Ukraine’s Sunflower Ukraine’s Sunflower Sector: The Main Sector: The Main

Conclusions of the Conclusions of the EBRD/FAO/LMC StudyEBRD/FAO/LMC Study

Presentation by James Fry

LMC International,

Oxford, UK

June 2004

Outline of the PresentationOutline of the Presentation Background to sunflower production

and crushing in Ukraine Key issues Export tax Credit VAT reimbursement for exporters Recommendations

The Agricultural SectorThe Agricultural Sector Ukraine is the world’s third largest sunflower

producer in the world, with production of 4.3 million tonnes in 2003/04.

The Ukrainian farm sector has undergone considerable changes since independence and the restructuring process is still underway.

Most sunflowerseed is grown by large agricultural enterprises (average size 1,700-2,000 hectares).

Since the introduction of a market economy, yields have fallen because cutbacks in the application of inputs, such as fertiliser, and low reinvestment in agriculture.

The Agricultural SectorThe Agricultural Sector The experience of some farms suggests that

yields (currently around 1.1 tonnes per hectare) can improve significantly with the application of: Up to date farm practices Modern machinery Improved seeds (particularly high yielding hybrids)

Yields have also suffered because of the reduction in the rotational period between sunflower crops, which harms soil fertility and increases the risk of disease.

The Crushing SectorThe Crushing Sector 17 major crushers (capacity of 250-1,100 tonnes

per day) produce 85% of Ukraine’s sunoil output. However, output of 4.3 million tonnes of seed

could support a maximum of nine domestic crushers, each with an economically efficient daily crushing capacity of 1,500 tonnes.

This average capacity is at the lower end of the average in W Europe and is the minimum that would enable the sector to remain competitive.

Therefore more consolidation in the crushing sector is expected over the coming years.

Ukraine Sunflower Crushing Ukraine Sunflower Crushing Costs (per tonne of seed), Costs (per tonne of seed),

20022002

Capital & Fuel & Labour TOTAL of which Sundries Chemicals variable

Ukraine Base Case (Actual Costs) 27.8 5.4 3.1 36.4 12.1 90% Capacity Utilisation 21.7 5.4 2.4 29.5 10.6 Average Daily Capacity of 1,500 tonnes

12.4 5.2 2.2 19.8 8.3

Key IssuesKey Issues Three main issues affect the

economic well-being of Ukraine’s sunflower sector: Export tax Severe lack of credit Failure to pay promptly the VAT

refunds to which oilseed product exporters are entitled.

Export TaxExport Tax Ukraine currently imposes a 17% tax on

sunflower seed exports. This has the effect of

Reducing seed exports and increasing oil exports Reducing the domestic price of seed

The extent to which local prices fall below export prices depends upon whether crushers can process the entire crop.

The export tax will be discussed in detail in my next presentation.

Availability of CreditAvailability of Credit Lack of credit is a major constraint for

farmers. To generate cash, they often sell just after harvest, when prices are low.

Without bankable documents for land ownership, farmers cannot use their land as collateral to secure loans.

Lack of legislation to permit the use of warehouse receipts prevents farmers from borrowing using stored seed as collateral.

The limited amount of subsidised credit is widely alleged to be allocated in a biased way.

Value Added Tax (VAT)Value Added Tax (VAT) VAT at a rate of 20% is assessed on all

sales of sunflowerseed. However, the government does not

receive these revenues, which are allowed to be used by farmers for the purchase of inputs.

20% VAT is charged on domestic sunflower oil and meal sales, but no VAT is levied on product exports.

VAT: Problems for CrushersVAT: Problems for Crushers When crushers export products they are

entitled to have their VAT element of the seed purchase price reimbursed.

By law, crushers/exporters should be reimbursed within three months.

However, the government is significantly in arrears with VAT payments, and some exporters may not be reimbursed at all.

Late or no refunds of VAT imposes a financial burden on crushers, who sometimes try to pass the cost back to farmers.

VAT: The Impact on VAT: The Impact on Crushing Margins (1)Crushing Margins (1)

The average sunflowerseed price in 2000/01 was $169/tonne.

This implies a total VAT export refund of $8.5 million for a crusher buying 300,000 tonnes of seed and exporting the products made from these sunflower seeds.

The following diagram reveals the impact on export crushing margins when VAT is refunded and when it is not.

Crushing Margins for Exporters of Oil and Crushing Margins for Exporters of Oil and Meal, with and without VAT reimbursementsMeal, with and without VAT reimbursements

-40

0

40

80

Oct-00 Jan-01 Apr-01 Jul-01 Oct-01 Jan-02 Apr-02

With VAT RefundWithout VAT RefundMargin at Export Parity Prices and Without VAT on Seed

VAT: The Impact on VAT: The Impact on Crushing Margins (2)Crushing Margins (2)

The diagram reveals that the issue of export VAT is critical for crushers; without refunds export margins may be negative for several months of the year.

While crushing margins without VAT refunds are in line with those in the EU, this takes no account of higher exchange rate risks and financing costs.

If there were no export tax or VAT, the diagram shows that margins would be lower than they actually were if full VAT refunds were received on time, but higher than they would be if VAT refunds are not made.

VAT: Other ImplicationsVAT: Other Implications The uncertainty created by the current system

causes the following problems: It reduces the price received by farmers. It acts as a minor deterrent to oil and meal exports.

The VAT refund on exports is a net cost to government (because the original VAT on seeds is received by farmers, not the government), yet the refunds are paid by the government.

Also, since tax authorities operate regionally and their budgets are related to their net revenues, the regional tax offices have a clear incentive not to refund the VAT on exports.

Study’s RecommendationsStudy’s Recommendations Reduce or end the 17% seed export tax Make prompt refunds of VAT on export sales a

priority Reform the VAT system, eliminating or lowering

the VAT rate that is applied to sunflowerseed sales

Introduce an enforceable system of ownership rights to land, to allow it to be used as collateral for credit

Establish a legally accepted system of warehouse receipts to enable inventories, too, to be used as collateral for borrowings

Thank You!Thank You!

Thank You!Thank You!