Privatising Discos: tread with caution

On 13th July 2023, IMF’s Executive Board while approving US$3 billion Stand-by Arrangement (SBA) for Pakistan emphasised adherence to fiscal discipline, progress in energy sector’s structural reforms and better SOEs’ governance.

Underperforming DISCOs continue to pose a challenge to all the three fundamentals highlighted in the SBA. Recently, the caretaker Finance Minister, in a press briefing, referred to major loss-making SOEs. Of top ten loss-making entities, four were Discos with Qesco leading with a loss of Rs 108 billion.

Certainly, it does not require an IFI to nudge us on a matter that is draining the economy and consumers alike that has been persistently highlighted in annual reports by SBP, Nepra, Finance Division and Privatisation Commission (PC).

The SBA terms are a reiteration of the urgency to reform the power sector for macroeconomic viability and to address the socio-political dimension associated with it.

However, whenever pressure for structural reform surges, privatization is proclaimed as a savior as if it is a synonym to structural reforms, which it is not, but yes, it can be part of that exercise. For example, there are many policy and regulatory decisions to be taken regardless of privatization.

A foremost long overdue decision is on uniform tariff regime which had outlived its economic justification way back and now has outlived its political justification too, when the paying consumers are protesting decision makers for burdening them with inefficiencies of Discos, particularly of those which are not even their electricity supplier.

Likewise, some other dimensions are: efficiency in regulatory processes, pending realization of CTBCM and role of provincial governments to assist DISCOs. Without addressing these, privatization in its own does not and cannot guarantee Discos’ turnaround and curtailment of circular debt menace.

Many experts, while citing privatization as a magic wand, ignore the very concept, the process and the outcome of a big-ticket privatization transaction. It needs to be realized that full political commitment, policy certainty, regulator’s predictability and removal of the entity’s liabilities are all integral to a viable privatization transaction.

PC is the transaction execution arm of the government; however, it is neither the financial or power sectors regulator nor the policy maker or responsible for economic affairs to make required changes to Discos or issue requisite commitments.

For example, it needs to be evaluated if there is readiness to respond to interested parties if they seek comfort on how CTBCM implementation and privatization of DISCOs will be carried out simultaneously, will the law enforcing agencies assist DISCOs in the post-privatisation scenario, will the assets be transferred in the name of Disco (from Wapda) and charge removed from it, will wire business or retail business be offered.

This is just a glimpse of anticipated questions; the actual questions would be much blunt in road shows and pre-bid meetings on matters of timely payments and repatriation of the dividend assurances. In the media we do keep hearing that privatization of DISCOs can be rolled out tomorrow, if not yesterday, since SIFC is at helm of affairs, and relevant laws provide immunity now.

However, without undermining the SIFC’s role, the fundamentals of transactions still have to be addressed and a viable transaction structure still has to be pitched to investors. A relevant example is the PTCL transaction, which also had a strong backing of all the state institutions, management control had to be ceded to the incoming 26% shareholder without recovery of total proceeds of the transaction.

Even post privatization and with highest level representation in PTCL Board of Directors, privatization proceeds are pending. Therefore, the distinction between sectoral aspects and transaction essentials need to be understood and addressed prior to, during and post privatisation.

It is important to emphasize that the typical approach of leaving all vital decisions to the financial advisors is an unwise strategy. The 1994 Power Policy fiasco should be a lesson enough not to repeat the mistake of overreliance and liberal delegation of important decisions to external parties.

It will be interesting to review the international financial institutions that later capitalized on that policy by lending 80% of project cost of IPPs and made whopping profits.

Though all criticism is now directed towards IPPs, however due share of criticism is to be borne by stakeholders who remained indifferent and took casually the due diligence of policy’s ramifications. Similar scenarios exist for Discos, as an international organisation keen on Discos transactions asserts that both wire and retail business be offered to the private sector.

Wire business is a natural monopoly and core to CTBCM success in perpetuity. It is therefore important that all stakeholders consider this aspect closely and factor it in the process to avoid cutting a sorry figure later.

In addition to the highlighted transactional aspects, it is important to wholeheartedly analyze the directions of decision-making fora as this also carry many lessons. The privatisation in the power sector was first approved by CCI exactly thirty years ago in September 1993 when the Strategic Plan for ‘privatisation’ of Wapda was approved and the Wapda Act was amended by the parliament.

