Evaluating CPSEs

Investor engagement will increase transparency

The much-awaited initial public offering (IPO) of the Life Insurance Corporation of India opened for subscription on Wednesday, and as of Thursday it was fully subscribed. The government is aiming to raise about Rs 21,000 crore from the issue under the disinvestment programme. The government reduced the disinvestment target significantly to Rs 65,000 crore for the current fiscal year, against the Budget estimate of Rs 1.75 trillion last year. Given the state of government finances, and the need to push capital expenditure to support growth, it is critical that the government focuses on disinvestment to raise resources. It now has a new policy, which envisages maintaining a minimum presence of central public sector enterprises (CPSEs) in strategic areas, while all other state-owned enterprises will be privatised. In order to get better valuation, either in the case of partial disinvestment through the stock market or outright privatisation, it is important that public sector assets are managed well.

The Union government in this regard has added some new conditions in terms of how it will judge their performance. These include the number of times CPSEs have had conference calls with investors, their capital management, and the use of debt. The idea of encouraging listed CPSEs to engage with analysts and investors must be welcomed. A large number of private sector firms engage with analysts regularly, which enables a better understanding of the management’s position. This also gives an opportunity to the management to explain the functioning of the firm, and how it intends to deal with evolving market challenges. This process over a period of time increases transparency, which is valued by the stock market. While this process would help CPSEs, it would not be enough.
 

State-owned companies, in general, tend to underperform on financial parameters because of government interference and the way they are expected to function, which affects their valuations. Among the new evaluation terms, for instance, CPSEs have been asked to opt for debt financing against using internal resources. The issue of optimal capital structure should be left to the management. The use of excess debt for expansion or other purposes could become problematic and affect the viability of the firm as a number of examples from the private sector over the years have shown. Broadly, such operational directions, along with the basic structure of state-owned firms, reduce their ability to compete in the market.

A 2021 report of the Comptroller and Auditor General (CAG), which looked at the data for the year ended March 2020, showed 68 per cent of the profits declared by the state-run companies during the year came from sectors such as petroleum, coal, and power. Clearly, these are areas where the private sector has a limited presence. Among the companies studied, the CAG found 188 entities with accumulated losses of about Rs 1.75 trillion. The situation is likely to have worsened during the pandemic. This is clearly a drag on government finances because it might have to infuse equity to keep such firms afloat. Since it is not easy to reform the way CPSEs function, partly because of legal constraints, the government should look to minimise its presence as envisaged in the public sector policy. Meanwhile, it would be well advised to increase the operational freedom of CPSEs and appoint professional management. Better financial performance and lower interference would boost valuations, which will help the government raise more funds under the disinvestment programme.