.8 and 14.3 billion minutes

respectively in 2000. When Compared with a worldwide average of 145 outgoing

international minutes per person, the figure for India works out to 18. Corresponding figures

for developing countries and low income countries are 100 and 155 respectively

[www.worldbank.org]. Table 2 compares VSNL’s international minutes with that of the

world. VSNL during the period averaged a much higher growth rate.

International outgoing calls-VSNL and World (billion minutes)Year VSNL World1994 0.742 54.6

FMG 18 B, GROUP-IV


1995 0.942 61.61996 1.147 71.71997 1.384 82.51998 1.684 931999 1.935 108.92000 2.245 132.7

CAGR 1994 to 2000) 20.3% 15.9%

Source: VSNL annual reports

The ratio of inbound to outbound calls had been 4:1 in 2001. One important reason for this is

the discriminatory pricing by VSNL. Another factor is that India is a much poorer than the

typical countries to which it connects (U.S., Europe and Gulf), so that inbound calls are

bound to be more than outbound calls.

For the year 2000-1, the total revenue for VSNL was Rs 6,430.7 crore. The profit after tax

stood at Rs 1,778.8 crore. This resulted in earnings per share of Rs 62.41 out of which Rs

50.00 was declared as the dividend per share. VSNL had no debt. Its P/E ratio of each VSNL

share was 4.68.It is seen that a large part of the costs is the network and transmission charge.

Much of this was charges paid out to the DOT as traffic costs. In this fixed revenue

agreement, VSNL paid Rs 2,734 crore to DOT and Rs 1,386 crore to foreign operators during

2000-1 [VSNL Annual Report, 2000-1].

DISINVESTMENT IN VIDESH SANCHAR NIGAM LIMITED

1. Government had approved sale of 25% equity share holding out of a total government

share holding of 52.97% in Videsh Sanchar Nigam Limited (VSNL) on 5.02.2002. The total

paid-up capital of VSNL is Rs.285 crore, the Govt. holding being Rs.151crore. Rs.71.25crore

of this equity is being sold to M/s Panatone (Tata Group) at a price of Rs. 1439 crore..

2. Government had decided to disinvest in VSNL in January 2001 and the advertisement for

inviting Expression of Interest was issued in February 2001. Several interested parties had

submitted their Expression of Interest. After the process of due diligence was completed and

the transaction documents frozen, financial bids were invited from the bidders on 1.2.2002.

Two bids were received.

3. SBI Capital Markets Ltd. and CSFB were appointed as the advisors at a fee of 0.19% of

the transaction value. M/s Crawford Bayley & Co. is the legal advisor and the asset valuer is

Price Waterhouse Coopers Ltd. After considering the Advisor's report, the Evaluation

FMG 18 B, GROUP-IV


Committee/IMG/CGD submitted their recommendations regarding acceptance of the higher

bid to the CCD.

4. The Government has in the process of disinvestment in VSNL received approximately Rs.

3689 crore, Rs. 1439 crore as the bid price, Rs. 1887 crore as dividend and Rs. 363 crore as

dividend tax (table attached). Thus, the Government has sold its shares at a price of Rs. 202

per share, taken additional amount as dividend, special dividend and dividend tax. Besides

the Government has also taken measures to take out surplus, yet very valuable land (value Rs.

778 crore) from VSNL, and also restrict use/sale of land through provisions in transaction

documents.

5. The market price of VSNL shares as on 1.2.2002 was Rs.158/-. The Government had

earned Rs.10.4 crore per year on 25% of its equity in the last eight years. This year the

Government has earned Rs. 3689 crore from sale of VSNL and if this money is kept in the

bank it would earn an interest of 368.9 crore, i.e. the Government would gain more than Rs.

350 crore every year.

6. The strategic partner has been provided a call option for the 5th year subject to the

condition that the Government would be retaining at least one share and hence one vote

position to enforce its affirmative vote on assets. In addition, 1.97% share were given to

employees, at concessional rates.

After partial disinvestments through sale of shares, Videsh Sanchar Nigam Limited (VSNL)

underwent a strategic sale to the Tata Group in April 2002. Subsequent to the sale, the

government holding became 26% and the Tata Group's 45%. The sale was followed by

VSNL's decision (taken by its new owners the Tata’s) to invest Rs 1,200 crore in Tata

Teleservices Limited (TTL), a wholly owned subsidiary of the Tata group. This led to

concerns regarding the appropriateness of the decision, since it involved a cash outflow of Rs

1200 crore to a fledging private company in the telecom sector.

REASONS FOR DISINVESTMENT

The Ministry of Disinvestment cited the non availability of funds for critical areas like

education, health and social infrastructure because of fiscal burden in the flow of government

funds into PSUs, as a strong argument for the disinvestment. There was also a need to stem

FMG 18 B, GROUP-IV


further outflow of resources into unviable, non-strategic PSUs. The divestment was also

expected to reduce the unmanageable public debt.

