Themes > Current Issues
22.02.2001
C.P.
Chandrasekhar
In a desperate last-minute, pre-Budget manoeuvre,
the government has chosen to announce the 'strategic sale'
of equity in Bharat Aluminium Company Ltd. (BALCO). Set up in 1965 at
Korba in Madhya Pradesh to manufacture aluminium rods and semi-fabricated
products and instructed in 1984 to take over a sick unit in Bidhanbag,
West Bengal, with downstream facilities in sheets, foils and alloy rods,
BALCO is today the third largest player in India's aluminium industry.
The Korba facility includes bauxite mines, an alumina refinery, a smelter
and a fabrication unit, besides a 270 MW power plant, which meets a
substantial plant of the unit's power requirements, and a fully
built-up township spread over 15000 acres in which over 4000 families live.
Sterlite Industries that won the bid for BALCO, would have to pay Rs. 551.5 crore for a 51 per cent stake in the company that controls these assets. In the government's recently-coined disinvestment terminology, a 'strategic sale' refers to one in which a minority shareholding of 26 per cent or more is divested to a single buyer who is handed over management of the company. Usage of that term in the proposed sale of BALCO makes little sense, since Sterlite, with its majority equity holding would in any case be in a position to completely control the operations of the firm.
No sooner was the BALCO deal announce and it created a furore within and outside Parliament. The opposition to the deal has been strong on many counts. First, since BALCO is 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 modernization plan (estimated to cost Rs. 1000 crore) without recourse to budgetary funds. The expansion project was to include the setting up of a cold rolling mill, 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.
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 8 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 reorganization aimed at allowing BALCO the freedom to use its own capacity to mobilize resources to modernize, expand its captive power facility and raise its profitability further. In practice, as a prelude to the privatization 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 crore into the government's account. This was a clear indication that modernization and expansion was not even under consideration.
This implies that BALCO's profitability has been undermined by the government's own role in stalling modernization and expansion at Korba. Hence, the current profit performance of the unit cannot be the basis on which the future profile of profits is estimated. However, the tendency for Arun Shourie, the Minister for Disinvestment to emphasise 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 consciously or otherwise squeezing the profits of a public sector unit, and then using that profit outcome to undervalue the firm.
Secondly, it is being argued, a direct valuation of BALCO's assets suggets that with an investment of just Rs. 550 crore, Sterlite is to get control over assets that according to some are worth around 10 times that value. 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 has held that if Sterlite were to invest in a captive power plant of the kind owned by BALCO, it could cost as much as Rs. 1,215 crore. And this figure matters since 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. Further, the deal not only involves an immediate loss from the undervaluation of the controlling stake in the company and over its assets that is to be handed over to Sterlite. Once control rests with Sterlite, big buyers would be unwilling to purchase large chunks of the stock remaining with the government at even the price being offered by Sterlite, since that would give them little say in the running of the company. A 51 per equity sale at an indefensible price also undermines the value of the remaining stock that would be held by the government.
Third, it is being alleged that 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. Keeping the reserve price a secret and declaring that the Sterlite bid was in keeping with the reserve price, only further fuels suspicion. A more transparent procedure would have been to declare what the minimum bid that the government would consider is, based on its independently-conducted valuation.
Fourth, the whole procedure has been gone through in much haste. Even though the bids had been invited sometime back, the valuation of the firm, the setting of the reserve price and the acceptance of Sterlite's bid was allegedly done within a month's time. Leaked evidence of undue haste has accumulated, questioning the government's claims of transparency in the execution of the deal.
Finally, the deal allegedly violates a Supreme Court order banning private sector units from running mines and industries in tribal areas. To circumvent this obstacle, the government had ostensibly been contemplating a change in the law, which has not actually been gone through with.
All of this has generated opposition to the deal to divest a controlling stake in a profit-making public sector unit at what is considered a throw away price. At the time of writing it appears that the deal may not be finalized because of this opposition. Clearly, a combination of an inappropriate procedure, undue haste and unwarranted secrecy have created a veritable mess. The question that remains is why the BJP was willing to go through with this procedure even at the expense of alienating some of its NDA allies.
