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25th July 1999

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Changes to Companies Act

By Shafraz Farook and Dinali Goonewardene

Companies can break free from their traditional mould of stating objectives if the proposed changes to the Companies Act goes through.

The proposed draft which is now with the legal draftsman, permits companies to discard the traditional memorandum of association and scrap par values of shares. A standardised form replacing the memorandum does not require the objectives of the company to be stated. This enables the company to change its direction in keeping with the fast paced environment within which it operates.

However a decision to change direction must be approved by a majority of shareholders and shareholders disapproving the change must be bought out by the company. A mechanism for computing the fair value for a buy out has also been put in place.

At present, sharecapital refers to the capital of the company, which is divided into shares and issued at a value termed the par value. The par value soon becomes outdated and has no relevance to the actual value of the company, not even the break up value. Numerous terms, which refer to the capital such as authorised capital and issued capital are thought to be confusing to the lay public who are among the biggest buyers of company shares.

The proposed amendments to the act require a stated capital to be computed which includes the issued capital that has been paid up and is due to be paid up. It also requires a solvency test to be carried out periodically to determine whether a company can meet its liabilities. The inability to meet its liabilities would force directors to review the situation in terms of liquidation or increasing its stated capital. At present many companies continue to trade despite being insolvent. Liabilities exceed assets but shares are traded at high values due to an imminent buy out or technological development. Under the proposed changes to the Companies Act directors are required to keep the company solvent.

Under the proposed amendments a Company Disputes Board will be appointed. The board will hear disputes between shareholders and directors and problems arising between the Registrar of companies and the company. Shareholders may opt to approach the disputes board in preference to litigation in courts.

Directors duties and responsibilities are outlined in the proposed amendments to the Companies Act. These issues were previously addressed through case law and directors were required to disclose their age, interest in contracts and special payments or compensation. Courts have continued to view directors as trustees of shareholders. Directors are required to exercise their special skills in discharging their duties. These provisions are contained in the new draft. Directors are allowed to rely on their employees and specialised people but are not totally exonerated from responsibility. They are required to probe into matters and this will be viewed in the context of their good faith.

"These provisions in the amendment to the Companies Act no 17 of 1982 will improve corporate governance," said F.J&G de Saram's senior partner U.I Kadurugamuwa.


Four, six year bond issues will have to wait

The introductory issue of six-year bonds scheduled for end July has been temporarily shelved due to the prevailing high interest rates, Central Bank sources said.

As the government would have been compelled to lock in long-term money at high rates, it has been decided to postpone the six year bond issue to end August, Superintendent, Public Debt, T S N Fernando said.

With the reverse repo market high, at around Rs. 2.5 bn over the last few days there is a shortage of liquidity in the market.

The rise in overnight money to 14 per cent in mid July could have added to the government's decision to postpone the four and six year bond auctions which were previously scheduled for the end of this month, brokers said.

As an alternative to locking in money at high rates with six year bonds, the government is issuing shorter term two and three year bonds.

There has been low bidding during the last few treasury auctions resulting in two - year rates falling from 13.42% to 13.13% at this week's auction, and secondary market prices for three year rates also falling by over 20 basis points, brokers said.

With the proposed sale of 10% in Sri Lanka Telecom for around US$ 80-100 mn likely to enter the system, there is little reason for any upward pressures on short-term rates.

However, the government is expected to borrow further in the event of elections being called within the next six months and this could exert some upward pressure on rates towards the end of this year.


CSE News

The Colombo Stock Exchange (CSE) will introduce product specific brokers for the debt and equity market. At present, the CSE has a general membership, which permits brokers to trade whatever is listed on the exchange. Under the proposed amendments to the brokers membership rules, broker firms will need to get separate licence to deal in debt and equity. Broker firms should also have qualified persons in either debt or equity to qualify for membership, CSE Director General, Hiran Mendis said.

Trading activities on over the counter (OTC) is to be automated shortly linking it to the central depository system (CDS). Since relatively insignificant trading is being done on the OTC board, transactions were done manually. The automation of the OTC activities will be a boost to the market, as it will make clearing settlements easier and efficiently for investors and company secretaries.

The settlement dates for delivery versus payment (DVP) will come into effect from next year, CSE says. At present, the settlement days for debt is T+1 (trading day plus one market day) while for equities it is T+5 or T+6. DVP will be introduced across the board for equity and debt listings.