PRIOR TO DIVESTMENT:

When the privatization process of VSNL began in 1991-2, there was no blueprint for the

same. In retrospect, there have been three phases.

The offloading of shares to domestic investors;

The offloading of shares in the international market;

Strategic sale.

In 1991-2, VSNL disinvested equity of the face value of Rs. 12 crore in favour of various

financial institutions, mutual funds and banks. As of March 1993, out of a paid up equity

capital of Rs 80 crore, the Government of India (GoI) held 85% and financial institutions,

banks and the public held another 15%. The shares were listed in the stock exchanges of

Mumbai, Kolkata, Delhi and Chennai. As of 1995, the share of the GOI had come down to

82.02%. This accompanied the transfer of shares from the GOI as a bonus offer. The Indian

investor’s share holding remained around 16.5% in 1999-0 which came down to 9.97%

(including the 1.96% held by employees) as on March 31, 2001.

GDR ISSUES

The Global Depository Receipt (GDR) issue for VSNL was the first of its kind by the GOI .

It helped VSNL to raise a substantial surplus that was earmarked for investments for its

growth. The first GDR issue (listed on the London Stock Exchange) was offered in 1996-97.

It fetched US$ 526.6 million in the market. At that time, it was the largest GDR issue from

India. The offer was oversubscribed, drawing 662 investors from 28 countries.

The second GDR issue was completed in February 1999. It involved a divestment of 10

million shares by the government of India to international investors. Priced at US$ 9.25 it

was at a 15% premium on the last closing domestic price of Rs. 682 and a 10% discount to

the ten-day average GDR price of US$ 10.275. The government realized US$ 185 million

from the sale of 20 million GDRs with each GDR being equivalent to half a share.

The organizational problems in VSNL around the time of the second GDR issue could have

been one of the factors that led to lower valuations. During the process of the second GDR

FMG 18 B, GROUP-IV


issue, the VSNL staff had threatened a walkout owing to the pending issue of allotting shares

to employees. Due to delays in the government processes, VSNL did not have a chief

executive and many other crucial director level posts were vacant. The first GDR’s

investment promises were not fulfilled and a promised domestic offering had not been made.

The sanctions against India also created an environment of high perceived country risk,

which lowered VSNL's valuation.

THE VALUATION

The government had fixed a reserve price of Rs 1,218.375 crore for its 25% stake in VSNL.

In an effort to bolster the VSNL valuation, the GOI intended to compensate the loss of

monopoly through special concessions. The government owned MTNL and BSNL would

have to use VSNL as their ILD carrier for two years on the condition that it would offer the

most competitive terms in the market. VSNL would also get a free license to provide NLD,

and a nationwide ISP license. In addition, VSNL possessed prime real estate in Mumbai and

Delhi and also cable capacities to facilitate international traffic. One of the major assets was

the cash stockpile of Rs 5,182 crore which was considerable even after disbursement of the

special dividends. Among the concerns were the loss of monopoly and the uncertainty of the

loyalty of BSNL and MTNL to continue to use VSNL for their international traffic, the

dipping share prices of VSNL and the falling accounting rates that could lead to lower

revenues.

One of the major issues involved during the valuation process included the management of

real estate owned by VSNL. The disinvestment process stipulated that at least four VSNL

surplus properties valued at Rs 778 crore would not be available and were to be disassociated

from VSNL after the disinvestment. Even so, real estate value that would accompany VSNL

was around Rs 1,200 crore [Economic Times, February 15 2002].

CONCLUSION:

The privatisation of VSNL is seen as leading to public expenditure accountability through a

realisation of higher return on the government’s asset formation. It also leads to an

appreciation of the remaining shares that are held by the government. To the citizen, the

FMG 18 B, GROUP-IV


process is a step towards the provision of better quality communication services at the most

competitive prices.

Public flotation of stock might have led to better values for VSNL's stock, had the company

been correctly `prepared' for privatisation. Thus, disinvestment of VSNL was clouded with

controversies and speculations and this fact further indicates the failure of the disinvestment

policy adopted in the case of VSNL, and also highlights the wrong reasons for which the

disinvestment of VSNL took place and its ultimate failure to match the required expectation

of such a step. This case on VSNL further corroborates to the fact, that the disinvestment

policies adopted in India have been a failure so far.

MARUTI DIVESTITURE IN COMPARISON WITH OTHER DISINVESTMENTS:

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In May 2002, a two-stage sell off began in Maruti Udyog Ltd (MUL) with a Rs 400 crore (4

billion) rights issue at a price of Rs 3,280 per share of Rs 100 each (12,19,512 shares) in

which the government renounced whole of its rights share (6,06,585) to Suzuki, for a control

premium of Rs 1000 crore. Relative share holding of Suzuki and government after

completion of the rights issue was 54.20 % and 45.54 % respectively. The second stage

government offloaded its holding in two tranches – first where government sold 36 lakh

shares out of then existing 65.80 lakh shares in March 2003. After the public offer,

governments share had been down to 25%. Thereafter in the second tranche, the government

sold off its remaining equity by public offer and quit from MUL. The government sold

shares at Rs 2300 per share in the first tranche and at Rs 2000 in the second tranche.

