PUBLIC SECTOR UNITS

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.

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

CHAPTER 2: DISINVESTMENT IN INDIA POLICY, PROCEDURE

AND PROCESS
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
labour and capital; hence the GDP of the country is 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.

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
PSUs.

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:

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:
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.
BENEFITS SPECIFIC TO EACH APPROACH USED FOR DISINVESTMENT
Complete Privatisation
In most parts of the world, it has been proven that Privatisation brings the maximum returns
to the tax payer, thus making it the best form of Disinvestment. Since complete control is
given off by the government, the reforms are immediate, and the results start showing soon.
Majority Sale
A majority stake sale to a strategic buyer has its positives in getting a superior valuation
(though sometimes not as good as an outright sale) for the government purely due to market
dynamics. With some of the PSUs being virtual monopolies, private players have a lot of
interest in acquiring stakes in them. It was because of this reason that this became the chosen
vehicle for Disinvestment in the early 2000's.

Minority Sale
Given the current political and social compulsions, complete privatisation may not be a
solution in the Indian context. Even a majority stake sale would be met with opposition.
Offloading a part of the government's equity by way of a minority stake sale is the only
workable option, as in this case, the control would still be with the government. Minority
stakes can be sold either to selected private players, or to the public by way of a Public Offer
or auctioned off to financial institutions. Offloading minority stakes to private players does
not make sense for the government since valuations would be driven down by the fact that the
government still retains control/ decision making of the company. This has been proven in
transactions in the past wherein the P-E ratios typically accompanying such a sale were found
to be low. On the other hand, a minority stake sale via a Public Offer has several benefits.
For The Government
Minority Stake sales via Public Offers provide benefits of long term capital appreciationDisinvestment done in a staggered manner can help the government realize the real 'value' of
these PSUs, as has been shown by recent PSU IPOs wherein the valuation that the market has
given to the PSUs is far higher than the original offer price. For example, in the case of
NTPC, the Government sold each share at Rs. 62 in its IPO in October 2004. In its FPO in
February 2010, the Government was able to realise Rs. 201 for the same share!
For the PSU
1. Listing leads to better and timely disclosures, bringing in greater transparency and
professionalism, thus protecting the interest of the investors
2. Greater efficiency by way of being accountable to thousands of shareholders
3. Listing provides an opportunity to raise capital to fund new projects/undertake
expansions/diversifications and for acquisitions. An initial listing increases a
company's ability to raise further capital through various routes like preferential issue,
rights issue, Qualified Institutional Placements and ADRs/GDRs/FCCBs, and in the
process attract a wide and varied body of institutional and professional investors.

4. Listing raises a company's public profile with customers, suppliers, investors,

financial institutions and the media. A listed company is typically covered in analyst
reports and may also be included in one or more of indices of the stock exchanges.
For the Employees
1. Though there could be opposition from employees of some PSUs, this can be
countered and also turned into a favourable situation by offering ESOPs/preferential
issue of shares to them. This would provide tangible monetary benefits to them, and
also make them an interested party in better performance of their companies.
For The Markets and Economy
1. These PSU IPOs present the best opportunity of widening the equity investing retail
base by providing greater and safer investment opportunities. Curbs and measures,
however, would need to be put in place to ensure that institutional investors do not run
away with the bulk of this sale and only retail participation is allowed in these issues.
Public offers have been one of the frequently used techniques in the UK to transfer
state assets and businesses to private ownership. The method has been fairly
successful, having increased the shareholding population from 4% to 25%. For
example, British Telecom alone created 2.1 million shareholders in the UK, when
privatized.
2. Listed PSUs already form about 30% of the total market capitalisation. With more
PSUs being listed, this would provide a greater depth and width to our capital market

CHAPTER 3: PHASES OF DISINVESTMENT IN INDIA

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.

Atomic energy.

Iron and steel.

Heavy castings and forgings of iron and steel.

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

Heavy electrical plants.

Coal and lignite.

