India - Small scale industry (Vol. 1 of 2) : Main report

RESTRICTED Report No. SA-33a This report is for official use only by the Bank Group and specifically authorized organizations or persons. It may not be published, quoted or cited without Bank Group authorization. The Bank Group does not accept responsibility for the accuracy or completeness of the report. INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT INTERNATIONAL DEVELOPMENT ASSOCIATION SMALL SCALE INDUSTRY IN INDIA (in two volumes) VOLUME I THE MAIN REPORT May 22, 1972 South Asia Department FILE COPY  Currency Ebuivalents 1 US dollar Rs.e 7.2793 1 Rupee US$ 0.1374 1 Million Rupees - US$ 137,400 1 Lakh of Rupees 108 thousand Rupees (US$13,740.00) 1 Crore of Rupees - 10 million (US$1,3741,ooo) This Report was prepared in the Bank's New Delhi Office by Orville J. McDiarmid, (Resident Representative), Alliam S. Humphrey (Assistant Resident Representative), Jack Derrick (Consultant), Arthur House and James Funna (Economists in the Bank's South Asia Department). Volume 2 of the Report was prepared by the National Council of Applied Economic Research under the direction of Dr. Kasturi of the Council Staff, who also participated in the drafting of Volume 1, as did Dr. Verma of the Small Scale Industries Development Organization of the Government of India. The Bank is grateful for the valuable contribution of Drs. Kasturi and Verna but they bear no responsibility for the conclusions of the report. The field work for this study was greatly assisted by the oollaboration of representatives of the Swedish International Development Authority (SIDA) led by Mr. Lars Erik Bergstrand. We understand that SIDA plans to produce its own report on the aspects of the sector of special interest to it.  SMALL SCAIE INDUSTRY IN INDIA Table of Contents Page SUMMARY AND CONCLUSIONS ..................... . .... . i - viii Place in the Economy and Administrative System ................... i Financial and Other Assistance to SSI ......... ................... iii Supporting Institutions: Non-Financial ..... ..................... v Efficiency of SSI .......... ... .................... vi Requirements for External Finance ................................ vii 1. INTRODIJCTION ...o ................................................ * 1 The Data Base1 Definition and Legal-Administrative Arrangements ......... 2 Form of Organization ...a.., a*......... 1.4,. Employment . 0*00**0*00*0000000000a00004. Output and Value Added ofSSI in Proportion to GNP .........5 Participation in Fxports 5.....5 2. GOVERNMENT POLICY AND OPERATIONS AND SSI .... 9 .SS I Policy and Gkrowth ......... 6 a 9 9 Allocation of Materials ........ .......... ............ ..... 10 Capital Equipment ......... . . .. . .. ... ... .............. *0* * * * * * * a. .. . .14 Taxes ................................. 15 Government Procurement ........ ........................... , 17 Regional Dispersal of Small Industries: Backward Areas ,......... 19 Evaluation of the Regional Dispersal Policy , 21 Ancillary Production for Larger Units , 22 Industrial Estates and Areas: Policy and Practiee , 25 Common Facility Services , 28 Industrial Cooperatives . 30 3. FINPANCING SMALL INDUSTRY ......... .................... . ............. 32 state Financial Corporations . .......... ............. ...... . 32 Industrial Investment Corporations .............................. 38 Commercial Banks ....w...*w.ww.........a*..a..C..e.ewee...ee ...... 38 National Small Industries Corporation 0............................ h Industrial Credit and Investment Corporation of India ........0.... 41 State Governments ..... oe...... ........ 41 IDBI Refinancing .w. . .w. .. . . ......w.4....eeweewe..wewwwew.ee 2 Credit Guarantee Scheme ...w.... w3...... . .w . h3  -ii - Page 4. SUPPORTING INbTITUTIONS: NON-FINANCIAL ............................. Small Scale Industry Development Organization ..................... Small Industries Service Institutes ............................... W4)4 State Trading Corporation and Minerals and Metals Trading Corporation ........5.................. ............. Non-Financial Activities of the National Small Industry Corporation .......47.......................................... State Institutions .......* .......... 48 5. COMPARATIVE EFFICIENCY OF THE SMALL SCALE SECTOR ..................... 50 Capital and Labor Per Unit of Value Added .......................... 51 Products for SSI ......... ........................*......... 53 Management in SSI ....*...... 60 Profitability, Capacity Utilization and Reasons for Under Use of Capacity ..........* 0 * .............. .... ...... ....*. ..... ... ... 62 Sales and Export Performance ...... 65 6. IMPORT REqUIRhmENTS ........*..**............... ... 66 Caterials Eumn*......*....*..*...**.... 