Cover Story (Spotlight Weekly)

PRIVATIZATION
Public Display Of Misunderstanding And Misuse

Privatization in Nepal seems to have evolved into a process of shifting the government's burden to the private sector, ultimately paving the way for entrepreneurs to use Public Sector Enterprises (PSEs) as collateral to secure huge loans from commercial banks. As the controversy over the concept and process of privatization rages, failing state units are faring worse in private hands. Frequent disruptions and cumbersome decision-making have prompted chaos in the PSEs, imposing enormous financial losses on the country. The result: A tool adopted around the world to boost efficiency and productivity has acquired a bad name in Nepal.

By KESHAB POUDEL

"All great ideas go through three stages. In the first stage, they are ridiculed. In the second, they are strongly opposed. And in the third stage, they are considered to be self-evident," said Schopenhauer.

Globally, privatization has reached the third stage. In Nepal, it is still stuck in the first, as the process is passing through severe local conditions. Government officials consider privatization the concept of selling, leasing or liquidating Public Sector Enterprises (PSEs) to reduce the financial burden of the state and to invite private partnership. In other words, privatization has come as despair with public-sector efficiency rather than hope for private-sector efficiency.

Inexperienced and cash-strapped, the private sector considers participating in the process of privatization to grab valuable land to maximize profits - by taking huge loans from commercial banks after putting up the property as collateral. As most of the privatized PSEs have secured loans far greater than the amount they were originally bought for, it seems the government has to intervene through the financial institution reform program to rescue them.

In the last 12 years, the privatized units have hardly proved their efficiency. Nor have the remaining PSEs improved their operational efficacy. Both categories of enterprises have one common characteristic: they are in the process of bankruptcy.

BPC Privatization

The case of Butwal Power Company (BPC) provides an abject example of how the concept of privatization is ridiculed in Nepal. Although the government announced bidding since 1998, it canceled almost all the submissions in the last minute, citing inadequate quotations or insufficient bidders.

Regardless of the rationale behind the cancellations, it has delayed the process of privatization by a couple of years. Even foreign companies bidding along with Nepalese partners are now said to be reluctant to go in for another round, following the destruction of the Jhimruk power plant by the Maoist rebels. Earlier, the government expressed concern over non-participation by foreign investors. When two foreign investors came to bid for the BPC, the government cancelled the process twice.

Although the BPC remains a priority unit for privatization, nobody knows when the government will actually sell it. The uncertainty over ownership, however, has created insecurity among the employees and plunged efficiency to a record low.

Under the Ninth Plan (1997-2002), 30 PSEs were targeted for privatization. But the government has fallen woefully short of that goal. In 1997, the government listed 12 companies for privatization, but could sell only the Nepal Tea Development Corporation, which was recommended by the fifth meeting of Privatization Unit in 1994. That transfer is in controversy over land demarcation.

The 24th meeting of the Privatization Unit in 1998 recommended Pokhara Milk Distribution Project, Nepal Rosin and Turpentine Ltd, the BPC, Rastriya Banijya Bank, Trolley Bus Service, Lumbini Sugar Factory and the National Insurance Corporation for privatization. The 26th meeting in 1998 added Himal Cement Factory to the list. The 27th meeting the same year proposed the sell-off of Salt Trading Limited. Gorkhapatra Corporation, the state-run print media organization, was also listed for privatization the same year.

Instead of initiating the privatization process in 1997, the government waited another five years before liquidating Himal Cement Factory and the Trolley Bus Service in 2002. The government lost revenue generated by the factory and was compelled to pay additional benefits to employees from its own reserve fund. In the process, there was only pain.

