Курсовая работа: Private sector and human-resource development in Georgia

Курсовая работа: Private sector and human-resource development in Georgia

TBILISI, GEORGIA

Private Sector and Human-resource Development in Georgia

Author: Lasha Martashvili

E-mail: lmg@bk.ru

 (18.02.2004)

TABLE OF CONTENTS

1.      Government Policies. 5

1.1        Government promotion policies of small and medium size enterprises. 5

1.2        National Investment Agency of Georgia.. 5

1.3        Georgian Investment Center. 5

1.2.1     Government’s Export Promotion Policy. 6

1.2.2     Georgian Export Promotion Agency (GEPA) 9

1.4        Foreign Investment Promotion.. 14

1.3.1     Government’s Foreign Investment Promotion Policy. 14

1.3.2     Foreign Investment Advisory Council (FIAC) 21

1.5        Tax Regime. 23

1.3.3     Taxation System and Tax Rates in Georgia. 23

1.3.4     Existing Taxation Practices. 34

1.3.5     Tax Reform Areas. 38

1.6        Legislative Basis for the Operation of the Private Companies. 44

1.5.1     Law of Georgia on Entrepreneurs (LoE) (Corporate Law) 44

1.5.2     Law of Georgia on Securities Market (SML) 51

1.5.3     Employment Regulations in Georgia. 57

1.5.4     Regulations about Real Estate in Georgia. 59

1.7        The Business Environment in Georgia.. 61

1.8        Institutional Arrangements. 64

1.3.1     Securities Industry. 64

2.      Society.. 65

2.1        Poverty issues. 65

3.      Economics. 70

3.1        Main economic indicators. 70

3.2        Agriculture. 77

3.3        Trade. 104

3.4        Construction.. 106

4.      Business. 110

4.1        Company Registration and Licensing System.. 110

4.1.1     Company Registration System.. 110

4.1.2     Company Licensing System.. 117

4.2        Local Enterprises. 119

4.1.3     Joint Stock Companies traded at Georgian Stock Exchange. 120

4.1.4     Joint Stock Companies not traded at Georgian Stock Exchange. 132

4.3        Human-Resource Development in the Private Sector. 134

5.      Other Donors’ Activities. 138

5.1        The World Bank and IMF. 138

5.1.1     List of the Active World Bank Projects in Georgia. 138

S – Satisfactory. 138

U - Unsatisfactory. 138

5.1.2     List of the Closed World Bank Projects in Georgia. 139

5.1.3     Description of the Closed World Bank Projects in Georgia. 140

5.1.4     The World Bank and IMF Cooperation in Georgia. 149

5.1.5     The World Bank Country Assistance Strategy for Georgia. 154

5.1.6     The World Bank Partners in Georgia. 161

5.2        USAID.. 162

5.3        EBRD.. 162

5.4        EU.. 162

5.5        GTZ.. 163

5.6        CIDA.. 163

5.7        DFID.. 163

5.8        The Government of the Netherlands. 163

5.9        IFAD.. 164

5.10      UNDP. 164

5.11      UNICEF. 164

Currency

(Exchange rate as of 01 Feb. 2004)

1.1  Government promotion policies of small and medium size enterprises

[To be described:] "Small and Medium Enterprise State Support Program for 2002 - 2004 in Georgia"

[To be described:] Law of Georgia "On Promotion of Small and Medium Enterprises"

1.2  National Investment Agency of Georgia

[To be described:] Law of Georgia "On National Investment Agency of Georgia"

[To be described:] Activities of the National Investment Agency of Georgia

1.3  Georgian Investment Center

[To be described:] Activities of the Georgian Investment Centre

1.2.1     Government’s Export Promotion Policy

Foreign Trade Regimes. Reforms carried out in recent years in Georgia, including serious legal reforms, are working successfully to create a favourable foreign trade regime in the country. Since 1995 the following major reforms have taken place in Georgian legislation:

• The system of quotas has been eliminated.
• Products included in the nation's export embargo policy include only works of art and antiques and items of national historical importance.
• There is no customs duty for exports in Georgia.
• A fiscal policy aimed at stimulating exports has been introduced whereby all export goods are free of VAT and excise duty;

Export of goods requiring an export license have been reduced to the following classes:

Collections and collectors' pieces of zoological, botanical, mineral, anatomical, historical, archaeological, paleonthological, ethnographic or numismatic interest (HS - 9705);

Wood and timber (4401, 4403, 4404, 4406, 4407);

Seeds of Caucasus Pine (120999100);

Ferrous and non-ferrous metal scrap (7204, 7404, 7602).

The system of compulsory registration of foreign trade contracts was eliminated in November 1997.

The establishment of favourable trade regimes with partner countries through bilateral and multilateral agreements has commenced. During the period 1992 - 1998, Georgia signed trade agreements with 22 countries. Agreements on free trade have been signed with eight CIS countries and Georgia already has working free trade agreements with Russia, Ukraine, Azerbaijan, Armenia, Kazakhstan and Turkmenistan. Currently a multilateral agreement on CIS free trade zone is being enforced. According to these agreements signatories to the agreement need not use customs duties and taxes for exports or imports of the goods originated in the territory of one party and destined to the territory of the other party.

Furthermore, Georgia has become a part of several international conventions.

On October 6, 1999 Georgia became a member of the World Trade Organization (WTO) which granted Georgia the status of the Most Favoured Nation with 135 WTO member countries. Through the mechanisms of this organisation, Georgia will be protected from discrimination, unfair competition, falsification and unjustified limitations.

In 1996 Georgia signed an agreement on partnership and cooperation with the European Union which deals with economic relations in almost every sector. In fact the agreement covers all sectors of the economy.

In 1999 Georgia became a member of the Council of Europe with full rights, which will further facilitate trade-economic relations between Georgia and member countries of the European Union.

Many countries have granted to Georgia reductions in import customs taxes to their countries, under the General System of Preferences. These include the countries of the European Union, Switzerland, the Czech Republic, Slovakia, Canada and Japan. This is one of the most important influences on the successful growth of exports for Georgia. The effective use of facilities such as GSP will substantially promote Georgian export development.

Law of Georgia "On Technical Barriers to Trade". The law "On Technical Barriers to Trade" lays down the basis for eliminating the technical barriers to trade during the process of the preparation, adoption and application of the technical regulations, standards and the procedures for the assessment of conformity.

The national technical regulations and standards should not create unnecessary obstacles to trade, which will put national products in favourable conditions. Therefore, the development of the national technical regulations and standards should be carried out on the basis of a direct use of the international standards.

Georgian legislation did not envisage the concept of technical regulations. The concept of technical regulations was defined by Law of Georgia "On Standardization" adopted in 1999. The technical regulations is a legal act, which defines the technical specifications for products or service, which is done directly or by means of referring to Georgian standards and requiring that complying with these standards is compulsory.

The principles of the state standards that are effective in Georgia envisage the application of the national standards on a compulsory basis from the moments of its effectiveness. However, based on the principles that define the standards as voluntary, the international practice envisages two-stage approach to making a standard as mandatory requirement: the standard that was adopted by national body is optional and it may be used by any party, however it will become mandatory, if it is defined by:

The legislation;

Such stipulation is indicated in the technical regulations;

A producer or supplier of services assumed such responsibility by the assessment of conformity.

The first chapter of the present draft law lays down the legal basis for eliminating the technical barriers to trade during the process of the preparation, adoption and application of the technical regulations, standards and the procedures for the assessment of conformity.

It defines the terms, including "Technical barriers to trade", which in fact is the discrepancy in requirements from those used at a national level or in international practice with respect to the technical regulations, standards and the procedures for the assessment of conformity.

It defines the different categories of technical regulations, which include:

Legislative acts, the decrees of the President of Georgia, which consist of the product requirements;

The national standards, the application of which is mandatory;

The agency specific normative acts issued by government bodies, the competency of which, according to the legislation of Georgia, includes laying down the mandatory product requirements.

The second chapter defines the requirements to the content of technical regulations, preparation of technical regulations and procedures for the assessment of conformity, coordination of the activities related to the development of technical regulations, and recognizing the technical regulations of foreign countries as an equivalent to the national technical regulations.

Chapter three defines the procedure of applying technical regulations and standards, which includes making references to standards in technical regulations, fulfillment of standards as a mandatory requirement, fulfillment of standards as a voluntary requirement, and the national arrangements for applying the technical regulations and standards with respect to the national and imported products.

Chapter four defines the principles of providing information relating to technical barriers to trade. The main emphasis is placed on the Central Information Center of Standards, the main function of which is the relationship with the World Trade Organization. The Central Information Center of Standards provides information about the technical regulations, standards and the procedures for the assessment of conformity that are already developed or are in the process of development. It should carry out the coordination of activities of the centers set up in this field by other government bodies.

Chapter five defines the authority and responsibility of the National Standardizing Body and other government bodies.

Chapter six lays down the principles of the state control and supervision on complying with the requirements of technical regulations, as well as the responsibility for violating the requirements of the law.

Chapter seven states that the process of developing technical regulations has to be financed by the state on a mandatory basis.

Chapter eight contains the provisional clauses, which states that the government bodies should adopt and publish those technical regulations, which envisage complying on a mandatory basis with the standards that ensure the quality of products, processes and service, security, protection of human life, protection of the health, property and environment. With this respect it will be significant to employ, whenever developing the technical regulations, the directives issued by the countries that are members of the European Union.

Chapter nine defines the amendments that have to be made into Georgian legislation after this law becomes effective.

The Law of Georgia "On Technical Barriers to Trade" should initiate the practical efforts towards the preparation, adoption and application of the technical regulations, which will be step forward towards setting up voluntary standardization system that is one of the attributes of modern market relationships.

1.2.2     Georgian Export Promotion Agency (GEPA)

The Georgian Export Promotion Agency was set up by the Georgian Government and the European Union's Technical Assistance Programme TACIS with the principal aim of assisting Georgian companies to increase exports and thus to stimulate an improvement in the country's trade balance. The GEPA was established in April 1999. Since then, the German Government's Technical Assistance Programme GTZ (Deutsche Gesellschaft fur Technische Zusammenarbeit GmbH) has also invested in the agency both in its personnel and in its activities.

GEPA supports Georgian business interests in the global marketplace, assists in forging business alliances, facilitates establishment of international business relationships. GEPA provides comprehensive information on business opportunities both for Georgian and overseas companies.

Export Information Center. GEPA Export Information Centre (EIC) promotes Georgian companies and their products on the global marketplace. It offers the services of two Georgian business information officers and a librarian who work in cooperation with specialists from EU countries. The EIC holds a wide range trade information resources including reference materials, manuals and textbooks on exporting, sector related journals from overseas, CD-ROM and online databases, information on local and foreign markets, trade regulations and has wide access to trade leads databases.

The EIC services include but are not limited to:

Providing market information to Georgian exporters

Introducing Georgia and Georgian products to companies around the world

Assisting foreign companies in sourcing products in Georgia

Offering online trade leads both for Georgian exporters and overseas importers

Assisting Georgian companies in developing an export marketing strategy

Overseas Exhibitions and Trade Missions. GEPA is actively involved in preparing overseas business visits for Georgian business groups to meet with new trading partners; we also prepare and part finance Georgian sectors' participation at international exhibitions. Many foreign delegations, commercial and governmental, pay a visit to our agency during their visits to Tbilisi. Study tours for sectors with potential have been organized to Canada, UK and Germany.

With financial assistance from the German government's technical assistance programme, GTZ, GEPA part-finance participation of Georgian exporters in overseas trade shows/exhibitions. GEPA/GTZ have already assisted companies to take part in exhibitions in Germany, France, Italy and the Middle East.

Conditions for participation are that export products must be of export quality, prices examined by German specialists and a group of a minimum of three producers from one sector participates in each exhibition.

Training Center. GEPA offers a wide range of export training courses to Georgian businessmen, civil servants, and commercial banks, on subjects ranging from export pricing to utilizing e-commerce in exporting. All courses are taught by international and Georgian specialists in their given fields of specialization.

A new Training Programme that Georgian Export Promotion Agency offers to Georgian companies differs considerably from the Programme already conducted by GEPA within the framework of previous TACIS project. It includes an In-Company Training that is designed to meet the training needs of companies participating in GEPA's Export Development Program.

Customized programs have been developed for specific companies to increase the professional skills of company managers and staff and thereby help them improve their export activities. In-company training is considered as part of the consultancy service provided by GEPA to existing exporters and to companies with the potential to export. Format and content of training depends on business features of individual companies. Mostly practical exercises and case studies have been used to achieve the best results.

Alongside in-company training, GEPA continues to offer general training in Export Marketing, Export Promotion, Strategic Business Planning etc.

GEPA hopes that new arrangements run in the field of training, will be of real assistance to Georgian companies in enhancing their export marketing activities and in achieving increased export orders.

Publications. GEPA staff prepares a variety of publications for both Georgian exporters and overseas companies. These publications include Export Newsletter, Market Briefs, Fact Sheets and the Directory of Georgian Exporters. Recently a brochure on Georgian viticulture and winemaking was prepared in corporation with the Institute of Viticulture.

Export Newsletter. Export Newsletter is available both in print and electronic formats on our website. It is circulated to Georgian companies and international organizations. It includes information on opportunities outside Georgia for exporters, case studies on successful Georgian and foreign companies and an update on any changes in Georgian, and foreign legislation, which may affect exporters. It also advises of forthcoming exhibitions and incoming buying missions from overseas.

Market Briefs. Market Briefs are prepared in Georgian and are available for Georgian companies interested in specific industries and markets. Market briefs prepared to date are as follows:

1.    UK Wine Market

2.    Pipes' Market in Italy

3.    Organic Food market in Germany

4.    UK Nuts Market

5.    Timber Market in Germany

6.    UK Tea market

7.    Intellectual Property - overview

8.    EU Fertilizer Market

9.    USA and EU Markets for Essential Oils

10.  Wine Market in Japan

11.  Mineral Waters in Japan

Sample Market Brief: Wine Market in Japan

Sample Market Briefs: Mineral Waters in Japan

1.4  Foreign Investment Promotion

1.3.1     Government’s Foreign Investment Promotion Policy

Removing Administrative Barriers to Investment in Georgia. FIAS (Foreign Investment Advisory Service, a joint service of the International Finance Corporation (IFC) and the World Bank) conducted a study of administrative barriers to investment in Georgia. The principal counterpart for this project was the Presidential Commission on Support of the Private Businesses in Georgia. The Presidential Commission on Support of Private Businesses is the lead counterpart for this project (for more details refer to Paragraph 1.3.1 describing the activities of Foreign Investment Advisory Council - FIAC). The main objective of this study was to identify the major administrative impediments to investment and to recommend the steps for streamlining, simplifying and increasing transparency in order to help improve the environment for business in Georgia. Although the primary focus of the study was foreign investment, the administrative procedures and regulatory framework affect domestic investors as well. Therefore, applying the principle of national treatment (i.e. no preferential treatment for foreign investors), this study is intended to help strengthen the business environment for all investors—domestic and foreign alike.

The study covers the core administrative processes for:

·     Establishing a business - including investor entry (visa and residency requirements for expatriates) and business registration.

·     Locating a business - including land acquisition, site development, construction and operation.

·     Operating a business - including taxation, trade regime and customs, licensing, permits, inspections, intellectual property issues, and product standardization.

Establishing a Business—Investor Entry and Business Registration. The procedures for obtaining entry visas are relatively transparent and present no significant administrative impediments. Most notably, foreign investors and expatriate employees do not require special work or residence permits to live and work in Georgia.

The court registration procedures have been simplified in the past 2 years. However, because of the lack of technical and human capacity, court registrars are unable to fulfill the provisions of the Law on Entrepreneurs aimed at guaranteeing timely service, ensuring public availability of information on companies, publishing data on newly registered companies, and protecting company names. The most pressing issues relate to length of time required to register (2 to 3 weeks) and to retrieve information on companies.

The principal recommendations for improving the business registration process and the access to company records include:

·     Modernization of the registration and data filing systems by taking advantage of new technologies (including the internet) to speed up processing and to improve the access to information, as provided under the law.

·     Centralization of the court registration system.

·     Publication and dissemination of information on business registration procedures, requirements and fees.

·     Resolution of the legal provisions for information disclosure under the Law on Entrepreneurs and the Tax Code.

Locating a Business. Locating, acquiring and constructing or rehabilitating real estate for business activities are not perceived as significant problems by either foreign or domestic investors in Georgia. The current system may not pose an overwhelming difficulty for investors because of the low volume of transactions and the institutionalized system of unofficial payments and influence peddling to facilitate the process. However, there are a number of specific areas where regulations, requirements, and procedures need to be clarified, simplified and streamlined. The report includes a number of detailed short and long-term recommendations for strengthening the laws related to the privatization of agricultural land and improving the quality of service provided by the various bureaus responsible for processing the permits necessary for property development and construction in Georgia.

One of the principal recommendations relates to the Law On Privatization of Agricultural Land.  The set of laws on privatization of real estate exclude a legal basis for privatization of large agricultural holdings, all of which are presently held under government leases. To the extent that investment in commercial scale agriculture is viewed as having significant potential in Georgia, privatization of larger agricultural holdings is an appropriate next step. A law on privatization of large agricultural holdings is being developed and is an element of the government’s longer-term plan for further development of property relationships.[1] Enactment of this law should be a priority.

Operating a Business - Tax Administration. On the basis of interviews with representatives of the private sector, government officials, and technical assistance experts, it appears that the tax administration system is fraught with problems that seriously constrain the activities of private enterprises. The recurring themes voiced by the private sector as being burdensome for business included the complexity of the tax system, the lack of clarity in some aspects of the Tax Code and the sheer number of taxes itself. Foreign-owned enterprises seem to be particularly affected under the existing system. In keeping with the scope of this study, the discussion is focused on taxation administration. Recommendations on tax policy are confined to those issues that directly affect administrative procedures and impede business activity. It should be noted that the International Monetary Fund, the World Bank and USAID are currently providing assistance to the Government of Georgia on taxation policy issues.

The main recommendations include the following (for more detailed discussion of tax issues please refer to the next paragraph - "1.4 Tax Regime"):

·     Adopt and implement the proposed amendments to the Tax Code. These proposed amendments cover a number of policy and tax administration issues. They are broadly in line with IMF recommendations, except the Government proposal for the fixed tax and the elimination of the payroll tax.

·     Simplify the procedures for filing VAT. The proposed measures include allowing quarterly, rather than monthly filings for small businesses.

·     Establish an effective tax-refund system. The International Monetary Fund has outlined a refund strategy that includes limiting entitlement to immediate refunds, distinguishing claimants with a history of compliance, and using pre-refund audits for high-risk refund claims and post-refund audits for claims of lesser risk.