66 Capital Equipment .......e@***@*e 4** e 6(  SUMARY AND CONCLUSIONS Place in the Economy and Administrative System i. For socio-political as well as economic reasons the policy of Indin is to favor small scale industry (SSI). To this end a number of incentives such as credit preferences, hire-purchase schemes, and technical assistance have been provided. Although some of the obstacles to growth are inherent in the financial and personal limitations of those engaged in managing the sector, others are clearly functions of a highly regulated economy and of IndLia policies and institutions. This report is intended to describe the sector and recommend steps to strengthen SSI in India, and to suggest appropriate types and channels for foreign aasistance. The Bank was assisted in preparing the report by participants from the Swedish International Development Authority (SIDA), from the National Council for Applied Economic Research (NCAER), and from the Small Scale Industries Development Organization (SSIDO). ii. SSI is an important component of Indian industry. Its more significant features and contribution to GNP, employment and exports are summarized in Chapter 1. Lack of statistical data reduces the precision of our estimates, but it is likely that not much below 50 percent of value added in the manufacturing sector of the country and 7 percent or so of GNP may .riginats in SSI. As early as 1961 five to six million persons were employed in the sector and, since it is fairly clear that growth in SSI during the last decade exceeded that in industry generally, the number may now be seven to eight million. Nevertheless the contribution of the sector to Indian exports has been relatively small. Export incentives have not provided a sufficiently strong stimulus for exporting from a highly protected and thus profitable domestic market. SSI needs improvement in production efficiency, increased availability of raw materials, technical assistance, and improved regulatory mechanisms to compete effectively on an international basis. iii. SSI is defined to include industrial units with up to Rs. 750,000 invested in plant and machinery (or Rs. 1 million in the case of ancillary industries). Cottage industries are not included. Both the upper and lower limits of SSI are probably rather elastically defined in practice. Despite some of the difficulties which small units have in operating under compleex controls (and sometimes with the procedures of the plethora of public agencies set up to help the sector), it seems generally better to be classified as within SSI if you are not large enough to afford the overhead costs inherent in coping with the control system. iv. India's industrial licensing policy (as distinct from its import control procedures) has favored SSI by reserving certain products for small scale units. There are at present 128 product lines set aside for SSI production. Greater economies of scale would probably not be realized in larger units for most of these products, but economies in raw material purchases, marketing, and management would be greater. Such further  - ii - economies are normally offset by lower SSI wages. At least profits (see para. 217 below) seem to be higher than in larger units. Of course as might be expected where partnerships are the dominant form of business organization the line between profits and wages of management is not as clearly drawn as when management and ownership are separate functions. The partnership form leads to highly personalized management and direct attention paid by those who own the unit to its production problems. A feature of the partnership form is that the financial records are within family privacy thus increasing the difficulty of analy2ing the sector. v. Most entrepreneurs in SSI appear to come from the commercial classes or other more affluent sectors of society rather than from the antisat, or technically trained groups. The program to provide special iicentives for the latter to start small industries has made little progress. vi. The overall tax system does not relate effectively to SSI. Th State and interstate sales taxes and the octroi tend to act as impediments to marketing, while the partnership protects the often comfortable pools of profits generated. The development rebate has in several instances been a useful incentive and is perhaps unwisely to be discontinued, while the less effective tax holiday is to be continued. vii. The policy of reserving certain product lines for exclusive production by SSI units has made some contribution to the sector's growth. On the other hand, production in a number of the reserved products is relatively small. Many other products for which SSI output is quite large can be and are produced by medium and large scale industries as well. Nor is it clear on what basis the selection of reserved products to be resern- is made. viii. As the Government of India has recognized, the present procedures for allocating raw materials to the sector need to be improved. The system now usually employed of basing distribution of imported raw materials on the value of machinery used has no economic or other justification (except bureaucratic simplicity), contributes to the creation of idle capacity, and favors capital intensive units rather than encouraging employment. The Mission concurs in the recommendation of a GOI Committee (Balachandran Committee) that allocation based on capacity in accordance with norms for each industry category would improve the system. ix. The industrial estates program has been only moderately successful in urban or semi-urban areas, but not in the case of rural estates where infrastructure is missing. A review of the entire program with a view to identifying its major difficulties and suggesting new solutions would be desirable. Over 500 estates had been sponsored by the end of 1969. The provision of adequate common facilities on estates demands urgent attention. x. Government efforts to disperse industries regionally have not been successful. The main explanation for lack of success is the undue emphasis on promotion of the most backward districts instead of concentra- tion of resources on development in regional growth centers where chances of success would be enhanced by better access to markets, common facilities, and other location economies.  - iii - xi. Government has sponsored a number of other operations intended to aid the growth of SSI. The encouragement of units ancillary to large factories has helped solve three of the major problems facing SSI: product design, marketing, and quality control. With improved and expanded ancillary exchanges to make available production information, and with provision for some diversification from one bqyer, an ancillary could improve its stability. Another useful effort is the provision of common facilities by the Small Scale Industries Development Organization (SSIDO). Common facility centers, especially in a region of product specialization, can make available requisite but costly equipment which one unit could not normally afford. Such services could be extremely valuable in adding to efficiency, quality of production, and export potential. There is considerable room for upgrading and enlarging these facilities. For a number of reasons discussed in the report, the industrial cooperatives have generally not been successful but sometimes offer needed services. However some of the cooperatives servicews are also provided by government organizations. After reorganization and setting of priorities, cooperatives could assist in raw material supply, technical advice, and marketing. Finally, the policy of reerving certain products for Central Government purchase exclusively from SSI units has nLot affected the pattern of purchasing and could well be discontinued. Financial Assistance to SSI xii. On paper at least India is well equipped (and in some respects over-equipped), to meet the needs of small scale industry. However this is perhaps less true in the financial than in the more general service fields. This report deals principally with the provision of med:ium and long term rather than working capital financing. A previous Bank Mission had examined the possibility of providing foreign funds to the btate Finance Corporations (SFCs) through the Industrial Development Bank of lndia (IDBI) as the apex institution. In view of the work of that mission arnd since about 70 percent of SFCs' loans are to SSI, we did not go as thoroughly into the SFCs as otherwise would have been necessary. xiii. The two likely possible channels for additional foreign financing are the SFCs and the commercial banks notably the State Bank of India and its subsidiaries. The other possibility, namely the National Small Scale Industries Corporation (NSIC) which provides pieces of equipment for SSI under hire purchase arrangements, seems neither functionally nor organiza- tionally well equipped to appraise projects in their entirety. In fact it depends largely on other organizations for appraisals. It seems self- evident that appraisal and loan functions should be combined in the same agency. xiv. In those States where the SIC.are efficiently run and have a broad area coverage they are probably the best source of term lo,ans to SSI. This is certainly true in such States as Gujarat, Maharashtra, Punjab, Haryana and perhaps Uttar Pradesh and 1Vsore. Nor wouldL we rule out other States with weaker SF0s but would suggest that the "free limit" (the right by the SFC to loan up to a certain amount such as Rs. 200,000  - iv - without review of the project by the apex institution or the foreign lending agency) be set at a nominal amount for such States. The weaknesses of the SFCs are lack of coverage (the majority have no branch offices), lack of adequate appraisal facilities even in respect of the financial and technical aspects, and reliance on the Small Industries Service Institutes (SISIs) for appraisal functions which the latter are often ill-equipped to provide. Economic appraisals in the sense of economic rate of return analyses and the like are not (or very rarely) done for SSI projects in India. The overdues of the SFCs are about 18 percent of outstanding loans but judging from the experience of the Credit Guarantee Corporation bad debt write-offs have been small up to the present time. xv. Even in the field of term lending the commercial banks are in the aggregate more important than the SFCs (Rs. 760 million of term loans to SSI up to December, 1970 as compared with Rs. 577 million by SFCs up to September, 1971). The State Bank of India (SBI) has long been active in this field. We suggest that SBI or its subsidiaries (such as the State Bank of Travancore in Kerala) be used particularly in States where the SFCa are manifestly weak. The fact that SBI has numerous branches through- out the States is a strong point in its favor. Other commercial banks are also active in the term lending business, but there are obvious advantages in concentrating on the SFCs and SBI. IDBI could serve as the apex institution in either case as it is well equipped for this task. xvi. Many small industrialists claim that they have difficulty raisin. working capital from comercial banks when they had term financing from the SFCs. There is obvious need for coordination between SFCs and the commercial banks. Coordination could mean working together to appraise a project from a single project document submitted by the applicant. The