98087 Zimbabwe A Preliminary Review of Parastatals Daniel Altana and Naoko C. Kojo Poverty Reduction and Economic Management Africa Region The World Bank February 2008 1. Introduction Zimbabwe’s economic and social conditions have continued to deteriorate sharply since 1999. Over the last 9 years, real output declined by more than 35 percent, while inflation accelerated sharply, estimated to have exceeded 100,000 percent, at end-2007. Zimbabwe’s economic crisis has intensified especially since mid-2007, with the increasing shortages of basic commodities (food items and fuel) and cash, and rising frequency of electricity outages and water cuts. Inappropriate economic policies have been the main cause of these difficulties, exacerbated by governance problems, drying up of external financing, the land reform program, droughts, and the HIV/AIDS pandemic. The extremely high inflation in Zimbabwe has originated from a public sector, which is living beyond its means. Despite modest revenue collection, the consolidated fiscal deficit has grown considerably since 2003, reaching over 100 percent of GDP in 2007 (Figure 1). In the absence of external financing, the deficit has been financed mainly through monetization, resulting in sharp inflation. The shortages of food items, in particular, maize, have also contributed to changes in relative prices, exacerbating the hardships brought by hyperinflation. A large fraction of the consolidated deficit has been generated through quasi-fiscal facilities introduced by the Reserve Bank of Zimbabwe (RBZ), aimed at supporting the strategic sectors of the economy in the midst of a highly distorted economic environment. The parastatal and agriculture sectors are the main recipients of the RBZ’s quasi-fiscal resources. This paper reviews the performance of the parastatal sector, with a specific focus on four main parastatals: the Zimbabwe Electricity Supply Authority (ZESA); the Zimbabwe Water Authority (ZINWA); the National Oil Company of Zimbabwe (NOCZIM); and the Grain Marketing Board (GMB). These parastatals are selected on the basis of their quasi-fiscal dependency and strategic importance to the economy. The specific objective of this paper is to identify the important factors behind their eroding profitability as observed in their financial statements, and make some preliminary thoughts about the way forward. This paper was prepared based on the data provided to a World Bank team, supplemented by information collected through interviews with the representatives of parastatals, the RBZ, the Ministry of Finance, line ministries and the private sector in November 2007. The statistics presented in this paper should be interpreted with extreme caution. As prices are heavily distorted in the presence of extremely high inflation and pervasive price controls, analysis of quasi-fiscal data and parastatals’ financial performance has posed a significant challenge to the team.1 While every possible effort was made to address such distortions, analysis largely based on annual data cannot possibly capture a fully accurate picture, and should therefore be taken with caution. 1 Under sharply accelerating inflation, estimates of cost of living tend to underestimate significantly price pressures on the ground. Other economic variables, such as GDP, and financial statements are also distorted seriously, especially when they are measured on an annual basis. 2 Figure 1. Central Government and Quasi-Fiscal Balance (in percent of GDP) /1 0 2003 2004 2005 2006 2007 -20 -40 -60 -80 Quasi-fiscal balance /2 Central gov. fiscal balance -100 -120 -140 Source: IMF staff estimates. 1/ Nominal GDP measured at end-period prices. 2/ Quasi-fiscal losses by the RBZ. Exclude unrealized exchange losses. This paper is structured as follows. Section 2 will review and quantify the quasi-fiscal losses of the RBZ over the last 5 years, with a focus on resource transfers to parastatals. Section 3 will make preliminary assessment of the financial position of the four main parastatals, and attempt to identify the important factors behind the deterioration observed in their financial statements. Section 4 concludes the paper. 2. Central Bank Quasi-fiscal Losses Since 2003 the RBZ’s quasi-fiscal activities have evolved and grown over time, creating a huge quasi-fiscal deficit with an obvious contribution to accelerating inflation. The RBZ’s quasi-fiscal losses consist of four main components: (i) Subsidies to priority sectors (agriculture, parastatals), including direct subsidies provided on behalf of the government, free foreign exchange, and loans at highly negative real interest rates. (ii) Advances to the central government. (iii) Exchange losses, including both realized and unrealized losses. Realized exchange losses reflect the difference between the exchange rate for the 3 RBZ’s purchases and sales of foreign exchange,2 while unrealized losses result from the depreciation of the Zimbabwe dollar on the net foreign liabilities of the RBZ. Unrealized foreign exchange losses are usually excluded from the consolidated public fiscal position since they do not require immediate financing.3 (iv) Interest cost to the RBZ’s open market operations (OMO). Like many central banks, the RBZ has intervened aggressively to mop up excess liquidity from the money market since 2004. This has caused quasi-fiscal losses because the average interest gained on RBZ assets is lower than the average interest paid on the RBZ liabilities. These quasi-fiscal activities are all responses to a distorted policy environment in which often additional distortion is created to compensate for another existing distortion, further escalating the problems in the economy. For example, price controls that have eroded parastatals’ profitability have discouraged commercial banks from offering credits, necessitating the RBZ to provide heavily concessional financing (Parastatals and Local Authorities Reorientation Program or “PLARP”). The overvalued Zimbabwe dollar has led gold producers, who are forced to sell their gold in the Zimbabwe dollar, to ask for special aid (gold support price). The relative price distortions created by various government interventions in crop input and output markets have reduced farmers’ incentive to produce maize (main staple food in Zimbabwe), prompting the RBZ’s intervention to provide additional incentives (maize delivery bonus, farm mechanization) and financing (Agriculture Sector Productivity Enhancement Facility, or “ASPEF”).4 Except for interest losses from OMO, these activities are extraneous to typical central bank functions and are unique to Zimbabwe, and are more important sources of central bank quasi-fiscal losses in terms of their distortionary impact on the economy. For this reason, the remainder of this paper focuses on the RBZ’s quasi-fiscal losses excluding the interest cost to OMO. Based on the information obtained from the RBZ, the RBZ’s quasi-fiscal losses since 2003 are calculated (excluding interest cost of OMO), and presented by instruments (Table 1) and by beneficiaries (Table 2). To minimize distortions arising from inflation, these figures are calculated in the following manner. First, a new series of flow data is generated by taking a first order difference of the monthly data on the stock of quasi- fiscal losses.5 The new series, presented in Figure 2, is a fairly good approximation of the actual monthly financial flows because these loans are granted at very low interest rates (nominal interest rates of 0-25 percent per annum in a hyperinflationary 2 For example, in October 2007, the RBZ purchased each US dolla r from exporters at the “effective” exchange rate of Z$270,000 under a one-off 800 percent overnight investment facility and sold at the official rate of Z$30,000, making a realized foreign exchange loss of Z$240,000 for each US dollar it transacted. Subsequently, the “effective” exchange rate was adjusted through increases in the overnight rate, from 800 percent to 850 percent in mid-November 2007, to 975 percent in mid-December 2007, and to 1,200 percent at end-January 2008. 