Philippines - Third Small and Medium Industries Development Project

Document of The World Bank FOR OFFICIAL USE ONLY Report No. 3838-PH PHILIPPINES STAFF APPRAISAL REPORT ON THE THIRD SMALL AND MEDIUM INDUSTRIES DEVELOPMENT PROJECT May 6, 1982 East Asia and Pacific Projects Department Industrial Development and Finance Division This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  CURRENCY EQUIVALENTS US$1.0 = *P 8.10 P 1.00 = US$0.123 P 1 million = US$123,457 P 1 billion = US$123 million ABBREVIATIONS BAAD - Branches and Agencies Department (of DBP) BOI - Board of Investments BSMI - Bureau of Small and Medium Industries (of MTI) CB - Central Bank of the Philippines CIGLF - Cottage Industry Guarantee Loan Fund DAP - Development Academy of the Philippines DBI - Development Banking Institute (of DBP) DBP - Development Bank of the Philippines DCP - Design Center of the Philippines DDRB - Department of Development and Rural Banks (of DBP) IGLF - Industrial Guarantee and Loan Fund KKK - Kilusang Kabuhayan at Kaunlaran (National Livelihood Program) MIRDC - Metals Industry Research and Development Centre MOI - Ministry of Industry MTI - Ministry of Trade and Industry NACIDA - National Cottage Industries Development Authority NBFI - Nonbank Financial Intermediaries NCSO - National Census and Statistical Office NDC - National Development Corporation NEA - National Electrification Administration NEDA - National Economic and Development Authority PCR - Project Completion Report PDBs - Private Development Banks PFS - Project Feasibility Study PNB - Philippine National Bank PPG - Program Planning Group (of DBP) SAL - Structural Adjustment Loan SBAC/MASICAP - Small Business Advisory Centers/Medium and Small Industries Coordinated Action Program SFS - Special Financing Schemes SMI - Small and Medium Industries SMILE - Small and Medium Industry Lending Department (of DBP) UPISSI - University of the Philippines Institute for Small-Scale Industries VCC - Venture Capital Corporations FISCAL YEAR Government: January I to December 31 DBP : January 1 to December 31 IGLF : January 1 to December 31  FOR OFFICIAL USE ONLY PHILIPPINES STAFF APPRAISAL REPORT ON THE THIRD SMALL AND MEDIUM INDUSTRIES DEVELOPMENT PROJECT Table of Contents Page No. 1. SECTORAL BACKGROUND . . . . . . . . . . . . . . . . . . . . . 1 The Industrial Sector. . . . . . . . . . . . . . . . . . . . 1 The Small and Medium Industries (SMI) Sector . . . . . . . . 1 SMI Development Strategy and Policies. . . . . . . . . . . . 4 SMI Technical Assistance Programs . . . . . . . . . . . . . 7 SMI Financial Assistance Programs. . . . . . . . . . . . . . 10 Interagency Coordination of SMI Policy and Programs. . . . . 11 2. BANK LENDING STRATEGY FOR THE INDUSTRIAL AND SMI SECTORS . . . 12 Bank Lending Strategy for the Industrial Sector . . . . . . 12 Bank Lending Strategy for the SMI Sector . . . . . . . . . . 13 3. THE PROJECT . . . . . . . . . . . . . . . . . . . . . . . . 15 Project Objectives and Description . . . . . . . . . . . . . 15 Project Cost and Financing .... . . . . . . . . . . . . . 16 4. INSTITUTIONAL ARRANGEMENTS FOR PROJECT IMPLEMENTATION . . . . 20 A. Development Bank of the Philippines (DBP) . . . . . . . 20 1. DBP's Direct SMI Lending (SMILE) . . . . . . . . . . 21 2. Private Development Banks (PDBs) . . . . . . . . . . 27 3. Development Banking Institute (DBI) . . . . . . . . 32 B. Industrial Guarantee and Loan Fund (IGLF) . . . . . . . 33 C. Technical Assistance Component . . . . . . . . . . . . . 37 1. SBAC/MASICAP Subcomponent . . . . . . . . . . . . . 38 2. Pilot Project Subcomponent . . . . . . . . . . . . 39 3. Studies Subcomponent . . . . . . . . . . . . . . . . 40 This report was prepared by Ms. Khambata, McCollom, White, Bendokat and Messrs. Medhora, Goel, Poldermans (Consultant) following a field appraisal of the project in October/November 1980. This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  - ii - 5. THE PROPOSED BANK LOAN . . . . . . . . . . . . . . . . . . . . 41 Benefits and Risks . . . . . . . . . . . . . . . . . . . . . 41 Features of the Loan . . . . . . . . . . . . . . . . . . . 44 Agreements and Understandings Reached at Negotiations . . . 49 LIST OF ANNEXES 1. Ministry of Trade and Industry - Small and Medium Scale Industry Development in the Philippines: Policy and Strategy for the 1980s. 2. Development Bank of the Philippines. Attachment 1 - Development Bank of the Philippines Proposed Lending Strategy for 1982-1986 for Cottage, Small and Medium Industries (draft). Attachment 2 - Program of Action for Improvements in DBP's SMI Operations. Supporting Tables T-1 Special Financing Schemes T-2 Summary of Operations of SMI Loans, 1976-1981 T-3 DBP's 15 Most Active Branches in SMI Operations as of December 31, 1981 T-4 Characteristics of SMI Loans, 1976-1981 T-5 Trends of Arrears of Home Industry and SMI Loans, 1976-1981 T-6 Analysis of Home Industry and SMI Loan Portfolio as of December 31, 1981 3. Private Development Banks Supporting Tables T-1 List of PDBs as of December 31, 1981 T-2 Total Outstanding Loans Granted by the PDBs as of December 31, 1981 T-3 DBP's Financial Assistance to the PDBs 1977-81 T-4 Important Features of Selected PDBs as of December 31, 1981 Chart 1 - DDRB's Organization Chart 4. Development Banking Institute 1982 Training Schedule 5. Industrial Guarantee and Loan Fund Attachment 1 - IGLF's Lending Strategy for 1982-86 (draft)  - iii - Supporting Tables T-1 Accredited Commercial Banks and Nonbank Financial Intermediaries and Development Banks as of December 31, 1981 T-2 Summary of Operations, 1976-1981 T-3 Summary of Operations, July 1, 1976-1981 T-4 Characteristics of Loan Approvals by Sector, Region, Size, Purpose and Maturity, July 1, 1976-1981 T-5 Summarized Balance Sheets, 1974-1981 T-6 Summarized Income Statements, 1974-1981 T-7 Analysis of Arrears of IGLF Portfolio as of December 31, 1981 T-8 Analysis of Arrears Between End-Users and Financial Institutions as of December 31, 1981 T-9 Trend of Arrears between Participating Insitutions and End-Users of IGLF, 1976-1981 Chart 1 -- IGLF's Organization Chart 6. Ministry of Trade and Industry Attachment 1 - Technical Assistance Provided to Four Key SMI Sub- sectors under the Project Supportinig Tables T-1 Regional Priority SMIs as Established by Regional Industry Studies T-2 Summary of Proposed Training for BSMI, SBAC/MASICAP Staff and SBAC/MASICAP Clients T-3 Identified Pilot Projects T-4 Pipeline of Pilot Projects 7. Proposed Bank Loan Estimated Commitment and Disbursement Schedule for the Loan 8. Project File Selected Data and Documents Available in the Project File  PHILIPPINES STAFF APPRAISAL REPORT ON THE THIRD SMALL AND MEDIUM INDUSTRIES DEVELOPMENT PROJECT I. SECTORAL BACKGROUND The Industrial Sector 1.01 During the 1970s, Philippine economic performance improved, raising the trend GNP growth rate to 6% at the end of the decade; the ratio of fixed investments to GNP rose from 16% to 24%. While private and public investment has risen to acceptable levels, the accompanying expansion of the economy's real output has been relatively low. The low efficiency and labor intensity of investment have, in part, been caused by the distortive effects of past trade, industrial and financial policies on the allocation of capital. In 1979, the manufacturing sector accounted for 25% of GDP, 30% of fixed investment and 12% of total employment. The "unorganized" manufacturing sector (those establishments employing less than 10 workers) accounts for nearly two-thirds of the manufacturing work force but produces less than 5% of manufacturing value-added. Conversely, the "organized" manufacturing sector produces most of the value-added but provides only limited employment. As a result of an industralization strategy based on import substitution, more than 80% of total manufacturing output is oriented towards the domestic market, of which consumer goods constitute over 50%. The introduction of export promotion measures in the early 1970s led to extremely rapid growth in exports of nontraditional manufactures which rose from about US$50 million in 1970 to US$2.1 billion in 1980. Nontraditional manufactures now account for one-third of the country's total exports. However, the export expansion has been concentrated on a few items and backward linkages with the rest of the economy have been limited due to the high cost and low quality of domestic inputs. Consequently, nontraditional manufacturing export industries have developed as an outward-looking enclave in an otherwise heavily protected economy. The Government has recently taken steps to address these structural problems (para. 1.09). The Small and Medium Industries (SMI) Sector /1 1.02 An asset size definition is chiefly used for determining the eligibility of enterprises for various SMI assistance programs. In 1981, the Ministry of Trade and Industry (MTI), with the concurrence of the Development Bank of the Philippines (DBP) and the Industrial Guarantee and Loan Fund (IGLF), revised the asset-based SMI definition to reflect inflation /1 For this project and report unless otherwise specified, SMI refers to cottage as well as small- and medium-scale industries.  -2- and the changing structure of industry./l According to the new definition, manufacturing and manufacturing-related commercial and service enterprises with total assets at time of loan application not exceeding P 250,000 (US$30,860) are termed cottage; those with assets exceeding P 250,000 but not exceeding P 2.5 million (US$30,860-$308,600) are small; and those with assets exceeding P 2.5 million but not exceeding P 10.0 million (US$308,600-$1.2 million) are medium. To facilitate collection of statistical information, the National Census and Statistics Office (NCSO) has classified industrial establishments according to the number of employees: establishments employing less than 10 workers are cottage industries; 10-99 workers are small industries; and 100-199 workers are medium industries. 1.03 Role and Characteristics of Cottage Industries. As of 1977,12 about 75% or 59,000 manufacturing establishments were cottage industries. Over the period 1967-1975, it is estimated that in terms of number of establishments, the cottage industry sector grew at an average annual rate of 7% and was the fastest growing source of employment in the Philippines. Cottage industries currently employ around 900,000 workers (more than five times the employment generated by small and medium factory-based operations). While cottage industries are labor intensive, they have relatively low productivity, contributing only 2.5% to gross value-added in 1975. In terms of sectoral distribution, cottage industries tend to operate in activities where they have an advantage in terms of proximity to local markets such as bakeries, tailoring, furniture, and fabricated materials. 1.04 Role and Characteristics of Small and Medium Industries. In 1975, the year for which most recent data are available, small-scale firms (10-99 workers) accounted for 73% of the total number of firms in the modern manufac- turing sector,/3 18% of employment and 10% of manufacturing value-added. Small and medium industries (10-199 workers) together accounted for 85% of the total number of firms, 29% of the labor force, and contributed 30% to gross value-added in the modern manufacturing sector. The most recent avail- able data (1974) indicate that small firms are more labor intensive and about as capital efficient as large firms: the amount of capital employed per unit /1 The old asset-based definition of industrial establishments was formu- lated by the Ministry of Industry in 1974 and classified enterprises with assets below P 100,000 as cottage, P 100,000-P 1.0 million as small, P 1.0 million-? 