two could split loans for their convenience, i.e. a loan for fixed assets from the SFC and for working capital from the commercial bank. Commercial banks should be encouraged to make a package loan with an entrepreneur who prefers to deal with one institution. xvii. There is room for considerable improvement in the financial and technical presentation of projects. Entrepreneurs generally need assistance in presenting complete and convincing projects, and the financing agencies need greater expertise to assess and help improve submitted projects. The criteria used for judging new projects ought to be reviewed and refined by IrBI. The marketing aspects of projects are too often left out of reports or are poorly covered. The Small Industry Service Institutes (SISIs) should progressively be discharged from the duty to submit technical reports (which are not usually of good quality) in connection with project appraisals for the financial institutions. xviii. More emphasis should be given to the financial requirements of sophisticated units. With the introduction of advanced technology into some areas of SSI, such as the electronics field, resources should be set aside for their particular requirements, including venture capital, technical assistance, market surveys and preparation, and research and development.  - v - More advanced companies in SSI would benefit from the availability of risk capital to reduce the debt burden. As most units are partnerships or sole proprietorships, the provision of risk capital is difficult. The GOI is considering promotion of limited partnerships whiich would permit equity participation; such a formula might be useful to enable more capital ventures. If the protection now afforded SSI were reduced, those units which had ventured into more competitive lines would be in a relatively stronger position. xix. NSIC must consider very seriously the general dissatisfaction with its services and streamline its bureaucracy to give the sector better service. It could benefit from decentralization of its bureaucraLtic structure, perhaps working with more regional offices at the State level with the Central offioe giving policy guidelines and quotas. By restricting license priorities it may be possible to reduce the excessive waiting time for purchase of machinery and thereby the uncertainty of production planning for small scale units. The GOI might consider increasing the proportion of free foreign exchange available to the NSIC to enhance its flexibility. In order not to increase idle capacity in SSI, a supply of imported machinery from NSIC could be combined with assured licensing of raw materials for a future period through normal channels. Supporting Institutions: Non-Financial xx. In India with the plethora of government controls and regulations and the shelter afforded thereby, there is particular need for providing technical aid to SSI if it is to play a significant role in export expan- sion and at the same time raise the generally poor quality of domlestic supplies. An adequate service system to promote the development of small scale units requires both provision of technical assistance and a working division of labor and responsibility among Central, State and local autho- rities. The organizations serving SSI provide - atleast on paper - for most needs. In fact India has been a pioneer In this field. The problems are mainly the low and indifferent quality of service, and this goes back to the capacity and remuneration of those rendering it. The quality differences between the institutions in the States is unaccptably high. tkiits in several regions, among them some of the most backward areas, have to make do with technical and economic services below the national standards. The Small Scale Industry Development Organization (SSfIDO) is concerned with the import control system for SSI, identifies export possibilities, and oversees the Small Industries Service Institutes (SISIs) in each State. The SISIs, with branch and extension centers, work in cooperation with the State Directors of Industry to provide training, and advise on technical processes, designs, and the use of modern machinery. xxi. Each State has a Directorate of Industry and a corporation created by the Directorate to promote industrial development and to further the commercial aspects of manufacturing. The main activity and principal problem relating to SSI is the procurement of raw materials. The Mission found the Directors of Industry to be generally a competent  - vi - group, being all members of the Indian Administrative Service. But the specialists that work under them find promotion blocked by the predominance of IAS people at the top. xxii. Most of the service institutes have had to concentrate on the promotion of new entrepreneurs or on units with acute problems, often to the neglect of the more sophisticated companies. A more technically advanced firm with a specific problem is not likely to find specialized assistance from an SISI. Nor do units using advanced technology meet their needs for research and development either on their own, through the SISIs, or through the National Laboratories. In the training provided to SSI, there is considerable need for education in business managevent, basic finances, project presentation, and banking. Such areas are especially weak among the technician-entrepreneurs whose weakest point is lack of business