·     Review the micro level target-based system for tax collection. It is important to distinguish between the fiscal macro targets which are an important aspect of revenue administration and micro or firm-level targets which are often arbitrarily established within tax jurisdictions. These targets must be realistic and they should be part of a number of efficiency and effectiveness indicators.

·     Improve information compilation and dissemination. Taxpayers must be informed of changes in the Tax Code and related regulations, legal interpretations, and instructions in a timely manner. Also, a credible resource must be established to respond to queries offer binding interpretations of the Tax Code.

Operating a Business – Customs. The State Customs Department (SCD) operates an inland clearance system that requires considerable resources and logistical support for effective control of cargo. In practice, the current system is largely ineffective and prone to fraud and corruption.  There is no compendium of the legislation on customs available to the customs service employees or the public. In the absence of common information and an official interpretation of the rules and regulations, the discretionary authority of individual customs officers and offices is strong thereby facilitating corruption.  There is significant leakage of cargo transported for inland clearance. Some sources estimate that as much as 50 percent of fuel and cigarette imports are diverted.

Management of the SCD has suffered as a result of frequent changes in the management. Efforts to reform the SCD have been impeded by the lack of political will, competing political agendas, and the frequent changes in leadership. Under these circumstances, the inputs of external advisers have been marginalized and the reforms implemented by previous chairmen have been reversed in many instances. The detailed action plan prepared under the ITS contract and endorsed by the government has been stalled with only marginal progress. The customs reform committee established by the President to lead the reform effort has met irregularly.

The principal recommendations for strengthening and improving the customs service include:

·     Implementation of the already approved customs reform program. This is a well developed and comprehensive program that can be implemented over time. It encompasses a number of the IMF and FIAS recommendations. One of the immediate tasks would be to assign priorities for implementation.

·     In light of the decision not to renew the ITS contract, it is necessary to immediately develop and implement a framework for carrying out efficient pre-shipment inspection services if it is to be continued after December 30, 2001.  The SCD clearly lacks the capacity or the expertise to carry out this function independently.

·     Review of the existing regulations for the valuation of cargo and implementation of guidelines that are consistent with the provisions of GATT.

·     Revision of the declaration processing procedures to eliminate contact between the import (or broker or freight forwarder) and the customs officer.

·     Expansion of the ASYCUDA system to all major customs clearance offices.

·     Implementation of risk-based criteria for selecting goods and documents to be examined at all locations where imported goods are cleared.

·     Implementation of an information publication and dissemination program.

Operating a Business  - Licensing and Permits. The existing regime for licenses has benefited from extensive efforts to streamline and simplify the legal framework for licenses. As a result, the current licensing procedures do not appear to present significant barriers to investment and business activity in Georgia, particularly compared with other former Soviet Union countries. However, some of the sectoral licensing laws and regulations do not conform to the provisions of the framework Law on Licensing.

The Law on Local Charges and related normative acts (including municipal regulations) are not entirely clear in defining the purpose and scope of permits. The criteria and conditions for authorizing and terminating permits (similar to licensing conditions) are not clearly specified in the laws and regulations. In effect, the enforcement of the permit system is arbitrary and subject to abuse of the compliance provisions and the assessment of violations. While this permit regime does not generally impede business in Georgia, it does create unequal conditions for newcomers and arbitrary enforcement can cause significant problems for individual companies.

The main recommendations for strengthening the framework for the system of licensing and permits and facilitating the streamlining and simplification of the current system in Georgia include:

·     Passage and adoption of a strong and clear framework law and implementing regulations on the licensing and permit regimes.

·     Review and rationalization of the number and level of legally permissible permits to avoid the proliferation of permits for revenue generation.

·     Development of a basic set of guidelines on the procedures for processing and enforcing permits (similar to those in place for licenses).

·     Development of a monitoring mechanism within the Ministry of Justice that will ensure consistent enforcement of provisions for permits.

·     Publication and dissemination of information on the legally sanctioned licenses and permits (e.g., regulations, procedures, documentation requirements, fees and appeals mechanisms).

Operating a Business  - Inspections. The passage of the Law on Supervising Entrepreneurial Activity represented the most recent of a series of attempts to streamline the business inspection process by state and local governments. It is, however, too early to assess the effect of this new law. At the time of the FIAS mission, the implementing regulations had not been completed and the law had not been fully implemented.

The main recommendations to strengthen the implementation of the new regime for inspections include:

·     Articulate and publish the mandate of each inspectorate as well as information on definitions of violations, criteria for selecting businesses for inspection, the penalties that may be assessed under specific conditions, and the rights and responsibilities of inspectors and businesses.

·     Halt extralegal inspectorate activity pending the registration of all sanctioned inspection activities.

·     Establish and enforce procedures for conducting on-site inspections.

·     Regulate the payment of penalties and fines resulting from inspections to a central cashier in order to avoid on-site payments and minimize opportunities for corruption.

·     Coordinate and rationalize the activities of inspection agencies; implement initiatives for joint training and information sharing among inspection agencies; introduce a code of conduct for inspectors; and train inspectors to understand that their primary function is to ensure public health and safety.

Conclusions and Next Steps. There is a general agreement within Georgia that the existing environment for investment needs to improve if the country wishes to attract new FDI flows and secure the expansion of existing investments. This report has focused on the principal administrative barriers that increase the cost and risk of doing business in Georgia.

Pervasive corruption and the apparent lack of political will to implement reforms have emerged as two fundamental issues affecting the business environment in Georgia. While the degree of corruption may not be the worst in the region, it has a negative effect on business activity and increases the risks and costs of doing business in Georgia. The process of streamlining and simplifying administrative procedures must go hand-in-hand with anti-corruption programs. In a similar vein, it should be noted that number of reforms (e.g. Customs reform) have been stalled as a result of resistance to change and the apparent lack of political will effect change.

In addition to making recommendations for solving some of the regulatory, administrative, and institutional issues that need to be addressed in order to improve the business environment in Georgia, the report points out the areas where further review is necessary and where significant technical assistance is already being channeled, albeit with limited impact.

The experience of other countries clearly demonstrates that sustainable change cannot be achieved without government commitment at the highest political levels.  Successful and sustained change requires leadership, strong champions, and shared goals among all stakeholders within the government and the private sector. On the basis of shared goals,  the process of rationalizing, streamlining, and simplifying bureaucratic procedures can develop, gain momentum, and improve the values of government agencies and transform them into service-oriented organizations. A comprehensive approach to change is necessary, and commitment and time are essential ingredients. Procedural and institutional reforms will require the support of public servants at all levels of government, plus their support for changes in the systems of performance monitoring, evaluation, and rewards.

The Presidential Commission on Support of Private Business already exists as a champion of this initiative. However, the framework for the change agenda must include the participation and inputs of stakeholders at all levels. Stakeholders must be drawn from the public and private sectors. In addition, there is a role for the international donor community in this framework since the incorporation of related donor-sponsored initiatives must be integrated into the change agenda. Chapter V of the report proposes a framework for the development and implementation of the change agenda.

The institutional structure to support the change agenda should include:

·     The Presidential Commission. The Commission should serve as the focal point of the change agenda and it should be given the mandate to promote and advocate reforms in collaboration with other parts of the Government.

·     An implementation team. The staff of the commission’s secretariat should constitute the core group of the implementation team. The responsibilities of the team would include the development of the Action Plan, coordination of implementation activities, solicitation of donor funds and resources to support reform, coordination of related initiatives, and regular reporting on progress to the Commission.

·     A consultative committee. The committee should provide a mechanism for regular consultation with a broad group of stakeholders on various reform initiatives.

The above - mentioned Action Plan should be utilized to document the agreed-upon changes, establish priorities and timeline, provide a basis for accountability, and keep an ongoing record of progress. Therefore, it must be emphasized that the Action Plan is not a static document but one that must evolve over time.

Law of Georgia "On Investment Activity Promotion and Guarantees". On 12 November 1996 the Parliament of Georgia adopted the law of Georgia "On Investment Activity Promotion and Guarantees", which replaced the Law of the Republic of Georgia "On Investment Activity" adopted on 10 August 1991 and the Law of the Republic of Georgia "On Foreign Investments" adopted on 30 June 1995.

The Law defines the legal bases for realizing both foreign and local investments and their protection guarantees on the territory of Georgia. The purpose of the Law is to establish the investment-promotional regime in Georgia.

Investments. Investments shall be deemed to be all types of property and intellectual valuables or rights invested and applied for gaining possible profit in the investment activity carried out in the territory of Georgia, such as:

a)    Monetary assets, a share, stocks and other securities;

b)    Movable and immovable property (real estate) - land, buildings, structures, equipment and other material valuables;

c)    Lease rights to land and the use of natural resources (including concession), patents, licenses, know-how, experience and other intellectual valuables;

d)   Other property or intellectual valuables or rights provided for by the law.

Investor. An investor shall be deemed to be a physical (individual) or legal person, as well as an international organization investing in Georgia. A foreign investor shall be deemed to be:

a)    A foreign citizen;

b)    A stateless person temporarily residing on the territory of Georgia;

c)    A Georgian citizen permanently residing abroad;

d)   A legal person registered beyond Georgia.

An enterprise with a foreign investment of not less than 25% shall enjoy the same rights as the foreign investor.

1.3.2     Foreign Investment Advisory Council (FIAC)

In order to assist foreign investment inflow into Georgia, improve investment climate in the country and support private sector development, it became necessary to create a special government agency, which would serve the above-mentioned goals. Therefore, on March 30, 1997, according to the presidential decree N87, Foreign Investment Advisory Council (FIAC) was created under the supervision of the President of Georgia, intended to assist the development of the private sector and improve the investment environment in the country, to coordinate donors and donor financed projects, to monitor these projects and to ensure a transparency and accounting of foreign aid inflow into Georgia.

The Investment Council operates through its secretariat, which is responsible for the fulfilment of the responsibilities assigned to the Foreign Investment Advisory Council. The Secretariat of the Investment Council works in three directions:

Prepares the Council's meetings;

Cooperates with the donors and coordinates the donor financed projects;

Assists the private sector.

Preparation of the council's meetings. The secretariat of the council plans, prepares meeting and monitors their procession. The meetings are preceded by a preparatory phase, during which the Secretariat identifies priority issues, gathers relevant information, processes, analysis it and identifies a range of possible conclusions. One of the responsibilities of the Secretariat is to control the fulfilment of assigned works and appraise their compliance and produce relevant recommendations.

Cooperation with the donors and coordination of the donor financed projects. Activities related to the cooperation with donors and coordination of the donor-financed projects are a part of the Secretariat's daily job. The Secretariat of FIAC conducts permanent monitoring and control of the projects. Among the donor related activities, a notable obligation of the FIAC Secretariat is to identify the strategy of cooperation with the donors and direct flow of further assistance to relevant channels and to target further projects. Daily work of the FIAC Secretariat includes collection of information on problems related with investment projects and identification of ways of their solution. The council cooperates with short term missions of donors, organizes meetings, drafts agendas and prepares background information for topics of discussion for the Government members as well as for the President of Georgia. The FIAC Secretariat actively works on elaboration of financial-economic, and particularly international relations related legislation of Georgia.

Private sector related activities. To fulfil this obligation the council works in few directions. According to the presidential decree N1324, a Presidential Commission on Support of the Private Businesses in Georgia was formed in the year 2000. By means of close cooperation of the Commission and FIAS, it became possible to study all administrative barriers to investment (see above). As a result, the problems impeding the development of business in Georgia were identified. On the basis of the results of this study, the recommendations were drafted and action plan was compiled, which was approved by the president of Georgia. The commission of cooperation with investors conducts permanent monitoring of fulfilment of the action plan, appraises its fulfilment and prepares relevant recommendations. The Secretariat of Foreign Investment Advisory Council actively cooperates with other donor organizations in terms of the private sector development projects.

1.5  Tax Regime

1.3.3     Taxation System and Tax Rates in Georgia

Legal Framework. The Tax Code of Georgia, adopted on June 13, 1997,[2] is the principal law on taxation policy and administration. Other legislation that regulate taxation include the Administrative Offences Code, the Criminal Code, bankruptcy legislation, customs legislation, the Law on the Road Fund of Georgia, and the Law on the Medical Insurance Fund of Georgia.

The taxation system in Georgia includes both national and local taxes; the latter are set by local authorities following guidelines and limits set forth in the Tax Code. Every taxpayer must register with their regional tax inspectorate and is given a tax identification number, which must be indicated on all tax documents.

Taxes Paid by Individuals, Individual Enterprises.

Income Tax. Income tax must be paid on wages and income earned from economic activity, including income received in non-monetary form. Physical persons, both resident and non-resident, individual enterprises, and entrepreneurs are subject to this tax. Under Georgian law, residents are physical persons in the territory of Georgia for more than 182 days during any 12-month period ending in a given tax year.

An individual enterprise is defined as an entity owned and managed by a single person, an enterprise run solely by family members, or a farm solely owned by an individual or members of that individual’s family. Physical person entrepreneurs are individuals who engage in entrepreneurial activity without first establishing themselves as legal persons (and in accordance with the entrepreneurs law). Physical person entrepreneurs and individual enterprises with annual gross income equal to or less than 24,000 GEL are subject to a presumptive tax in lieu of an income tax. The presumptive tax is described in the next section.

Georgian residents must pay income tax on gross income from all sources (Georgian and non-Georgian) received during the tax year, regardless of where the income was earned or paid, less allowable deductions.

Non-residents must pay income tax, but only on income received from Georgian sources. Non-residents who engage in economic activities through a permanent establishment are subject to profit tax on gross income received during the tax year from Georgian sources connected with the permanent establishment, less allowable deductions.

Taxable income is composed of the following:

·     Salaries and wages

·     Dividend, interest, and royalty payments

·     Income from the lease or rental of property

·     Income from the write-off of debts

·     Income received from the supply of goods or performance of services

·     Gains from the sale of assets

·     Income received as a result of the restriction or closing of an entrepreneurial activity

·     Income from the sale of shares in an enterprise

·     Income in the form of insurance payments paid under agreements for the insurance or reinsurance risk in Georgia.

In addition to monetary wages, benefits are considered wage income and are taxable as part of gross income. Generally, benefits are included in income at the market price at the moment of receipt, reduced by any portion of the benefit paid by the employee. These include: use of an automobile for private service; gifts of goods or gratuitous performance of services; educational assistance to the employee or dependents; and employee expenses reimbursed by the employer.

Table 1.4.1.1 shows income tax rates.  Income tax on dividends, interest payments, and payments to non-residents are withheld at the source of payment and are subject to different rates. Dividends and interest payments are taxed at the rate of 10 percent. Dividends and interest payments received by physical persons, taxed at the source of payment, are not subject to additional taxation. Further, taxes paid on the first 3,000 GEL of combined interest and dividends may be applied to reduce the taxpayer’s tax liability, assuming adequate documentation of the tax payment is provided.

Table 1.4.1.1:  Income Tax Rates

Source:  Tax Code.

Tax agents who withhold tax at the source of payment are required to:

·     Transfer the tax to the budget when making payments to physical persons;

·     When paying wages, issue to the physical person receiving the income (at his or her request) a statement with the person’s name, amount and type of income paid, and amount of tax withheld; and

·     Within 30 days of the end of the tax year, present to the tax agencies and, if requested, to the person paid, a statement containing the person’s registration number, total income, and total amount of tax withheld during the year.

Physical person entrepreneurs and individual enterprises are required to submit income tax payments in three instalments, based on their income tax liability for the previous year. Instalments are applied against the taxpayer’s actual liability. Payments may be reduced if income in the current year is expected to be at least 30 percent less than income in the previous year. Taxpayers with no income from the previous year must make payments based on actual income during the previous quarter.

Tax payers[3] are required to submit returns before April 1st of the year following the reporting year. Before the income tax return due date, taxpayers may apply to the tax authorities for an extension of time to submit their returns. Taxpayers who cease entrepreneurial activity must submit a tax return within 30 days of the cessation of activities.

Taxes Paid by Enterprises.

Profit Tax. Profit taxes must be paid by Georgian entities and foreign entities with permanent establishments in Georgia. Foreign entities that do not have permanent establishment presence in Georgia are taxed via a withholding tax at the source of payment, as stated above. Enterprises are defined as:

·     Legal persons established according to the legislation of Georgia

·     Corporations, companies, firms, and other entities established pursuant to the legislation of foreign states

·     Branches and other separate units that are structural units of the entities indicated in the first bullet and that have their own balance sheet and a separate settlement or other account.

Georgian and foreign enterprises are distinguished by place of activity and management. A Georgian enterprise has its place of activity or management within the territory of Georgia, whereas a foreign enterprise has its place of activity or management outside the territory of Georgia. If there is more than one place of management or activity, or the place of management and activity do not coincide, then the predominant location should be used to determine the place of activity or management.

Individual enterprises and physical person entrepreneurs are subject to income tax (or presumptive tax), not profit tax. Branches and other units of an enterprise do not pay profit tax separately, but aggregate profit with the main enterprise, which pays the full profit tax.

Georgian enterprises are taxed on gross income, which includes all income regardless of its source or place of payment, less allowable deductions. The profit tax is a flat rate of 20 percent. Foreign enterprises are also subject to profit tax, the extent to which depends on whether the foreign enterprise is connected to a permanent establishment.

Foreign enterprises that conduct economic activity through a permanent establishment are subject to profit tax on gross income, less deductions, from Georgian sources connected to the permanent establishment. Foreign enterprises that do not conduct economic activities through a permanent establishment must pay profit tax on gross income from Georgian sources (no deductions are allowed), and the tax is withheld at the source of payment. However, non-resident taxpayers (including foreign enterprises) who receive certain types of income (e.g., insurance payments, royalties, management fees, income from works or services) may file a return and claim deductions as if this income was connected to a permanent establishment. The withholding rates for certain types of income are as follows:

·     Dividend and interest payments—10 percent

·     Insurance proceeds—4 percent

·     Telecommunication and transportation services, shipments, and oil and gas transactions—4 percent

·     Royalties, management fees, income from performing work or rendering services (except income earned as wages), income from leasing movable property, income from management, financial, and insurance services—10 percent

·     Certain oil and gas profits—10 percent.

Foreign enterprises receiving profits from the sale of some stocks, assets, and property not connected to their permanent establishment must pay profit tax, with allowable deductions, on the income from these sales. Annex D provides a listing of profit tax exemptions as well as allowable deductions from gross income.

Table 1.4.1.2 summarizes the asset categories into which fixed assets subject to depreciation are grouped.

Table 1.4.1.2:  Summary of Asset Categories

Source: Tax Code.

Buildings and structures are each depreciated separately, whereas the other asset groups are depreciated using the balance of the asset group at the end of the tax year. The balance of the asset group is adjusted for purchases, sales, and repairs. The maximum deduction for repair expenses is 5 percent of the balance of each asset group. Any repairs that exceed 5 percent are added to the balance of the asset group and depreciated as such.

