Document of

The World Bank

Report No: 21918-RW

PROJECT APPRAISAL DOCUMENT

ONA

PROPOSED CREDIT

IN THE AMOUNT OF SDR 31.8 MILLION(US$ 40.8 MILLION EQUIVALENT)

TO THE

REPUBLIC OF RWANDA

FOR A

COMPETITIVENESS & ENTERPRISE DEVELOPMENT PROJECT

March 27, 2001

Private Sector DevelopmentCountry Department 9Africa Regional Office

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CURRENCY EQUIVALENTS

(Exchange Rate Effective March 26, 2001)

Currency Unit = Franc Rwandais (FRW)FRW 434.0 = US$1

US$1 = FRW 434.0

FISCAL YEARJanuary 1 - December 31

ABBREVIATIONS AND ACRONYMS

BCR Banque Commerciale du RwandaBK Banque de KigaliBNR Banque Nationale du Rwanda/Central BankCAPMER Centre d'Appui aux PME du Rwanda/Center for Assistance to SMECAS Country Assistance StrategyELECTROGAZ Water and Electric Utility CompanyERC Economic Recovery CreditsESAF Enhanced Structural Adjustment FacilityFIAS Foreign Investment Advisory ServiceFM Financial ManagerGDP Gross Domestic ProductGOR Government of RwandaGPN General Procurement NoticeIDF Institutional Development FundLACI Loan Administration Change InitiativeMIGA Multilateral Investment Guarantee AgencyMRA Multi-Sector Regulatory AgencyNCB National Competitive BiddingNPL Non-Performing LoansNTB National Tender BoardOCIR-CAFt Office des Cultures Industrielles du Rwanda pour le CafeOCIR-THE Office des Cultures Industrielles du Rwanda pour Ic TheONP Office National des PostesPCU Project Coordination UnitPIP Project Implementation PlanPMR Project Monitoring ReportsPRSP Poverty Reduction Strategy PaperPSD Private Sector DevelopmentRWANDATEL Rwanda Telephone CompanyRWF Rwandan FrancsSME Small and Medium EnterprisesSOE Statement of ExpendituresSPN Specific Procurement NoticeSRFP Standard Request for ProposalUPB Union des Banques PopulairesUBPR Union des Banques Populaires du RwandaUNIDO United Nations Industrial Development OrganizationUSAID United States Agency for International DevelopmentWOCCU World Council of Credit Unions

Vice President: Callisto MadavoCountry Director: Emmanuel MbiSector Managers: Demba Ba/Gerard Byam

Task Team Leader/Task Manager: Aubert Zohore

RWANDACOMPETITIVENESS & ENTERPRISE DEVELOPMENT

CONTENTS

A. Project Development Objective Page

1. Project development objective 22. Key performance indicators 2

B. Strategic Context

1. Sector-related Country Assistance Strategy (CAS) goal supported by the project 22. Main sector issues and Governmuent strategy 33. Sector issues to be addressed by the project and strategic choices 8

C. Project Description Summary

1. Project components 82. Key policy and institutional reforms supported by the project 123. Benefits and target population 134. Institutional and implementation arrangements 13

D. Project Rationale

1. Project alternatives considered and reasons for rejection 142. Major related projects financed by the Bank and other development agencies 153. Lessons learned and reflected in proposed project design 154. Indications of borrower commitment and ownership 175. Value added of Bank support in this project 18

E. Summary Project Analysis

1. Economic 182. Financial H3. Technical 184. Institutional 195. Environmental 206. Social 217. Safeguard Policies 22

F. Sustainability and Risks

1. Sustainability 222. Critical risks 233. Possible controversial aspects 24

G. Main Credit Conditions

1. Effectiveness Condition 242. Other 24

H. Readiness for Inplementation 25

I. Compliance with Bank Policies 25

Annexes

Annex 1: Project Design Summary 26Annex 2: Detailed Project Description 31Annex 3: Estimated Project Costs 35Annex 4: Cost Benefit Analysis Summary 39Annex 5: Financial Summary 42Annex 6: Procurement and Disbursement Arrangements 43Annex 7: Project Processing Schedule 51Annex 8: Documents in the Project File 52Annex 9: Statement of Loans and Credits 53Annex 10: Country at a Glance 55Annex 11: Note on Banking Sector 57Annex 12: Policy and Institutional Reforms 64Annex 13: Letter of Sector Policy 69Annex 14: Overview of the Energy Sector 73

MAP(S)IBRD 25927R

RWANDA

Competitiveness & Enterprise Development

Project Appraisal Document

Africa Regional OfficeAFTTR

Date: March 27, 2001 Team Leader: Aubert ZohoreCountry Director: Emmanuel Mbi Sector Manager: Demba Ba, Gerard A. ByamProject ID: P057295 Sector(s): BP - PrivatizationLending Instrument: Specific Investment Loan (SIL) Theme(s): Private Sector

Poverty Targeted Intervention: N

Project Financing Data[ j Loan [pq Credit [ ] Grant [ j Guarantee [ ] Other:

For Loans/Credits/Others:Amount (US$m): 40.83

Proposed Terms: Standard CreditGrace period (years): 10 Years to maturity: 40Commitment fee: 0.5% Service charge: %

:Financing Pian: Source Local Foreign TBORROWER 0.32 0.00 0.32IDA 14.20 26.63 40.83

Total: 14.51 26.63 41.15Borrower: REPUBLIC OF RWANDAResponsible agency: MINISTRY OF FINANCE - PRIVATE SECTOR STEERING COMMITTEEContact Person: Dr. Ben E. KarenziTel: 250 75 778/Mobile 0830 1802 Fax: 250 77 581 Email:mfmirwandal.com

Estimated disbursements ( Bank FY/US$M):=0022=~~~~20031M 20e 005'l2006O

Annual 8.62 14.07 6.05 6.05 3.02 3.02Cumulative 8.62 22.69 28.74 34.79 37.81 40.83

Project implementation period: 6 yearsExpected effectiveness date: 07/31/2001 Expected closing date: 07/31/2007

A. Project Development Objective

1. Project development objective: (see Annex 1)

The overall project objective is to establish an enabling environment for growth and development of theprivate sector that would help reduce poverty in Rwanda. The project will focus on promoting acompetitive climate by (i) streamlining the business environment; (ii) reducing costs and increasing theefficiency of telecommunications, water and electricity utilities, and the tea industry; and (iii) improvingaccess to financial and support services to local entrepreneurs.

2. Key performance indicators: (see Annex 1)

Project impact will be assessed by (i) improved perception of the investment climate and increased privateinvestment; (ii) growth of local Small and Medium Enterprises (SMEs); (iii) reduced cost and increasedefficiency of utility services; and (iv) retumns on tea industry. A baseline of specific perfonranceindicators, prepared by the Government, was discussed during negotiations. They are to be included in theProject Implementation Plan to be finalized by effectiveness. The baseline was developed along thefollowing key dimensions:

Improved perception of the investment climate: Efficiency of the business environment; creation ofnew enterprises, private investment and job creation.

Development of an indigenous private sector (SMEs): Efficiency of the business environment forSMEs; creation of new SMEs and jobs; availability of financial services adapted to private sectordevelopment (PSD) demands.

Cost reduction and efficiency of utility services in the economy: Increased access to water,electricity and telecommunication services for individuals and business entities, as well asincreased access to cities, and communities not presently served or inadequately served; Prices ofutility services to be compared with benchmarks of similar services in other countries; Diversitv ofservices offered to conswners for telecommunications and postal services: Degree of introductionof new telecommunication services (such as cellular, paging, internet, data transmission, and postaldelivery services) in a multi-provider environment.

Returns on the tea industry: Increased productivity and competitiveness of the tea sector; increasedaverage income for farmers from tea production; strengthening the role of professionalorganizations in the promotion of the tea industry.

B. Strategic Context1. Sector-related Country Assistance Strategy (CAS) goal supported by the project: (see Annex 1)Document number: IDA/R99-135 Date of latest CAS discussion: 6/29/99

The CAS Progress Report has recognized that Rwanda is facing particular challenges of reintegration ofdisplaced persons, national reconciliation, sustaining growth and reducing poverty after the genocide andcivil war of 1994. Improving the standard of living of the average citizen is essential for achievingsustainable peace and stability. Against this backdrop, the Bank is focusing on assistance on a selectedagenda, crucial for a transition period, to help establish longer-term growth. The CAS noted that withdurable peace, political stability and strong reform efforts, including the creation of an enablingenvironment for private investment, Rwanda could sustain economic growth in the range of 5-8 percent of

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GDP beyond 2000. The proposed Competitiveness and Enterprise Development Project would play a keyrole in meeting the CAS objectives.

2. Main sector issues and Government strategy:

2.1. Macroeconomic and sectoral strategic Options

In December 1994, the GOR issued its Declaration of Principles, spelling out its medium term agenda tomove to a liberal, market-based economy, with a reduced role for the state as a means of achieving thetransition from conflict and emergency, to peace and sustainable development. In 1998, the Government,with the assistance of the World Bank and the International Monetary Fund, adopted the first policyframework paper, which provided the basis for a reform program supported by the Bank and the Fund,through Economic Recovery Credits (ERC), an Enhanced Structural Adjustment Facility (ESAF) andsector operations. The agreed reform program focuses on measures to establish an enabling environmentfor economic growth and poverty alleviation. Promoting the private sector and improving Rwanda'scompetitiveness is the centerpiece of this agenda. The GOR has recently completed an interim PovertyReduction Strategy (I-PRSP). The private sector component of the I-PRSP emphasizes that efforts focuson consolidating steps taken to improve the business enviromment and open up the economy. This involvesfurther reducing the role of the State and promoting the private sector, lowering factor costs and increasingefficiency, and promoting market-based agriculture.

2.2. Private Sector Development in Rwanda: strategic objectives and choices for growth

The Government is now focusing on tackling the structural problems of poverty reduction and is fullyaware that strong growth, led by private sector investment, is a key to helping the Rwandese populationimiprove their living conditions and build a solid foundation to reconciliation. To this end, the Govemnmenthas (since 1995) embarked on an ambitious agenda of structural reforms to establish a conduciveenvironment for the private sector and accelerate economic growth. Specific reforms cover the followingareas: (i) the establishment of a framework of regulations and institutions favoring private sectordevelopment; (ii) trade liberalization and improvement of taxation; (iii) liberalization of domestic prices andmarketing for commodities; (iv) public enterprise reform, including the privatization of about 60state-owned companies; (v) openmg up the water, energy, telecommunications and tea sectors tocompetition; (vi) liberalization of the exchange regime; (vii) financial sector strengthening, including theCentral Bank, and improvement of the policy and social security system. Most of these reforms are beingimplemented with the support of a number of Bank-financed projects, including the recently closed PrivateSector Development Credit (PSD, Cr. 2541-RW), three economic recovery credits and two sectoraloperations (the Energy and Telecommunications projects). A detailed record of the achievements of thereform program carried out through the above mentioned operations is attached as Annex 12.

The Govermment is committed to pursuing the reform agenda and removing barriers to entry or growth ofprivate businesses, to overcome a perception of Rwanda as a high risk market, unattractive to existing andpotential investors, both foreign and domestic. To this end, the GOR is committed to address the issuesbelow, through streamlining the business enviromnent; privatization of utilities, tea factories and estates tolower the cost of doing business and increase the yield and retums thereon; and facilitating the emergenceof a strong local business community by providing financial and non-financial services. As discussedbelow, a number of problems impede private sector expansion.

The business enviroment is stiUl unfavorable. Under the PSD project, the Government has addressedcertain impediments m its legal and regulatory framework by carrying out studies and taking measures to

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reform the commercial code, adopt a series of new business related laws, and by establishing an arbitrationcenter. Furthermore, an Investment Promotion Center was recently established and Rwanda is nowcompleting steps for eligibility for guarantee insurance by MIGA. With assistance from UNIDO, theGovernment has established an institution, the "Centre d'Appui aux PME du Rwanda" (CAPMER), withthe objectives of providing technical assistance to SMEs for fmancial management, feasibility studies,market research, sourcing of financing and capacity building.

However, a number of additional measures are needed to improve the business environment. These include:(i) the strengthening of the newly established Investment Promotion Center to play an effective role ineasing administrative and regulatory constraints limiting business creation; (ii) addressing, systematically,legal and judicial impediments for the private sector including the establishment of a commercial court andthe strengthening of the Arbitration Center; (iii) reinforcing the financial sector; (iv) strengtheningCAPMER to independently and effectively provide support to SMEs; and (v) easing Rwanda'stransformation by creating prosperity through innovation and competitiveness.

Infrastructure services remain costly and inefficient. Although Rwanda has a respectable main roadnetwork by Sub-Saharan Africa standards, transport costs are high due to the long distance to the sea, hillyterrain, poor road maintenance, high fuel prices, and cumbersome customs procedures. These issues arebeing addressed through sector dialogue and ongoing operations with IDA and other donor support.

In addition to the above, the Government has identified infrastructure services in telecommunications,energy and water, provided by inefficient public monopolies, as being costly and high on the list of barriersfor private sector development Coverage for these services is well below Sub-Saharan averages; service ispoor and tariffs are high. Under previous IDA-financed projects, efforts were made to undertake sectoralreforms aimed at increasing access to those services, improve sector management and eliminate publicmonopoly inefficiencies, by reaching a consensus with the Government on the introduction of private sectorparticipation in the management and investment in those services.

Telecommunications and Postal Services: After the civil war of 1994, the priority was to restoreservices, almost from scratch. With the assistance provided by the donor community, including theIDA-fnanced Second Communication project (Cr. 2189-RW), Rwanda has managed to recover and hasre-established almost the pre-war capacity of the networks. In parallel, the Government has resumed thedialogue for sector reform with IDA and other donors to further liberalize and improve the cost andefficiency of services for the economy. This resulted, initially, in the licensing of a private cellularoperator.

Current demand for telecommunications services, both for basic telephony and value-added services, is stillexceeding the current capacity of existing operators, as a result of the lack of financing and competition inservice provision. The cost of the services is high, and efficiency is below industry standards due to themonopolistic power of the government-owned RWANDATEL, operating the main network and the lack ofcompetition in the cellular market.

In November 1999, with the assistance of IDA, the GOR approved a new Telecommunication ReformPolicy, under which (i) the GOR committed to disengage from RWANDATEL and open the market for alltelecommunication services to competition; (ii) a new telecommunication law focusing on liberalization wasadopted by the Government and is being discussed by Parliament and its approval is expected by April2001; (iii) a multi-sector regulatory authority has been set up to deal with a multi-operator enviromnent asthe market opens up; and (iv) a privatization strategy for RWANDATEL was approved and is ready to beimplemented. The focus is now to privatize RWANDATEL to improve its operational and financial

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performance as well as its investment capacity; promote private investment in all telecommunicationmarket segments through open competitive licensing regime, as well as transparent tariff andinterconnection policies; and build institutional capacity for policy development and sector regulation.

As far as the Postal sector is concerned, under the past IDA credit, an autonomous entity, Office Nationaldes Postes (ONP) was created and is now operational. The agency, assisted by IDA and other donors, hasnow restored services in all 12 prefectures and most of the 124 communes, and constructed a new PostalSorting Center in Kigali to process about 4 tons of outgoing mail per month and about 9 to 12 tons ofincoming mail per month. Furthermore, ONP has undergone some modernization and restoration of itsfacilities as well as recruitment and retraining of its staff. However, the GOR acknowledges and is keen toaddress the issue of a lack of capacity for proper financial management and pricing of services, capacityfor commnercialization and development of services, as a complement to the telecommunication services.To consolidate the results already achieved under the previous IDA-financed project, the focus is now onensuring financial self-sufficiency of ONP for sustained delivery of affordable services. It should be noted,that under harsh economic realities, which is the case of Rwanda, improved access of the population topostal services is an important step in meeting communication needs, especially for the poor.

Water and Power Sector: The war and institutional weaknesses have deeply affected the functioning of thesector entity. ELECTROGAZ is technically bankrupt despite high electricity prices. Attempts to improvesector efficiency through three different time-bound proposals (over 3 years) after the 1994 genocide havebeen unsuccessful. However, these efforts have led to the forging of a consensus that to improve sectorefficiency, private sector participation and privatization over the medium-term is the most viable solution.

Therefore, in 1998, with the assistance of IDA, the Government adopted a comprehensive sector reformprogram to improve the cost and efficiency of the services for the economy. This includes (i) a newregulatory framework, comprising the abolition of ELECTROGAZ monopoly, the review of existing sectorlaws, and the setting up of a multi-sector regulatory body (the same as for the telecommunication sectormentioned above); and (ii) the introduction of the private sector to manage the utility, reduce costs andimprove efficiency. With international expertise financed by IDA, the GOR has developed and agreed withIDA, the privatization strategy for ELECTROGAZ consisting of a two-step process with, in the short-term,an initial performance-based management, which will be followed by a long-term concession or leasearrangement. It was concluded that given the poor operational and financial conditions of ELECTROGAZ,the perception of Rwanda as a high risk country by investors, and the need for substantial investment toimprove its operation, an immediate offer for sale or concession would not generate sufficient interest onthe part of the private sector. A concession arrangement would be feasible in three to five years, the timerequired to re-establish financial and operational stability. The selection of the private operator is welladvanced and is expected to be completed by July 2001. The focus is to consolidate the consensus reachedin the sector dialogue. It is anticipated that a sectoral operation will follow at a latter date, together withthe Bank's ongoing macro-dialogue, to monitor the transition to a concession.

Tea Sector requires liberalization. Tea is one of the two main export crops in Rwanda, contributingabout 30-40 percent of total exports. It is also one of the few crops which provides regular cash income tofarmers. There are ten tea factories in Rwanda, nine are owned and managed by the state throughOCIR-The, a parastatal. One is owned and managed by Sorwathe, a joint ownership company with 51percent of shares owned by US shareholders and 49 percent by three Rwandan organizations, includingOCIR-The. The industry however, is largely managed by OCIR-The. It is responsible for a wide range ofactivities, including financial management of the OCIR-The-owned tea factories, research and extension,procurements of inputs, hiring pluckers for small-holders, processing, and marketing. State estates arethought to be in reasonable condition, but yields are low and costs high; price level for tea growers are too

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low to attract growers to increase production. In addition, despite a recent physical rehabilitation, theindustry lacks factory capacity to process increases in tea production. Further, low producer prices andwages for plantation workers contribute to labor shortages and low production.

The Government is committed to the hberalization of the industry through the privatization of state-ownedassets, by leaving it to the private sector to improve efficiency and income of the industry and itscontribution to economic development. To this end, the GOR has prepared and adopted a strategy thataddresses, inter alia, (i) the participation of nationals and key stakeholders (cooperatives, small-holders,factory employees) in the ownership of tea factories and estates through privatization; and (ii)accompanying measures, including (a) the empowerment of farmers to take over management of allcommercial and technical activities that are currently the responsibility of OCIR-The; and (b) theestablishment of an independent Tea Board. The focus under this operation will be on the completion ofthe privatization while the GOR establishes an independent Tea Board. Other supportive measures,including the empowerment of farmers will be addressed in an IDA-financed rural sector support project,under preparation through its promotion of export agriculture component, which would seek to empowertraditional export crop farmers to take over the management of all commercial and technical activities thatare currently the responsibility of the two parastatals in the tea and coffee sectors, respectively, OCIR-Theand OCIR-Cafe. Private operators that would eventually acquire the currently state-owned, but soon to beprivatized factories in the two sub-sectors, are not expected to render the same service withoutcompromising the commercial independence of private farmers, and hence future profitability of tea andcoffee production.

The fmancial sector is stifl weak. The financial sector of Rwanda is quite small and still weak from theeffects of the war. There are two major commercial banks, which are partially owned by the Government ofRwanda and foreign shareholders (BCR, BK), and three smaller banks with private ownership. Further,there is a development bank, a real estate financing company, and one main micro-finance institution(Union des Banques Populaires - UBP), which covers 97 percent of its sector. Overall deposits of thebanking sector are estimated to be about US$ 300 million, against outstanding loans of only US$ 200million. The liquidity of the financial sector is reasonable but banks lack long-term resources; and they arereluctant to finance commercial activities that are not directly related to the export sector and do notprovide hard currency income.

The previous PSD project included a credit line of SDR 4.92 million (US$ 6.5 million), which was fullydisbursed through three participating institutions. The resources were used to finance 14 private sectorprojects, mostly in the industrial and services sectors, in Kigali. The beneficiaries indicated satisfactionwith the credit line as a whole, with the Private Sector Federation and Government expressing a wish forsuch a new facility. A recent report commissioned by the Government, indicates the creation of 380 jobsby these 14 projects. However, the economic impact of this credit line is still to be assessed, which dependson accurate financial reporting by beneficiaries and no dispositions existed to make the instrumentsustanable. In addition, structural deficiencies exist in the financial sector that threaten stability andimpede the development of resources for long-term financing.

* Banking Sector

The Central Bank (BNR), with assistance from the IMF, has issued a set of bank instructionsto implement a new banking law. These measures aim at strengthening the financial sector, byregulating several crucial issues (e.g. minimum capital, capital adequacy, foreign currency,bond issuance). As of December 31, 1997 all commercial banks were audited andsubsequently, a restructuring plan for 2000-2002 was agreed on with each institution. The

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minimum capital was raised from RWF 300 million to RWF 1.5 billion. Due to this rise incapital and the restructuring measures already implemented, most banks currently meet therecommended 8 percent Capital Adequacy Ratio. Implementation of these instructions wasfacilitated by an improved dialogue and exchange between the BNR and the banks.

However, issues remain as follows: (i) the banking system continues to suffer fromnon-performing loans (NPLs) and this has made certain commercial banks vulnerable; (ii) theextremely fragile situation of UBP; and (iii) a need for the banks to upgrade the capacity oftheir personnel, especially in credit and recoveries.In spite of the fact that all banks have to deal with NPLs in a difficult market enviromment, theindividual banks present a quite diverse picture. A review and discussion of restructuringplans, as well as their current situation with all banks, clearly and credibly indicate that mostbanks, can master their NPL situation and have potential for sound development.

The last financial review by Bank and IMF staff is dated back in 1991. A comprehensiveassessment is needed to thoroughly address the issues above.

* Union des Banques Populaires

Union des Banques Populaires (UBP), a network of cooperative banks, which caters to theneeds of both the urban and the rural population, represents about 97 percent of themicro-finance sector. It was a highly successful institution before the civil war. Due to the lossof employees, its central agency in Kigali was completely disorganized during the civil war andis currently unable to serve its function as the central pillar of the micro-finance sector. Itdiscontinued any new credit activity in early 2000. Given its importance for a large share ofthe population, including many informal small business activities, its reorganization andrestructuring is a key element in the Government's strategy to foster private sector developmentand reduce poverty.

The draft of a financial audit and first insights of a BNR inspection revealed an extremelyfragile fmancial situation and the risk of imminent illiquidity. Moreover, the fact that thesecircumstances caused UBP to stop lending in order to prevent further losses denies a largenumber of economic agents access to credit. A failure of UBP would have a devastatingimpact not only on the financial, but also on the private and rural sectors of Rwanda, as it isthe only major micro finance institution of the country, serving over two thirds of all bankdepositors.

USAID, together with the World Council of Credit Unions (WOCCU), will provide technicalassistance for three years to reorganize and reinforce operational procedures. Furthermore, perthe new Banking Law, the BNR is currently working on the instructions for proper supervisionof cooperative societies, including UBP. Long-term financial viability of UBP will require awrite-off of NPLs dated from before the conflict where there is no prospect of recovery (mostlyloans to persons who did not survive the conflict). A corresponding capital injection would bejustified as part of the overall restructuring program of UBP.

HIV/AIDS issue will be addressed in this particular project by engaging the private sector on awarenessand information dissemination.

