Government plans to expand Kuwait's industrial sector

 

The state-owned oil industry is by far the largest sector in Kuwait’s economy, representing more than half of GDP, 95% of exports and roughly four-fifths of state revenues. As oil and its byproducts are used to make more than 300,000 products globally, the country’s petroleum-based industries and petrochemicals hold significant growth potential. By comparison, non-petroleum industrial manufacturing is limited, as Kuwait lacks many of the natural resources necessary to establish alternative major industries.

Relative security, political stability, economic performance, infrastructure projects and proximity to labour markets in Asia are all positive factors supporting the growth of Kuwait industry. However, challenges include its domestic market size, limited supply of industrial land, production costs and considerable licensing and permitting issues. Recently announced government plans to boost Kuwait’s industrial output by 25% in the next few years bodes well for sector growth, yet some stakeholders have called for deeper regulatory reform to further stimulate industrial investment.

Sector Structure

The Public Authority for Industry (PAI) is the primary sector regulator in Kuwait. It is charged with developing the country’s national industrial strategy, encouraging the participation of local industries, expanding the production base and allocating industrial land sites. Established as a public entity under the Industry Act No. 56 of 1996, the PAI is guided by a board of directors and chaired by the Minister of Commerce and Industry.

Article 20 of the constitution stipulates that the Kuwaiti economy is a partnership between the public and private sectors. To realise this vision, the government often takes a business-friendly approach to development of industry, prioritising foreign investment, enhancing partnerships between the public and private spheres, and enacting privatisation programmes.

Total industrial investment in Kuwait in 2016 amounted to KD4.2bn ($13.9bn), according to the PAI, with the sharpest increase in new enterprises coming from the non-metallic mining sector. The largest industrial segments by output in the country are metal products, chemicals, petroleum products, coal, rubber and plastics. These industries rely on locally available oil and gas as feedstock and are capital-intensive, but they have low dependence on human labour – a model well suited for a small, rich country.

Licensed non-oil industrial enterprises include those that satisfy the basic needs of the population – such as the production of bread, water bottling, electricity, vessels, maintenance and repair, and oil and maritime services – along with others directed at export, given the limited size of the domestic market. However, even with a small home market, government infrastructure and housing projects have created opportunity in the local manufacture of building materials and furniture. Export-focused industries include leather tanning, paper, prefabricated steel buildings, electrical cables and metal pipes. Most of the country’s industrial machinery, processed foods, manufacturing equipment and consumer goods are imported.

Development Strategy

The government of Kuwait has long recognised the importance of a clear strategy for industrial development. Through institutions like the 44-year-old Industrial Bank of Kuwait (IBK) and the PAI, the state plays an active role in determining the suitability of certain sectors and fields of industrial activity given local conditions, while also adjusting regulations to encourage and promote development. Mohammad Al Ajmi, the director-general of the PAI, puts the sector’s current GDP contribution at 9%, and in September 2016 he announced the authority’s plans to boost industrial output by 25% in the coming years.

Industrial expansion is a particularly urgent issue in light of persistently lower oil prices. Like its Gulf peers, Kuwait has been affected by the drop in oil prices. The country ended its run of 16 straight years of fiscal surplus when it posted a budget deficit of KD4.6bn ($15.2bn) for the fiscal year ending March 31, 2016. A January 2017 report by the IMF concluded that lower oil prices may negatively impact investment, and slow down capital and labour contributions to growth.

This situation has prompted the government to launch a host of economic reforms aimed at diversifying sources of state income, enlarging the economic base and laying the foundation for building an economy based on high-productivity finance and service industries – rather than oil – as the main source of income. Long-term development priorities in Kuwait’s 2035 strategy, New Kuwait, are reflected in 164 programmes, projects and initiatives intended to transform the country into a centre for finance and industry. These include increasing foreign direct investment (FDI) three-fold, developing $100bn worth of infrastructure through public-private partnerships (PPPs) and enhancing Kuwait’s position as a global centre for petrochemicals production (see analysis). “The region’s competitive advantage in petrochemicals is our lower energy and feedstock costs,” Mahmoud Al Qattan, CEO of Kuwait Aromatics, told OBG.