Physical persons who incur a loss in a tax year (i.e., deductions exceed gross income) and who are not connected to employment may not deduct such losses from employment income, but may carry forward and deduct the loss from non-wage income for a period up to 5 years after the tax year in which the net loss occurred. Legal persons who incur a loss in a tax year may carry forward and deduct losses from profit for a period of up to 5 years after the tax year in which the net loss occurred.

Tax credits are subtracted directly from the tax liability. There is a tax credit against Georgian taxes for income and profit taxes paid outside of Georgia, as long as the credit does not exceed the amount of tax charged in Georgia.

A taxpayer may record income and expenses under either the cash basis method or accrual basis method of accounting, but must use the same method for both accounting and tax purposes, and must use the same method throughout the tax year. A physical person must keep records using the accrual basis method for income from entrepreneurial activity.

Profit taxes must be paid in three installments based on the profit tax liability of the previous year. These are:

·     Before May 15th: 30 percent of the previous year’s tax liability

·     Before August 15th: 30 percent of the previous year’s tax liability

·     Before November 15th: 40 percent of the previous year’s tax liability.

Taxpayers who have no taxable income in the previous year make payments according to the actual income of the previous quarter.

Installment payments may be reduced if current year income is expected to be at least 30 percent less than income of the previous year. Permission of the head of the tax agency, requested 1 month before the date of payment is required to do so. Resident legal persons and nonresident legal persons who have income from a Georgian source that is not taxed at the source of payment must submit a tax return before April 1st of the year following the year of the reporting year to the tax agency at the place of registration. Before the due date of a profit tax return, the taxpayer may apply to a tax body for an extension of time to submit the return.

Profit taxpayers who cease their entrepreneurial activity in Georgia must submit an income tax return to the tax agency within 30 days of ceasing activities. Legal persons who decide to liquidate must immediately notify the tax service in writing of their plans to liquidate and must file a profit tax return within 15 days of the decision to liquidate.

Value Added Tax. Value added tax (VAT) is collected at every stage of production and distribution. Persons or enterprises with annual taxable turnover less than 24,000 GEL per year are not required to register with the tax authority and pay VAT, although they may.

An enterprise charges VAT on its sales and pays VAT to the suppliers of materials and providers of services it receives. The enterprise then accounts to the tax department for the difference between the tax that it charged on its sales and the tax that it paid on the goods and services supplied to it. This difference usually results in a net payment to the budget, but in some circumstances it can result in a credit to the enterprise.

An enterprise registered for VAT that carries out a taxable transaction is required to prepare and issue a tax invoice to the person who receives goods or services. VAT invoices are purchased from respective regional tax offices at a cost of 0.18 GEL per invoice. The purchaser is given two copies of the invoice and both the seller and the purchaser must submit one copy to their local tax agencies for control purposes. Buyers and sellers are required to submit VAT declarations every month, no later than the 15th of the month following the reporting period. The total VAT an enterprise pays to the budget each month is the total VAT charged on its outputs (sales) less the total (allowable) VAT paid on its inputs (purchases) during that month. VAT paid on inputs can be credited against VAT paid on outputs if inputs are used for economic activities (offset for charities, entertainment, representative expenses are not allowed) and the enterprise has an invoice of paid VAT. VAT paid on exempt goods or on automobiles cannot be offset. If the input tax exceeds the output tax, the enterprise receives a credit for the excess. VAT on taxable imports is levied and collected by customs agencies.

The VAT rate in Georgia is 20 percent. A zero percent rate applies to exports and the categories of goods and services identified below. Annex D provides a list of VAT exemptions.

Exemption means that producers or suppliers of exempt goods and services do not charge VAT on their output, but cannot claim a credit on the VAT paid on inputs used to produce the exempt output.

Social Taxes. Social taxes include both social and employment taxes and are imposed on monetary and non-monetary wages and other forms of compensation paid to employees, as well as on income earned by physical person entrepreneurs from their economic activities. The social tax rates are summarized in Table 1.4.1.3.

Table 1.4.1.3:  Social Tax Rates

Source: Tax Code.

Social taxes must be paid by:

·     Physical person entrepreneurs and legal persons who make wage payments to employees working in Georgia or who make payments to physical person who render services in Georgia

·     Physical persons receiving remuneration from employment or the performance of services

·     Physical person entrepreneurs who conduct entrepreneurial activity in Georgia

·     Physical persons who perform non-entrepreneurial activity in Georgia, including lawyers, doctors, notaries, and other professions.

For public organizations of disabled persons as well as enterprises that have a workforce of 70 percent or more disabled persons and pensioners, the 27 percent tax rate is reduced to 10 percent.

Employers who pay wages to employees or to individuals performing services must remit social taxes to the tax administration at the time that wages are paid. Employees’ social taxes are withheld and remitted along with the employer’s social tax payment. Employers are required to submit their social tax returns before the 15th day following the reporting month.

Physical person entrepreneurs and physical persons who carry out economic activities classified as non-entrepreneurial (under the Law on Entrepreneurs) must remit social taxes along with their income taxes. The social tax return must be submitted along with the income tax return.

Excise Taxes. Excise taxes are levied on specific excisable goods produced in Georgia or imported into Georgia. Unless exempted, all physical and legal persons who produce excisable goods on the territory of Georgia or who import excisable goods must pay excise taxes. Exports of excisable goods are taxed at a zero rate.

Several products are exempt from excise taxes, including:

·     Alcoholic beverages produced by a physical person for personal consumption

·     The import of 2 litres of alcoholic beverages and 200 cigarettes by a physical person for personal consumption

·     The transit and temporary import of excisable goods into the customs territory of Georgia

·     The re-export of excisable goods

·     The import of automobiles and tires for humanitarian aid during a natural disaster

·     Aviation fuel to be supplied on board for international flights

·     Import or supply of oil products necessary to carry out oil and gas transactions (specified by the oil and gas law of Georgia).

Excise taxes must be paid up to the 10th of the next month after carrying out the taxable transaction. The taxable transaction for products produced in Georgia is considered to occur at the earlier of 90 days from the delivery (transfer) of goods or the moment of payment. In the case of imports, the taxable transaction is considered to occur at the time the goods are imported, and the excise tax is collected by customs agencies. For excisable products subject to excise stamping, the taxable transaction is considered to occur at the time the goods are delivered, and the total amount of excise must be paid upon purchasing the stamps. Excise stamps are required for most imported and domestically produced alcohol products and tobacco products, except for pipe tobacco.

For goods produced on the territory of Georgia, the amount of the taxable transaction is the payment received or to be received by the taxpayer from the customer, excluding the amount of the excise tax and VAT. This amount cannot be less than the wholesale market price excluding the excise tax and VAT. For goods sold at the retail level, the amount of the taxable transaction is the market price of the goods at the wholesale level not including the amount of the excise tax and VAT. For alcohol products, the amount of the taxable transaction is based on the volume of alcoholic beverages. For imported goods, the amount of the taxable transaction is the customs value of the goods determined in accordance with the customs legislation of Georgia (but not less than the wholesale market price, excluding the excise tax and VAT) plus the amount of duties and taxes payable on the import of the goods (except for the excise tax and VAT).

Property Taxes. Georgian enterprises, branch offices, and other similar subsidiary enterprises that have an independent balance sheet and settlement account, foreign enterprises operating through a permanent establishment, and organizations whose property or part of property is used for economic activity must pay property tax.

Property subject to this tax includes fixed assets, installed equipment, uncompleted capital investment, intangible assets that are listed on the balance sheet of an enterprise, as well as such property listed on the balance sheet of an organization and used for economic activity. For foreign enterprises, only property connected with the permanent establishment of the enterprise is subject to property tax.

The property tax rate is 1 percent of the value of the property. The tax is due in four equal payments, before February 15th, May 15th, August 15th, and November 15th.

Tax on the Use of Land. Physical and legal persons who are owners or users of land plots, including land used for agricultural and non-agricultural purposes, are subject to tax on the use of land.

The base rate of the tax for the use of nonagricultural land is 0.24 GEL per square meter of land. This tax is due in equal parts before August 15th and before November 15th of the reporting year.

The base rates for agricultural land are set on a per hectare basis and vary depending on location and use. This tax is due on or before November 1st of the reporting year.

Tax on Economic Activity. This local tax is paid by all physical and legal persons engaged in any economic activity on the territory of a corresponding city (region).

This tax rate is set by local governments, but cannot exceed 1 percent of income (less material expenditures and VAT). For port services (loading and unloading ships) the maximum rate is 2 percent of income (less VAT).

Other Taxes.

Tax on the Transfer of Property. This tax is imposed on the transfer of real estate located in Georgia, inheritances and gifts, and the transfer of motor vehicles. The transferee is subject to the tax. Transfers of title, as well as certain leases of real estate are taxable.

The taxable amount is the amount of compensation transferred (but not less than the market price), including assumed indebtedness. In the case of a lease or tenancy, the taxable amount is determined by discounting the amount payable under the lease or tenancy agreement.

The tax rate on the transfer of real estate is 2 percent of the taxable amount. The tax is due prior to the registration of the documents transferring the property. If the property is not registered, the tax is due at the time the property is transferred.

For property received as inheritance, the tax is due no later than 6 months from the receipt of documents transferring title. For property received as gifts, the tax is due within 1 month of the transfer.

Tax on the Use of Natural Resources. Physical and legal persons engaged in any activity that requires a license for the use of natural resources (with the exception of land) owned by the state must pay this tax. The tax is imposed on the volume of natural resources extracted.

The tax rates vary by natural resource. For minerals, the rate is between 1 and 15 percent (of the price of the mineral resources extracted), timber 2–34 percent, water 3–10 percent, animals 2–55 percent.

The tax for the use of natural resources is due before the 15th of the month following the reporting month. However, the tax for timber and flora resources should be paid at the time of their transportation from the forest; the tax for water resources should be paid before December 1st of the relevant year; and the tax on hunting birds in migration should be paid on receipt of the license.

The tax on natural resources must be paid within 3 months after receiving the license for using the natural resources.

Exempt from this tax are the mineral resources gained in the course of underground construction. In addition, the tax rate is reduced by 70 percent for use of natural resources in connection with scientific and cultural activities and for users of natural resources that have carried out restoration or replacement of natural resources from their own funds, within the limits of the volume of restored resources.

Environmental Taxes. This tax must be paid by physical and legal persons engaged in any activity listed in categories 1–4 of the Law of Georgia on Environmental Permits (October 15, 1996), who pollute the environment from fixed sources or who import or produce gasoline, diesel fuel, kerosene, natural gas (except as used as a raw material for production of goods), or liquid gas.

Tax rates are based on the pollutant emitted, whether it is emitted into the atmosphere or water (either directly or through sewers and storm drains), and geographic region. For other items the tax is based on the amount imported or produced. Imported goods that are later exported are exempt from this tax.

Tax rates apply to pollutants emitted within limits set by environmental laws. Pollutants emitted in excess of established limits are subject to a fine equal to five times the tax rate for pollution within the limit (see the section on fines and penalties below).

Taxpayers who pollute the environment from fixed sources must submit a tax return certified by the Ministry of Environment and Natural Resource Protection to the tax agency and pay the tax by the 15th of the month following the reporting quarter. Taxpayers who produce or supply gasoline, diesel, kerosene, natural gas, or liquid gas must submit a tax return by the 15th day of the month following the reporting month.

Taxpayers who import any products subject to the pollution tax must pay the tax before the customs agency clears the products. Customs may clear the products only after the tax agency issues a receipt indicating that the tax has been paid.

1.3.4     Existing Taxation Practices

Background. Georgia was one of the first CIS countries to codify its tax legislation in a comprehensive Code. However, since its adoption in 1997, there have been numerous amendments, which have considerably reduced the consistency of the Code. Some of the mayor changes in recent amendments include: i) changes in the tax rates for tobacco products and the tax rates of the motor vehicles ownership tax; ii) repealing provisions in the Code allowing the tax administration to seize and sell delinquent taxpayers’ property; iii) introduction of exemptions from property taxation for enterprises and physical persons in mountainous regions. The IMF carried out a review of tax policy in 2000 and a number of the recommendations from this review were actually included in a tax reform package prepared by the Ministry of Finance in September 2001. However, this package has not been presented to Parliament so far.  Key issues remaining on the tax policy side are:

Unstable tax policy framework. The history of tax policy changes in Georgia since adoption of the tax code demonstrates a lack of long-term policy planning and a focus on short-term policy measures, disregarding the general consistency of the Code. Such approach has led to constant changes to Article 273 (on transitional provisions). Even fundamental policy changes are not introduced as permanent features of the tax system, but as temporary ones. A typical example is the cigarette taxation, which has been modified six times (!) since the Code entered into force. New taxation schemes are often introduced late in the year, for short periods of time and without clarification as to their duration. The current taxation scheme for tobacco products was introduced for the year 2001 only on December 2000 and was extended for another year through another amendment to the Code on December 2001. An even worse case is the excise tax on the importation of pyrolysis liquid products which was set at a rate of 400 GEL per ton on December 2000 and reduced to 50 GEL per ton less then four month later. There are numerous similar examples of short-term tax policy measures and frequent changes of tax legislation Such an approach neither allows the business community to calculate its tax burden over a longer period of time, nor does it permit the revenue authorities to design appropriate taxation strategies and develop a long-term planning of resource mobilization. The strong influence of lobbies in Parliament and the obvious tendency of parliamentarians to further narrow the tax base by granting sector and specific exemptions and rate reductions also contributes significantly to the low quality of tax policy making in Georgia.

VAT Threshold. Currently, VAT registration is mandatory for businesses with an annual taxable turnover of 24,000 GEL or more (and voluntary for a businesses below this threshold).[4] As a result of the low registration threshold, the tax administration has to deal with a large number of small businesses as VAT taxpayers who contribute little to total VAT revenues. For example, an increase of the threshold from 24,000 to 100,000 GEL would reduce the number of mandatory taxpayers from around 13,000 to 3,200. It would at the same time reduce the total VAT collection by around 23 percent.  A reduction in the number of taxpayers could substantially facilitate the administration of the tax and help combat VAT evasion by permitting a more comprehensive cross-checking of VAT invoices and making it more difficult to establish shell companies for evasion purposes. [5]However, this result can only be achieved if the scope for voluntary registration is reduced. The Ministry of Finance therefore should consider to limit voluntary registration, e.g. by excluding businesses with a turnover below 50,000 GEL.

VAT Distortions. There is increasing frustration with the performance of VAT and the distortions its creates because the tax net is narrow and businesses are often unable to deduct VAT payments on their inputs.  First, despite the low threshold, the number of 17, 000 businesses registered is quite low by international standards.  Second, a true VAT, which is supposed to avoid tax cascading and economic distortions, requires a prompt and full refund of the part of the tax on inputs which exceeds the tax due on outputs. This is especially important for exporters. In Georgia the amount of unpaid VAT refunds is large (about 29 million GEL at the end of 2001). Tax inspectors should eliminate the practice of treating VAT as advanced payments against future tax liabilities in order to meet their monthly revenue targets (see section on tax administration below). Third, while many countries have introduced limited exemptions or reduced rates in their VAT laws to reduce regressive elements of the tax, the scope of tax privileges in the Georgian VAT continues to increase, and the country has embarked on the dangerous path to use tax privileges as a way to compensate for administrative or legal deficiencies.

Frustration with the distortion effects of the VAT has caused some policy makers to consider whether to replace the VAT with a sales tax. The objective would be to reduce compliance risks by applying the tax to one stage of the business cycle only. There are serious concerns regarding this idea. VAT despite its relatively low efficiency has become the main revenue source, contributing 45 percent to total gross tax revenues in 2001. Experience in other countries shows that sales taxes have a far lower revenue potential than the VAT, because it does not capture the total value added in the production and distribution phases and their rates normally are not higher than 5 percent--because of administrative difficulties. In addition, compliance risks and compliance management challenges would not be reduced because collection would have to rely on the retail sector which is more difficult to administer. Rather than replacing the VAT with a sales tax, the focus should be to improve VAT administration and actually implement the key principles of the tax, such as an effective refund system for exporters. A performance of the tax improves; consideration could then be given later to lowering the standard VAT rate.

Proposed simplified tax. To compensate for the revenue loss caused by increasing the VAT threshold, MoF plans to introduce a simplified tax for taxpayers who are not registered for VAT, and to modify the current presumptive tax for individual enterprises, which raises relatively little revenues (in 2000 actual presumptive tax collection was only 5 million GEL or 0.7 percent of total tax revenues), by changing it to a fixed tax with a broader tax base. The MoF proposal is to levy the simplified tax rate of 7 percent on gross income, which will require some basic accounting.  The fixed tax will, similar to the current presumptive tax, be based on the nature of the business activity, the size of the business and the business location; it will include more types of small businesses than the presumptive tax. Although some (Foreign Investor Advisory Service (FIAS) December 2001 report[6]) consider a fixed tax to be extremely complicated, it need not be so. The fixed tax, if well designed, can be transparent and easy to administer tax.  It offers no scope for negotiation to taxpayers, does not require detailed bookkeeping, and could reduce the opportunity for corruption and the compliance costs for taxpayers. There are some issues regarding this presumptive taxation scheme:

The combined fixed tax and simplified tax is supposed to compensate for the increase of the VAT threshold. However, estimated revenues from the fixed and the simplified tax are 27 million GEL, which is far less than the expected decrease in VAT revenues. While the increase of the VAT threshold and the introduction of the fixed tax are laudable reforms, the revenue impact of the reform will need to be studied further.

Parliament has rejected the proposed simplified tax because it considers the rate (7 percent) too high and the coverage too narrow. According to some parliamentarians, the scope of the tax should extend to some larger businesses, which clearly reflects the interest of certain business sectors to simplify and reduce taxation. Presumptive taxation based on gross figures should be limited to Small & Medium-Sized Enterprises (SMEs) with no sufficient bookkeeping, while all larger businesses are required to keep books and records and are taxed on a net basis. There is no good reason to extend the scope of the simplified tax to larger tax payers.

Excise Taxation.  Due to its open borders and weak administrative capacity Georgia faces major problems collecting excise taxes. Reduction in excise tax rates has been the preferred method to improve compliance, but with no positive results so far. Despite this experience the trend to reduce excises continues, which is worrisome. Georgian excise taxes are actually very low by international standards already, and the focus should more be on efficiently enforcing the excise tax regime. Compared to the CIS country average, excise tax revenues in Georgia are low; in 2000 excises in Georgia contributed 1.5 percent to GDP, while the CIS average was 2.1 percent. Looking at neighbouring countries, excise revenue performance is much higher in Armenia with 2.5 percent of GDP and somewhat higher in Russia with 1.9 percent of GDP; it is much lower, however, in Azerbaijan with only 0.5 percent of GDP (which is together with Tajikistan the lowest figure in the CIS region). The fact that Georgia has managed to accumulate a surprisingly high level of tax arrears in an area where arrears normally should not build up – according to IMF data the amount of tax arrears on excises was equivalent to 2.7 percent of GDP by beginning of 2000 – shows, however, that excise revenue increases will also depend on the ability and support of the tax administration to collect revenues from major businesses in the oil and cigarette industry.