In other cases of disinvestment, the strategic partner did not have any control before

acquiring government equity. But in the case of MUL, even before disinvestment, the share

of government was 49.74 % and that of Suzuki was 50%. This was due to Suzuki being

technology suppliers. Therefore at the time of disinvestment the government had a minority

holding vis-a-vis Suzuki. In an agreement it was decided that only after Suzuki’s approval

could government sell its share to third party. So the disinvestment in Maruti started with

certain constraints.

In 1982 and 1992 Suzuki’s shareholding was allowed to be increased from 26 percent

to 40 percent and then 50 percent respectively. For this no control premium was paid by

Suzuki when the control passed to them. Later after hard negotiation a control premium was

agreed upon to be Rs 1000 crore. It started with an initial offer of Rs 170 crore by Suzuki.

Similarly Suzuki was not willing to incorporate any underwriting of the public issue by

government.

Since Maruti Udyog Ltd was not a listed company, the government agreed to

determine the fair value of MUL shares through valuation by three independent valuers and

then take the average – KPMG, Ernst & Young, and S. B. Billimoria were appointed as

valuers. The recommended value per share was Rs 3,200 by KPMG, Rs 3142.18 by Ernst &

Young, and Rs 3500 by S. B. Billimoria. Thus average came out to be Rs 3280. The fair

value of governments stake comes down to Rs 2158 crore but the book value (1000 crore

control premium and 1424 additional tranche undertaking) was Rs 2424 crore. So for the

government to get maximum receipt it should sell to public in such a manner that they can get

a value more than 2424 crore than the initial 2158 crore.

FMG 18 B, GROUP-IV


The significant aspect of the Maruti divestiture plan is the prima facie decision of the

government to exit from Maruti completely by March 2004. Other than hotel properties,

Maruti was the first enterprise where government had completely exited.

The issue was oversubscribed by over 10 times. Later keeping in view the

overwhelming response from sale of Maruti, government sold its remaining shares in the

privatised companies of VSNL, CMC, IPCL, BALCO and IBP to public through IPO’s.

LAGAN JUTE MACHINERY COMPANY LIMITED (LJMC)

Lagan Jute Machinery Company Limited (LJMC) was run by a private company (James

Mackie & Co) from 1955 till it was nationalised in 1978. In 1986 it became a wholly owned

FMG 18 B, GROUP-IV


subsidiary of Bharat Bhari Udyog Nigam Ltd (BBUNL), a centra PSE. The manufacturing

works of the company are situated near Kolkata. It is engaged in the manufacture and

marketing of jute spinning and drawing frames and alswo spare parts for the same. The

authorised and paid-up capital as on 31 March 2000 were Rs 4.00 crore (50 million) and Rs

1.05 crore (10.5 million) respectively. The number of employees as on 31 March 2000 was

396.

PRE DISINVESTMENT SCENARIO:

Initially LJMC made marginal profits, but from 1996 – 97, it started making losses. There

was mounting arrears of salaries and high level of inventory. LJMC required investment to

modernise and renovate the plant and machinery as most of the machines were installed

before 1960. The operational and financial performance of LJMC prior to disinvestment is :

LJMC: Pre – Disinvestment Performance

Details 1997 - 98 1998 – 99 1999 - 2000 2000 – 2001

(Arp – June

2000)

Machinery sold (nos) 58 59 51 4

Exports of spares

(in Rs crore)

0.11 0.17 0.27 0.05

Gross turnover (Rs in crore) 5.77 6.47 6.32 0.60

Loss

( in Rs crore)

-1.04 -0.74 -0.42 -1.00


The government decided in July 1997 to disinvest 74 % of the equity of LJMC. M/s

A. F. Ferguson & Co were appointed in May 1998 as advisors to execute the transaction.

Accordingly, the advertisements inviting EOTs were issued in January 1999 and financial

bids were invited in May 1999. The cabinet approval the disinvestment in December 1999

and execution of the transaction documents and receipt of final payment was effected in May

2000. Thereafter shares/management control was transferred to the strategic partner M/s

Murlidhar Ratanlal Exports Ltd. in June 2000.

The disinvestment of 74 % equity stake was effected through sale of 6330 equity

shares (face value Rs 1000 per share) at the rate of Rs 4000 per share by BBUNL for Rs 253

FMG 18 B, GROUP-IV


lakhs. Also fresh issue of 5680 equity shares (face value Rs 1000 per share) at the rate of Rs

2640 per share was made by LJMC for Rs 150 lakhs. As per the deal, the strategic partner

was to provide LJMC interest free loan of Rs 35.36 lakhs to repay the dues to BBUNL in

eight quarterly instalments. It was provided in the agreement that all employees of the

company on the date of disinvestment would continue in the employment of the company

after disinvestment.

