Addressing the crisis in Sugar

A presentation by Christopher Ram to the Commission of Inquiry into the Sugar Industry

The Guyana Sugar Corporation (GuySuCo) is not only a company incorporated and intended to be regulated under the Companies Act; it forms a major part of two economic sectors – agriculture and manufacturing. See Appendix 12 – Gross Domestic Product at 2006 Prices by Industrial Origin in Volume 1 of the Estimates of the Public Sector 2015. It is also one of the largest employers in the country and in some areas, such as the Corentyne, it is the single most important economic activity and source of employment.

To the country it is a major foreign exchange earner although it is also a significant user of foreign exchange. It is believed too that the company and the industry also support the rice and other agriculture sub-sectors in sugar areas, and help to manage the anti-flood control systems with its vast network of drainage and irrigation. If the multiplier effect is considered, the economic impact is extended directly and indirectly to commercial banks, insurers, suppliers and service providers.

Alas, it is also – certainly in the last few years – the single largest beneficiary of government subsidies in Guyana. It is estimated that in the five years to December 31, 2015, the company would have received approximately G$50 billion in transfers from the Government. In 2015, 10% of current revenues of the Government proper will be going to GuySuCo, amounting in total to approximately ⅓ of the total employment cost in the 2015 Estimates of Expenditure.

Importantly, like the elephant in the room, sugar has a strong political dimension and forms a major plank of support for the opposition PPP/C. Paradoxically, even when the company came under the control of the PPP/C, GuySuCo has recorded more industrial action than the rest of the country combined.

This Commission of Inquiry (CoI) therefore has an unenviable job with wide-ranging terms of reference on a matter that has provoked intense debate with some persons calling for the shutting down of the industry while others have called for it to be phased out. Leading economist and expert on sugar economics, Dr. Clive Thomas has described the corporation as having Passed the Point of No Return: See Sugar beyond the point of no return: Stabroek News January 8, 2014 while the author of this submission has written that GuySuCo bailouts [are] unsustainable, see June 20, 2015.

I do not propose, nor am I capable of, assisting the Commission with each of its Terms of Reference and grateful as I am for the opportunity to address this Commission, I have sought to conflate them into four questions as follows:

• Whether Guyana can become competitive in sugar given that its current cost of production is approximately US$0.40 per pound while the world sugar price is approximately $0.14 per pound;

• Whether, how much, and for how long taxpayers should be asked to sustain GuySuCo with subsidies;

• Whether, and to what extent, GuySuCo and Guyana should remain in sugar; and

• If so, whether GuySuCo should remain in state ownership, alone or with private investors.

Before attempting to answer these questions I wish to suggest that there are two serious mistakes sometimes made in addressing the problems facing the Corporation and the industry. Inevitably, these lead to erroneous prescriptions. The first relates to the analysis of the performance of the Corporation. If it is correct that one is addressing not a single entity but an industry and economic sector, then one has to apply two separate tools: namely the financial rate of return (FRR) which measures the profitability of the entity as an accounting unit and the economic rate of return (ERR) to the industry which considers not only financial performance but the wider cost and contribution to the economy. Such a contribution would have to include for example, any benefits derived or received by the country because of the existence and operation of the industry. An example that comes to mind is any relevant EU support granted to the country.

I think the emphasis has been largely the FRR because of the contribution which the taxpayers have to bear, some of them more visible and direct, such as subsidies, and others less direct, but no less important. This would include land at concessionary rent of G$1,000 per acre, waiver of taxes and penalties, etc.

I cite in support of my argument Report No. 50, Public Investment Criteria: Financial and Economic Internal Rates of Return. See: Ali, Ifzal. 1990. Public Investment Criteria: Financial and Economic Internal Rates of Return. © Asian Development Bank. License: CC BY 3.0 IGO.