The announcement of the sale close to the end of fiscal 2000-01 and just before the release of the Economic Survey and presentation of the Budget suggests that two different motives have guided the government's actions. The first, of course, is the need to garner some resources through public sector equity sale, so that the "revenue" side of the budget can be padded to some degree, even if not to the tune of the Rs.10,000 crore projected to be yielded by privatization in Budget 2000-01. In fact, given the haste with which the BALCO deal was finalized and the fact that fiscal 2000-01 runs till March-end, it was likely that. if the opposition to the BALCO deal was not as strong, a couple of more deals among the many that are 'pending' may have been pushed through. But that haste and the procedure seems to have made any such new effort difficult.
The second motive appears to be the need to establish that the government is serious about pushing ahead with "economic reform" and implementing its intentions to privatize the public sector. Those intentions have not only been declared repeatedly by official spokesmen, but have been made one of the principal steps forward on the economic policy front by the Economic Advisory Council to the Prime Minister and the authors of the recently released Economic Survey. If those declarations were to be taken seriously, a major thrust on the disinvestment front was called for. After all, the recommendations of the now-dissolved Disinvestment Commission have been circulating for a while, a whole ministry has been created to deal with disinvestments and successive budgets have set over-ambitious targets for resources to be garnered from privatization.
Driven by these motives, the government has chosen to push through the deal on two grounds. To start with, it argues that the Sterlite offer exceeds that warranted by a reasonable projection of future revenues and indicates that the company is willing to pay a premium for the controlling stake it is being offered in a major player in the aluminium market. Further, much is being made of the fact that Sterlite's offer was more than double the competing bid from rival HINDALCO. What is ignored by this reasoning is that both what the market is willing to offer or the net worth computed on the basis of projections grounded on the current profits of public sector undertakings would not constitute sums which make any privatization exercise worthwhile. Private investors looking for bargains would use valuation procedures which would short change the government. The fact that HINDALCO was willing to offer only half of the undervalued Sterlite bid, only goes to prove this point rather than establish the fairness of the Sterlite offer. This makes difficult to economically justify all but the most unprofitable public sector units. But those are the very companies that no private sector buyer would even consider. Given this, the government should give up its stubborn advocacy of privatization on grounds that have not been supported by the experience in areas like the airline and cellular and basic telephony industries. Instead it should return to implementing plans to reorganize, modernize and expand profitable public sector undertakings, since successful completion of that task would yield revenues for the exchequer that are many multiples of the interest revenue it can garner by investing the proceeds from privatization or save by using it to retire accumulated public debt.
Sterlite Industries that won the bid for BALCO, would have to pay Rs. 551.5 crore for a 51 per cent stake in the company that controls these assets. In the government's recently-coined disinvestment terminology, a 'strategic sale' refers to one in which a minority shareholding of 26 per cent or more is divested to a single buyer who is handed over management of the company. Usage of that term in the proposed sale of BALCO makes little sense, since Sterlite, with its majority equity holding would in any case be in a position to completely control the operations of the firm.
No sooner was the BALCO deal announce and it created a furore within and outside Parliament. The opposition to the deal has been strong on many counts. First, since BALCO is 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 modernization plan (estimated to cost Rs. 1000 crore) without recourse to budgetary funds. The expansion project was to include the setting up of a cold rolling mill, 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.
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 8 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 reorganization aimed at allowing BALCO the freedom to use its own capacity to mobilize resources to modernize, expand its captive power facility and raise its profitability further. In practice, as a prelude to the privatization 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 crore into the government's account. This was a clear indication that modernization and expansion was not even under consideration.
This implies that BALCO's profitability has been undermined by the government's own role in stalling modernization and expansion at Korba. Hence, the current profit performance of the unit cannot be the basis on which the future profile of profits is estimated. However, the tendency for Arun Shourie, the Minister for Disinvestment to emphasise 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 consciously or otherwise squeezing the profits of a public sector unit, and then using that profit outcome to undervalue the firm.