POST DISINVESTMENT SCENARIO:

The strategic partner has retained the same senior management team and there has been no

retrenchment of workers. The performance of LJMC post privatisation (July – September

2000), as compared to pre privatisation period (April – June 2000) is:

LJMC: Post – Disinvestment Performance

Details Pre – Disinvestment Post – Disinvestment

1999 – 2000 Apr – June 2000 2000 – 2001

Machine sold (nos) 51 4 54

Exports of spares 0.27 0.05 0.48

Gross turnover 6.32 0.60 6.63

Profit/Loss -0.42 -1.00 0.48

Orders booked 3.17 1.20 3.87

Source: Ministry of Disinvestment, Government of India.

There was no retrenchment of employees but there was reduction due to resignation/natural

separation. However, change in employee service condition was made by rolling back

retirement age from 60 to 58 years.

FMG 18 B, GROUP-IV


REVIEW OF DISINVESTMENT AND PRIVATIZATION

Disinvestment was initiated by selling undisclosed bundles of equity shares of selected

central PSEs to public investment institutions (like the UTI), which were free to dispose of

these shares in the booming secondary stock market. The process however came to an abrupt

FMG 18 B, GROUP-IV

Critical Analysis


halt when the market collapsed in the aftermath of Harshad Mehta led scam, as the asking

prices plummeted below the reserve prices. Since the stock market remained subdued for

much of the 1990s, the disinvestment targets remained largely unmet. The change of

government at the Centre in 1996 led to some rethinking about the policy, but not a reversal.

A Disinvestment Commission was constituted to advise the government on whether to

disinvest in a particular enterprise, its modalities and the utilization of the proceeds. The

commission, among other things, recommended (Disinvestment Commission, 1997):

• Restructuring and reorganization of PSEs before disinvestment,

• Strengthening of the well-functioning enterprises, and

• To utilize the disinvestment proceeds to create a fund for restructuring of PSEs.

The new government that came to power in 1998 preferred to sell large chunks of equity in

selected enterprises to “strategic” partners – a euphemism for transfer of managerial control

to private enterprises. A separate ministry was created to speed up the process, as it was

widely believed that the operating ministries are often reluctant to part with PSEs for

disinvestments as it means loss of power for the concerned ministers and civil servants.

The sales were organized through auctions or by inviting bids, bypassing the stock market

(which continued to be sluggish), justified on the grounds of better price realization.

Notwithstanding the serious discussion on the utilization of disinvestment proceeds, they

continued to be used only to bridge the fiscal deficit.

Strategic sale in many countries have been controversial as it is said to give rise to a lot of

corruption, discrediting the policy process. Aware of such pitfalls, efforts were made to be

transparent in all the stages of the process: selection of consultants to advice on the sale,

invitation of bids, opening of tenders and so on. Between 1999 and 2003, much greater

quantum of public assets were sold in this manner, compared to the earlier process, though

the realized amounts were consistently less than the targets – except in 2003.

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Nonetheless, there are series of allegations of corruption and malpractice in many of these

deals that have been widely discussed in the press and the parliament. Instances of under

pricing of assets, favouring preferred buyers, non-compliance of agreement with respect to

employment and retrenchment, and many incomplete contracts with respect to sale of land,

and assets have been widely reported.

Thus, during the last 13 years Rs. 29,520 crore were realized by sale of equity in selected

central government PSEs, (in some cases) relinquishing managerial control as well.

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This formed less than one per cent of central government’s cumulative fiscal deficit in this

period.

PERFORMANCE OF PSES AFTER DISINVESTMENT &

PRIVATIZATION:

In principle, disinvestment is unlikely to affect economic performance since the state

continues to be the dominant shareholder, whose conduct is unlikely to be influenced by

share prices movements (or return on equity). Privatization can be expected to influence

economic outcome provided the firm operates in a competitive environment; if not, it would

be difficult to attribute changes performance sole or mainly to the change in ownership.

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ASSESSING THE PRINCIPLES, PREMISES AND PERFORMANCE OF THE


Instead of seeking the reasons for privatization, one could instead ask why a certain firm

should remain in public sector. Some would contend that with rapid technological change,

natural monopoly, as a powerful argument for public ownership has simply disappeared.

Such an argument would surely hold for telecommunications, not but for the rest of public

monopolies.

Based on studies of privatization of natural monopolies, some important implications that can

be carried out are:

Sectors such as railways, however, are harder to regulate after privatization. The

regulatory task can be especially difficult in sectors such as highways, or water or

sewage, where competition is weak or totally absent, investments are lumpier,

externalities are much more important, and pay back periods run 8-10 years or more,

thereby increasing uncertainty and risk for contracting parties. Renegotiations are

likely to be the rule, brought on by unanticipated developments or simply

opportunism on the part of investors or governments.

But in the twentieth century, with the separation of ownership from control in modern

industry, there is a serious agency problem regardless of its ownership. The view that the

secondary capital market and the market for managers provide adequate discipline on a firm’s

performance is at variance with evidence.