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3. Sector issues to be addressed by the project and strategic choices:

Building on the achievement and lessons of previous Bank and Fund interventions, the proposed projectwould help provide the enabling financial, legal, business and infrastructure enviromment necessary tofoster the development of a dynamic private sector leading to poverty reduction. Thus, the project wouldaddress the following issues that mutually support each other and are complementary to the results alreadyachieved:

* Strengthening the business enviromnent

Further reduction of business transaction costs would be sought through streamlining business andadministrative procedures to facilitate private enterprise creation. To this end, the project will address (i)improving the legal environment affecting private sector development through the implementation of anaction plan to remove legal impediments to private sector and the strengthening of the Arbitration Center;(ii) reducing bottlenecks in the investment implementation process and improving investor assistance bystrengthening of the operational capacity of the newly-established Investment Promotion Center, (iii)supporting emerging business by strengthening the newly established CAPMER combined with a SMEstart-up fund to help remedy the lack of sustainable long-term financing resources; and (iv) laying theground work to address issues in the financial sector and assisting in providing capacity through (a)providing technical assistance to carry out a comprehensive sector assessment; (b) supporting bankers'training through assistance to the Banking/Business School being established by the Government; and (c)addressing the extremely fragile situation of the Union des Banques Populaires du Rwanda (UBPR),through the reorganization and restructuring of UBPR, so that it can fulfill its function as the central pillarof the micro-finance sector of Rwanda. In complement to this, IFC intends to start due diligence in eligiblebanks with a view of possible equity investments, as well as the provision of credit lines.

* Reducing the cost and improving the efficiency of utility services

To solidify competition in the telecommunication, water and energy sectors, current reforms in these sectorswill be completed to encourage entry of private operators, lower factor costs and improve accessibility. Tothis end, the project, through its support to the privatization of the utility companies for water, electricityand telecommunication, intends to improve the delivery and cost of services to business and individualusers. Furthermore, the project will help establish and build capacity of a multi-sector regulatory agency toeffectively deal with a multi-operator market environment.

* Liberalization of the tea industry

It intends to instill competition for better sector efficiency and contribution to economic growth and providebetter returns to owners and farmers, through the privatization of tea factories and estates. The GOR willestablish and build the capacity of an independent Tea-Board for a better stakeholder consultation on issuespertaining to the marketing, pricing and commercialization of tea.

C. Project Description Summary

1. Project components (see Annex 2 for a detailed description and Annex 3 for a detailed costbreakdown):

The project is designed as a response of the Bank Group to the request of the client for creating a betterclimate for private sector development in Rwanda. The project is a packaged response aimed at stimnulatingthe demand side by enhancing investment promotion with FIAS and MIGA and helping establish conditions

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with the SME Group to provide financial and non-financial services to emerging or existing SMEs.Further, to respond to this demand, IDA will work on alleviating immediate threats to the financial sectorand capacity improvement, while IFC addresses the issue of long-term resources and capital adequacy,where conditions permit. IDA will also help, to improve the legal environment and stimulate efficiency inutilities and tea sectors by lowering costs through privatization.

The project with a total estimated cost of US$ 41.15 million will include the following components:

1. Improving Business and Legal Business 22.38 54.4 22.38 54.8Environment Environment2. Reducing costs & Improving Privatization 14.25 34.6 14.25 34.9Efficiency3. Promoting Tea Industry Privatization 2.36 5.7 2.36 5.84. Support to Private. Sect. Fed and Privatization 1.55 3.8 1.24 3.0PCU5. PPF 0.60 1.5 0.60 1.5

Total Project Costs 41.14 100.0 40.83 100.0

Total Financing Required 41.14 100.0 40.83 100.0

Note: Due to rounding, figures may not add up.

Component 1: Improving the Business and Legal Environment

This component aims at streamlining the business environment to facilitate entry or growth of privatebusinesses by, providing support to improve legal processes and capacity, investment promotion climateand financial services. It will include:

1. Justice System and Legal Framework: this will consist of the following activities: (i)establishment of a Commercial Court through the provision of (a) technical assistance for thehannonization of laws and regulations relating to the organization of the judiciary and the law to create theconmuercial court and definition of the Court's structure; (b) training for judges/magistrates, courtadministrators and other auxiliaries; and (c) technical assistance and equipment for establishing a casemanagement system; (ii) strengthening the institutional capacity of the Arbitration Center through theprovision of (a) technical assistance for the preparation of a procedure manual; (b) computer equipment, avehicle and software; (c) training for arbitrators, administrative personnel; (d) organization of seminars topromote public awareness of the Center; (iii) improvement of the commercial legislative and regulatoryframework through the provision of (a) technical assistance for the preparation of an action plan includingan updated assessment to establish corrective measures to resolve the legislative constraints affectingprivate sector development; and (b) implementation of selective measures under the said action plan; and(iv) support to a Documentation Center through the provision of technical assistance, equipment andmaterials.

2. Investment Promotion and Trade Facilitation: this will aim at strengthening theoperational capacity of the newly established Investment Promotion Center, specifically its ability toidentify bottlenecks in the investment implementation process and improve its investor assistance function.

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Under this component, national and international experts will be recruited to strengthen the capacity of theCenter, and international experts will provide technical assistance in the preparation of an investor roadmap study, a five-year corporate plan, and a marketing plan. The component will provide training ininvestment assistance and promotion to agency staff and related stakeholders, and an infonnation system,to ensure that the Center is equipped with appropriate communication and information technologies toeffectively deal with investors.

3. Support to Emerging Businesses: this will consist of the following activities: (i) provisionof technical assistance, in collaboration with other donors, to the newly established Centre d'Appui auxPME du Rwanda to make it a suitable legal entity, and strengthen its organizational structure and mandateto provide non-fmancial services to SMEs, necessary for feasibility studies, including technical andbusiness plans, business and financial management, training and effective mobilization of resources; (ii)establishment and management of an enterprise start-up fund to provide financial services to SMEs; (iii)provision of technical assistance for competitiveness improvement, including (a) formation of a NationalInnovation and Competitiveness Unit; (b) design and implementation of three industry cluster level changeprocesses as models for other Rwandan industry groups; and (c) on-line/off-line business strategy trainingfor key groups.

4. Financial Services: this will aim at addressing certain issues in the commercial bankingsector and strengthening the micro-finance sector (see Annex 11). This component will consist of thefollowing activities:

(i) In the commercial banking sector, funds will be provided for:

(a) carrying out a comprehensive sector assessment;(b) technical assistance and equipment for a Banking/Business School which is being established;and(c) technical assistance for the establishment of a "Plan Comptable des Banques et Centrale desBilans" by BNR.

(ii ) In the micro-finance sector, IDA, in coordination with other donors, will provide support to improvethe structure and capacity of UBPR and the system as a whole, including the regulatory and supervisionframework through

(a) provision of necessary funds to GOR for a capital injection, to allow UBPR to write off itsportfolio of unrecoverable, non performing loans that resulted from the conflict; the IDA financedcapital injection in UBPR will be subject to the following conditions: (1) Banque Nationale duRwanda has issued regulations for the microfinance sector, acceptable to IDA, including provisionsrelated to (1.1) loan loss reserves; and (1.2) prudential ratios; (2) Revisions, acceptable to IDA, ofUBPR bylaws giving management sufficient independence; (3) Instruction from BNR to UBP,acceptable to IDA, to convert pre-war dormant deposits into tier two capital; (4) Execution of aMemorandum of understanding, acceptable-to IDA, between UBPR and BNR, including agreedupon performance indicators; and

(b) technical assistance to strengthen effective supervision of the micro-finance sector by the BNR.

To complement this component, IFC will perform due diligence procedures with a view to making ineligible banks, equity investment and or provision of long term resources.

Component 2: Reducing Costs and Improving Efficiency.

This component will provide technical assistance support to instill efficiency and cost effectiveness in the

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provision of water, electricity and telecommunication services through private corporate management andinvestment m the related public utilities. This component will help implement the divestiture program forthe two main public utilities, RWANDATEL and ELECTROGAZ. Specifically, the component will allowfor hiring of (i) advisors to complete the privatization transaction for RWANDATEL; (ii) technicalassistance to make ONP self-financing; (iii) provide financial support for the start-up cost of theperformance-based management contract for ELECTROGAZ; and (iv) technical assistance support tostrengthen the Privatization Secretariat.

1. Teleconmmunication and Postal services: for the telecommunication and postal sectors,this component will include advisory support services for: (i) the privatization of RWANDATEL; and (ii)institutional capacity building for the Ministry of Public Works, Transport and Communications to managewithin the boundaries of the new law and institutional arrangement. In the postal sector, this componentwill provide technical assistance for: (i) a feasibility study of current and new service provision on acommercial basis, and implementation of a modem financial management system and tariff rebalancing;and (ii) corporate structure building and training of Rwanda Postal staff.

2. Water and electricity services: for the energy and water sectors, the Goverunent'soverarching objectives for ELECTROGAZ restructuring, which includes improved quality of service,expanded access to electricity and water, and financial solvency, were initially thought to be best served bythe separation of the company into three distinct commercial entities. Through the ongoing energy sectorproject, the full range of restructuring alternatives available to the Government were evaluated against theestablished objectives for the company. The diagnostic analysis confirmed that creating three companieswould not advance the Government's stated objectives, particularly with respect to financial solvency. Thediagnostic analysis indicated, however, that under the current situation, it is unlikely that at this time a saleor concession is feasible. Given the poor financial performance of ELECTROGAZ, perception of high riskon the part of investors, and the need for major investmnent, it is unlikely that an immediate offer for sale orconcession would generate much interest on the part of the private sector. It is anticipated that aconcession arrangement will not be feasible for at least three to five years. On that basis, the GOR hasdecided to: (i) keep water and electricity services together and develop the gas sector outside ofELECTROGAZ; and (ii) privatize ELECTROGAZ, through a two-step process consisting of an initialthree-year performance-based management contract, followed by a separate tender for concession. Theselection of a private operator is underway with the support of the energy sector project. This projectcomponent will therefore consolidate the restructuring of ELECTROGAZ by financing (i) managementstart-up costs by the selected private operator through part payment of the private operator's contract coston a declining basis - 100 percent the first year and 60 percent the second year (it is expected that by theend of the second year, ELECTROGAZ's operations will generate enough cash flow to self finance, amongother things, the private operator cost) and, (ii) computer equipment and supplies for a customer billing andcollection system, and spare parts. It is expected that a sector operation will complement this component ata latter date to address the issue of investments and further support institutional improvement Themanagement contract arrangement for ELECTROGAZ includes specific performance indicators uponwhich the contractual remuneration is dependent. Detailed description of the sector strategy, the diagnosticanalysis and strategic choices for the restructuring of ELECTROGAZ, the structure and arrangements ofthe management contract, is included in Annex 14.

3. Multi-Sector Regulatory Agency and Privatization Secretariat support. Finally, thecomponent will provide support for (i) the establishment of a multi-sector regulatory agency, namely, (a)building telecommunication expertise, particularly on spectrum management, interconnection and tariffrebalancing; (b) building expertise related to water and energy regulation, particularly on environment andsafety measures and tariff; and (ii) training, equipment and capacity improvement support to the

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Privatization Secretariat.

Component 3: Promoting a Market-Based Tea Industry.

This component aims at creating an enabling environment to facilitate the establishment of a market-basedtea industry, through the introduction of private management and investment in tea estates and factories,and participation of stakeholders in policymaking and marketing through an independent Tea Board. Thiscomponent complements the Rural Sector Support Program in preparation, where issues related totechnical, marketing and training capacity will be addressed. Specialized technical assistance support willbe made available for privatization of the nine state-owned tea factories and estates. The GOR will takenecessary steps, satisfactory to IDA, to establish the Tea Board through the revision of the mandate andattribution of OCIR-The.

Component 4: Support to Private Sector Federation.

The project will (a) provide technical assistance to the newly established Private Sector Federation to (i)strengthen the capacity of its various professional associations; and (ii) engage the private sector in acoordinated way among the different companies, in awareness campaigns and information dissemination onHIV/AIDS in accordance with the Government's strategy; and (b) support the PCU.

2. Key policy and institutional reforms supported by the project:

The project is directly supporting the implementation of key policy and institutional reforms at the core ofthe Government's strategy for creation of an enabling enviromnent for private sector growth:

Liberalization and privatization of key economic sectors: the project will support the completion of thecurrent liberalization efforts in the tea, telecommunication, water and energy sectors. In particular,measures to be supported would increase the efficiency of the regulators by providing hands-on assistancein specific areas to facilitate competition through the lowering of barriers to entry, monitoring proceduresand safety compliance. In the areas of privatization, the project will provide assistance and seek tomaximize the success of program objectives, i.e. improve availability and quality of services at competitiveprices, encourage partnership between local and intemational operators and eliminate the present fiscalburden.

Business and legal environment promotion: improvement in the business environment is being soughtthrough the streamlining of administrative procedures and transparency in the award of licenses and otherentry permits. Legal hindrances will be identified and addressed through revision of legislation andprocedures and the strengthening of related elements of the judicial apparatus.

Improvement in governance: improvement in governance is at the core of private sector developmentmeasures. The project will support reforms to lay the groundwork for effective enforcement of transparentrules for the operations and the establishment of constructive public-private dialogue. This will requireregular disclosure of information through regular consultations between the private and public sectors,public information campaign, compliance with competitive procedures and rules, the setting of clear andobjective criteria for sector entry or enterprise divestiture and publication of bidding results.

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3. Benefits and target population:

The benefits of the program are expected to be significant for the economy as a whole. The proposedproject would help make the Rwandese business environment more competitive. This would foster greaterefficiency and lower cost for an effective contribution by the private sector to poverty alleviation. Theproject would specifically provide the following benefits: (i) improved access to micro-fmance to help basiccommercial activity and households in both the urban and rural sectors; (ii) the creation of a healthybanking sector, which would be able to serve businesses on a sustainable basis; (iii) support for theprivatization of the labor-mtensive tea industry, which would benefit the rural population by removinginefficiencies of public monopolies; (iv) development of postal and telecommunication services, whichwould permit the inclusion of the rural population into the economy and public services, and allow bettersocial and business communications at lower costs; and (v) the restructuring of ELECTROGAZ isexpected to lower production costs and improve service availability and delivery. In addition, the proceedsfrom privatization would flow through the general budget, to be used in accordance with the agreedframework of the GOR program with the Bank and the Fund. Redundancies are not expected as a result ofprivatization transactions supported by this project.

For the local private sector, benefits are expected to be significant, as the project focuses on completingreforms in key sectors and providing support that would encourage efficient private sector activities,particularly with respect to reduced transaction costs and lower entry barriers. Through the targeting ofselected sectors, such as banking, water, energy and telecommunication, it is likely that, through amultiplier effect, the benefits of competition would trickle down into other sectors, such as manufacturing,exports, and trading of agricultural products. In the telecommunication sector, experience has shown thatliberalization and privatization usually encourage job creation as these reforms facilitate the entry of smalllocal providers through the unbundling and outsourcing of activities. In particular, liberalization of accessto the intemet generates income, creates better trade and market opportunities and reduces transactioncosts. In addition, the building of a more conducive environment and execution of the divestiture programof the big entities, such as the tea factories and the two main public utilities, would send powerful signals tothe business community and would thus help build confidence in the country and attract tangibleinvestments.

Benefits would also accrue to the population at large, as it is expected that competition betweenoperators, more efficient management of activities by the private sector, and capital inflow would result incompetitively priced products and greater access by the population. Specific targets to be met by operatorsin remote areas would also ensure efficient access to the poor. Users of privatized utilities would gain fromimproved access, quantity and quality services (postal, telecommunication, energy, water) resulting frominprovement m operational efficiency and extension of network. Tea producers would benefit fromincreased productivity and an increased share of profits.

4. Institutional and inplementation arrangements:

A draft Project Implementation Plan (PIP) that outlines the rules and procedures for implementation wasdiscussed during negotiations and will be adopted by project effectiveness.

Executing Agency. Oversight of the project will be the responsibility of a Government-Private SectorSteering Committee chaired by the Minister of Finance and Economic Planning. The composition andterms of reference of the committee were agreed upon during negotiations. To coordinate projectpreparation and implementation, a project coordinator, whose qualifications are satisfactory to IDA, hasbeen hired and is in the process of setting up a project team comprised of a qualified financial manager anda team assistant. The project team is being established as a Project Coordination Unit (PCU) to coordinate

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project implementation. It will have primary responsibility for facilitating, monitoring, evaluating andreporting on project activities and progress.

The PCU will provide cross-support for preparatory work to the following implementing agencies: (i)Ministry of Justice for the legal framework sub-component, (ii) Investment Promotion Agency for theinvestment promotion sub-component, (iii) CAPMER, for the SME's support sub-component, (iv) BanqueNationale du Rwanda (BNR) for the financial services sub-component; (v) Privatization Secretariat, inclose consultation with line ministries, for the privatization component (telecommunication, energy andwater services and Tea industry promotion), and (vi) the Ministry of Public Works, Transport andCommunications, in collaboration with the Ministry of Energy, Water and Natural Resources and theMinistry of Finance and Economic Planning for the Multi-Sector Regulatory Agency sub-component. ThePrivatization Secretariat will ensure overall coordination of privatization activities involved in this project,including the preparation of the transactions. The Secretariat includes committed personnel who have sofar completed 23 transactions. They have benefited from the technical assistance expertise provided tothem over the past three years and have gained experience under the privatization program alreadycompleted. Additional capacity will be provided to them through this project to enhance their capability ofdealing with the transactions anticipated in this project.

D. Project Rationale

1. Project alternatives considered and reasons for rejection:

A first option considered was to unbundle the project components and develop separate projects forprivatization and financial sector development. This option was rejected for two reasons. First it was feltthat a coordinated set of actions to improve the business environment and strengthen supporting institutionswould be more effective than a series of isolated actions. Second, it was not possible to accommodate alarge number of projects in the lending program to Rwanda.

Concerning privatization of public enterprises, one option was to help GOR implement the wholeprivatization program, which involved about 60 PEs, of which 23 have been privatized. As most of thesePEs do not have a significant impact on the country's economic condition, it was decided to focus supportfor the privatization program on two key areas: (i) the largest companies, which manage the country's keyutilities (telecommunications, energy and water); and (ii) the tea industry, because of its impact on growthand employment.

Given the poor operational and financial conditions of ELECTROGAZ, the perception of Rwanda as ahigh risk country by investors, and the need for substantial investment to improve its operation, an offer forsale or concession would not generate much interest on the part of the private sector. A concessionanrangement would be feasible in three to five years, the timne required to re-establish fmancial andoperational stability. Therefore, the option is an initial perfomance-based management contract, whichwould be followed, when appropriate, by a tender for a concession.

Concerning financial sector reforn, one option was to address immediately all perceived structuralconstraints facing the sector and restructuring and privatizing banks and non-bank financial institutions(insurance sector, social security), developing term financial instruments, markets and institutions, theliquidation of Caisse Hypothecaire or the strengthening of bank supervision. However, this has to be basedon a sound assessment of the conditions and problems of the sector. Because of our limited knowledge ofthe sector, the strategic choice is to tackle immediately well-defined issues regarding lack of long-term

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financing, lack of capacity, and micro-finance, while a full assessment is carried out. Therefore, the projectwould focus on the issue of access to finance for urban and rural households through provision of supportto the micro-finance sector and the establishment of a start up fund for SMEs. In parallel, studies would beconducted to establish the scope of support needed to encourage Rwandese financial institutions to createnew term instruments, such as leasing, develop relief measures for pre-war, non performing assets andprepare a longer-term strategy from a full-scale Financial Sector Assessment in order to define an actionplan for further structural reforms, if needed.

2. Major related projects financed by the Bank and/or other development agencies (completed,ongoing and planned).

Implementation Developrnent

Bank-financed Progress (IP) Objective (DO)Transport Sector Project S SEnergy Sector Project S SAgricultural and Rural Market S SDevelopmentEconomic Recovery Credit S SEmergency Recovery Credit S S(ERC r, closed)Emergency Reintegration and S SRecovery Credit (ERC II,closed)Private Sector Development S SProject (closed)Public Institutions Reform U U(closed)Telecommunuications II S SProject (closed)Rural sector Support (underpreparation)Regional trade FacilitationProject (under preparation)

Rural Water Supply and S SSanitation

Other development agenciesPlanned . .....

IP/DO Ratngs: HS (Highly Satsfactory), S (Satisfactory), U (Unsatsfactory), HU (Highly Unsatisfactory)

3. Lessons learned and reflected in the project design:

IDA has been recently involved in private sector development activities in the Republic of Rwanda bysupporting two technical assistance projects (Public Institutions Reform, Private Sector DevelopmentProject), two emergency projects and three economic recovery credits (ERC I, ERC II and ERC III), two

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sectoral projects (Energy Project, Communications II), between 1992 and 2000 totaling SDR 22.2 million.These operations shared common characteristics, such as a slow start up followed by an acceleration ofactivities, leading to a satisfactory completion of a number of reforms.

Several lessons can be drawn from these projects in respect to private sector development in Rwanda.

* Strong and frm commitment from the highest levels of Government is crucial to successful projectimplementation. Lack of strong commitment and ownership of the reform agenda in energy andtelecommunications at the highest levels resulted initially in delays in carrying out those reforms. Oncea consensus was reached on institutional arrangements, in particular on defining restructuring andprivatization strategies prepared by the Government and assisted by international experts, the reformprogram gathered momentum.

* Previous projects had been designed on the premise that sector reform programs would be carried outin sectoral projects. This design significantly thwarted the reform programs because of timing andsequencing between decision and reform execution. Privatization was hindered by the slow pace ofreform preparation by line ministries and later, by implementation difficulties of sector related projects.The proposed project seeks to support a comprehensive approach to reform.

- In past years, the Government tried, with donor support to restructure its utilities and improve sectorefficiency, especially for ELECTROGAZ, through various time-bound proposals, including the"contrat-plan" approach; however, it did not work, but a consensus has emerged from these efforts thatprivatization would be pursued instead.

* This past experience demonstrates that Rwanda needs a strong package of structural reforms andfmancing, in a non-incremental way, to reach growth levels that would make a difference in povertyalleviation. This was taken into account in designing the proposed project. In the end, medium termsector policy development, including preparing the privatization strategy, are under the responsibility ofthe line ministry, and critical reform measures to ensure proper minimum safeguards, including thetransaction process, are executed by Ad-hoc Steering Committees, comprising at least the PrivatizationSecretariat and the line Ministry.

* The participation of the private sector in the design of the project and nationals in the privatizationprogram have been critical ingredients of success of previous projects in ensuring Governmentwillingness to tackle difficult reforms and in gaining the support of the population. Experience in otherBank-financed projects demonstrates that Government-Private Sector partnership can only besuccessful if it is built on a shared economic vision with specific milestones.

* Finally, past experience has shown that an intensive public information campaign should be sustainedthroughout the project life to ensure continued support of the stakeholders for reform execution.

All these lessons are well taken in designing the proposed project which builds on (i) a strong commitrnentand ownership of the reform agenda by the Govenmient; (ii) a participatory preparation approach involvingall stakeholders, private as well as public sectors; (iii) a comprehensive and well articulated program tocomplete the unfmished agenda, including public information campaigns; and (iv) execution at the technicallevels, with the coordination ensured by a project Unit under the supervision of a representative SteeringCommittee which oversees implementation.

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4. Indications of borrower commitment and ownership:

Over the past two years, the GOR has expressed its continued commitment to the promotion of privatesector participation as evidenced by the implementation of its reform agenda, including the commitment fordivestiture of all public enterprises, including tea factories and the two main public utilities(ELECTROGAZ and RWANDATEL).

In the area of business promotion, the GOR has undertaken specific steps in response to the followingissues highlighted in a private sector assessment conducted by MIGA, in close concertation with theMinistry of Commerce: lack of information on procedures, lack of transparency and predictability of thelegal system and procedures, and pervasive formalities. Specifically, the GOR has developed a consistentand frequent dialogue with the private sector and has replaced the government-controlled Chamber ofCommerce with an independent Private Sector Federation; it consulted the private sector on reforms likelyto impact them, such as tax reform and decentralization. Recently, the GOR decided to create theInvestment Promotion Center for the facilitation of enterprise creation, based on three main tenets; (a)improving private sector investments; (b) launching business initiatives, ensuring the participation of thewhole spectrum of private sector operators, from micro-enterprises to SMEs and larger frms; and (c)strengthening the legal and business environment to support enterprise development. Once in operation, theagency is expected to greatly reduce administrative procedures.