“Profits are an essential signalling mechanism for guiding investment decisions. However, private or financial profitability, while important in investment decisions by firms, may not be a good signalling mechanism from the viewpoint of the contributions of a project to the national economy. It is good only if expenditures closely measure economic costs and receipts closely measure economic benefits. The essence of economic analysis of projects is that actual receipts may not equal economic benefits and actual expenditures may not equal economic costs.”

I suggest that this CoI take account of both measures lest its prescriptions are based on inadequate considerations.

The second mistake is to compare and equate the cost of production of sugar in Guyana with the world market price for the commodity. One only has to state the proposition to recognise its fallacy: cost and price are not the same and it would be dangerous to assume that the scores of countries offering sugar on the international market actually produce the commodity below that price and therefore make a profit.

Some years ago, the World Bank published a report in which it was stated that the international sugar market is one of the most highly distorted agricultural commodity markets. Raw and refined sugar markets it noted are generally characterised by significant and widespread domestic support and trade distorting policies, such as guaranteed minimum payments to producers, production and marketing controls (quotas), state-regulated retail prices, tariffs, import quotas and export subsidies.

There is nothing in the available literature to suggest that this situation has changed in any significant way.

So-called world market price does not necessarily reflect the cost of production. I would need lots of convincing that the USA or the EU produces sugar at a cost of less than 14 US cents. The benchmark used is therefore somewhat artificial although we cannot ignore actual price available in any analysis.

To make the proper comparison and conclusions, this Commission of Inquiry would need to obtain relevant cost of production information to enable it to make firm conclusions on comparable costs across countries and across regions.

So let me now turn to the questions I have posed.

1. Whether Guyana can become competitive in sugar given that its current cost of production is approximately US$0.40 per pound while the world sugar price is approximately $0.14 per pound.
I believe that the information referred to above would help in addressing this question. It is also important to note that sugar price has historically been very volatile and as the members of this Committee are aware, in the first quarter of 2011 the price of sugar was 35 cents US per pound. The Committee has at its disposal a copy of GUYSUCO MARKET BRIEFING JULY 2015 prepared by CZARNIKOW. It makes interesting reading and contains grounds for optimism that the market will rebound some time in 2017.

I must register my disappointment that this Committee was unable or unwilling to provide me with information on cost of production across the Company. Specifically I had asked for the following information which management accountants would consider absolutely necessary in the kind of decision which this Commission is being asked to make:

• Rank of estate by cost of production per pound.

• What are the TC:TS rates by Estate.

• What is the cost of production by Estate broken down as follows: i) field cost; ii) factory cost, broken down between fixed and variable cost with depreciation cost separately identified; and iii) overhead (finance, admin and general) cost.

While the information in the public (40 US cents per pound) refers to a single cost of production figure, the cost, soil, weather, labour and other characteristics vary from Estate to Estate and some disaggregation will be necessary using financial, economic and management tools in arriving at findings, conclusions and recommendations.

It is my view too that the cost of production of the firm (GuySuCo) should be compared with other producers in the local industry and, in so far as differences exist, the CoI will have to consider the causes of the differences and the steps needed for improvement.

2. Whether, how much, and for how long taxpayers should be asked to sustain GuySuCo with subsidies.
While the citizens of this country have become complacent about subsidies, whether it is in relation to electricity or sugar, the capacity of the economy to sustain such subsidies in the longer term is necessarily limited. It would probably be very difficult to find any country in which a single government Company, whatever its importance, receives by way of subsidies 10% of the current revenues of the Government in a single year.

The answer to this question has to take account not only of the financial returns of the Company but also the broader economic considerations of the industry. It seems to me too that it is as much a question for this Commission as it is for the Government.

To those who say that Government must underwrite sugar indefinitely and without limit, the question should be put directly. They should also be asked whether they would be prepared to invest in the industry, the kind of returns they would consider reasonable, whether sugar is in fact a more deserving recipient of subsidy than say the NIS, and whether they as taxpayers consider the subsidy as money properly spent.

Taxpayers would probably find it entirely unacceptable that their tax dollars be used for the sole purpose of supporting an industry if it is not making a positive contribution to the country.