4.0 million as medium. /2 The latest complete set of SMI data is based on a 1975 Annual Survey of Manufacturers. At the request of MTI, NCSO has been able to update to 1977, a few key SMI variables. /3 The modern manufacturing sector does not include cottage industries.  - 3 - of labor in small firms (P 11,800 per worker) was 45% of that for large firms (P 26,200 per worker), while the capital output ratio of large firms was 1.5 compared to 1.4 for small and medium firms. 1.05 In terms of size distribution of industry, a survey undertaken by the Ministry of Industry (MOI), based on 1975 data, showed that the fre- quency distribution was not the expected pyramid consisting of a large number of small enterprises followed by a smaller number of medium enter- prises and an even smaller number of large enterprises. Instead, it was found that of the total number of establishments surveyed, there were a very large number of cottage (91%) and a few small (6.9%) and large (1.6%) enter- prises, but that the medium enterprise tier (0.5%) was underdeveloped. While this might be the result of arbitrary statistical definitions which cause problems in distinguishing medium from small industry, it could also be because Government tinanced programs have, for the most part, neglected medium-scale industry. To encourage the growth and development of medium industries, these industries were made eligible for IGLF financing under the Bank's last SMI5 loan (Loan 1727-PH, approved in 1979). 1.06 Philippine SIII products (principally embroidery, bamboo and rattan crafts and needlecrafts) valued at US$555.8 million were ranked as the third most important export item in 1980 atter sugar and coconut oil exports. Philippine handicraft products, which should be distinguished from cottage products as the handicrafts are generally produced by small and medium establishments, increased in export value from US$133 million in 1978 to US$154 million in 1980 to account for 3% of total exports. While some SMI1 have been able to break into the export market, the vast majority have been unable to do so although their output has export potential. For this reason, the Government is providing SMI with marketing assistance and is actively promoting subcontracting. Interview data have indicated that there is a distinct tendency for large firms to subcontract to medium-scale tirms who in turn subcontract to small-scale tirms. Subcontracting is a means of both developing medium industries and promoting exports. Hence, under this project a study will be undertaken to identify areas/industries in which subcontract- ing should be tostered and the incentive structure necessary for doing so (para. 4.51). 1.07 Pattern of SIIl Growth. In the mid-1960s, there was rapid growth in SMI, measured in terms of employment and value-added. During 1968-71, how- ever, the employment and value-added generated by small-scale industry actually declined at an average annual rate of 6.5% and 2.7% respectively, while medium-scale industry during this period experienced modest growth. From 1971-74, more balanced growth was achieved between SLIT and large industry, resulting in an overall average annual growth rate for the manufacturing sector ot 7.9%. Based on 1975 data, it was found that 73% of  - 4 - all small-scale industry establishments and 42% of all medium-scale industries were concentrated in four key subsectors: food (excluding tobacco and beverages), garments (excluding textiles and footwear), wood and furniture, and metal working./l 1.08 With respect to regional distribution, manufacturing activity in the Philippines has always been concentrated in the Metro Manila area and the adjoining provinces of Central and Southern Luzon. SMI tend to concentrate in or near urban areas where they are close to sources of raw materials, major markets, skilled labor and supporting infrastructure. In 1975, an estimated 76% of SMI establishments were located in and around Metro Manila;/2 Metro Manila and its satellite regions were responsible for 78% of employment and 56% of value-added generated by all SMI; Region VI and Region VII which include Cebu City, a major trading center, and the province of Negros Occidental, "the sugar bowl" of the Philippines, accounted for an additional 14% of the nation's SMI in 1975. While no official data for a later period are available, lending by Government financial institutions to SMI appears to indicate that there has been some reduction in the concentration of SMI enterprises around Metro Manila. The Government has recently introduced measures to promote more geographically balanced industrial growth. To promote the less developed areas, industrial estates and export processing zones providing improved infrastructure and support services have been established. Government financial institutions are also required to give priority to projects outside the urban centers and to use at least 75% of bank deposits generated from a province for projects in that province. SMI Development Strategy and Policies 1.09 Overall Industrial Development Strategy and Recent Reforms. The major industrial objectives of the 1978-82 Five-Year Development Plan are to: promote small-scale enterprises, particularly in the less developed areas; generate employment opportunities; increase the processing of domestic raw /1 The breakdown between subsectors and size of establishments is: Cottage and small scale Medium scale Food manufacturing 31% 14% Garment manufacturing 24% 5% Wood and furniture manufacturing 11% 11% Metal working 7% 12% Total 73% 42% /2 Metro Manila alone accounted for an estimated 63% of the number of SMI establishments which contributed 65% of SMI employment and 51% of value- added.  -5- materials and the export of nontraditional manufactures; promote the nation- wide livelihood program; and implement selected large-scale projects' Broadly, the Government seeks to develop an efficient and competitive indus- trial structure based on the country's comparative advantage with respect to labor costs and availability of raw materials. To implement its industrial objectives, the Government recently outlined its industrialization strategy in conjunction with a phased policy reform program to be implemented over a five year period./1 This program aims to correct the import substitution and capital-intensive biases of existing industrial and trade policies. The first phase, which is already being implemented by the Government, consists of a major tariff reform/trade liberalization program and export promotion measures. The second phase, currently under preparation, will cover invest- ment incentives and their administration and industrial restructuring and subsector programming. To support the Government in its first phase of policy reform, the Bank approved in September 1980, a US$200 million Structural Adjustment Loan (SAL I). Support of the second phase of reforms by the Bank is being considered under a proposed SAL II, currently under preparation. In 1980-81 the Government introduced a comprehensive set of banking and financial sector reforms aimed at broadening the scope of operations of each category of financial institution. In addition, the Government has actively promoted termi lending through revisions in its monetary policy and the introduction of fiscal incentives. These reforms were supported by the Bank's Industrial Finance Project (Loan 1984-PH), approved in May 1981./2 1.10 Policy Environment for SMI Development. The above mentioned industrial/financial sector reforms provide a policy framework conducive to the growth and development of SMI. The trade policy reforms implemented under the first phase of the Government's industrial policy reforms are expected to have a positive impact on the development of the SMI sector in a number of ways. First, the reduction in tariffs will force local industries to be more cost conscious which would be conducive to promoting subcontracting, largely involving SMI. Simultaneously, a reduction in tariffs on the inputs of SMI will make them more competitive and should place them in a better position to service large industry. Second, lower tariff protection would enable cheaper and higher quality raw materials to be imported which would benefit specific subsectors in which SMI predominate, such as garments and leather. Third, a reduction in the capital intensity of investment is expected to generate employment, thus stimulating demand for consumer goods thereby benefitting SMI which, in large part, produce for the local market. The recent improvements in the export regime in the form of increased fiscal incentives, provision of financing, simplified export/import procedures and expanded access to /1 Further background and details regarding these reforms and their imple- mentation may be found in the President's Report entitled, "Structural Adjustment Loan to the Republic of the Philippines" (Report No. P2872-PH, dated August 21, 1980). /2 The Industrial Finance Project (Report No. 3331-PH), approved by the Bank's Board of Executive Directors on May 7, 1981.  - 6 - bonded manufacturing warehouses could provide the necessary impetus and infrastructure support to encourage SMI to break into the export market. The recently introduced financial sector reforms are also likely to benefit SMI. First, the removal of interest rate ceilings would enable private financial institutions to assess a charge for the transaction costs and risk associated with their lending which would encourage them to lend to SMI from their own resources. Second, the greater banking authority provided to thrift banks, which are largely located in rural areas, would broaden the access to credit for SMI. 1.11 Under the second phase of the Government's industrial policy reforms, the Board of Investments (BOI) would undertake a major reform of the industrial incentive system. The new system would compensate more directly and fully for market imperfections that have hitherto inhibited export production, employment generation and regional dispersal of industry. Special features in the administration of the incentives system would be introduced to make the investment incentive system more accessible to smaller firms and those located outside Metro Manila. Also, BOI and MTI would introduce the concept of sector development programs for policy design at the industry level. These programs would outline a strategy for the development of the industrial subsector over time and identify subsector specific institutional and policy constraints that require remedial and supporting actions. This is likely to be particularly beneficial to SMI which tend to concentrate in a few key industrial subsectors (para. 1.07). 