knowledge rather than m&nufacturing acumen. One of the principa]. addition* required to improve the quality of SSI products, and an area where foreign credits could be useful is in testing capability. Regions having a specialized group of related products could insure higher quality and improved chances of exporting by use of testing equipmient which is normally too expensive for any single unit to purchase. Instead of con- centrating so much on the creation of new units, serious attention should be directed to increased efficiency by upgrading technical and managerial skills in existing units. To strengthen competition in the domestic market, it would be possible to make better use of the price mechanism in the allocation of scarce resources such as certain machinery and raw materials. More efficient units could be rewarded by tightening up the criteria for financial support to small scale units. xxiii. Two areas which need improved service are marketing and export promotion. The NCAER found that only 8 percent of its sample units exported part of their output in 1969/70; SSI share of annual exports during the same year was about 5 percent of non-traditional exports of manufactured goods: a small share compared with SSI's part in total industrial output. The major obstacles to increased exports are quality of production and marketing. Within India there is scope for better information on market conditions, more effective selling of certain Indian products, and tying business management to the entire realm of optimum sales potential. Efficiency of SSI xxiv. The common view of an SSI as a highly labor intensive unit using primitive methods to produce rather crude products is not generally accurate in India. Wkhile the amount of capital required to employ a worker in SSI may on average be about half that in medium sized units this varies strikingly over the range of industries covered by the NCAER and SSIDO studies, indicating that the product mix may be more important in deciding labor (and also capital) intensity than the size of the unit per se. There appears to be a significant correlation between the value added/capita] and value added/labor ratios indicating that where capital is used  - vii - effectively labor tends to be used efficiently also. Although the analysis is Chapter 5 is in terms of market prices we believe that the introduction of shadow pricing would further support rather than change our conclusions that SSI is a part of Indian industry that compares well with the rest of the manufacturing sector and merits encouragement and financial support from abroad. xxv. A ranking of SSI units examined by NCAER is made in Table 4 of Chapter 5 (page 58) using the above mentioned ratios as well as profit, export capability, and capital intensity per worker as the criteria for ranking. This analysis suggests the need for examining the appropriateness of the reserved list (128 product lines) for SSI particularly insofar as plastics and paints and varnishes are concerned. The small size of our sample however, precludes any final conclusion on the matter of industry ranking. The general profitability of the SSI units studied (31 percent on capital) in the face of the low utilization of capacity noted below is striking as is the favorable average value added/capital ratio of just under 0.5 (gross capital/output ratio of about 2). xxvi. The Mission found great disparity between the levels of management and use of technology within the sector; the range was from excellent by international standards to quite low. In SSI units, management tLs a personal affair, and the quality of the owner/manager is of critical importance. Far too many units had very little knowledge of financial management. The entrepreneurs interviewed were clear in their priorities: namely to produce an acceptable product and to remove external constraints, principally shortages of raw materials and finance. Management needs assistance in three main areas: financial and operating controls, marketing, and quality control. xxvii. The overall financial structure of SSI is sound. The clebt/equity ratio of many smaller units is high but the weighted average for units studied was only 1:1. With high profit margins, servicing debt presents no problems. Some of the debt is to partners or friends and relatives, so that the interest is kept within the "family" and the line between debt and equity becomes rather blurred. The ratio of working capital to fixed assets and to value added is low compared with larger companies. For working capital requirements would be even lower except that inventories are comparatively high in relation to sales. Surprisingly however the sector as a whole is able to finance its sales credits (receivables) from its payables to its suppliers. Apart from raw material shortage the main problems of the sector are effective selling and quality control. These have both been overcome in the ancillary units surveyed. Requirements for External Finance xxviii. Thanks in part to GOI's import substitution policies, SSI depends largely on local capital goods. The capital equipment import needs of SSI units are low in absolute amount and in proportion to the sector's output. The NCAER sample indicated that only about 16 percent of the  - viii - capital equipment of the units visited was imported. Yet some of the most productive firms do need imported specialized machinerh and in