Drawing on experience gained from completed privatization transactions, the GOR fully realizes theimportance of actively enforcing a clear and precise business and legal enviromnent. It fully realizes thatthe unfinished agenda needs to be completed, and-stakeholders need to be associated. GOR has appointed aproject steering committee comprising of representatives of key Government and private sectorstakeholders. The steering committee has organized focus groups to prepare each component. In addition,the private sector has prepared a Draft Concept Paper (DCP), which identifies key policy, institutional andoperational issues facing the business community in Rwanda. The findings and analyses of this paper havebeen incorporated in the project design.

Government was highly focused on peace and reconciliation issues in the early years following the genocideand has made good progress. Government is now focusing on tackling the structural problems of povertyreduction and is fully aware that strong growth, led by private sector investment, is a key to helping theRwandese population improve their living conditions and build a solid foundation to reconciliation.

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5. Value added of Bank support in this project:

Through its association with Rwanda, in particular through the execution of the last three EconomicRecovery credits, the Private Sector Development, the Energy and Conimunication projects, IDA hasdeveloped an extensive knowledge of cross-sectoral issues affecting the private sector in Rwanda. TheBank has played a leading role with international partners in mobilizing support for Rwanda during thefirst years of transition from war to peace, and helped implement reforms to restore essential services andpave the way for economic recovery. Bank participation in the second generation of private sectordevelopment reforms would enhance the credibility of GOR's efforts to create a business-friendlyenvironment and reduce the role of the State in the economy.

In the infrastructure sectors, in particular in the water, energy and telecommunication sectors, IDA isperceived as a lead agency on reform issues. It has a unique experience in helping country clients designand implement reforms in these sectors. Its involvement in the project will allow Rwanda to harnonize itssector policies in line with its neighbors and potential strategic business partners. Moreover, the importanceof IDA portfolio currently being deployed by the Country team is bringing invaluable benefits in addressingcross-sectoral issues affecting private sector development.

Finally, the team composition, drawing from the cross country experience and expertise of staff comingfrom regional departments and global practices, including IFC and MIGA, uniquely places IDA in aposition to respond to Governmentes request for assistance with a pool of staff which can be flexiblydeployed.

E. Summary Project Analysis (Detailed assessments are in the project file, see Annex 8)

1. Economic (see Annex 4):* Cost benefit NPV=US$32 million; ERR = 24 % (see Annex 4)O Cost effectivenessO Other (specify)

See Annex 4

2. Financial (see Annex 4 and Annex 5):NPV=US$ million; FRR = % (see Annex 4)

* Given the nature (technical assistance) of the project, a financial analysis is not required.

Fiscal Impact:

The project will have a significant positive fiscal impact. The GOR is expecting substantial revenue fromthe privatization of RWANDATEL and the nine tea factories and estates. The gradual achievement offinancial solvency of ELECTROGAZ as well as the gradual reduction of postal deficit will lowerGovernment's financial burden. In the future, the revenue growth of water, electricity, post andtelecommunications, and tea sectors will increase Government's income tax collection base.

3. Technical:

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The project will establish an enabling institutional and regulatory environment to attract investment in thewater, electricity, telecommunications and tea sectors, and therefore, increase technology choices driven bythe market. Private sector and foreign partners are expected to bring in management know-how andmodem technology.

4. Institutional:

With limited experience, the Govemment faces complex tasks in completing its reform agenda. TheGovernment has made several essential decisions and created major institutions to facilitate the privatesector in Rwanda, but it still needs to (i) complete its privatization program in three major sectors; and (ii)make the newly established institutions filly operational, all of this in a still fragile political and socialenvironment. The project will provide assistance to complete such an agenda.

Regulatory capacity is extremely important to ensure fair competition, availability and affordability ofservices in water, electricity, post and telecommunications, and tea sectors. The project will assist theGovernment in selecting capable people for the Multi-sector Regulatory Agency and developing itsregulatory capacity.

4.1 Executing agencies:

Oversight of the project will be the responsibility of a Government-Private Sector Steering Committeechaired by the Minister of Finance and Economic Planning, under terms of reference acceptable to IDA.Other agencies will include the following: (i) Ministry of Justice for the legal framework sub-component;(ii) Investmnent Promotion Agency for the investment promotion sub-component; (iii) CAPMER, for theSupport to Emerging Businesses sub-component; (iv) Banque Nationale du Rwanda (BNR) for thefimancial services sub-component; (v) Privatization Secretariat, in close consultation with line ministries,for the privatization component (telecommunication, energy and water services and Tea industrypromotion); and (vi) the Ministry of Public Works, Transport and Communications, in collaboration withthe Ministry of Energy, Water and Natural Resources and the Ministry of Finance and Economic Planningfor the Multi-Sector Regulatory Agency sub-component. The Privatization Secretariat will ensure overallcoordination of privatization activities involved in this project, including preparation of transactions.

4.2 Project management:

To coordinate project preparation and implementation, a Project Coordination Unit, comprised of a projectcoordinator, a qualified financial manager and a team assistant, has been established. It would haveprimary responsibility for facilitating, monitoring, evaluating and reporting on project activities andprogress.

The PCU would also provide cross-support for the various implementing agencies involved in the projectimplementation. Specific consultants will be recruited to assist Government to undertake the majority oftechnical tasks.

The implementation capacity of each of the agencies and the PCU will be enhanced by a project launchworkshop, close follow-up by a procurement coordinator from the Country Office for procurement issues,together with supervisions missions and annual reviews throughout the project life, including revisions ofimplementation arrangements, if necessary.

4.3 Procurement issues:

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A procurement system reform is currently under way to establish new laws and regulations, under an IDFgrant Although each implementing agency would be responsible for preparing their specific biddingdocuments, the National Tender Board would be the focal point for all procurement. The NTB is currentlyreceiving assistance, through the IDF grant, to strengthen its capacity in reviewing documents. Inparticular, the Privatization Secretariat, which would coordinate privatization transactions have gainedexperience from 23 completed transactions. They have also benefited from technical assistance provided tothem over the past three years and would receive additional training under the project to enhance theircapability of dealing with the transactions anticipated in the project. More details on procurement issuesare included in Annex 6.

4.4 Financial management issues:

The PCU will be responsible for project fnancial management. As part of project preparation, theGovernment has hired a qualified Finance Manager for the accounting and financial management of theproject. With guidance from the Bank, the project should be able to generate PMRs of quality andstandards acceptable to IDA, within 18 months after project effectiveness. An action plan for LACIcompliance as detailed in Annex 6 was agreed upon during negotiations. More details on financialmanagement issues are in Annex 6.

5. Environmental: Environmental Category: B (Partial Assessment)5.1 Summarize the steps undertaken for enviromnental assessment and EMP preparation (includingconsultation and disclosure) and the significant issues and their treatment emerging from this analysis.

The project commissioned an environmental pre-audit to determine potential liabilities and rank enterprisesaccording to the need for comprehensive environmental, partial, or no audit. The environmental pre-audit isnow available and has been disclosed m Rwanda and in the Bank Information Center (Infoshop).

Based on this, the potential environmental impacts of this project are related to the privatizationcomponent. The magnitude of these impacts would depend on the nature and significance of theenvironmental problems existing in the enterprises prior to privatization (the "pollution stock"), and howthese impacts would evolve following the privatization transaction ('pollution flow"). As may be expected,these potential envirommental impacts vary with the type of enterprise involved.

Privatization of the Power and Water Utility (ELECTROGAZ): Environmental problems associated withthe power utility and water treatment plant operation are not known at this time. However, it is to be notedthat much of the country's power is imported from neighboring countries. The water treatment stationseems to have sustained limited damage during the war. The waste management and occupational safety atthe water treatment stations will be dealt with through the contract with the private operator, which willinclude a provision for the required personal protection equipment.

RWANDATEL: The telecommunication infrastructure is relatively new, as equipment was destroyedduring the war.

OCIR-The: Ten tea factories have been offered for privatization and these do not have the same age. Theenvironmental effects (i.e., effluent and solid waste) associated with the production processes may varydepending on the age of the equipment used. Since little environmental data and information is available,an environmental pre-audit was conducted to guide the privatization process m identifying the need fordeeper investigation of enviromnental impacts of the enterprises to be privatized. Based on this,environmental audits will be conducted for each transaction to determine the magnitude of theenvironmental problems involved and recommend measures to mitigate or elimmate them. These will beincluded in the bidding packages.

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5.2 What are the main features of the EMP and are they adequate?

Not applicable

5.3 For Category A and B projects, timeline and status of EA:Date of receipt of final draft: December 2000

An environmental pre-audit of the enterprises proposed for privatization was conducted in December 2000.Available results rank the enterprises on the basis of their potential environmental impacts, and recommenda comprehensive audit for those units associated with major environmental problems. This comprehensiveenvironmental audit will be conducted as part of the privatization transaction for units with majorenvironmental problems, and will recommend specific actions for environmental restoration, as well as thetiming for these actions with respect to the transfer of property.

5.4 How have stakeholders been consulted at the stage of (a) environmental screening and (b) draft EAreport on the enviromnental impacts and proposed environment management plan? Describe mechanismsof consultation that were used and which groups were consulted?

Not applicable

5.5 What mechanisms have been established to monitor and evaluate the impact of the project on theenvironment? Do the indicators reflect the objectives and results of the EMP?

Not applicable

6. Social:6.1 Summarize key social issues relevant to the project objectives, and specify the project's socialdevelopment outcomes.

No social issues are expected, as the privatization program to be supported by the project would not resultin any redundancies.

6.2 Participatory Approach: How are key stakeholders participating in the project?

The Government is strongly committed to the reform program and has undertaken essential steps to involveall stakeholders. The GOR has set up a Steering Committee, composed of representatives from the privateand public sectors to lead the project preparation and implementation. In particular, the private sector,through its newly established Federation, has presented a concept note whose elements have been includedin this PAD. All the key operational and organizational issues have been discussed with the SteeringCommittee. In addition, the GOR is carrying out extensive public information and awareness of theprogram, through the media and its Privatization Secretariat.

Participatory Approach Preparation Implementation Operation

Private Sector IS/CON/COL IS/CON/COL IS/CON/COL

Government CON/COL CON/COL IS

Parliament and civil society IS IS IS

Other Donors IS/CON IS/CON IS

Note: IS = Information sharing; CON= Consultation; and COL= Collaboration

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6.3 How does the project involve consultations or collaboration with NGOs or other civil societyorganizations?

See above table

6.4 What institutional arrangements have been provided to ensure the project achieves its socialdevelopment outcomes?

See above table

6.5 How will the project monitor performance in terms of social development outcomes?

Not applicable

7. Safeguard Policies:7.1 Do anm of the following safeguard policies aDoly to the Droiect?

Environmental Assessment (OP 4.01, BP 4.01, GP 4.01) 0 Yes 0 NoNatural habitats (OP 4.04, BP 4.04, GP 4.04) 0 Yes 0 NoForestry (OP 4.36, GP 4.36) 0 Yes * NoPest Management (OP 4.09) 0 Yes 0 NoCultural Property (OPN 11.03) 0 Yes 0 NoIndigenous Peoples (OD 4.20) 0 Yes * NoInvoluntary Resettlement (OD 4.30) 0 Yes * NoSafety of Dams (OP 4.37, BP 4.37) 0 Yes * NoProjects in International Waters (OP 7.50, BP 7.50, GP 7.50) 0 Yes * NoProjects in Disputed Areas (OP 7.60, BP 7.60, GP 7.60) 0 Yes 0 No

7.2 Describe provisions made by the project to ensure compliance with applicable safeguard policies.

An environmental pre-audit was conducted to determine potential liabilities and rank enterprises accordingto the need for comprehensive environmental, partial, or no audit. The environmental pre-audit has beenapproved by the Bank and the Borrower. It was disclosed in Rwanda and in the Bank Information Center(Infoshop) in December 2000.

F. Sustainability and Risks

1. Sustainability:

The GOR has demonstrated its willingness and commitment, through the implementation of its reformagenda, to ensure that a policy, regulatoxy and institutional framework is established to guarantee faircompetition and attractiveness of the Rwandese business environment

This project supports sector reform processes with a long history, in particular in the water, electricity andtelecommunications sectors. Dialogue between the Bank and the Government concerning these sectorsbegan in early 1990, but was interrupted by the 1994 genocide. While the new GOR has demonstratedcommitment to these reforms in its Declaration of Principles of December 1994, the reform programsuffered delays due to counterpart turn-over and insufficient consensus building. In 1995, a change of thecountry's leadership resulted in delays in sector reform implementation, as institutional arrangements forprivatization agreed upon with previous governments were not deemed satisfactory by the new governmentOnce agreement and consensus were reached on institutional arrangements through theBank/IIMF-supported reform program in 1998, the new Government showed strong commitment and thereform program resumed.

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It is expected that successful implementation of the project will result in privately led energy,telecommunications and tea industry growth by providing adequate financing, management andtechnologies while the Government ensures that the policy and regulatory framework guarantees faircompetition among various private players. Successful implementation of the restructuring ofELECTROGAZ will eliminate costly subsidization.

To ensure the sustainability of the expected outcomes, GOR needs to maintain its commitment totransparency. Strong and fimn commitment from the highest levels of Government is crucial to successfulimplementation of such an agenda and its sustainability.

2. Critical Risks (reflecting the failure of critical assumptions found in the fourth column of Annex 1):

: -i>kR ng - - .-Risk C .MtiiO - : ; ... :Re

From Outputs to Objective1. Business EnvironmentLegislative and regulatory framework for M Wide stakeholders participation in preparingcommercial transactions and commercial such laws and regulations and commitment ofdispute resolution is inadequate and Government to speed up the approval processadoption of new laws and regulations forsuch framework is delayed

- Regulatory agency is perceived as not N Macroeconomic dialogue and strengthenedbeing independent, GOR interferes with capacity of the agencydecisions- Policy measures to improve the N Action plans to be agreed annuallyinvestment and export environment aredelayed-Cooperation among stakeholders in N Large consultation process for the adoption andmicro-finance is not adequate dissemination of micro-finance regulation- Political interference in micro-finance M Adoption of a clear procedure manualmanagement or credit allocation2. Cost and efficiency improvement-New management in utilities and tea N Maintain competitive pressureindustry is not capable of significantlyimproving services and reducing cost

From Components to Outputs1. Business Environment

- Parliament does not support private N Macroeconomic dialoguesector development

- Weak cooperation of micro-finance M Policy statement from the Government regardingactors (institutions and Government) the Micro-fmance Sector-Lack of commitment of Banques M Macroeconomic dialogue and technical supportPopulaires for the restructuring program-Interference of the Government in the N Macroeconomic dialoguerestructuring of UBP

- 23 -

2. Improve the cost and efficiency

- Privatization transactions are not M Clear procedure manual, macroeconomicconducted in a transparent way. dialogue, technical support and prior review- Weak capacity of the regulatory agency M Technical support to the agencyfor utilities and teaLine Ministries do not cooperate with M Government policy statementInvestment Promotion Center andPrivatization Secretariat

Overall Risk Rating MRisk Rating - H (High Risk), S (Substantial Risk), M (Modest Risk), N(Negligible or Low Risk)

3. Possible Controversial Aspects:

None

G. Main Credit Conditions

1. Effectiveness Condition

* Enact appropriate legislation, satisfactory to IDA, related to (i) the Telecommunication Lawliberalizing the sector; and (ii) the law establishing a Multi-Sector Regulator Agency.

* Adopt a legal framework, satisfactory to the Association, which will include a revision of the legalmandate and attributions of OCIR-The converting it into an entity responsible for regulating,promoting and monitoring the performance of the tea sector.

v Establish a financial management system satisfactory to IDA and recruit auditors.

2. Other [classify according to covenant types used in the Legal Agreements.]

Disbursement conditions

* Enter into a contract with a private operator for the management of ELECTROGAZ underprocurement procedures and terms satisfactory to IDA.

* Evidence satisfactory to IDA has been provided that the Arbitration Center has been dulyregistered.

* CAPMER has been established as a legal entity satisfactory to IDA.

Tranches Release conditions:

* The IDA-financed capital injection in UBPR (US$ 5.0 million) would be subject to the followingconditions: (1) Banque Nationale du Rwanda has issued regulations for the microfmance sector,including provisions related to (1.1) loan loss reserves; and (1.2) prudential ratios; (2) Revisions,acceptable to IDA, of the bylaws of UBPR giving management sufficient independence; (3)Instruction by BNR to UBP to convert pre-war dormant deposits into tier two capital; (4)Execution of a Memorandum of Understanding, acceptable to IDA, between UBPR and BNR,

-24 -

including agreed upon performance indicators.* The IDA support to emerging businesses (US$ 5.0 million) would be subject to: issuance of a

legal instrument, satisfactory to IDA, creating CAPMER and establishing a start-up Fund underterms and conditions satisfactory to IDA

H. Readiness for Implementation

0l 1. a) The engineering design documents for the first year's activities are complete and ready for the startof project implementation.

1 1. b) Not applicable.

1 2. The procurement documents for the first year's activities are complete and ready for the start ofproject implementation.

1 3. The Project hnplementation Plan has been appraised and found to be realistic and of satisfactoryquality.

O 4. The following items are lacking and are discussed under loan conditions (Section G):

1. Compliance with Bank Policies

[Z 1. This project complies with all applicable Bank policies.L 1 2. The following exceptions to Bank policies are reconmmended for approval. The project complies with

all other applicable Bank policies.

,'Au - Zohore Gerard A. Byam Emmanuel MbiTeam Leader Sector Manager Country Director

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Annex 1: Project Design SummaryRWANDA: Competitiveness & Enterprise Development

Sector-related CAS Goal: Sector Indicators: Sector/ country reports: (from Goal to Bank Mlssion)Achieve sustainable and * GDP growth: 7% Ministry of Finance and Favorable world commoditybroad-based private sector-led (2001-2006) Economic Planning accounts pricesgrowth to reduce poverty * Private Investment to International donor support is

GDP increases from Customs and Ministry of sustained3.4% to 7% Commerce surveys

* Non traditional exports Political and civil stability inincrease by 20% the Great Lakes Region leadsannually to more sub-regional trade

* Increase in employment

Project Development Outcome / Impact Project reports: (from Objective to Goal)Objective: Indicators:Establish a business-friendly Improved perception of Beneficiary surveys Continued GOR commitmentenvironment and institutional investment climate by private Client feedback to economic reformframework to stimulate investorseconomic growth and reducepoverty

Private sector respondspositively to Governmentinitiative through increasedinvestment

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OutipuJt Yromn each Output Indicators: ProJect reports: (from Outputs to Objective)Component:1. Business and LegalEnvironment

Enhancing the justice system * Commercial court * Client survey reports Continued Govermuentand legalframework established and fully * Bank Supervision commitment to reform and

operational mission reports acceptance and use of new* Arbitration center * Progress reports system by the business

modernized to * Mid-term review communityeffectively provide * ICRservices to business * External audits.community

* All necessaryadjustments to legal andregulatory frameworkenacted

* documentation centerestablished and fullyoperational

Investnent Promotion Center * Professional staff * Corporate Plan Continued commitment toully staffed and operational provided 200 person attracting and retaining

hours of training in all * Marketing Plan investmentlevels of investmentpromotion * Information Govemment is supportive of

Architecture Blueprint an independent regulatory* Agency intranet- agency.

intemet presence to * Investment Trainingprovide over 1,000 Modulespages of hard investorinformation

* Targeted missions to atleast 5 major marketswithin I 8 months

* Direct presentations byChief Executive to atleast 200 investors,resulting in at least 20site visits

Investment procedures * Processing delays Investor Road mapstreamlined; recoin- reduced to meetmendations implemented best-in-class standards,

at least 30% reductionin most cases

* agreedrecommendations onprocedural reformimplemented 100%within 18-month period

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Financial services:

Banking sector meets * Capital adequacy ratio * Banks Annual reports Continued commitment toprudential ratios maintained at 8% by * Banks external audit improving business

mid-2001 reports environment* Progress reports

* Sound management, * BNR's inspection reportsfinancial reporting and * Financial Sector Noteconsolidation for UBP * Supervision reports

Banques populaires isrestructuredCAPMER Support * SMEs and job creation * Progress Reports CAPMER is operating

by Q4 2005 * Supervision reports efficiently

2. hnprove cost andefficiency and institutionalsupport to PrivatizationSecretariat

RWANDATEL is privafized * Privatization of * Rwandatel transactions Private investors areRwandatel completed documents committed to improvingthrough a competitive * ITU indicators services.and transparent bidding * Progress reportsprocess. * Regulator's monitoring

* Spectrum management reportssystem in place and * Annual Financialoperational. statements

* Supervision reports* PCU reports

Postal services are improved * Financial management * Supervision reports Management of postal servicessystem implemented and * PCU reports is competent and welloperational. respected.

* Tariff rebalancingimplemented.

* Training of staff andbuilding of corporatestructure completed.

* Postal operational deficitreduced.

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ELECTROGAZ is more * Contract for concession * Electrogaz financial Private partner is up to theefficient and is solvent of ELECTROGAZ is statements challenge of changing

signed by Q2 2001 * Mid-term reviews. Electrogaz from a loss-making* Financial solvency * Regulator's monitoring entity to an efficient utility.

achieved by Q4 2001 reports* Tariffs benchmarked * Supervision reports

with sub-region * PCU reports* Cost of power activities/

gigawatt.* Cost of water activities/

meter.* Percentage of technical/

non technical losses* Percentage of

Commercial losses* Number of

connections/year* staff productivity in

connections/employeeMulti-sector Regulatory * Agency's decisions are * Client survey reports Government is supportive ofagency isfully operational justified and * Supervision mission an independent regulatory

disseminated reports agency* Training of key staff in * Progress reports

Telecommunication, * Regulatory agencyWater and Power annual report.completed * External audits.

Privatization Secretariat is * Number of seminars/ * Annual reportsefficient workshops organized * Project supervision

* Number of private reportsenterprises offered forsale, liquidated andprivatized.

3. Promoting Tea Industry * Industry-based Tea * Tea factories transaction Tea prices are favorableBoard created. documents

* Nine tea estates offered * Tea-Board reports Transportation is efficientfor sale by end of 2001. * Annual financial

* Export figures increased statements

4. Information dissemination * # HIV/AIDS awareness PSF Progress reports Government implementson HIV/AIDSI Private campaigns coordinated Bank Supervision reports swiftly key recommendationsSector Federation operates by the PSF for improving investmentefficiently * PSF proposals are by climate

and large accepted and-implemented

* Number of professionalassociations operational

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Project Components / Inputs: (budget for each Project reports: (from Components toSub-components: component) Outputs)1. Business and legal US$ 22.38 million * Progress reports Parliament and GOR areEnvironment * Supervision reports supportive of enterprise

* Disbursement reports development* Annual financial and Technical assistance is readily

management project acceptedaudits Consultants are selected in

accordance with competitiveprocedures.Legislative and regualtorychanges are accepted andimplementedAdequate manpower resourcesare available

2. Reducing Costs and US$ 14.25 million Privatization transactions areImproving Efficiency conducted in a transparent

way.Private investors areforthcoming to take over PEsStaff of PrivatizationSecretariat are up to the taskLine Ministries and publicagencies are willing tocooperate.

3. Tea-based Industry US$ 2.36 millionPromotion

4. HIV/AIDS/Private Sector US$ 1.55 Staff of project Unit isFederation Support/ PCU competent and dedicated

5. PPF US$ 0.6 million

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Annex 2: Detailed Project Description

RWANDA: Competitiveness & Enterprise Development

The project consists of 4 components and aims at (i) improving the business and legal environment ofRwanda; (ii) improving efficiency and cost effectiveness through the privatization of the two main publicutility companies and the Postal sector; (iii) reducing costs and improving returns by promoting amarket-based tea industry through the pnvatization of the nine tea factories and estates; and (iv) providingassistance to the newly-established institutions, CAPMER and the Private Sector Federation.