3 When a foreign liability is paid off, unrealized exchange losses on the paid off portion are transferred to realized exchange losses. According to the RBZ Act, exchange losses are recoverable from the government. 4 PLARP and ASPEF are disbursed through commercial banks, which evaluate the credit risk of applicants on behalf of the RBZ. Of the 25 percent interest rate beneficiaries pay on PLARP and ASPEF, the RBZ pays 15 percentage points as a commission to banks. Both PLARP and ASPEF are introduced as short- term facility for working capital. 5 The RBZ maintains detailed information on the stock of assets they hold against different debtors. 4 environment) and none is indexed. Second, the monthly flow data are converted into the US dollar terms by applying the monthly parallel exchange rate. Finally, the US dollar denominated monthly flow data are summed into annual stock data. Figure 2. RBZ Quasi-fiscal Losses (excluding interest on OMO) (in millions of US dollars, 6-month moving average) /1 160 140 120 100 80 60 40 20 0 Feb-03 Aug-03 Feb-04 Aug-04 Feb-05 Aug-05 Feb-06 Aug-06 Feb-07 Aug-07 Apr-03 Dec-03 Apr-04 Dec-04 Apr-05 Dec-05 Apr-06 Dec-06 Apr-07 Oct-03 Oct-04 Oct-05 Oct-06 Jun-03 Jun-04 Jun-05 Jun-06 Jun-07 -20 6-month moving average Source: RBZ and World Bank staff estimates. 1/ See main text for the computation methodology. The RBZ’s total quasi-fiscal losses have amounted to US$3 billion over the last 5 years (Table 1).6 Losses were largely made in 2004 and 2005, when the RBZ cleared a large part of Zimbabwe’s arrears to the IMF, introduced concessional loans to parastatals and farmers, devalued the Zimbabwe dollar by a large margin,7 and rescued failed financial institutions during the banking crisis of 2004. The RBZ’s quasi-fiscal activities slowed substantially in the first nine months of 2007, following the Finance Minister’s announcement to end them from the 2007 Budget year.8 Nevertheless, with the introduction of several new quasi-fiscal measures in October 2007 by the RBZ (e.g., Basic Commodities Supply-side Intervention Facility, or BACCOSI, and Revolving Fuel Fund), it is likely that quasi-fiscal losses would increase. 6 As this calculation covers the period up to September 2007, Basic Commodities Supply-side Intervention Facility (BACCOSI) and the Revolving Fuel Fund, which were announced on October 1, 2007, are not included in this calculation. As of November 2007 there was still no disbursement from these facilities since the RBZ was still in the process of determining the modality and beneficiaries. 7 Within 2005 alone, the Zimbabwe dollar was devalued by over 1,200 percent against the US dollar. 8 In the 2007 Budget speech, former Finance Minister announced that from January 2007 all public spending, including all the quasi-fiscal spending previously undertaken by the RBZ, would be executed through the national budget and that the RBZ’s accumulated quasi -fiscal loss would be transferred to the budget on a phased basis over the next 3 years. Fiscorp (Pvt) Limited, a wholly owned subsidiary of the RBZ, was established in January 2007 to take over the stock of quasi-fiscal losses, manage the outstanding quasi-fiscal expenses and collect receivables. 5 The bulk of the quasi-fiscal resources has been provided in the form of subsidies (US$1.5 billion), with a larger proportion channeled through the RBZ’s concessional finance facilities that was introduced in 2005, such as ASPEF and PLARP (US$1.9 billion). The second large source of quasi-fiscal losses was foreign exchange losses, which have amounted to US$1.1 billion since 2003. The parastatal and agriculture sectors have been the main recipients of the RBZ’s quasi- fiscal resources, together absorbing US$1.2 billion for 2003-07 (Table 2). Subsidies to parastatals have been provided mainly in the form of PLARP (US$243 million) and free foreign exchange (US$343 million). ZESA, Zimbabwe Iron and Steel Company (ZISCO), Air Zimbabwe and Industrial Development Corporation (IDC) are the main beneficiaries of PLARP, with half of them reportedly failing to meet their contractual obligation. For the agriculture sector, the main instrument has been concessional financing to farmers (ASPEF), which has amounted to US$352 million for the last 5 years.9 The agriculture sector has also received assistance through direct subsidies (US$218 million), which include direct price subsidies, a maize delivery bonus, a tobacco top-up, as well as an import parity pricing system, where the RBZ pays a top-up over and above the government determined producer prices. As regards realized exchange losses, some losses have been made in the context of compensating exporters for the overvalued Zimbabwe dollar (see Footnote 2). 9 Note that interest receivables include all the interest accrued on outstanding loans and thus a fraction of this account is also attributable to the parastatal and agricultural sectors. In 2006, interest accrued on ASPEF accounted for about 50 percent of total interest receivables. 6 Table 1. RBZ Quasi-fiscal Losses by Instruments (excluding interest on OMO) (in millions of US dollars) Share (%) 2003 /1 2004 2005 2006 2007 /2 Total 2003-07 2006-07 Subsidies 80 336 518 543 34 1,511 48.5 62.5 Direct 34 88 292 134 67 615 19.7 21.8 Subsidies to agr. sector /3 23 14 35 25 40 137 4.4 7.0 Subsidies to others /4 0 32 70 12 20 134 4.3 3.5 Free foreign exchange /5 10 42 187 97 7 343 11.0 11.3 Indirect 46 248 226 409 -33 896 28.8 40.7 ASPEF/PSF 0 0 72 316 -37 352 11.3 30.3 PLARP & LARP 0 0 148 91 4 243 7.8 10.3 Troubled banks Facility 46 248 6 1 0 301 9.7 0.1 Advances to central gov. 17 220 -26 16 144 371 11.9 17.3 Exchange rate losses 108 481 359 124 38 1,110 35.6 17.5 Realized 35 399 -152 73 26 381 12.2 10.7 Unrealized 74 82 510 51 12 729 23.4 6.9 Interest Receivable /6 0 0 99 22 2 124 4.0 2.7 o/w ASPEF 0 0 0 13 1 14 0.4 1.5 o/w Loans to cent. gov. 0 0 0 15 1 16 0.5 1.8 Grand total 205 1,038 950 705 218 3,116 100.0 100.0 Source: RBZ and World Bank staff estimates 1/ For February-December 2003. 2/ For January-September 2007. 3/ Includes price subsidies for tobacco, cotton, wheat and maize, paid on behalf of the central government. 4/ Includes exporters bonus, gold support price, clothing subsidy, duty rebate to exporters and duty rebate to exporters. 5/ Foreign currency paid by the RBZ on behalf of the government and parastatals, for which the corresponding local currency had not been paid to the RBZ. Foreign payments are mainly for the importation of maize seed, fertilizer, grain, fuel and electricity as well as for IMF SDR repurchases. 6/ Interest accrued on all outstanding loans and advances from the RBZ but not yet paid by recipients. 7 Table 2. RBZ Quasi-fiscal Losses by Beneficiaries (excluding interest on OMO) (in millions of US dollars) Share (%) 2003 /1 2004 2005 2006 2007 /2 Total 2003-07 2006-07 Agriculture 23 14 138 390 4 570 18.3 42.7 Direct subsidies 23 14 66 74 41 218 11.3 30.3 Indirect subsidies (ASPEF) 0 0 72 316 -37 352 7.0 12.4 Parastatals 10 42 335 188 11 586 18.8 21.6 PLARP 0 0 148 91 4 243 7.8 10.3 Free forex 10 42 187 97 7 343 11.0 11.3 Central government 17 220 -57 -34 143 291 9.3 11.9 Others 3/ 0 32 70 12 20 134 4.3 3.5 Troubled Bank Facilities 46 248 6 1 0 301 9.7 0.1 Exchange Rate Losses 108 481 359 124 38 1,110 35.6 17.5 Unrealized 74 82 510 51 12 729 12.2 10.7 Realized 35 399 -152 73 26 381 23.4 6.9 Interest Receivable 0 0 99 22 2 124 4.0 2.7 Grand total 205 1,038 950 705 218 3,116 100.0 100.0 Source: RBZ and World Bank staff estimates 1/ For February-December 2003. 2/ For January-September 2007. 3/ Exporters, gold producers, etc. 3. Parastatals Parastatals play an important role in the Zimbabwean economy, contributing 40 percent of the country’s value added. In 2006, over 30 percent of total imports to Zimbabwe were channeled through GMB (maize, wheat), NOCZIM (fuel), and ZESA (electricity). However, many parastatals are chronically recording large losses. In 2006, 11 major enterprises in Zimbabwe, including ZESA, ZINWA, NOCZIM, and GMB, made a combined loss of Z$127.7 billion. Most of these firms received quasi-fiscal resources from the RBZ in addition to transfers from the national budget through their parent ministries, presenting heavy burden on the fiscus. This has been the main source of hyperinflation in Zimbabwe. 