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The sugar industry has given a guarded welcome to the decontrol steps announced by the government last week: the obligation to sell 10 per cent of the output to the public distribution system at prices below the cost of production and the government's power to control the supply of sugar to the open market have been scrapped. That's because some restrictions still remain on the industry. For one, several states like Uttar Pradesh, Bihar, Punjab, Haryana and Uttarakhand are still free to fix a state-administered price for sugarcane every year. This keeps the door open for political interference in the business, given the large community of sugarcane farmers in these states. Two, the state governments retain the power to allocate "cane area" to sugar mills. Three, the guidelines for minimum distance of 15 km between two mills remain intact. And four, the Jute Packaging Materials (Compulsory Use in Packing Commodities) Act, 1987, mandates that sugar can be packed only in jute bags- the sugar mills end up paying for the survival of the jute mills.
Still, partial decontrol has raised hopes that the financial health of the industry will improve and new investments will start to flow into the sector - from Indian as well as foreign investors. The industry, thanks to the heavy controls, had been stagnating till now. Experts feel that from here on it will grow at 25 per cent per annum and its size could double to Rs 1.6 lakh crore in less than four years. Vivek Saraogi, the managing director of Balrampur Chini Mills, one of the country's largest sugar producers, says: "The decision to remove controls is a step in the right direction and will act as a balm for the industry's pain."
The price of sugar
The sugar industry has always been heavily politicised. That's because sugar is consumed by every household and a large number of farmers draw their livelihood from sugarcane cultivation. While the central government has always wanted to control prices in the open market, the states want to ensure higher and higher prices for sugarcane farmers. The sugar industry as a whole owes Rs 10,000 crore to farmers as states have been raising the price of sugarcane regularly. Over half of this money is owed to farmers in Uttar Pradesh alone. The beauty of these populist measures is that the cost is borne solely by the industry, while the government walks away with all the credit. Till the last moment, the industry wasn't sure if the United Progressive Alliance government would be able to go ahead with the partial decontrol. Perhaps the drying up of investments in the economy forced the government's hand.
Consider the losses made by selling inexpensive sugar to the public distribution system, the so-called levy quota. Till now, the mills have had to sell 10 per cent of their production at Rs 19 per kg. At extant sugarcane prices, this works out to a loss of almost Rs 10 per kg. In the open market, prices range from Rs 29 per kg in Maharashtra and Rs 32-33 per kg in Uttar Pradesh. These losses will now vanish. The government is yet to lift the entire levy quota for 2011-12 (sugar season starts in October and ends in September). Government sources say they plan to do so by May 31. In fact, it is yet to lift any levy sugar since October last year, which mills will now sell in the open market.
The production in 2012-13 (sugar season) is estimated at 24-25 million tonnes. If the industry can sell 10 per cent of this at a price that is at least Rs 10 per kg higher, the industry could add up to Rs 3,500 crore to its bottom-line in the financial year 2013-14.
Another major relief to the industry is the dismantling of the release mechanism. Under this mechanism, the government used to decide how much sugar mills can sell in the open market and in what time frame (quarterly, at present). To keep prices under check, the government has since the last two quarters asked the mills to release more sugar in the market. As a result, the mills would often have to hold sugar stocks for long, which hurt them financially. The scrapping of the release mechanism will, therefore, be a huge plus for the industry. "Mills will be able to plan their cash flows and working capital needs better and partly reduce cane arrears to farmers," says Ajay Srinivasan, director, CRISIL Research.
How soon will the decision taken by the Cabinet Committee on Economic Affairs to partially decontrol the industry be implemented? Once the minutes of CCEA are finalised, the government will issue a notification to amend the Sugarcane (Control) Order, 1966, to give effect to the proposed changes.
Investment boost
Despite the controls that will continue to exist, sugar mills are now optimistic that pressure on their finances will ease and business will become bankable. In the first stage, working capital requirements will ease. The next stage will see rapid expansion as improved finances will incentivise the industry to invest more. In the last five years, no major production capacities have been set up in India. According to the Indian Sugar Mills' Association (ISMA), in 2007-08, when the Indian economy was at its peak, there were 516 sugar mills in the country; the number inched up to 529 in 2011-12. Almost half of the sugar units are incurring losses. According to an industry analyst, "Mills having large production capacities and lower debt-equity ratio will be better placed to take advantage of the new freedom as their interest outgo is lower and higher production will help them do business optimally."
Vinay Kumar, managing director, National Federation of Cooperatives Sugar Factories, adds: "The removal of controls will ease working capital requirements as banks will now easily lend to mills." The country's 45 per cent sugar production comes from co-operative sugar mills.
Abinash Verma, the director general of ISMA, says the "investment potential in the industry is very good". So much so, even foreign investors will give a fresh look to the sector. In the first phase, foreigners may choose to invest in the stock of domestic sugar mills listed on the stock exchange; in the next, they may directly set up new mills in the country. In fact, according to an industry official, "big players from Brazil, Thailand and Australia have been watching the developments in India's sugar sector keenly. Globally, commodity trading firms like Cargill, Noble and Bunge have sugar refining plants in major sugar producing countries like Brazil." He believes that, "since all these and a few other multinational traders are active in India and are exporting sugar from the country, they could certainly look for having investments in India."
But Saraogi of Balrampur Chini Mills says it is too early to decide about fresh investments. "We may look in to that at the right time," he says. The real stumbling block is sugarcane pricing. The states, says Saraogi, "need to take a practical approach for fixing sugarcane prices by linking it to sugar prices, which is the global trend". Globally, sugarcane prices are linked to sugar prices. In India, states increase sugarcane prices for purely political reasons. This results in mills buying sugarcane but not paying farmers. Most mills are favouring Karnataka's approach towards sugarcane pricing. Karnataka, the third largest sugar-producing state in the country, has set up a sugarcane pricing board which has representation from the industry and is trying to link sugarcane prices to open market sugar prices. Says Saraogi: "The Karnataka government's approach towards sugarcane prices should percolate to other states also."
That's the unfinished agenda.