The following is a detailed description of these components:

By Component:

Project Component 1 - US$22.38 millionInproving the Business and Legal Enviromment

This component aims at streamlining the business enviromnent to facilitate entry or growth of privatebusinesses by, providing support to improve legal processes and capacity, investment promotion climate,SMEs development and financial services. It will include:

Justice System and Legal Framework US$ 2.89: this will consist of the following activities: (i)establislunent of a Commercial Court through the provision of (a) technical assistance for theharmonization of laws and regulations relating to the organization of the judiciary and the law to create thecommercial court and definition of the court's structure; (b) training for the judges/magistrates, courtadministrators and other auxiliaries of the commercial court; and (c) technical assistance and equipment forestablishment of a case management system; (ii) strengthening the institutional capacity of the ArbitrationCenter through the provision of (a) technical assistance for the preparation of a procedure manual, (b)computer equipment, a vehicle and software, (c) training for the arbitrators, administrative personnel, (d)organization of seminars to promote public awareness about arbitration and the role of the Center; (iii)improvement of the commercial legislative and regulatory framework through the provision of (a) technicalassistance for the preparation of an action plan including an updated assessment to establish correctivemeasures to resolve the legislative constraints affecting private sector development, and (b) implementationof selective measures under the said action plan; (iv) support to a Documentation Center through theprovision of technical assistance, equipment and materials.

Investment Promotion and Trade Facilitation US$ 3.71: this will aim at strengthening theoperational capacity of the newly established Investment Promotion Center, specifically, its ability toidentify bottlenecks in the investment implementation process and improve its investor assistance function.Under this component, national and international experts will be recruited to strengthen the capacity of theCenter, and international experts will provide technical assistance in the preparation of an investor roadmap study, a five-year corporate plan, and a marketing plan. The component will provide training ininvestment assistance and promotion to agency staff and related stakeholders, and an infonnation systemsblueprint to ensure that the Center is equipped with appropriate communication and informationtechnologies to effectively deal with investors.

Support to Emerging Businesses US$ 8.89: this will consist of the following activities: (i)provision of technical assistance, in collaboration with other donors, to the newly established Centred'Appui aux PME du Rwanda (CAPMER) to make it a suitable legal entity and strengthen itsorganizational structure and mandate to provide to SMEs, non-financial services necessary for feasibilitystudies, including technical and business plans, business and fmancial management, training and effective

- 31 -

mobilization of resources; (ii) establishment and management of an enterprise start-up fumd to providefinancial services to SMEs; and (iii) provision of technical assistance for competitiveness improvement,including (a) formation of a national Innovation and Competitiveness Unit; (b) design and implementationof three industry cluster level change processes as models for other Rwandan industry groups; and (c)on-line/off-line business strategy training for key groups.

Financial Services US$ 6.89: this will aim at addressing certain issues in the commercial bankingsector and strengthening the micro-finance sector. This component will consist of the following activities:

(i) In the commercial banking sector, funds will be provided for:

(a) carrying out a comprehensive sector assessment;(b) technical assistance and equipment for a Banking/Business School which is being established;and(c) technical assistance for the establishment of a "Plan Comptable des Banques et Centrale desBilans" by BNR.

(ii ) In the micro-finance sector, IDA, in coordination with other donors, will provide support to improvethe structure and capacity of UBPR, and the system as a whole, including the regulatory and supervisionfr-amework through:

(a) provision of necessary funds to GOR for a capital injection, to allow UBPR to write off itsportfolio of unrecoverable, non performing loans that resulted from the conflict; the IDA financedcapital injection in UBPR will be subject to the following conditions: (1) Banque Nationale duRwanda has issued regulations related to the microfinance sector, acceptable to IDA, includingprovisions related to (1.1) loan loss reserves; and (1.2) prudential ratios; (2) Revisions, acceptableto IDA, of the bylaws of UBPR giving management sufficient independence; (3) Instruction fromBNR to UBP, acceptable to IDA, to convert pre-war dormant deposits into tier two capital; (4)Execution of a Memorandum of Understanding, acceptable to IDA, between UBPR and BNR,including agreed upon performance indicators; and

(b) technical assistance to strengthen effective supervision of the micro-finance sector by the BNR.

To complement this component, IFC will perform due diligence procedures with a view to making, ineligible banks, equity investment and or provision of long term resources.

Project Component 2 - US$14.25 millionReducing Costs and Improving Efficiency.

This component will provide technical assistance support to instill efficiency and cost effectiveness in theprovision of water, electricity and telecommunication services through private corporate management andinvestmnent in related public utilities. This component will help implement the divestiture program for thetwo main public utilities, RWANDATEL and ELECTROGAZ. Specifically, the component will allow for(i) hiring of advisors to complete the privatization transaction for RWANDATEL; (ii) technical assistanceto make ONP self-financing; (iii) financial support for fnancing of the performance-based managementcontract for ELECTROGAZ; and (iv) technical assistance to strengthen the Privatization Secretariat.

Telecommunication and Postal services US$ 2.52: for the telecommunication and postal sectors.This component will include advisory support services for: (i) the privatization of RWANDATEL; and (ii)institutional capacity building for the Ministry of Public Works, Transport and Communications to managethe sector within the boundaries of the new law and institutional arrangement. In the postal sector, this

- 32 -

component will provide technical assistance for: (i) a feasibility study of current and new service provisionon a commercial basis, and implementation of a modem financial management system and tariffrebalancing; and (ii) corporate structure building and training of Rwanda Post staff.

Water and electricity services US$ 9.03 for the energy and water sectors. The Government'soverarching objectives for ELECTROGAZ restructuring, which includes improved quality of service,expanded access to electricity and water, and fnancial solvency were initially thought to be best served bythe separation of the company into three distinct commercial entities. The full range of restructuringalternatives available to the Government were evaluated against the established objectives for the company.The diagnostic analysis confirmed that the creation of three companies would not advance theGovernment's stated objectives, particularly with respect to fmancial solvency. The diagnostic analysisalso concluded that under the current situation, it is unlikely that at this time a sale or concession isfeasible. Given the poor fnancial performance of ELCTROGAZ, perception of high risk on the part ofinvestors, and the need for major investment, it is unlikely that an immediate offer for sale or concessionwould generate much interest on the part of the private sector. It is anticipated that a concessionarrangement will not be feasible for at least three to five years. On that basis, the GOR has decided to: (i)keep water and electricity services together and develop the gas sector outside of ELECTROGAZ; (ii)privatize ELECTROGAZ through a two-step process consisting of an initial three-year performance-basedmanagement contract, followed by a separate tender for concession. The component will thereforeconsolidate the restructuring of ELECTROGAZ by financing (i) management start-up costs for the newlyselected private operator through part payment of the private operator's contract cost on a declining basis -100 percent the first year and 60 percent the second year (it is expected that by the end of the second year,ELECTROGAZ's operations would generate enough cash flow to self finance, among other things, theprivate operator cost); and, (ii) computer equipment and supplies for a customer billing and collectionsystem, and spare parts.

Multi-Sector regulatory Agency and Privatization Secretariat support US$ 2.70. Finally, thecomponent will provide support for the establishment of a multi-sector regulatory agency, namely, (i)building telecommunication expertise, particularly on spectrum management, interconnection and tariffrebalancing; (ii) building expertise related to water and energy regulation, particularly on environment andsafety measures and tariff; and (iii) training, equipment and capacity improvement support to thePrivatization Secretariat.

Project Component 3 - US$ 2.36 millionPromoting a Market-Based Tea Industry.

This component aims at creating an enabling environment to facilitate the establishment of a market-basedtea industry, through the introduction of private management and investment in tea estates and factories,and participation of stakeholders in policymaking and marketing through an independent Tea Board. Thiscomponent complements the Rural Sector Support Program in preparation, where issues related totechnical, marketing and training capacity will be addressed. Specialized technical assistance support willbe made available for privatization of the nine state-owned tea factories and estates. The GOR will takenecessary steps, satisfactory to IDA, to establish the Tea Board through the revision of the mandate andattribution of OCIR-The.

Project Component 4 - US$1.55 millionSupport to Private Sector Federation and Project Coordination Unit.

The project will (a) provide technical assistance to the newly established Private Sector Federation to (i)

- 33-

strengien the capacity of its various professional associations; and (ii) engage the private sector in acoordinated way among the different companies, in awareness campaigns and information dissemination onHIV/AIDS in accordance with the Government's strategy; and (b) support the PCU.

- 34-

Annex 3: Estimated Project Costs

RWANDA: Competitiveness & Enterprise Development

1. Business and Legal Enviromnent 8.83 12.96 21.792. Reducing Costs and Improving Efficiency 3.38 10.19 13.573. Tea Industry 0.68 1.57 2.254. Support to Private Sector Federation and Project 1.18 0.30 1.48Coordination5. PPF 0.00 0.60 0.60

Total Baseline Cost 14.07 25.62 39.69Physical Contingencies 0.00 0.00 0.00Price Contingencies 0.45 1.00 1.45

Total Project Costs 14.52 26.62 41.14

Total Financing Required 14.52 26.62 41.14

Note: Numbers may not add up, due to rounding. Price contingencies of five percent have been added tobase cost. Price contingencies were not allowed for Emerging Businesses Fund and UPB capital injection.

- 35-

Detailed Costs

#, o Toa1 Base Pa oeo C0 Tobo Csat T)da Cost~~~~~~~~Co 06nit UWls cost 5P/0 Tdal Cost Loa

_w ME M/ -_ m i mw iug A E rtof Ciw,anno C1 1,700,000O 85,0007DO 1,78,A0n.00 m,An.w i,Xfl.cXJ

TAtr &a *rawfLs I 4A,o.0 1 4CiOO.x 2,oao 42,00000 84,00.W 336,CW.0Tiaiiir I *,0,000 Iww 1,0,00 wwcww-o 900.W *050GW.W-0 6300ODO.0 42DWOD.00

EqTAret I 300,WW.W 1 30,00000 15,0.W 315,000 63,0WW.W 2WO.00ArB. SalgeA bn an Cenbr 1 54000DO 12500A 2O,5000 Q00 168,t4.00

Eq*rEt | 150,CW.W 1 1E,.0 7,5C00. 157,50.W 31,50W.0 1i.XaoTrahirig & soriis 11W,OODW00 1 1W,C. 5,CW.00 1G5,000.W 63,00.0 42,O000W

C. I pofnw CoTmn Lea & ft. FnwA s k M IO_M 42105TAtroadMap bnpln 300,000 1 30D,0D0O. 15,WD.W D 315,W.00 63,WD.W0 2CO.00TA br selarrm nieasue 200,WW 1 200700_i00,CXl 10.0 0W.W 21,00.W0 42,W000.0 160BM.00

D. S-qvWb Dxurw7O Cener 1 3000.00 15afo 3157000.00 1,100 2500.0TA | 1s,000. 1 1,2m7.X00 75Do.w 157S00 375.0 12s_D___

ETA ET 1s,oa,.00 1 i4,c o0 7,sw.w 15,s,OM00 31,900M 1__000M_

TA fr Road Nbp Sludy, 5I 353,c.w _ 35,0w,O.w 17,500.00 3s7,sw.w0 73,_ M.00 24M.M

IPC slaFbtairis 890,ao3.0w 1 8900M 44,s00M 93450000 5s3700.w 37380000E_ _ __t _ 370,000w00 1 370,D00. 18,,.00 321w.0 77,7M.00 310,68500

______ __T_ 710,3.W00 . 710smonM 35,50000 745,50000 149,100.Moo 5K4M.00TAbrmlv*g_PC 1217,M 2n 00 I 1,217,500.00 60,875.00 1278,37500 12,Qfl37.00

Stadytrfn SewAaewt Sfl,CXD.0 1 5OOI ,O.0 15,0.C 315,o .0003m S3,Qll 1,os3,mTA*frCnA rie yTtl Z500,0OW.W I Z50o,000.00 125,MD.M 2625,ww.w 2625,mw.w

Eq*nwt ~~~200O,W.W 2W0OM.W 10WW.00 21000W.00 420w.w 16BOM.00

UBP Cadbl Irisdion 51OMMOQ. 1 sm3mo00.w0 5momo0.00 5,D3OM,00

TAbDBNR T= 1,800^00D 9000000O IP80,000,00 798,0o0o0 IA92ox&pfvivon 2OR000,Q . 20CO,CW. 10MWO.W 21,O.W 42woM.w 16BwOM0Sy* fr Fn SecdorAsw rr 3MOMw.M . 3W,OM.00 15OMm00 315,OM.M 630mo.w ;25MO.

TAb est ip Cernales des Bkm 3D,COOM I 3MO,M0.M 15sOM0 315XOMf00 63,0Dl0 25(Mf.00Tring br Baniss 1,mw,Om 1 1,Xmf,Cfl 50,CW.W 10s,C000-0 630,wM. 42ao0ao.

-36 -

_. #of Tolal Base Price ConbrL Tobl Cost Tdal CostCompen CosVUnrt Unil Cost P/0 Tdald Cost FLOWn

TA priva0 advisors 1,0,0.0 1 1,500,000.00 75,000.00 1 ,575,000.00 315,000.00 1 ,0.0

11 UI eMarlet Sbxy 100,000.00 1 100,000.00 5,000.00 105,000.00 21,000.00 840.0FMIS 150,0C0.00 1 150,000.00 7,500.00 157,500.00 31,500.00 126,000.0Now Ervioe puysi 200,000.00 1 200,000.00 10,000.00 210,000.00 4ZO00.00 16B,000.00Trah*v 1 O0,0C0.00 1 100,000.00) 5,000.00 105,000.00 63.000.00 42,000.00

TA Di edDr of c mnrfkto 10m,000.00 1 1 co,oco.oo 5,000.00 105,OOD.00 21,000.00 84,000.00Train ing 200,000.00 1 200,000.00 10,000.00) 210,000.00 126,000.00 84,00D.00

_til !eg 50,000.00 1 50,000.00 2,500.00 52,500.00 10,500.00 4Z000.00

1OOINI ' MEYear 1 1,200,000.00 1 1 ,200,000.W0 60,000.00 1,260,000.00 1,260,000.00Year 2 900,000.00 I 900,000.00 45,000.00 945,000.00 945,OOD.00

TAbwtwa y ~~~~~~2CO,OC0.00. 1 200,000.00 1Q0,00.00 210,000.00 42,000.00 1000OTA 1Dsefca s500,0C0.00 1 500,000.00 25,000.00 525,000.00 1 05,000.W 0,00Eqmrt 200,000.00 1 200,000.00 10,000.00 210,000.00 42,000.00 160,000.00.Tirsng 300,000.00 1 _300,000.00 15,0C0.00 315,000.00 189,000.00 126,000.00

Evalobon 20,000.00. 10 2CO,000.00 1 0,OC0.00. 21 0,000.00 42,000.00 10000Advisr (1 year) 200,000.00 1 200,000.00 10,000.00 00210,000.00 4ZO00.00 06,t0Aucib 30,000.00 10 300,000.00 15,000.00 315,000.00 63,000.00 250.0

Swimand V%b_ 25,000.00 3 75,000.00 3,75D.00 78,750.00 47,250.00 31,500.00

Sw* LtbRin>da 1o,ocooo0 4 40,000.00 20oO.00 4ZO,00.00 25,=0.00 16,800.00

1 st saw 220,0oMO.0 1 Z20,000.00 1 1 ,000. 231 ,00o.m 46,2.00 18e4,800.021d year 200,000.M0 1 200,00D.00 1Q,0OD.C0 21Q,0D0.OD 42,000.00 16B,0D0.M

3rd ne 90,000.00 1 90,000.00 4,500.M0 94,5M0.00 18,900.M0 75,600a00

Offic SLpies 50,000.M0 1 . 50,00D.M0 Z500.00 52,5C0.M 10,500.00 izpOO-.0

-37 -

#ofe Total Basep Prkoe Conlh. Tobl Cost Tdal CostC _mmw Cos1gUnlt Wls Cost 61Jo TddCs mdFd

31 TA Pdvaationadvm 150,OO. c 1,350,000.W 67,500.0 1,417,5D00 425250.W 00 9Z25O.0a2 ENmentAudis 1W,W. 900,OO.W 45,W.W 945,0W000.W 2500 61,50000

ttl proebt coat net f txe.

4.1TAubt 60a,00000 _ m20,000-3,000.00 63OM.00 42w00.00 50,400.03

42 OTAbf PoSF* H\IA 300,000.00 = 300,00000 15,00000 315,00000 315,00O.00

&P ds 3,m. 70maol o 3,5O: 73X.0 14,00 5

toa prjc cost nets of taxes.0,0a

-38 -

Annex 4: Cost Benefit Analysis Summary

RWANDA: Competitiveness & Enterprise Development

[For projects with benefits that are measured in monetary terms]

Benefits: 211

Costs: 37

Net Benefits: 174

IRR: 24

If the difference between the present value of financial and economic flows is large and cannot be explained bytaxes and subsidies, a brief explanation of the difference is warranted, e.g. "The value of financial benefits is lessthan that of economic benefits because of controls on electricity tariffs."

Summary of Benefits and Costs:

Base Case Results. On the basis of the assumptions indicated below, the internal economic rate of returnof the project is estimated at 24. The net present value of the project is estimated at about US $31 million.The detailed analytical work is on file.

ProjectBenefits. Three major economic benefits have been identified and quantified:

Benefits from newly created employment opportunities in the private sector. (Government and thepublic enterprise sectors account for about 50 percent of overall employment). The additional income fromnewly created employment opportunities has been estimated on the basis of expected additional job creationdue to new investment and new demand for services.

Benefits in Productivity and Output: Gains are expected from higher total factor productivity, resultingfrom expected changes in work ethics, training, better management, better equipment and new technology.Additional gains will also be derived from efficiency in the fmancial system. It will include (i) theadditional return linked to an increase in resource mobilization; (ii) a reduction of transaction costs; and(iii) improved management in financial institutions, which would lead to better allocation of resources in theeconomy.

Consumer Surplus (Gains in price and tariff): Benefits to the consumer are expected in the form oflower price/tariffs and improved service quality, wider coverage due to competition and private sectorinvolvement. Only benefits from expected long-term reduction in prices have been quantified for theanalysis. Gains accrued to consumers due to service accessibility, availability and reliability of services

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have not been quantified.

Cost-Benefit Analysis of the Overall Project

Methodology. The cost-benefit analysis concentrates on identification and measurement problems that areencountered in all project evaluations. Therefore, to address the identification issue for project costs andbenefits, only direct and indirect incremental impacts on the Government and society of Rwanda wereconsidered. Welfare gains and losses were estimated by using net change in average economic outputprice. Where explicit prices were not available, and or non-indicative of true socioeconomic cost andbenefits, indicative proxies have been applied. The evaluation was done in terms of economic cash flowanalysis, which was developed from the project fnancial cash flow. Recognition was given to the fact thatnot all economic costs and benefits are measurable in monetary terms.

Most of the expected benefits would occur in the medium term, since the project is expected to essentiallyfacilitate institutional development in both public and private sectors. Identified indirect benefits werequantified to obtain their monetary values because no direct cost recovery mechanisms have been built intothe project. Monetary values inputted to indirect benefits represents measurable gains from additionalincome generated from newly created jobs, economic efficiency from reduction in factor costs and businesscost of capital and consumer surplus. Furthermore, expected non-monetized benefits from the projectinclude improved management, changes in quality and quantity of services, conducive businessenvironment, changes in poverty alleviation and social distress. Non-cash flow fmancial values, such asamortization charges, sunk costs for physical requirements, and debt service obligations were consideredonly in relation to fiscal impact of the project.

Cost-benefit analysis was done for the whole project to determine the economic rate of return and netpresent value. The distributional aspect of the benefits have been analyzed by identification of the projectbeneficiaries. It has been difficult to deal with inter-firm linkages and inter-industry dependencies within thePE sector and other firms. Therefore, it is assumed that benefits, such as reduction in factor costs,incremental employment opportunities, value added through productivity enhancements and gains mefficiency of service delivery, include inter-fimn benefits.

Main Assumptions:

It has been assumed:

* that GOR is fully committed to its economic reform program, including Privatization. The projectdesign reflects the focus on continued PE reform by accommodating country and political objectives ofemployment opportunities, public participation and awareness, enterprise continuity and socialobligations.

* that the GOR will continue with its prudent economic policies to stabilize the country'smacroeconomics environment. The GDP growth rate is estimated to average at 5 percent per annumduring the life of the project.

* that the project would develop a market friendly and competitive environment through theestablishment of an appropriate regulatory framework which would, in turn, help attract foreigncapital, technology, and managerial expertise required to improve the efficiency of the sectors and their

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value added contributions to GDP.

* that the private sector, both local and foreign investors, will respond positively to the sector reformsfrom the project. A positive response is critical for the realization of the indirect benefits.

* that Rwanda continues to make progress in its transition from conflict to peace and development andregional political stability is achieved.

Sensitivity analysis / Switching values of critical items:

Sensitivity analyses were also conducted and confirmed the results of the base case.

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Annex 5: Financial SummaryRWANDA: Competitiveness & Enterprise Development

Not Applicable.

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Annex 6: Procurement and Disbursement Arrangements

RWANDA: Competitiveness & Enterprise Development

Procurement

General

1.1 The last Country Procurement Assessment for Rwanda was carried out before 1994. Since thenthe procurement system in Rwanda has changed. Presently, a reform which will lead to the establishmentof new laws and regulations is underway with the Bank's assistance through an IDF Grant. It should becompleted by June 2001. Experience of these past years shows that regulations and procedures in Rwandado not conflict significantly with Bank Guidelines; furthermore, the country's procurement practices allowIDA procedures to take precedence over any conflicting provisions in national regulations. The mainproblem is the delay caused by weaknesses in procurement planning and in preparation of biddingdocuments. Thanks to the training provided through the IDF grant and project resources, staff from theNational Tender Board and projects have become more familiar with the Bank's procurement rules andprocedures. They are more equipped to carry out their responsibilities. These weaknesses will beaddressed by simplifying procedures and bidding documents under the ongoing procurement reform inRwanda.

Use of Bank Guidelines

1.2 All goods and works financed under the IDA credit would be procured in accordance with the Bank's"Guidelines for Procurement under IBRD Loans and IDA Credit," published in January 1995 and revisedin January and August 1996, September 1997 and January 1999. National Competitive Bidding (NCB)will be carried out in accordance with Rwanda procurement law and regulation acceptable to IDA.Rwanda's NCB procedures are consistent with IDA's key procurement objectives. They ensure that: (i)bids will be advertised in national newspapers with wide circulation; (ii) bid documents clearly explain thebid evaluation and award criteria; (iii) bidders are given adequate response time (minimum four weeks ) toprepare and submit bids: (iv) bids will be awarded to the lowest evaluated bidder, and not arbitrarily; (v)eligible bidders, including foreign bidders, will not be precluded from participation and; (vi) no domesticpreference margins are applicable to domestic manufactures and suppliers.

1.3 Consultant service contracts financed by IDA will be procured in accordance with the Bank's"Guidelines for the Selection of Consultants by World Bank Borrowers" (January 1997, revised inSeptember 1997 and January 1999). The Bank's Standard Request For Proposal (SRFP) will be usedtogether with sample forms of contracts as needed (lump-sum, time-based and/or simplified contract forshort term assignment and individual consultants), as well as the sample evaluation report for the selectionof consultants.

Advertising

1.4 A General Procurement Notice (GPN) will be prepared and published upon Board approval in theUnited Nations Development Business and in a national newspaper, as provided in the Guidelines, for allgoods contracts above US$ 100,000 equivalent and contracts for consultant services above US$ 100,000equivalent, to obtain expression of interest The GPN will be updated on a yearly basis as long as ICB forgoods and services, exceeding the above-mentioned amount, is foreseen in the annual procurement plan.

