Tata exit from fertilizers – symptomatic of deeper malaise

Tata Chemicals Limited [TCL] made headlines on August 10, 2016 by announcing sale of its urea business [it has a plant in Babrala, Uttar Pradesh with 700,000 tons ammonia and 1.2 million ton urea capacity] to Yara Fertilizers India Private Limited [YFIL] – Indian arm of Norway’s Yara lnternational ASA – for a sum of Rs 2670 crores [after obtaining all regulatory approvals and court sanction, the transaction will be consummated within 9-12 months].

TCL had decided to exit fertilizers long back. However, a number of earlier attempts had failed as it did not find any taker; even this one is a distress sale and will fetch the company only 2/3rd of the money so far invested. Tata has also plans to dispose off its complex fertilizer business [including plant at Haldia].

It would be naive to dismiss this as a purely commercial decision considering its small presence in fertilizers [at about Rs 2300 crores, it constitutes a mere 13% of its total annual turnover of around Rs 18,000 crores]. The reasons are germane and symptomatic of deeper malaise afflicting the fertilizer industry.

At the route of the malaise is control on almost every aspect viz., setting up of plant, choice of feedstock and its supply & pricing, production/supply, movement and distribution, pricing of fertilizers [both at factory gate and farmer’s level] etc. The controls were imposed decades back purportedly to make India self-sufficient in fertilizers so that ‘timely’ and ‘adequate’ supplies are assured to farmers.

These were driven by the so called “socialistic” philosophy and may have helped in initial years [decade of 80s] but over the long-term have failed to serve the objective. Today, India is far from achieving self-sufficiency in fertilizers and spends billions of dollars on their import in finished form and raw materials/intermediates for their domestic manufacture.

Yet, successive governments have merrily continued with controls under a delusion that if these are removed, that would affect self-sufficiency in fertilizers which in turn, would jeopardize our food security. Luckily, the country is secure in food even without being self-sufficient in fertilizers; yet delusion continues and with it controls that have become more and more obtrusive over the years.

So, what are the areas where, the government exercises controls and how does that choke entrepreneurial initiative and their ability to generate adequate returns? And, why do big conglomerates like Tata [who at one point of time, were proud to be associated with this core industry] have now decided to exit?

First, on setting up of project, though de jure, any one is free to invest and there are no restriction on foreign investment [100% FDI is allowed], de facto, all plans of the investor have to be approved as output from the project has to fit in to overall supply-demand plan decided by the government who determines how much will be sourced domestically and how much will be imported.

Second, as regards supply of gas [feed stock in urea manufacture], the investor is at the receiving end. He has to take whatever quantity is allocated by an inter-ministerial committee under secretary, ministry of petroleum and natural gas [MPNG] and at a price controlled by government. Even for imported gas [invariably, he has to go for it as domestic gas is woefully inadequate], he has to depend on public sector undertakings [PSUs].

Third, regarding quantum of production, his ability is constricted by how much it will be accommodated under the supply plan – christened as ECA [Essential Commodities Act] allocation – which is formulated by center and states via so called zonal conferences [held prior to each of 2 seasons viz., kharif (April-September) and rabi (October-March)] where manufacturers play subordinate role.

Fourth, in regard to sales, how much he will sell and where, this too is largely under control as 50% of urea production has to be ‘mandatorily’ sold as per movement and distribution plan finalized by center and states. Even for the balance, even though technically, he is free to sell, the government has the right to give directions depending on the situation as it evolves during a season.

Fifth, even as the government controls maximum retail price [MRP] of urea at low level un-related to production cost, it also fixes ex-factory price which is expected to cover his cost plus give some return on his equity capital. How much he can earn? This again is not in his control as any increase in efficiency or cost cutting runs the risk of being mopped up under pricing.

Sixth, MRP being 25-50% of ex-factory price [variation is due to differences in production cost], 50-75% of cost of supply comes as subsidy. Due to budgetary constraints and inadequate allocation [courtesy, relentless fiscal consolidation drive], the government invariably delays payments. This puts heavy interest burden further squeezing meager margins.

While, the above is for urea industry, for P&K fertilizers, the scenario is no better though these are de-controlled and manufacturers are free to import their raw materials viz., rock phosphate, sulphur, phosphoric acid and ammonia. Besides, under movement and distribution plan, the government can lay claim only on 20% of their production.

But, there is de facto control on MRP, regulation of subsidy and MRP in a manner such that manufacturers struggle to cover their cost of supply and delays in payment of subsidy dues. Their woes are compounded by a cartel of exporters who fix price of phosphoric acid in such a way that domestic producers of DAP suffer a handicap versus its import. The government has done nothing to address it.

There is absolutely no indication whatsoever that such stifling environment will undergo any change. The talk of bringing in direct benefit transfer [DBT] [under it, subsidy will go directly in to farmer’s account and it pre-supposes that all controls will go] is just a ‘paper tiger’ and is unlikely to happen in the near future.

In such a scenario, it is inevitable that more companies could follow Tata’s footsteps. Modi needs to use his Midas touch to stem the rot before it is too late.