Income and social tax.  The high tax burden of the personal income tax (PIT) and the social security tax provides a strong incentive to evade the payment of these taxes.  Although the personal income tax has reasonably progressive rates (from 12 percent to a maximum of 20 percent), the marginal cost of taxes for both employees and employers creates strong incentives not to formalize the labor contract: employees prefer current to future consumption, while employers seek to reduce costs and increase competitiveness. Overall, the taxation rate of the PIT and the social security tax over the net wage is 68 percent.  This implies that for each additional GEL paid to worker in net wage, there is 0.68 GEL to be paid in taxes if the contract is formalized. Financing of the pension system continues to suffer from low compliance in the area of social taxes.  (for more details see Social Protection Chapter).

Corporate and income tax exemptions. The Tax Code currently includes a  number of exemptions from corporate and personal income tax, which narrow the tax base, increase the discretion of tax inspectors and the potential for corruption. The IMF has recommended to review and abolish many of these exemptions.  The Ministry of Finance has started preparing an amendment to the Code eliminating most of the current exemptions from personal and corporate income tax. This includes in particular the exemptions from CIT for enterprises in mountainous regions, the exemption of profit generated by energy renewable sources, consumer appliances and energy saving equipment.  However, this proposal to amend the Code will still have to be finally presented to the Parliament, after it was withdrawn in September 2001.

Administrative provisions for tax enforcement. An essential feature of a good tax code is a clear definition of tax administration procedures and rights and obligations of taxpayers and tax officials. A reasonable balance needs to be defined between the interests of the taxpayer to simplify taxation procedures and reduce administrative burden and the interest of the tax administration to effectively enforce taxation. In Georgia, the possibility to enforce tax collection has been unduly restricted by reducing the powers given to the tax administration in chapter 42 of the tax code to seize and sell delinquent taxpayer property. As a consequence the only remaining enforcement measure, which does not require a court ruling, is the freezing of a taxpayer’s bank account. Considering the absence of specialized tax courts and the weakness of the court system in Georgia, this does not provide the tax administration with sufficient means to improve its compliance management. Enforcement powers of the tax administration should be harmonized with current practice in Organization for Economic Co-operation and Development (OECD) countries.

Abolishing nuisance taxes.  Earlier the World Bank and IMF reports have recommended the elimination of nuisance taxes because they typically have extremely low revenue yield and are a burden for small businesses. The tax package prepared Ministry of Finance included the elimination of some of these nuisance taxes, (e.g., the tax on economic activities, the resort tax, the hotel tax, the advertisement tax, and the tax on the use of local symbols), but no progress has been made partly because these taxes are assigned to local governments. However, due to their very limited revenue potential, they contribute less than 10 percent of total local revenues. Considering the administrative and compliance costs of these taxes the actual revenue gains might even be negative, efforts to eliminate these taxes will need to continue.

1.3.5     Tax Reform Areas

General. The public perception of the quality and fairness of tax and customs administration in Georgia is generally very negative.[7] Substantial and visible improvements on the ground will be needed to begin dispelling this perception. This also requires a political commitment to abolish practices which protect and support special interests of taxpayer groups by introducing special exemptions in the tax legislation, thus eroding the tax base, or/and executing pressure on the revenue authorities to grant favourable treatment to specific taxpayers. It will also be necessary to reduce the incentives for revenue officials to participate in corrupt practices and to develop the necessary control mechanisms to detect and punish such behaviour.

Efforts to reduce capture and corruption are to be complemented by long-term strategies to improve the tax policy design and build revenue administration capacity. Tax policy reforms should focus on overall policy design issues instead of exclusively discussing the level of tax rates. Eventual tax rate reductions will only be feasible if accompanied by broadening of the tax base and administrative improvements. Key to improving administration is the effective implementation of self-assessment and the fair and equitable treatment of all taxpayers. Two areas that require special attention are (a) customs administration, and (b) enforcement of personal income tax and social security contributions.

Short-term Reform Priorities. While substantial capacity building in tax and customs requires long-term strategies, there are a number of essential short-term reform initiatives, which should be launched immediately, to improve revenue performance and reduce tax-related distortions.

Tax policy. The main challenge is to stabilize the tax policy framework, and avoid ad-hoc short-term policy measures.  In general, the revenue impact of tax exemptions should be properly analyzed, and no further exemptions/tax reductions should be introduced without such analysis is explicitly presented in Parliament. Any tax policy changes should be taken in the context of the annual budget. It also recommended that the 2001 tax package prepared by MoF be re-submitted to Parliament, including key elements such as: reducing the scope of exemptions, raising the VAT threshold to GEL 100,000 (or US$50,000) and introducing complementary simplified tax.

Tax administration. A number of actions could be take to support long-term reform efforts:

Discontinue the practice of soliciting advanced payments to meet revenue targets and Design a new performance measurement system with appropriate indicators, supplemented by special incentives to improve revenue administration practices;

Centralize revenue accounts in the Treasury and make payments on “a first come first served basis”;

Begin implementation of special program to control imports through the railway system, especially of petroleum products;

Increase coverage of LTI and focus on improving LTI performance.

• Prepare legislative changes to reintroduce sufficient powers for the tax administration to enforce tax collection.

A Longer-term Agenda. A more comprehensive reform program for the medium and long-term reform of the Georgian revenue system will then need to consider the following issues:

Broadening the base and lowering tax rates.  While some taxes may be relatively high and may promote non-compliance – especially the general VAT rate of 20 percent and the combined tax burden on labor – taxes from excisable products are not fully exploited. A longer term tax policy reform objective for a poor economy like Georgia should  be to reduce the tax burden on consumption and labor. However, this can only be achieved by (a) broadening the tax base of VAT and profit/income taxes; (b) increasing collection by improving the efficiency and effectiveness of tax and customs administration.

Past experience with tax policy reform in Georgia has shown that mere tax rate reductions without corresponding improvements in enforcement and compliance management will not contribute to increasing tax compliance. Rate reductions therefore do seem not feasible as long as revenue losses from the rate reduction cannot be compensated by a broader tax base and a better enforcement. Tax policy reform in Georgia therefore will need to mirror experience with tax reform in OECD countries in the last two decades, where rate reductions (mainly in the area of direct taxation) were achieved through base broadening and improving tax administration.

VAT Reform. The VAT should not be replaced by a sales tax. Rather, the VAT as the mainstay of the revenue system in Georgia should be strengthened. The VAT design appears buoyant, albeit if its base has been eroded by exemptions, privileges, and fraudulent practices involving both tax inspectors and tax payers.  Increasing the threshold and reducing the number of taxpayers will help improve its administration and implement the true spirit of the VAT. Corresponding decreases in revenues can be compensated by introducing a simplified tax, as proposed by Government, and reducing exemptions to broaden the tax base.  The implementation of a true VAT necessarily has to ensure refunds for exporters and zero rated goods. On the administrative side, it is important to advance existing initiatives to improve cross-checking, monitor registration, and regulate invoices.

Tax Simplification. The elimination of nuisance taxes will facilitate administration and reduce the administrative burden on small businesses. In Georgia, nuisance taxes are local taxes generating little revenue. The best would be to eliminate these taxes and find alternative (more solid) own revenue sources for local governments, such as the land and property tax, which are not currently collected centrally (see Chapter IV on Inter-governmental Fiscal Relations). In some cases, these are complemented by a small turnover tax, as is already the case in Georgia.

Addressing corruption. The creation of an Inspector General Office (IGO) within the MoR has been a step in the right direction. The work of the IGO should be provided with the appropriate legal and technical instruments to carry out its function. Technically, it is important to develop accurate assessments of where the opportunities for corruption arise, through an analysis of the business process and the use of indirect statistical methods. Legally, the IGO must have the powers to access relevant information from tax-offices and taxpayers. It should also be clear to the agencies and to the public how the recommendations of the IGO would be implemented. The role of the Chamber of Control in evaluating tax performance will no doubt be helped as the IGO builds up strength. The government needs to consider if the current profile of corruption requires development of legal instruments, other than those dealing with corrupt practices in the public sector, to address corruption in the revenue agencies.

Making effective a functional organization. The centrepiece of a modern approach to tax administration is self-assessment. To properly implement self-assessment requires changing the culture, both in government and society, of how taxes are calculated and collected. The direct contact between officials and taxpayers should be reduced, with emphasis shifted to taxpayer services, quick attention to arrears enforcement and selective but effective auditing. Internal control and anti-corruption services should help keep taxpayers and officials honest. Appeals mechanisms should serve to protect taxpayers rights. The extensive advise provided by donors has already acquainted the authorities with the principles of self-assessment. However, the reform agenda continues to be broad and will take time to implement. Te following issues would seem to require special attention:

Registration. It is necessary to review the current registry with emphasis on taxpayers that are not active and looking for quality taxpayers that may be hiding as small or not even registered.

Arrears enforcement. The current stock of arrears plus fines and penalties is large but a large portion of it might not be collectable. It is necessary to make a realistic assessment of what can be collected from the stock and develop timely methods to prevent new arrears from aging, setting clear priorities.

Auditing. There should be a sustained effort to build the quality of auditing. Special attention initially could be placed on critical aspects of the VAT such as VAT refunds, cross-checking of credits and fake invoices. Important to good auditing is the development of risks profiles to guide selection and improve effectiveness. Greater information management capacities available now have to be used to develop such profiles.

LTI. The LTI in not a centre of excellence. Efforts to update the roaster of large taxpayers and to reach coverage of at least 50 percent of the revenues collected by the tax agency are worthwhile, but they have to be sustained. The LTI has to take a more proactive attitude to performance and reform and it is good place to begin developing new incentive mechanisms away from simple revenue targeting.

IDA Support to the Private Sector in Georgia

IDA's Policy. To support private sector development and attract needed foreign investment, the World Bank (namely IDA) has developed the Country Assistance Strategy (CAS), which focuses on removing key policy and institutional (including governance) constraints, as well as financial, energy and infrastructure bottlenecks.  On the basis of the FY03 Integrated Trade Development Strategy IDA will provide reform support and progress monitoring through the ongoing Enterprise Rehabilitation Project, an FY06 Private Sector Development Project, and the ongoing Business Environment Surveys and Studies.  IDA will also provide support (in conjunction with USAID) for improving access to affordable finance through further financial sector reform, and will help reduce trade, transit and marketing costs through the FY05 Trade and Transport Facilitation Project, building on the FY03 South Caucasus Trade and Transport Facilitation Study.  IFC will complement these activities through investments in small and medium-sized businesses and, in coordination with USAID, through technical assistance for business development.  Support for alleviating energy bottlenecks will be provided by IDA’s ongoing energy portfolio and dialogue.

Support to SMEs.  The Small and Medium Scale Enterprise (SME) sector is a crucial area for potential private sector growth, and IDA has been supporting the sector through its ongoing Enterprise Rehabilitation Project.  IDA plans, through the FY06 Private Sector Development Project to provide expanded support for management training, creation of export-oriented clusters of SMEs, advice to business associations and government, and monitoring of the business environment.  Additionally, IFC will conduct a targeted study of the SME sector in Georgia to identify key obstacles to its development, and then recommend specific improvements in the regulatory and administrative environment.

IFC Financial Support to the Private Sector in Georgia

IFC's Policy. IFC’s lending and investments in Georgia have been tailored to the country’s special circumstances: limited foreign investments, the non-existence of large local companies, limited access to financing for a nascent SME sector, and the lack of advice for private companies on business related issues such as corporate governance and leasing. IFC would also provide support directly to the private sector through the Georgia Business Development Project, a five-year technical assistance program implemented by the Private Enterprise Partnership with the support of the Canadian International Development Agency (CIDA). The main components of the project, as already stated in the above, include development of the leasing sector and improvement of corporate governance practices.  The corporate governance initiative is helping Georgian businesses improve their practices to build investor confidence and increase their access to financing. This component of the program also includes advice to the Government on improving corporate governance policies and regulations.

Assistance to SME Sector. To reach small and medium enterprises, IFC provided equity and long-term credit lines to TBC Bank and helped establish Georgia Microfinance Bank – the ProCredit Bank - the country’s first bank specializing in lending to micro and small enterprises. In June 2000, IFC purchased a 10 percent stake in TBC Bank. IFC’s support helped TBC to grow from a “pocket” bank into the largest and one of the best performing commercial banking institutions in Georgia. In 1999, IFC helped establish the ProCredit Bank - the first bank dedicated to lending to micro and small enterprises in the country, and now the fastest growing banking institution in Georgia. IFC has also supported other Local Companies, for example, GG&MW, a mineral water production company, where IFC’s loans supported the company’s acquisition of key strategic assets and strengthened control over its key brand, Borjomi mineral water. IFC’s equity investment helped the company rehabilitate two mineral water bottling facilities, diversify its product mix and develop the distribution network. IFC sold its stake in the company in 2002.

Development of Mortgage Lending. In the financial sector, IFC has focused on supporting the development of the housing finance market.  The introduction of mortgage financing has allowed individuals for the first time to leverage their residences to increase their standard of living.  In 2000, IFC extended a $3 million credit line to the Bank of Georgia, and together with re-flows, this credit line financed over 500 projects totalling $4.5 million.  In June 2003, IFC provided a second $5 million credit line to the Bank of Georgia for housing finance and for on-lending to small and medium enterprises.  In August 2001, IFC provided a second $3 million loan to TBC Bank to support the development of its mortgage lending.

Facilitation of Foreign Investments: IFC invested in equity and provided loans to Ksani Glass Factory, a producer of high-quality glass bottles and packaging. IFC’s The $2.5 million equity investment and $6.3 million loan supported Ksani’s expansion and modernization.  At project completion, the facility will be producing 40,000 tons of high quality glass bottles annually with a high level of product flexibility.  In the power sector IFC provided a $30 million loan to AES Corporation to support the newly privatized Tbilisi area power distribu­tion company.  The loan was pre-paid in August 2003, when the AES Corporation sold Tbilisi electricity distribution system to UES.

1.6  Legislative Basis for the Operation of the Private Companies

General. The operation of the private companies in Georgia is mainly regulated by the following two laws: a) Law on Entrepreneurs (LoE) (Corporate Law), which sets the corporate governance principles for the private companies (i.e. Limited Liability Companies and Joint Stock Companies); and b) Securities Market Law (SML), which regulates the activities of the private companies permitted to issue and trade the shares on the securities market (i.e. Joint Stock Companies). Both laws are reviewed below.

1.5.1     Law of Georgia on Entrepreneurs (LoE) (Corporate Law)

Under the Law of Georgia on Entrepreneurs the following forms of commercial entities may be established in Georgia:

                                i.    Sole proprietorship—An enterprise operated by a physical person with unlimited liability and no minimum capital requirement.  A sole proprietorship is not considered a legal entity under the commercial code of Georgia.

                               ii.    Joint Liability Company—A legal entity with unlimited liability established on the basis of a partnership of several individuals or companies.

                              iii.    Limited Partnership—A legal entity consisting of general and limited partners. The limited partners have limited liability and general partners bear full and direct liability for the obligations of the company.

                              iv.    Limited Liability Company—A legal entity that is separate and distinct from its shareholders (one or more legal or physical persons). The company’s liability is limited to its authorized capital. Founders and shareholders are not liable for the obligations of the company.

                               v.    Joint Stock Company—A legal entity characterized by the limited liability of the partners. The company’s liability is limited to its authorized capital.

                              vi.    Cooperative—A legal entity characterized by the limited liability of the shareholders. In Georgia, this is a common form of organization for agricultural enterprises.

Sole proprietorships, joint liability, limited partnerships and cooperatives are rarely established by foreign investors in Georgia. Therefore, the following focuses on the legal requirements for Limited Liability Companies (LLCs) and Joint Stock Companies (JSCs), which are the most popular forms of incorporation used by foreign investors in Georgia.

The Law on Entrepreneurs does not set limitations on the domicile of partners. A partner in a legal enterprise can be a citizen or resident of any country. Foreign companies can be established as fully foreign-owned enterprises or in partnership with Georgian companies or physical persons. In accordance with the Law on the Promotion and Guarantees of Investment Activities of November 12, 1996, companies with foreign investments enjoy national treatment and the same rights as Georgian companies.

Provisions of the Law on Entrepreneurs for Limited Liability Companies (LLC):

·     An LLC can have a maximum of 50 shareholders. The minimum equity capital requirement is 2,000 GEL. The share of the equity capital to be covered by each of the partners may be determined freely, but it must be divisible by 10;

·     At least 50 percent of the equity capital must be paid up at the time of incorporation, with the remaining 50 percent due within one year;

·     The Law stipulates that a partners’ meeting be held at least annually. Special meetings may be called at the request of partners or directors of the firm;

·     Partners’ meetings are required to consider issues such as amendments to regulations, reorganization or liquidation of the company, appointment of directors, and so on;

·     Day-to-day management of the company is carried out by one or more directors who are appointed and dismissed by the general meeting or the supervisory board, when such a board is established at the discretion of the general partners meeting;

·     A partner may sell his shares without seeking consent of other partners, unless otherwise stated in the charter of the company;

·     Partners who posses 5 percent and more of the equity capital are authorized to call a general meeting.

Provisions of the Law on Entrepreneurs for Joint Stock Companies (JSC):

·     An entity with more than 50 partners is required to have a legal form of a Joint Stock Company (JSC);

·     Minimum equity capital for JSC is 15,000 GEL;

·     A JSC with more than 100 shareholders is required to maintain its share registry through an independent registrar (In 2003 amendments were adopted into the law requiring that a JSC with more than 50 shareholders is required to maintain its share registry through an independent registrar);

·     A general shareholders' meeting must be held in two months time form publishing annual financial accounts;

·     A general shareholders' meeting is entitled to elect the supervisory board members, make amendments into the charter of the company, approve the annual report presented by the company directors, elect auditors and so on;

·     Creation of a supervisory board is mandatory for a JSC. Supervisory boards must have between 3 and 21 members, but the number must be divisible by 3. The Law provides for representation of company staff on the supervisory board (up to 1/3 of the members);

·     Supervisory board is elected for the period of 4 years. The company directors may not be the members of the supervisory board;

·     Supervisory board meeting must be held al least once in a quarter;

·     Day-to-day management of the company is carried out by one or more directors who are appointed and dismissed by the supervisory board;

·     Supervisory board oversees the activities carried out by the company directors, checks the annual financial accounts, appoints and dismisses the company directors, etc.;

·     The consent of the supervisory board is needed to conduct the following activities: purchasing or selling more than 50% share of entities, purchasing or selling the assets of the company, setting up or liquidating the branches of the company, etc.;

The law envisages a cumulative voting for electing the members of a supervisory board to protect minority shareholders, but this is not a mandatory requirement.

