Disinvestment

17/12/2021 1 By indiafreenotes

Disinvestment is the action of an organization or government selling or liquidating an asset or subsidiary. Absent the sale of an asset, disinvestment also refers to capital expenditure (CapEx) reductions, which can facilitate the re-allocation of resources to more productive areas within an organization or government-funded project.

Whether disinvestment results in the divestiture or the reduction of funding, the primary objective is to maximize the return on investment (ROI) related to capital goods, labor, and infrastructure.

From a government point of view, the disinvestment strategy can be of the following types:

  • Minority Disinvestment: The Government wishes to retain managerial control over the company by maintaining the majority stake (equal to or more than 51%). Because public sector enterprises cater to the citizens, the Government needs to be able to influence company policies to further the interests of the general public. The Government generally auctions the minority stake to potential institutional investors or announces an offer for sale (OFS) inviting participation by the public.
  • Majority Disinvestment: The Government gives up the majority stake in a government-held company. After the disinvestment, the government is left holding a minority stake in the company. Such a decision is based on strategic grounds and policies of the Government. Typically, majority disinvestments are done in the favor of other public sector enterprises. For example, Chennai Petroleum Corporation Limited, formerly known as Madras Refineries Limited is a group company of Indian Oil Corporation after disinvestment by the Government. The idea is the consolidation of resources in a company which ultimately leads to operational efficiency.
  • Strategic Disinvestment: The government sells off a PSU to usually a non-government, private entity. The intention is to transfer the ownership of a non-performing organization to more efficient private players in the market and reduce on the financial burden on the government balance sheet.
  • Complete Disinvestment/Privatization: 100 percent sale of Government stake in a PSU leads to the privatization of the company, wherein complete ownership and control are passed onto the buyer.

From a general point of view, the disinvestment in India can be categorized in the following manner:

  • Organizing the market segment: A company may disinvest in one of its underperforming divisions, as other divisions continue to deliver higher profitability while demanding similar resources and expenditure. Such a disinvestment strategy is to shift the focus of the company on the divisions performing well and to scale them up.
  • Offloading unnecessary assets: A company is cornered into adopting this strategy when the acquisition of an asset does not fit its long-term strategy. Companies’ post-merger are stuck with assets they do not intend to use. A company may choose to disinvest in acquired assets and instead focus on their competitive abilities.
  • Social and legal considerations: A company may have to disinvest if they cross a certain threshold limit in the market holding to enable fair competition. Another example is of an endowment fund pulling out of investments in energy companies given environmental concerns.

Advantages

  • Privatization would help stemming further outflows of the scarce public resources of sustaining the unviable non-strategic public sector unit.
  • To obtain release of the large number of public resources locked up in non-strategic public sector units for re-employment in areas that are much higher on the social priority e.g. health, family, welfare etc. and to reduce the public debt that is assuming threatening proportions.
  • Privatisation would facilitate transferring the commercial risk to which the tax payer’s money locked up in the public sector is exposed to the private sector wherever the private sector is willing to step in.
  • Privatisation would release tangible and intangible resources such as large manpower locked up in managing PSU’s and release them for deployment in high priority social sector.
  • Disinvestment would expose privatized companies to market disciplines and help them become self-reliant.
  • Disinvestment would result in wider distribution of wealth by offering shares of privatized companies to small investors and employees.
  • Disinvestment would have a beneficial effect on the capital market. The increase in floating stock would give the market more depth and liquidity, give investors early exit options, help establish more accurate benchmarks for valuation and raising of funds by privatized companies for their projects and expansion.
  • Opening up the public sector to private investment will increase economic activity and have an overall beneficial effect on economy, employment and tax revenues in the medium to long term.
  • Bring relief to consumers by way of more choices and better quality of products and services, e.g. Telecom sector.

Disadvantages

  • The loss of PSU’s is rising. It was 9305 crores in 1998 and 10060 crores in 2000.
  • This is welcome but disinvestment of profit-making public-sector units will rob the government of good returns. Further, if department of disinvestment wants to get away with commercial risks, why should it retain equity in disinvested PSU’s, e.g. Balco (49%), Modern Foods (26%) etc.
  • The amount raised through disinvestment from 1991-2001 was Rs. 2051 crores per year which is too meagre. Further, the way money released by disinvestment is being used, remaining undisclosed.
  • This is true but only when the govt, ensures that the market system regulates and disciplines privatized firms taking care of public’s interest.
  • Privatization programme is generally not been affected through the public sales of shares. Earlier, sale of shares (1991-96) attracted the employees to a limited extent and was not friendly to small investors and employees.
  • The growth in social sector is not in any way hindered by non-availability of manpower.
  • In most cases, shares of disinvested PSU’s are by and large in the hands of institutions with little floating stock. The present policy of privatization through the strategic partner route would also not achieve these objectives.
  • Hindustan Lever has categorically stated that it has no plans for any capital infusion in Modern food industries acquired by it in January, 2002. The supporter of disinvestment had thought that tax payer’s money would be saved through private sector investment.
  • No monopoly is good. Only fair and full competition can bring relief to consumers.