As the property of the liquidated factories is lying idle, nobody is in position to pay for the old equipment. After the announcement of privatization, the productivity and efficiency of Lumbini Sugar Mills, Salt Trading Corporation, Rastriya Banijya Bank and other PSEs plummeted. According to the Yellow Book 1997/98, 1999/2000 and 2002 published by Ministry of Finance, the losses of Lumbini Sugar Factory increased from Rs.2.5 million in 1996/97 to Rs.52 million in 1998/99. Similarly, the Rastriya Banijya Bank, which recorded a profit of Rs.35.81 million in fiscal year 1996/97, suddenly incurred a loss of Rs.40.57 million in 2001/02. The government does not have anything to boast of, except the reduction of financial burden on taxpayers.

In the first phase, three PSEs were sold without proper modalities within a short span of time. Despite the legal framework and procedure enunciated in the Privatization Act 1995, the process was too slow and haphazard.

Privatization Of PSEs

Since the privatization drive began in 1992, the government has sold 17 units (excluding two liquidations), representing a total value of over Rs.1 billion† (US$ 15 million). By 2000, the government had privatized a total of 15 public enterprises. These included two management contracts, a lease-out of a tea estate and 13 block shares sold to private parties.

As most privatized units have failed to show results, with some even having closed down, there is mounting pressure on the government to withhold the program. "The truth of the performance of privatized units in Nepal rests somewhere in between the government's presentation of success stories and public perception of failures. Actually, there is nothing to boast about the privatization program," says Narayan Manandhar, a leading privatization expert.

Others disagree. "There is no alternative to privatization, as the government is in no position to bear the burden of the PSEs. The PSEs must be privatized at least to reduce the additional burden on taxpayers like us," says former finance minister Dr. Ram Sharan Mahat.

The government also faces charges of laxness in collecting dues and spending proceeds in administering the privatization program. Much of the proceeds have gone either for paying company debts or compensating employees. If the revenue from privatized industries is spent on paying salaries and other due of the PSEs, what has the government gained? That no longer remains an academic question.

According to Manandhar's "Privatization in Nepal: A Study of Two Cases", the government has collected about Rs.1,189.06 million from the privatization of 15 units. In the first phase, the government accumulated Rs.474.48 million by selling the Harisiddhi Bricks and Tile Factory, Bhrikuti Paper Mills and Bansbari Leather and Shoe Factory. The Auditor-General's Report 2000, however, presents a different picture.

Second Phase of Privatization

In the second phase, the government sold Nepal Film Development Corporation, Nepal Bitumen and Barrel and Balaju Textiles for Rs.95.1 million. The government also divested Nepal Lube Oil and Raw Hide for Rs.35.05 million. Following the formation of the CPN-UML government in 1994, the privatization process was stalled for year. In 1996, Nepal Foundries, Raghupati Jute Mills and Biratnagar Jute Mills were privatized for Rs.96.68 million. The following year, the government leased out Bhaktapur Brick Factory, sold its shares of Nepal Bank and sold the Agriculture Tools Factory for Rs.220.24 million. After the three years of dilly-dallying, the government privatized Nepal Tea Development Corporation for Rs.267.10 million.

In the first three phases, the government sold all the property. Officials claimed the public did not respond to calls to buy the share in the market. The Nepali Congress government sold three units to big business houses under the sell of assets and business method. In 1993, the shares of three more PSEs were sold and another was liquidated. In 1994, the shares of another two companies were floated and one was liquidated. Although the Privatization Act was enacted in 1994 to provide the legal basis and institutional framework for the program, it was stalled for a year after the UML government assumed office.

An independent review of the privatization program was conducted in January 2000 with the financial support of the British government's Department For International Development, which pointed to lackluster performance.

Mismanagement Of Loan

As the country's private sector is yet to develop a corporate culture, there seems to be a tendency among entrepreneurs to secure loans in the name of expansion. Almost all privatized PSEs have secured bank loans three to five times higher than what they had invested in the units. This has led to the perception that investors favor privatization as a means of multiplying returns by placing newly bought industries as collateral in banks.