Representative Offices and Branches. A foreign company may operate a branch or a representative office in Georgia. A branch is not a separate legal entity and it is allowed to engage in commercial activities that would constitute all or part of the activities of foreign head office. For purposes of registration, representative offices are treated as branches and are obliged to fulfil the same requirements.

All actions on behalf of a company can be performed by the head of the company (executive body) or by any person authorized to perform such actions by a power of attorney of the relevant body of the company. Foreign legal entities bear full liability for the activities of branches or representative offices.

Analysis - Law on Entrepreneurs (LoE). As the main company law for Georgia, the Law on Entrepreneurs provides a good basis for corporate governance for all the private companies including those with traded securities. However, based on the experience of other central and eastern European countries, there are several provisions in the Law on Entrepreneurs that could be amended to further strengthen the corporate governance provisions. They are: (1) although the LoE envisages a cumulative voting for electing the members of a supervisory board to protect minority shareholders, it should be made a mandatory requirement. As a result, there will be a mandatory cumulative voting for members of supervisory boards as a means of allowing shareholders with small shareholdings to vote at least one member of the supervisory board; (2) requirement that the shareholders’ meeting approve the auditing company’s contract (covering the scope of work and annual auditing fees) so that shareholders interested in a highly quality audit, requiring more time from the auditing company, can obtain such an audit, and (3) There is a need to establish a minimum quorum below which no shareholders’ meeting may be considered valid; (4) although the LoE requires the financial statements of JSCs to be prepared on the basis of the International Accounting Standards (IAS), it does not specifically require that audits are conducted in accordance with the International Standards on Auditing (ISA), which needs to be amended; and (5) the LoE does not provide takeover rules to protect the interests of minority shareholders.

More specifically, the World Bank (WB) and the International Monetary Fund (IMF) conducted the Assessment of the Implementation of the Corporate Governance Principles of the Organisation of Economic Co-operation and Development (OECD) in Georgia. It is interesting to note that the assessment identified a number of the shortcomings in the corporate governance practice existing in Georgia. Namely, according to the study: (i) There are uncertainties in knowing if shareholders are sharing in company’s profits; (ii) It is not uncommon practice of failing to hold the required shareholders’ meetings; (iii) Markets for corporate control are limited; (iv) Court system has not yet made any decisions on the cases concerning corporate disputes; (v) Minor role is played by supervisory boards in the strategic guidance of companies; (vi) There is a less than complete disclosure by most reporting companies, particularly of financial and operating results; (vii) There are weak auditing practices;

More detailed results of the assessment are summarised in Table 1.2.1.1 below:

Table 1.2.1.1. Georgia: Assessment of the Implementation of the OECD Principles

of Corporate Governance

1.5.2     Law of Georgia on Securities Market (SML)

The Securities Market Law (SML) regulates the Joint Stock Companies whose shares are traded at Georgian Stock Exchange.

The main principles of the Securities Market Law (SML) are the following:

The purpose of the Law is to develop securities market in Georgia, to protect the investors' interests on securities market, as well as to establish fair and transparent public trading in securities and free competition;

The Georgian Securities Market is regulated by the National Securities Commission of Georgia (NSCG);

The public offering of securities is an offer to sell securities directly or indirectly on behalf of the issuer to at least 100 persons or to unspecified numbers of persons;

A company, which has a class of Publicly Held Securities, shall be deemed to be a reporting company;

All reporting companies shall prepare and submit to the National Securities Commission of Georgia (NSCG) and publish or distribute to registered owners:

              I.    Annual reports;
(b) Semi-annual reports; and
(c) Current reports.

            II.    Every person who is a member of a managing body of a reporting company shall file with the National Securities Commission of Georgia (NSCG) a report regarding the percentage of this company's securities of which he is the beneficial owner;

           III.    A person, acting independently or together with other persons (a "group"), shall inform the National Securities Commission of Georgia (NSCG) about the substantial acquisition of securities;

           IV.    Substantial acquisition of securities means beneficial ownership of securities, which provide 5% or more of the voting rights in a reporting company and also when level of beneficial ownership changes by more than 5% from that originally reported;

            V.    Members of the managing body of a reporting company shall exercise their rights and perform their duties: a) in good faith, b) with the care that an ordinary prudent person in a similar position would exercise under similar circumstances, and c) in a manner that they believe to be in the best interest of the company and its security holders;

           VI.    A Stock Exchange shall be the exclusive organizer of secondary public trading in securities;

         VII.    All purchases and sales of Publicly Held Securities shall be concluded through a licensed Brokerage Company;

A licensed Central Depository shall perform the following functions:
a) open, operate and close securities accounts of participants in accordance with its rules;
b) facilitate the settlement of securities transactions without physical delivery of securities certificates and, in furtherance thereof, provide facilities for comparison of data respecting the terms of settlement of securities transactions.

Licensed Stock Exchanges and a Licensed Central Depository shall be designated Self‑Regulatory Organizations (SROs) under this law;

 The main objective of such an organization, as an SRO, shall be to:

a)    Pprepare rules for its members and supervise compliance with such rules;
Apply sanctions provided for in its inner regulations and rules or charter against members for non-compliance with its rules.

Insider means any person who, by virtue of his membership in the managing body of a reporting company, his holdings in the capital of such company, or based upon his access to such information by virtue of the exercise of his employment, profession or duties, possesses inside information. Other persons obtaining inside information that evidently originated with an insider shall be likewise considered insiders.

It shall be unlawful for any insider, and any person who knowingly receives inside information from an insider, to:

a) Acquire or dispose of, for his own account, or the account of a third party, either directly or indirectly, Publicly Held Securities of the reporting company or companies to which that inside information relates;

b) Disclose inside information to any third party unless such disclosure is made in the normal course of the exercise of his employment, profession or duties;

c) Recommend to or procure a third party, on the basis of inside information, to acquire or dispose of Publicly Held Securities.

Analysis - The Securities Market Law (SML). The SML is drawn on German model and mostly reflects the international best practice in the field described in "The Objectives and Principles of Securities Regulation" adopted by the International Organization of Securities Commissions (IOSCO), but it has the following weaknesses: (i) It does not cover collective investment schemes (CIS), such as investment funds, and therefore there is currently no legal basis for the operation of CISs in Georgia[13]. Meanwhile, the experience obtained from the Central and Eastern Europe indicates on crucial importance of CIS, such as investment funds, in increasing the corporate governance standards and facilitating the trust amongst investors towards stock markets; and (ii) The NSCG does not have an authority to supervise private placements.

More specifically, the World Bank (WB) and the International Monetary Fund (IMF), also conducted the Assessment of the Implementation of the Objectives and Principles of Securities Regulation of The International Organization of Securities Commissions (IOSCO) in Georgia. The assessment identified quite a lot of problems in the operation of the securities regulator, the functions of which is assumed by the National Securities Commission of Georgia (NSCG). Namely, the report lists the following problems: (i) NSCG has a seriously insufficient budget; (ii) Code of ethics for NSCG staff is awaited; (iii) No specific oversight program to supervise self-regulatory organizations (SROs) has been established; (iv) Inspection and investigation powers of the NSCG over Reporting Companies and their major shareholders are not adequate; (v) Enforcement power of the NSCG on the basis of criminal legislation is limited; (vi) International Accounting Standards (IAS) are recognized but are not fully adopted in practice; (vii) There in no legislation on Collective Investment Schemes (CIS) in Georgia; (viii) There is no market surveillance and stock watch system to detect abnormal movements and unfair trading practices.

More detailed results of the assessment are summarised in Table 1.2.2.1 below:

Table 1.2.2.1 Georgia: Assessment of the Implementation of the IOSCO Principles

for Securities Regulation

1.5.3     Employment Regulations in Georgia

Labor Code. The Labor Code of Georgia regulates labor relations between workers and employees living in Georgia and enterprise, institution and organization (regardless their ownership and organizational legal form), supports to realization of human rights and freedoms through labor fair reimbursement (legal payment), creation of safe and healthy working conditions for all employees and workers including the working conditions for minors and women. On the basis of international agreements regulating labor relationships, the state protects the labor rights of Georgian citizens abroad. Foreign citizens and stateless persons living in Georgia have the rights and obligations equal to the rights and obligations of citizens of Georgia with some exceptions envisaged by the Constitution and law.

Nondiscrimination. Under the constitution labor is free. Each person has right to choose its field of activity and profession. Discrimination in obtaining a job, or in the workplace, based on race, skin color, language, sex, religion, political and other beliefs, national, ethnic and social origin, property and title of nobility or place of residence is prohibited.

Minimum and Maximum Age of Employment. According to the legislation of Georgia minimum working age is 16 years. Maximum working age is not determined, but pension can be given to a man in the age of 65 years and a woman in the age of 60 years.

Working Hours.  According to the Labor Code of Georgia the duration of the working period is:

- 41 hours per week, with five working days;

- 36 hours per week in certain dangerous or unhealthy activities or jobs.

- The duration of a working day totals 8 hours and 15 minutes.

- Thus, the number of working days per month equals 21,1 days.

- Minimum leave is equal to a total of 24 working days.

Wages. Reimbursement of labor is carried out according to labor amount and quality. According to the legislation, minimum level of salary is determined in the amount of 20 GEL. The nominal average monthly salary of an employee in 2001 made up 91.4 GEL. Higher labor reimbursement is considered for employees working in certain dangerous or unhealthy climatic conditions. However, the wages for each professional category are usually negotiated in labor agreements.

Social Taxes. The article on Social Taxes of the Tax Code of Georgia stipulates a new system of social tax payment. According to the tax code of Georgia, social tax rates are as follows: The amount to be paid into the United State Fund of Social Security is equal to 28% of the salaries paid, out of which the employer has to contribute 27% and the employees have to contribute 1%, and the payment to the United State Fund of Employment is equal to 1% of the salaries paid, which  has to be contributed by the employers.

Medical Insurance Fee. Medical Insurance Fee for legal entities is equal to 3% of the salaries paid. Medical Insurance Fee for all employed persons is equal to 1% of their income (exemptions: compensation surplus for annual leave; bonuses; awards; pensions and allowances).

Social Security System. The social security system of Georgia is based on compulsory social insurance. According to the Presidential Decree dated by June 29, 2000 (No 278), issues relating to the assignment and distribution of state pensions and aids, definition of vulnerability and other medical-social expertise are the responsibility of the Ministry of Health and Social Security. The reform in social insurance system, which was recently carried out in Georgia, encourages the improvement of the social security system and the establishment of private pension funds.

Georgian Trade Unions League. Georgian Trade Unions League is a joint national professional centre of trade unions in Georgia. The main goal of the league is to protect the labor, socio-economical, legal rights and interests of its members. The league includes 33 trade unions and 2 member organizations. Currently, there are 900 000 trade union members in the different organizations of the league. Under the Constitution of Georgia all employees (workers) have the right to join Trade Unions. Georgian Trade Unions League, together with the member organizations, co-operates productively with the General Confederation of Trade Unions, International Labor Organizations, Trade Unions of United States of America, Germany, Denmark, France, Turkey, Israel and other countries. At present, treatment of an issue on accepting the League of Trade Unions of Georgia as a member of Free Trade Unions International Confederation is in progress.

Freedom of Association and the Right to Collective Bargaining.  The law prohibits discrimination by employers against union members, and employers may be prosecuted for antiunion discrimination and forced to reinstate employees and pay back wages; however, there are reports of managements warning staff not to organize trade unions. Some workers, including teachers in the Imereti region, employees of various mining, winemaking, pipeline, and port facilities, and the Tbilisi municipal government reportedly complain of being intimidated or threatened by employers for union organizing activity. Observers also claimed that employers failed to transfer compulsory union dues, deducted from wages, to union bank accounts. The Ministry of Labor has investigated some complaints, but no action has been taken against any employers to date.  There are no legal prohibitions against affiliation and participation in international organizations.  The Constitution and the law allow workers to organize and bargain collectively, and some workers exercise this right; however, the practice of collective bargaining is not widespread.

Forced Labour.  The Constitution prohibits forced or bonded labour, including by children, and provides for sanctions against violators.

Trafficking in Persons.  The law does not prohibit trafficking in persons specifically, although trafficking could be prosecuted under laws prohibiting slavery, forced labor, illegal detention, and fraud.  Georgia is both a source and a transit country for trafficked persons. There have been unconfirmed reports that government customs and border officials were involved in the trafficking of persons.  The Government has prosecuted some traffickers using fraud statutes, but otherwise has no active programs to address the problem of trafficking.  A government program for combating violence against women included a proposal for measures to eliminate trafficking in women for the purpose of sexual exploitation; however, it has not been implemented due to budgetary constraints.  Georgia itself is generally not a destination place for trafficked persons.

Effective Abolition of Child Labor. According to the law, the minimum age for employment of children is 16 years; however, in exceptional cases, the minimum age can be 14 years. The Ministry of Health, Social Service, and Labor enforces these laws and generally they are respected.  The Government has not ratified the ILO Convention 182 on the worst forms of child labor.

Elimination of Discrimination in Employment.  The Constitution provides for the equality of men and women.  Women's access to the labor market has improved but remained primarily confined, particularly for older women, to low-paying and low-skilled positions, often without regard to high professional and academic qualifications.  Salaries for women continued to lag behind those of men. Reportedly men were given preference in promotions. Of the 114,512 registered unemployed persons throughout the country, 46 percent were women. Women sometimes, but not often, filled leadership positions. According to UNDP, employers frequently withheld benefits connected to pregnancy and childbirth.

1.5.4     Regulations about Real Estate in Georgia

Acquisition of real estate in Georgia. The transfer of ownership rights on a real estate are regulated by the Civil Code of Georgia (set in force on November 25, 1997), by the Laws of Georgia on "Ownership of Agricultural Lands" (adopted on March 22, 1996), "Managing and Disposal of State-owned non-agricultural Land" (adopted on October 28, 1998), "Managing and disposal of non-agricultural land being in usage of physical persons and public legal entities"(adopted on October 28, 1998). Real estate includes land-lots with fossils (minerals), plants and real estate premises as well.

For the purchase of a real estate legally (notary) approved document and purchaser’s registration in general list is required. The application for registration could be submitted by the seller or purchaser as well.

The right of ownership on agricultural and as well as non-agricultural lands is granted only to citizens of Georgia and to private legal entities registered according to Georgian legislation.

The fee for getting legal (notary) approval on real estate transactions is different in each case and depends on the value of real estate. The fee decreases with the increase of property value and fluctuates within 3-0,05%. The fee should not exceed GEL 10 000.

Transfer of real estate, except new dwelling constructions (new constructions are defined to be dwelling constructions built up within 2 years period) are free from VAT. Tax for transfer of immovable thing makes up 2% of property value.

For the registration of right on ownership on land-lot and related real estate and issue of relevant registration notice, the state registration fee makes up GEL 26.

1.7  The Business Environment in Georgia

Investors face a difficult environment in Georgia starting with the fundamental issue of geopolitical instability.  In addition, several surveys of existing and potential domestic and foreign investors show that the business environment is generally perceived as bureaucratic, non-transparent and corrupt.  Georgia is perceived as having significant obstacles to investment in the areas of taxes and regulations, policy instability/uncertainty and corruption. While the average official and unofficial fees for business procedures and the resources required (staff and time spent) may not be the highest in comparison to other countries, the unpredictability of costs and delays related to administrative procedures combined with uneven implementation and enforcement of regulations increases business risk and results in differential treatment among firms.

As shown in the above Figure, when scores on general constraints to business operations for enterprises in Georgia are compared to regional averages, the constraints are shown to be worse in Georgia for every category except the performance of the judiciary and anti-competitive practices. This substantiates the earlier observation that the business environment is perceived as being much more constrained in Georgia compared to competitors in the region. Further, it emphasizes the need for the Government of Georgia to address these critical constraints in order to help improve the country’s attractiveness for domestic and international investors.

Time and again it has been observed that decrees and programs of reform have been adopted but weakly implemented in the absence of the strong political will necessary to effect change. For example, the State Customs Department (SCD) reform committee was established by Presidential Order to finalize a reform strategy and implement an action plan. To date, little has been done on implementation. The committee rarely meets. Reform has been impeded by competing agendas and frequent changes in SCD leadership due to absence of strong political will to reform the customs department.

Corrupt practices significantly affect the process of doing business in Georgia by increasing the cost and the risk associated with a range of administrative procedures.  From the perspective of foreign investors in particular, facilitation payments or bribes do not simply increase business costs.  They constitute significant risk because in Georgia they are unpredictable and uneven. Also, in all OECD countries bribery constitutes a serious legal offence that can be prosecuted in the home country. Finally, corrupt taxation administration (income tax evasion) and customs procedures (smuggling) result in unfair competition for legitimate, law-abiding enterprises.

In addition, the following fundamental issues have the impact on administrative procedures in Georgia, particularly in the areas of customs and tax administration, licensing, and inspections:

·     Inconsistent implementation of legislation and lack of transparent implementing regulations and procedures. Since 1991, a number of laws have been revised and new laws have been written and promulgated. Although these laws are generally modern and well written, poor implementation and enforcement effectively undermine the intent of the laws. Throughout this report, it is clear that the legal framework and official requirements for most administrative procedures are relatively sound. However, problems and inconsistencies arise in implementation as officials often seek to maintain and exercise discretionary authority and control of administrative procedures.

·     Lack of published information on the various administrative procedures required for business establishment and operation. For example, the official gazette is significantly behind schedule and the business stamp approval procedure is still issued by the police at the cost of 10 GEL. The challenge of publishing and disseminating timely and current information among officials and the public is even greater because of the ongoing changes to existing laws. However, timely publication and dissemination is necessary in order to minimize information gaps and opportunities for corruption.

·     Absence of effective mechanisms for holding public officials accountable. In principle, the Administrative Code and the Civil Code include provisions on the conduct and accountability of public officials. However, in practice these provisions are not enforced. Efforts to introduce and implement codes of conduct for taxation and customs officials have had limited effect to date.

·     Absence of effective appeals mechanisms and the inadequate capacity of the courts. The Administrative Code provides for the public’s right to be heard in protesting or seeking clarification on the actions of most government agencies. However, there is no provision for an independent or autonomous arbiter to provide recourse. This function is apparently to be carried out by the courts. However, the integrity of the courts is often suspected and the capacity of the courts to address these issues is limited.