Minerals oils.

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 PSEs, 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
2
3
4
5
6
7
8

Arms and Ammunition and allied items of defence equipment, aircraft and warship.
Atomic Energy.
Coal and Lignite.
Mineral Oils.
Mining of iron ore, manganese ore, chrome ore, gypsum, sulphur, gold and diamond.
Mining of copper, lead, zinc, tin, molybdenum and wolfram.
Minerals specified in the schedule to Atomic Energy Order, 1953.
Railway Transport.

RANGARAJAN COMMITTEE 1992-1993

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.

DISINVESTMENT IN 1992-93:
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.

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.

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.

DISINVESTMENT IN 1994-95:
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 PSEs 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:

A)

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

shares(whichever higher)
Registered FIIs were permitted for auction of PSE shares.

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.

B)

SECOND TRANCHE OF DISINVESTMENT (OCTOBER 1994):

Notice inviting tenders was issued in October 1994 for sale of shares in seven PSEs. 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.

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.

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.
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
over-all long term disinvestment programme for public sector undertakings. The main terms
of reference were:

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 governments 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.

DISINVESTMENT IN 1996-98

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.

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)

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 1999The 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 2003:

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 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.
Against a target of 10,000 crore, the government realised Rs 1868.73 crore
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.
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 IPOs.
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

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.

PHASE IV (2009-10 TO 2013-14)

A stable government and improved stock market conditions initially led to a renewed thrust
on disinvestments. The Government started the process by selling minority stakes in listed
and unlisted (profit-making) PSUs. This period saw disinvestments in companies such as
NHPC Ltd., Oil India Ltd., NTPC Ltd., REC, NMDC, SJVN, EIL, CIL, MOIL, etc. through
public offers.
However, from 2011 onwards, disinvestment activity slowed down considerably. As against a
target of Rs.40,000 crore for 2011-12, the Government was able to raise only Rs.14,000
crore. However, the subsequent years saw some improvement and the Government was able
to raise Rs. 23,857 crore against a target of Rs. 30,000 crore (Revised Target : Rs. 24,000
crore) in 2012-13 and Rs. 21,321 against a target of Rs. 54,000 (Revised Target : Rs. 19,027
crore) in 2013-14. And, the achieved target dropped to Rs. 24,338 crore against a target of Rs.
58,425 crore in 2014-15.
PHASE V (Current Scenario)
The NDA Government has set an ambitious disinvesment target of Rs. 69,500 crore. As such,
2015-16 is likely to see some big ticket disinvestments taking.
Modi PSU-reform1: Disinvesting NHPC, Coal India, ONGC
Data not important except for random GK in non-UPSC exams & interviews

Org

Under
Ministry

NHPC

Power

govt.
shareholdi
ng

86%

Approved
disinvest

Issues

met

11.36%

Has 20 hydroelectric power

stations.

Unable to recover dues from

electricity utility companies=>

company making huge losses.

Hence it share price wont

fetch truckload of cash to
Government.

Coal
India

Labour union strike may

bring down share price. So

coal

~90%

10%

Government maynot earn

Ltd

truckload of cash from selling

these coal India shares.

ONGC

petroleu
m

~69%

5%

Maharatna PSU

If Government clears the gas

price policy, ONGCs share
prices will go up (And after that
Government should sell it- to
earn truckload of cash

Problems Realized With Disinvestment

A number of problems and issues have bedevilled the disinvestment process. The number of
bidders for equity has been small not only in the case of financially weak PSUs, but also in
that of better performing PSUs. Besides, the government has often compelled financial
institutions, UTI and other mutual funds to purchase the equity which was being unloaded
through disinvestment. These organizations have not been very enthusiastic in listing and
trading of shares purchased by them as it would reduce their control over PSUs. Instances of
insider trading of shares by them have also come to light. All this has led to low valuation or
under pricing of equity. Further, in many cases, disinvestment has not really changed the