general there has been too little capital channeled through too cumbersome a bureaucracy to serve the needs of those who must have foreign machinery. However assuming the continuation of present policies (particularly "indigenous angle clearance") we would place the foreign equipment needs of SSI at $ 10 - 20 million a year with such evidence as we have pointed towards the lower portion of that range. Thus loans confined to foreign exchange credits would probably disburse slowly. Additional common service facilities either on or off industrial estates are needed, and financing for these as well as specialized technical assistance to strengttei, the SISIs might be considered where adequate organizational arrangements can be made. For this purpose a modest amount of local currency financing would be desirable. xxix. The most obvious and productive use of foreign financing is for materials and components. The NCAER study showed that 34 percent of the units examined were receiving less than 30 percent of their material requirements and 70 percent less than 60 percent. Nevertheless the requirements of SSI for imported materials in 1970/71 was about $ 140 million. In that year about 52,000 out of the 192,000 registered small scale units received import licenses for raw materials and components. XXX. It is estimated that import licensing for SSI in 1971-72 will amount to about US $ 172 million. Imports of raw materials and components for SSI would have to increase to about US $ 340 million to enable a level of capacity utilization of about 90 percent.  CHAPTER I INTRODUCTION The Data Base 1. The only comprehensive data on Indian industry includirng the small scale sector (SSI) is the Annual Survey of Industries (ASI), and the latest published compilation of ASI data is for 1965. The Industrial Production index is kept reasonably up to date, but it does not include SSI. New industries registering under the Factories Act of 1958 are required to provide certain data on expected investment, output, etc. In addition various sample surveys have been taken by the Small Scale Industries Development Organization (SSID5) mainly aimed at measuring production in the sector. The special advantages of being classified as a small scale entw.priee - such as preferential credit facilities - have increased the ratio of registered to unregistered units, but the voluntary form of registration has not increased the availability of current industrial data. 2. Estimates of the rate of increase in per year value added by the sector are made by extrapolations on the basis of samples. The S3ID0 complied data for 1967 and 1968 which showed that production increased in SSI by 17 percent per year in real terms. In 1970 the SSIDO surveyed 197 units in 15 manufacturing categories and concluded that allowring for the inflation of prices the value of production had been increasing at the rate of 11 percent for the "last few yeara." The mid-term apipraisal recently issued by the Planning Commission has indicated that SSI may not now be growing much faster than industry generally. 3. The lacunae in the data on the sector since 1965 prompted the Bank in 1971 to Commission the National Council for Applied Economic Research (NCAER) to conduct a sample survey of about 150 units in 22 sectors. This survey together with a special data collecting exercise of SSIDO on other units in the same product lines are the bases for much of this report. The NCAER study is reproduced in Volume 2. Since it was done with a well prepared questionnaire and by means of personal plant visits by trained interviewers, we consider it presents the best analysis of a relatively small but representative group of the better of the small industries that iJ available in India. It also provided certain benchmarks for comparison with the findings of the Bank/SIDA Mission. The Mission was assisted by officials of NCAER and SSIDO who had been responsible for the studies of their respective agencies. 4. India is particularly well supplied, at least as far as numbers or organizations are concerned, with institutions dealing entirely or to a large extent with the promotion of SSI. The names and functions of these agencies at the Center and State levels is given in the tabulation in Appendix Table 1. Their performances are appraised where appropriate in the report and recommendatioms are made for their strengthening or other treatment.  - 2 - 5. A principal objective of this study is to appraise SSI for possible Bank/SIDA lending operations and to examine the channels through which such assistance might be provided. Technical assistance and advisory institutional requirements are also considered. With these end in view a selective approach was taken in the NCAER study and the Mission's own work both in respect to the plants visited and the information sought. Definition and Legal-Administrative Arrangements 6. In 1960 the small scaLe industrial sector was defined to consist of those industrial units which had capital investment of not more than Rs. 500,000. Capital investment was defined as fixed assets such as land, buildings, machinery, and equipment. In 1966 the definition was revised to enlarge the sector; this definition is still in effect. By it all industrial units with capital investment of not more than Ra. 750,000 in plant and machinery, irrespective of the number of persons .uployed are considered swall scale. For ancillary