1.8  Institutional Arrangements

1.3.1     Securities Industry

The institutional structure of the securities industry includes the following market participants: reporting companies (i.e. the private companies whose shares are traded at Georgian Stock Exchange), securities brokerage companies, share registrars, clearing banks, Georgian Central Securities Depository (GCSD) and Georgian Stock Exchange (GSE). The overall supervision is carried out by the National Securities Commission of Georgia (NSCG).  The rights of the securities market participants are protected by the Georgian Securities Industry Association (GSIA). The structure of Georgian Stock Market is presented in Fig. 1.3.1.1:

Fig. 1.3.1.1. The Structure of Georgian Stock Market

2.1  Poverty issues

Poverty Trends. The relatively slow rebound from the economic collapse after independence has led to a severe decline in welfare.  Georgia’s annual income per capita is about 56 percent below the pre-independence level, unemployment rates are high (16 percent in 2001) and many Georgians are underemployed.  In the circumstances, poverty, vulnerability and inequality have all increased over the period.  Georgia clearly needs to achieve and sustain higher economic growth rates to improve living conditions.  Given the small size of the domestic market, this can be achieved only through a stronger expansion in export activities, especially of those in which Georgia has a comparative advantage and the potential to generate new job opportunities, such as agro-processing.

Poverty Profile.  Strengthened economic performance resulted in an reduction of poverty in the mid 1990s.  However, Georgia’s growth rate slowed considerably between 1998 and 2000, and consequently inequality and poverty increased as measured by any of several methodologies increased (see Table 2.1.1).  Growth was affected by a number of shocks, including the 1998 Russian crisis, severe droughts in 1998 and 2000, and the increase in the price of energy imports in 2000.  These problems were compounded by internal and external political instability.  Growth recovered in 2001-02, leading to a slight reduction in overall poverty.

Table 2.1.1. Change in poverty in Georgia between 1997 and 2002

Differential Impact of Rising Poverty.  IDA, in close collaboration with the State Department of Statistics, prepared a  Poverty Update covering the 1998-2000 period.  The study found that the increase in poverty affected various socioeconomic groups differently, with growing differentiation among the poor, and signs that the poorest became even poorer.  Poverty depth and severity increased in the observed period by 84 and 94 percent respectively.  Driven by the volatile economic environment and absence of an adequate safety net, vulnerability to poverty for the average household rose significantly, with female-headed households being the most vulnerable.  Although the extent of absolute poverty at any point in time remained around 20-24 percent, 40 percent of the population experienced poverty at least once during the year 1999-2000, and 60 percent of the population faced a real risk of experiencing poverty in the medium term.  The high degree of vulnerability of households led them to apply strategies which may tend to increase chronic (long-term) poverty (e.g., shifting to subsistence farming, or pulling children out of school).

Urban and Rural Poverty.  The trend in overall poverty reflects somewhat different developments in urban and rural poverty.  In 1997, rural and urban poverty incidence were almost the same.  In 1999, the urban poverty headcount doubled in comparison to 1997, whilst the rural headcount increased by 37.3 percent. Then in 2000, responding to the non-agricultural sector recovery after the Russian crisis, urban poverty dropped by 10.2 percent, stabilized in 2001 and declined further by 6.2 percent in 2002.  Because of the drought, rural poverty increased in 2000, remained unchanged in 2001 and only in 2002 decreased by 2.9 percent.  As a result, the difference between the urban and rural headcount has narrowed -- while in 1999, the urban poverty headcount was almost 50 percent over that in the rural population, in 2002 it was 9 percent higher.   

Determinants of Poverty. The Georgia Poverty Update identified that the strongest determinants of poverty risk in Georgia in the period between 1998 and 2000 were economic: employment status, sector of employment, ownership of productive assets and education.  It found an elevated poverty risk among urban households, households with an unemployed head and female headed households, as well as  children aged 7-15, the disabled, those with low levels of education, single pensioners and orphans were experiencing.  The working poor are becoming the majority, often employed in the informal sector with insecure, temporary and low productivity jobs.

Non-Income Indicators of Poverty.   Non-income indicators of poverty in Georgia, inherited from Soviet times, still compare favorably with those of countries with similar per capita income.  The UNDP 2003 Human Development Report ranks Georgia 88th among 175 nations.  However, Georgia faces a major challenge in sustaining these relatively favorable indicators.  Studies conducted by various international organizations (UNICEF, USAID, EC, etc.), indicate that there has been no improvement in the indicators during the 1990s.  In fact, maternal mortality rate, immunization rates, access to health and education, access to safe water and sanitation and other living conditions indicators have deteriorated and the quality of social services has worsened substantially in comparison to the pre-transition situation.

Internally Displaced People.  IDPs vulnerability to poverty is magnified by their lack of access to land.  Thus IDPs living in collective centers are 3½ times less likely to have access to land than the local population, and those living in private accommodations half as likely.  In addition, IDP’s rate of unemployment is very high -- 40% among IDPs living in collective centers.  Government benefits do seem, however, to be reaching the IDPs, with 80% to 90% receiving a government benefit.

Millennium Development Goals.  The estimates of Georgia’s prospects for achieving the Millennium Development Goals (MDGs) show a mixed picture based on Georgia’s current performance, as indicated in Table 2.1.2.

Table 2.1.2: Millennium Development Goals

3.1  Main economic indicators

Sectoral Growth.  Agriculture, industry, trade and transport dominate the structure of the Georgian economy.  Agricul­ture is the largest sector accounting for just under 20 percent of GDP and 50 per­cent of employ­ment, although its share in GDP has decreased steadily (from over 30 per­cent of GDP in 1996).  Industry contributes about 14 percent of GDP and 6 percent of employment, with its share changing little.  The share of trans­port and tele­communi­cations has nearly tripled from 4.6 percent in 1996 to 12.1 percent by 2002.  Transport has been the fastest growing sector, growing at over 20 percent annually because of the rapid expansion of oil transit from the Caspian Sea.  Although transport turnover has tripled, it is still at one third of the pre-independence level.  Other fast growing sectors include construction and finan­cial services.  Trade has grown slightly faster than overall GDP. Sectoral growth index is presented in Fig. 3.1.1.

According to information from 2001 88.6% of the economically active population was employed, thus the unemployment rate was 11.4%.

The distribution of the employed work force by economic sectors is as follows:

According to 2001 data, the minimum subsistence level for a medium sized family (4 persons) at average prices was 205.2 GEL.

3.2  Agriculture

Introduction.  Only 44 percent of Georgia’s land is used for agriculture. Twenty-six percent is arable land, 9 percent is used for perennials, 65 percent is pastureland, and 0.4 percent is fellow land. Sixty percent of the arable land needs artificial irrigation. The soil is mainly moderately fertile and easy to cultivate. Table 1 below shows the distribution of the agricultural land by agricultural product.

Table 1 Distribution of Agricultural Land by Product

In the 20th century, Georgia became a country of agro-industry, with well-developed agriculture and food industry and with a good level of production. More than half of its GDP came under the agro-industrial sector of the country; 47 - 48% of the main funds were accumulated within the sector and it employed 41 - 42% of the total population of Georgia.

Georgia used to be an important exporter of food and one of the main suppliers of vegetables, tea, citrus fruits, wine, mineral waters, brandy, canned and fresh vegetables and fruits to the markets of the former Soviet Union. In the second half of the 1980s, the Georgian share of the food market of the former Soviet Republics was 10 percent. The total amount of exported food products was 1.7 times more than imported ones. The country is now undertaking actions to re-establish this exporting.

Since independence in 1991 the country experienced many years of civil war and ethnic conflicts, with 260,000 people internally displaced.

However, Georgia's economy is still strongly linked to the Russian Federation and the Commonwealth of Independent States (CIS). Approximately 50 percent of its trade is with the CIS.

Agriculture is a main source of income and employment for the majority of the population, accounting for more then 30 percent of GDP. Output in the sector is only about 40 percent of its 1990 level, but employment in the sector has doubled and it now accounts for over 50 percent of the total employment.

Land privatisation has focused on the small-scale (household/subsistence) sector with little real progress in restructuring the former large state farms. Land reform has resulted in the allotment of small parcels of land up to 1.25 hectares to each rural family and the lease, through district authorities, of state owned land to persons or legal entities, with the aim of creating a subsistence sector for small farmers and a market sector controlled by large leaseholders.

Private producers account for the significant share of fruit, vegetable and livestock production, when their share in wheat production is about two thirds of the total wheat production in the country. The bulk of the domestic wheat production is consumed on farms for food, seed or feed. Indications are that only 20 percent of domestic production of wheat is marketed.

Low yields, also as a result of poor infrastructure, inadequate access to credit for inputs and suitable machinery, and high costs associated with transport and marketing have had a negative impact on food production and the earning capacity of a significant proportion of the population and thus on household food security.

The state of irrigation and drainage systems is also a major constraint to increasing crop yields and the competitiveness of domestic produce with imports. More than 60 percent of grain, 60 percent of dairy products and 33 percent of meat consumed in the country are imported.

Agricultural production in Georgia dropped sharply in 2000 due to a serious drought. WFP/FAO Crop and Food Supply Assessment mission carried out in mid-August 2000 estimates that Georgia will face a severe food crisis due to the drought. This situation is being exacerbated by on-going serious economic problems.

After droughts, agricultural production showed a slight increase of 5.6 percent in 2001, however the share of agricultural output in GDP dropped from 21 percent in 2000 to 19.2 percent in 2001.

During the present year, USAID has launched a five year program, called Support Value Added Enterprise (SAVE) that will promote economic growth through expanded production and sales of added-value agricultural products on international markets. Through this program the US government will support agriculture development through market expansion, standards on organic food production, distribution, improved credit and whole-chain food distribution networks.

Key Agriculture Indicators.

Agricultural output per hectare of agricultural land and per capita (US $)

Source: Georgian Agriculture 1999

Agriculture in GDP

Source: State Department for Statistics of Georgia (1st Row), GEPLAC , 1997(2nd Row).

Trends in Share of Total Agricultural Production, (%)

 Source: SDS, Georgian Agriculture 2000, p.9.

Agricultural output (Current prices, mln. lari)

Source: Georgian Agriculture 2000, p. 6

Distribution of Georgian Agricultural Territory by Inclination

Distribution of Agricultural Land

*Unlike to other years, this data includes the areas of dwelling and economic buildings and yards - 19,4 ths hectares** - accordingly 1985-1990

Source: Georgian Agriculture-2000, Tbilisi 2001, p.18

Areas kept by some plant-growing cultures (1000 hectares)

Source: State Department for Statistics; ? Rezonansi, Interview, 04,04.2002

Agricultural production

Source: SDS;

Agricultural production

Source: SDS; Alexandre Didebulidze. Agriculture and Rural Development in Georgia. UNDP, Tbilisi, 1997, p.63.

Agricultural Production

Number of livestock (for January 01), x1000

Source: SDS

Data series for livestock

Livestock output   (Ths. tons)

Source:  Georgian Social-economic indexes, 2000y. Interfax, 04.02.2002

Data series for livestock output

Productivity of Agricultural Cultures

Machine Park (condition by the end of year) x1000

Source: SSD

Technical Dynamic in Agrarian Sector of Georgia

Source: The Ministry of Agriculture and Food

Food consumption in Georgia (1999)

Source: State Department for Statistics of Georgia

Consumption of energy, fat and albumen by population in Georgia

Source: Gordeev A, MSXJ, 2-2000, food consumption condition-t.2

Privatisation in Agriculture of Georgia (1998)

Privatization in Agriculture of Georgia (2001)

Source: Source: State Department of Land Management, Land Bal; ance for 04.2001 [GFA/KfW, 38]

Farm Structures

Source: State Department of Land Management, Land Balance for 04.2001

Share of private farms in agricultural output (per cent)

Source: Georgian Agriculture 2000, p.36

Share of private farms in agricultural output (per cent)

Source: Georgian Agriculture 2000

Privatisation in Georgian Agriculture

Source: Georgian Agrostatistic 2000, Tbilisi, 2001. – p

Agriculture in Georgian Export (2001)

Source: SDS

Import of Main Food Products (2001)

Source: SDS; * - estimate

Agricultural Export and Import

Dynamic of Agrarian Export, 1997-2001 (mln US$)

Source: IMF (account No.211, 11.2001, pg.123;) in red State Statistic Department

Dynamic of Agrarian Import, 1997-2001 (mln US$)

Source: State Department of Statistic s; IMF(account No. 211, 11.2001, pg.124);

Investments in Fixed Capital

Source: SDS, 25.01.2001

Foreign investments in fixed capital by fields and years

(in actual prices, mln Lari)

Source: Investment activities in Georgia, State Statistic Department, 1999

Most Exportable Agricultural Products.

Georgian Wines. Georgia is known as the birthplace of viticulture and winemaking and has 5000 years of wine culture. The rich land, hot sun and hard work have developed about 500 varieties of wine in Georgia.

According to the State Department of Statistics exports of different types of Georgian wine during first nine month of the 2001 made up 18186,5 thousand USD which is 7,8 percent of the total Georgian exports.

At the end of the 20th century, the collapse of the Soviet Union has caused an economic decline in Georgia, which negatively affected the Georgian wine sector. To be more precise – the overall territory of vineyards has decreased by 50%, (1990 – 112,6 thousand hectares, 2000y – 60,5 thousand hectares). This tendency was mainly caused by the following reasons: lack of enough funds among farmers to purchase chemicals, technical devices and machines for vine cultivation, also huge numbers of farmers had to convert their vineyards into land to grow edible products such as corn, vegetables, and grain.

In addition, from the mid 1990s the tendency of vineyard rehabilitation has been quite dynamic, still the total area of vineyards is far less than it was even 20 years ago. 

Table # 1 Tendency of wine sector development for the last ten years

Source: Samtrest, Ministry of Agriculture.2002

Even though the Georgian wine sector is famous for its 500 traditional grape varieties, the vast majority is currently grown and available only in limited areas and numbers. Traditionally in accordance with climate and soil characteristics – Georgia is divided into 5 main wine producing regions. Kakheti, Kartli, Imereti, Racha-lechkhumi and the Black Sea Subtropical zone.

In accordance with the development and strength of the wine sector Kakheti could be easily considered as the leader. The region is characterized by huge variety of grapes and assortment of wine.

From the structural point of view, 80% of Georgian vineyards is allocated to white grapes: Rkaciteli amounts to almost 75% of all white wines and the remaining 25% is allocated to Cicka, Colikauri, Mcvane, and Tetra. The dominant type in red grapes is presented by Saperavi which holds 70%. The remaining 30% is allocated to the following red grapes: Aleksandriuli, Mijuretuli, Ojaleshi, and Vaios Saperavi.

Table # 2 below indicates the total area by regions (1000 hectares) as of year 2001.

Source: Ministry of Agriculture, 2002

Table #3 below indicates the information on main types of Georgian grape, as of 2001

Source: Samtrest, Ministry of Agriculture, 2002

Today the production of two main types of grapes per hectare of land is the Rkaciteli – 7.0-8.0 tons, and the Saperavi – 5.0-6.0. These numbers are can increase by 25-35 % under normal working conditions and with all necessary tools and machinery readily available. 

By taking into consideration the fact that during the grape processing period the market price for one kilogram of white grape ranges from $0,10 to $0,20, which is slightly above of its base price, then accordingly it could be forecasted that in the case of an increase in the volume of grapes the price per kilo will drop and the farmer’s revenue will increase, thus creating the ability for the farmer to procure some necessary tools, chemicals and machinery and increase the volume of his grapes for the next season. This could lead to the rehabilitation and positive redevelopment of the whole Georgian wine sector, though it should be mentioned that this positive tendency will not be implemented without sophisticated grape processing factories and new export markets.

In Table #1 it is clearly indicated that during the first part of last decade of the 20th century there was a huge drop in the volume of processed grape. This was mainly caused by the following reasons: Weak economic condition of the country, loss of traditional Russian market and huge amount of fake vintage Georgian wines, both in the Georgian and Russian markets.  It should be mentioned that during the same period both farmers and wine factories had huge amounts of grapes in their warehouses, which did not find its path towards wine, simply because of the aspects mentioned above. And this is happening in Georgia – a country, which during the Soviet period was producing 55% of the total vintage wines and more than 25% of brandy in the USSR.

Despite all the negative factors mentioned above, in the second part of last decade of the 20th century developmental steps ahead were made in the Georgian wine sector, which on its behalf has led to the participation of foreign investors in the sector. The positive aspects were mainly caused by the fact that a new generation businessmen have acquired western knowledge of management and marketing, the consumer’s nostalgia for Georgian wines, and the government’s support.  Lately, the participation of foreign companies is getting clearly noticeable – both in the fields of wine-making and in establishing new vineyards.

As a result, the number of local Georgian wine-making companies could be easily outlined in accordance with their financial strength, good marketing campaign, progressive management and export volume. These companies are: GWS (Georgian wines and spirits),  “Telavi wine cellar”,  “Akhasheni”,  “Tbilwine”  “Vaziani”, “Kinzmarauli”,  “David Sarajishvili and Eniseli”, “Okami”, “Teliani Veli”, “Rachuli Gvino” and “Zmebi askaneli”.

Mineral and Spring Waters. According to the State Department of Statistics exports of different types of Georgian mineral waters during the first nine months of 2001 made up 6646,9 thousand USD which is 2.8 percent of the total Georgian exports.

One of the biggest assets – essential for the resort development in the country is represented by mineral waters. In Georgia almost all kinds of mineral water can be found, with more than 2,000 mineral springs, out of which 1700 are natural phenomena and 300 are boreholes. Their estimated total yield per day is 120 million liters. The most common kind is a carbonic acid mineral water, the daily yield of which amounts to approximately 60 million liters.

[19][1]Structural geologic and hydrochemical properties of the so-called geotechtonic zones account for the distribution of various kinds of mineral waters in Georgia. For instance, within the limits of the Main Range and the Southern slope of the Greater Caucasus – cold, mostly carbonic and hydrocarbonated waters predominate. On Georgian Block the typical water includes cold as well as thermal sulphide-methane and nitric-methane, chloride and sulphate. Within the Adjara –Trialeti system and the adjoining Somkhiti Block the following kinds of water predominate: carbonic acid hydrocarbonated or chloride-hydrocarbonated as well as weak sulphide nitric, sulphate-chloride or carbonate-bicarbonate.

Georgia has large reserves of thermal water of various chemical compositions. The territory occupied by Georgian Block and Adjara Trialeti System is especially rich in them. Thermal radioactive (Radonic) mineral waters are the main natural curative factors of the Tskaltubo and Tkvarcheli Resorts. So-called hyperthermal waters, forming a class by themselves are extracted from the earth’s deep levels by boring. The main pools of these waters are: Tsaishi (Temp 81-82 C), Kvaloni (Temp 94 C), Kindghi (103 C), Khorga (Temp 110 C). Hyperthermal waters are mostly used for heating purposes.