8 Box 1. Parastatal Sector in Zimbabwe As of November 2007, Zimbabwe had 39 parastatals including a tax collecting agency, six utilities (ZINWA and five energy companies after the unbundling of ZESA), seven regulatory agencies (which control parks and wildlife, environment, civil aviation, quality of education, broadcasting, postal services, and traffic safety); 12 agencies that promote the development of some activities (forestry and safaris, industrial development, small and medium size firms, research in tobacco, technological research, trade development, tourism, mining research, and cultural activities); three financial institutions; and 11 commercial firms (which perform typical private sector activities, e.g., trading fuels, grains, distribution of books and cultural products, newspaper, transport, radio and television, marketing of minerals and tobacco, air transport and a farming enterprise). Most of the parastatals report to their parent ministry responsible for the activities (for example, ZINWA reports to the Ministry of Water Resources and Infrastructure), while some firms report to a regulatory agency (e.g., ZESA). 3.1 Common problems faced by parastatals Parastatals are embedded in a vicious circle of distortions without a way out, created by multiple layers of public interventions in various segments of the economy. The most prominent is the foreign exchange market, where a seriously misaligned official exchange rate has resulted in the acute shortage of hard currency available on the official market, and led to the emergence of a sizable parallel foreign exchange market. While key parastatals such as GMB, NOCZIM, and ZESA receive the bulk of the RBZ’s foreign exchange allocation for the importation of grain, fuel, and electricity, respectively, the allocations are far below their requirements, forcing them to cut back on their operation. For example, limited access to foreign exchange has led to ZESA’s reduced ability to import electricity to satisfy domestic demand. The resulting load shedding and power cuts have had serious impacts on commercial activities in Zimbabwe.10 Similarly, NOCZIM, a fuel import monopoly, has been able to import only a fraction of the domestic demand for fuel. The resulting shortage of fuel on the official market has led to the development of an active parallel market. Some parastatals have reportedly dealt with the foreign exchange shortages in a number of ways outside the official market. The acute shortages of foreign exchange have also seriously impaired the condition of existing infrastructure of parastatals. Faced with foreign exchange constraints, parastatals have failed to import spare parts and services. As a result, critical maintenance and rehabilitation of infrastructure have been neglected for many years. Parastatals are severely indebted externally and many of them are insolvent. With limited access to foreign exchange, parastatals have been forced to enter into arrears with external creditors and suppliers. As of end-2006, the stock of the parastatal sector’s total external debt was estimated at US$1.1 billion (Table 3), including arrears on medium- and long-term debt (US$579 million) and overdue payments to external suppliers 10 For example, many mines have been forced to rely on generators to cope with the erratic electricity supply. Some large miners have made an arrangement to privately import electricity directly from Mozambique after repeated power cuts that slashed production. Gold production in Zimbabwe fell by 37 percent in 2007. 9 (US$270 million). With the accumulation of external arrears, parastatals are able to import from overseas suppliers only against advance cash payments. Table 3. Parastatals: Stock of External Debt (as of October 31, 2007) (in millions of US dollars) External debt US$ million Medium/Long term debt 806 o/w Principal arrears 451 o/w Interest arrears 129 Overdue to suppliers 270 o/w by NOCZIM 42 o/w by ZESA 0 o/w Air Zimbabwe 28 Grand total 1,076 Source: Ministry of Finance Second, parastatals are facing serious viability problems as they operate at controlled non-economic prices. Their unsustainable cash flow position has also resulted in the accumulation of domestic payables to, and receivables from, other parastatals, central government, and private sector suppliers. Cross arrears in the public sector have caused serious payments gridlock and aggravated the liquidity problem of parastatals. With the deteriorated financial position, parastatals are failing to access commercial financing through domestic banks, which have traditionally been their main financier. To avoid the total disappearance of goods and collapse of services provided by parastatals, out of necessity the RBZ has stepped in to offer credits and foreign exchange at extremely favorable rates (sometime even at zero price). Some inputs are also provided at below market prices. Furthermore, parastatals suffer from the loss of qualified staff emigrating overseas (brain drain). Although they offer more favorable salaries than the government, the macroeconomic conditions are encouraging many skilled workers to leave the country. The resulting erosion of technical capacity has compromised their operating efficiency. The reminder of this section will review the performance of four key firms —ZESA, the ZINWA, NOCZIM, and GMB—with the objective of assessing their financial positions and identifying the major factors contributing to their performance deterioration. These firms are selected on the basis of their quasi-fiscal dependency and strategic importance to the economy. The analysis presented in this paper is based on the annual balance sheets and income statements provided to the Bank mission in November 2007, supplemented by interviews with the representatives of these enterprises, government ministries, the RBZ, and the private sector. Assessing the financial condition of these firms is extremely challenging for several reasons. First, their financial statements are likely to be seriously biased due to the relative price distortions created by the pervasive price controls, subsidized loans and an unrealistic official exchange rate. Second, in the context of hyperinflation, financial statements, available only on an annual basis, prevents one from capturing a clear picture of their financial position. While ZESA and NOCZIM’s financial statements are adjusted 10 for inflation, the adjustments are made on the annual figures based on the overvalued exchange rates and consumer price index (CPI), which significantly underestimates price pressures on ground.11 Furthermore, analyzing a utility company’s financial condition is further complicated by the fact that there are unavoidable lags between consumption and collection of user charges. For example, at monthly inflation of 50 percent, a 50-day lag between the billing and collection would reduce revenue by 46 percent in real terms; at inflation of 70 percent, revenue erosion would be as high as 54 percent. 