industries the upper limit is Rs. 1 million.17 7. There is no requirement of permission from either the Government of India or from State Governments to establiah a small scale unit, although various operational permits are required. For example, in Bombay a unit requires 25 permits from the city corporation, the local fire brigade, and other agencies. In addition, licenses are required for importing machinery and raw materials. Both require the support of the State Director of Industries. His asaistance is also needed for the allocation of scarce indigenous raw materials. A list of products is reserved exclusively for manufacture in SSI. The current list is in Appendix Table 2. The policy of the Government of India has been to extend reservations to the small scale sector where there was capacity in that sector to produce at reasonable prices and quality. In February, 1971, 73 items were added to the reserved list, bringing the total to the current 128 items. 8. A small scale industrial unit registering with the State Director of Industries is subject to the provisions of the Factories Act of 1948. This act was passed to govern the conditions of employment of industrial labor. It has provisions concerning health, safety and welfare, hours of work, employment of young persons and women, leave, occupational diseases, and penalties. Factories employing 10 or more workers with power or 20 or more without power are subject to this legislation, but State Governments may apply the provisions of the act to any manufacturing unit with or 1/ An ancillary unit is defined as a imit which produces parts, :oippoents, subassblis ad/or tooling for one or more large units which manufactures or assenbles complete products, and which is not a subsidiary of or controlled by a large unit in regard to the negotiation of contracts for supply of its good to such large units.  without power, except for a completely family enterprise employbig no outsiders. During the Bank team's visits to the various States, it was apparent that certain units employing fewer than ten workers maintained dubious health conditions but were not controlled by the Factories Act. 9. Although a unit is not obliged to register with the State Director of Industries, a number of benefits accrue therefrom, and voluntary registration is increasing. Registration entails description of the machinery installed and its capacity, the products manufactured, and the main raw materials used, as well as information concerning the arerage daily number of employees during the last year, and the investment as of the closing day of the last accounting year. There were 35,728, 90,060 and 146,276 registered units at the end of 1961, 1964, and 1968 respectively. At the end of 1970 the number was 190,825. SSIDO has estimated that the number of units is growing by about 10 percent per year. However this is no indication of the growth of SSI since incentives for registration of old and new units have increased over the years. Registered units are geographically scattered. Of the 190,825 registered units by December, 1970, 182,1441 were located in only 12 of the 22 States and Union Territories. Two-thirds of the total, or 125,960 units were in aix States. Growth in total registration does not accurately reflect growth in employment or in output. Appendix Table 3 shows the statewise distribution of small scale units from 1961 to 1970. 10. It is opportune to consider if the definition of a smaLl scale unit is appropriate for the optimum development of the sector. In some countries the definition is baBed on both investment and employment.-/ By defining the sector in terms of inveatment only, India emplicitly may be favoring labor intensive units. In the units the Bwnk/SIDA Kission visited, the number of employees varied between 20 and 516 with a median of 57. The NCAER study showed an average of 54 employees per unit. These unita were far larger than the average of 19 employees per unit for all units registered with the State Directors of Industry during 196%9. Several industrialists suggested to the Mission that the investment limit to qualify as a small scale industry should be raised. In the Mission's view there are some good reasons for enlarging and possibly subdividing SSI. The difference between the organization of a unit employing 10 workers and one employing 500 is considerable. But subdivision to have meaniag would require the establishment of a fresh set or sets of preferences, and would increase the bureaucratic encunbrance of regulations applying to the sector. One approach that merits careful consideration is to fix different ceilings for different industries. Ancillary units already receive special treat- ment in this respect. For example, in the engineering industry installation of sme high precision machines could improve quality and productivity but might raise plant and equipment investment above RJ. 750,000,thus possibly penalizing their use. In practice however a unit, once started is small scale, seems to stay in that status even when its investment is manifestly over the limit. The sponsoring authorities are reluctant to let a successful unit pass out of their purview, and the units display ingenious ways of avoiding reclassification out of the sector. 1/ Japan defines a small scale unit as having less than 50 million Yen (Rs. 984,000) of investment or fewer than 300 workers.  