WHAT IS THE EVIDENCE ON THE EFFICIENCY EFFECTS OF PRIVATIZATION?

IT IS HIGHLY MIXED, TO PUT IT MILDLY.

In fact, one of the authors of the study, Pankaj Tandon, in an independent paper was more

categorical in rejecting the hypothesis of efficiency gains from privatization in less developed

countries. If this selective review of evidence is anything to go by, then one should have a

modest expectation from whatever privatization that has happened in India.

Britain, the cradle of modern capitalism, has witnesses the public policy pendulum swing

from nationalization to privatization (or denationalization) many times over, in the 20th

century. While the US has a model of private ownership, and control with public regulation,

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continental Europe and Japan have, by and large, stayed steady with greater public ownership

in such industries.

Although there have been some privatization in these economies, such attempts have

remained relatively modest with limited changes in ownership and control of national assets.

Thus, there seems to be no unique ‘model’ that is universally sound for promoting efficiency

of resource use.

Perhaps it has a lesson for us: we have to search for a solution suited for our conditions that

are broadly consistent with economic reasoning. Before seeking evidence on the effects of the

disinvestment in India, perhaps it would be useful to ask how valid the premises of the

disinvestment policy were to begin with.

It is widely believed, as large and growing share of the fiscal deficit was on account of

PSEs’ financial losses getting rid of them would restore the fiscal back to health. How

valid was such a diagnosis?

Using a widely accepted a methodology that PSEs’ financial losses were not the principal

cause of the growing fiscal deficit in the 1980s, and in fact PSEs’ share in the fiscal deficit

had steadily declined in the decade. In other words, the government per se was largely

responsible for the growing fiscal deficit, not the enterprises owned by it.

Source :Disinvetment Ministery Report

Updating these estimates for the 1990s using a more refined method, the estimated deficits of

the general government confirmed our previous findings. 16 Government’s share (in terms of

equity and debt) as a proportion of PSEs’ total fixed investment shows a steady decline since

the mid-1970s, suggesting a gradual tightening of their budget constraint.

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The decline in government’s contribution is being met increasingly by a rise in internal

resources.


These long-term trends indicate, contrary to the widely held views, the growing fiscal deficit

since the 1980s is not on account of financial losses of the enterprises.

The above evidence suggests that the popularly used indicator of net profit as a

proportion of total equity does not adequately reflect PSEs’ financial performance.

While such a measure may be useful for a private shareholder, it has many

shortcomings to gauge the return on public investment. For many reasons, PSEs tend

to be over capitalized.

While these enterprises are expected to develop infrastructure on their own using

budgetary resources, state government agencies usually vie with each other to provide

larger and better infrastructure for private firms, thus reducing their capital cost.

Therefore, depreciation charges for PSEs tend to be much larger.

Capital structure of PSEs is seldom designed to maximize returns for the shareholder,

namely the government. Usually PSEs are granted large loans in the initial year; when

they are unable to service the loans, these are often converted into equity to reduce

their debt repayment burden. Thus, many PSEs have high equity, not by design but by

default, adversely affecting the net profitability ratio. Moreover, from an economic

viewpoint, capital structure of an enterprise is of secondary importance compared to

return on capital employed.

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It is widely believed that PSEs’ respectable profitability ratio (gross profits to capital

employed) is mainly on account of the surpluses of the petroleum sector enterprises whose

pricing includes an element of taxation. Interestingly, as shown in Figure, the profitability

ratio has improved since the 1980s even excluding the petroleum sector enterprises – clear

evidence on improvements in PSEs financial performance. But could it be merely due a faster

rise in administered prices of PSEs’ output? This is not so, as evident from the fact that the

ratio of deflators of public sector output and GDP has declined since the mid-1980s.

Public sector GDP deflator, relative to GDP deflator, 1982-96


IF PSES’ FINANCIAL PERFORMANCE HAS IMPROVED AS SHOWN ABOVE,

WHAT THEN ACCOUNTS FOR THE GROWING DEFICITS?

The problem seems to lay in poor financial returns in electricity boards, road transport

corporations and railways, which are probably not adequately reflected in the above

measures. For instance, revenue-to-cost ratio in SEBs has remained less than one for much of

the 1990s, a decade of much talked about reforms, despite a steady rise in physical efficiency

of thermal power plants.

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.


If the above reasoning and evidence is persuasive, then they suggest that the empirical

premises for the ownership reforms were rather thin. While undoubtedly public sector’s

financial performance needed an improvement, they were not, in the main, on account of the

central PSEs that were the targets of the disinvestment. They mainly lay in:

(i) The growing expenditure and subsidies of the government.

(ii) Poor return on investment in electricity, irrigation and road transport.

In all these cases, the real problem is not so much public ownership, but pricing of public

utilities and government ’s inability to collect user charges, for a variety of political and

social reasons.