A report on the performance of privatized enterprises, prepared by the Ministry of Finance's Privatization Unit in 1998, revealed that Bhrikuti Paper and Pulp Factory and Harisiddhi Brick and Tiles factory secured loans that were far greater than their initial investment. According to the study, within a year, all three privatized industries borrowed huge amounts of money in the name of expansion.

Sri Bhrikuti Pulp and Paper Nepal Ltd. (SBP&PNL) borrowed Rs.286.5 million, Rs.487.3 million and Rs.708.4 million in fiscal year 2050/51,2051/52 and 2052-53. It now has severe debt servicing problems. Before privatization, the company had earned Rs.12.0 million and Rs.4.3 million in fiscal year 2046/47 and 2047/48 respectively.

After privatization, the company could not earn profit despite the increase in prices from Rs.13,855 PMT in 2052/53 from Rs.6,755 PMT in 2046/47. After investing Rs.140 million in importing new machines and Rs.708.49 million in building construction, the mill increased its total production capacity from 13 MT per day in 2046/47 to 88 MT. The SBP&PNL holds precious land in residential areas in Gaidakot of Nawalparasi district.

The Harisiddi Brick and Tile Factory (HB&TF) has a similarly sordid story to tell. The factory was sold for Rs.226.9 million, but borrowed Rs.175.18 million, Rs.118.10 million, 125.08 million and Rs.181.89 million from banks to increase capacity. The factory, too, is suffering from bad debt service problems. According to the Auditor-General's Report 1999,the factory is yet to pay Rs.31,633,000 to the government. As it has already been declared a sick industry, it is not in a position to repay the loan without selling its 408 ropanies of prime land.

Bansbari Tannery And Shoes Factory is now closed, as the owners have shifted the machinery from Kathmandu to Kapilvastu and now to their headquarters in the Indian city of Kanpur. Comparative to the other two factories, it borrowed small amounts from a local bank. The company borrowed Rs.27.5 million, Rs. 35.94 million Rs. 20.14 million and Rs.17.90 million in 2049/50, 2050/51, 2051/52, 2053/54 and 2054/55.The company also made a profit of Rs.1.13 million in 2054/2055. Although the Ministry of Finance claimed that the company has paid all its dues, the Auditor-General's Report 2000 showed an outstanding payment of Rs.4,763,000.

Balaju Textile Industry's borrowing increased by many folds following its privatization, It is also facing serious debt problems. The Agriculture Tools Factory was closed down after the party was unable to pay. According to the Auditor-General's Report 2000, the government is yet to collect Rs.196,226,000. Among the 16 liquidated and privatized companies, 11 have yet to clear their dues.

"There were faults in the hand-over and take-over processes. The consumer advantage part was missing," says Dr. Bishwomber Pyakuryal, an economic professor at Tribhuvan University. "The first phase of privatization was initiated with good intentions, but without prior knowledge and expertise. So, the modalities were questioned. Because of the inefficiency of the government, the exact valuation had not been made transparent. We professionals are not satisfied with the process of privatization that has taken place."

Dr. Pyakuryal adds: "Although it was legally defended, the second phase of privatization was utter chaos. Nepal was the first country in the region to have a privatization act. It defended the government technically and legally. Nobody knows where the money raised has gone. Whether the money was spend on the social sector in a transparent manner remains unclear."

The Auditor-General's Report of 1998-1999 raised questions about the whole privatization process, particularly the first three privatized units. Critics argue that they were simply sold out to certain families. According a Ministry of Finance report, Bhrikuti Paper Mills was handed over for Rs.229.8 million under assets and business sale. Harisiddhi Brick and Tile Factory was sold for Rs.226.9 million and Bansbari Leather and Shoe Factory for Rs.224 million.

Of course, there are badly-run private firms, but the same ills can be found in government agencies as well. Moreover, poorly performing private firms tend to go out of business, while poorly performing public agencies are often given more money to try to overcome their shortcomings.

What is privatization?