1.12 SMI Sector Policy and Development Strategy. The Government views SMI as important in achieving its industrial development objectives. First, being labor intensive, SMI are in a position to create employment at a low cost-per-job and simultaneously bring about a more equitable distribution of income. Second, SPI are an important element in the Government's countryside development program as SMI generally produce for local markets and are less dependent on infrastructure than large industry. Third, SMI often utilize indigenous resources and are becoming increasingly export oriented. Given the importance of SMI in the industrial development of the country, the Govern- ment, through MTI, has issued its SMI Policy and Strategy Paper for the 1980s which reaffirms Government commitment to the development and promotion of the SMI sector and represents the first comprehensive industrial strategy statement issued by the Government on the SMI sector (Annex 1). Implement- ation of this Strategy Statement would be reviewed periodically in consult- ation with the Bank. 1.13 The following are some of the more important instruments contained in the SMI Policy and Strategy Paper to achieve the objectives listed above: (a) Geographical dispersion of SMI: Geographical dispersion of SMI will be promoted through: streamlining and adding special fea- tures to the incentive system which would make it more accessible to smaller firms and those located outside Metro Manila; regional industry studies; increasing the regional focus of SMI assistance programs and institutions; strengthening regional investment incentives; and establishing regionally dispersed industrial estates.  - 7 - (b) Subsector development planning: MTI will undertake both nation- wide and region-specific SMI subsector studies to identify subsector-wide and region-specific problems affecting industry performance. These will serve as the basis for designing SMI assistance programs through relevant agencies. (c) Access to financial resources: To broaden the scope of financing available to SMI, the Government will: support venture capital corporations (VCC) to provide equity to SMI; continue to provide guarantee schemes to reduce the collateral requirements for SMI borrowers; adjust, over time, interest rates for SMI lending to be in line with prevailing market rates to encourage greater partici- pation of private financial institutions thereby increasing the available channels of SMI lending, and develop additional financing schemes for the provision of working capital. (d) Strengthening technical assistance: The technical assistance agencies servicing SMI will cooperate to expand and strengthen the following services: business counselling for individual firms or industry groups and the preparation of SMI project feasibility stuadies. Technology delivery and quality control assistance will be improved with the introduction of a referral system to be oper- ated by SBAC/MASICAP /I which is the regional extension arm of MTI. (e) Development of technologies and products: The Government will increase the emphasis of technological research oriented towards S5MI products and production processes. To this end, SBAC/MASICAP will help establish pilot projects that apply and test the results of these research activities. (f) Development of common services/facilities for SMI: The Government will assist SMI in identifying and establishing services that might be provided more economically through common facilities. While the Government is willing to participate in the establishment and initial operation of these facilities, they are expected to be taken over ultimately by private investors or SMI industry associations. SMI Technical Assistance Programs 1.14 The Philippines has a large number of public and private institu- tions and agencies offering a wide range of managerial, technical, training, marketing and financial assistance to SMIs. Some of the more important programs are discussed below. lI Small Business Advisory Centers (SBAC)/Medium and Small ndustries Coordinated Action Program (MASICAP).  1.15 The SBAC/MASICAP Program. While there is a vast number of technical agencies servicing the SMI sector, the SBAC/MASICAP program is the only one with a broad outreach and a presence in the regions for the delivery of technical assistance to SMI. Both the SBAC and MASICAP programs were established in 1974 and were meant to be complementary; the MASICAP program was to assist SMI entrepreneurs in preparing project feasibility studies for institutional financing while the SBACs were to provide SMI entrepreneurs with assistance to overcome operational problems. Over time, the SBAC and MASICAP programs experienced considerable overlap in clients, services and physical facilities and it was decided to merge the programs in July 1980. The merger of the Ministries of Trade and Industries in July 1981 resulted in the SBAC/MASICAP program taking over the marketing functions of the Trade Assistance Centers previously administered by the Ministry of Trade. MTI's Bureau of Small and Medium Industries (BSMI), with its staff of 53 (year-end 1981), now serves as the Manila-based Head Office of the SBAC/MASICAP Program. 1.16 The main functions of the SBAC/MASICAP program to date are: (a) preparing feasibility studies and loan applications; (b) counselling entrepreneurs on a range of problems; (c) operating as a referral service between entrepreneurs and other technical assistance agencies; and (d) under- taking industry level activities such as group counselling, preparation of industry studies and assistance in the formation of industry associations. The move towards industry level assistance is of recent origin and is a clear departure from SBAC/MASICAP's traditional operations. This type of assistance is being encouraged as many problems are found to be industry-wide rather than firm-specific. With the introduction of the "Kilusang Kabuhayan at Kaunlaran" (KKK) program (para. 1.22) in late 1981, SBAC/MASICAP staff have been required to prepare and implement projects eligible for KKK funding. At year-end 1981, SBAC/MASICAP had a staff of 277 which is expected to increase to about 600 by year-end 1985. The present and projected staffing appears to be adequate to carry out SBAC/MASICAP's regular but expanding operations and to provide limited assistance to the KKK program. MTI is also currently considering the functional integration of the SBAC/MASICAP program with other technical assistance programs. The Government has agreed to provide BSMI and the SBAC/MASICAP program with the staff and budgetary resources necessary to continue to carry out their requirements under the project, and to consult with the Bank prior to introducing any material changes affecting the administration of BSMI and the SBAC/MASICAP program. 1.17 Under the Bank's first SMI loan (Loan 1120-PH, approved in 1975), US$0.7 million was provided for establishing regional SBAC offices which enabled SBAC to develop a physical presence in each of the country's 12 regions. Under the second SMI loan (Loan 1727-PH, approved in 1979), US$0.5 million was allocated to MASICAP to strengthen the staffing of MASICAP,  -9- thereby upgrading the quality of its services to SMI entrepreneurs./1 Performance under the two previous loans has been satisfactory (paras. 2.02- 2.03). 1.18 The SBAC/MASICAP program operated from 12 centers and 35 subcenters with an operating budget for 1981 of P 23.1 million (US$2.9 million). The entrepreneur counselling done by SBAC/MASICAP has increased sharply and currently covers around 250 cases per quarter as against an average of around 70 per quarter during the period 1975-1980. In addition to client counselling, SBAC/MASICAP provides referral and information services and undertakes case studies; 265 such cases were handled in the third quarter of 1981. Over a five-year period, July 1975-June 1980, it was found that a high proportion of SBAC's recommendations had been implemented by its clients. Given its wide regional coverage, the value accorded its advice by clients, and the broadening of its functions from client counselling to industry level activities, SB3AC/MASICAP is a unique regional assistance delivery mechanism worthy of furither support. 1.19 The National Cottage Industries Development Authority (NACIDA). NACIDA, a government agency, was established to organize, promote and provide technical assistance to cottage industries. The NACIDA program was adminis- tered by the Ministry of Trade until it was transferred to MOI in September 1980. Historically, NACIDA (unlike SBAC/MASICAP) had the power to accredit cottage industries to be eligible for fiscal and other benefits (i.e., raw material sourcing, and tax relief). NACIDA staff themselves provide cottage industry entrepreneurs with courses on production technology to upgrade their operations; over the period 1972-80, NACIDA undertook 3,000 training programs or an average of 322 courses per year. The objective of NACIDA's raw materials program is to stabilize the price and supply of raw materials critical to the production of cottage industry manufacturers. NACIDA has also played a leading role in administering financial programs for cottage industries such as the Livelihood Programs of the Ministry of Human Settlements and the recently introduced Cottage Industry Guarantee Loan Fund (CIGLF). NACIDA has also been given the mandate to market cottage industry output, which it is doing by displaying cottage industry products at its display centers. At the end of 1981, NACIDA had a staff of 868 of whom 270 were at head office and 598 in the regions. There is some functional duplication in the operations of NACIDA and SBAC/MASICAP in that they both /1 At the time of the second SMI loan, a significant proportion of MASICAP staff were student volunteers and it was felt MASICAP needed some high quality permanent staff to provide the students with the necessary guidance. MASICAP has now stopped using student volunteers.  - 10 - service cottage industries by providing/arranging training for entrepreneurs and preparing feasibility studies. However, the focus of the two programs differs as, unlike SBAC/MASICAP, NACIDA has a regulatory/administrative role. The MTI has indicated that it is considering changing the focus of the NACIDA program to enable it to play a more active role in identifying cottage industry products with growth potential. In addition, the eventual merger of the SBAC/MASICAP and NACIDA programs is also being considered. Before a merger is brought about, the operations and staffing of NACIDA will have to be reviewed (para. 4.51). 1.20 Technical Institutes. At present there is a series of technical institutes doing specialized product research. Some of the more important of these for SMI are: the Metals Industry Research and Development Center; Forest Products Research and Industries Development Commission; the Food Technology Research Department; the Food and Nutrition Research Institute; and the Design Center of the Philippines. The main weakness of many of these institutes is that they do not have a regional delivery organization which would disseminate their research findings. Under the project, the SBAC/ MASICAP program will utilize the expertise of the technical institutes to upgrade SMI operations by using their facilities and services for entre- preneur training. SMI Financial Assistance Programs 1.21 Traditionally, the major sources of term credit for the SMI sector have been DBP and IGLF which have provided funds at below market rates to the SMI sector. Private Development Banks (PDBs) have also been active in pro- viding credit to cottage arnd srmall-scal2 industries. in addition to these, the Government has recently established several new financing programs to service the SMI sector. 