Drinkable mineral waters are used for health-restoration not only at resorts, but also outside them in the form of bottled mineral waters. Such as Borjomi, Nabeglavi, Sairme, Ucera, Djava, and Zvare.

Borjomi Mineral Water. The Borjomi resort is considered as one of the most spectacular locations in Georgia. It is located at 950 meters above sea level between the evergreen slopes of the Meskheti and Trialeti Ridges.

Besides its beautiful nature and climate, the Borjomi region is famous for its mineral waters, which represent the other major natural curative factor of this place. Instead of natural springs known since older times, gusher-boreholes are being used at present.

In terms of chemical composition the mineral waters are of acidulous, hydrocarbonate, sodium variety, containing 0.5 to 1.5 g/l of free carbon dioxide. They also contain ions of chlorine and small amounts of bromine, lithium, barium and some other substances. Temperature of the water in various springs ranges from +17 to 38 C. There are ten capped boreholes at the resort wit a total yield of 700-800 thousand liters.

Mineral waters are mainly used as a curative drink, for medical baths, inhalation, and levage of stomach and intestine. They are used as a curative and table drink outside the resort.

Borjomi mineral water is the most popular mineral water available in the CIS. In the 1980s exports reached over 420 million bottles per year. However Borjomi production and sales declined significantly between 1990-1995 due to the economic collapse in the former Soviet Union

In September of 1995 the Georgian Glass and Mineral Water company. N.V. (GG&MW) began to produce Borjomi mineral water at two Soviet – era bottling plants in Borjomi.  A short period later the bottling plants, pipelines and quality control systems were brought up to world standards.

The Khashuri Glass plant, located 30 km from Borjomi, has also been reconstructed. After being purchased by GG&MW, the production process was modernized and a new automated bottle-packaging system was installed.

In 1997, GG&MW obtained the license and exclusive right to use the Borjomi name until 2007. In order to restore Borjomi mineral water and make it compatible with international standards, GG&MW found it essential to cooperate with international financial institutions, such as: IFC, EBRD, ING Barings, and TBC Group of Georgia.

GG&MW mainly orients its exports towards the Russian Federation, Ukraine, Baltic States, USA, and Israel, and it is considered as the biggest, financially strongest and most progressive Borjomi bottling company.

Sairme Mineral Waters. The Sairme resort is situated in the valley of the Tsalabris tskali river 950 m above sea level and 55 km south of the second biggest town in Georgia – Kutaisi. The nearby mountainsides are overgrown with leaf bearing (oak, beech, etc.) and also coniferous woods. The resort has been operating since 1930. Climate of the region is moderately humid, subtropical, average temperature of the air totals 8.8 C, the annual amount of precipitation makes up on average 1100mm, average humidity of the air is 80%.

The word “Sairme” in Georgian means “a place of deer”. In winter many deer and roes used to come down to the mineral watering places from the nearby woods, therefore the hunters called the place “Sairme.”

As it was mentioned above, the Sairme resort is rich with mineral water springs – the major natural curative factor of the resort. Sairme mineral waters are known since the end of the 19th century. In terms of their chemical composition, they are of acidulous hydrocarbonate calcium-sodium kind of acidulous hydrocarbonate sodium Borjomi – like variety. It has been established that “Sairme” acidulos waters have a curative action against diseases of kidneys, urinary tracts, and liver.

The only company that bottles Sairme is the CARTU group. The company uses a German bottling line and produces water in 1 liter PET and 0.33 and 0.5-liter green glass bottles. The only raw materials the company imports are capsules for its bottles from Turkey, bottle caps from Bulgaria and Turkey, and clay from Turkey. The company mainly orients its export towards the FSU republics.

A new foreign company with better experience in promotion and distribution could easily enter the Sairme bottling market. This takes into consideration the fact that CARTU has a normal license and is not the exclusive company to bottle Sairme water.

Mitarbi Mineral Water. The Mitarbi source is located near the Borjomi resort and is surrounded by picturesque mountains in an unspoilt and unpolluted environment. The debit of the water constitutes 40.000 M per year.

Mitarbi was bottled and very successfully marketed during Soviet times throughout the USSR and in some foreign countries. Success to the waters came due to their taste and curative features. These are colorless, odorless, fully transparent waters with a mild taste.

Mitarbi is prescribed in cases of chronic gastric diseases, stomach and duodena ulcer in remission, chronic hepatitis, chronic cholecystitis, chronic pancreatic disease, and diabetes.

Production and sales of Mitarbi reached its peak in the late eighties, particularly annual sales volume of Mitarbi then totaled 19 million bottles. After the collapse of the USSR, due to severe political and economic circumstances bottling of water was temporarily seized.

At present the CARTU Group is the only company which has the ordinary type of bottling license (which is not exclusive). The volume of output is low due to promotional and sale problems. Accordingly, a newcomer with better experience and knowledge of the potential markets for mineral waters might find itself in a more advantageous position than CARTU.

Nabeglavi Mineral Water. The Nabeglavi resort is located in the Chokhatauri district, 35 km south of the district center and 50 km from the railway station of Samtredia, in the valley of the Gubazeuli river (a tributary of the Supsa river) at the foothills of the Meskheti ridge and 470-490 m above sea level. The resort is protected on the south by mountains covered with mixed woods (oak, beech, hornbeam, fir, and pine).

The major natural curative factors are mineral waters, which in terms of their chemical composition fall into the category of acidulous hydrocarbonated sodium waters with a salination of 7.5-8.0 g/l. They also contain solicic acid, bromine and other biologically active substances. Mineral waters are used for medicinal drinking and balneologic procedures.

The company “Ckali Margebeli” (Healthy Water) obtained a license for use of the above mentioned water.

The company uses PET type plastic bottles (1 L, 1.5-L capacity) and green colored glass bottles (1 L). Presently the company is having problems with the promotion and sale of the product, accordingly it is not working at its full capacity and is looking for a foreign partner with professional knowledge and expertise in the field of mineral waters.

Zvare Mineral Water. The Zvare resort is located in the Orjonikidze district, on the western slope of the Likhi Ridge (connecting the lesser and great Caucasus mountains), 600-700 m above sea level, in the valley of the Zvarula-River, 4 km away from the railway station of Moliti. The nearby mountainsides are mainly covered with leaf-bearing woods (oak, beech, hornbeam and other species).

Mineral water from Zvare belongs to the class of acidulous, chloridehydrocarbonate, calcium-sodium waters with a mineralization of 5-6 g/l. The daily yield of springs is up to 20,000 litres.

Water is considered beneficial for its health properties, it was traditionally used as a refreshing beverage and, at the same time recommended for prophylactics of intestine diseases and healing of metabolism disorders.

The company ZVARE Ltd. obtained an exclusive license on Zvare water production (its license for abstraction and use is valid until 2009).

Presently the company does not operate. It is looking for a foreign partner, who would help it to update the available facilities, conduct hydro-geological and other professional studies, construction works, and purchase of transport facilities.

The Georgian law dealing with all aspects of abstraction, development, exploitation of natural reserves (water) is enacted. Water regulations are Western oriented and cover the labeling, packaging and content of bottled water. The only possible change in regulations could be connected to inevitable transition towards international standards (ISO). In the first place, changes are expected in the field of assessment and quality control of water where the former Soviet State Standards (GOST) are still binding.

The present situation of the water market in Georgia and possibilities for development of the water business (due to its unique properties; significant intangible assets, experience of water production, infrastructure and low cost base), and the general situation of the international water market and other significant aspects leads one to predict the possibility of the successful operation of a newcomer in the form of a strong foreign company.

Nuts. The hazelnuts of Mediterranean origin have been well known in Georgia since ancient times.  Scientists conclude that this species of thick hazelnuts originates from the Caucasus. Since the mid-1990s farmers started a mass planting of hazelnuts in Western Georgia, particularly in the Black Sea coastal region and in Eastern Georgia in the region of Kakheti. It should be mentioned that since 1998 Georgian nuts have become one of the country’s major export products.

One of the advantages of Georgia’s agricultural sector is the high percentage of produce that is organic in nature. The country has not been using fertilizers and pesticides for some 10 years. Now the country is preparing a certification process whereby all farmers producing organic food will have their farms approved and certified as organic. This is expected to generate new interest in Georgia’s agricultural sector, particularly from markets in the West where demand for organic food is increasing far beyond supply.

Georgian Tea. Georgia is a northerly tea growing country with a relatively shorter growing season than other tea producing nations. Tea is grown in West Georgia in Guria, Samegrelo, Ajara, and Imereti Regions.  According to official statistics for 2001[20][2], these regions possess slightly more than one-quarter of the country’s total 564,518 hectares of agricultural land.

At independence in 1991, the country had 64,500 hectares of state-owned tea plantations.  Civil war, decline in demand from former markets in the FSU and the loss of state financing have caused much of the area formerly planted to tea to be abandoned. As of January 2002, 37,296 hectares of agriculture land were planted to tea. Tea plantations now occupy 65 percent of Guria’s total agricultural land, 27 percent of Samegrelo’s total agricultural land, 58 percent of Ajara’s total agricultural land and 6 percent of Imereti’s total agricultural land (Table 1). Following the abolition of collective agriculture, land under tea plantations has mostly been privatized in Guria, while in Samegrelo, Ajara, and Imereti most of the tea plantations have been leased out.

Tea leaf production data in the early 1990s is extremely unreliable and so not reported here.  It is clear that production levels have fallen greatly from those of the late 1980s.  Production has generally continued to drift downward since the mid-1990s (Tables 2-3, Figures 1-2).

According to the Ministry of Agriculture and Food, as of January 1, 2001 there were 146 tea processing enterprises in Georgia (including Abkhazeti) with a total annual capacity of 722,800 tons. There were 50 tea factories in Samegrelo, 30 in Guria, 16 in Imereti, and 18 in Ajara. Forty-six of the 50 enterprises in Samegrelo had been privatized, while 30, 11 and 1 enterprises had been privatized in Guria, Imereti, and Ajara, respectively. These enterprises mostly use worn-out, obsolete equipment and are in poor financial condition.  Some of these enterprises are reported to have vertically integrated operations, while others operate on a contractual basis with tea growers. As might be expected, almost all tea grown appears to be sold to the factories so that the processing trends follow those of production (Table 4, Figure 3).  The nature of tea also means that the producers are much more dependent on the processors than are, say, owners of vineyards.  Homemade wine is a reasonable and widely practiced option for primary producers; homemade tea is not.

During 1994-2001 Georgia was a net exporter of tea, although it also was a substantial importer and the balance of trade appears to be turning against Georgia (Table 5, Figure 4). In the early and mid 1990s the major importers of Georgian tea were in the FSU, but since 1997 geographic coverage has widened as processors developed new markets. Exports of Georgia tea to US, Germany, and Poland show an increase (Table 6).

Tea remains an important cash crop among rural households in most of West Georgia. The share of households in total tealeaf production in 1999 was 43 percent, in 2000, 34 percent, and 93 percent in 2001 (Table 7).

Table 1. Land under Tea Plantations, 2001

Source: State Department of Statistics of Georgia, author's estimates.  The data for Ozurgeti clearly contain an error.

Table 2. Annual Tea Leaf Production in Georgia, 1985-2001

(tons)

Source: State Department of Statistics of Georgia

Table 3. Tea Leaf Production by Regions, tons

Source: State Department of Statistics of Georgia, author's estimates

Table 4. Tea Processing, 1994-2001

(tons)

Source: State Department of Statistics

Table 5. Georgia’s Tea Trade

Source: State Department of Statistics, author’s estimates

Table 6. Top 10 Export Destinations of Georgian Tea, 1994-2001

Source: State Department of Statistics, author’s estimates

Table7. Household Contribution to Total Production

All of Georgia excluding Abkhazia

Source: State Department of Statistics, author's estimates

3.3  Trade

3.4  Construction

Overview of Georgian Construction Sector. Georgian construction sector mainly consists of civil, industrial, hydro-technical, transport, and communication construction projects.

The construction sector was established long before the formation of the country as a legal state and has passed from primitive buildings to complicated and sophisticated complexes. Throughout various stages of the country’s development, buildings and other construction projects reflect the period in which they were built. For nearly the last two centuries Georgia was part of the Russian empire and the Soviet Union, thus, the development of the construction sector was in accordance with the laws and conditions accepted by Russia and the FSU, i.e. massive construction of industrial facilities. During that period the construction sector employed almost 250,000 people and produced construction materials worth approximately US$1.5 million annually.

After the collapse of the Soviet Union, the Georgian construction sector ceased development, which was mainly caused by the political, social and economic conditions of the country (i.e. a coup, civil war, and armed conflicts in Abkhazia and South Osetia), and also by non-efficient, highly energy consuming technologies and outdated equipment and machinery. As a result, almost one hundred percent of the construction factories and facilities ceased functioning.

During the early ‘90s, when Georgia became independent and positioned itself towards democracy and integration into the world economy, the Georgian construction sector realized that it was totally unprepared to meet the demands and standards of country’s development phase. The main negative aspects characterizing such non-preparedness were:

1.    Non-efficient and partially destroyed equipment and machinery.

2.    Lack of investment in majority spheres of construction (except private construction).

3.    Weak management of the sector from the government’s side.

4.    Lack of professional managers and specialists with knowledge of international principles.

5.    Great need of specialized trainings for the staff.

6.    Harsh economic condition of scientific, projecting and architecture institutions.

7.    Import of foreign construction materials and workforce.

Among other important factors, considering the importance and crucial character of the construction industry for the country’s economic development, the Georgian government made several positive steps towards rehabilitation of the construction industry to create a favourable investment environment including passing the law on promotion and guarantee of foreign investment activities, and instituting a process of restructuring and privatisation.  A few years ago the government of Georgia launched a process of restructuring and privatisation of large Soviet era construction enterprises. As a result, various non-efficient, illiquid and monster enterprises have changed their organizational structure and been converted into small cost and energy efficient, liquid plants. Derived from the privatisation process the majority of state construction companies have become private joint stock and limited liability companies. In addition, a huge number of uncompleted construction sites have been privatised and completed.

Main Indicators of Development in the Construction Sector. The slight revival and positive trends in the construction sector have been noticed since 1995 – the period when the Georgian national currency the Lari (GEL) was introduced.

The table below indicates the main financial flow in the construction sector during 1995-2002 (first nine months).

Source: Ministry of Construction and Urbanization

* The construction of dwellings in Georgia is mainly based on up-front deposits made by people who will live there after the construction is completed. 

 According to the table investments in main capital from 1995-2002 constitutes 2396 million Georgian Lari (1109 million USD) which includes: Government investment – 906 million GEL (419 million USD) – 37.8%, personal funds of the population – 335 million GEL (155 million USD) – 14.0%, foreign investment – 1155 million GEL (534 million USD) – (48.2%). Derived from this data we can state that investment in main capital shows a trend toward a positive increase (+2.7) from 1995-2001 compared to 1995.  In addition, the increase in foreign investment is quite noticeable.  This was mainly due to the construction of the oil pipeline and Supsa oil terminal in 1998.

In 2002 the positive developments in the construction sector continue to accelerate, resulting in construction of 545 buildings, among theses are the construction of a new Marriott hotel, 62 stores, 38 gas stations, and 12 food outlets (all in Tbilisi).

Market demand (Construction Materials). Even though several local construction material manufacturing plants have been restructured and rehabilitated, the goods manufactured by them do not have a high demand among Georgian customers. Mainly this is due to low quality and narrow assortment. The only Georgian made product of comparatively good quality is cement, produced by the Rustavcement and Kaspicement companies. This situation represents a good opportunity for U.S. firms to invest in and/or upgrade local building materials manufacturing plants. Presently, product imported from Turkey, Dubai, Iran and Russia occupies almost 95% of the Georgian building materials market. Even though they are perceived to be of a lower quality, the majority of people still buy them because of the low price. Nevertheless, another Georgian customer segment, the high income family, still prefers building materials made in the U.S. or Europe, due to the high quality and regardless of the higher price.

The following imported materials are in the highest demand on the Georgian market:

·      Ceramic Products (tile, mats)

·     Insulated American style windows, doors.

·     Various colored wood and flooring materials.

·     Heat, ventilation, air conditioning systems.

·     Roofing materials

·     Varnish paints

·     Plastic tubes for water communication

·     Wallpapers

·     Lights and bulbs

·     Vinyl sidings

Due to the growing wave of construction, a large market share still remains unoccupied and is ready for new companies and potential investors. The construction sector will play an essential and important role in Georgia’s further economic development and integration into the world economy.

4.1  Company Registration and Licensing System

4.1.1     Company Registration System

Enterprise register. Registration of an enterprise is to be carried out by the Court by making due records in the Enterprise Register. The information concerning the registration is to be recorded into the Register Card. The Register Card specimens are presented below:

Registration card (sample) for Limited Liability Companies (LLC)

Registration card (sample) for Joint Stock Companies (JSC)

The Law on Entrepreneurs provides that data on newly registered companies should be published in the official newspaper. The Law also guarantees information on any company entered into the enterprise register held by courts be available to the public. Any person should be able to view the records and obtain extracts from the registration file.
Procedure for registering (establishing) an enterprise. Figure 4.1.1.1 provides an outline of the sequence of the procedures to register and establish a business in Georgia.

Figure 4.1.1.1 Business Registration Procedures

* Statistical Department registration and stamp approval. Although the law no longer requires these procedures, they are still being followed by some entities and required by certain authorities due to uncertainty, lack of information, and corruption.

In practice, the entire registration process reportedly takes 2 to 3 weeks. However, it is possible to register a company within few days by means of unofficial payments.

Registration with the Local Court. In accordance with the procedures set forth in the Law on Entrepreneurs, all legal businesses are required to register at the local court that has jurisdiction over the legal address of the enterprise. Further, all registered companies are required to officially record any changes in their registration data.

In order to register an LLC, the following documents must be submitted to a local court:

(1)        Application form signed by the founders. Application form must include:

Firm name (firm);

Organizational and legal form;

Location (legal address);

Subject of the activity;

Information on the start and end of the fiscal year;

For each founder - the family name, first name, date and place of birth, occupation and place of residence of the entrepreneur;

Representative authorities.

(2)        Charter (five copies)

(3)        Minutes of the foundation meeting

(4)        Founder’s decision to set up the company

(5)        Director’s sample of signature

(6)        Document confirming the legal address of the company (this may be a lease agreement, a certificate issued by manager of the company that subleases the office space, or notarised consent of the owner of a flat)

(7)        Copy of the company founder’s passport, if the founder is an individual person; or a registration certificate (e.g., extract from the register of enterprises), if the founder is a legal entity. If the founder is a Georgian company, the certificate of the local court should be less than 1 week old.

(8)        The amount of the authorized equity capital and the documents confirming payment of at least 50 percent of the equity capital (a certificate from the bank or, for in-kind contributions, an auditor’s assessment of its value)

(9)        A document confirming payment of the registration fee.