"Privatization is not public versus private but monopoly versus competition and calls for more competition in public service. Privatization can be defined broadly as relying more on private institutions of society and less on government to satisfy the people's need. It is the act of reducing the role of government and increasing the role of the other institutions of society in producing goods and services and in owning property," says E.S. Savas in his book "Privatization and Public Private Partnership". In Nepal's privatization process, the role of the government is yet to be reduced, as it still has to take care of the PSEs and privatized enterprises facing serious debt crises.

In economic terms, the scope for effective privatization of public enterprises depends on a number of considerations. Among them are whether private-sector managers have a greater incentive than public managers to improve efficiency, the number of public enterprises that are facing national or international competition. In many cases, instead of making efforts to improve the efficiency of PSEs for privatization, the government intervened until the institution collapsed. For instance, the situation of a number of public enterprises like cement factories, which were making profits and substituting exports, has worsened.

The Auditor-General's Report 2001 revealed how frequent political intervention has destroyed the PSEs. From forcing the appointment of advisers to requisitioning vehicles and property, ministers exploited PSEs in such a manner that they could never be in a position to make profits. In Nepal, the word privatization, like in other countries, entered popular usage only recently and the activity with which the privatization has become closely associated - the sale of public sector assets - is a distinct phenomenon of 1990s.

Today's PSEs were expanded in the mid-1960s and 1970s as a major contributor not only to economic growth but also to social and political stability. Economically, public ownership was viewed as essential given the underdeveloped nature of resources and markets.

Experts see privatization in developing country as a program for reform. The moves of privatization are closely integrated into the government bureaucracy. An independent board, financial autonomy and operating freedom are the first steps toward improved efficiency and eventual private ownership. Many existing state firms can be readily sold with little disruption. Yet capital markets in most developing countries are not adequate to support public sale.

Part of the failure of privatized or state-owned enterprises is cultural or behavioral. The employees and owners lacked any sense of responsibility to the organization or to themselves. The employees viewed their jobs as a necessary evil and felt no motivation to work productively or even carefully. There was little interest in the health of the company as a whole - and no trace of team spirit.

Although more than a decade has been passed, many privatized companies are yet to clear their dues. As most of the privatized units are in the process of closing down, there is no hope of collecting those debts.

The Auditor General's Report 2000 reveals that the government has accumulated 731.27 million rupees from privatization but spent Rs.680.74 million to pay salaries and debts. Now the Finance Ministry's Deposit Account has Rs.46.7 million.

The country has gotten nothing but sick industry with huge debts. This is the true face of privatization of the last 12 years. Even other PSEs that were making profit are now losing confidence as rumors of privatization erodes the feeling of ownership.

Definition of Privatization

Privatization is not familization. According to experts, privatization is like dismantling a bomb - it must be done very carefully, for wrong decisions can have nasty consequences. There are obstacles to be overcome, arguments to be rebutted, proponents to be mobilized, and opponents to be thwarted. Like many developing countries, Nepal's first phase of privatization is like familization, as the shares was issued to families.

Privatization can be defined broadly as relying more on the private institutions of society and less on government to satisfy the people's needs. It is the act of reducing the role of the government or increasing the role of other institutions of society in producing goods and services and in owning property.

The government has already closed down the Cottage Industry and Handicraft Sales Center, Nepal Transport Corporation, Sajha Yatayat and Himal Cement Factory. The government is negotiating with preferred bidders to hand over its 75 percent share of Butwal Power Company, which is going to be the largest PSE to be privatized. According to the Economic Survey 2001-2002, the government has already called tenders for the sale of the assets and property of Hetauda Textile Ltd. The Agriculture Input Corporation has been split into two separate companies.

The new government has announced it would continue the privatization process. Known as a die-hard opponent of privatization, Dr. Badri Prasad Shrestha changed his stand as soon as he was appointed finance minister. In his first press conference, Dr. Shrestha admitted that he would initiate the privatization of more public-sector enterprises in the coming fiscal year. The Sher Bahadur Deuba government had committed itself to privatizing three more PSEs.

Nepal's Yellow Book 2002, published by Ministry of Finance, reveals that the government has invested Rs.76604.1 million up to fiscal year 2000/2001 in 40 public enterprises, of which Rs.193394 and Rs.572647 are share and loan investment respectively. But in 2000/2001, the government has received Rs.245.7 million from public enterprises as dividends, which is only 1.27 percent of total share investment.

Many PSEs that were breaking even and making profit have turned into loss-making institutions after† privatization. When the government announced its privatization scheme, employees gripped by deepening sense of uncertainty simply stopped working. Unable to maintain the status quo, the old PSEs are facing all kinds of problems, including debt and inefficiency.

"Privatization in the past has not yielded expected results. It does not mean there should be no further attempts. Our problem is that genuine entrepreneurs are not coming to invest. Those who show interest are often incapable, dishonest or immature," said Kuber P. Sharma, Minister for Tourism, Civil Aviation and Culture. "The unfortunate thing is that we don't have professional management teams in the private sector. Mostly, they are family-owned and family-run businesses."

A decade after the initiation of the privatization process, 15 public-sector enterprises have been sold† and some half a dozen have been liquidated. Interestingly, PSEs - whether privatized or still under the government control - have been passing through similar kinds of problems: heavy debt burden, low productivity and inefficiency.

In other parts of the world, privatization is regarded as the savior of the economy, bringing in more royalty and increasing productivity, competitiveness and efficiency. The situation in Nepal is just the opposite. If the government continues dilly-dallying in the privatization process, many other PSEs will be ruined, putting additional burden on the state.

Adam Smith, the father of the market economy, considered the sign of a properly functioning market system to be the maximization of material benefits to society's lowest members. In his book, "Wealth of the Nation", Smith singled out the nature of law, government and social and individual morality as they affect the operations of a market economy. In a country in the initial phase of economic, social and political modernization fighting for survival, ridiculing the popular concept of privatization seems to be nothing new.

Due to of the movement

1. Biratnagar Jute Mills Rs. 6,06,47,000

2. HB&TF Rs. 3,16,33,000

3. Bhrikuti Paper Mill Rs.2, 18,52,000

4. Bansbari Leather Factory Rs.47,63,000

5. Raw Hide Collection and

Development Corporation Ltd Rs.55, 78,000

6. Balaju Textile Industry Rs.79, 04,000

7. Nepal Bitumen and Barrel Udhyog Ltd. Rs.91, 40,000

8. Nepal Metal Company Rs.68,89,000

9. Raghupati Jute Mills Rs.2, 10,72,000

10. Agriculture Tolls Factory Rs.2, 73,97,000

11 Bhaktapur Brick Factory Rs.14,87,000

Total Rs.19,62,26,000

Source: Auditor-General's Report 2057

‘Infusion Of Money Is Not Enough To Increase Productivity’

— RAJENDRA K. KHETAN

RAJENDRA K. KHETAN is a young industrialist having a long experience with PSEs. A shareholder and board director of Nepal Bank Limited, Khetan stresses the need for a clear policy on privatization.

How do you see the privatization process in Nepal?

The privatization process in Nepal is random and ad-hoc. The seller and buyer in the process of privatization look at the property and its worth. Two thirds of the investments were put evaluating the property. The privatized PSEs are highly over debt now.

Why do you think the private parties have failed to properly manage the companies that were privatized?

These industries were not established as profit centers, but rather came as grants to the nation. Obviously, these are over capitalized and not commercialized. All the PSEs are over-staffed. The policy and market were not in tune. Against this backdrop, it was not possible for the private sector to raise production. Money borrowed from banks at high interest rates deteriorated the viability. Injecting money in the industry is not enough to increase production.

As you have been talking about the need to enhance the role of private sector, don't you think it is a big blow for Nepalese business community, as they have failed to sustain the privatized public sector institutions?