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Specific Procurement Notices (SPN) will be required for all goods contracts procured by ICB and NCB.SPNs will be published in national newspapers of wide circulation and internationally for large contracts(ICB).

Procurement Capacity

1.5 Each implementing agency will be responsible for preparing their specific bidding documents as perarrangements described in paragraphs. 1.10 and 1.11. Except for the resources to be provided to GOR forrecapitalization of UBP, the National Tender Board (NTB) will be the focal point for all procurementThis institution will be responsible for reviewing bidding documents or request for proposals, bid openingand contract awards. As already mentioned, assistance is currently being provided to the NTB through anIDF grant to strengthen capacity. This objective will be pursued with the contribution of the resourcesprovided by IDA financed projects.

1.6 The procurement capacity and disposition taken to mitigate any weaknesses are as follows:

1.7 The project would finance equipment and spare parts for ELECTROGAZ. It has been agreed with theGovernment that procurement activities for ELECTROGAZ will start once the private company to berecruited to manage ELECTROGAZ is in place. The selected company should have adequate capacity tofulfill its procurement responsibilities, since in the recruitment process this aspect will be attentivelyscrutinized and assessed.

1.8 For the other implementing agencies (see 1.10), apart from the Banque Nationale du Rwanda and, to alesser extent, the Privatization Secretariat, these agencies are not very familiar with bank procurement rulesand procedures or are newly created institutions. Therefore, it was agreed with the borrower that inaddition to the oversight to be provided by, (i) a training session on basic procurement, selection andemployment of consultants will be organized before or at project launching; (ii) close monitoring will beprovided by the Procurement Officer of the Country Office; (iii) the PCU will require timely assistancefrom a qualified local consultant, as needed, particularly for preparing the annual procurement plan.Finally, prior review thresholds have been established, taking into account the capacity of the implementingagencies. In addition, the first three contracts of each implementing agency, regardless of contract cost,will be subject to prior review.

Procurement Plan

1.9 The PCU has prepared a Detailed Procurement Plan (DPP) for the first year, to be finalized andattached to the PIP. The DPP will include, procurement method and the timing of each milestone in theprocurement process for each activity. The DPP would be updated every six months and submitted toIDA.

Procurement Implementation Arrangements

1.10 The main implementing agencies involved in the project execution are the following: (i) Ministry ofJustice and the Supreme Court for the legal framework; (ii) Investment Promotion Agency for investmentpromotion sub-component, (in) CAPMER for the SME's support sub-component: (iv) Banque Nationaledu Rwanda for the financial services sub-component; (v) Privatization Secretariat, in close consultationwith line ministries for the privatization component; (vi) The private company which will manageElectrogaz and (vii) The Project Coordination Unit (PCU).

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1.11 Each implementing agency will be responsible for the preparation of its own procurementdocuments and the planning of its activities. The Project Coordination Unit will be responsible forcoordinating and supervising procurement activities, which includes: (a) review and update of theprocurement plan; (b) provide assistance to the other agencies in the preparation of the request of proposalfor consulting assignments and preparation of bidding documents, as well as advertisement for goods; and(c) monitor the procurement. As indicated above, the Project Coordination Unit will require promptassistance of a qualified consultant each time needed.

Procurement methods (Table A)

1.12 Goods and Equipment (US$ 8.31 million): The project will finance procurement of spare partsfor water and electricity production and distribution, computer hardware and software valued at US$ 7.97million. To the extent possible and practicable, goods and equipment to be purchased by the holder ofELECTROGAZ management contract will be grouped into bid packages to take advantage of bulkpurchasing. Each contract estimated to cost the equivalent of US$ 100,000 or more would be procuredunder ICB procedures using IDA Standard Bidding Documents. Procurement of spare parts for water andelectricity production and distribution, estimated to cost less than $150,000 equivalent per contract, up toan aggregate amount not to exceed $6,800,000 equivalent, and goods, which the Association agrees canonly be purchased from a limited number of suppliers, regardless of the cost thereof, may be procuredunder contracts awarded in accordance with the provisions of paragraph 3.2 of the Guidelines.

1.13 Contract for goods, estimated to cost less than US$ 100,000 up to an aggregate of US$ 500,000,would be procured through National Competitive Bidding using procedures acceptable to IDA.Procurement for readily available off-the-shelf goods that cannot be grouped or standard specificationcommodities for individual contracts of less than US$ 25,000, up to an aggregate of US$ 300,000 wouldbe procured under National shopping (NS) or International shopping procedures, as detailed in paragraph3.5 and 3.6 of the "Guidelines: Procurement under IBRD Loans and IDA Credits." To ensure that theselimits are not exceeded, each quarterly project progress report would include a table setting out the numberand value (in US$ equivalent) of contracts issued through Local, International Shopping and NationalCompetitive Bidding during the quarter, as well as the cumulative total value (in US$ equivalent) ofcontracts under each of these two procedures from the date of the project start-up.

1.14 Consultant Services (US$ 18.36 million) and Training (US$ 2.84 million): These would includeservices for improving the business and legal environment, the regulatory framework for energy, water andelectricity sectors, reform of the telecommunication and postal sectors, financial and legal restructuring ofcompanies and sale implementation, training and workshops.

1.15 As a rule, all consultant services estimated to cost US$ 100,000 or more will be procured throughQuality and Cost Based Selection (QCBS) methods. In the case of assignments estimated to cost less thanUS$ 50,000, the short-list may be made up entirely of national consultants, provided that at least threequalified national furms are available in the country and foreign consultants who wish to participate are notexcluded from consideration.

1.16 Consultant services estimated to cost less than the equivalent of US$ 25,000 may be contracted bycomparing the qualifications of individual consultants who have expressed an interest in the job or whohave been identified. All consulting services of individual consultants will be procured under individualcontracts, in accordance with the provisions of section V Consultants Guidelines.

1.17 Selection Based on Consultants' Qualifications: Services for training estimated to cost less than

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$100,000 equivalent per contract may be procured under contracts awarded in accordance with theprovisions of paragraphs 3.1 and 3.7 of the Consultant Guidelines.

1.18 Least-cost Selection: Services for audit may be procured under contracts awarded in accordancewith the provisions of paragraphs 3.1 and 3.6 of the Consultant Guidelines.

Table A: Project Costs by Procurement Arrangements(US$ million equivalent)

Ott,er~ ~ ~ ~~~ N S

1. Works 0.00 0.00 0.00 0.00 0.00(000) (0.00) (0.00) (0.00) (0.00)

2. Goods 7.63 0.63 0.05 0.00 8.31(7.63) (0.63) (0.05) (0.00) (8.31)

3. Services 0.00 0.00 21.20 0.00 21.20Technical Assistance & (0.00) (0.00) (21.20) (0.00) (21.20)Training4. Other 0.00 0.00 10.00 0.00 10.00

(0.00) (0.00) (10.00) (0.00) (10.00)a. UBP Capital Injectionb. Emerging Businesses

Fund5. Incremental Operating Cost 0.00 0.00 0.71 0.32 1.03

(0.00) (0.00) (0.71) (0.00) 0.716. Refund of PPF 0.00 0.00 0.60 0.00 0.60

(0.00) (0.00) (0.60) (0.00) (0.60)Total 7.63 0.63 32.56 0.32 41.14

_ (7.63) (0.63) (32.56) (0.00) (40.82)

"Figures in parenthesis are the amounts to be fnanced by the IDA Credit. All costs include contingencies2 Ilncludes civil works and goods to be procured through national shopping, consulting services, services of

contracted staff of the project management office, training, technical assistance services, and incrementaloperating costs related to (i) managing the project, and (ii) re-lending project funds to local governmentunits.

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Prfor review thresholds (Table B)

1.19 Goods. The first three contracts of each implementing agency, regardless of contract cost, and allcontracts for an amount exceeding the equivalent of US$ 100,000 will be subject to prior review by IDA.This threshold will be reviewed, if deemed necessary, at mid-term based on the procurement record of theimplementing agency. All other contracts will be subject to post review by IDA during supervisionmissions.

1.20 Consultant services. Contracts estimated to cost more than US$ 25,000 for individuals and morethan US$ 50,000 for furms will be subject to prior review. The training program containing, courses,names of candidates, cost estimates, period of training and institutions selected will be reviewed annually.For contracts estimated to cost US$ 100,000 equivalent or more, opening of the financial envelop will nottake place prior to receiving IDA's no objection to the technical evaluation. All other contracts will besubject to post review by IDA during supervision missions and by auditors during technical audits. Theexceptions to prior Association review shall not apply to (i) the terms of reference for such contractsregardless of value, (ii) single-source selection of consulting firms, (iii) assignments of a critical nature, asreasonably determined by the Bank, (iv) amendments to contracts for the employment of consulting firmsraising the contract value to $50,000 equivalent or above, or (v) amendments to contracts for theemployment of individual consultants raising the contract value to $25,000 equivalent or above.

Table B: Thresholds for Procurement Methods and Prior Review

1. Works 0.0 N/A

2. Goods >100,000 ICB First three contracts of each>25,000 < 100,000 NCB impleinenting agency and

<25,000 Shopping all contracts> US$ 100, 000

3. ServicesA- Firms >100,000 QCBS All TORs and contracts

B- Individuals <100,000 QCBS/LC/CQ >50,000<50,000 CQ/single source All TORs and contracts

>25,000

4. Training >50,000 firms QCBS/CQ/single source The annual program iwithdetailed information and all

<50,000 firms and CQ/single source contracts above $50,000individuals for firms and 25,000 for

individuals

5. Miscellaneous6. Miscellaneous

Total value of contracts subject to prior review: US$ 26.68

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Overall Procurement Risk Assessment

Average

Frequency of procurement supervision missions proposed: One every 6 months (includes specialprocurement supervision for post-review/audits)

1.21 Once every six months, supervision missions will be canied out during the two first years of projectactivities and thereafter once every twelve months, provided the project performance permits. During thesemissions a selective post review of contracts awarded below the threshold will apply to at least one in fourcontracts.

IThresholds generally differ by country and project. Consult OD 11.04 "Review of ProcurementDocumentation" and contact the Regional Procurement Adviser for guidance.

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Disbursement

Allocation of credit proceeds (Table C)

1. Goods 100% of foreign expenditures and 90%of local expenditures

(a) Arbitration Center 150,000(b) CAPMER 200,000(c) ELECTROGAZ 6,500,000(d) Other 1,070,000

2. Consultant Services & Training(a) Arbitration Center 100,000 100%(b) CAPMER 1,000,000 100%(c) ELECTROGAZ 2,100,000 100% for services performed during the

first year of the management contractand 60% thereafter

(d) Private Sector Federation 500,000 100%(e) Other 16,192,500 100%(f) Audits 300,000 100%

3. Tranches(a) Financial Sector 5,000,000 100% of foreign expenditures(b) SMEs 5,000,000

4. Incremental Operating Costs 680,000 90%

5. Refund of PPF 600,000 Amount due pursuant to Section 2.03(b) of this Agreement

6. Unallocated 1,439,625

Total 40,832,125

Use of statements of expenditures (SOEs):

Disbursement against consultants' contracts exceeding US$ 50,000 for firms and US$ 25,000 forindividuals will be fully documented. For all other expenditures, disbursements could be made againstSOEs. Supporting documents for SOEs will not be submitted to the Bank, but will be retained by the PCUand made available to the Bank staff during supervision.

Special account:To facilitate disbursements against eligible expenditures, the PCU will open a Special Account (SA) at the

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central bank of Rwanda, to be operated by them under terms and conditions satisfactory to the Bank. TheBank, will upon request, make an authorized allocation of US$ 1.8 million with an initial deposit of US$0.9 million to the SA. The SA would be replenished on a monthly basis with all supporting documentationas required by the Bank. The Financial Sector and SME Tranches, Category 3, is excluded from SpecialAccount arrangements. Agreement on the above procedures were reached during negotiations.

Financial Management, Reporting and Auditing.

The PCU will be responsible for project fnancial management. As part of project preparation, theGovernment has hired a qualified Finance Manager for the accounting and financial management of theproject Priority tasks for the FM, immediately after his/her recruitment, will include: (a) familiarizationwith project components and operations, various institutional arrangements and responsibilities; (b)conceptualizing accounting systems (not necessarily computerized immediately), and minimum internalcontrol procedures to ensure that project expenditures will be properly authorized and used for projectpurposes, adequately recorded and accounting documents will be retained; (c) understanding the Bank'sdisbursement and procurement procedures and reporting requirements (especially, quarterly PMRs, annualaudits); (d) writing a simple manual for use by project staff on internal processes, designation ofauthorizations required for project expenditures, internal forms to be used and other related matters; (e)assessment of the various accounting software available and (eventually) selection of one that will be themost appropriate for the project. The Bank will provide whatever assistance and advice that may berequired by the FM in setting up financial management arrangements and procedures. As appropriate,visits to other IDA-financed projects will also be encouraged. The establishment of initial systems andprocedures for adequate financial management will be a condition of effectiveness.

Performance Monitoring.

The PCU will issue project progress reports every three months; conditions for preparing projectmonitoring reports (PMR) every six months will be sought. The project team will work with the newlyestablished technical committee in charge of monitoring the reform program and poverty alleviation. ThePIP will include, inter alia, all periodic reporting, monitoring and evaluation arrangements throughout theproject cycle.

Quarterly Project Monitoring Reports (PMRs).

Soon after commencement of project implementation, the project will submit to IDA, every quarter, PMRs,using as models, those provided in the Bank's Project Financial Management Manual (of February 1999).However, it is expected that the project will need assistance in preparing the PMRs. With guidance fromthe Bank, the project should be able to generate PMRs of quality and standards acceptable to IDA, within18 months after project effectiveness. Requirement of submission of PMRs will be included in appropriatelegal documents.

Annual Audit.

Annual financial statements of the project will be audited by an independent auditing firm acceptable toIDA, under terms of reference agreed with IDA. The audits will be conducted in accordance withInternational Standards of Auditing. Auditors will be required to provide an opinion on the reliability ofStatements of Expenditures used as a basis for disbursements and on the use of Special Account. In orderto ensure timeliness of the auditing process, the Borrower will recruit the auditors by project effectiveness.

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Annex 7: Project Processing Schedule

RWANDA: Competitiveness & Enterprise Development

Time taken to prepare the project (months) 6 6First Bank mission (identification) 10/1412000 10/14/2000Appraisal mission departure 12/01/2000 02/15/2001Negotiations 01/16/2001 03/12/2001Planned Date of Effectiveness 07/31/2001_

Prepared by:

The project was prepared by the Ministzy of Finance and Economic Planning with assistance from IDA.

Preparation assistance:

Project Preparation Facility of US$600,000.

Bank staff who worked on the project included:

Name :;Specia.ity-::A. Zohore Team Leader

C. Schlumberger Financial SectorT. Beck Financial SectorG. Youness Legal ReformsS. Tintchev Telecommunications SectorM.-C. Uwanyiligira Energy SectorA. Haji Financial ManagementP. Nindorera ProcurementI. Egbeto Investment Promotion0. Ruhl Financial Sector, Peer ReviewerP. Mousley SME Group, Peer ReviewerJ. Chevallier Quality AssuranceM. Layec Energy SectorE. Attafuah Program AssistantL. Kirchner Program Assistant

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Annex 8: Documents in the Project File*

RWANDA: Competitiveness & Enterprise Development

A. Project Implementation Plan

B. Bank Staff Assessments

1. Identification Mission Aide-Memoire2. Minutes of Review Meetings3. Preparation Aide-Memoire4. Pre-Appraisal Aide-Memoire5. Appraisal Aide-Memoire6. Environment Pre-Audit7. Procurement Capacity Assessment8. Detailed Procurement Plan

C. Other

*Including electronic files

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Annex 9: Statement of Loans and CreditsRWANDA: Competitiveness & Enterprise Development

Mar-2001Difference between expected

and actualOriginal Amount in US$ Millions disbursements'

Project ID FY Purpose IBRO IDA Cancel. Undisb. Orig Frm ReVdP045182 2000 RW-Rural Water Supply & Sanitatlon Proje 0.00 20.00 0.00 19.50 0.00 0.00

P045091 2000 Rw-Human Resource Dev. 0.00 35.00 0.00 34.06 2.23 0.00

P058038 2000 AGRICULTURAL AND RURAL MARKET 0.00 5.00 0.00 3.94 -0.99 0.00

P057294 1999 DEVELOPMT. 0.00 75.00 0.00 31.29 20.91 0.00

P051931 1999 EC.REC.CREDIT 0.00 5 00 0.00 3.87 1.73 0.00

P002241 1993 CRDP 0.00 28.00 7.01 4.22 11.86 4.85

P002237 1991 Rw-Energy Sector 0.00 19.60 0.00 7.28 -0.08 -0.07P002238 1990 HEALTH & POPULATION 0.00 40.00 0.00 20.35 -26.47 13.29

TRANSPORT SECTOR

Total: 0.00 225.60 7.01 124.51 9.21 18.08

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RWANDASTATEMENT OF IFC's

Held and Disbursed PortfolioMar-2001

In Millions US Dollars

Committed DisbursedIFC IFC

FY Approval Company Loan Equity Quasi Partic Loan Equity Quasi Partic

Total Portfolio: 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

Approvals Pending Commitment

FY Approval Company Loan Equity Quasi Partic2000 Rwandacell 4000.00 2000.00 0.00 0.001998 AEF Highland 526.10 0.00 0.00 0.00

Total Pending Commitment: 4526.10 2000.00 0.00 0.00

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Annex 10: Country at a GlanceRWANDA: Competitiveness & Enterprise Development

Sub-POVERTY and SOCIAL Saharan Low-

Rwanda Africa Income Development diamond-1999Population, mid-vear (millions) 8.3 642 2,417 Life expectancyGNP per capita (Atlas method, USS) 250 500 410GNP (Atlas method. US$ billions) 2.1 321 988

Average annual growth, 1993-99

Population (96) 1.6 2.6 1.9 G GLaborforce96) 1.9 2.6 2.3 GNP Grosa

per I v-7 I primaryMost recent estimate (latest year available, 199349) capita enrollment

Povertv (5% of population below natonal poverty line) 51Urban population (e6 oftotalpopulation) 6 34 31Lifeexpectancvatbirth(vears) 41 50 60Infantmortality (per 1,000 five bkths) 123 92 77Child malnutrition (S6 ochildren under5) .. 32 43 Access to safe waterAccess to improved water source (56 of popuAstion) .. 43 64Illiteracy (56 of population age 15+) 34 39 39Gross primarv enrollment 1% of school-age population) 78 96 Rwanda

Male 85 102 Low-ncome groupFemale 71 86

KEY ECONOMIC RATIOS and LONG-TERM TRENDS

1979 1989 1999 1999Economic ratlos

GDP (USS billions) 1.0 2.4 2.0 2.0Gross domestic investmenVGDP 12.0 13.4 15.7 14.3 TradeExports of goods and services/GDP 21.0 6.1 5.4 5.6Gross domestic savinas/GDP 10.3 2.3 -1.7 -1.3Gross national savings/GDP 22.7 2.7 7.4 7.1

Current account balancelGDP 4.6 -10.8 -8.2 -7.1 DomeaticInterestpayments/GDP 0.1 0.3 0.6 06 Domestk SnInveatmentTotal debtVGDP 15.1 25.8 60.0 63.2 SavngaTotal debt service/exports 2.3 18.1 32.9 41.5PresentvalueofdebtiGDP 34.1 38.5Present value of debtlexports - 570.3 640.8

Indebtedness1979849 198949 1998 1999 1999-03

(average annual growth)GDP 2.8 -2.1 9.5 5.9 5.8 RwandaGNP per capita -0.4 -3.5 7.5 3.2 3.2 Low-income groupExports of ioods and services 3.5 -6.9 1.9 14.4 6.5

STRUCTURE of the ECONOMY1979 1989 1998 1999 GrowthofinvestnentandGDP(%)

(96 of GDP)Agriculture 53.6 43.3 47.4 45.7 1 .Industry 201.5 18.7 21.2 20.5 r

Manufacturin 14.0 11.2 13.0 11.7 saServices 25.9 35.0 31.4 33.8 o

Private consumption 76.6 85.0 80.4 88.7 -rs 97 9s 9a

General oovernment consumption 13.1 12.7 11.3 127 _ 3DI -O-GDPImports of goods and serces 22.8 17.3 22.9 21.1

1979-89 1989-99 1999 1999 Growth ofexports and Imports(%)(average annual growth)Aariculture 0.8 -4.0 10.8 5.9 -Indusar 38 0.5 11.4 59 25

Manufacturina 4.1 4.0 10.4 8.4Services 7.3 -1.7 7.7 5.9 L 9s s 97 9. s

Private consumption 2.1 0.9 6.6 -0.4 0 General government consumption 5.8 -3.5 16.9 18.1 VGross domestic Investment 9.1 -0.1 26.4 -12.7 75Imports of goods and servnces 5.4 7.1 8.0 -11.4 iuxports 0-ImportsGross national produd 2.7 -2.1 10.2 57

Note: 1999 data are preliminary estimates.

The diamornds show four key indicators In the country (in bold) compared with its income-group average If data are missing, toe diamond willbe incomplete.

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Rwanda

PRICES and GOVERNMENT FINANCE1979 19t89 199 1999 Inflation(%)

Domestic prices(% change) soConsumer prices 15.7 1.1 6.8 -2.4 r0Implicit GOP deflator 6.1 5.3 2.6 -2.4 40

Governmentlfnance 20(% of GDP, Includes cunfentgrants) eCurrent revenue .. 12.7 15.7 13.4 -20 s 9 T 96 97 90 99Current budget balance .. 0.5 3.8 0.1 -GDP deItaler CPIOveral surplusi/deficit .. .. -2.9 -6.2

TRADE

(US$ milins) 1979 1989 1999 Export and Import levels (US$ mill.)Total exports (fob) 203 97 64 61 500

Coffee .. 59 28 27other agriculture 20 23 18 400Manufactures 4 10 15 300

Total Imports (cit) 332 323 281 noFood 29 49 47Fuel and energy 48 35 47 oo_Capital goods 88 61 44

9 5 4 95 95 97 so ssExport price index (1995=100) 83 109 106Import rice Index (1995=100) ,, 83 99 102 Elrxprs * I.portsTerms of trade (1995=100) 101 110 104

BALANCE of PAYMENTS

(US$ millions) 1979 1989 1999 1999 Current account balance to GDP (%)Exports of goods and services 227 148 III 109 o . . . IImports of goods and services 307 417 462 412Resource balance -80 -269 -351 -304 43

Net income 3 -0 7 1Net current transfers 131 19 19 176 l

Current account balance 48 -259 -167 -138 9

Firiancing items (net) 13 155 185 161Changes in net reserves -35 105 -18 -23 12

Memo:Reserves Including gold (US$ mIllAns) 152 70 164 186Conversion rate (DEC, 1cYl/US$) 92.8 80.0 312.3 333.9

EXTERNAL DEBT and RESOURCE FLOWS1979 1999 1999 1999

(US$ millions) Composition of 1999 debt (US$ mill.)Totaldebtoutstanding and disbursed 156 623 1,213 1,237

IBRD 0 0 0 0 F: 18IDA 48 302 552 691 I E. 11

Total debt service 5 29 40 49IBRD 0 0 0 0IDA 0 3 1 1 11

Composition of net resource flows 33 e |Official grants 83 96 199 212Official creditors 33 53 43 27Private creditors -1 -3 88 96Foreign direct Investment 13 16 7 2Portfolio equity 0 0 0 O - C: 20

World Bank programCommitments 10 52 0 80 A-IBRD E-BilsterlDisbursements 11 32 55 69 8- IDA D- Othe r -t ULtiars F -Prle

Principal repayments o 1 6 6 C-IMF G - Short-termNet Iows 11 31 49 63Interest payments 0 2 5 5Net transfers 11 29 44 58

AFTM3 9/9/00

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AdditionalAnnex 11

Banking Sector of Rwanda

This note summarizes the fmdings on the Banking Sector and outlines the proposed project approach,rationale and risks.