Short- to medium-term objectives are reflected in the five-year Kuwait Development Plan (KDP) 2015-20, approved in February 2015. The plan includes more than 92 new initiatives, in addition to 420 projects rolled over from the partially implemented first development plan. A key element of the current KDP, according to the IMF, is the proposed use of PPPs to finance investment projects worth $27.6bn (24% of GDP) following the adoption of a new PPP law in 2014.

The bulk of this spending will be driven by the country’s infrastructure agenda, with industrial investment – particularly in the high-potential chemicals and plastics segments – playing a key role in economic diversification. “The industrial sector was stagnant for a long time, and I see that the government is now again focusing on activating the sector through their development plans,” said Hussein Ali Al Kharafi, chairman of the Kuwait Industrial Union (KIU). “This is one of the advantages of the decline in oil prices, which is affecting government expenditure and the economy and pushing the government to assist other sectors.”

Incentives

The state offers investors a variety of incentives to support the life cycle of industrial projects. These include Customs exemptions, industrial financing, subsidies for land and utilities, and advantages for selecting domestic products in public procurement. Customs exemptions are used to encourage local industries by providing duties exemptions on machinery, equipment and spare parts, raw materials and packaging materials. The filing process for Customs exemptions also includes a checkpoint with the PAI, which uses its authority over shipment approvals to ensure compliant corporate data submission. The IBK also encourages development of local industries through medium- and long-term soft loans, or by making capital contributions to industrial projects.

To enhance domestic competitiveness vis-à-vis international players, government procurement policy grants preference to products of national industry in cases where they are comparable to foreign products. According to Article 17 of the Industry Code, any product produced in Kuwait is considered domestic so long as the production facility has received appropriate certification. A new law passed and approved in 2017 provides a priority guarantee for local industry, with a maximum 15% mark-up over foreign products for government procurement projects. This mark-up is applied exclusively for government supply contracts, such as steel sections, concrete and aluminium pipes used by the Ministry of Public Works in the construction of government and administrative buildings.

Article 87 of the New Tenders Law further obliges foreign contractors to purchase no less than 30% of their contractual requirements from the local market, or from local suppliers registered in the suppliers’ classification lists set out by the Central Agency for Public Tenders. If applied correctly, these policies could provide a significant advantage to local industry.

Industrial Land

Another incentive provided by the state is the allocation of land across more than a dozen industrial zones in Kuwait. New zone openings and expansions over the next three years will play a significant role in supporting objectives for increased industrial production. “One of the key challenges for industrial growth has been the availability of land,” Abdul Kareem Taqi, acting general manager of the PAI, told OBG. “We have begun to resolve this by taking 110 sq km of land allocated for industry and creating a long-term plan. This will allow the land to be developed and used by industrial and manufacturing companies and, as with all industrial land, 10% will be dedicated to small and medium-sized enterprises as required by law.”

Initiatives include the KD160m ($529.3m) Al Naayem Industrial Zone, launched by the PAI for heavy industry in 2016, and a KD12m ($39.6m) investment to establish Block 11 of the Sabhan Industrial Zone. A recent greenfield development is the KD80m ($264.6m) Al Shadadiyah Industrial Zone (SIZ), for which the KIU in October 2016 announced plans to release 1056 industrial plots to kick-start development in the area. Further supportive infrastructure is also under development.

Regulations introduced as part of Kuwait’s new FDI law of 2013 have made it easier to find foreign tenants for the expanding industrial zones. The law enables a local company with up to 100% foreign equity or a branch of an international company to invest in the country, although 100% foreign ownership is restricted in some sectors such as oil and banking. However, local awareness of 100% foreign ownership is still growing, which itself can create bureaucratic hurdles. Industrial companies that do locate operations in Kuwait benefit from relatively inexpensive utilities, tax exemptions and government priority on domestic procurement. The net aim of these subsidy programmes and policies is to reduce additional costs for local industrialisation.