Only an alliance not a competition

"We have no intention of entering the banking sector at the moment, so there is no competition from Imageus to NDB Ranjith," says Alan Parsonson, Director of the newly formed Eagle Insurance Company Ltd., and Regional Manager Zurich Financial Services Ltd.

Mr. Parsonson is presently in Sri Lanka to officially formalise the alliance between Zurich Financial Services (ZFS) and Eagle NDB.

ZFS is one of the top 10 asset management companies in the world, with around US$ 450 bn under management and US$ 4 bn to 5 bn in new premiums as at end 1998.

ZFS concentrates on core businesses like long life asset management. He believes there are tremendous opportunities in Asia.

There is a lot of initiative in Asia to bring better customer service and the focus of our philosophy is to ensure we deliver the best solutions to suit their product needs, he said.

"We don't push products, we push solutions. Over the course of the next few years I am sure we will see that Eagle Insurance here in Sri Lanka will start to take on more of our philosophy," he said.

ZFS will address a number of issues in their Sri Lankan operation since they work differently on target markets. We may be looking at an internal re-structuring but I don't think anybody from the outside will see the difference.

ZFS has four core businesses: re-insurance, non life, life and asset management. Over the course of the years, the company hopes to increase the percentage of life and asset management.

Globally last year about 50% of the premium were from life insurance products. About 2-3% of ZFS's global income comes from 14 Asian countries.

ZFS has two holding companies. Zurich Allied which is quoted on the Swiss stock exchange, owns 57%, while 43% is held by Allied Zurich who is quoted on London Stock exchange.


Commercial paper without curbs

The Central Bank will remove restrictions on commercial paper by eliminating limited tenure periods, The Sunday Times Business learns.

At present, the issue of commercial paper (CP) is restricted to a three and six month period, with bank guaranteed commercial paper limited to quoted companies.

Central Bank's new guidelines on CP is expected to be ratified by the Monetary Board within the next few weeks, a senior Central Bank official said.

The short tenure of this debt instrument has hampered the listing of CP in the past and the relaxation of the tenure period will also pave the way for quoted CPs.

The Colombo Stock Exchange (CSE) recently passed the rules for quoted debt instruments independent of an equity listing, which required companies to either get a bank guarantee or a rating from the rating agency. Market analysts expect CP to be traded on the CSE's over the counter board.


Struggling fund managers want to go overseas

By Mel Gunasekera

Fund managers are asking for permission to invest limited funds abroad, in order to generate some value for its customers even during a market lull.

"In this era of free markets where tariffs are removed to offer greater value and choice to customers at the expense of protecting the interests of domestic manufacturers, it is not unreasonable to pay some attention to the plight of the investing public who are running out of ideas to make money without breaking the law," General Manager Eagle NDB Fund Management Co., Manjula de Silva told the Sunday Times Business.

India recently liberalised their industry by permitting limited funds to be invested abroad. We are proposing to extend this facility to both unit trusts and selected institutional investors, he said.

This would also pave the way for fund managers to gain more exposure to international practices resulting in a transfer of knowledge which cannot be achieved through training programmes, he said.

"Attention is needed to educate the trustees and administrators of large funds in both public and private sectors on the importance of professional fund management.

The government can do a lot for the fund management industry without hurting its own interest in any manner," he said.

De Silva said that releasing Rs. 3 bn to 5 bn from the EPF is not going to make a significant dent in its budgetary financing. The effect can be reduced even further by making it mandatory for the fund managers to invest a minimum percentage in government securities.

He added that the real value addition will come not from the superior returns earned by external fund managers, but from the greater accountability created in the in house managers whose performance can now be benchmarked against others.

The industry is also urging the government to expedite legislation to create private provident/pension funds. The government promised to do so two budgets ago, but nothing has taken place since then.

"With Sri Lanka facing alarming prospects of a rapidly ageing population, urgent measures are not only needed to liberalise and deregulate the retirement benefit provisions, but also to strengthen the capital markets and the fund management industry, which plays a vital role in developed countries in the management of retirement benefits," he said.

De Silva added that the rest of the private sector could also play its part in lending a helping hand to this fledging industry, which can one day add great value to them and to the economy at large.

"If the Colombo Stock Exchange recovers along with further opportunities available for value addition through growth in the debt market and possibly, the freedom to invest a small part of funds abroad, the fund management industry could prosper with the little external assistance," he said.