1. Rwanda's Banking Sector in ifeneral

Rwanda's banking sector is small. It is comprised of six commercial banks (see table A), a developmentbank, a cooperative savings organization (Union des Banques Populaires du Rwanda, UBPR), and amortgage bank. It is estimated that the banking sector, including UBPR, has deposits of USD 300 millionand loans of USD 200 million. Of a total population of around 8 million, only 300,000 have bank accounts(about 4 percent), whereof 200,000 at the cooperative savings organization and only 100,000 with theformal banking sector.

Although Rwanda's banks were rapidly restructured after the war of 1994, the financial sector is currentlyin an extremely fragile situation. The presence of many NGOs created an artificially strong local market,especially in real estate, and the banks granted many new loans, which subsequently became nonperforming (NPL). After an audit by Ernst & Young as of December 1997, ordered by the Central Bank(BNR), all banks submitted restructurinuz plans for the period 2000-2002. These plans indicate how eachbank intends to improve its management and fmancial condition. Further, in order to comply withinstructions given by BNR for the implementation of the new banking law (see endnote 1), the minimumcapital of most banks was raised from RWF 300 million to 1,500 million, and all, except for BCR andBANCOR, meet today's capital adequacy rate of 8 percent.

While the artificial NGO driven local economy of Kigali cooled down, access to credit became more andmore restrained. While some banks were able to maintain their NPL level relatively stable, two commercialbanks (BCR and BACAR) and the development bank have to cope with a dan2erouslv high prtfolio ofNPL. Furthermore, a fmiancial audit of UBPR has finally revealed its fragile financial situation and the riskof a potential illiquidity of the institution. Finally, the bankrupt mortgage bank (Caisse Hypothecaire duRwanda, CHR) continues the liquidation of its portfolio, which further deflates the local real estate market.

Underlying the weak financial situation are structural problems of Rwanda's fmancial sector. There is alack of capacity in the banking sector, especially in credit management and recovery. The governmentwants to address this lack through the establishment of a banking school in the near future. But accordingto bankers in Rwanda, there is also a lack of "bankable" projects that can be financed, due to the lack of (i)financial management skills and (ii) financial statements in the private non-financial sector. Furthermore,government arrears to the private sector, estimated to be up to 18 billion RWF (42 million USD), havecontributed to the fragile situation of the banking sector. Finally, the judicial sector is currentlyoverwhelmed with genocide cases and is not able to handle the recovery of loan collateral in an efficient andexpedient way. A long-term strategy to foster fmancial development and thus private sector developmenthas to address these structural weaknesses.

2. Rwanda's Banks and their NPL situation

Rwanda's banking sector (see Table A) is in a financially very fragile situation. Two commercial bankshave negative net worth (BCR, BANCOR) and most financial institutions have a deficit of provisions.Most banks have identified and started to address their NPL situation. As a result, restructuring plans have

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been submitted, capital was restored by an increase of minimum capital, and workout units are establishedto recover bad loans. However, given the structural weaknesses of the sector mentioned above, and theextremely weak financial situation of most of the banks, there is an urgent need for further action.

2.1. Ori&in and maturity of NPL

The NPL portfolio at most banks can be categorized as follows: (i) loans granted before the war of 1994where clients or firms disappeared during the war; (ii) loans granted in the "euphoric post-war NGOyears", which now face market problems (concentrated in construction and transport sectors); and (iii)directed and fraudulent post-war loans. Based on data by BNR, the situation can be summarized by thefollowing Table:

,',4 / - ~~~~~~~~~~~~~~~~~~l- li

BCR T 10,589 50% 15.21% 30.45% 25%

BK 8,610 37.11% 16.78% 45.21% Small

BRD 3,258 61.90% 33.56% 54.21% N/A

BACAR 5,927 82.32% 42.99% 52.22% (Real estate loans togovernment officials)

BCDI 4,000 40% 0.00% 0.00% small

The table above and interviews with the respective financial institutions indicate the following conclusionsconcerning the origin and maturity of NPL:

1. All banks have a high percentage of NPL. The worst are BCR, BACAR and BRD, while BK wasable to limit bad loans after the war. Since BCDI was founded after the war, it has not had to dealwith pre-war NPLs.

2. Most of the banks have set up workout units and are actively pursuing the recovers of bad loans.However, because of the current credit crunch (banks are very reluctant to make new loans) andthe real estate market, which seems to approach a level of saturation, there are limits to recovery.Furthennore, as mentioned above, the legal system is slow and cannot be considered sufficientlyefficient for the recovery of bad loans.

3. Between a third and half of all NPL are of pre-war origin. Recovery of these NPL must beconsidered very difficult, as many lenders have perished and documentation is often insufficient.

4. While there are two semi-state-owned banks (BCR & BK, both 50 percent GOR), the financialsituation of BCR, which was managed by a Rwandan official, seems to be especially weak. A largepart of BCR's NPL is post-war and about one quarter are due to connected lending. Urgent actionto prevent further deterioration of BCR's financial situation is therefore called for. The other bank,BK, which has been under private management, has been able to maintain a relatively high, butstable level of NPL and shows a sufficient solvency ratio.

5. The NPL situation of UBPR is mainly due to the events of the war in 1994 (over 84 percent). A

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fmancial recovery of UBPR through future profits of the group is considered infeasible (seeanalysis below).

2.2. Possible interventions to address the current situation

Following discussions with the banks, the Central Bank, and the Minister of Finance different models ofintervention are proposed to address the issue of the large percentage of NPL and the resulting financiallyfragile situation of the banks. The following three options are considered:

A. Recovery by a central Asset Management Unit (AMU)

* Advantage: Banks are relieved of bad debts and are able to lend again to the private sector;"fresh money supply"

* Disadvantage: Recovery is done best by the banks and their staff who know the client;potential recovery is limited by the current unfavorable market conditions; moral hazard,which "pardons" bad lending of the past.

B. Recovery by banks without any intervention

3 Advantage: Recovery is done by the banks; no moral hazard* Disadvantage: Very long process; two banks, BCR and UBPR may fail during the process

and create a large damage to the marketC. Restructuring and privatization of one state-owned-bank (BCR) and re-capitalization of UPB's

pre-war NPL amount

* Advantage: Focused restructuring with elimination of government management andintervention; restructuring of UBPR which cannot cope with the huge pre-war NPL duringany foreseen period in the future

* Disadvantage: Rewarding "bad" governance at one state-owned-bank; costly intervention

2.3 BANCOR was recently purchased by a group of private investors and is being restructured,including a fresh capital injection to reach the required minimum. BACAR will also be receiving a newcapital injection by April 2000 and is working actively at recovery of its pre-war portfolio. The project isfocusing on BCR (35 percent of the market) and UBP (90 percent of the market) through option C giventheir importance on the market and the immediate risk they pose to the system as a whole.

3. Union de Bangues Ponulaires du Rwanda

3.1. Description of UBPR's past and current situation

The Union de Banques Populaires du Rwanda (UBPR) is a network of 140 saving and credit cooperatives,with a national apex organization (Caisse Centrale) in Kigali. The first cooperatives were founded in 1975,with financial support of the Swiss govenmnent. The UBPR itself was founded in 1986 and grew rapidlybefore 1994. The membership basis is diverse, including both rural and urban areas, employees andself-employed, civil servants and farmers. The UBPR had 161 582 members at the end of 1998. While theaverage deposit was 139 USD in 1998, the average loan was 444 USD.

The UBPR and the local cooperatives suffered great physical, financial and human loss during the genocideand civil war of 1994. Due to the loss of employees, the Caisse Centrale was completely disorganized.Accounting documents and credit files were lost. While the Caisse Centrale is equipped with computersystems for their accounting and credit management, no technical capacity is currently available to handlethese programs. Accounting exercises are therefore done by inventory, which ties up a large share of the

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employees. Nonetheless, due to lack of reliable records and of a reliable accounting system, significantinaccuracies and discrepancies remain in the financial statements (see endnote 2). According to a recentfinancial audit by Deloitte & Touche there is no effective filing system and internal controlling. There is acomplete lack of credit management.

Currently, the cooperatives pay 4 percent on deposits and charge between 13 and 16 percent on loans,depending on the purpose (see endnote 3). The maturity of the loans are up to 5 years (in the case ofconstruction loans). A large part of the interest revenue, however, is currently earned on deposits withconunercial banks rather than on loans. Given unsustainable NPL levels the Caisse Centrale ceased anynew credit activity, as of the first quarter of 2000. A similar measure was adopted for all local banks witharrears of more than 20 percent.

The financial situation of UBPR and the local cooperatives is extremely weak. The disappearance of manyof its clients caused a steep increase in NPLs. It is currently estimated that 95 percent of the pre-war loansare not recoverable. Pre-war loans amount to a total of 2.7 billion RWF (6.4 million USD), 1.25 billion ofwhich are in the Caisse Centrale and 1.45 billion in the local cooperatives. But only 450 million RWF ofthese unrecoverable loans are provisioned for. The large share of pre-war NPLs and continuousoperational losses have resulted in a negative equity of 170 million RWF (400 000 USD) for the CaisseCentrale in 1999. Furthermore, there are 2.25 billion RWF (5.4 million USD) missing provisions forpre-war loans. This amounts to a total gap in UBPR's balance sheet of 2.4 billion RWF (5.8 million USD).On the other side there is a large amount of pre-war deposits that have not been claimed since manydepositors have disappeared. UBPR had total deposits of 4.8 billion RWF in 1994, 4.5 billion of whichwere at the local cooperatives. Out of the latter 2.7 billion have been claimed so far. It is impossible topredict at this point how much of the remaining 2.1 billion will be claimed.

The Caisse Centrale ran an operational deficit of 263 million RWF (600 000 USD) in 1999. This is 77percent higher than in 1998. Given that interest revenues are decreasing and that operational costs are stillrising due to recent recruitments, a further deterioration can be expected. Furthermore, in 1999 the CaisseCentrale experienced a negative cash flow of 475 million RWF (1.1 million USD). Given that UBPR has anet balance of 600 million RWF (1.4 million USD) with commercial banks and given the continuingoperational losses, a liquidity crisis cannot be excluded.

3.2. Findings

The current situation of UBPR was discussed with Vincent Kamada, Directeur General a.i., and AlphonseRutagengwa, Chief Financial Officer. An agreement with the World Council of Credit Unions (WOCCU)had been reached that enables the WOCCU to send a resident advisor for nearly four years to Kigali tosupport UBPR with restructuring and reorganization. This effort will be financed through a USAID grantof 3 million USD. The work of the resident advisor, Adrian Rodriguez, will be complemented throughshort-term visits by micro-finance specialists in specific areas, organized through the network of theInternational Executive Service Corps (IESC). Mr. Rodriguez arrived on October 26, together with Mr.Ronald Desrochers who will advise UBPR in their communication with BNR to draw up the micro-financeregulations and eventually a micro-fmance law. The USAID grant also includes the installation of newcomputer hard- and software in the Caisse Centrale and the 10 largest local banks. Discussions took placewith Mr. Rodriguez and Mr. Ronald Desrochers from WOCCU, Mr. Menwuyellet Moussie from USAIDand the management team of UBPR to agree on a potential cooperation in the restructuring andreorganization of UBPR.

Three supervisors of BNR that are currently supervising UBPR's operations on-site confmmed the criticalsituation of UBPR. They stressed the risk of a potential illiquidity of UBPR in the near future and the needfor quick action.

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3.2. Proiosed Actions concemnng UBPR

UBPR, being the major financial institution of the country and serving over two thirds of the country'sretail clientele, is an institution of particular importance for the development of both the private and theurmal sector. Its current distressed stage is manly due to the events of the war and the subsequent absence of

technical and operational assistance. However, despite the above described adverse situation, the entity as awhole, and some group banks in particular, were able to maintain their operations and goodwill.

Four components are necessary to restructure and reorganize UBPR:

1. Technical assistance to reorganize and reinforce operational procedures2. Effective supervision and regulation of the microfmance sector by BNR.3. Ensuring the fmancing of operational costs for its Caisse Centrale during a transitional period

(around 1.1 million USD)4. Capital injection of 2 billion RWF (5 million USD) to cover losses from pre-war NPL

Recommended Implementation:

* Banques Populaires that meet eligibility criteria will be recapitalized to the 10 percent solvencyratio.

* The necessary resources will be made available in cash through a special fund at Caisse Centrale.

* The recapitalization will be made through investments of the Caisse Centrale in the BanquesPopulaires in the form of redeemable, noncumulative 1 percent interest bearing preferred shares.

• Funds will be made available to Caisse Centrale in three tranches and only to the extent thatperformance indicators are met.

- The part that is not needed to recapitalize the Banques Populaires will be provided in the form oflong-term bonds, with a variable interest rate and a balloon payment at maturity.

- A Memorandum of Understanding (MOU) that lists these benchmarks will be a disbursementcondition for this component of the project.

USAID together with the World Council of Credit Unions (WOCCU) will provide technical assistance toreorganize and reinforce operational procedures for three years.

The new banking law mandates BNR to supervise and regulate the savmg and cooperative societies,including UBPR. BNR confirmed that instructions to this respect are in preparation and will be issuedduring 2001. These instructions will give BNR the right to regulate and supervise and, should need arise, tointervene in cooperatives, such as the UBPR.

Since technical assistance is provided by WOCCU and BNR is currently working on the micro-financeregulation, a World Bank involvement is especially- called for in the third and fourth components. Thiswould happen in close cooperation with the technical assistance team of WOCCU and with BNR. Thefmancing of the operational costs of the Caisse Centrale would be decreasing over a period over three orfour years; the annual budget of UBPR would require a "non objection" by the World Bank. This wouldensure that the long-term goal of operational self-sustainability of UBPR is reached at the end of the projectperiod. Given the exogenous nature of the events of 1994 and its negative impact on UBPR's balance sheetand given the extent of the problem, a recapitalization of UBPR through a one-time capital injection seemsjustified to ensure the long-term viability of the institution. As part of this recapitalization effort, thequestion of dead or disappeared depositors should be addressed.

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4. Other Recommendations for the Sector

Policy Measures

* Maintain the current regulation, which allows financial institutions to deduct the cost for requiredand justified provisions from their taxable income.

* Allow banks to reclassify dormant accounts (accounts without contact with the account holder formore than five years) to tier-2 capital. Banks would maintain a contingent liability to transferrequested funds if the client contacts the institution. This measure would immediately improve thesolvency rate of the banks, and provide long-term capital.

Other Measures

* Assistance to the Bankers Association for the establishment of a private debt collection bureau(DCB). A DCB will pursue the recovery of loans, which are considered too small (many cases, notenough bank staff) or not very promising. The DCB would not be funded to buy NPL. However,it would participate with a percentage of the recovered amount or charge a pre-defined fee.

- Funding of a legal consultant to review Rwanda's law and iudicial administration in the area of theenforcement of court decisions, the establishment and enforcement of guarantees, and bankruptcyprocedures.

* Funding of a consultant for the improvement of the Credit Information System

* Funding of a work-out and debt restructuring specialist for the banking sector, who would be basedat the Bankers Association or at the BNR, and support all financial institutions for the recovery ofbad loans.

i Funding of a work-out and debt restructuring specialist for BRD, who would establish and manageits NPL work-out department.

3 The establishment of a Banking/Business School in Rwanda is currently under preparation. Theproject would provide support in the form of TA.

3 The Bankers' Association reauires support to broaden the level of service and support to itsmembers. The project would provide support in the form of TA.

* Funding of a study for a real estate refmancing facilitv, which would provide short-term liquidity tobanks against performing real estate loans.

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Rwanda's Banks in 1'000 RWF (Table A)

Founded 1966 1966 1983 1995 1995 1999 n/aTotal Loans 21,200,000 23,200,000 7.200,000 10,000,000 320,000 260,000 5,263,000NPL Total 10,589,000 8,610,000 5.927,000 4,000,000 260,000 0 3,258,000NPL % 50% 37.11% 82.32% 40% 81.25% 0% 61.9%Provisions 3,627,000 4,047,000 2,102,000 1,670,000 201,000 0 1,907,000Insufficiency 2,261,000 0 273,000 0 4,000 0 314,000of provisionsSolvency -5.9% 10.1% 10.4% 11% -23% 29% n/aClients 30,000 30,000 n/a 15,000 n/a n/a n/a

Outlets 6 7 4 6 1 2 1Capital 2,000,000 1,500,000 970,000 1,102,000 300,000 827,000 1,484,000Shareholder 49% GOR 49% GOR 100% RW 100% RW 99% UG N/a 55% GOR

/ 49% NL / 49% B 33% fgn.Com. Ldg. Com. Ldg. Retail Retail Corp. Bk. New Dev. Ldg.

The new banking law was enacted in 1999 and mandates BNR to issue regulations concerning, amongothers, the minimum capital, capital adequacy ratio, banks' activities, reserve requirements and prudentialand management standards. So far BNR has issued 15 regulations, with one major regulation - concerningmicrofinance - outstanding.

2 There are discrepancies concerning UBPR's deposits with commercial banks. Specifically, discrepanciesbetween UBPR's records and the commercial banks' records amount to 4 million USD (1.7 billion RWF)against UBPR, most of which is accounted for by discrepancies between UPBR's records and BNR'srecords. Similarly there are discrepancies between the records in the Caisse Centrale and in the localbanks concerning the claims of the latter on the former. In the accounting exercises 1998 and 1999, therecords of the local banks and of the commercial banks were esteemed correct and served as basis for thebalance sheets.3 The interest on commercial loans and salary advances is 16%, 14% on agricultural loans and 13% onhousing loans.

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AdditionalAnnex 12

Policy and Institutional Reforms

Reform Area and Objectives PSD Action Program Actions Taken by GOR Current Status

L. Incentives

A. Exchange RegimeMaintain exchange rate at The exchange rate is determined by the Reform fully achieved under

1. Exchange Rate competitive levels through periodic market since March 1995 ERCIESAF programsadjustments.

2 CurrentAccount Full implementation of the OGL Imports have been fully liberalized in Reform fully achieved underLiberalization (Open General License) for imports Rwanda since 95. ERC/ESAF programsMarket determined allocation of Elimination of export licensing and The export liense has been abolishedscarce foreign resources, boost export clearance formalities. in 1995 and replaced by a bank Reform fully achieved underexports and foreign investment Implementation of full liberslization exchange declration. ERC/ESAF programs

of immediate transfers for repatriation The repatriation of profits dividendsof profits dividends. has been liberalized since 1995. Reform fuly achieved under

ERC/ESAF programs

3. Tariffs Further decrease spread in tariffs by The tariff reform reached an advanced Within the framework of theDecrease anti-export bias, adopting a maximum rate of 80%/6 stage with a maximum rate of 40% ESAF/ERC program, a furtherencourage viable activities, and applicable only to goods, narrowly adopted in January 1998. reduction in effective tariffadopt a transparent system. defined. Maximum and minimum The number of tariffrates has been protection was done in 1999 to

tariffi on other products will remain reduced to 4 to inprove the reach the CBI objectives ofat 40 and 10 percent transparency of the tariff system. 25-15-5% tariff rates.Harmonize rates within four digitcategories and adopt a unique tariffrate for a given producLExamine scope and agree on furtherreduction in effective tariff protectionspread by decreasing top rate. Assesstariff system and improve itstransparency.

B. Export Promotion

I. Tax compensation Implement existing provisions, using The benefits to non-traditional The remaining agenda consists ofa simple set of les, to compensate exportcrs included in the 1991 export implementing an effective dutynon traditional exports, in cash or promotion law are still waiting for sales tax drawback system forwith negotiable tax credits, the implementation modalities. imported inputs used in theequivalent to 10 percent of export production of exports.value

2. Free-zone legislationEncourage expert oriented Adopt firm level free zone legislation A law creating a free-zone regime in The GOR has created theinvestment acceptable to IDA to encourage Rwanda was drafted in 1994 and is Investment Promotion Center.

export trade and processig still waiting for discussions and The remaining agenda to beapproval in the meantime the implemented consists ofgoveumment's setting up an Investment reviewing the free-zone draftPromotion Agency which, according to legislation and taking a decisionthe law, will be in charge of the on the opportunity to create amanagement of the free-zone free-zone regime in Rwanda tolegislation. be managed by the Investment

Promotion Agency.

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3. Exports BusinessDevelopment No specific action was included in the A study on commodity export The GOR has created theIdentify major constraints to 1993 PSD Action Program. identification and logistics has been Investment Promotion Center.commodity exports done early 1998. The remaining agenda to bediversification, coat-effective implemented consist oflogistics, and sector investment devloping exports promotionIdentify conditions which could activities through support to thegive Rwanda a comparative Investment Promotion Agency'sadvantage in key sectors and action program.export logistic. Proposemeasures which could contributeto encourage domesticproduction and export marketingpenetration.

4. LiberalizeInternationalAirTransport.Decrease freight cost and Adopt a transparent and simple Air-Rwanda has bem liquidated. The Reform fully accomplishedincrease availability of flights system to pennit freight and airport fees have been revised to be

passenger charter flights within 24 based en tarif recommended by the"hours of notification, thus eliminating RdA" There are no longcr restrictionsthe regulatory role of AIR-Rwanda. on charter flights.Review and reverse downwards feesand royalties charged by Air-Rwandaand the " Regies des Acroporbt",while ensuring adequate recovery ofoperational costs.

C. Tax and Investment Policy

1. Company level taxationITax Eliminate taxation of corporate Taxation of corporate dividends The remaining agenda to becode dividends. Allow faster depreciation eliminated in 1997. Faster implemented by the GORDecrease distortions in the of assets and their equal tax-free depreciation and tax free devaluation consists of revising the corporatecorporate tax system. Improve reevaluationi Ptnnit carry-over of of assebt authorized by the new tax income tax rate downwarids whenapplication and transparency of losses for five years. Revise code published in 1997. The corporate the fiscal situation will pennit.tax system. downwards rate of corporate income income tax rate has been reduced fiomEncourage Investments tax, if fiscal situation permits increase 50 to 40 percent in 1997 and the new

coverage of tax base. Publish a law permits to carry over losses forrevised tax code. Review the rate, five years. The "patente" law has beenbase and coverage of the "patente' changed in 1998 with a significant

revision of the rate (reduction), baseand extension of the coverage.

2. Indirect TaxationImprove application of tunover Implement VAT to avoid cascading The collection ofICHA at source The remaining agenda to betax (ICHA) taxes and broaden the tax base. (customs) for imports started in 1995 implemented by the GOR

Collect ICHA at source (customs) for and the implementaion of the VAT is consists of preparing theimporzt expected in January 2000. introduction of VAT.

3. Taxation offtnancial Revise tax treatment of provision for The new income tax law published in Reform fully accomplished underinstitutions banks, including contribution to FSG, 1997 allows banks to deduct from ERC/ESAF.

against _ and allow their deduction income provisions against riskfrom income. This measure was not extended to allAUlow oil businesses to deduct businesses to avoid big loss of revenueprovisions forbad debt for the government

By a govenmient decision, bankscontributions to the FSG is no longer arequirement since 1993.

