TEKEL PRIVATIZATION: DOWNSIZING A MONSTER OR JUST

UNCLAS SECTION 01 OF 03 ANKARA 001447

SIPDIS


SENSITIVE


STATE FOR E, EB/IFD/OMA AND EUR/SE
TREASURY FOR OASIA - MILLS AND LEICHTER
STATE PASS USTR - NOVELLI AND BIRDSEY
STATE PASS USDA/FAS
USDA/FAS FOR ITP/MACKE, MEYER, THORBURN


E.O. 12958: N/A
TAGS: ECON EFIN PREL TU
SUBJECT: TEKEL PRIVATIZATION: DOWNSIZING A MONSTER OR JUST
MOVING IT TO THE PRIVATE SECTOR?

REF: 02 ANKARA 3538


Sensitive but unclassified. Not for internet distribution.



1. (SBU) Summary: The AK government has highlighted its
commitment to accelerate privatization, and to realize $4
billion in privatization revenue in 2003. The feature
privatization in the first half of 2003 is TEKEL. This cable
describes Turkey's 70-year old tobacco and spirits giant
TEKEL, its plans for privatization, and the conflict between
this privatization and the goal of market liberalization. A
newly formed tobacco and alcohol regulations board, which is
supposed to liberalize the markets, consists primarily of
former TEKEL employees who have a vested interest in
protecting TEKEL, including in its privatized form, from
competition. Parliament helps protect TEKEL by maintaining
high taxes and trade barriers on competitors. The GOT
justifies these measures by saying they are needed to make
the sale of TEKEL attractive, to ease the pain of job layoffs
in TEKEL, and to regulate alcohol sales in a Muslim country.
The reality post-privatization is likely to be GOT exercising
statist control over these industries, with little to no
market liberalization gains. End Summary.


A SNAPSHOT OF THE MONSTER
--------------



2. (SBU) TEKEL is a classic, inefficient parastatal. First
founded in 1932 to carry out "monopoly services" concerning
tobacco, alcoholic drinks, salt, gun powder and explosives,
it has dominated Turkey's market for tobacco and spirits
sales for 70 years. TEKEL has 33,000 employees and direct
subcontractors, and supports hundreds of thousands of tobacco
farmers who sell tobacco leaf to the company. TEKEL,s
market share in Turkey is 69% for cigarettes, 96% in
alcoholic spirits (TEKEL retains a monopoly on importing
spirits),and 31% in wine. With more than 1,300 workers in
its salt industry establishment, TEKEL has dominated this
industry as well. In 2001, TEKEL,s total assets were valued
at approximately $2.6 billion, its share of Gross National
Product was approximately 2%, and its contribution to total
tax revenues collected by the Treasury was about 4.9%, per
TEKEL.



3. (SBU) In the tobacco sector, which has allowed foreign
competition since 1991, Philip Morris is currently producing
41% as many cigarettes as TEKEL despite only having 3% of
TEKEL's cigarette workforce. (TEKEL is currently producing
66,000 tons of cigarettes per year compared to Philip
Morris, 27,000 tons per year. TEKEL,s cigarette
establishment employs 7,375 employees in six factories, and
another 15,628 in its leaf tobacco processing operations.
Philip Morris, meanwhile, has just one factory in Izmir
employing 650 people. The rest of its operations are
contracted.) Sakir Karpat, Philip Morris Government
Relations Manager in Turkey, said that once TEKEL is
privatized, he envisions its tobacco operation could be run
with only 2,000 employees.



4. (SBU) TEKEL,s excessive weight is not entirely the fault
of its management. Until early 2002, when Parliament enacted
legislation officially transferring it to the Privatization
Administration (PA),TEKEL was required to buy tobacco stocks
from farmers across the country, often taking in stock that
it did not need. TEKEL continues to buy unneeded tobacco,
even without formal instructions. This includes a
substantial amount of tobacco from Southeast Turkey, which is
considered inferior to tobacco grown along the Aegean coast,
near Izmir. As a result, TEKEL currently has 500,000 tons of
tobacco in warehouse storage, nearly five times its annual
level of production.


Current Status of Privatization
--------------



5. (SBU) Ayhan Sarisu, the PA official who oversees the
TEKEL privatization, told us the PA plans to advertise the
primary tender for the sale of TEKEL by June 2003, and hopes
to complete the sale and collect revenue by the end of this
year. The PA has to first await final approval of the TEKEL
privatization plan by the GOT's Higher Privatization Council,
expected shortly, which is a prior condition for completion
of the IMF 4th Review.



6. (SBU) Sarisu has declared that 100% of TEKEL will be sold
in two primary block sales: one for the tobacco operations
and the other for alcohol. The tobacco sale will be further
split into two parts: the six cigarette factories will
encompass the June 2003 tender while TEKEL's two large
tobacco leaf processing plants, in Izmir and Diyarbakir, and
its excess stocks of tobacco will be tendered later this year
(Sarisu stresses that all sales will be finalized by the end
of the year). One of Sarisu's top goals is reducing the
baggage TEKEL currently has to prepare it for sale. He plans
to resolve TL 600 trillion (approximately $400 million) worth
of unpaid tax liens by transferring some of TEKEL,s unused
real estate assets to the Treasury Undersecretariat.