3.2 Zimbabwe Electricity Supply Authority (ZESA) About ZESA Following the passing of the Electricity Act of 2002 and the Electricity Amendment Act of 2003—which aim at deregulating the electricity industry and allowing other players into the system to create an environment for competition—ZESA has been unbundled into four firms: (i) the ZESA Holdings; (ii) the Zimbawe Power Company (ZPC); (iii) the Zimbabwe Electricity Transmission Company (ZETCO); and (iv) the Zimbabwe Electricity Distribution Company (ZEDCO). The function and role of ZESA Holding are to hold shares in the successor companies on behalf of the government.12 The Act also allowed for the setting up of companies to take over ZESA’s non-regulated business. These are ZESA Enterprises (comprising of Transport, Projects, Technology Centre and Production Services) and Powertel Communications. Also under the new Act, the Zimbabwe Electricity Regulatory Commission (ZERC) had been established as the legal authority to fully and independently regulate the industry— including the approval of tariff increases—and to create an enabling environment for competition.13 ZERC came into operation on May 1, 2005. The Commission does not regulate ZESA Holdings, ZESA Enterprises and Powertel because they are not involved in generation, transmission, and distribution of electricity except in so far as they affect the efficient operations of the regulated companies. The unbundling of ZESA follows international best practice to separate the potentially competitive segments of the industry (generation) from transmission and distribution that, in most cases, are natural monopolies.14 However, as of November 2007 the unbundling process and restructuring of the electricity industry have not been completed in a true sense. Most importantly, competition has not been introduced into the system. Although the Act in principle allows for competition in domestic generation (including importation), the unbundling process created only one power company, ZPC, and no separate entities have been created to facilitate competition. Second, ZESA Holding is responsible for the centralized purchase of insurance for all ZESA companies, tax matters, and some treasury responsibilities. Although this may be justified as cost 11 The financial statements of ZESA and NOCZIM are adjusted for inflation. ZESA reevaluates assets at end period using replacement cost at end year. 12 However, under the direction of the Ministry of Energy and Development, ZEDCO and ZECTO had been merged to form the Zimbabwe Electricity Transmission and Distribution Company (ZETDC) before the implementation of the new act. The Electricity Act 13:19 will need to be amended accordingly. 13 www.zerc.co.zw. 14 In interconnected systems, transmission raises another challenge: it has some of the characteristics of public goods. For this reason some countries opted to maintain the operation of the grid in public hands (although they privatized the other segments) or transferred the property to a club of users (generators, distribution companies and large users). 11 savings, it will need to be amended if the unbundling becomes operative (as would be the case if some segments of the company are privatized). Finally, the group’s balance sheet has not been separated yet. ZESA operates five generating plants: Hwange Thermal Power Station (coal based), Kariba Hydropower Plant, plus three other plants that contribute small amounts (Harare, Bulawayo and Munyati Power Stations).15 Of the current total domestic energy supply of about 7,500 GWh per year, ZESA generates about 55 percent domestically. The remaining 45 percent is imported from regional suppliers in the context of the Southern African Power Pool (SAPP). Mozambique (Cahora Bassa) is the main source of electricity imports, with the rest coming from Democratic Republic of Congo, Zambia and South Africa. ZESA exports a small amount of electricity to Namibia.16 Faced with acute shortages of foreign exchange, over time ZESA has accumulated large arrears on electricity imports, and defaulted on all foreign loans. As of end-November 2007, the stock of ZESA’s total external obligations was estimated at US$417 million, including arrears of US$292 million. In addition, ZESA has overdue payments to foreign electricity suppliers. As of mid-November 2007, overdue payments in excess of 30 days amounted to US$25.6 million (Table 4). ZESA’s failure to regularize accounts has led foreign electricity suppliers to cut back on deliveries to Zimbabwe, forcing ZESA to implement load-shedding and power cuts. To generate foreign currency to service its foreign loan obligations, ZESA has engaged in other business activities, including cotton contract farming. Table 4. ZESA Outstanding Electricity Imports as of November 15, 2007 (in US dollars) Current 30 days 60 days 90+ days Total EDM (Mozambique) 471,145 468,059 476,325 521,795 1,937,325 Eskom (South Africa) 0 0 0 0 0 ZESCO (Zambia) 88,028 0 0 0 88,028 SNEL (DRC) 1,038,125 675,250 614,250 3,387,587 5,715,212 HCB (Mozambique) 2,909,115 4,524,757 5,667,887 9,251,925 22,353,683 Total 4,506,413 5,668,066 6,758,462 13,161,308 30,094,249 Source: ZESA. ZESA had an outstanding domestic debt of Z$933.2 billion (US$0.6 million at the parallel exchange rate) at end-November 2007. The amount appears rather modest because principals were eroded by high inflation. However, ZESA has not been meeting all domestic obligations. ZESA has no payables to domestic suppliers nor receivables from its customers. 15 Power generation largely thermal based. ZESA uses about 2.4 million ton of coal per year for thermal generation. Coal is from domestic sources, and they pay Z$700,000 per ton. Domestic supply of coal is not enough but they have no plan to import coal. 16 ZESA recently signed a US$40 million deal with Namibia’s NamPower for the refurbishment of the Hwange Thermal Power Plant. The terms include a firm power supply agreement under which NamPower receives cheap electricity from Hwange. 12 Table 5. ZESA: Domestic Loans as of November 30, 2007 (in billions of Zimbabwe dollars) /1 RBZ 730.5 PLARP 0.8 ASPEF 54.8 For power purchase and other 675.0 Ministry of Finance 202.7 Total 933.2 Source: ZESA. 1/ Includes arrears. Like other major parastatals, the lack of adequate maintenance and rehabilitation of the existing infrastructure has resulted in low capacity utilization. The Hwange Thermal Power Station, which at full capacity generates 920 MW is currently producing a mere 550 MW, while the Kariba Hydropower Station is currently producing only 590 MW compared with its full capacity level of 750 MW. As of November 2007, ZESA group as a whole employed 6,455 people. ZESA suffers from low staff utilization due to the reduced scale of operation. ZESA has an independent wage structure, and its salary level, particularly for senior management, is at market level. Salaries are adjusted every quarter based on price developments. Financial Performance After making moderate profits in 2001 and 2002, ZESA has perennially been recording before-tax losses since 2003 (Table 6). Although ZESA’s income statements, available only on an annual basis, appear to be heavily distorted, Table 6 shows a general trend of declining revenue, and rising costs and financial charges. It is particularly noteworthy that financial charges, which include exchange losses on foreign liabilities, have constituted a very significant line of expenses since 2004, exceeding total cost by a large margin. Due to continuing cash flow constraints, ZESA has not paid PAYE, VAT, import tax, NSSA, and Pension since July 2006 for the whole group. Table 6. ZESA Group Income Statement (in millions of US dollar) 1/ 2000 2001 2002 2003 2004 2005 2006 Total Revenue 199.2 133.3 34.8 39.9 172.0 59.4 33.9 Total Cost 167.4 121.6 30.8 49.4 209.9 153.9 76.4 Operating profit 31.8 11.7 4.0 -9.5 -38.0 -94.5 -42.6 Finance charges /2 37.5 7.1 2.6 34.6 320.1 647.8 112.1 Profit/Loss before tax -5.8 4.7 1.4 -44.1 -358.1 -742.3 -154.7 Source: ZESA and World Bank staff estimates. 1/ Zimbabwe-dollar denominated annual data are converted at the parallel exchange rate (annual average). 2/ Includes exchange losses on foreign liabilities. The revenue declines observed in ZESA’s financial statements are attributable mainly to low electricity tariffs charged to consumers and income erosion arising from a collection 13 lag. In the absence of detailed historical information on ZESA’s operating costs, it is not possible to identify the factors behind the rising total costs. The electricity tariff level is low and has been declining over the years because tariffs have fallen far behind price increases (Table 7, Table 8). The average electricity tariff for the first nine months of 2007, as calculated in Table 9, was US¢0.1 per KWh. For a largely thermal generation power system like Zimbabwe, one would expect an average tariff at market costs to be around US¢10-12 per KWh. However, ZESA’s cost structure does not reflect market prices for both generation and transmission. For example, as of November 2007, for thermal power generation, ZESA was purchasing coal from Hwange Colliery Company at only Z$700,000 per ton, equivalent to US$0.5 per ton at the prevailing parallel exchange rate, when the price of bituminous coal was over US$70 per ton in Australia.17 As ZESA uses 2.4 million tons of coal per year for thermal power generation, this indicates that ZESA receives an implicit subsidy of about US$168 million a year for coal alone. Other inputs such as water (for hydropower generation) and transport are also provided at below market cost. Table 7. ZESA Average Electricity Tariff (US¢ per KWh) 2000 2004 2006 2007 Average tariff /1 5.04 1.84 0.63 0.10 Average import price paid by ZESA .. .. 