To sum up, as the sale of equity has been quantitatively a modest, in relation to the size of

public sector in India, it is hard to judge the efficacy of the reform effort. Moreover, it is

perhaps too early to be definitive about the outcomes. Analytical bases of the policy reform

were fragile to begin with, and comparative experience does not give much optimism for

measurable efficiency gains from these changes in ownership of industrial assets. Above all ,

if the evidence reported is anything to go by, the premises of the D-P policy were rather

weak.

In principle, disinvestment without a change in management is unlikely to make much difference to

efficiency. It may help raise limited resources from the capital market, mainly reflecting the

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government monopoly in the industry. But this is a costly source of finance with high transaction

costs. Given excess liquidity currently in the financial system it would be cheaper to sell bonds

domestically to raise the required finances.

PROBLEM OF CORPORATE GOVERNANCE:

In the evolution of modern capitalism, with separation of ownership from control as firms

grow in size and complexity, agency problem arises: how to ensure that the managers

(“promoter” in Indian parlance) work to maximize return on shareholders’ capital. Given the

information asymmetry, managers could pursue their private goal disregarding the

shareholders’ interests.

This is at the heart of the problem of modern literature on corporate governance. Various

institutional and contractual mechanisms have evolved in the last century to grapple with this

problem.

In the context of efficiency of resource use in a socialist economy, to solve the problem of

how to ensure that managers of public firms maximized efficiency consistent with the goals

set by the central planners. However, looking at the microeconomics of firms in a socialist

economy, it has been argued that they were unlikely to be efficient because of the soft budget

constraint: that is, firms do not go bankrupt or managers do not lose their jobs for their poor

performance. Firms can always renegotiate their contracts with the planners to hide their

inefficiency.

In India public sector firms are often face with multiple objectives, and multiple owners or

monitors – central government, state governments, legislators, public auditors and so on.

Managers may not necessarily maximise profits as they could always highlight a particular

achievement to suit their convenience. Managers may be risk averse as they face

constitutionally mandated procedural audit by the CAG if an enterprise is majority

government owned. Managers’ efficiency objectives may come in conflict with dysfunctional

political interference in operational matters (at the expense of policy issues) to meet narrow

political goals. However, at the same time, poor performance by managers does not involve

any punishment as they can re-negotiate the output prices, budgetary support, or have access

to soft and/or government guaranteed loans; in other wards they do not face a hard budget

constraint.

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Thus, the agency problem is endemic to all economic systems. Moreover, problem of soft

budget constraint is not restricted to socialist economies but evident in market economies as

well when the firm is question is large and considered of strategic importance for the

economy, though perhaps too much lesser extent. Rescue of Chrysler Corporation – the third

largest automotive firm in the US – in the late 1970s and United Airlines after “9/11” in the

US are clear instances of state support for failing companies. Such support is more common

in financial sector, where failure of firms can have significant systemic risk.

DISINVESTMENT IS NOT A GREAT PIECE OF REFORM

Disinvestment is considered desirable for two sets of reasons. One has to do with the money

that flows into the government’s coffers as a result of the stake sale, augmenting the

government’s non-borrowed receipts and, thereby, reducing the fiscal deficit. The other set of

arguments of disinvestment has to do with efficiency.

Disinvestment would bring in shareholders who would, it is hoped, question arbitrary

decisions by the government that harm the finances of these public enterprises. Both benefits

are exaggerated.

Look at the reduction in the government’s fiscal deficit brought about by disinvestment. The

effect of selling shares to the public is not materially different from the effect of selling

government bonds, as far as the quantity of the public’s savings mopped up by the

government is concerned.

In the year in which the disinvestment takes place, the private sector would feel squeezed for

funds exactly as it would if the government were to raise the same amount by issuing bonds.

The public ends up holding shares, in one case, and bonds, in the other. In either case, the

public’s savings stand transferred to the government, rather than to the private sector looking

for funds to invest.

That said, the future effect of selling shares would prove superior, from a budgetary point of

view, to the future effect of issuing bonds. By issuing bonds, the government takes on the

obligation to pay interest, year after year. By selling shares, the government forgoes dividend

receipts on the shares sold. Both widen the fiscal deficit in the subsequent years.

However, the interest payment obligation taken on to get one rupee from selling bonds would

be significantly higher than the dividend forgone per rupee received from selling shares in

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public enterprises. This is because these shares would be valued significantly higher, in terms

of asset price per rupee of income accruing from that asset, than the bonds sold to fill the

fiscal gap.

What about the efficiency gains at the enterprise level by inducting non-government

shareholders into the ownership structure, and possibly onto the board of directors? There is

likely to be some additional benefits, given the political culture that treats public enterprises

as sources of revenue for the minister (and officials) in charge of the controlling ministry.

However, the overall reform project entails improving corporate governance across the board

to a level where the running of any company seeks to maximise the returns to shareholders

regardless of who the shareholders are, whether the state or private shareholders. If this goal

is realised, efficiency arguments for disinvestment would lose steam.