The objectives were to; (a) Enhance capital formation for Sector outside GOP budget and without sovereign guarantees; (b) Improve sector efficiency through competition, accountability, managerial autonomy and profit incentives; and (c) Rationalise prices and social subsidies while maintaining certain socially desirable policies such as rural electrification and low-income life-line rates. Thirty years down the road, the strategic plan is still a wish-list whereas deterioration in performance of DISCOs has crippled the economy, the sector and the paying consumers.

Briefly to reflect, the first attempt to privatise a Disco was Fesco in 1998 which got stuck due to pending consent of lenders’ on loan agreements transferred from Wapda to Fesco and tariff not notified. FESCO’s transaction was reactivated in February 2006 with twelve (12) EOIs received this time. Pending notification of Nepra’s tariff determination was again an issue along with titles of various properties not in the name of entity.

The third attempt to privatise Fesco was in Feb 2009, this time by offering 26% shares. The investors desired that after one year, they may be given an option to buy additional 25% shares. In a meeting with foreign investors in Dubai, the concerned Ministry did not agree to offload more shares and transaction in this mode also did not materialize.

The saga of Pesco is also not different; its privatisation started in August 2003 with Societe Generale as Financial Adviser. The transaction could not proceed due to incomplete corporatization process, tariff not notified due pending segregation of tribal areas (now Tesco) from Pesco’s service jurisdiction and issue of pending installation of meters.

The attempt to privatise Lesco, Fesco and Gepco started in June 2014 to divest all shares. The employees’ unions called a nationwide strike, the then Prime Minister decided to meet the union leaders and PC was directed in November 2015 to stop the process.

Fast forward to 2018-23, divergent decisions on Discos have continued during last five years also. In October 2018, privatisation of Discos was approved and in June 2019 reforms proposed by the task force were also approved. Few months later in January 2021, PC was directed to initiate management contracts.

A working group comprising of PC, Power Division, Nepra and WB proposed concession model for eight Discos and management contracts for two. In June 2022, while seeking affirmation on the agreed basis to proceed, it was directed to write to all provinces to negotiate to buy the concerned Discos. Meanwhile, when provinces were being followed to acquire Discos, in January 2023 a committee was constituted to enhance private sector participation in Discos.

Subsequently, in March 2023 another committee was established “to look into the matter of transfer of Discos to the provincial governments”. Eventually, now the caretaker government has the responsibility to reevaluate the strategic direction to be followed. Needless to say, economic and power sector fundamentals are far worse than 2005, when KE was privatized and that too in second attempt.

The privatisation attempts of Gencos are also unique with recent experience of Guddu Power Plant (GPP) and Nandipur Power Plant (NPP). The impairment of turbines at GPP during this snail speed and indecisive period (2020 to 2023) has a huge adverse impact and GPP is unlikely to generate the privatization proceeds which it could have by 2021.

On the way forward, though a fresh due diligence is to be carried out, all 10 DISCOs cannot be pitched for privatization in one go. Neither the privatization market has such appetite, nor does the dynamics of all DISCOs permit this. For SEPCO and HESCO, the initiative of Sindh Government needs to be acknowledged.

Though direct provincialization might be a step too early due to intricacies, however both DISCOs may be handed over to the province under a concession agreement with option to transfer at end of period and in-between matters are aligned for transfer.

PESCO, QESCO, TESCO are not in position to be pitched for transaction. With huge negative equity, their shares will also be undervalued for an IPO too. Needless to identify that it takes months to remove illegal hooks (kundas) but it takes hours to place them back. The provincial governments have to assist these DISCOs in sustained actions.

We have the example of Andhra Pradesh in India, which brought down losses from 38% to single digit by rigorous monitoring of district administration and law enforcing authority’s role, instead of solely relying on bashing of CEOs of DISCO or by replacing them with nontechnical heads, which has implications too.

Lesco and Iesco both need to be split. LESCO has a very large load factor and splitting into two will make it more viable for the transaction. Whereas Iesco needs to be split as per the service jurisdictions that have different tariff dynamics. Fesco, Gepco and Mepco are in a better position to be offered for privatisation but with encumbrances removed on a fast track.

It is not unreasonable to expect with optimism that the decision-making and executing fora will be much wiser and more certain in their strategic direction this time. The previous endeavours and attempts summarized in this article might also assist them in their decisions to choose the optimum path, be it privatization, IPO, public private partnership or provincialization.

Copyright Business Recorder, 2023