1.99 3.1 Source: ZESA and World Bank staff estimates. 1/ Zimbabwe-dollar denominated data are converted at period-average parallel exchange rates. Table 8. ZESA: Domestic Tariff Development (January 2003 = 100) Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Price index CPI 100 724 1,690 12,055 204,172 PDL /1 100 1,507 3,650 37,494 1,059,458 Electricity tariff (residential) 100 514 1,555 1,555 29,648 Source: ZESA and World Bank staff estimates. 1/ Poverty Datum Line for a family of five, computed by the Central Statistics Office. 17 Hwange Colliery Company Limited (HCCL) is a state owned enterprise. More than 70 percent of coal mined by HCCL is consumed by the Hwange Power Station. Power outrages have also impacted the operation of HCCL, which in turn reduced the supply of coal to the Hwange Power Station. 14 Table 9. ZESA Electricity Sales by Customer (January-September 2007) Sales Average tariff per KWh GWh Z$ million Z$ US¢ 1/ Residential 2,250 425,716 189.2 0.15 Residential Metered 1,790 365,858 204.4 0.16 Residential Non-Metered /2 460 59,859 130.1 0.10 Commercial 1,453 243,171 167.3 0.13 Industrial 2,220 206,053 92.8 0.07 Base Mining 702 33,903 48.3 0.04 Gold Mining 281 34,150 121.6 0.10 Farming 608 45,756 75.3 0.06 TOTAL 7,514 988,749 131.6 0.10 Source: ZESA and World Bank staff estimates. 1/ Calculated using the average parallel exchange rate for January-September 2007 (Z$127,667/US$). 2/ Households without a meter are charged at amperage. ZESA’s viability problem can also be explained, in part, by the revenue erosion arising from the collection lag. In an environment of sharply accelerating inflation, real revenue losses stemming from a collection lag cannot be negligible. To minimize such erosion, ZESA demands customers to make payments within 7 days after the billing.18 If payments are not received within 14 days after the billing, ZESA disconnects supply of electricity promptly, and immediately begins to charge market interest rates on the overdue payments. The average collection period was 55 days for the year ending in October 2007, meaning that, on average, ZESA’s revenue from electricity sales was eroded by 45 percent by inflation.19 Serious cases of delinquencies are taken to court. Thus far, ZESA appears to receive very little political pressure against such actions. ZESA’s operational capacity has been fairly good, but may be on the decline. As of November 2007, the number of workers per GWh of electricity sale was 0.86, about four times larger than what is found in other countries. Recently there were complains that bills for residential consumers were not being distributed on time. As a result, some customers had power disconnected unexpectedly. Tariff-adjustment Mechanism Since the creation of ZERC in May 2007, electricity tariffs are set by ZERC based on ZESA’s cost build up submissions. While ZERC may consult the Ministry of Energy, tariff adjustments do not need to be approved by the cabinet nor the Ministry. 20 In recent years, tariffs were reviewed annually, and adjusted quarterly in accordance with a cost-formula. In view of accelerating inflation, ZESA requests a tariff increase to ZERC every month by indexing to input prices.21 However, such adjustments are approved on an ad-hoc basis and there are sometimes delays in the approval process. 18 There are 14 days between the meter reading and billing dates. 19 The average monthly inflation for this period was 55 percent, based on the official CPI. 20 Prior to May 2003, ZESA submitted tariff adjustment requests to the Ministry of Energy. 21 Variations in the cost of coal have a weight of 20 percent in the cost-plus formula, changes in the CPI have another 20 percent and the depreciation of the official exchange rate accounts for the other 60 percent. 15 Table 10. ZESA Revenue Requirement (January 2007) (in millions of Zimbabwe dollars unless otherwise indicated) Total costs Cost of Sales (a) 742,541 Domestic Electricity Costs (ZPC) 486,044 Domestic electricity purchases (IPP5) 1,408 Electricity Imports 244,173 Wheeling Charges 10,316 O & M Costs 49,628 Customer Service Costs Manpower Costs 99,427 Payroll Costs 67,941 Admin & General Costs 31,487 Depreciation 25,255 Return on Assets(8.51%) 32,217 Interest on Consumer Deposits 81 Revenue Requirement Before Export income 949,148 Less: Electricity Sales (Exports) -3,971 Less: Wheeling revenue -3,130 Revenue Requirement before overhead (b) /1 942,047 Increase (b-a/a) 21% Overhead costs Management Fees (Holdings) 10,823 ZERC Levies 2,165 Total Revenue Requirement (b) 955,035 Electricity sales components (in GWh) Energy Sent Out From All Generators 12,680 Less: Exports -529 Less: Transmission Losses -634 Less: Distribution Losses -1,014 Energy Sales (in GWh) 10,503 Required sales tariff: (Z$/KWh) 90.93 Approved sales tariff (Z$/KWh) 6.95 Source: ZESA and World Bank staff estimates. 1/ Break-even level. The process of electricity tariff adjustments is politicized in Zimbabwe. While seldom do regulators in other countries approve the full scale of tariff adjustments requested by regulated firms, the approved tariffs for ZESA have been significantly lower than the requested ones based on the cost estimates. For example, compared with ZESA’s tariff proposal for January 2007 of Z$90.93 per KWh (see Table 10), the level approved by ZERC was a mere Z$6.95, which represents less than 10 percent of the proposed tariff. All in all, by design ZESA is bound to face losses from its core business. As of January 2007, its profit margin ratio was negative 1,191 percent based on the approved tariff rate (Table 11). 16 Table 11. ZESA: Profitability (January 2007) (in Zimbabwe dollar per KWh unless otherwise indicated) Cost price /1 89.69 Approved tariff 6.95 Profit/loss margin -82.74 Profit/loss margin (%) -1,191 Source: ZESA and World Bank staff estimates. 1/ Break-even level (see Table 10). The final level of tariff includes 15 percent VAT (for commercial customers only), 5 percent Capital Development Levy and 6 percent Rural Electrification Levy. While this practice—those who have access to electricity pay for the expansion of the network to other areas—is used in many countries, special budget allowance to cover these costs would be much preferred. 3.2 Zimbabwe National Water Authority (ZINWA) About ZINWA ZINWA is a parastatal which reports to the Ministry of Water Resources and Infrastructure Development. ZINWA is tasked to assist the government in the administration of water supply and coordinate the development of the water resources of Zimbabwe--including the construction of dams--to ensure optimum utilization. ZINWA also provides sewage services. Financial Performance The World Bank mission did not have access to ZINWA’s financial statements. The only materials available to the mission was the Comptroller and Auditor-General’s report on ZINWA covering the period January 2000-March 2004 (submitted to Parliament in 2006), and information gathered through an interview with the representatives the Ministry of Water and Infrastructure and ZINWA. ZINWA like other parastatals has been affected by the deteriorating economic conditions. With severely limited access to foreign exchange and low revenue arising from uneconomical user charges, ZINWA has been facing difficulties in procuring chemicals, spare parts and stand-by units (pumps and electric motors). In recent years, there are increasing cases of equipment breakdown and disrupted water supply, with negative consequences on commercial activities. Leaks in the pipes are a growing problem, resulting in an increase in unaccounted water. The failure to procure critically needed water treatment chemicals has led