More germane is to what end the government keeps some enterprises under its ownership and

control. If it wants to own nuclear power companies because of the risks involved, or if it

wants to own the Food Corporation of India to ensure food security, the companies in

question sub serve public goals outside the calculus of commercial profit and loss. It does not

make sense to privatize such public enterprises.

Many other public enterprises were set up at a time when the private sector was too weak to

create production capacity in areas considered vital for the economy’s long-term dynamism.

Steel, or machine tools, for example. Now, every Punj, Mittal and Jindal makes steel, of the

highest quality and lots of it. Is there any strategic goal being served by retaining steel

production in the public sector, anymore than is served by keeping hotels and banquet halls in

the public sector?

Satellite, aero plane and rocket manufacture, in contrast, are still be-yond the Indian private

sector’s capacity. It might arguably make sense for the government to own enterprises in

these sectors. What are strategic sectors would change, with time. The government should

ideally exit from areas that are no longer strategic, and use the re-sources to build new

strategic capability.

However, we don’t live in an ideal world. Even if the government continues to own some

companies in non-strategic sectors, but these companies are professionally run as commercial

enterprises, there would be little efficiency loss to the economy as a whole. Therefore,

disinvestment is not any key reform.

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COMPARATIVE EXPERIENCE:

Experience of the last century shows how different economic systems have sought to solve

this problem in a variety of ways with varying degrees of success. The Soviet system was

perhaps quite capable of solving the problem in the initial phases of ‘extensive growth’ with a

clear objective of maximization of national output. However the system began to falter, as the

economy got more complex, in the phase of ‘intensive growth’ when objective was to

increase productivity of resources. The command economy was unable to resolve the agency

and incentive problems at the micro level because of the soft budget constraint.

As noted earlier, in the Anglo Saxon economies, the secondary stock market acted as the

disciplining device on corporate performance and as market for managers. In principle, stock

prices that summarize all publicly available information on the firm performance should

provide adequate signals for managers to act optimally. The system is also seems capable of

providing risk capital to spur rapid technological progress, as witnessed in the role that

venture capital funds played in promoting the Internet revolution. However, given the agency

problem, there is enormous scope for abuse of the system, adversely affecting the

shareholders’ interests and possibly hurting economic efficiency in the aggregate. Hostile

takeovers and leveraged buyouts have exposed the inefficiency of such a disciplining

mechanism. The recent implosion of some of the world’s biggest companies, astronomical

rise in managerial remuneration disproportionate to performance of firms, and widespread

abuse of stock options by top managements in firms like Enron and Tyco by the turn of the

last century have seriously dented the credibility of the stock market based principles of

corporate governance.

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PSU’S ARE NOT THAT BAD


SOME FACTS

6 out of Top 10 companies in India are Public Sector Companies.

Of the 50 companies which make up the NIFTY, 10 companies are PSUs.

In many businesses PSUs are virtual monopolies.

Top 18 PSU companies (called ‘Navratnas’) total income is equal to 15% of India’s

GDP.

In 2008, Public Sector Companies paid over 33.5% of their net profits as dividends.

THE OPPORTUNITY AT PRESENT IN PSU’S

• Strong Fundamentals - Most of the PSU companies are leaders in their category and in

many cases have a virtual monopoly in business

• Most of the PSU companies* are present in sectors, which are core to the India Growth

Story.

• Government focus on Listing of Public Sector Companies and further divestment of stake in

existing companies.

• PSU companies are currently available at reasonable valuations compared to broader

markets

• The expected re-rating of these companies in future in the event of Government divesting

stakes in PSU companies, can lead to above average gains over a period of time.

PSUS – STRONG FUNDAMENTALS:

It is only due to the strong fundamentals of the PSU’s that they are among the most

profitable companies in India. The strong fundamentals of these companies

provided a substantially high growth of 19.37% in the past 10 years. Something

private companies envy upon.

It is only due to the strong fundamentals of the PSU’s that they are among the most profitable

companies in India. The strong fundamentals of these companies provided a substantially

high growth of 19.37% in the past 10 years. Something private companies envy upon.

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Source : Bloomberg; Prowess. BSE India ; Data as on 31/08/2009

PSUS – MORE RESILIENT IN CASE OF ECONOMIC DOWNTURN

• Balance Sheet virtually debt free

• Ability to show greater resilience in an economic downturn – less vulnerable to a slowdown

in earnings growth

• Huge cash on books puts them in an advantageous position when it comes to funding their

expansion plans


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PSUS- BELONG MORE TO CORE SECTORS

• Many of the PSU companies belong to sectors, which are core to the India Growth Story

• These sectors will benefit from the ongoing Government focus on infrastructure and

reforms

PSUS:THE DIVESTMENT AGENDA

Pranab Mukherjee, in his budget speech said “The average public float in Indian listed

companies is less than 15 per cent. Deep non-manipulable markets require larger and

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diversified public shareholdings. This requirement should be uniformly applied to the private

sector as well as listed public sector companies. I propose to raise, in a phased manner, the

threshold for non-promoter public shareholding for all listed companies.”