Weighing against these favourable policies are long-standing issues with the levels of bureaucracy and regulation, along with a shortage of land at new industrial zones under construction. At the SIZ, for example, upwards of 2000 companies have been waiting for two to three years for infrastructure to be developed. While both the KIU and the PAI have suggested the new industrial zones will be opened to tenants in 2018, difficulties and delays in securing land from the public sector remain among the greatest challenges to opening an industrial company in Kuwait. The PAI is also now checking that companies to which land has been allocated are active and using it properly; if not, it is confiscated and redistributed. However, this redistribution process can be another source of hold up.

Agility, a Kuwait-based company that is the largest logistics operator in the Middle East, provides one private sector alternative that is growing in popularity. It operates an industrial real estate management service in Kuwait and works autonomously under contract with the PAI to distribute land for industry. The work is awarded through the private sector, making it significantly more expensive, but investors are increasingly turning to this option, as many find it difficult to be awarded land from the public sector.

Bureaucracy

Reforming bureaucratic practices to increase transparency and efficiency would help attract new foreign investors to Kuwait, especially given the intense competition for FDI in the GCC. The government has already taken some steps to address issues around bureaucracy and red tape, with a focus on tendering services and visa permitting. Visa renewals that used to require manual entry and submission are now available online at the Public Authority for Manpower, which is overseen by the Ministry of Social Affairs and Labour (MOSAL). All related services under MOSAL are scheduled to come online by June 2017. However, with some e-government services already in place, decentralisation can sometimes pose obstacles.

Customs and border policies are another matter that requires careful attention in Kuwait, particularly with Iraq to the north. The government is careful about security, and striking a balance with trade is often challenging. The KIU has repeatedly asked the government to ease export and import processes at the borders with simplified visa permitting and security regulations. “So far we are exporting to Iraq only 1% of their requirement in products, transit products or local products, but we should be able to go up to 10-20% of their requirement,” Al Kharafi, told OBG.

Pharmaceuticals

At an estimated $1.5bn, Kuwait’s pharmaceuticals market is one area of considerable opportunity for multinationals. The country is gradually moving towards privatisation in the health sector, causing the private sector’s share in the pharmaceuticals industry to rise from 20% in the third quarter of 2015 to 24% in the fourth quarter of 2016. The overall value of the pharmaceuticals market declined during the same period, dropping by over $100m due to public sector contraction, according to Osama Abdelrazek, account manager for the Gulf at QuintilesIMS, a US-based health technologies and research firm.

The long investment cycle required for research and development often limits private sector players in pharmaceuticals to multinationals that supply mature products. For example, anti-infective, high-value products, such as parenteral or sterile preparations pharmaceuticals, represent a unique category in Kuwait, with new launches in 2016 valued at $33m, according to QuintilesIMS. However, the advanced production techniques required to make these products can constrain domestic players in this category.

Shipyard Operations

Shipyard operations and maritime heavy industry is another sector with modest growth potential. The Kuwait-based Heavy Engineering Industries & Shipbuilding Company (HEISCO) is engaged in shipbuilding, ship repair and other related marine activities. It also operates industrial and engineering contracting services, specialising in the energy sector. Shipyard operations remained stable in 2016, but have grown slowly over the past decade.

In the first half of 2017 HEISCO was in the process of evaluating bids from three international subcontractors to build a new $45m floating dock capable of attracting larger draft or longer vessels to the shipyard at Shuwaikh Port. The company is funding the project with a loan from the IBK, and expects to commission it within two years. HEISCO also operates contracts with the US military, the Kuwait Coast Guard and the Kuwait Fire Service Directorate, and it has two contracts with the Kuwait Oil Company in which it contributes more than 300 personnel to maintain and operate their fleet. Furthermore, HEISCO is involved with loading and discharging oil exports at the port.