to deteriorating quality of water, posing serious public health concerns. While the lack of foreign exchange is one reason, ZINWA’s failure to provide adequate services may also be explained by its capacity constraints. For example, the Auditor- General’s report points out the lack of a business plan and maintenance policy as another main factor behind ZESA’s poor performance. Being a utility company, ZINWA also faces revenue erosion from a collection lag. To minimize such erosion, ZINWA demands customers to pay within 15 days from the 17 billing date. An overdue payment beyond 30 days prompts a disconnection of services and attracts interest at the market rate. ZINWA’s collection lag is 30-60 days. Currently ZINWA has no arrears to external suppliers, but has payables to ZESA, NOCZIM and local chemical suppliers. Tariff-adjustment mechanism ZINWA’s user charges are determined on a cost-plus basis. In the absence of an independent regulatory body for the water sector, the Minister of Water Resources and Infrastructure approves ZINWA’s request for tariff adjustments, followed by another approval by the NPIC. Lags in the approval process are common. Since May 2007, tariffs are reviewed more frequently on the basis of ZINWA’s running costs.22 While the approved tariffs are at sub-economic levels, they are generally above cost recovery levels, except for the lifeline tariff (an instrument to protect the poor). 3.3 National Oil Company of Zimbabwe (NOCZIM) About NOCZIM NOCZIM is a private limited company, wholly owned by the government of Zimbabwe. Its primary business is the procurement and distribution of petroleum products in Zimbabwe. NOCZIM, through its 50 percent subsidiary, Petrozim Line (pvt) Ltd, also operates a pipeline to transport a fraction of its purchases from Mozambique. Imported petroleum products are sold at controlled prices, which are substantially below international prices. Liberalization of the petroleum sector that took place in August 2003 allowed private participation at procurement, wholesale, and retail levels. However, (officially recorded) imports by the private sector did not grow, due to the fact that importing fuel for retail trade (i.e., at controlled prices) was unprofitable without access to foreign exchange at the official exchange rate. As a result, NOCZIM, as the only oil-importing company with access to subsidized foreign exchange from the RBZ, remained de facto the sole procurer of petroleum products into Zimbabwe. In June 2007 NOCZIM again became the sole authorized importer of petroleum products into Zimbabwe.23 The wholesale and retail business is dominated by private companies, several of which are international oil companies. NOCZIM imports petrol from Mozambique and the Democratic Republic of Congo. Until 2002 a large share of fuel imports took place in the context of an arrangement with Libya, which involved RBZ guarantees and in-kind payments. However, the shortages of foreign exchange has led NOCZIM to accumulate arrears under this arrangement, and the deal collapsed in mid-2002. Given NOCZIM’s poor credit record, external suppliers are willing to sell fuel only with upfront cash payment. NOCZIM is heavily indebted externally. As of end-September 2007, ZESA’s external debt was estimated at US$213 million, which includes arrears to creditors and overdue payments to external suppliers (US$48 million). There was no domestic debt. 22 Except for the period July-September 2007, when a blanket price freeze was in effect. 23 NOCZIM also imports fuel on behalf of consumers who have their own foreign exchange. 18 Owing to the shortage of foreign exchange in the official market, and competing demand for subsidized foreign exchange from the RBZ with other parastatals (for grain and electricity imports), NOCZIM has been unable to import enough fuel to meet domestic demand for the past few years. Under normal market conditions, Zimbabwe requires about 3.5 million liters of diesel, 3.0 million liters of petrol and 10 million liters of jet A1 oil per day, but in November 2007, NOCZIM was importing only a fraction of the domestic fuel requirement.24 As a result, NOCZIM is only able to supply to the prescribed users (parastatals, farmers, clinics, and selective commercial users that produce or sell selective goods). The unmet demand by NOCZIM is practically satisfied by the active parallel market. The acute shortages of foreign exchange have also severely limited NOCZIM’s ability to import spare parts, to adequately maintain the pipeline used to transport fuels from Mozambique. With the deteriorating condition of the pipeline, NOCZIM has had to rely increasingly on tracks, a more expensive mode of transporting fuel. NOCZIM has a wage structure independent from the government. Staff wages are determined via collecting bargaining process. NOCZIM’s salary is considered competitive to private sector counterparts. In light of high inflation, wages are reviewed as frequently as necessary (quarterly under normal circumstances). Due to the competitive wage level and a preferential benefit package, NOCZIM’s staff turnover is low. As of November 2007, NOCZIM had about 450 employees. The cumulative payroll for the period January-October 2007 amounted to Z$60 billion, against a turn over of Z$1.6 trillion for the same period. This represents about 4 percent of total income. Financial Performance NOCZIM recorded before tax losses in 2005 and 2006, but this was attributed to large finance charges. Its operating profit was generally positive except in 2005 (Table 12).25 While NOCZIM’s revenue from its core business has declined steadily over time, this was compensated for, albeit to a limited extent, by increases in other income. The latter has included a relatively sizable investment income (2006) and a debt-redemption levy, which is applied to all imported fuel and administered by the African Banking Corporation to assist NOCZIM to settle its liabilities accrued over time. On the cost side, the data presented in the financial statements show large fluctuations, making it impossible to obtain a general trend. For example, there are wide variations in the cost of sales, which was significantly higher in 2005 than 2004 and 2006.26 Administrative expenses increased substantially in 2006 to 22 percent of total revenue, but the audit note does not provide details, leaving the factor behind this increase unclear.27 Staff costs were relatively low. 24 For example, in 2006 NOCZIM imported 15 percent and 5 percent of domestic demand for diesel and petrol, respectively. 25 NOCZIM reported a large before tax profit in 2001 and 2002. 26 Again, extreme caution should be exercised in interpreting the figures, as data are available only on an annual basis and appear to be seriously distorted. 27 Administrative expenses include auditors’ remunerations, provision for doubtful debts, director remunerations and other non-classified items. The information on the 2006 financial statements does not 19 Table 12. NOCZIM: Income Statements (in millions of US dollar) /1 2004 2005 2006 Revenues 74.4 54.4 42.2 Sale of Fuels and oils 71.8 54.1 39.6 Pipeline usage charges 2.6 0.4 2.6 Cost of Sales 27.3 61.9 15.6 Gross Margin 47.1 -7.5 26.6 Other Income 21.2 3.4 16.3 Levy for debt redemption 14.6 1.8 2.0 Subsidies 6.4 1.0 0.0 Sundry 0.3 0.6 2.6 Investment incomes 0.0 0.0 11.7 Administrative expenses 6.9 4.6 9.2 Other operating expenses 1.4 1.3 0.9 Staff Costs 1.4 1.2 0.8 Other 0.0 0.1 0.1 Depreciation 0.0 0.0 0.0 Operating profit/loss 60.0 -9.9 32.7 Net finance costs 1.1 163.4 47.6 Profit before taxes 58.8 -173.4 -14.8 Source: NOCZIM and World Bank staff estimates. 1/ Zimbabwe denominated data are converted to the US dollar terms at the parallel exchange rate (annual average). Price Setting/Cost Structure Prices that are charged by NOCZIM for its products are determined through a price cost build up, which ensures that products are not sold at a price below cost. Price reviews are carried out in response to changes in the market fundamentals. Requested price revisions are discussed within the Ministry of Energy and forwarded for approval to the newly established National Incomes and Pricing Commission (NIPC). While there may be delays in the approval process, the proposed tariff revisions are largely accepted by the NPIC, allowing NOCZIM to make a reasonable profit margin (Table 13). This is in sharp contrast to the situation faced by ZESA and GMB. Table 13. NOCZIM: Profit Calculation for Petrol (in Zimbabwe dollar, unless otherwise noted) /1 Z$/liter Procurement cost 22,773 Cost price incl. tax 68,400 Pump price, incl. tax 78,500 Profit margin 10,100 Profit margin (%) 14.8 Source: NOCZIM and World Bank staff estimates. 1/ See Table 14. show any sizeable increase in the items mentioned, but the totals for 2006 miss the “Other” line and the totals do not add up. 20 The cost build up analysis (as of November 2007) is shown in Table 14. In November 2007, against the parallel market price of about Z$1.5 million per liter (US$1 at the parallel exchange rate), the approved pump price of petrol was Z$78,500 (US¢5.2), a mere 5.2 percent of the parallel price.28 This pump price, which is lower than the procurement cost (US¢70 per liter), is still a viable price for NOCZIM as long as it has access to cheap foreign exchange from the RBZ. The large price gap between the official and parallel markets has introduced arbitrage opportunities for those who have access to petrol at the controlled price. The pump price of diesel was Z$75,500 per liter, or US¢5.0. There is cross-subsidization of Z$1,200 per liter from the consumers of petrol to consumers of diesel. Per the government’s strategy of ensuring a sustained self sufficiency in food production, diesel to registered farmers are sold at a concessionary rate. In November 2007, the diesel price for farmers was Z$59,000 per liter, compared with the gazetted price of Z$75,500. As farmers consume about 0.5 million liters of diesel per day, this represents a subsidy of about Z$3 trillion, or US$2 million at the parallel exchange rate, per year. Table 14. NOCZIM: Approved Product Cost Build Up (November 2007) (in Zimbabwe dollars per liter) Petrol Diesel Remarks Forex component FOB price 0.70 0.70 Based on average costs. CIF price 0.76 0.76 Based on actual costs. Local costs CIF price 22,773 22,773 At official exchange rate (Z$30,000/US$) Financing cost 3,494 3,494 Based on lending rate of 400% p.a. Internal Pipeline & Railage 6,857 6,857 Based on agreements w/ PZL & BBR. Tax 11,139 11,139 Duty 5,000 5,000 With effect from Sep. 10, 2007 Road levy 1,139 1,139 5% of CIF price. Carbon tax 5,000 5,000 With effect from Sep. 10, 2007 Debt redemption levy 2,500 2,500 With effect from Sep. 10, 2007 Storage, handling & others 3,200 3,200 Actual cost Total product cost 49,963 49,963 Cross subsidy 1,200 -1,200 To make diesel cheaper. Rounding off cost (incl.subsidy) 51,200 48,800 Inland building costs 5,200 5,200 Based on current cost. Storage and handling costs 5,800 5,800 Based on current cost. Secondary transport cost 6,200 6,200 To distribute to remote areas. Total product cost 68,400 66,000 NOCZIM margin (9.1%) 4,659 4,441 Price to dealer 73,059 70,441 Dealer margin (10.1%) 5,325 5,075 Calculated pump price 78,384 75,516 Rounded off pump price 78,500 75,500 Source: NOCZIM, World Bank staff estimates. 28 In November 2007 the pump price of petrol was about US¢90 per liter in the US. 21 3.4 Grain Marketing Board (GMB) About GMB GMB was formed in the 1970s with the responsibility of ensuring food security at household level, and since 2002 it has been the sole importer of grains into Zimbabwe. GMB purchases controlled products—maize and wheat—from farmers at a government- set producer price, imports when domestic production is not sufficient to satisfy domestic demand, and sells the products to millers at a controlled selling price (see below).29 Then the processed products are sold to consumers at very low retail prices, again set by the government. In addition to its core function as a trading company, GMB is engaged in agricultural production support, marketing and distribution.30 As of October 2007, GMB had 6,606 employees. The number of GMB staff has grown over time for unknown reasons (Table 15). In the absence of corresponding increase in operation, this has resulted in a decline in labor productivity, approximated by tons of products “moved” per worker, from about 344 tons in 2001/02 to 208 tons in 2006/07. GMB’s salary level is comparable to that of the government. Table 15. GMB. Employment and Labor Productivity 2001/02 2002/03 2003/04 2004/05 2005/06 2006/07 Total employment 3,672 4,711 5,465 6,586 7,110 7,112 Sales & purchases of maize & 1.3 1.2 0.9 1.2 1.2 1.5 wheat (in millions of tons) /1 Average tons/worker 344 256 157 189 170 208 Source: GMB and World Bank staff estimates. 1/ Total tons of maize and wheat purchased and sold on the market. Financial Performance GMB has traditionally been the largest loss-making parastatal. GMB’s deficit had been financed by government-guaranteed domestic bank loans and grain bills. In early 2003, however, GMB developed serious cash-flow problems, resulting from the pricing policy that did not allow cost recovery and high operational costs (see below for further discussions). Faced with difficulties in rolling over its commercial credit, it requested the government to honor the guarantees. In 2004, the government, through the RBZ, recapitalized GMB by paying off short-term debt owed to several financial institutions, and began to provide a sizable grant to mitigate GMB’s liquidity problem. This has allowed the firm to record a positive net profit since 2005/06 (Table 16). Besides the current transfer from the government, GMB receives various subsidies for its capital expenditure.31 GMB has no outstanding external debt. 29 GMB sells a small proportion of grains to consumers directly at the selling prices to millers. 30 It has a network with about 60 depots all over the country for the distribution of inputs for farmers and collection of their production. 31 These include grants from the DANIDA, KFW, EEC, etc. 22 Table 16. GMB. Income Statement (in millions of US dollars) /1 2003/04 /2 2004/05 2005/06 2006/07 Revenue 6.4 26.0 60.4 46.3 Sales 5.2 18.8 16.7 22.2 Government grants 0.0 2.0 19.9 20.7 Other income 1.1 5.2 23.8 3.4 Cost of sales 7.1 18.6 20.2 21.8 Other costs 2.6 7.9 19.9 16.2 Transport 0.0 0.0 3.3 2.9 Handling & Storage 0.0 0.0 0.2 1.0 Administration 0.3 2.4 8.1 4.3 Selling & Distribution 0.0 0.0 0.0 1.0 Staff 0.7 3.2 8.2 4.1 Other 1.5 2.3 0.0 2.9 Operating profit -3.3 -0.5 20.3 8.3 Operating profit excl. grant -3.3 -2.5 0.3 -12.4 Interest 2.2 17.8 2.8 2.1 Profit before taxes -5.5 -18.3 17.5 6.3 Profit before tax, excl. grant -5.5 -20.2 -2.5 -14.4 Taxes 0.0 0.0 0.6 0.5 Net profit -5.5 -18.3 16.8 5.8 Source: GMB and World Bank staff estimates. 1/ Zimbabwe dollar denominate data are converted to US dollar terms at the parallel exchange rate (annual average). 2/ Each marketing year starts on April 1 and ends on March 31. Price-Setting/Cost Structure In each year, the Minister of Agriculture determines the prices for the 12 months following April 1 of that year for the controlled products acquired by the GMB. The producer prices (i.e., prices at which GMB purchases from farmers) are set such that a margin is added onto farmers’ production costs (which are below market costs because farmers have access to financing, fuel and many other inputs at below market costs).32 The pricing mechanism for the selling prices (i.e., prices at which GMB sells products to millers for processing) is unclear, and appears to be heavily politicized. The price setting mechanism for crop commodities is heavily distorted in Zimbabwe. First and foremost, the selling prices determined by the government are far below GMB’s procurement prices for controlled products. That is, in the absence of government’s support, GMB is bound to make losses from maize and wheat, even at zero operating costs. As of November, GMB was selling locally procured maize at an extremely low price of Z$2.1 million per ton, against its break-even price of Z$36.7 million, thereby making a loss of Z$34.6 million per ton of maize it sold to millers (Table 14). Similarly, GMB was making a loss of Z$7.7 million per ton for locally produced wheat. Some cross-subsidization takes place through other products, such as imported wheat, sorghum, soya beans and ground nuts, which are sold at a profit. 