3. Whether, and to what extent, GuySuCo and Guyana should remain in sugar.
This question raises the possibility that while there may be a justification for Guyana to remain a producer of sugar, GuySuCo’s role will need to be reconsidered. One of the critical factors of production of sugar is labour. Already the industry suffers from workforce shortage. The work is arduous and the future of the industry uncertain. The industry relies heavily on labour which is increasingly reluctant to align its interest and future with sugar. Not even the most sentimental supporter for the continuation of sugar wishes to see their grandchildren as field workers in the industry.

The extent to which Guyana should remain in sugar depends to a great extent on whether the local industry can reduce its dependence on labour. The answer thereto will depend on the possibility and cost to convert lands that are now planted and reaped by manual methods to mechanical planting and harvesting.

Another factor that should dictate whether GuySuCo should remain in sugar is whether it can raise the funds that may be necessary for the rehabilitation, re-organisation and amalgamation of the industry. Even if there is a future for sugar, one has to consider the amount of the investment necessary to make the industry viable once again.

What is that sum of money, and where will it come from? A litmus test is whether the commercial banks would consider the investment worthy of their support. If the commercial banks are unwilling to lend to the industry and if the Treasury and the taxpayers are unable or unwilling to support the industry then the decision is stark and simple at the same time – there is no future for GuySuCo.

4. If so, whether GuySuCo should remain in state ownership, alone or with private investors.
The issue here is the extent to which the recent failures are attributable to state ownership and control and whether transferring ownership and or control to the private sector would make a difference. It is about how state-owned entities are managed in Guyana. While state ownership and state control are not necessarily synonymous, in Guyana they have been so since the nationalisation of sugar as part of the transition to socialism.

GuySuCo is a company incorporated under the Companies Act which sets out the powers and functions and the fiduciary obligations of the directors. In these circumstances, the role of the Government as shareholders should be to elect and remove the directors and exercise the powers usually reserved for shareholders such as engaging in extra-ordinary transactions dealing with the lease, sale or exchange of all or substantially all of the property of the company other than in the ordinary course of business. See Section 140 of the Companies Act.

However, even in the best of times directors of state owned entities are appointed, controlled, replaced, re-elected and directed by the Government of the day in even the most basic operational decision. That is not only unlawful but dangerous as decisions are no longer made in the interest of the company but in what the political directorate considers its best interest. That is the unavoidable reality in this country.

Moreover, Directors of Government owned companies have no direct or indirect financial interest in the company. They will not be held legally responsible if things go wrong and have no financial stake if things go right. Now, consider that with, say, the directors of Banks DIH Limited or DDL where every director – whether executive or non-executive – has some stake in the company and its success.

Specific recommendations
I have previously written that in my view GuySuCo is too big to succeed. Unless each Estate is producing at the same level of efficiency and cost, then there is cross-subsidisation and the stronger Estates are forced to carry the weaker ones. The poor performers not only use up scarce financial resources: they also take up a disproportionate amount of managerial time that could be better spent on the Estates and activities with better prospects. There should be disaggregation and their problems addressed separately. My approach would be as follows:

1. Skeldon
Former President Bharrat Jagdeo said some time ago that if Skeldon fails then sugar fails. See Kaieteur News, October 2, 2010: If Skeldon factory doesn’t work sugar is dead. I would divert momentarily to recommend respectfully that Mr. Jagdeo be invited to share his insights on the Factory and sugar generally with this Commission.

I would not go as far as Mr. Jagdeo but I would say that Skeldon has to be treated as a separate case. Not only is it bringing down the rest of the Corporation with it but it is also bringing down several private cane farmers in the area.

My first prescription is to stop paying the Chinese Contractor until they fix the problem. I accept that GuySuCo took over the Plant and the legal case may be tenuous, but China values its relationship with Guyana and in the interest of maintaining that relationship, that most wealthy country in the world should accept responsibility for fixing the problem.

Meanwhile, some adjustment will have to be made for handling the cane from the fields now processed at Skeldon. That may add some short term cost but once the problem is fixed, the benefit would be considerable.

2. Demerara Estates
I would treat the East Demerara Estates and those of West Demerara separately.

2.1 West Demerara
I understand that private cane farming accounts for a significant share of production in West Demerara. This offers two major possibilities: 1) an outright sale of the GuySuCo operations to those operators; and b) the sale or lease of the lands to them, with GuySuCo maintaining its interest in the factories. In both of these possibilities, it is assumed that the private cane farmers have some interest in carving out a future for their limb of the industry.

Payment can come with some upfront money to be used to modernise the Factories and meet termination obligations to employees and the balance by way of a future stream of income.

If the private cane farmers are unwilling to enter into such arrangements and if GuySuCo is unable to reduce its cost of production to an acceptable level, the remaining options are privatisation and closure.

2.2 East Demerara
I understand that the ownership characteristics of these Estates are different from those of West Demerara. If GuySuCo is unable to reduce its cost of production to an acceptable level, the remaining options are privatisation to other investors (see below), and closure with the lands being used for other purposes.

3. Berbice Estates
With some cash released by privatisation and or closure concentration should focus on these Estates to make them efficient and profitable. In my view, closure of these Estates would cause serious dislocation to communities with social and political implications.

Once these operations can be shown to be profitable, they will be able to attract private investment and funding. Stakeholders with the resources to do so must be willing to invest in the company and industry. And I believe we do not have to look abroad as our first effort: DDL has a major interest in the company’s by-product Molasses while GAWU, the major sugar union is a cash rich operation. And the workers themselves can have a greater stake under an Employee Share Option Plan while the option should also be available to members of the business community and the public.

Workers interest
It is submitted that the best interest of the worker is better served by a streamlined profitable industry than one always hovering at the precipice. GuySuCo has significant funds invested in the pensions and for the welfare of the workers. Unfortunately, the Commission did not respond to my request for information on the financial consequences of termination. No doubt, the amount would be substantial. But assuming that in a single year GuySuCo terminates roughly half its employees or 8,000 persons, and assuming that each is entitled to one year’s pay at an average of $30,000 per week, the total cost of termination will be $12,480 million, considerably less than the subsidy of G$16 billion for 2016.

On this assumption workers would receive more than $1.5 million plus their savings which are not insubstantial. If this is topped up with some land for workers as a group in the form of a co-operative or company it would seem preferable to the state of perpetual uncertainty and insecurity which is the lot of the sugar worker.

I have not placed much emphasis on diversification about which so much is spoken. Not that I do not think it is important. Clearly, if the company or the sector can diversify profitably then they should, bearing in mind the cost of doing so, the different skills sets required, and the profitability therefrom.

But we also have to be cautious. If GuySuCo experiences such grave difficulties managing an industry in which it has centuries of experience then it cannot be assumed that it will move seamlessly into non-sugar production. Of course, diversification can be horizontal or vertical and careful studies would need to be undertaken to examine the use of the by-products of the main operation.

At the national or sector level, these considerations apply whether the industry remains mainly in state control or otherwise. In other words, diversification as a strategy must be considered by all: entity, industry and country.

Carve Out
From days gone by, the Estates have functioned as more than an economy activity. The Estates were also part of a social net and network. Every organisation has what may be considered core and non-core activities. This CoI has to assist in identifying what those are. The other activities and assets should be divested, thus allowing management to concentrate on what really matters.

Cost Management
Finally, I return briefly to the question of cost control. It is important that labour must become more productive. But management must also improve to cut losses and misdirected decisions. If the company does not have one, its system of accounting must go well beyond financial accounting. It must apply the strictest system of standard costing and each manager of resources must explain variances.

And finally, the stories of pilferage and corruption in the Corporation may be just anecdotal. But then they may be very true. Clearly the procurement process, inventory management and the internal audit process all need to be strengthened. This Commission must impress on the new Board the need for zero waste, zero corruption and zero-based budgeting.

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