Looking at the growth story of India and the optimism of future growth as well, the govt. of

India has already planned and finalized its expansion projects. It has planned to come out in a

big way in infrastructure development projects.

• Government could raise more than US$160bn from divestment.

To reduce holding as per norms by the Indian Capital Market Regulator.

Divestments of around US$4-5 billion (estimate) in FY2010, which would give the

Government some flexibility on the fiscal front

Privatization of companies could lead to wealth creation.

CANDIDATES FOR DIVESTMENT

In these companies, the average Government shareholding is more than 75%

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Candidates for 2nd round of divestmentSource : Bloomberg; Prowess. BSE India ; Data as on 31/08/2009

PSUS – FAVOURED BY THE MARKETS

Another point in favor of PSUs is that these companies are among those most liked by the

stock markets. It is only due to the confidence in the functionality and stability of the PSUs

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that a commen investor is willing to invest in these companies and hence is affected by the

positive sentiments in the stock market. The recent performance of PSUs is:

Divestment / Stake Sale - Post IPO Performance

PSUS – WEALTH CREATORS

BSE PSU Index which consists of 47 public sector companies have outperformed leading

companies, which are represented as part of the Sensex in both short term and long term.


PSUS – WEALTH CREATORS & YOU THOUGHT THESE WERE

BORING COMPANIES

Some of the PSUs have outperformed many big private firms in terms of financial

performance in a big way. These companies are among the top profit makers and top gainers

in India. They include:

BHEL

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BMEL

NTPC

CCI


PSUS – CONTRIBUTION TO INDEX PERFORMANCE

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• A portfolio of these 10 stocks (equal weighted) has outperformed the Nifty in the last 1

year, by generating returns of 24.36% vis-à-vis Nifty return of 6.89%

• BSE PSU Index (an aggregate of 47 PSU companies) has appreciated by 24.09% over the

last 1 year, as against BSE Sensex’s return of 7.52%

PSUS – DIVIDENDS IN GOOD TIMES & BAD TIMES

A SUGGESTION FOR REFORM:

On the basis of the above, if we accept that the real problems facing PSEs are,

(i) Dysfunctional political interference

(ii) Constitutionally mandated procedural audit

(iii) Soft budget constraint

Then following measures can be suggested:

• Reduce the government holding in PSEs to less than 50 per cent by transferring share to

mutually complementary firms by creating Japanese style, tied around a public sector bank or

financial institution. For instance, interlocking of equity holding among steel, coal and

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electricity firms or petroleum exploration, refining and petrochemical complexes. Such a

measure would eliminate the procedural audit as well as political interference on the day-to-

day operational matters.

However, to ensure public accountability managers may be asked to make presentations to

the parliamentary sub-committees on efficiency of resource use. At the same time, managers

should have clearly defined security of tenure for say 3 or 5 years to ensure continuity and to

show measurable performance.

• Harden the budget constraint for PSEs by a clear sunset clause on budgetary support or

government guarantee for loans, except for specific public purpose oriented investments.

Given that banks provide substantial equity and loans, they would, in principle, have

incentive to monitor PSEs performance to retain their reputational capital.

However, question would still remain who will monitor the banks? There are no easy

answers to it. Given the increasing independence of the Reserve Bank, it is conceivable to

device a system to where the central bank and other regulatory authorities are given the

responsibility of appointing top managers of banks. Such a scheme of delegated monitoring is

in principle is better for efficiency. Such a monitoring could focus on long term corporate

goals such as productivity growth market shares, and R&D outcomes.

• To ensure that PSEs do not abuse their oligopolistic position in the domestic market,

reasonably open trade and investment regime could impart the discipline of the world market.

BIBLIOGRAPHY

RESEARCH PAPERS

Disinvestment and Privatisation in India Assessment and Options…By: R Nagaraj

Disinvestment in India, I lose and you gain...By: Pradip Baijal

Public Sector performance since 1950, a fresh look... By: R. Nagaraj

PRIVATIZATION IN India: THE IMPERATIVES AND CONSEQUENCES OF

GRADUALISM by: Devesh Kapur and Ravi Ramamurti

World Economic Forum: India ECONOMIC SUMMIT

Indian Economic Reforms: A Stocktaking By: T. N. Srinivasan

Planning Commssion Report

Disinvestment Commission Report, 1999

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Public enterprise Survey Report 1996-1997,2002-2004 Vol-1.

Annual Report of VSNL

Annual Report Released by Govt. Of Orissa

Economic Survey, 1991-2008

BOOKS

Disinvestment in India...By Sudhir Naib

Business Environment...By Shaikh Saleem

INTERNET

www.divest.nic.in

www.india.gov.in/sectors/finance/disinvestment

www.ircc.iitb.ac.in

www.livemint.com

www. economictimes.indiatimes.com

www.indiastat.com

Department of disinvestment, Ministry of Finance , www.divest.nic.in

www.cmie.com

www.planningcommission.nic.in

http://india.gov.in/sectors/agriculture/index.php

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Disinvestment in India

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