32 The mission did not receive information on the cost structure used to set the producer prices. 23 Table 17. GMB. Profitability Schedule (November 2007) (in millions of Zimbabwe dollars per ton, unless otherwise indicated) Maize Wheat Soya Ground Sorghum Domestic Imported Domestic Imported Beans nuts/4 Procurement price 1/ 10.0 10.2 42.0 10.5 3.9 10.0 36.6 Cost price /2 36.7 36.8 68.7 38.6 33.1 49.9 71.7 Selling prices /3 2.1 2.1 61.0 61.0 35.0 86.0 500.0 Profit/loss margin -34.6 -34.7 -7.7 22.4 1.9 36.1 428.3 Profit/loss margin ratio (%) -1,646 -1,654 -13 37 5 42 86 Source: GMB and World Bank staff estimates. 1/ Producer price. 2/ Break-even price (see Table 18). 3/ Selling price for millers. 4/ Unshelled. The problem associated with the low selling prices is compounded further by GMB’s high operating cost structure that raises the break-even price for all commodities. Table 18 presents GMB’s cost analysis (as of November 2007) and an estimated break-even selling price for maize and wheat. It shows that against the procurement cost of Z$10million, the estimated break-even price for maize was Z$36.6 million (US$24.4) per ton. This, representing an increase of 267 percent, is extremely high, compared with 15 percent in the US and 20-25 percent in Argentina (including the freight to the harbor if the production is for export).33 While it is possible that GMB faces market prices for many of its inputs, it is also possible that the operation of the public grain marketing board is inefficient. The artificially low selling prices may have encouraged side trading of grains to take advantage of higher black market prices, including illegal cross-border trading. 33 For example, direct expenses (labor and transport costs), bags and storage costs accounted for 180 percent, 50 percent and 27 percent of the price paid to farmers. These ratios are much higher than what is observed in other countries. 24 Table 18. GMB: Costing Analysis (in Zimbabwe dollars per ton, unless otherwise indicated) Maize Wheat Domestic Imported Domestic Imported Procurement cost (a) /1 10,000,000 10,170,000 42,000,000 10,500,000 Direct expenses 18,037,573 18,037,573 18,037,573 19,437,771 Direct labor 37,573 37,573 37,573 37,573 Transport 18,000,000 18,000,000 18,000,000 18,000,000 Freight 1,400,198 Indirect overheads 8,622,787 8,622,787 8,622,787 8,622,787 Empty bags 5,000,000 5,000,000 5,000,000 5,000,000 Storage & handling 2,667,936 2,667,936 2,667,936 2,667,936 Postage 22,350 22,350 22,350 22,350 Telephones 37,158 37,158 37,158 37,158 Stationary 10,955 10,955 10,955 10,955 Electricity 18,781 18,781 18,781 18,781 Protective clothing 3,449 3,449 3,449 3,449 Depreciation 5,674 5,674 5,674 5,674 Repairs & maintenance 16,807 16,807 16,807 16,807 Collection point expenses 12,320 12,320 12,320 12,320 Insurance 342 342 342 342 Salaries 19,273 19,273 19,273 19,273 Security 23,852 23,852 23,852 23,852 Other 783,890 783,890 783,890 783,890 Break-even selling price (b) 36,660,360 36,830,360 68,660,360 38,560,558 Increase: (b-a)/a 267% 262% 63% 267% Approved selling price for millers (c) 2,100,000 2,100,000 61,000,000 61,000,000 Profit/loss margin (c-b) -34,560,360 -34,730,360 -7,660,360 22,439,442 Profit/loss margin ratio (%) -1,646 -1,654 -13 37 Source: Grain Marketing Board and World Bank staff estimates. 1/ Producer price. Assumes cash purchase. Second, the pricing mechanism for agricultural commodities has introduced relative price distortions in the structure of producer prices, compared with the opportunity costs defined by world prices. In November 2007, GMB was paying farmers more than four times as much for wheat (Z$42 million) as for maize (Z$10 million) and soybeans (Z$10 million), when the world price for wheat was only 28 percent higher than for maize (Table 19). This sends a distorted signal to farmers, possibly encouraging their production efforts to wheat, away from maize, soybean, and sorghum. This may have prompted another RBZ intervention. Faced with a sharp fall in maize delivery to GMB depots for the 2005/06 marketing year, in April 2007 RBZ introduced a maize delivery bonus of Z$1.2 million per ton over and above the producer price for the 2006/07 agricultural season, but this was introduced without an upward adjustment in the selling price.34 34 The maize delivery bonus was introduced by the 2007 Interim Monetary Policy Statement (April 27, 2007). 25 Table 19. GMB: Relative Producer Prices (November 2007) GMB producer price /1 World price Relative prices (maize=100) Z$ million/t US$/t US$/t GMB World prices Maize 10.0 6.7 180 100 100 Wheat /2 42.0 28.0 230 420 128 Soybean 10.0 6.7 380 100 211 Sorghum 3.9 2.6 170 39 94 Source: GMB and World Bank staff estimates. 1/ Equivalent to GMB producer prices (prices paid to farmers). Zimbabwe dollar converted to US dollar terms at the parallel exchange rate. 2/ For GMB, domestically produced wheat. 4. Concluding Remarks Many parastatals in Zimbabwe have been chronically recording large losses, which are the major causes of the unprecedented macroeconomic instability in the Zimbabwean economy. Unless key economic factors underlying their poor performance, such as shortages of foreign exchange emanating from the seriously misaligned exchange rate and artificially-low controlled prices, amongst others, are addressed decisively, no major improvements in their financial position are likely. Any successful stabilization in Zimbabwe will require an upfront exchange rate adjustment, and a sustainable elimination of the consolidated fiscal deficit, including the RBZ’s quasi-fiscal losses, supplemented by a structural adjustment part to address micro-level distortions. It is difficult to assess if the parastatals will be profitable after price and exchange rate distortions are corrected. However, much can be done to improve the regulatory framework:  Independent professional regulators, and not line Ministries (who must remain in charge of the public policy for the sector), should be responsible for tariff setting. The scope of ZERC’s coverage may be extended to include the oil sector.  The pricing mechanism that a utility firm uses can be the most powerful incentive for performance in the sector. As such choosing an appropriate price regulation system is one of the most important decisions for service providers in liberalized utility sectors. The current cost-plus regulation for the electricity sector in Zimbabwe can be replaced with the price cap regulation, which provides firms stronger incentives to be efficient.35 35 There are two main approaches to preventing monopolistic infrastructure firms from charging excessively high prices: price cap regulation and rate-of-return regulation. The rate-of-return approach is used in Canada, Japan and US, where regulatory agencies fix the rate of return that a utility can earn on its assets. They set the price the utility firms charge so as to allow them to earn a specified rate of return— and no more. Over the past two decades, the price cap approach has become increasingly common internationally because it is thought to give firms stronger incentives to be efficient. For further discussions and references, see: http://rru.worldbank.org/PapersLinks/Alternative-Forms-Of-Price- Regulation/. 26  Competition should be introduced whenever possible. Some examples where competition is possible are the grain market, fuel sector, and electricity generation. However, this requires prices that reflect opportunity costs and free access to all potential consumers on an equal footing by the new entrants.  Privatization is an option, but professional regulation is recommended even if public firms are maintained. For privatization to be effective both the overall government policy and the regulatory frameworks need to be credible. If not, private investors would demand much higher discount rates for their projects. A typical risk that should be circumvented is the temptation to get additional supply ensuring high guaranteed prices to the companies. 27