To register a JSC, the decision of the supervisory board to appoint directors is required in addition to the above-listed documents.

The following supporting documents are required to register a branch or a representative office:

(1)        Charter of the foreign company

(2)           Decision of the foreign company to set up the representative office

(3)        Document certifying the solvency of the foreign investor (e.g., a letter from a foreign bank or a foreign tax service)

(4)        Bylaws of the representative office.

All registration documents must be submitted in the Georgian language and must be notarized. Foreign documents must be certified by an apostille[21] or undergo a procedure of legalization and be translated by a certified translator.

According to the  law, the courts are required to process registration applications within 7 days. Registration of amendments to a charter or any other changes to entries are to be processed within 7 days. No official expedited service is available, but reportedly registration can be performed in 1 day if the court registrar has the time and if an additional unofficial payment is made (roughly 100–400 GEL).  Box II.2 provides a summary of the official registration fees.

A company receives a court resolution when the company is registered. The law on entrepreneurs provides automatic registration by default if the court fails to respond within 7 days.

If a company changes its legal address to an address that falls within the jurisdiction of another local court, the company is not required to change its court registration and its registration file stays at the initial court of registration. However, the company must re-register with the local tax office that has jurisdiction over the new legal address.

Registration Fees. Registration fees are determined by the company’s legal form. The court stamp duty is currently $180 to register a JSC, $80 to register a LLC, $90 to register a branch of a JSC, and $40 to register a branch of a LLC. Fees for registering changes to entries are half of the fee for registering the respective type of company (i.e. $40 to register changes for an LLC and $90 for a JSC).

All the payments charged for notarization of an enterprise’s charter are different in each case and depend on the amount of the authorized capital. The percentage of the amount to be paid is reduced with the increase of the authorized capital and ranges from 3 to 0.05 per cent of the authorized capital. The charge must not be less than GEL 25 and must not be more than GEL 50. It should be noted that a 20% VAT is added to the sum charged for the notarization.

Peripheral services can be provided by private lawyers and related professionals at additional cost. Lawyer charge in the range of $300-600 to draft a company’s charter and to provide advice. A notary public typically charges about $30 to certify the documents and about $2 per page to certify copies of the documents.

Taxation Department Registration. In accordance with the Cabinet of Ministers Decree 899 (December 31, 1994), within 10 days of completing the company registration process, an investor must register with the local office of the taxation department that has jurisdiction over the legal company address. This registration requirement applies to all tax types except the value-added tax (VAT). VAT registration is required for all firms with total taxable transactions greater than GEL 24,000.

A taxpayer registration application package should contain the following documents:

(1)        Taxpayer registration form (4 copies)

(2)        Court resolution showing company registration (notarised copy)

(3)        Charter (original or notarised copy)

(4)        Minutes of the foundation meeting (original or notarised copy)

(5)        Decision to set up the company (original or notarised copy)

(6)        Director’s sample of signature (notarised)

(7)        Document confirming the legal address of the company (original or notarised copy).

In accordance with Decree 899, the Taxation Department is required to issue a taxpayer registration certificate within 10 working days. The compliance with the 10-day limit depends on whether or not operations at local taxation offices are computerized. There is no fee for taxpayer registration.

Taxpayers are assigned a 9-digit taxpayer identification number (TIN). The first digit specifies the taxpayer type (1 is for an individual person, 2 is for a legal entity), the next 7 digits are sequential numbers (each local tax office has its own block of 7-digit sequential numbers), and the last digit is a control digit. There is no relation between a court registration number and a TIN.

If a company changes its legal address, opens a branch, changes bank accounts, or makes any other changes that require registration at the enterprise register, then the investor is required to notify the tax department within 10 days of the change.

As of June 2001, sole proprietorships are no longer required to register with the courts. They need only to register with the relevant local taxation office.

If a company’s total taxable transactions over the previous 12 months equal or exceed 24,000 GEL, the company is required to register for VAT within 1 month of the change in tax liability status. A separate VAT registration certificate is issued.

Stamp Approval. In accordance with the amendments to the Law on Entrepreneurs (effective June 1, 2001), company stamps are no longer required, and state institutions have been explicitly prohibited from requiring a company to present a stamp for any purpose. Information regarding this change in the law apparently has not been widely disseminated because in July 2001, many companies and lawyers still complied with the old requirements for company stamps. Further, it appears that the police department continues to issue stamp approvals (at a fee of 10 GEL) despite the change in the law.

Department for Statistics Registration. Amendments to the Law on Entrepreneurs and the Administrative Code have eliminated the requirement that a business must register with the Department of Statistics. Under the new regulations, this requirement has been replaced by a notification process between the courts and the Department of Statistics. The new regulations may be summarized as follows:

In accordance with the Law on Entrepreneurs,[22] the courts are required to send copies of the court business registration resolutions to the Statistical Department on a monthly basis. This information should be submitted by the 5th day of every month.

On June 19, 2001, parliament amended the Law on Entrepreneurs and abolished the provision that the courts must assign tax and statistics codes when a company has registered with the relevant bodies.

Amendments[23] to the Administrative Code in July 2001 have removed the provision that companies must provide a statistical code in order to open a commercial bank account.

However, in practice, companies throughout Georgia still go to the central bureau of the statistical department in Tbilisi to register in order to comply with the previous provisions of the law.

Public Availability of Information. Company registration data are recorded in the registration card as approved under the law (see in the above). The same format is used to respond to requests for company registration information. The following information is required to complete a registration card:

·     Name of the local court

·     Court registration number

·     Company name

·     Address

·     Activities

·     Equity capital

·     Names of partner(s), their occupations, and addresses

·     Names of director(s), their occupations, and addresses

·     Members of the supervisory board, their occupations, and addresses (if a supervisory board was established)

·     Representation powers of director(s)

·     Trade representative (procurator)

·     Legal status

·     Date of registration

·     Remarks

As mentioned above, a company may be registered in any one of 66 local courts throughout Georgia.

4.1.2     Company Licensing System 

General. The law of Georgia on "Licensing of Entrepreneurial Activity" adopted on 14 May, 1999 defines those business activities which can be carried out only by licenses issued by the corresponding state agencies.

The law lists those types of business activities about which corresponding state bodies must be notified. The law does not cover export-import relations, environmental control and utilization of natural resources, electric power, oil and natural gas, communication and post services, where licensing procedures are regulated by special legal acts.

Activities to be Licensed and Licensing Agencies. The types of business activities that require obtaining a license and the respective state licensing agencies are as follows:

a)    Insurance activities and intermediary (agency) services in the field of insurance – Insurance State Supervision Service of Georgia;

b)    Banking activities, activities of foreign currency exchange points – National Bank of Georgia;

c)    Production, repair of and trading with arms and ammunition – Ministry of Justice of Georgia (within the limits defined by National Security Council of Georgia);

d)   Air transportation of passengers and goods or/and carrying out aviation related work at the territory of Georgia, maritime transportation and hauling – Ministry of Transport and Communications of Georgia;

e)    Activities of the regulated participants of the securities market (brokerage companies, brokers, stock exchanges, central securities depositary and securities registrars) – Ministry of Finance of Georgia;

f)    Organizing lotteries and other money-making games – Ministry of Finance of Georgia;

g)    Production of medicines and substances that are subject to special control, medicines used in veterinary, activities of health care organizations – Ministry of Labor, Health and Social Protection;

h)    Activities of diagnostic centers for technical examination of motor vehicles –Ministry of Internal Affairs of Georgia;

i)     Design - construction works – Ministry of Urbanization and Construction of Georgia (in the cases defined by the law);

j)     Activities of auditing firms – Parliamentary Council on Audit Activity of Georgia;

k)    Activities of private educational institutions – Ministry of Education of Georgia;

l)     Production and repair of metrological and measurement equipment – Department of Standardization, Metrology and Certification of Georgia;

m)   Production of food products (including child's food products) and tobacco - Ministry of Agriculture and Food of Georgia.

Notification about Carrying Out Activities. The following fields of activities are subject for compulsory notification of the relevant state agencies as defined in this paragraph:

a)    Activities related to precious metals, precious stones and their products – Testing Supervisory Inspection of Ministry of Finance of Georgia;

b)    Aero photographing of the country's territory, creating state geodesic network, works related to the publication of maps and plans – State Department of Geodesy and Cartography;

c)    Activities related to job finding services (including abroad) - Ministry of Labor, Health and Social Protection;

d)   Geologic activities - State Department of Geology;

e)    Transportation of passengers by a minicab – Relevant Department of local government (self-government) authorities;

f)    Activities of public dining halls, which can simultaneously accommodate 25 persons or more - Relevant Department of local government (self-government) authorities.

The notification is made as a statement, which includes:

a)    For an individual – data about the identification card of a citizen of Georgia, registration into enterprise register, occupation, home address);

b)    For a legal entity - the company's name, legal status, location (legal address), name of authorized representative;

c)    Indication about the type of activity and the place, where the person carries out this activity.

Within 15 days from starting the activity, a person is required to notify about starting this activity the relevant agency, which is obliged to issue a document certifying the receipt of such notification within 3 days after receiving the notification.

The Documentation that has to be Submitted for Obtaining a License. A license seeker submits a written application about obtaining the license to a licensing agency. The application about obtaining the license should include:

For an individual:

a)    First name, last name, date and place of birth

b)    Registration data from the registry

c)    Registration number

d)   Occupation

e)    Work and home addresses

f)    Type of license requested

g)    Document proving the payment of license fee

For a legal entity:

a)    Company name

b)    Organizational-legal status

c)    Legal address

d)   First and last names of company representative

e)    Type of license requested

f)    Proof of payment for license fee

Licensing Fee. A license seeker pays a licensing fee for issuing a license certificate. The amount of a licensing fee, the procedure of its payment into the budget and claiming back is defined in "Law of Georgia on Licensing Fees". For issuing a copy of a license, the license holder covers the cost of making a copy of the license.

Duration of a License. A license is issued for an indefinite period of time. A license holder carries out the activity defined by the license since the date of making decision by the licensing agency about issuing the license. The transfer of a license to another person is prohibited.

License Register and its Maintenance. There are two types of license register: a) Departmental license register; and b) The state license register. A licensing agency enters the data related to a license into a departmental license register within 3 days after making the decision about issuing a license. The following data is recorded into a departmental license register:

For an individual:

a)    Data about the holder of a license (first name, last name)

b)    Home address

c)    The type (types) of licensed activities

d)   The number of a license and the date of issue

e)    Data about suspending, resuming, revoking a license or issuing a copy of the license

For a legal entity:

a)    Data about the holder of a license  (the company's name)

b)    The company's legal status

c)    The data of the state registration

d)   Location (legal address)

e)    The data about making amendments into the company's name, legal status and location (legal address), as well as about the reorganization of the company

f)    The type (types) of licensed activities

g)    The number of a license and the date of issue

f)    Data about suspending, resuming, revoking a license or issuing a copy of the license

4.2  Local Enterprises

4.1.3     Joint Stock Companies traded at Georgian Stock Exchange

First, we will analyse the aggregate figures concerning all Joint Stock Companies (JSC) traded at Georgian Stock Exchange (GSE) and then will present the data on individual enterprises.

Market Capitalization. The figures describing the market capitalization of all Joint Stock Companies traded at GSE are presented in Table 4.1.1.1:

Table 4.1.1.1 Market Capitalization of all JSCs

The more useful benchmark for judging the market performance of the private companies usually is the ratio of the market capitalization over the Gross Domestic Product (GDP) of that country. Figure 4.1.1.1 shows the values of this ratio for Georgia and also for other Eastern European (mainly former Soviet Block) countries, whose economies are in transition mode from the command economy to a market driven system likewise Georgia. It can be seen from this Figure that Georgian stock market is rather underdeveloped in comparison to other Eastern European countries, not to speak about the Western European Countries and the USA, which have much higher values of this ratio.

Fig. 4.1.1.1. Market Capitalization as % of GDP for Eastern European Countries, including Georgia

It is interesting to note that about 82.8% of the total market capitalization is formed by only 10 companies. The remaining 278 companies that are admitted for trading at the GSE constitute to only about 17.2% of the total market capitalization. This is shown in Fig. 4.1.1.2:

Fig. 4.1.1.2 Market Capitalization of 10 Leading Georgian Joint Stock Companies

Volume and Value of Trades. The figures given in Table 4.1.1.2 reflect the combined volume and value of trades of all Joint Stock Companies conducted at GSE since its inception to date.

Table 4.1.1.2 Volume & Value of Trades at GSE

Value Turnover. The value turnover is calculated by dividing the annual value of trades over the total market capitalization in that year. This is shown in Table 4.1.1.3 for years 2001 and 2002:

Table 4.1.1.3 Value Turnover at GSE

The large part of the total value of trades comes on the trading of the securities of 10 leading companies mentioned in the above. This is shown in Fig. 4.1.1.3:

Fig. 4.1.1.3 Value of Trades of 10 Leading Georgian Companies

Liquidity. All the factors considered in the previous paragraphs, i.e. Low Market Capitalization, low Volume and Value of Trades, and low Value Turnover, all indicate that there is little (or even no) liquidity at the GSE. Indeed, out of 282 companies, whose shares are currently admitted for trading at the GSE, the shares of only 93 companies (i.e. 33%) were traded in 2002. The shares of the remaining companies were not traded during the year at all. This is shown in Figure 4.1.1.4:

    Fig. 4.1.1.4 Number of Admitted Companies Actually Traded in 2002

Even those companies, whose shares have been traded in the past, do not satisfy the requirements for getting listed at the GSE. The main listing criteria are: a) Company should be functioning for more than 3 years; b) Equity Capital of a company should be greater than 100,000 USD; and c) Company should be profitable for 2 years during the last 3-year period (GSE, 2003). Out of 282 companies, only 2 companies were listed at the GSE in 2001, while only 1 company has been left listed in 2002, after the GSE removed 1 company from the list. Furthermore, the total number of trades and therefore an average number of trades per trading session are also extremely low, as shown in Tab. 4.1.1.4:

Table 4.1.1.4 Average Number of Trades per Trading Session

In total, 309 trading sessions have been held during 2000 – 2003 and 3780 trades have been executed during this period. It then follows, that average number of trades per trading session (i.e. per day) is equal to 12. This figure gives some idea about the number of buyers and sellers participating in trades each day. Also note that the total number of the securities admitted for trading at the GSE is equal to 282. All these means that there are virtually no liquid shares at the GSE.

Composite Index. The poor performance of the GSE in terms of all the above-mentioned market indicators indicate that the nature of the composite index would be rather unreliable and would not reflect the true picture of market performance. One solution to the problem is to select only the leading companies (blue-chip companies) and construct the index for these companies. Indeed, such approach is employed by Georgian Investment Bank Galt & Taggart (G&T) Securities LLC, which publishes so-called G&T Blue-Chip Index. This is shown in Fig. 4.1.1.5:

Fig. 4.1.1.5 G&T Blue-Chip Index (GEL), 2002

The problems facing GSE. Below is the problem tree describing the set of problems currently facing GSE:

General recommendations for improving the performance of GSE.  The fact that at present there is no sound and liquid capital market in Georgia can be attributed to two fundamental problems: (I) A low potential of the capital market in Georgia; and (II) A high unrealized potential of Georgian capital market. The government of Georgia (GoG) should undertake both, long-term and short-to-medium term measures in order to improve the performance of Georgian Stock Exchange (GSE).

(I) It is suggested that the potential of the capital market in Georgia could be increased by means of:

Long-term goals:

Increasing the rate of country's economic growth;

Reducing the size of the shadow economy;

Attracting higher Foreign Direct Investments (FDI).

short-to-medium term goals:

Conducting the 2nd round of the privatization through GSE by involving investment funds into the privatization process;

Including the majority of leading Georgian companies into the listing of the securities traded at GSE.

(II) A high unrealized potential of Georgian capital market can be explained by low confidence (trust) amongst the investors towards the stock market, which in turn is the result of the problems existing in terms of protecting the shareholders' rights. In order to solve the latter problem, there is a need: (i) to improve the corporate governance practice, and (ii) to ensure the fairness of the market. These mainly are the goals that can be achieved in short-to-medium term.

The measures needed to improve the corporate governance practice in Georgia include:

To simplify the tax system;

To adopt the International Standards on Auditing (ISA) into law;

To enforce the International Accounting Standards (IAS).

These measures are designed to remove the incentives to pay bribes for the purposes of hiding profits and avoiding paying taxes, which would result in lower levels of corruption in tax administrations and increased transparency of corporate disclosure.

Another measure to improve the corporate governance practice in Georgia is:

To conduct an educational campaign amongst shareholders, company directors and the members of supervisory boards.

The objective of the educational campaign is to lessen the entrenched culture of abusive self-dealing and to give to shareholders sufficient knowledge about their rights. The entrenched culture of abusive self-dealing can also be alleviated by means of putting in place effective regulations and institutions for controlling the self-dealing. All these should lead to regular shareholder meetings and increase the role of the supervisory boards in giving the strategic direction to companies.

Another important factor for improving the corporate governance practice in Georgia is to have an active market for corporate control. Namely, there is a need:

To put in place an adequate legislation for investor protection. More specifically, to introduce the investment compensation schemes, strengthen the bankruptcy system and adopt the rules for takeovers;

To adopt the legislation regulating the financial intermediaries (such as private pension funds and mutual funds), which at present are absent in Georgia.

Properly functioning financial intermediaries would act as large domestic institutional investors and ensure that large volumes of capital resources are directed to the market. This, in turn, would facilitate the competition in the financial market and lead to an active market for corporate control.

The measures needed to ensure the fairness of the market include:

To Enforce a trading transparency;

To deter an unfair trading.

The last two objectives can be reached by means of ensuring an effective functioning of the National Securities Commission of Georgia (NSCG), which should be capable of ensuring an effective enforcement of the securities regulations. More specifically:

The NSCG should have an adequate Inspection, Investigation and Enforcement power, including the criminal prosecution authority;

The Government of Georgia (GoG) should increase the budgetary support of the NSCG to ensure a proper functioning of the agency;

The NSCG should be more accountable to GoG for its activities regarding the regulation of Georgian capital market;

The NSCG should develop a program to supervise the activities of Self‑Regulatory Organizations (SROs); and

The NSCG has to develop a code of ethics for its staff.

Another measure needed to ensure the fairness of the market is:

To enforce adequately the rights of the shareholders, which should be done through the improved court system.

In order to improve Georgian court system, it is important to conduct training of judges in the topics concerning the corporate law and operation of the securities market

All the above-described measures are designed to achieve in future a sound and liquid capital market in Georgia.

Specific recommendations for improving the performance of GSE. More specific recommendations, together with the objectives to be achieved, performance indicators, responsible agencies, duration, etc., are presented in the next page. Objectives given in parenthesis correspond to the Problem Tree given in the above: