Insane sweat equity by our private hydropower developers.

It requires a tremendous amount of time, money and effort to reach the project at operational level from inception. So many risks along with a deep fear of uncertainty always exist. These risks have to be borne by the developers. 

In return, private developers are charging a hefty amount of sweat equity. Some may call it free equity or owner's equity or construction benefits. Whatever the term is, it is developers' compensations for their sweat and blood. This is what developers say.

What do acts and policies say about it?

Hydropower in Nepal is governed by Electricity Act  Hydropower Development Policy Water Resource Act Company Act Income Tax Act. Within this periphery, hydropower developers have to construct and operate a project. 

All the acts and policies are silent in this matter except Company Act 2006. Under the section 18 (Memorandum of Association) of Company Act 2006, the procedure for payment of shares is described. 

The clause (a) of sub-section (2) of section 18 states “If the promoter or any other person is entitled to subscribe shares or acquire title thereto in any manner other than by making payment in cash, such matter shall be stated in memorandum of association”. 

In the sub-section (3) of section 18, “In subscribing shares or acquiring title thereto by the promoter or any other person in consideration fit other than cash payment as mentioned in Clause (a) of sub-section (2), in the case if a public company, such consideration other than cash shall be caused to be valuated by an engineer or accountant holding certificate to conduct valuation work under the prevailing law.”

Further sub-section (4) says “The criteria for the valuation of any property pursuant to sub-section (3) shall be prescribed; and unless such criteria are prescribed, the person valuating such property shall mention the criteria employed by him/her to valuate the property.”

It is clear that the only way to claim such shares during construction is by doing valuation from the concerned authorities provided that such provision is mentioned in company's memorandum of association.

The actual scenario.

No developers are following this path in reality. Financial discipline is grossly lacking. The amount of free equity private developers are recording is not justifiable by any means.

Having worked with various private developers, I have seen them charging as high as 20 percent of the total project cost. Some are distributing 40 percent bonus shares (promoter shareholders only) before the project is actually completed.

How can anybody distribute bonus shares during construction?

There are instances where developers have held the majority stake just from the so called "sweat equity". 

How do they do it?

a) Fake Bills

It is the main way of showing their equity contributions. Whenever the developers try to control the cement and reinforcement by themselves, something is fishy in my opinion. This is where they can play with the fake bills. I am telling this from my experience. 

b) In the name of CSR

Environmental and social mitigation cost is another major heading where developers escalate the cost in order to make their own equity. 

Every project has to contribute towards the social development of the project area in order to be accepted by the local people. Construction of local roads, school buildings, tree plantation and so on come under this heading. This is acceptable. But this is also the heading that is less transparent.

I have seen developers claiming millions of rupees for opening a simple track road. All they have used is their excavator. A layman can understand that their claim is irrational if he or she sees the quality of track.

c) Over Invoicing

Over invoicing particularly in Electro-mechanical equipments is also practiced by many developers. This method is fairly popular with Chinese machinery. Money laundering is inevitable in such case.

d) Personal Interest

Most of the hydropower developers in Nepal come from the background of construction business. Some are contractors, some are cement and steel suppliers or manufacturers and some have their own penstock manufacturing companies. There is nothing wrong in it as long as the managements of related companies are different. 

Our Company Acts 2006 clearly states that “a person shall not be eligible to be appointed to the office of director who has personal interest of any kind in the business or any contract or transaction of the concerned company.”

But almost all developers are neglecting this clause. They hold the position in both the companies. Hence, the transaction between these companies is less transparent and doubtful.

Above are the popular methods used by our private developers to record their insane amount of sweat equity. On top of that, hiring family members and relatives in the top management with exceptionally high salary and perks regardless of the academic qualifications and relevant experiences is quite a common phenomenon.

Are the concerned authorities aware of this activity?

a) Government

I do not think that the government is unaware of this activity. It looks like it is perfectly okay for the government as long as the private developers help to solve the energy crisis in the nation by generating additional electricity. 

On top of that, no developers in Nepal can construct hydropower projects without a strong political back up. This is sad but a stark reality. Now we can understand why government is turning a blind eye in this matter.

b) Banks and Financial institutions

Banks and financial institutions are also not able to control this mechanism for number of reasons despite being the major investor. 

First, banks in Nepal do not have the "know how". Most of the banks in Nepal lack in-house hydropower specialists. They simply hire external consultants (technical and financial) for design and bill verification. 

However, these consultants tend to be more loyal towards developers rather than the banks and financial institutions which is very funny. This is my experience.

Second, the main concern of banks and financial institutions is protecting themselves. Banks do its analysis and lock the line of credit. Any cost overruns due to whatsoever reasons have to be financed by the promoters. 

Banks always do the safe landing. From Personal Guarantee to compulsory reserves, they throw everything to make their loan and interest secured. My past experience says that banks do not interfere at all as long as they believe that their loan will be repaid with interest.

c) Inactive Promoters and Public Shareholders

In many cases, these promoters and public shareholders are unaware of developers' intention. These people do not understand that the project will be actually constructed from their money along with bank’s loan while the developers are there to enjoy sweat equity.

There is a provision in the act regarding report and investigation. The act says, “On the receipt of information that the business or transaction of the company is being carried on to defraud the shareholders or creditors of the company or otherwise for a fraudulent or illegal purpose or it is carrying out acts against public interest an inspectors shall be deputed to investigate.”

However, the inactive promoters and the public shareholders are helpless. Even those investors who are well-versed with the situations and laws are not doing anything to stop them. The main reason is the lack of confidence in government and its legal system. People are afraid that their investment might be in jeopardy when their own project and the developers are dragged into the court. 

My views

First of all, we have to understand the difference in “constructing hydropower rapidly by whatever ways to solve the energy crisis” and “constructing hydropower in ethical ways”. I support later.

The devastating earthquake and its hundreds of aftershocks have taught us some valuable lessons. Without strong foundations, buildings will collapse. The same can be applied in hydropower too.

Hydropower is emerging as a game changer in Nepal. The charm will fade away eventually if do not create a strong foundation for hydropower development in an ethical manner.

Having said that, I am not against the idea of sweat equity. I understand the pain in constructing hydropower project in Nepal.

In this horrible economic climate with no proper incentives, private sectors have managed to supply about 33.15% of the total hydro-electricity. This is a commendable job.

So I believe these developers have to be rewarded properly. But there should be limitations and transparency. The intention of developers to sihpon off a huge amount of money in the name of generating electricity has to be stopped.

See the related post HYDROPOWER IN NEPAL FROM DEVELOPERS' AND GENERAL INVESTORS' PERSPECTIVE.