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II. Legal and RegulatoryFramework

Assess how system is implemented Based on recommendations ofthe 97 Under the PSD Project, the1. Enterprise Creation and and, with reference to the objective of study on private business constraints, a Investment Promotion CenterDevelopment minimizing delays and paperwork law was passed end 98 to establish an was created. The renainingEase regulator constraints bring firther simplification if needed. Investment Promotion Agency to serve program includes: (i)widening business creation and Review the possibility of transferring as a one-stop center to promote and simplification of regulatorydiversification. the commercial registry to the facilitate investment and business procedures governing theSimplify and codify regulatory tribunal of commerce. development In the same time, a creation of business; and (ii)procedures for allocation of policy framework for SME's developing of a specific programindustrial land and for obtaining development was defned with the to promote fimancial andthe various pernts. support of a qualified international non-financial services to SME's.

expert

2. Commercial CodeSimplify and improve business Implement business law reform A three-year action plan for business Under the PSD Project a prinarylaws. laws reform has been prepared in review was carried out The

December 1997. Apart from the remaining agenda is to accelerateassurance law for which a new draft the implementation of thelaw was prepared in 1998, the business business laws reform.laws reform has not started yet

3. Create Private legal andparalegal professions

Facilitate execution of contract In conjuction with the creation of a A feasibility study done in 1997 Under the PSD Project, thediscussions and enforcement of Tribunal of Commerce, authorize the recommended the creation of both a Kigali Private Arbitration Centercontracts existence, and free functioning of Tribunal of conmnerce and a private was created. The remaining

private legal and paralegal Arbitration Center. A draft law agenda is to provide technicalprofessions, inchuding notary public, creating the tribunal has been support to make it fullyprocess surveys, liquidators and submitted for approval to the Supreme operational, including theauctioneers. Eliminate such Court which did not support the implementation of a trainingredundant functions in the civil establishment of the tribunal in the program for personnel involvedscrvice. short term due to competing with a in enforcement of business

high deficit of qualified personnel in contractsthe judiciary sector. Regarding theArbitration Center, a technicalcommittee from the private sector hasbeen created to conduct the process ofcreating the center. The commnittee hasbeen requested to reassess the financialfeasibility of the Center and make afirm commitment to move forward.

4. Labor Code Reform

Ensure that labor competition is Implement agreed actions, including Based on recommendations of the The new labor code has beenin harmony with its productivity adoption of a single minimum wage study of labor code completed in June approved under the ERC

and automatic statutory yearly wage 1992, the government has prepared araises. new labor code talcing into accountIncrease length and simplify condition comments from various stakeholdersfor engaging temporary employees. (trade unions, employers). This newAdopt a scheme to decrease non-wage labor code has been reviewed by thecosts. Decrease the number of days of Bank and is ready for approval by thepaid leave. cabinet and the parliament.

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III. Public Enterprise Reform

* Put pubEc enterprise Adopt privatization strategy for In 1996, the Parliament passed a law Out of 66 PEs X were liquidatedsector on same footing as the sector. Undertake privatization and authorizing the govemnment to and Y were offered for sale.private sector restructuring of PE's. privatize public enterprises. The Special attention will be given to

Independent Privatize coffee, tea and rice process started in 1997 and was key sectors, including the 9 teamanagement for debt repayment production assets. accelerated in 1998 with the factories, the public phone* Disengagement of the Restructure and rationalize privatization of 17 public enterprises company (Rwandatel), andState from production activities OCIR-CAFE and CCIR-THE. as of 15-Dec-98. A study on the Electrogaz, the water/electric

Satisfactory progress on privatization restructuring of OCIR-CAFE has been utility. Under the IDA sectoralof other industrial and commercial done and the government decided on projects (Energy,enterprises. the way to restructure OCIR-CAFE Telecommunication), the

within the framework of coffee sector government has approved (i) theliberalization restructuring strategy for

Electrogaz; (ii) the privationsstrategy for RWANDATEL; (iii)the privatization strategy for thenine tea factories. Theirimnplementation will be doneunder the new Private SectorDevelopment Project.

IV. Financial Sector

1. Legal and regulatoryFramework

Amend the BNR legislation to Anew BNR enhancing its Reform fully accomplished underPromote effective competition enhance its independence from the independence has been published in ERC/PSDbetween institutions while Ministry of Finance and aLlow it to June 1997. Since September 1997, themaintaining the viability and the use indirect means of monetary bank's liquidity is regulated usingstability of the fmnancial system. control more flexible indirect instruments, the

reserves requirement ratio and theAmend legislation on fmancial rediscount rate and a money market isinstitutions to (i) define more clearly operational to absorb bank's liquiditytheir licensing requirements of banks excess on a weekly basis.and financial institutions, (ii) A new banking law is submitted to thestrengthen prudential requirements; Parliament for approvaL The main Publication of the new banking(iii) establish appropriate guidelines reforms underlinig this new law law under ERC/PSDfor classifying loans, constituting (prudential requirements, guidelinesprovisions and accruing interest for loan classification) were introducedRequire all banks to be audited by an by specific instructions enacted by theexternal auditor approved by the BNR in 1996.BNR in line with terms of reference The requirement to all banks to be

audited by external auditors is notexplicitly put in the banking law to be Under the PSD project, anapproved. However, the BNR update of the bank's fmancialcontracted external auditors twice restructuring plans was done.since 1994 to assess the financial Their implementation is undersituation of commercial banks. way.

2. Supervision of FinancialInstitutions

Effective supervision of banks by Undertake on site inspections of at The Inspection Department of the Reform fully accomplishedthe BNR least two financial institutions BNR ha been strengthened by

increasing the stiff number andtraining them. The department hasnow the capacity to undertake regularon site inspections. The financialinstitutions have been inspectedduring the last three years

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3. Banaque Rwandaise deDeveloppement

Strengthen the development bark Within the framework of a strategic A strategic audit for the BRD has been Although the restructuing of theby increasing its autonomy, plan to restructure BRD, including conducted in 1997 and BRD does not seem to be amongdiversifying its products and improvements in portfolio and recommendations made on the way to government's short-termimproving its efficiency fmancial management, clarification of restructure the Bank. No concrete priorities, the project should

the roles of the Board and the action has been taken so far to support the BRD inmanagement, and appropriate charges implement the recommendations. implementing recommendedin its product mix and organizational actions related to mobilizing newstructure to make a more instrumnents to finance long-termautonomous, competitive and private investment To beefficient institution. completed.

4. Banques Populaires The PSD action program, as prepared A training program for the new The remaining agenda to bein 1983, did not include support to management ofthe Banques implemented by GOR includesthe Banques Populaires network. Populaires was fmancedtby the PSD in the restructuring of the BanquesHowever, following the 1994 events, 1997 and implemented by Populaire. To be completedthe government agreed with the Bank Intercooperation Swiss as executive under the new PSD projectto use PSD funds to rehabilitate the agencycapacity of the banques populaires

5. Monetary Policy Reform

Simplify the interest structure Review interest rate structure at least The interest rates have been fully Refonr fully accomplishedand liberalize interest rates. twice per year to ensure that rates are liberalized since September 1997. A ERC(ESAF.Move toward indirect positive in real terms. Liberalize money market is operational from thatinstruments (reserve requirement, interest rates fuly. Review time. The rediscount rate isrediscount rate, money market) rediscount rate at least twice yearly to determined by the money market on ato control money aggregates. reflect credit requirement, eligibility. weekly basis.

V. Private SectorOrganization

Privatize the Chamber of Commerce The forced membership to the CCIR Under the PSD project, the CCIRThe Chamber of Commerce and and industry (CCIR) by giving it a has been suspended by a govermment has been abolished and a Privateindustsy increase effectiveness. private legal status (non profit decision seven years ago. However, Sector Federation has been

organizations, "ASBL"). Eliminate the law creating the CCIR has not been created. The new PSD projectforced memrbrship and imposition reviewed. The Uganda Private Sector wiDl provide support toand collection of fees by the foundation (PSF) was contracted in strengthen this newly createdGovernmenL October 1997 to conduct a study on organization.

the private sector organization inRwanda. The PSF recommended torestructure the CCIR in a privatesector organization, in which memberswould be private professionalorganizations. Following therecommendation, a consultant wasselected in December 1998 to work onthe implementation of therecommended reform.

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AdditionalAnnex 13

Letter of Sector Policy

REPUBLIQUE RWANDAISE i .O. 200

MItNISTERE DES FINANCES ET DE LAPLANIFICATION ECONOMINIQUEB. P. 158 KIGALITEL: 75756 - FAX: 77581E-MAIL: wflnt,)rwandal.com.

Mr. James D. WolfensohaPresidentWorld Bank GroupWsvhington. D.C.. 20433

Sublect: Rwanda: Competitiveness and Enterprise Development ProjectSector Development Policy Letter

Mr. Pesident

In Deccmber 1994. the GOR issued its Declaration oqfPrInciples. spelling out its medium ternn agendato move to a liberal. market-based economy. with a rcduced tolc for the state as a means to achieve thctransition from conflict and emergency. to peace and sustainablc development Tn 1998. theGovernment, with the assistance of the World Bank and the tntnmational Moretary Fund. adopted thefirst policy framcwork paper. which provided the basis for a reform program supported by the Bankand the Funwd through Economic Recovery Credits (ERG). an Enhanced Structural AdjustmentFacility (ESAF) and sector operations. The agreed reform program flcuses on measures to establish anenabling cnvironment for economic growth and poverty alleviation. Furthermore. promotiag theprivate sector and improving Rwanda's competitiveness is a center piece of the recent t PRSPcompleted by the GOR in Novemnber 2000.

After the genocide. the now Government undertook structural and ccotomic refbrns successfilly andhas succeeded in improving the climatc for doing business in Rwanda. The GOR plans to move furtherin the direction of establishing an enabling envirotnment for growth and development of the privatcsector that would reduce poverty in Rwanda through the implementAtion of a project to cnhance thecompetitiveness and entcrprise development in Rwanda. This includes streamlining the businessenvironrnent. reducing the costs and increasing the cfficiency of teleconmunuications. water andelectricity utilitics. and the tea industry: and improving access to financial services and supportservices to local cntreprencurs.

The Government is committed to pursuing the reforTn agenda and removing barriers to cntry or gro-vthof private busLinesses, to overcome a perccption of Rwanda as a high risk market. unattractive toeisting atid potential investors, both foreign and domestic. To this end. the GOR is committed toaddress the issues below, thmrugh streamlining the bu.siness environment: privatization of utilities andtea factories and estates to lowcr the cost of doing busincss and increase the yield and returs thereon:facilitation of the emergence of a strong local business community by providing financial and non-financial services. As discussed below. a number of problems impede private sector expansion.

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On the buuincss environment side. the Government has addrssed ccrtain impediments in its legal ardregulatory ftmewok by canying out studies to simplify the commercial code. adopt a saies of newbusiness lsws. and by establishing an arbitagc centr. Fwtherniore. an Investinent Prmotion Centerwas recently established and Rwanda is now completing steps for eligibility for guaratofc insuranceby MtGA. In addition. the Government has established an institution. thc "Centre d'Appui aux PMEdu RwandtU' (CAPMER) with the objectives to provide tcchnical assistance to SMEs for financialmanagement feasibility studies. mnarket research, financing snd capacity building.

Howcvcr. the business cnvirornent is still unfavrable and the GOR still needs to carry out a nmberof additional moesures to complete dte reform agenda and improve the business cnvironmenL To thisend. the GOR commits to implement an action plan addressing systematically th legal and judicialimpediments for the private sector. establish a Commercial Court to imnprovc legal processes andcapacity. and strcngthen the institutional capacity of the newly-cstablished Arbitrage Center. TheGOR commits to provide appropriate building and pcrsonnel for the Commercial Court whilcnecessary tcchmcal assistance to strengthen the above institutions will be provided through theComnpetitivcncss and Enterprisc Development Project. Thc GOR also coJmmits to strengthen thenewly.established Investment Promotion Ccntcr to play an cffective role to ease administrative andregulatory constraints limiting business creation. In addition, the GOR commits to stengthen thenewly-established CAPMER to independently and effectivcly provide support to emerging businesses.

Thc financial sector of Rwanda is quite small and still wcak from the effects of the war. Thrce are twomajor conmtercial banks. which are partially owned by the Government of Rwanda and foreipshareholders (3CR. BK). and three smaller banks with private ownership. Further, there is adeveloprncnt bank. a rmal cstate financing company. and onc main microfinancc institution. (Union desBanques Populaires - UBP) which covers 97 percent of its sector.

In the banking scctor. the GOR has adopted a new bankuig law aimcd at strengthcning the financialsector, by regulating several crucial issucs (e.g. minimium capital. capitat adequacy. foreign currency.bond issuance). As of December 31st, 1997 all commercial banks were audited arid subsequently arstrucurting plan for 2000-2002 was agrced on with each institution. However. issues remain asfoUows: (i) the banking system continues to suffer from non-performing loans (NPLs) and this hasmade certain commercial banks vulnerable; (ii) the extrcmely ftagile situation of UBP; and (iii) a needfor the banics to upgmade the capacity of their personncl especially in credit and recovernes.

Through this project. the Govemment will, together v%ith the World Bank Group, cary out acomprehensive study of the financial sector with a view to put in place (with the World Bank support)a financial sector support project.

Tn the micro-finance sector. Union des Banqucs Populaire (UB). a network of eooperative banks.vwhich caters to the needs of both the urban and the rural population. represents about 97 percent of themicrofinance sector. It was a highly successful instituion beforc the civil war. lVue to tho less ofcmployees, its central agcncy in Kigali was completcly disorganized during the civil war and iscurrently not able to serve its function as the central pillar of the microfinance sector. It discontinuedany new credit activity in early 2000 and a financial and operational audit experienced greatdifficulties duc to the weak accounting and information system. Giveri its importance for a large shareof the population. including rnany informal small business activities, its reorgaiization andrestructuring is a key elcmcnt in the Government strategy to foster private sector developmct andreduce poverty. The draft of a financial audit and fuist insights of a BNPR inspectior reveal anextremely fragile financial situation and the risk of imminent illiquidity. Moreover. the fact that thesecircumstances caused UBP to stop lending in order to prevent fiurter losses means that a large numberof economic agents no longer have access to credit. A failure of UBP would have a devastatingimpact not only on the financial. but also on the private and rural sectors of Rwandia as it is the onlymajor microfinance institution of the country, setving over tw.o thirds of all bank depositors.

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The OR craommits to cany out a the-year resnucturing plan for UIP. Through the project. IDA wlfinance. on a docrasng basis, UBP opemling costs for the tbe years. In additionL long-tau fuianciviability of VBP will requie a wite-off of the NPLs which date Itom beforc the conflict Whctr thmecis no prospect of recovery (mostly loUa to paboM who dW not survive the conflict). A co.,epondingcapital irUecdon would made through the project as part of the ovcrall restructuring progam of UBP.

On the inusnuctum services side, the Government has identificd infastructure services intelecommunications. energy and water providcd by inefficient public monopolies, as bcing costy. andhish up on the lst of barriers for prvate sector development. Covrage for these sarvices is wellbelow sub-Saharan avcnges: service is poor, and tariffs are high. Under prviow IDA - financedprojects. efforts were made to undertake sectoral reforms aimed at incrcasing access to those services.irnprove sector management and climinate public monopoly inefficicncies. by reaching a consensuswith the Govemmuent on the mtroduction of private sector participation in the management andinvestment in those services.

In Telecornmunications Services. curent demand for telccommunications services, both for basictelephony and value-added services. is still exceeding current capacity of the existing operators, as aresult of the lack of financing and competition in service provision. The cost of thc services is high,and efficiency is below industry standards due to the mnonopolistic powcr of the government-ownedRWANDATEL. operating the main retwork and the lack of competition in the cellular market. InNovemnber 1999. the GOR approved a new Telecommunication Reform Policy, under which (i) theGOR committed to disengage from Rwandatel and open the market for all telecommunication servicesto competition. (it) a new telecommutnication law focusing on liberalization was adopted by theGovemrrrent and is being discussed by Parliarnent and its approval is expected before the end of theycar 2000; (iii) a multi-sector regulatory authority has been set up to deal with a muli-operatorenvironment as the market opens-up; and (iv) a privatization strategy for Rwandatel was approved andis ready to be implcmented. The Govarmcnt comnnits to privatize RWANDAtEL to irnprov itsopcrational and financial performancc as well as its investment capacity: promote private investmcntin all telecofnmunication market segments through open competitive licensing regime. as well as-ransparent tariff and interconnection policies; and build institutional capacity for policy development

and sector regulation.

In the Postal sector, the Government has crated an autonomous entity. Office National des Postes(ONP). After the 1994 genocide. the agency has undergone some modernization and restoration of itsfacilities as well as ecruitment and retmining of its staff. However. the GOR acknowledges and iskeen to address the issue of a lack of capacity for proper financial managemcnt and pricing of services.capacity for commercialization and development of services. As a complement to the telecom services.Through the project, the focu is now on ensuring financial sclf-sufficiency of ONP for sustaineddelivery of affordable services. It should be noted, that under harsh economic realities. which is thecase of Rwanda. mnfroved access of the population to postal services is an important step in meetingcomununication needs. especially for the poor.

Tn the Water and Power Sectors, the war and institutional weaknesses have deeply affected thefunctioning of the sector entity. ELECTROGAZ is technically bankrupt. As a result of -sustained dialogue with IDA. the Govermment adopted. in May 2000. a comprehensive sectorreform program to improve the cost and cfficiency of the services fbr the economy. Thisincludes (i) a new regulatory framework, comprising the abolition of ELECTROGAZmonopoly. the review of existing sector laws, and the setting up of a multi-sector regulatorybody (the same as for the telecommunication sector mentioned above): and (ii) theintroduction of the private sector to manage the utility and improve costs and efficiency.The GOR has now adopted a privatization strategy for ELECTROGAZ consisting of a two-stepprocess with. an initial performace-based management/lease contract with a private operator. to befollowed by a private concession. The selection of the private operator is well advanced and isexpected to be completed by July 2001.

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Through thc project. the GOR commits to consolidatc the consensus reachcd in the sedor dialosethrougt go implementaton of &C Couc wffie _. tpivma operabor. Fwhumom owe Xh fuiAland operational stability of the company is re-established, thc GOR commits to ensure at a lati dte ismooth transition to a private concession.

On the promotion of Export Agrculta side. the challenge to implcment a maket-bad sertdevelopment stategy in the context of an essentially subsistence-oriented agricultural sector isconsiderable. Howeve. it is evident dtid iri .m l of agricultural prodsc6un andreatcr export orientation are the best ways to achieve su,iciently high gowtb rates. not only In

agriculture, but also in the rest of the mral sector and the oveml economy, and, thereby. achievesustained poverty alleviation in Rwanda. Tea is one of the two main cxport crops in Rwanda.contributing about 3040 percent of total exports. tt is also one of the few crops which provides regularcash income to farmers There arc eleven tea factories in Rwanda. nine of which ame owned andmanaged by the state through OCIR-Th6. a patastatal. The industry is largely managed by OCIR-Thc.It is resporisibic for a wide rangc of activities including financial managcment of the OCIR-Thc-owned tea factories. rescarch and extension, procumements of inputs. hiring pluckers for small-bolders.proccssing, and marketing. The state estates arc thought to be in reasonable condition. but yields arelow and costs high; price level for tea growe are too low to attract growers to increase production. Inaddition. despite a recent physical rchabilitation. tbe industry lacks factory capacity to processincreases in tea production. Furher. low produccr prices and wages for plantafion woticers contributeto labor shortages and low production.

Thc Govenment is conmittod to the liberalization of the industry through the privatization of thestate-owned assets. to leave it to the private sector to improve efficiency atd income of the industryand its contribution to economic development. To this end. the GOR has prepared and adoptcd astratcgy which addresses. inter alia. (i) the participation of nationals and key stakeholders (coops.-.nall-bolders. factory employees) in the ownership of the tea factories and estates throughprivatization; and (ii) accompanying measures. including (a) the empowerment of the farmers to takeover management of all commercial and technical activities that are currently the responsibility ofOCTR-The. and (b) the establishment of an independent Tea Board. The focus under this operationwil be on the completion of the privatization while the GOR establishes an independent Tea Board.Through this project the GOR wilt implement its policy of disengagement in the industry and othersupportive mcasures, including the empowerment of farmers.

HTV/AIDS issue is one of the key aspect of the GOR stategy toward the private sector developmcnt.It will bc addressed in this particular project by epgaging the private sector on awarcness andinformation dis.s ination.

Sincem-

Dr. l)oMinhctl X y c Planning

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AdditionalAnnex 14

Overview of the Energy Sector

A. Sector Background

1. The Energy situation in Rwanda is characterized by a high reliance on two sources of energy:biomass (woodfuels, agricultural by-products), and imported petroleum products. Biomass is, by far, thelargest source of energy in Rwanda (96.2 percent) - a situation not likely to change for several decades.Only a small fraction of the urban dwellers appear to have access to and use commercial energy(electricity, kerosene and LPG), mostly imported and expensive. In terms of commercial energyconsumption (oil products, all imported; electricity, half of which is imported; charcoal, produced locally;wood, used in the institutional sector and in industries), it is apparent that per capita net annualconsumption, of the order of toe, is among the lowest in the world. The energy consumption pattems arepresented in Table 1.1.

Table 1.1: Energv Balance. 1999

k.toe

Net SupplyWoods 1160 80.4Agricultural residues 154 10.7Petroleum fuels 87 6.0Charcoal 27.7 1.9Electricity 12.6 0.9Peat 1.7 0.1Methane Gas 0.4 0.03

Total 1442 100

Net DemandHouseholds 1321 91.6Transport 60 4.2Industry 36 2.5Public services 23 1.6

Total 1442 100

Source: The Government of Rwanda, Ministry of Energy, Water and Natural Resources, Letter of DevelopmentSector for the Energy Sector, Kigali, 2000

2. Electricity supply is provided by the public utility, ELECTROGAZ, a wholly Government-ownedenterprise created by Decree Law No 18/76 dated April 20, 1976 and which is responsible for generating,transmitting and distributing electricity, water and gas. It is govemed by a Board of Directors appointedby the President of the Republic. The board is empowered with complete supervision of the managementand administration of ELECTROGAZ. Responsibility for day-to-day management operations is delegatedto ELECTROGAZ's manager assisted by five department directors - administrative and financial,

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electricity operations, water operations, commercial operations and Personnel.

3. Historical operating results and present positions clearly indicate that the fnancial position ofELECTROGAZ has been deteriorating over the last ten-years: the capital structure has been deterioratingand since 1988, ELECTROGAZ failed to service its debt obligations vis-a-vis the Government and thearrears to SINELAC amount to more than US$ 30 millions. ELECTROGAZ is financially bankrupt. Toaddress this, and as part of the overall economic reform, the Government has undertaken a long-term effortto restructure and reform the operations of ELECTROGAZ to: (i) achieve financial solvency for thecompany; (ii) improve the quality of water and electric power services to Electrogaz's customers; (iii)expand the availability of water and electric power throughout Rwanda; and (iv) eventually bring revenuesto the govermment through taxes on ELECTROGAZ profits and through concession fees.

B. Electricity and Water Sector Strategies

4. In December 1994, the GOR issued its Declaration of Principles, spelling out its medium termagenda to move to a liberal, market-based economy, with a reduced role for the state as a means to achievethe transition from conflict and emergency, to peace and sustainable development. In 1998, theGovernment, with the assistance of the World Bank and the International Monetary Fund, adopted the firstpolicy framework paper, which provided the basis for a reform program supported by the Bank and theFund, through Economic Recovery Credits (ERC), an Enhanced Structural Adjustment Facility (ESAF)and sector operations. The government's program includes a comprehensive package to strengthenmacroeconomic management, create an incentive framework to stimulate exports and enhance privatesector confidence, refomi public enterprises (PE) and increase the efficiency of the utilities and of thefinancial sector, liberalize the labor market and implement well-targeted measures aimed at alleviatingpoverty. The restructuring/privatization of ELECTROGAZ is an important part of the Governmentsreform program and poverty reduction efforts. Reliable energy supply is essential for private sectordevelopment and creaticn of employment. Further, restructuring ELECTROGAZ would improve theefficiency of the larges. public utility of Rwanda and address pricing issues in a key sector of the economy.

5. The Government recognizes that the developmental, technical and financial performance of theelectricity and water sectors of Rwanda have been extremely weak. New sector strategies as well asinstitutional reforms such as the Electrogaz's reform are aimed at improving overall performance in thesetwo sectors.

6. The overriding objective of the Government for the electricity/water sectors can be summarized asfollows: the Government intends to promote activities that will increase access to electricity, provide quaiityand cost-effective services to the economic activities and to the population, while ensuring financialviability to the economic agents involved in producing, transporting and distributing electricity/water, andprotecting the enviromment.