7. (SBU) Sarisu realizes that many portions of the TEKEL
enterprise are unwanted, and worries that any purchaser will
immediately downsize certain warehouses and distribution
centers with little regard to the social effects. Thus, he
wants to sell TEKEL,s distilleries and six tobacco plants,
then use the PA authority to close down warehouses and
distribution centers using a portion of the proceeds from the
TEKEL sale as severance packages for the displaced workers.
This would supplement the 2001 World Bank-GOT funded
&Privatization Social Support Project,8 which provides $250
million in severance packages to state employees who lost
their jobs. The World Bank funds 70% of this program while
the GOT funds the remaining 30%.



8. (SBU) While Sarisu wants to get rid of TEKEL,s dead
weight, some industry officials claim that he is not going
far enough. Karpat, of Philip Morris, said that if all six
factories are sold in one block sale, it will severely limit
the amount of bidders with deep enough pockets to afford a
bid that might be in excess of $1 billion. (Karpat said that
only Philip Morris and British American Tobacco would be able
to afford all six factories.) More worrisome for Karpat is
the reaction of the Competition Authority (CA). If Philip
Morris were to purchase TEKEL,s six tobacco factories and,
thus, acquire TEKEL,s popular brand names, its market share
would increase from 25% to approximately 85%, possibly
disqualifying it from purchasing TEKEL. Sarisu insists this
is not the case. He said that the solution for Philip Morris
is to form a consortium with other tobacco companies so that
it can delegate parts of the tobacco operations after the
purchase. The CA, which was expected to have three of its 11
board members replaced by the new AK government on March 5,
is expected to rule on the TEKEL tender shortly.


Privatization's Conflict
with Market Liberalization
--------------



9. (SBU) A separate but related issue is liberalization of
the alcohol and tobacco markets. (As a part of the 1996
Customs Union between Turkey and the European Union, various
trade liberalization measures were to be taken, including
elimination of TEKEL's monopoly status for alcoholic beverage
imports, by 1999.) Accompanying the legislation that added
TEKEL into the PA in February 2002 were provisions designed
to protect TEKEL from competition during the tenders process
so that the GOT can command a higher price. GOT officials are
not hiding the motive. &We did it to protect TEKEL to make
it more attractive" for potential bidders, the PA's Sarisu
said.



10. (SBU) On the alcohol/spirits side, the key regulatory
barrier states that, in 2002, only companies whose annual
production, imports or sales in Turkey exceed 1 million
liters will be permitted to import, price, and distribute
their products directly. All other companies must continue
to channel their sales, with the exception of whisky and
champagne, through TEKEL. This high threshold severely
curtailed the ability of foreign exporters to enter the
market independent of TEKEL control last year, as very few
companies could achieve sales in excess of one million
liters. TEKEL itself only imports 400,000 liters of spirits
annually. According to the decree, the 1 million liter
minimum was reduced to 900,000 liters in 2003, and will be
phased out in increments until 2007, when the Board of
Ministers will be authorized to eliminate this sales minimum.
In addition, a number of onerous labeling and certification
requirements have been implemented in the past year.



11. (SBU) Similar provisions exist on the tobacco side. In
2003, the new legislation requires companies wanting a
production license to build factories with an annual
production capacity of at least 2 million cigarettes, which
translates into approximately 2,000 tons; this once again
severely limits entry into the market. The threshold is
reduced to 1 billion, 800 million cigarettes in 2004, and is
again phased out in increments until 2007. In addition, a
number of new importation taxes will make it more difficult
for existing tobacco producers such as Philip Morris and for
any potential newcomers.



12. (SBU) TEKEL,s role as a government regulator has been
transferred to a new alcohol and beverages regulation board.
Staffing for this board has just begun, with nearly all its
personnel former TEKEL employees. The committee will
eventually be comprised of 240 officials, and fall under a
7-person Board of Ministers comprised of political appointees
selected by various GOT ministries. The chairman of this
board, Niyazi Adali, is the former Deputy Director General of
TEKEL.



13. (SBU) Officials of the new regulatory body dismiss
conflict of interest allegations, claiming that TEKEL
employees have more experience in the industry than anyone
else in Turkey. They say that the harsh restrictions at
present are a benevolent way of carefully opening up markets
that have social implications. Board official Fugen Basmaci,
a former TEKEL employee of 22 years, commented that TEKEL had
&a nice history8 since the 1930,s with no counterfeiting
or health problems. She said the board is trying to
liberalize the market, but that &after 70 years, opening the
doors is difficult. We are trying to protect the market from
cheap, unglorified products.8 She added that, in a Muslim
country, the board needs to be sensitive to how alcohol is
distributed.



14. (SBU) Embassy has received complaints about TEKEL's
privatization from U.S. companies in both the distilled
spirits and tobacco businesses. In response, Embassy
officials have raised the issue of protective trade measures
with the PA and the General Directorate of Tobacco and
Alcohol. We have impressed upon the GOT that the current
laws on import of distilled spirits is inconsistent with free
market principles, and have requested that they consider
modifying this law to allow greater transparency and
competition.


Comment
--------------



15. (SBU) Offering TEKEL for privatization as planned this
June will be a good indication of the GOT's reform
commitment, and it will attract serious foreign investor
interest. However, the various justifications given for
extending the company's monopoly privileges until 2007, a
lifetime in Turkey, all ring hollow. They rob the
privatization of some of the efficiency benefits which would
otherwise flow. And as the experience of privatized steel
plant Kardemir shows (see reftel),industry here, whether
privatized or not, remains tied to the state, and often acts
as an instrument of state policy.
PEARSON