1.22 The KKK Program. The nation-wide development movement called "Kilusang Kabuhayan at Kaunlaran" (KKK) was launched in August 1981; its objective is to transform the country's 39,000 barangays into self-reliant productive units. A distinction must be made between KKK accredited institutions and their projects, and KKKI funded projects. All existing government programs (such as IGLF, CIGLF) have been accredited to the KKK program without the accreditation having in any way changed their fundamental characteristics or providing them with any KKK funds. KKK funded projects, however, are locally initiated economic enterprises which are provided with interest-free and low interest loans (12%). Resource requirements of KKK funded projects and KKK accredited institutions for the next seven years have been estimated at about P 11 billion and an initial capital fund of P 1 billion /1 has been allocated for KKK funded projects from national budgetary resources. The fundamental operating concept behind the KKK program is the /1 Of this P 1 billion, P 300 million will be used for collateral-free, interest-free loans; the balance of the fund will be lent at 12% p.a. through DBP, Land Bank of the Philippines and Philippine National Bank.  - 11 - development of prototype projects for all key economic sectors as a basis tor local community development. Distribution of KKK funds between agriculture, livestock, forestry, housing or SMI projects has not been determined although the initial thrust of the program is directed towards agriculture and forestry. KKK funded projects are likely to have very ditterent characteristics trom projects funded by KKK accredited agencies, some of which would be funded under the proposed project. For the KKK funded program, the major differences are likely to be that: the target groups to be benefitted are cooperatives tormed from poverty groups, such as landless workers, subsistence fishermen, urban slum dwellers and cultural minorities; the projects to be financed would be selected by the Municipal Development Council chaired by the local mayor; and project appraisal and supervision criteria are likely to be less stringent than for projects financed through Bank resources. 1.23 Venture Capital Corporations (VCCs). Most government-assisted tinancing programs for SMI have concentrated on providing SMI with debt financing. In order to broaden the equity base of SMI, the Government in late 1980 decided to promote VCCs. There are currently 15 incorporated VCCs and 3 VCCs in the process of being incorporated. The total paid-in capital of a VCC is P 5 million and the ownership structure is 60% private (com- mercial bank) and 40% Government. The VCCs provide SMI with equity finance which is typically viewed as a 5-year investment with the project sponsor buying back the equity at the end of the period, and quasi-equity, which is essentially short-term transaction financing (2-4 months) whereby inventories for a particular order are financed with over 50% of the profit on the transaction accruing to the VCC. The total volume of business done by VCCs has been estimated at only P 7-8 million (about US$1 million), of which a major part is transaction financing. The major reasons for this low volume of business are difficulties experienced by VCCs in procuring financially viable projects, and the collateral oriented, banker mentality of VCC staff, most of whom are ex-bankers. 1.24 Cottage Industry Guarantee Loan Fund (CIGLF). A loan fund of P 800 million was launched by the Government in March 1981 for the promotion and development of cottage industries. CIGLF loans have a maximum size of P 100,000 (US$12,345) with an interest rate of 12% plus a guarantee fee of 2% for the unsecured portion of the loan. The lead agency in administering the CIGLF program is NACIDA which is responsible for identifying clients and doing the project feasibility studies (PFS). The PFS are then referred to either DBP or Philippine National Bank (PNB) for project review, approvals and disbursiement of tunds. NACIDA is responsible for project supervision. As of December 1981, approximately P 43.6 million (US$5.4 million) had been approved under CIGLF for 800 cottage industries. Interagency Coordination of SMI Policy and Programs 1.25 To coordinate the operations of the various ageno; g s?-vicing the SMI sector, the Government, in 1974, established the Commission (later  - 12 - Council) for SMI. The Council, however, suffered from lack of leadership and funds, as also low level interagency representation and was abolished in the government reorganization of July 1981. In the future, interagency coordination will take a different form. The MTI will take the lead role in SMI policy and development activities as specified in the "SMI Policy and Strategy Paper." An External Affairs Group has already been established within MTI's BSMI and is currently engaged in: (a) establishing bilateral "Memoranda of Agreement"' with some of the key agencies for specific operational activities which were reviewed and found acceptable by the Bank at negotiations; (b) taking the initiative in resolving SMI policy issues with the agencies concerned;/l and (c) gathering and disseminating comprehensive information on assistance programs for SMI./2 Thus far, MTI's new multipronged approach seems to have made a good beginning in improving coordination between some of the more important agencies serving the SMI sector. 1.26 At present, there is a vast number of agencies servicing the SMI sector, most of which are totally unaware of programs offered by other agencies, resulting in considerable duplication of effort. For these reasons, it has been decided to fund a study under this project to: identify associations servicing the SMI sector; review their operations with a view to strengthening them; and develop a mechanism to coordinate their operations (para. 4.51). II. BANK LENDING STRATEGY FOR THE INDUSTRIAL AND SMI SECTORS Bank Lending Strategy for the Industrial Sector 2.01 Until recently, the Bank's involvement in the industrial sector has chiefly been in the provision of resources to industry through development finance companies and financial schemes (DBP, Private Development Corporation of the Philippines, Philippines Investment Systems Organization, and IGLF). Since the late 1970s, however, the Bank has been trying to implement a broader strategy in the industrial sector which has a stronger policy focus. The Structural Adjustment Loan (SAL I), represents the Bank's first attempt at implementing its new macro-lending strategy by concentrating on issues related to the trade regime and investment climate (para. 1.09). The Industrial Finance Project provides resources to financial institutions for onlending to /1 For example, the recent change in definition of cottage, small and medium industry. /2 The recent publication, "Programs and Services for Cottage Small and Medium Industries" was produced jointly by BSMI with the Philippine Chamber of Commerce and Industry. This publication lists some of the SMI programs being offered. The study on SMI activities to be financed under this project (para. 4.51) will look into this issue in greater depth.  - 13 - medium- and large-scale industry and focuses mainly on the financial reforms necessary to complement the Government's industrial development objectives. Due chiefly to t:he knowledge and experience gained through these projects, the Bank is now beginning to supplement its policy-oriented strategy with more specialized, subsector loans. A loan for textile sector restructuring was approved by the Board in April 1982 and a proposed metal-working subsector loan is being considered. In future lending to SMI, greater focus will be placed on specific subsectors and regional development. Bank Lending Strategy for the SMI Sector 2.02 Bank Group Past Lending to the SMI Sector. The Bank's past SMI strategy in the Philippines has been largely aimed at transferring resources to the SMI sector and developing the institutional channels necessary to service this sector. Since 1975, the Bank has loaned about US$110 million to the Philippines for SMI development, helping to finance around 2,700 SMI subprojects and providing a limited amount of technical assistance. The Bank's first SMI loan (Loan 1120-PH), for US$30 million was approved in 1975. However, at this stage, neither the Government nor the Bank had a well- developed approach to SMI lending in the Philippines. Hence, with the Bank essentially experimenting with various financing/technical channels to service the sector, the first project was complex. Under the loan, financing was made available to SMI entrepreneurs through DBP and IGLF; lending to industrial cooperatives was undertaken on an experimental basis through the National Electrification Administration (NEA); in addition, technical assistance was provided through the SBAC Program of the MOI. According to a recently completed Project Completion Report (PCR) on Loan 1120-PH, the extent to which the project objectives of resource transfer and institutional development were met under the loan varied by component. In general, the DBP, IGLF and SBAC components were successful, while lending to NEA was much less so, chiefly because the assistance required to establish successful industrial coopera- tives was underestimated. The Bank achieved some institution-building impact with DBP, although much remained to be accomplished. The institution-building impact on IGLF was somewhat greater, even though private financial sector participation in the IGLF program continued to be decidedly limited. As a result of the loan, SBAC was able to develop a regional presence and was in a position to provide technical assistance and business and managerial counsel- ling to SMI. The PCR recommends that technical assistance be more sharply focused on industry subsector problems and that DBP's management of its SMI operations be strengthened. The lessons learned from the first SMI project have been taken into account in formulating the proposed project. 2.03 Unde!r the Bank's second SMI loan (Loan 1727-PH) for US$25 million approved in 1979, a concerted effort was made to increase both the number and the types of financial institutions participating in the IGLF program. To this end, IGLF's operating policies and procedures were modified. In addition to providing financial incentives, it was considered advisable to reduce the administrative costs faced by private financial institutions in their SMI lending. It was found that while MASICAP did prepare project feasibility studies for SMI entrepreneurs, the assumptions on which they were based tended  - 14 - to be unrealistically optimistic, resulting in a high level of arrears for MASICAP-prepared projects. As a result, MASICAP-prepared studies were not being used as an input by financing institutions. Consequently, a small component of the second SMI loan (US$500,000) was used to upgrade the quality of MASICAP's operations. The impact of the MASICAP component is difficult to assess owing to changes in MASICAP's operations as a result of the integration of MASICAP with SBAC in 1980 (para. 1.15). Experience to date shows that participation in the IGLF program has increased substantially and the quality of portfolio is improving (paras. 