Secondly, it is being argued, a direct valuation of BALCO's assets suggets that with an investment of just Rs. 550 crore, Sterlite is to get control over assets that according to some are worth around 10 times that value. 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 has held that if Sterlite were to invest in a captive power plant of the kind owned by BALCO, it could cost as much as Rs. 1,215 crore. And this figure matters since 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. Further, the deal not only involves an immediate loss from the undervaluation of the controlling stake in the company and over its assets that is to be handed over to Sterlite. Once control rests with Sterlite, big buyers would be unwilling to purchase large chunks of the stock remaining with the government at even the price being offered by Sterlite, since that would give them little say in the running of the company. A 51 per equity sale at an indefensible price also undermines the value of the remaining stock that would be held by the government.
Third, it is being alleged that 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. Keeping the reserve price a secret and declaring that the Sterlite bid was in keeping with the reserve price, only further fuels suspicion. A more transparent procedure would have been to declare what the minimum bid that the government would consider is, based on its independently-conducted valuation.
Fourth, the whole procedure has been gone through in much haste. Even though the bids had been invited sometime back, the valuation of the firm, the setting of the reserve price and the acceptance of Sterlite's bid was allegedly done within a month's time. Leaked evidence of undue haste has accumulated, questioning the government's claims of transparency in the execution of the deal.
Finally, the deal allegedly violates a Supreme Court order banning private sector units from running mines and industries in tribal areas. To circumvent this obstacle, the government had ostensibly been contemplating a change in the law, which has not actually been gone through with.
All of this has generated opposition to the deal to divest a controlling stake in a profit-making public sector unit at what is considered a throw away price. At the time of writing it appears that the deal may not be finalized because of this opposition. Clearly, a combination of an inappropriate procedure, undue haste and unwarranted secrecy have created a veritable mess. The question that remains is why the BJP was willing to go through with this procedure even at the expense of alienating some of its NDA allies.
The announcement of the sale close to the end of fiscal 2000-01 and just before the release of the Economic Survey and presentation of the Budget suggests that two different motives have guided the government's actions. The first, of course, is the need to garner some resources through public sector equity sale, so that the "revenue" side of the budget can be padded to some degree, even if not to the tune of the Rs.10,000 crore projected to be yielded by privatization in Budget 2000-01. In fact, given the haste with which the BALCO deal was finalized and the fact that fiscal 2000-01 runs till March-end, it was likely that. if the opposition to the BALCO deal was not as strong, a couple of more deals among the many that are 'pending' may have been pushed through. But that haste and the procedure seems to have made any such new effort difficult.
The second motive appears to be the need to establish that the government is serious about pushing ahead with "economic reform" and implementing its intentions to privatize the public sector. Those intentions have not only been declared repeatedly by official spokesmen, but have been made one of the principal steps forward on the economic policy front by the Economic Advisory Council to the Prime Minister and the authors of the recently released Economic Survey. If those declarations were to be taken seriously, a major thrust on the disinvestment front was called for. After all, the recommendations of the now-dissolved Disinvestment Commission have been circulating for a while, a whole ministry has been created to deal with disinvestments and successive budgets have set over-ambitious targets for resources to be garnered from privatization.
Driven by these motives, the government has chosen to push through the deal on two grounds. To start with, it argues that the Sterlite offer exceeds that warranted by a reasonable projection of future revenues and indicates that the company is willing to pay a premium for the controlling stake it is being offered in a major player in the aluminium market. Further, much is being made of the fact that Sterlite's offer was more than double the competing bid from rival HINDALCO. What is ignored by this reasoning is that both what the market is willing to offer or the net worth computed on the basis of projections grounded on the current profits of public sector undertakings would not constitute sums which make any privatization exercise worthwhile. Private investors looking for bargains would use valuation procedures which would short change the government. The fact that HINDALCO was willing to offer only half of the undervalued Sterlite bid, only goes to prove this point rather than establish the fairness of the Sterlite offer. This makes difficult to economically justify all but the most unprofitable public sector units. But those are the very companies that no private sector buyer would even consider. Given this, the government should give up its stubborn advocacy of privatization on grounds that have not been supported by the experience in areas like the airline and cellular and basic telephony industries. Instead it should return to implementing plans to reorganize, modernize and expand profitable public sector undertakings, since successful completion of that task would yield revenues for the exchequer that are many multiples of the interest revenue it can garner by investing the proceeds from privatization or save by using it to retire accumulated public debt.
© MACROSCAN 2001