ownership of PSUs, as the government has retained a majority stake in them. There has been
some apprehension that disinvestment of PSUs might result in the crowding out of private
corporate (through lowered subscription to their shares) from the primary capital market An
important fact that needs to be remembered in the context of divestment is that the equity in
PSUs essentially belongs to the people. Thus, several independent commentators have
maintained that in the absence of wider national consensus, a mere government decision to
disinvest is not enough to carry out the sale of people assets. Inadequate information about
PSUs has impeded free, competitive and efficient bidding of shares, and a free trading of
those shares. Also, since the PSUs do not benefit monetarily from disinvestment, they have
been reluctant to prepare and distribute prospectuses. This has in turn prevented the
disinvestment process from being completely open and transparent. It is not clear if the
rationale for divestment process is well-founded. The assumption of higher efficiency, better /
ethical management practices and better monitoring by the private shareholders in the case of
the private sector all of which supposedly underlie the disinvestment rationale is not always
borne out by business trends and facts. Total disinvestment of PSUs would naturally
concentrate economic and political power in the hands of the private corporate sector. The US
economist Kenneth Galbraith had visualized a role of countervailing power for the PSUs.
While the creation of PSUs originally had economic, social welfare and political objectives,
their current restructuring through disinvestment is being undertaken primarily out of need of
government finances and economic efficiency. Lastly, to the extent that the sale of
government equity in PSUs is to the Indian private sector, there is no decline in national
wealth. But the sale of such equity to foreign companies has far more serious implications
relating to national wealth, control and power, particularly if the equity is sold below the
correct price! If the disinvestment policy is to be in wider public interests, it is necessary to
examine systematically, issues such as - the correct valuation of shares, the crowding out
possibility, the appropriate use of disinvestment proceeds and the institutional and other
prerequisites.

CHAPTER 4: CASE STUDY

1.MODERN FOOD INDUSTRIES (INDIA) LIMITED:
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 underutilization of the production facilities, large work force, low productivity and limited
flexibility in decision-making.

PRE DISINVESTMENT SCENARIO:

MFIL: Pre-Disinvestment Performance
1995-

Details
Sales- Bread
Energy
food/

1997-98

1998-99

104.0

103.5

89.0

2000
78.0

45.2

62.8

78.0

71.0

71.0

140.2

166.8

181.5

160.0

149.0

(7.00)

(48.00)

96
95.0
Non-Bakery

Operations
Total

1999-

1996-97

Net Profit/loss
11.52
16.45
7.65
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.

DISINVESTMENT PROCESS:
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
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)

As is Where is&

Negligible

Growth in Market Share

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

Discounted Cash Flow

Source: Ministry of Disinvestment, Government of India

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 31 st, 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)
Source: Ministry of Disinvestment, Government of India

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 28 th
November 02.

Despite HULs best efforts MFIL continued to make losses, HUL had invested 157 crore in
MFILs 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.

2.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
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

Machinery sold (nos)

58

59

51

2000)
4

Exports of spares

0.11

0.17

0.27

0.05

(in Rs crore)
Gross turnover (Rs in crore)

5.77

6.47

6.32

0.60

Loss

-1.04

-0.74

-0.42

-1.00

June

( in Rs crore)
Source: Ministry of Disinvestment, Government of India
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
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

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.

3. MARUTI DIVESTITURE

IN

COMPARISON

WITH OTHER

DISINVESTMENTS

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 Suzukis approval
could government sell its share to third party. So the disinvestment in Maruti started with
certain constraints.
In 1982 and 1992 Suzukis 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.
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 IPOs.

CHAPTER 5-FINDING AND INFERENCES

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
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.

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.

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.
ASSESSING
PROCESS:

THE PRINCIPLES, PREMISES AND PERFORMANCE OF THE DISINVESTMENT

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 firms
performance is at variance with evidence.
Source :Disinvetment Ministery Report

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.
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.
While these enterprises are expected to develop infrastructure on their own using budgetary
resources, state government agencies usually vie with each other to provide