Form of Organization 11. The dominant form of SSI ownership is the partnership. Six-sevenths of the units surveyed by the Bank Mission were partnerships, with the remainder being sole proprietorships and, quite rarely, private limited companies. Partnerships tended to be family or in some cases close-friend organizations with two-thirds of the units having between 3 and 6 partners. Usually there were two kinds of partners: those actually running the plant, and inactive (sleeping) partners. The personal and private style of management found in most small scale units related directly to ;he predominance of partnerships. 12. In spite of the desirability of and program for drawing V all scale entrepreneurs from successful artisans and owners of cottage ndustri s the Mission encountered no example of such evolution in its visits a..id interviews. The typical SSI entrepreneur comes from a comnercial family which has decided to invest some of its savings in manufacturing. To this end a father may have given his son a technical education and provided some capital to start a factory. In ancillary industries, the owner has often been a foreman or production supervision in the big plant, but even in these cases he usually had access to family funds. 13. The Bank/SIDA Mission collected information on debt/equity ratics in the plants visited. There was a considerable difference between the numerical average of the debt/equity ratios and a ratio reflecting the sum of total debts for all units visited against the sum of equities. The unweighted averaged was 1.86: 1, and the weightad 1 to 1. Thus while the ratio for the sector as a whole had an acceptable proportion of risk capital, some smaller units had a very heavy burden of debt (thus raisir, the unweighted average), a situation only healthy in the context of high profit margins. Employment 14. The 1961 census showed that some 20 million people were employed in the industrial sector. Large scale industry accounted for 2.2 million, the household sector for 12 million, the registered small scale uits for 1.4 million, and unregistered small scale units for 4.4 million./ Data from the 1971 census is not yet available. 15. The SSIDO collects data on some SSI units, but not for rice and oil mills, sugar and molasses factories, and spinning and weaving mills. W%hile it is not possible to indicate what percentage of SSI labor force is included in the SSIDO figures, their records show that for their constituents employmei rose from 2,680,000 in 1965 to 2,973,000 in 1966 to 3,343,000 in 1969.-1 Appendix Table 4 shows the industrywide employment for those small scale units registered under the Factories Act (as compared 2/ IBRD/IDA: Economic Situation and Prospect. of India. New-Deli. 1971, Volume 1, The Main Report, page 137. v/ These figures are taken from Small-Scale Industries At A Glance by the Development Comiuissioner, Small-Scale Industries, Ministry of IndustriaJL Devvlopment, published in New Delhi (1970) and in Calcutta (1971).  - 5 - with medium and large scale units) in 1965. In that year the small scale units registered under the Factories Act accounted for 41 percentl of employ- ment in the factory sector. Output and value added of SSI in Proportion to GNP 16. There are no reliable statistics on many key characteriLstics of small scale industries in India as noted above. For a rough indiLcation of the contribution of SSI to the national income, one must refer to national accounts data. Here value added by manufacturing establishments is estimated separately for registered and unregistered units and not by size categories. The former encompass all factory establishments registered under the Factories Act [948) whether small, medium or large. The latter include all units not registered under the Factories Act as well as manufacturing and processing activities undertaken by household and non-household units alike., Inljhe absence of disaggregated data, we assume that the unregistered sector together with the small factory establishments of the registered sector roughly constitute the small scale sector for the purpose of estimating output and value added. The estimates thus obtained will not strictly reflect output and value added in the SSI since not all unregistered units are small scale. We are satisfied however that the orders of magnitude obtained from this approach are roughly correct. 17. According to Annual Survey of Industries (ASI) data, thLe annual growth rate of output of the unregistered sector during the 1960s was 13 percent (at current prices) reaching a level of Re. 16,940 million in 1969/70. The output of the registered sector over the same period increaseid at about 14.6 percent annually attaining a level of Rs. 24,830 million in 1969/70. 18. In 1965, the latest year for which complete information is available, the contribution of small registered factory establishments to total value added in the reRistered sector was 19.6 percent. If we assume the contribution of small factory establishments to be 20 percent, that of the registered sector, this plus 100 percent of the output of the unregistered sector in 1969/70 would amount to Rs. 21,906 million for SSI. This would represent 52 percent of value added in the entire manufacturing sector in 1969/70 or around 7 percent of India's net national product in that year. Participation in Exports 19. India's exports have grown quite slowly with an export growth rate of only 3