4.33 and 4.43). As of October 31, 1981, the IGLF component of Loan 1727-PH of US$24.5 million equivalent was fully disbursed, significantly ahead of the appraisal estimate; disbursements under the MASICAP component were slower than anticipated./I 2.04 In addition to the two SMI loans, components were earmarked for SMI operations under Loans 1190-PH and 1572-PH to DBP which were approved in 1976 and 1978, respectively. Unlike the IGLF program, DBP's SMI portfolio has been adversely affected by high and rising arrears; major institutional improvements are needed to strengthen DBP's administration of its SMI program (paras. 4.04-4.16). The qualitative impact of the Bank's lending to the SMI sector is given in the table below. IMPACT OF BANK SMI LENDING Number of Total Incremental Loan subprojects subpro- employment Cost per Loan amount financed ject cost generated job (US$ million) (US$ million) (US$) SMI I (Loan 1120-PH) 30.0 801 60.1 17,953 3,350 SMI II (Loan 1727-PH) 25.0 361 56.0 14,970 3,741 DBP (Loan 1190-PH) 27.2/a 696 53.8 11,550 4,658 DBP (Loan 1572-PH) 29.7/a 811 43.2 8,373 5,160 /a SMI component of loan. /1 Disbursements for the MASICAP component under the second SMI loan have been slow owing to: (i) the merger of the SBAC and MASICAP programs; (ii) a Government imposed freeze on hiring by Ministries; (iii) bureau- cratic disbursement procedures between Ministries; and (iv) recently issued Government procurement guidelines which restrict the purchase of vehicles and computers.  - 15 - 2.05 IFC has supported the SMI sector by financing three projects: a leasing company aimed at assisting SMI; a small business investment company to provide equity and transaction financing to SMI; and special purpose corpora- tions which are subsidiaries of commercial and thrift banks and provide an integrated package of short- and medium-term peso and long-term foreign exchange loans supplemented by business advisory services to SMI. 2.06 The Rationale and Strategy for Future Bank Lending to the SMI Sector. While the Bank's first two SMI sector loans were, in many ways, both innovative and pioneering, their scope, in terms of the type of small and medium enterprises assisted and technical assistance provided, was limited. Building on lessons learned from previous loans and detailed SMI sector knowledge gained through a recently completed Bank case study of Philippine SMI,/1 the proposed loan would, in many ways, be more comprehensive and the technical assistance more focused than under previous loans. Under the proposed SMI loan, nation-wide and region-specific SMI studies would be under- taken with a view to promoting those industries which have a comparative advantage. The sector-specific institutional and policy constraints so identified would be addressed through sector development programs. While the long-term strategy for Bank SMI lending is to channel funds through an apex unit, the current sophistication/maturity of the financial institutions presently servicing the sector require greater Bank involvement. III. THE PROJECT Project Objectives and Description 3.01 Objectives. The proposed project is designed to broaden the provi- sion of financial and technical assistance to SMI within the framework of the Government's SMI sector strategy. The project would attempt to achieve these objectives by: (a) developing the institutional capabilities of some of the key financing institutions servicing the sector; (b) concentrating technical assistance on removing bottlenecks faced by regional priority SMI subsectors and improving the coordination of technical assistance programs for the sector; (c) increasing the involvement of the private sector in the design and provision of assistance to SMI; and (d) helping the Government address some selected policy and subsectoral problems which impede the further development of the SMI sector. 3.02 Description. Under the project, financing would be made available to the entire spectrum of SMI, ranging from cottage to medium-scale, and would cover both manufacturing and manufacturing-related service industries. A wide range of financial intermediaries would be used to channel these funds with emphasis placed on privately-owned financial institutions, namely those /1 Small Enterprises and Development Policy in the Philippines: A Case Study (World Bank Staff Working Paper No. 468), July 1981.  - 16 - operating under the IGLF program and the PDBs, which are widely established in the Philippines and which would, for the first time, be receiving Bank funds for onlending to SMI. The project would also continue assisting the SMI program of the Government-owned DBP which has an extensive branch network. The technical assistance component under the project would be channelled through MTI's BSMI and would be used to: (a) help expand the SBAC/MASICAP network and scope of operations and enhance their operational efficiency through the provision of transportation vehicles, equipment and reference libraries for the regional centers, subcenters and Head Office and by providing training courses and technical consultancy assistance for SBAC/MASICAP and BSMI staff, and SMI entrepreneurs; (b) provide SBAC/MASICAP with the funds necessary to address the constraints hindering the development of priority subsectors on a test case basis through the implementation of pilot projects; and (c) undertake studies on issues relevant to the development of the SMI sector. As part of the preparation for the proposed project, the Government has developed, for the first time, an SMI Sector Strategy which is discussed in paras. 1.12 and 1.13 and is presented in Annex 1. Details of each component and the institutions charged with implementing the project are presented in Chapter IV of this report. Project Cost and Financing 3.03 The total cost of the proposed project is estimated at US$282.0 million, of which US$130.0 million would be in foreign exchange and US$152.0 million in local currency. The proposed SMI loan of US$132 million equivalent would finance the foreign exchange cost of the project and the capitalized front-end fee of about US$2 million. Further details on project costs and financing are provided below.  - 17 - ESTIMATED PROJECT COSTS Foreign Local Foreign Total Local Foreign Total as % of ---- P million --- US$ million --- total Credit Component 1193.1 1020.6 2213.7 147.3 126.0 273.3 46 DBP/SMI 293.2 247.1 540.3 36.2 30.5 66.7 46 DBP/PDBs 223.6 190.3 413.9 27.6 23.5 51.1 46 IGLF 676.3 583.2 1259.5 83.5 72.0 155.5 46 Technical Assistance Component 38.1 32.4 70.5 4.7 4.0 8.7 46 SBAC/MASICAP 17.0 13.0 30.0 2.1 1.6 3.7 43 Pilot project fund 13.8 12.1 26.0 1.7 1.5 3.2 47 Studies 3.2 4.1 7.3 0.4 0.5 0.9 55 Contingencies 4.1 3.2 7.2 0.5 0.4 0.9 44 Total Project Cost 1231.2 1053.0 2284.2 152.0 130.0 282.0 46 Front-end fee on Bank loan - 16.2 16.2 - 2.0 2.0 100 Total Financing Required 1231.2 1069.2 2300.4 152.0 132.0 284.0 46  - 18 - FINANCING PLAN (US$ million) Total Financing project IBRD Government/ End-user cost financing institutions Credit Component 273.3(100%)123.0 (45%) 82.0 (30%) 68.3 (25%) DBP/SMILE 60.0 27.0 18.0 15.0 DBP/PDBs 46.3 21.0 13.8 11.5 IGLF 140.0 63.0 42.0 35.0 Unallocated amount 27.0 12.0 8.2 6.8 Technical Assistance Component 8.7(100%) 7.0 (80%) 0.2 (2%) 1.5 (18%) SBAC/MASICAP /a 3.7 3.2 0.2 0.3 /b Pilot project fund 3.2 2.3 - 0.9 /c Studies 0.9 0.9 - Contingencies 0.9 0.6 - 0.3 Total for Both Components 282.0(100%)130.0 (46%) 82.2 (29%) 69.8 (25%) Front-end fee 2.0 2.0 - - Total Project Cost 284.0(100%)132.0 (46%) 82.2 (29%) 69.8 (25%) /a Financing under the SBAC/MASICAP subcomponent includes: Total cost Bank financing - US$ million - (i) Equipment 1.0 0.6 (ii) Training 2.7 2.6 Total 3.7 3.2 /b Reflects payments by entrepreneurs for training and consultancy services provided. /c The end-user's contribution for the pilot project may come from the project sponsor's own resources, or as loan/equity from financial institutions or MTI (para. 4.50).  - 19 - 3.05 For the credit component, project cost estimates have been derived from detailed operational projections provided by DBP and IGLF which assume a three-year commitment period (October 1982 to September 1985)./l An amount equivalent to approximately 10% of the total credit component of the proposed loan has been held in reserve so that during project implementation it would be possible for the Bank to allocate these resources to those institutions which commit their resources most effectively. For the technical assistance component, which has a commitment/disbursement period of four to five years, the total project cost is based on detailed estimates provided by MTI;/l a 10% contingency allowance (which includes an 8% price contingency) has been provided to cover unforeseen cost overruns and additional requirements with respect to training or any other form of technical assistance. 3.06 The proposed loan would be made to the Government of the Philippines and would cover about 46% of the total project cost. For the credit component, the Bank would finance 45% of the total credit component cost, representing the estimated direct and indirect foreign exchange cost of the component./2 For the technical assistance component, the Bank would finance 80% of the total component cost. Items to be financed under the component include: equipment/transportation vehicles and books for BSMI and the SBAC/MASICAP subcomponent; training (including technical consultancy) for SBAC/MASICAP, and BSMI staff and SMI entrepreneurs; fixed assets and working capital for pilot projects; and consultants to undertake SMI related studies. Approximately US$82.2 million in counterpart funds would be provided by the Government/financial institutions, and the Government, through budgetary allocations, would provide MTI with about US$0.2-1.5 million for financing the balance of technical assistance costs./3 /1 These detailed projections and estimates are available in the project file. /2 Under previous SMI loans, the Bank provided 60% of the total project costs; recent studies show, however, that the direct and indirect foreign exchange cost of projects financed by DBP and IGLF has decreased to about 46% of the total project cost. /3 Depending on the extent of entrepreneur training and pilot project costs funded by MTI (paras. 4.49 and 4.50).  - 20 - IV INSTITUTIONAL ARRANGEMENTS FOR PROJECT IMPLEMENTATION A. Development Bank of the Philippines (DBP) 4.01 DBP was established in 1958 as an autonomous Government-owned development bank and is by far the largest supplier of long-term credit in the Philippines. DBP's financing operations encompass almost all segments of the economy concentrating on the industrial and agricultural sectors. Total Bank loans approved for DBP amount to US$388.5 million of which US$218 million is for industry, US$150.5 million for agriculture and US$20 million for shipping. The Bank's industrial lending to DBP dates back to 1972 when a Bank mission did a preliminary evaluation of DBP which revealed serious weaknesses in its organizational and financial structure. Remedial measures were taken with respect to organizational restructuring and DBP's financial position was strengthened through a share capital increase and progressively more market- oriented interest rates. Despite these measures, DBP's profitability continued to be low, principally as a result of its low collection levels. Under the Bank's Industrial Finance Loan (para. 2.01), an Action Program was developed to deal with DBP's remaining organizational, operational and financial problems. Some of the key elements covered under the Action Program are: (a) a review, on a case-by-case basis, of its large projects to deter- mine the status of its portfolio and the actions necessary to rehabilitate problem projects; (b) steps to improve its collection performance; (c) a review of its interest rate policy; (d) formulation of institution-wide policies on refinancing and conversion of arrears into equity investments; and (e) developmLent of policies for Government behest projects. Key elements of the Action Program which have so far been implemented by DBP are: (a) a review of its interest rate structure which resulted in DBP raising its lending rate in 1981 for both its peso and foreign currency funds, thus bringing them largely in line with market rates; (b) reorganization of DBP's Industrial Projects Department along the lines agreed; (c) implementation of a project-by-project review of its portfolio; and (d) formulation of DBP-wide guidelines to improve its cash collections. In general, DBP's implementation of the Action Program has been satisfactory. 4.02 Direct lending by DBP to the SMI sector is undertaken through its Small and Medium Industry Lending Department (SMILE) and branches. There have, so far, been three Bank loans approved for DBP for its SMI operations amounting to about US$70 million./1 To help resolve its long-standing operational and institutional problems related to its direct SMI lending, DBP has formulated an Action Program (Annex 2, Attachment 2), acceptable to the Bank, which will be implemented during the course of the project. In addition to its direct lending, DBP indirectly finances the SMI sector through its PDB rediscount operations which are managed by its Department of Development and Rural Banks (DDRB). The Bank, under this project, will, for the first time, become involved with DBP's PDB operations. /1 In two of the loans to DBP, specific components were earmarked for DBP's SMI lending.  - 21 - 4.03 In August 1981, there was a change in DBP's senior management and a new Chairman was appointed. The new Chairman has been in office for about six months and appears to be extremely competent and concerned about upgrading DBP's operations. 1. DBP's Direct SMI Lending (SMILE) 4.04 Background. In 1971, DBP launched its countryside development lending program to stimulate SMI growth, particularly outside Metro Manila. In 1973, DBP established the Industrial Projects Departments II to handle small loans; the Department was renamed SMILE in 1980. SMILE is in charge of processing all SMI loans in Metro Manila and in supervising branch SMI operations. In addition to its regular SMI lending operations, SMILE finances and/or administers a number of special financing schemes (SFS) that are geared to meeting the needs of specific SMI subgroups (Annex 2, Table 1). Under its regular SMI lending operations, DBP provides fixed asset and working capital finance for projects in all industrial sectors. While a major part of the funds go to manufacturing enterprises, DBP also provides financing for some service industries, retail trade, transportation and tourism. At present, DBP provides financing for cottage, small and medium enterprises. However, DBP's management has recommended to the Government that DBP move away from lending directly to cottage industries and instead expand the rediscount mechanism currently provided by DBP for SMI loans made by PDBs to encompass cottage industry loans made by rural banks. As in the case with previous Bank SMI loans to DBP, only small and medium industries would be eligible for Bank financing under this project. DBP's regional lending is done through its network of 42 branches, 13 agencies and 9 offices whose overall activities are coordinated by the Branches and Agencies Department (BAAD) at the Head Office. DBP's draft Lending Strategy Statement for the project period outlining its lending policies and guidelines is given in Annex 2, Attachment 1. This Lending Strategy Statement would be updated, in a form acceptable to the Bank, to include recent revisions in DBP's SMI lending policy and will be adopted by September 30, 1982. 4.05 Operations. In 1976, DBP approved 1,468 SMI /1 loans for P 175.6 million. The corresponding figures for 1980 were 1,084 loans /1 for P 178.4 million of which P 4.7 million (118 by number) were for special financing schemes and P 5.7 million were for refinancing of loans in arrears. In 1981, 809 loans were approved for P 195.3 million (Annex 2, Table 2). Of the 64 branches, agencies and offices, 15 of DBP's branches account for 63% of the total outstanding branch SMI portfolio and 31% of DBP's total outstanding SMI portfolio as of December 31, 1981 (Annex 2, Table 3). /1 For DBP, loans made to the same project, but for different purposes (working capital, fixed assets or additional financing), are counted separately. /2 Except for 1980 when branch approvals were 53.5%.  - 22 - 4.06 SMI approvals have remained relatively constant during the period 1976-81 reflecting, in part, the poor overall investment climate in the Philippines during that period. In addition, DBP's protracted loan processing time and cumbersome procedures might also have deterred potential clients from applying to DBP (para. 4.11). Of the loans approved in 1981, 3%, in value terms, went to cottage industries, 46% to small and 51% to medium industries. In terms of amount, the manufacturing sector accounts for over 95% of DBP's SMI approvals. During 1981, the three most important subsectors were lumber and wood products (19.1% in value), nonmetallic products (15.7%) and textile, apparel, twine, etc. (14.3%). Annex 2, Table 4 provides details about the characteristics of SMI approvals. DBP has made a conscious effort to bring about greater regional dispersion of investment; for each of the years 1976-81, Metro Manila and Southern Tagalog have together accounted for between 42% to 54% of DBP's SMI approvals. Despite this concentration in Metro Manila and adjoining provinces, the portfolio is singularly less skewed than those of private financial institutions. While the financial and economic rates of return on DBP-financed SMI projects have been favorable, the portfolio is facing serious arrears problems (para. 4.14). 4.07 Organization. DBP's SMILE Department is presently organized into three project appraisal groups, one project supervision/collection group, one planning/programming group (PPG), one branch assistant group and one administrative group. While the current staff strength of 123 (including 1 manager and 7 assistant managers) is considered adequate to handle the present and projected volume of operations, SMILE's present organizational stracture has given rise to four major areas of concern: (a) Relationship between SMILE and the branches. The relationship between SMILE and the branches has been a delicate one as branch operations have been under the jurisdiction of BAAD, and SMILE, in practice, has had no clear functional authority over branch SMI operations. Coordination problems are further exacerbated as all communications from SMILE to the branches (or vice versa) have had to be channelled through BAAD and, until recently (October 1981), BAAD and SMILE were under the jurisdiction of different Super- vising Governors. The internal organization of the branches has further added to SMILE's problems. In 1978, the branches were reorganized into two departments, one for agricultural projects and the other for all "other" projects. Despite this, there has been a tendency within branches to consider staff as fungible resources and, consequently, there was no well defined staff for SMI operations in the branches who could be trained or with whom SMILE could liaise directly. As a result, SMILE has not provided the branches with any guidance on SMI operations nor has it performed any quality control function vis-a-vis the branches.  - 23 - (b) Administration of special financing schemes (SFS). As mentioned earlier, SMILE currently administers eight SFS in addition to its regular SMI lending (para. 4.04). As the same staff handle all these programs, it has not been possible to develop specific staff expertise in any one type of operation. In addition, the administration of both regular SMI operations and SFS strains staff resources and results in neither being administered as effectively as might be possible. (c) Inadequate project supervision. As the function of project super- vision is merged with loan collections under the present organizational setup, the tendency has been to focus on collections at the expense of supervision to the extent that almost no routine project supervision takes place. (d) Monitoring the SMI program. SMILE's Program and Planning Group (PPG) is expected to: (i) monitor the impact of DBP's SMI program; (ii) develop a future lending program; and (iii) undertake research and special studies. However, at present, none of these functions is being adequately handled. SMILE's current record-keeping or information system appears to have severe problems such that current data on operations are often unavailable or unreliable. With regard to PPG's other two functions, the unit appears to lack staff with the necessary expertise to develop future lending programs and undertake research and special studies relating to DBP's SMI program. 4.08 In order to resolve some of the problems mentioned above, DBP has decided to reorganize the SMILE Department. The proposed new organizational chart is given in Annex 2, Attachment 2. The main features of the reorganized SMILE will be: (a) a branch group will be established to review branch appraisal reports, oversee branch SMI operations, provide branches with needed assistance and receive operational branch data; (b) an SFS group will be separately staffed from other operating groups so that the administration of the SFS does not impinge on DBP's regular SMI operations; (c) the establish- ment of four project appraisal/supervision groups in charge of DBP's regular Head Office SMI opeations. Within these groups, appraisal and supervision functions will be handled by separate and distinct groups of staff;/1 (d) administrative collection functions will be removed from project super- vision and will be placed under the administrative group; and (e) the PPG will be retained and strengthened through training. 4.09 In addition to the reorganization, in order to improve the moni- toring of DBP's SMI operations, it was agreed at negotiations that a manage- ment information systems (MIS) specialist be appointed to assist the SMILE manager in handling SIl data-based problems and in developing an effective MIS program. The scope of the study and main function of the specia7.ist were also agreed upon at negotiations. The MIS study is to be completedi and 5ent /1 Both appraisal and supervision groups will be organ-zed on an industrial subsector basis.  - 24 - to the Bank for review by September 30, 1982. With respect to SMI operations in the branches, in December 1981, specific staff were designated in each of the branches to handle SMI operations and were placed under the functional authority of the SMILE Department with regard to SMI lending. In the case of the 15 most active branches (para. 4.05), the SMI staff so assigned would concentrate on SMI lending operations exclusively. The SMI staff in the branches will be provided with comprehensive training on SMI project evaluation and supervision. Initially, these training courses will concentrate on the SMI staff of the 15 most active branches but will later cover all SMI branch staff. DBP's management has confirmed that rotation of SMI staff in the branches would be minimized so as to provide continuity and to make proper use of the training to be provided. 4.10 Operating Policies. DBP's operating policies for its SMI lending are generally comprehensive and well formulated. However, DBP currently classifies its loans as cottage, small and medium on the basis of the size of the DBP loan and not on the asset size of the borrowing enterprise. As the interest rates charged to cottage, small and medium enterprises differ substantially (15%, 18% and 21% respectively), it was felt that the loan size definition could produce distortions; DBP has therefore decided to adopt the asset size definition in determining the interest rate to be applied. This definition will also be uniformly applied for all DBP's SMI operations irrespective of source of financing. 4.11 Appraisal Procedures. In general, the quality of appraisal reports at Head Office is satisfactory, although there is a tendency to emphasize collateral coverage rather than project viability. DBP's Lending Strategy states, however, that projects financed are to be economically and financially viable, and increased monitoring of the Head Office and branch appraisals should result in improvement. The quality of branch appraisals is weak with indications that key concepts and analytical tools in project appraisal are not understood by branch appraisal officers. While the training proposed for branch SMI staff (para. 4.30) should help to upgrade the quality of branch appraisals, SMILE's branch unit should systematically review branch appraisal reports and provide comments to the branch personnel concerned. With regard to loan processing time, during negotiations for Loan 1572-PH, it was agreed that DBP would try to reduce loan processing time for SMI projects in the branches and the Head Office to 60 days and Head Office review of branch projects, when required, to 30 days. The branches appear to be meeting the target, but loan processing time at the Head Office remains long. A sample of 50 projects approved in 1980, shows the average processing time was 131 days for Head Office and 55 days  - 25 - for branches. It currently takes SMILE around 20-25 days to review loans referred to it by the branches after appraisal, which is also long. Excessive processing times have, in part, been due to poor management, lack of trained staff and cumbersome procedures resulting in a substantial backlog of pro- jects. To reduce processing time, SMILE staff will receive necessary training and new procedures for streamlining appraisal procedures will be adopted. During negotiations, agreement was reached with DBP on a program to reduce both Head Office and branch processing time /1 to an average of 60 calendar days, effective January 1, 1983. 4.12 Supervision Procedures. In the case of project supervision, neither the Head Office nor the branches carry out any form of routine preventive supervision as staff efforts have been concentrated on loan collections (para. 4.07(c)). Even after the 1981 reorganization of the Head Office Pro- ject Supervision Group, only projects in arrears have been supervised. The removal of collection functions from project supervision should help to upgrade the quality of supervision (para. 4.08). In addition, a supervision program for both the Head Office and the branch SMI operations has been agreed upon at negotiations. DBP has also agreed to undertake a review of its existing appraisal, supervision and implementation manuals on SMI operations, with a view to updating and upgrading them. The revised manuals will be sent to the Bank for review by December 31, 1982. 4.13 Disbursement Procedures. Under previous SMI loans to DBP (Loans 1120-PH, 1190-PH and 1572-PH), disbursement by the Bank to DBP was on the basis of a statement of expenditure with the understanding that proper documentation of subproject expenses was to be maintained by DBP and made available to the Bank upon request. A sample review of projects financed under Loan 1572-PH revealed some discrepancies in the documentation for which DBP's management has agreed to take immediate remedial actions. In addition, procedural changes needed to ensure that adequate documentation is maintained were agreed upon during negotiations. 4.14 Quality of Portfolio. During negotiations for Loan 1572-PH, DBP agreed that by June 30, 1979, it would reduce its total arrears ratio to 16% of the outstanding portfolio and the portfolio affected by arrears to 40%. Total arrears as a percentage of the outstanding portfolio declined from 19.5% /1 Processing time will be measured from the time a loan application is received until the requisite approval (either from the branch manager, SMILE Department manager or the Board, depending on the loan amount) is granted.  - 26 - as of year-end 1978 to 11.6% as of year-end 1979 (Annex 2, Table 5). The arrears situation, however, has deteriorated since then with arrears amounting to 12.4% of the outstanding portfolio as of year-end 1980, and 15.7% as of December 31, 1981./1 The deteriorating arrears situation can, in part, be attributed to DBP s inadequate supervision of its SMI portfolio. The absolute reduction in arrears as a percentage of the outstanding portfolio between 1978-80 has also resulted, in part, from limited refinancing, extensive rescheduling and substantial foreclosure of accounts in arrears./2 As of December 31, 1981, the number of loans affected by arrears was about 73%, while by amount it was 52% (Annex 2, Table 6). The collection ratio has decreased from 62% in 1980 to 52% in 1981. DBP has recently developed institution-wide guidelines for rescheduling, foreclosure and write-off of loans in arrears. As established in its Action Program (para. 4.02), DBP will complete by December 31, 1982, a project-by-project review of the SMI portfolio affected by arrears with a view to implementing these guidelines (reschedule, foreclose or write-off). Given these actions, by the start of 1983, DBP would have a manageable SMI portfolio. The agreed Action Program also establishes annual targets for improving DBP's SMI arrears ratio, portfolio affected by arrears and collection rates during the life of the project. 4.15 Reporting Requirements. DBP's reporting has been a long-standing problem and is still of uneven quality and subject to long delays. There are several reasons for the delays: (a) fundamental record keeping problems for SMI operations; (b) delays in reporting on branch SMI operations to BAAD; (c) verification of branch data is time consuming; and (d) processing delays as computer time is scarce. To help remedy these problems, DBP will: (a) develop, with the help of a specialisc, a managcemenL information system in SMILE so that accurate and up-to-date data is available (para. 4.09); (b) have SMI branch staff report directly to SMILE (para. 4.08); (c) have the branches /1 These arrears figures do not include penalty charges, which are sub- stantial. /2 In the Head Office alone, loans amounting to P 31.9 million, P 19.6 million and P 22.3 million were rescheduled in 1979, 1980 and 1981 (September), respectively representing 9%, 5% and 5% of the outstanding Head Office SMI portfolio. Foreclosures done during these years in the Head Office were P 26.2 million in 1979 (8% of the outstanding portfolio), P 25.0 million in 1980 (8% of the outstanding portfolio) and P 17.6 million, in the first nine months of 1981 (9% of the outstanding portfolio). Refinancing amounted to P 5.5 mil- lion in 1980 and P 9.1 million for the first nine months of 1981.  - 27 - provide SMI data to SMILE on a monthly basis so that data verification can be done on an ongoing basis; and (d) give priority in data processing to SMI./1 Reporting formats have been developed for DBP's SMI operations and further information on the reporting to be required under the project is given in para. 5.17. 4.16 Action Program and Tranching. As the time required to fully implement the Action Program (para. 4.02) is likely to be significant, it has been proposed to disburse the DBP direct lending component (US$27 million) in two equal tranches with disbursement of the second tranche being contingent on progress made under the Action Program. Recommendation for release of the second tranche will be made based on an evaluation to be conducted when the first tranche has been disbursed. The key elements to be considered in release of the second tranche of the loan are: (a) implementation of the findings of the MIS study (para. 4.09); (b) reduction of loan processing time (para. 4.11); (c) implementation of the agreed supervision program (para. 4.12); and (d) meeting the agreed targets with respect to quality of portfolio (para. 4.14). 2. Private Development Banks (PDBs) 4.17 PDB Sector. PDBs are small, privately-owned banks which service limited geographic areas. As of December 31, 1981, there were 44 PDBs with 158 offices (Annex 3, Table 1). While the PDBs account for only 0.7% of the total assets of the financial system, they perform an important role in providing term finance to small agricultural and industrial enterprises. As PDB loans generally go to cottage and small-scale industries, the incremental employment generated tends to have a relatively low cost-per-job./2 4.18 As of December 31, 1981, the total outstanding loan portfolio of PDBs amounted to P 1,527 million,/3 of which 43% was in industry, 25% /1 DBP is currently attempting to upgrade the quality and timeliness of its data processing. The installation of a new computer-based MIS system is currently being undertaken bank-wide with the SMILE Department being given high priority. /2 A DDRB studly on the economic impact of PDB financing found that the 1,332 industrial loans granted by PDBs during 1980-81 had generated 6,727 new jobs at an average cost-per-job of about US$3,700. /3 Excluding loans in litigation and past-dues.  - 28 - in agriculture, 10% in real estate and 22% in miscellaneous loans (Annex 3, Table 2). Over the five-year period 1975-80, PDB loan approvals increased at an average annual rate of about 25%, while industrial loan approvals increased at an average of about 30% p.a. Although PDBs provide medium- and long-term funds to cottage and small-scale agricultural and industrial enterprises, lending decisions are, for the most part, based on the creditworthiness of the borrower and the collateral offered which has served to limit arrears./1 Most PDBs do not have a formal organizational structure as they have small staff complements and their operations are relatively simple. Many PDBs suffer from staff shortages; in addition, PDB staff presently lack basic project appraisal and supervision skills. Under the project, PDBs will be required to evaluate projects on the basis of financial and economic viability rather than just the collateral offered; in addition, project supervision on a regular basis will be introduced. A detailed training program has been developed to provide PDBs with the necessary project appraisal/supervision expertise (para. 4.30). 