7. To implement this strategy, the Government will carry-out the following main activities:

* Update the regulatory framework for the provision of electricity/water services in Rwanda.* Transfer the management and the development of Electrogaz to a private operator/investor under a

contractual framework providing incentives to perform. Such operator will have full autonomy tomanage Electrogaz. Tariffs of electricity will be set by the Government to cover the full costs ofelectricity services.

* Promote competition and support investment by the private sector to increase production ofelectricity/water.

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* Undertake to rehabilitate and expand the infrastructures as required to meet the national demandfor electricity/water, to keep the costs to the minimum required and improve quality of service.

* Support and participate in initiatives, particularly private initiatives, leading to increased deliveryof electricity/water services outside the Electrogaz perimeter.

* Ensure, through the creation of a multi-sector regulatory entity, that monitoring of contractualundertakings is carried out in a transparent and fair manner

Update the regulatory framework for the provision of electricity services in Rwanda

The Govermment is currently updating the laws governing the activities of Rwanda'sElectricity/water sectors. Related rules and regulations will also be updated.

Transfer of the management of Electrogaz to a private/operator

The Government has decided to involve the private sector in the operations, management,rehabilitation and development of the electric power and water services. This transfer will be carried out intwo phases.

* In the first phase - a Five-Year Management contract - the management of Electrogaz will betransferred to a private company that will have full autonomy to carry-out Electrogaz currentactivities. During such period it is expected that Electrogaz technical and financial targets will befully restored.

* In the second phase immediately following completion of the management contract, a greater rolefor the private sector is contemplated particularly in terms of significant fnancing of thedevelopment of infrastructure.

3 During the management contract phase, Electrogaz exclusivity to transport and to distributeelectricity/water within its current geographical perimeter will be maintained. New generatingcompanies will therefore sell their outputs to Electrogaz under transparent rules andregulations to be developed and approved by the Government and enforced by the Multi-sectorRegulatory Authorty.

* Electricity and water tariffs will be set and periodically revised by the Government and willcover the full costs of providing electricity/water to the various segments of the customer base.Periodic reviews of tariffs as well as assessment of tariffs adjustments requested by theoperators will be carried out by the Multi-sectoral Regulatory Authority. The main costs to beincluded in the tariffs are: operation and maintenance costs, fuel costs, costs of electricitypurchases (for electricity services), depreciation and interest charges, regulatory fees, ruralelectrification fee (for electricity services), etc. Such tariffs should also allow theoperators/investors to reach the industry generally accepted financial targets. The Government's tariff policy will also allow it to account for social objectives while ensuring the financialviability of the electricity sector.

Promote competition and support investment by the private sector to increase production ofelectricity

The Govemnment will support the development of private generation of electricity under transparentrules and regulations to be developed and approved by the Government, and enforced by the Multi-sectoral

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Regulatory authority. Electrogaz will be responsible to assess and defme generation requirements and toinform periodically the Government on that matter. With respect to potential new independent powerproducers, particular emphasis will be put by the Government to develop the Lake Kivu methane gasresources, as well as to further develop regional plants.

Undertake to rehabilitate and expand infrastructure as required to meet the national demand forelectricity, to keep the costs to the minimum required and improve quality of service

During the management contract period, the Government will take full responsibility to finance therehabilitation and the expansion of the electricity infrastructure. The investment program will be preparedand will be updated by Electrogaz through the private operator. To that end the Government has soughttechnical and financial support from the Bank and an Energy Credit is currently being prepared to finance:(a) the rehabilitation and extension of the electricity generation, transmission and distribution facilitieswithin Electrogaz's perimeter, (b) investment in areas beyond Electrogaz's perimeter, and (c) creditfacilities to support access to electricity. The Bank is also assisting SINELAC in reducing the costs of theelectricity delivered to Electrogaz network as well as in other issues related to the energy sector. Decisionson investment will be guided by the requirement of a least-cost solution.

Support and participate in initiatives, particularly private initiatives, leading to increased delivery ofelectricity services outside the Electrogaz's perimeter

The Government will support the development of initiatives required to increase access toelectricity outside Electrogaz's perimeter. The Government is currently carrying out pilot activitiesdesigned to develop and test the technical, financial and institutional instruments needed to increase theconsumption of electricity outside the main cities. Private investors and operators, regional and localinstitutions, as well as Electrogaz, will be provided with the opportunity, through a fair and transparentprocess, to participate in these activities.

Ensure, through the creation of a multi-sector regulatory entity, that monitoring of contractualundertakings is carried out in a transparent and fair manner

The Government is currently setting-up a Multi-Sector Regulatory agency covering the electricity,water, gas and telecommunications activities. As such agency may not be fully functional when theproposed management contract is effective, the Government has decided that the monitoring of theimplementation of the contract will be carried-out by an ad-hoc committee comprising of one representativeof the Government, one representative from the private operator and a third party jointly agreed.

8. In addition to the above, specifically for the water sector, the Government will promote localparticipation, planning, and community management of all water delivery services in a context ofadministrative and fiscal decentralization, including the expansion of water production outside the currentELECTROGAZ perimeter. Such activities should give preferential access to projects that are based onstrong community participation and offer viable financial, commercial and technical options for sustainabledevelopment of the sector.

C. ELECTROGAZ Reform Program

9. The ultimate objective of ELECTROGAZ reform program is to make it a financially-viable andoperationally-efficient power and water utility. Assisted by an international consultant, the Governmenthas carried out a thoroughly analysis of strategic choices for ELECTROGAZ to become a financially

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viable entity. The analysis comprised: (i) a complete technical diagnostic of existing businesses lines andassets; (ii) identification of economically/financially viable business units; (iii) development of pro formabusiness plans for viable business units, (iv) development of optimum privatization strategies for differentbusiness units, and (v) identification and recruitment of appropriate private sector participants.

10. The diagnostic analysis confirmed that separating the water, electricity and gas services bysplitting ELECTROGAZ into three distinct commercial companies was not a viable option because oflimited size and economies of scale in management. It also confirmed that given the poor operational andfinancial conditions of ELECTROGAZ, the perception of Rwanda as a high risk country by investors, andthe need for substantial investment to improve its operation, an immediate offer for sale or concessionwould not generate sufficient interest on the part of the private sector. On that basis, the Government hasdecided to (i) keep water and electricity services together and develop the gas sector outside ofELECTROGAZ; (ii) privatize ELECTROGAZ through a two-step process consisting of an initial five-yearperfornance-based management contract, followed by a separate tender for concession.

C.1. Current Situation

30.0 _ 24.4 S21.6 $21. 1

20.0

10.0C

'°--2°° _ H ~~~~~~~$(3.5)'= =U 0.0 _____2.0c -10.0

40.0£50.

E -40.0

-70.0 (1)1995 1996 1997 1998

l Operating Revenues E Adjusted Net Incore

Chart 1: ELECTROGAZpastperformance

11. The existing technical and financial condition of ELECTROGAZ is extremely poor. As the chart 1indicates, the company has run consistent deficits in all recent years for which fmancial data is available.Commercial losses are unacceptably high due in large part to poor billing and collection operations.

12. The company's projected financial performance under a "no improvement" scenario is presented inchart 2. The slight improvement in net operating income (defined as net operating revenue minus netoperating costs) under this "no improvement" scenario beginning in year 2005 is due to the retiring of acertain portion of existing debt principle and the subsequent reduction of interest payments. In the absenceof any action the company will require massive amounts of subsidy over the next 10 years ($340 million) tocover sustained operating losses, which could endanger the very provision of these important services to thepopulation.

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Electrogaz Projected Financial Perfornance withNo Improvements

2M 2002 2003 2004 2005 2006 2007 2008 2009 2010

$(5,000,000)

5(10. 000,.000)_

$ $(15,000,000)

$(20,000,000)

$(25,000,000)

$(30,000,000)

-*--Net Operating Income -- Cash Flow:

Chart 2: ELECTROGAZ Historical Sales and Operating Income

C.2. Diagnostic Results

13. The Government's intention was originally to create three distinct companies for electricity, waterand gas out of the current structure of Electrogaz. A thorough Diagnostic Study was undertaken toevaluate the feasibility of such a step in view of implementing a restructuring program for the company.This Diagnostic Study was completed by sector experts during a three month period, and the analysisincluded an assessment of Electrogaz's technical, commercial and financial performance. The electricityand water sectors were the subject of detailed diagnostic work, while the gas sector, currently in a nascentstate, was not analyzed in as much detail due to the absence of any actual production or commercialactivity.

14. From a technical and operational standpoint (see chart 3 and 4), Electrogaz operations arecharacterized by inefficiencies and poor performance. Existing infrastructure is old and badly in need ofrehabilitation. For example, more than 78 percent of pipes in the water network are over 20 years old.Very little preventive maintenance has been carried out over the years, leading to further degradation ofequipment. Electrogaz suffers from high technical loses (33% in the electricity sector and 51% in the watersector) and low productivity (51 connections/employee in the electricity sector and 38connections/employee in the water sector) and compares very negatively with other African utilities on bothcounts. This suggests inadequate network planning and maintenance.

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17,500,000 70.0%

15.000,000 60.0%

12,500,000 50.0%

10,0D0,000 40.0% |

7 0D0,000 3 0.0%

5,000.000 2.1

2,500.000 10.0%

0e0%1992 1993 1994 1995 1990 1997 1998

Prodtc9on r Sales -X-Technical Losses

Chart 3: ELECTROGAZ Water Activities Statistics

Booz Allen & Hamilton: ELECTROGAZ: Diagnostic Report, 2000

200,DOO 000 80.0%

180,0D0,000 ___ __70.0'b

16,00000015,D,07_7 ...... / ........... 60.0%

140,030,030 000.0\

100000,000 40.0% 8

80.D00,000 so,oooooo _ .: _ _ k ^ : $ _ _ 2 t _ _ .~~~~~~~~~~~30.0-A 1

60.ODD0000

40.000,000

20,=0,OM

1992 1993 1904 1995 1996 1997 1998

=Production =Sales _Tedri4 Losses

Chart 4: ELECTROGAZ Electricity Activities Statistics

15. Over the years tius has led to further degradation in the condition of equipment. Unreliable serviceis also common with frequent outages and interruptions in both water and electric power. Losses throughtechnical faults and theft (33% for power, 51% for water) are extremely high compared to other utilities.

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16. Commercial performance: the breakdown of electricity and water sales are illustrated, in the chart5. From a commercial standpoint, Electrogaz is not meeting the needs of an already limited customer basewith unreliable service characterized by frequent outages and interruptions in both the water and electricitysectors. A limited customer base and an inability to expand access are two factors that have combined toconstrain the growth in sales revenue. Electrogaz is highly inefficient in terms of collection performanceand commercial losses which represent another serious problem for the company. The commercial losslevel (see chart 6) for Electrogaz is just under 60%, which indicates that roughly 40%/o of billed sales areactually collected.

10D.0%-

90.0%-

80.0% I|I__

50.0%- / \

40.0% -.. ~ ;*~

30.0% -

20.0% -

70.0%

60.0%

1921993 1994 1995 1996 1997 1998

Chart S. ELECTTROGAZ Brakownrca losse (Electrciy and Water)Sk

50.0%70.0%

30.0%

20.0%

10.0%

0.0%

1993 1994 1995 1996 1997 1998

Chart 6: ELECTROGAZ Commercial losses (Electricity and Water)

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17. Financial performance: Poor performance in the above two areas as illustrated in chart 7 arecombining to substantially weaken the overall financial position of the company. Electrogaz has registeredover $100 million in cumulative operating losses over the 1995-98 period. The firm carries approximately$105 million in long term foreign currency denominated debt, which it is presently not able to service.Cash flow in the company is highly negative, thereby impeding the company's ability to self-finance newinvestments or to remedy many of the inefficiencies mentioned above. Further, the absence of true costaccounting prohibits the firm from developing a clear picture of its true operating cost structure. TheGovernment is servicing Electrogaz debt and provides additional funding for expansion and densification ofthe networks.

100%

0%A

-100%

-200%-

-300%

-400%

-500%X G e o X o C_ m C0 t- CD

(0 0 0> go 0 0ot 0 a X0 X X

-+ t Operating Margin *- Net Operating Margin - Excluding Extraordinary Losses

Chart 7: ELECTROGAZ: Historical Net Operating Income

18. The prospect for developing three distinct and commercially viable businesses for electricity, waterand gas was assessed by the consultants . Based on the results of the technical, commercial and financialanalysis conducted in the Diagnostic Study, Electrogaz is in very poor condition and cannot be separateduntil significant improvements are made. Splitting the company into three entities at this time wouldjeopardize the company's ability to become financially solvent in the future, and could further erode thelevel and quality of service, particularly in the electricity and water sectors. Development of gas sectoroperations would be undertaken outside of the proposed new single corporate entity for Electrogaz, whichwould focus on the provision of electricity and water services.

19. Achieving the desired improvements and the Government of Rwanda's objectives will requiresubstantial new investments for the electricity and water sectors. It is estimated that rehabilitating andexpanding the electricity network, establishing the needed level of new connections and improving servicewill require approximately US$164 million in new investment over the next ten years. Similarimprovements on the water side will require an additional US$50 million in investment. Aside frominvestments to improve the infiastructure of the networks, a range of operational problems must beconfronted in the very near term in order to improve the company's financial position.

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C.3. Strategic choice for ELECTROGAZ restructuring

C.3.1. Analysis of Restructuring Alternatives

20. Structure of the company. As alluded to above, the Diagnostic Study resulted in arecommendation to keep the company as a single corporate entity due to poor historical performance. Asone entity, Electrogaz would be in a position to capitalize on economies of scale - considering the small sizeof each individual market - for common services such as billing and collection. The company would thenexpect greater opportunities to improve financial perfonnance and to provide better services as one entityand therefore, the Governnent decided that water and electricity services be kept together, and that the gassector be developed outside of Electrogaz.

21. The full range of restructuring alternatives available to the Government were evaluated against theestablished objectives for the company. Those include service agreement, management contract, concessioncontract, and sale/divestiture. The diagnostic analysis confimed that the creation of three companieswould not advance the Government's stated objectives, particularly with respect to financial solvency. Thediagnostic report confirmed that the highest achievable level of private sector participation should besought to ensure that major managerial and operational improvements are achieved.

C.3.2. Strategic Choice

22. The Government has chosen an institutional model that will involve the private sector in theoperations, management, rehabilitation, development and expansion of water and electric power services.As indicated above, this transfer will be carried out in two phases as indicated earlier.

- In the first phase - a five-year Management contract - the management of Electrogaz will betansfefred to a private company that will have full autonomy to caffy-out Electrogaz current activities.During such period it is expected that Electrogaz technical and fnancial targets will be fully restored.

* In the second phase immediately following completion of the management contract, a greater rolefor the private sector is contemplated particularly in terms of significant financing the development ofthe infrastructures.

* During the management contract phase, Electrogaz exclusivity to transport and to distributeelectricity/water within its current geographical perimeter will be maintained. New generatingcompanies will therefore sell their outputs to Electrogaz under transparent rules and regulations to bedeveloped and approved by the Government and enforced by the Multi-sector Regulatory authority.

* Electricity and water tariffs will be set and periodically revised by the Government and will coverthe full costs of providing electricity/water to the various segments of the customer base. Periodicreviews of tariffs as well as assessment of tariffs adjustments requested by the operators will be carriedout by the Multi-sector Regulatory Authority. The main costs to be included in the tariffs are:operation and maintenance costs, fuel costs, costs of electricity purchases (for electricity services),depreciation and interest charges, regulatory fees, rural electrification fee (for electricity services), etc.Such tariffs should also allow the operators/investors to reach the industry generally accepted fmancialtargets. The Government's tariff policy will also allow it to account for social objectives while ensuringthe financial viability of the electricity sector.

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C.3.3. Financial Analysis: restructuring choice

23. Financial Analysis was carried out for the proposed restructuring package for ELECTROGAZ.Two possible restructuring scenarios have been considered. Both are very ambitious in terms of thetargeted operational, technical, and fmancial improvements. However, without these improvements thevery existence of the enterprise may be threatened. The financial analysis was based on the followingassumptions:

"Base Case"* Technical losses are reduced to 12 percent in the electric power sector and 25 percent in the

water sector;* Commercial losses are reduced to 2 percent in the electric power sector and 5 percent in water;* Productivity, measured as connections per employee increases from 51 to 150 in electric power

and from 38 to 75 in water;* Electric power sales grow from 140 gWh to 348 gWh. Water sales grow from 7.5 million

cubic meters to 17 million cubic meters. Much of the initial growth in supply is achievedthrough loss reduction;

* Power connections grow from 43 thousand to 164 thousand; water connections grow from 25thousand to 62 thousand;

* No tariff increase for the electricity and water sectors, at least for the 2 first years until a clearstructure is established based on more reliable financial information.

* No debt relief plan for ELECTROGAZ

"Optimized Case"

Under this case, all of the above reforms are made. In addition:

* Existing debt is reduced by 75% in 2001* New loans are secured with more favorable terms (an average of 5.25 percent interest rate

versus 8 percent with a term of 25 versus 17 years).

Both scenarios are presented below and it has been agreed that the governnent will pursue the reformsrequired for the "optimized" results to be achieved.

Projected Financial Performance of ElectrogazUnder Base and Optimized Cases

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Op vg kn=an& Cash FbN- aeCae OPe&r*g mn&ah 1CW-OP&1 3e

zoo 1000

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(10OD) (4X

. -BmCae n h=m -. awCawCash06o] . q d p9 * C

C.3.4. Key assumptions of the restructuring choice

24. Debt relief is one of the essential elements of the reform package (see assumptions of the base case)currently considered by the Government. The debt situation of ELECTROGAZ is one of the mostimportant aspects affecting the long tern commercial viability of the company. According to audited 1998fnancial statements, the company is currently carrying $105 million of long term debt on its books.Interest payments on this existing debt amount to approximately $3.5 million per year over the 1998-99period. In view of the restructuring of the company, the Government has agreed to forgive 38%, orapproximately $40 million of ELECTROGAZ long term debt. The Government has also stated that it willforgive 100% of the debt that has been on-lent to ELECTROGAZ from the Ministry of Finance which hasbeen the subject of the debt forgiveness from Rwanda's primarily bilateral and multilateral donors. It isanticipated that about 75% will be written-off. The Government, assisted by international experts, isworking on the implementation of a financial restructuring of ELECTROGAZ.

25. Current tariff for electricity (US$ 0.13/kWh) are high compared to the sub-Saharan standardswhile water tariffs are low (US$0.6/M3). Because of this situation and as there is no reliable financialdata, it was agreed that no increase of tariff should be contemplated at least during the first two-years ofthe management contract. However, provisions will be made to allow the Government to make the revisionof the current tariffs once sound analysis of the tariff structure for both services will be done by the privateoperator and agreed upon with the Government. As indicated above, tariff levels must be set along theprinciples outlined in para. 23 and should allow positive cash flow for the payment of a private operator.

26. The financing of new investment (rehabilitation, extension and new generation) is a key element forthe successful implementation of the management contract. Given limited supply and access to electricityand water services, significant new investment is required to improve network reliability, reduce losses, andexpand the number of connections for customers. Sector experts have estimated that an overall investmentlevel of approximately $200 million over the next 10 years is required. Given the fnancial condition of thecompany, favorable terms for investment loans should be sought. Such assumptions were included in bothscenarios of the restructured option.

27. The limited supply of electric power generation in Rwanda is an issue of serious concern that needsto be addressed. Given Electrogaz's financial condition and limited ability to take on new debt, however, it

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is recommended that additional generating capacity be developed separately, through an Independent PowerProducer agreement or a Build-Own-Operate scheme. Lake Kivu methane gas extraction offers thepotential to increase power generation, but it still requires technical and financial studies to interestindependent power producers (IPPs).

D. Structure and arrangement of the management contract

28. the management contract is a performance-based contract and therefore, it includes twocomponents: a fixed payment, provided regardless of the private operator performance as long as allcontractual terms are met; a variable component (performance-driven) based on the volumes of electricityand water metered and penalties to be applied if certain agreed-upon performance indicators are not met.

29. As indicated above, the payment formula to the private operator will be established along thefollowing elements:

Term Explanation of term

FPn Sum of fixed payments over the course of the contract to decrease over time annually in current dollar terms in order to shift thesource of the operatoes revenues away from fixed payment to a perfomiance-driven variable payment.

VPn VP will be determined based on volume of electricity and water delivered; the volumes vAill be based on certain baseline to benegotiated and agreed upon between the Government and the private operator.

P1 n P1, is the penalty to be applied if commercial loss targets are not met. P1 will be calculated on the basis of certain baseline to benegotiated and agreed upon between the Govemrnment and the private operator.

P2n P2, is applicable only if the specified service quality improvements are not met. P2 will be calculated on the basis of certainbaseline to be negotiated and agreed upon between the Govemrnent and the private operator. Quality service performanceindicators include: (a) for the electricity sedor: ( technical indicators: scheduled outages, unscheduled outages, (ii) operationalindicators: continuity of service, Qi3 commercial indicators: time required to make a new connection after initial service request; (b)for the water sector: (i) technical indicators: pipe breakage; (i) operational indicators: time required to make a new connection afterinitial service request. The initial basetne was based on the best estimate of the existing information of ELECTROGAZ but it isunderstood that the management operator and the Government of Rwanda, upon completion of the initial baseline assessment,will reassess and jointly agree on the appropriate indicators and targets to be used to assess quality of service.

Op Total operator payment

E. Regulatory Framework

30. A new legal and institutional framework is a key component of the Electrogaz reform program.Establishing a regulatory framework for the oversight of the water and electric power sectors is a criticalaspect of the reform program. A well-designed regulatory framework brings direct benefits to a country'seconomy by promoting the fair, efficient use of resources and delivery of services. In addition, such aframework may also be a key component of other economic growth programs in Rwanda:

- 85 -

* Private investors usually demand that an open, transparent regulatory regime be in place beforethey are willing to invest in a government-owned utility or utility sector.

* Potential lenders such as the World Bank often require that an institutional framework including anindependent regulator be established before lending money for the rehabilitation or development ofutility infrastructure.

* A regulatory framework meeting certain world standards is often a requirement for entry intomulti-national trade organizations. For example, The World Trade Organization has made italmost mandatory that a country have an "independent regulatory body" for oversight of certainsectors before being allowed to join the WTO.

Multi-SectorRegulatory BodyProposed Organiz at bnal Chart

. e g f E E E

.g .

, ~

31. The hallmark of a modemn regulatory framework is an independent regulatory body. Given thelimited resources (including technical and economic expertise) available in Rwanda, the Government optedfor one institution that would oversee multiple sectors, including telecommunications, water and electricpower. A process to establish an independent regulator is currently underway; the draft law establishingsuch an entity is being examined by the Parliament. Its enactment is an effectiveness condition for thisproject. The draft law lays down the principles for establishing such a body, its functions, and its structureand organization. A sample organizational chart for the regulator is provided at the left.

32. The independent regulator will carry the following function:

Protects public from monopoly pricing* Monitors safety, quality and levels of service* Sets targets for service improvements* Ensures interoperability of networks* Promotes competition among sector participants* Protects investor interests

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* Protects consumers

The primary functions of the regulator include: (i) Licensing and Concessions, (ii) Tariffs, (iii) Standards;(iv) Monitoring, (v) Policy Development, (vi) Compliance/Enforcement, (vii) Dispute Resolution

33. Further, in order to make the appropriate provision for regulation of the water and electric powersectors, the old sector-specific statutes must be revised or replaced. It is assumed that much of thesubstantive content of the 1976 law on Electrogaz operations would actually be mooted by the passage ofmodem water and electnc power laws. The Government is now in the process of drafting and enactment oftwo laws that together would replace and repeal the old water law, the old electric power law, and the 1976law on Electrogaz operations. These laws also would leave in place but substantially modify the 1975 lawcreating Electrogaz. The first law would contain the authority and specific terms and conditions underwhich Electrogaz could be concessioned. The second law would contain the substantive rules applicable inthe water and electric power sectors and delegate regulatory authority to the multi sector body.

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