Private sector growth prospects in Kuwait’s maritime industries over the next few years are expected to be largely tied to infrastructure development, with the Mubarak Al Kabeer Port construction and the dredging of Kuwaiti islands raising the prospect of increased maritime traffic, as well as for repair and maintenance work.

Essential Foodstuffs

The domestic food industry has weathered the drop in oil prices over the past two years without any fundamental changes. Government contracts – such as to supply produce to the army and the ministry of the interior as well as the ministry of health and other ministries – are reported to be the main contracts to have been impacted by the downturn.

Still, local companies face intense price competition from abroad on labour, the cost of raw materials and the volume of production. Local chicken producer Kuwait United Poultry Company (KUPCO) and other local manufacturers cover roughly 33% of the country’s chicken demand, according to company sales manager, Doeij Al Housen of KUPCO. The rest of the market is supplied by imports from Saudi Arabian, Brazilian, US and French companies. Despite a 10% subsidy on feedstock and fixed government supply contracts, many local operators still find it challenging to compete against multinationals that produce for export markets export markets though Kuwaiti consumers prefer local products due to concerns regarding providence and halal status. As a result of strong external competition in volume and pricing, KUPCO produces predominantly for the Kuwait market, specifically subsidised contracts.

Production of eggs by local manufacturers is 128% of local demand, with the surplus being exported. Because of the relatively small size of the domestic market, costs of international competition and generous subsidies offered by neighbouring countries to their own domestic farmers, Kuwaiti companies – particularly domestic poultry and dairy producers – are seeking increased assistance and state support. Currently, dairy companies receive a fixed subsidy of KD0.08 ($0.26) per litre of milk produced. “We need more support from the government to protect our products, and we need more land from the government to extend our operations,” Al Housen told OBG. “We pay, but they increased the rent by a factor of five over the last three years. It is a growing cost for us, and if they apply another increase it will be a major problem for all industry.”

Workforce Training

Like many of its GCC neighbours, Kuwait has long struggled with social attitudes towards vocational education and skilled or manual labour, with most nationals preferring to work in the public sector. Although the PAI provides financial support to companies in order to train workers, and offers assistance to businesses that send employees to workshops in Kuwait and abroad, there is a dearth of local talent to fill technical positions in the country. To boost up-and-coming skill needs and increase the share of Kuwaiti nationals in the labour force, the government also caps the number of foreign workers that companies can bring into the country, increasing competition for labour and driving up costs.

For heavy industrial companies like HEISCO, most of the technical manpower used in workshops is sourced on recruiting trips to Asia. The number of expatriates permitted to work depends on the number of government projects and the estimated manpower required to complete them. Security in the visa application process is another complication, with the government having suspended authorisations for certain nationalities in 2016 and 2017. Kuwaiti conglomerates operating subsidiaries outside the country, such as in Pakistan, are unable to bring local management to Kuwait because of the security-related suspension of visa authorisations. Some stakeholders believe these minor regulations can have an outsize impact on investor confidence.

Outlook

The industrial sector in Kuwait is facing administrative challenges that many believe are hindering plans to diversify sources of state income. Long-standing issues with bureaucracy and regulation in the country, as well as a shortage of industrial land, can weigh on investor confidence and could direct FDI to neighbouring GCC countries.

As a result, the government has recently implemented a host of economic reforms and modernisation programmes aimed at improving the investment climate. The case becomes more compelling when supported by state incentives, including Customs exemptions, industrial financing, subsidies for land and utilities, and advantages for domestic products in public procurement. Planning is nevertheless a dynamic process affected by economic, social and political factors. How the industrial sector develops in Kuwait will hinge on the flexibility of the country’s development plans and its ability to cope with unforeseen variables.

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The Report: Kuwait 2017

Industry chapter from The Report: Kuwait 2017

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