He warned if these essential conditions for success fail to materialise in the immediate future, the industry will need serious support until such conditions emerge, in the long term interest of all its shareholders, who would otherwise have to go through the same exercise again.


Smallholders More Efficient than Tea Estates

Tea is fast becoming a smallholder crop. Tea is thriving in the low country areas in small units, while progress on the plantations is poor. The facts disclosed in the 1998 Central Bank Annual Report makes this very clear.

There was a time when it was widely believed that tea could be grown economically only on large plantations. This view lasted a long time. It was partly a colonial economic idealogy which suited British owners of estates. This hangover continued for a long time. It was also a false logical extension derived from industrial economics where economies of scale matter. Finally this paradigm was challenged by the experience of Kenyan smallholders who were able to produce high yielding quality teas. Now the Sri Lankan experience appears to prove beyond doubt the higher productivity potential of smallholdings.

Here are the facts. Only about thirty per cent of the country's tea is in smallholdings. Yet these produce 61 per cent of the country's tea output. The plantations produced only 39 per cent of tea although about 70 per cent of the area under tea is on estates. This is because the productivity on small holdings is about twice that of estates. In 1998 the average productivity of smallholders was 2192 kgs per hectare, estates achieved only a yield of around 1100 kgs per hectare. The yields of tea smallholders surpassed the average yields in India and matched the average yields in Kenya.

Not so our estate yields which are woefully lower than average yields in India and Kenya. Estate yields in 1998 were only one half the national yield in Kenya and about 60 per cent of the national average yield in India. Consequently Sri Lanka's national average yield is only 84 per cent of India's and only about two thirds of Kenya's. It is this low productivity which increases the cost of production and reduces profitability. Labour productivity too is much less in Sri Lanka.

These facts and figures almost question the viability of the estate mode of production. This is especially so as the increasing wages for plantation workers and a drop in prices result in losses to estates. To aggravate the situation there is a shortage of labour on many estates, especially in the low grown areas. Increases in wages are not geared to productivity. When prices rise wage demands succeed and wages remain high even when tea prices fall. This ratchet effect can spell the death knell of the plantations. Wages of plantation labour should be geared to productivity. But this appears to be impossible owing to trade union pressures.

The answer lies in increasing yields on plantations. One of the fundamental reasons for the low yields is the small extent of estate tea lands under the higher yielding Vegetatively Propagated (VP) teas. In contrast, nearly all small holdings are in VP teas. Long years of neglect and poor management has left some estates with a low density of tea bushes too. The management of the plantations has shown a considerable improvement recently but there is a long way to go before our estates near their productivity potential.

Our comment should not be interpreted as implying that all is well with the smallholding cultivation of tea. They too have not achieved their optimum yields. The higher yields on smallholdings is partly due to agro-climatic conditions. Most smallholdings are in the South where the brighter sunlight induces more leaf growth. Although most smallholdings are grown with VP teas some are of poor quality owing to the inability of smallholders to obtain good planting material.

Some cultural practices too leave much to be desired and extension services are weak and inadequate. Financial weakness leads to the pruning cycle not being adhered to at the most suited time. Green Leaf is often transported after a long delay resulting in poor quality manufactured teas. There are labour shortages in the smallholdings areas too.

Although tea contributed only 2.6 per cent of GDP in 1998, it is still a very significant component of our economy. What is more significant is that a properly managed and efficient tea sector could contribute much more to our national income in the future. There is scope for increasing productivity and production on both the plantations and smallholdings. To forego this potential is to lose valuable foreign exchange, as any increased output is an additional exportable surplus.


Lanka may not be bitten by Y2K bug

By Feizal Samath

Sri Lanka appears to be much better prepared than its South Asian neighbours to handle the millenium bug or Y2K problem, particularly in the field of banking, officials say.

Sri Lanka's advance work in this field was praised by other South Asian countries, during a meeting of regional Central Bank officials in the southern town of Kalutara from July 12 to 14. The officials were exploring ways of joint action on the Y2K issue.

The country's Central Bank has already decided that commercial banks and other non-bank financial institutions would be closed for public business on December 30 and 31.

"There won't be public transactions on these days but such holidays will not be declared public or bank holidays in terms of the Holidays Act. All employees in these financial institutions will be expected to work as on a normal working day and they would be deployed for year end finalisation of accounts, issuance of statements and other internal matters to ensure a smooth transition to the new millenium," a Central Bank circular said.

Y2K or the Year 2000 problem is one confronted by computers across the world. According to early practices, computer programmes used two digits (e.g. 99) instead of four digits (e.g. 1999 and this was fine as long as the years were between 1900 and 1999. The moment the year 2000 arrives, the computer would assume 00 to mean 1900 and not 2000, causing a series of complications and computers crashing across the globe if contingency plans are not formulated.

Last week, USAID officials during a discussion with Central Bank officials said they admired Colombo's advance preparations to ensure a smooth switchover to the year 2000 and believed Sri Lanka was ahead of many countries even outside the region.

According to recommendations made at the end of the July 12-14 regional meeting in Kalutara, it was noted that the time for Y2K testing has run out and countries in the region would have to therefore work out contingency plans for business continuity.

A conference statement said that while contingency plans were necessary, there was no guarantee that they would work in all circumstances and recovery plans, in the event of failure of contingency plans, may also have to be worked out.

With regard to exceptional holidays during the transition to the new millenium, it was decided that central bank authorities in the region should weigh the potential costs or benefits of declaring exceptional holidays well in advance and give adequate notice through the media.

The conference decided that central banks should quickly disseminate to the public its own initiatives that help to ensure business continuity in the financial sector, like issuing short handouts on contingency planning issues in addition to reports on the banking sector's preparedness for the event.

Professor V.K. Samaranayake, chairman of the National Y2K Task Force (NTF) and chairman of the Council for Information Technology (CINTEC) told the meeting that in May 1998, Sri Lanka set up a National Task Force to identify the readiness of various sectors like banking, electricity, water, health care, fuel, telecommunications and air/sea transport.

The group's report was handed over to President Chandrika Kumaratunga last December, who undertook to implement the recommendations of the NTF.

In its report, the group reviewed the readiness of various sectors and said:

Banking - The central bank is working with all 31 banks to ensure they are ready for the switchover. Over 80 percent of the banks were due to be ready by end June and the rest by September. A loan of US $20 million is available from the World Bank for this purpose.

Electricity - This sector has achieved over 90 percent readiness and full compliance by September.

Airport, civil aviation and sea port operations were due to be ready by June while all water treatment plants were found to be free of computer systems.

Petroleum - The systems for refinery of petroleum and its distribution have been tested. The capacity of buffer stock storage will be enhanced by end October 1999 to meet at least one month's requirement.

Health - the readiness of the state health sector is be closely monitored by government agencies. The state of readiness in vital areas like x-ray, operating theatres, life support systems, monitoring equipment, refrigeration systems and ICUs are being looked into.

Professor Samaranayake said that the NTF was moving into the contingency planning and operational stage from this month with just six more months to go. Plans are underway to establish a national operations room with connections to key sectors like electricity, communications and air and sea transport.

He said the NTF was planning to restore normal services as early as possible after the arrival of the year 2000, in the case of any disruption. The NTF chief appealed to those concerned to be cautious before releasing unsubstantiated information that could lead to panic and result in problems worse than that created by the Y2k.

Some South Asian countries like Bhutan, for instance, don't foresee a serious problem with Y2k.

A country report from Bhutan, presented at the conference, said that there were only 2,500 PCs in the country of which 60 percent were Y2K compliant. It said most of the balance 40 percent computers were used for word processing and spread sheets for secretarial work, and not for critical business purposes.

The Bhutanese system is relatively simple with regard to computer networks compared to the rest of the world. One of the plus points in early Y2K compliant is the computerisation of various sectors only as late as the late 1980s or early 1990s.

Unlike Sri Lanka, Bhutan did not have a national project to take up the Y2K issue and in this context, it was difficult to assess these problems in vital sectors of the economy.

In the Nepali case, all banking systems in that country have been made fully compliant so far but a government committee has suggested that all banks should prepare hard copies of all files and statements on the last working day of 1999, as added precautions.

India has no plans to declare banking holidays at the end of the year, since the federal reserve systems don't favour extra holidays, says A. Vasudevan, executive director of the Reserve Bank (Central Bank) of India.

He said national authorities must weigh the relative power of potential advantages and disadvantages of announcing exceptional holidays. Decisions on this matter cannot be based on precise quantification of costs and benefits and will have to be judgemental.

Vasudevan said that from a South Asian standpoint, it was necessary to see that there were no disturbances in cross border transactions owing to the Y2K problem and suggested that the region should work out ways in confronting this issue.


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