No, it is not a blow to the private sector. The private sector has been doing its best to protect industries. The success of any commercial venture depends on demand and supply, and it must be commercially viable. Moreover, we are moving toward the World Trade Organization and South Asian Free Trade Area regimes. It is an age of competitive market and private sector is looking for competitive core sector where we can do better. If we review history, most of the PSEs were not set up from the economic point of view. They were there to provide services.

Has the Federation of Nepalese Chambers of Commerce and Industry ever talked about privatization? What are the overall views of the business community?

Since privatization so far has not been very successful, it was not discussed much before going for the process. We are definitely worried about the future. We will lobby for genuine privatization. We don't want privatization like the way it happened in Nepal Bank. Privatization killed the institution.

Does the Nepalese business community have adequate money to buy public entities?

Yes, there is money and financial institutions to back. But it is not a question of money, but viability. Most of the PSEs are overstaffed so no one wants to spend money on them. The PSEs, which are not based on the demand and supply, should be liquidated rather. There is no future for those privatized PSEs, which cannot compete in the market.

‘Privatization Has Been Used As A Load-Shedding Device’

— NARAYAN MANANDHAR

NARAYAN MANANDHAR, a young economist having long experience in industrial relations, says there is still confusion on the policy and other matters of privatization. Manandhar has conducted a number of studies on privatization. Excerpts:

How has privatization come to exist in Nepal?

So far, Nepal has had nearly a decade of experience with privatization. This includes the privatization of 15 units (excluding two liquidations) affecting total value over one billion rupees (US$ 14 million). Privatization has come as despair with public sector inefficiency rather than hope for private sector efficiency.

How do you define it?

Privatization is preoccupied with ownership change rather than increasing competition and efficiency. In summary, Nepal's privatization experience is checked with initial euphoria followed by mounting controversy, confusion and protracted delays. The truth of the performance of privatized units in Nepal rests somewhere in between government's presentation of success stories and public perception of failures. Actually, there is nothing to boast about the privatization program.

What do you mean?

Privatization has been used as a load-shedding device - management load, employees and financial. As most privatized units have failed to show results and some have even closed down after privatization, there is mounting pressure on the government to withhold the program. There is not much effort going on to sell the privatization idea to the workers, managers and the public at large.

What will be role of the government in the private sector?

Privatization need not necessarily decrease the role of the government but its role may be changed. There is virtual lack of monitoring and review of privatization programmed. In short, the privatization is in name and public affair in game. Potential costs and benefits from privatization are either too much exaggerated or less understood.

How do you see the sale procedures?

Sales proceeds of privatization are not being planned. Even the opposition has been accusing the government of lack of transparency in the process, of selling public enterprises at throwaway prices and of undermining national interest by selling public enterprises to foreigners and big business houses. There is also report that the governments too lax in collecting privatization dues and spending privatization proceed in administering the privatization program. The Auditor-General's Report 2055 (1998) stated there is 29.28 percent under valuation in 11 privatized unites, out of sale of 7 units, Rs.162 million has to be collected and this in include half in form of interest and penalty payment. Out of Rs.721 million sales processed from 16 units, 51 percent was spent o meeting privatization obligations.

Have the financial conditions of the PSEs changed following privatization?

In my study on privatization in Nepal, a study of two cases, I have found that the financial condition of the companies had worsened after privatization. Harisiddhi Brick and Tile Factory (HBTF), for instance, has been incurring huge losses since 1994/1995. For two years after the privatization, the company showed profits. In 1997/98, the accumulated losses reached Rs.74 million. In the same year, the company had a total capital of Rs.239 million, which was far more than its share cost of Rs.186 million. This had to do with huge debt financing.

What is your conclusion on the two cases - Raghupati Jute Mill (RJM) and HBTF?

We have two distinct cases. In the case of HBTF, a highly potential company is turned into a sick company under new private management. While in the case of RJM, a sick and dying unit has been turned around, at least during the time of the study. Going by performance track records, I can say that compared to HBTF, RJM is a success story.