4.19 Scope of DBP Assistance. One of the functions assigned to DBP under its charter was to help establish and develop the PDB system by taking equity participations in PDBs, providing technical and managerial assist- ance, and rediscounting loans made by PDBs. Given this role, DBP oper- ates as the natural apex institution for onlending Bank resources to PDBs. While the ownership of the PDBs is essentially private, as of December 31, 1981, DBP held 23.0% and the Land Bank of the Philippines 2.8%, of the P 354.1 million equity invested in the 44 PDBs. Between 1977 and December 31, 1981, the amount of preferred shares held by DBP has increased from P 5.1 million in 8 PDBs to P 80.7 million in 35 PDBs. Over the same period, outstanding rediscounts from DBP have increased from P 96.6 million to P 349.0 million. As a result of its rediscounting activities, DBP is represented on the Board of Directors of several PDBs. Further details on DBP's assistance to the PDBs are provided in Annex 3, Table 3. DBP has recently increased its rediscounting rate to PDBs from 14% to 16%, resulting in an end-user PDB rate of 23%. However, on the basis of DBP's current interest rate structure, DBP's own direct lending to the cottage industry sector (which also accounts for the largest proportion of the PDB's clientele for industrial lending), is done at 15%. In part to resolve this conflict, DBP has stated its intention to confine itself to providing rediscounting facilities to PDBs and rural banks for onlending to cottage industries (para. 4.04). /1 For the 15 PDBs for which arrears data was available, as of December 31, 1981, total arrears (principal, interest and other charges) amounted to 13.4% of the outstanding portfolio and arrears on industrial loans were 15.3% of the outstanding industrial loan portfolio (Annex 3, Table 4).  - 29 - 4.20 Accreditation. In order to increase the availability of finance to SMI located in rural areas, the Bank, under the proposed project, will provide resources to PDBs through DBP's rediscount facility. While DBP has been effective in upgrading the operations of many PDBs, the overall quality varies greatly from bank to bank. In order to deal with only the better PDBs, an accreditation scheme will be introduced under the project whereby only accredited PDBs will be eligible to draw on Bank resources. It is proposed that DBP, through its Department of Development and Rural Banks (DDRB), will evaluate, on the basis of criteria acceptable to the Bank, about 15 of the better PDBs,/1 and after discussing its findings with the Bank, will accredit those which meet the agreed criteria. It is expected that by loan effectiveness about 5 PDBs will have been accredited. As the PDB system is upgraded, other PDBs will become eligible for accreditation during the life of the project. 4.21 To be eligible for accreditation, a PDB must: (a) be in compliance with the rules and regulations of the Central Bank, DBP and other government agencies; (b) not be participating in any other Bank-financed SMI program; (c) not be in arrears with DBP; (d) not have arrears of more than 20% on either its industrial or total loan portfolio; (e) have collection rates of not less than 70% on either its total or industrial loan portfolio outstanding during the preceding year; (f) have been profitable in the preceding year; and (g) have the necessary staff expertise to handle SMI loans./2 The accredited PDBs will be monitored closely by DDRB with respect to management, policies and procedures, and financial and operational performance to ensure their continued compliance with the accreditation criteria./3 4.22 As upgrading PDB operations to meet the accreditation criteria will be costly in terms of: allocating staff to specialize in SMI, training staff and preparing project appraisals rather than lending solely on collateral, specific additional incentives will be made available. Accredited PDBs /1 Of these 15 selected PDBs, 5 are located in MIetro Manila, 8 in Southern Tagalog, and 1 each in the Visayas and Mindanao regions. As of December 31, 1981, these 15 PDBs accounted for 60% of offices, 64% of total staff, 62% of total assets, 66% of total outstanding loans, and 46% of industrial loans. Other characteristics of these PDBs are provided in Annex 3, Table 4. /2 Training courses on SMI lending operations will be made available to PDB staff. /3 In order to maintain its accreditation status, the PDB will have to main- tain an arrears ratio of not more than 20% and a collection ratio of not less than 70% on its industrial portfolio.  - 30 - under the proposed project will have: (a) 100% rediscounting for SMI loans;/1 (b) a DBP rediscount rate of 14% (compared to 16% for nonaccredited PDBs) resulting in an end-user rate of 21% (compared to 23%);/2 (c) the authority to approve automatically loans up to F 250,000; and (d) authorization for a higher debt/equity ratio. The rediscount rate charged by DBP to PDBs will be kept under review to ensure it reflects market conditions. However, as agreed at negotiations, a 2% differential will be maintained between DBP's rediscount rate to accredited and nonaccredited PDBs. 4.23 Organization and Staffing of DDRB. DDRB operates as an apex for PDBs by administering DBP's rediscount facilities and providing technical assistance to the PDBs. DDRB's current organization is such that its staff's major focus is project-specific and account-verification oriented. In order that DDRB provide effective institutional support for the PDBs, it will have to shift from its project-specific focus and adopt an institutional develop- ment and evaluation role. Therefore, the following organizational changes are being made within DDRB: (a) organizing the Rediscounting and Investment Group to review investment and rediscounting applications and undertake desk reviews of SMI projects above P 250,000 from accredited PDBs; (b) merging the Bank Supervision and Project Supervision Divisions into an Institution Evaluation Group which will undertake institutional evaluations of PDBs; (c) restruc- turing the Investment and Special Studies Division into a Management Services Group in charge of monitoring the impact of DBP's assistance to the PDBs, and providing PDBs with technical assistance in the form of institutional development and staff training; and (d) merging the Accounting and Support Services Divisions into the Financial Supervision and Administration Group. Further details on DDRB's organization are given in Annex 3, Chart 1. In addition to the reorganization of DDRB, a training coordinator has been appointed who will liaise with DBP's Development Banking Institute (DBI) and will develop/administer training programs for both PDB and DDRB staff (para. 4.30). To strengthen policy coordination, DDRB has organized two advisory committees, one on policy and procedures and the other on training. Both committees will be chaired by the Supervising Governor and will comprise members of DDRB, PDBs and, in the case of training, members from DBI and UPISSI. DBP Board appoval of DDRB's reorganization was obtained in March 1982. /1 Currently, DBP provides 100% rediscounting for industrial loans up to P 500,000 with maturities of over 6 years and 90% for loans with maturities of 3-5 years. Loans above P 500,000 are provided 70-80% rediscounting depending upon the maturity of the loan. Provision of 100% rediscounting for all SMI loans by PDBs will be in line with IGLF rediscounting policies. /2 PDBs currently get a spread of 7% on their lending which is also in line with the spread to be provided by IGLF to private financial institutions on their cottage and small industry lending.  - 31 - 4.24 Operating Procedures. In the past, DDRB's processing time for PDB loans has ranged from 14-21 days for rediscounting based on desk reviews, and 30-50 days for loans approved on the basis of an end-use verification. Under the project, the target processing time is 5 days for small loans which will be rediscounted immediately if they conform to the prescribed guidelines and 10 days for larger loans which will be subject to a desk review by DDRB. This reduction in processing time will be achieved by making procedural changes in loan processing, simplifying documentation requirements, and the proposed reorganization and training of DDRB staff. Major changes to be introduced in the loan processing system are: (a) increasing the approval authority of both the Manager of DDRB and the Supervising Governor;/1 (b) eliminating end-use project verifications by DDRB; (c) changing the present system whereby DDRB has both to obtain the authority to approve and disburse loans into a one step process; and (d) disbursing funds to PDBs outside Metro Manila through DBP's branch network instead of requiring them to come to Manila for every loan signing. 4.25 Under the proposed accreditation scheme, PDBs will prepare appraisal reports for each project financed which will be submitted to DDRB for review. Loans up to P 250,000 will be immediately rediscounted if conforming to predetermined guidelines, while those above P 250,000 and below P 2.5 million will be subject to desk review (within 10 days) by DDRB prior to approval. Even for these loans, DDRB will provide a 50% prereview rediscount; if any prereview rediscounted loan is later rejected by DDRB, the loan will be refunded by the PDB. Loans above P 2.5 million will be subject to the Bank's prior review and approval and no prereview rediscounting will be granted by DDRB in this case. Appraisal reports for all subloans of P 500,000 and above or for the 10 largest loans approved during the quarter, whichever is greater, will be submitted on a quarterly basis to Bank for postapproval review. 4.26 At present, the operations of each PDB are reviewed by examiners from DDRB to ascertain whether the PDB is complying with CB and DBP guide- lines. As the PDBs are continually being monitored by the CB, DDRB has agreed to liaise with the CB and PDB auditors to minimize duplication and enable DDRB to concentrate on institutional evaluation. An Assistant Manager has been appointed within DDRB to coordinate with CB and PDB auditors. 4.27 Under this project, only SMI loans made by PDBs will be eligible for rediscounting from Bank funds. It is expected that the loans made by /1 The approval/disbursement authority of the Manager and the Supervising Governor has been increased. The Manager's loan approving authority has been increased from P 150,000 to P 250,000 and that of the Supervising Governor from P 600,000 to P 2.5 million. Loans above P 2.5 million need DBP Board approval.  - 32 - PDBs will be to cottage and small industries for the most part; the average loan size is expected to be about E 200,000 (US$24,690). In order to ensure satisfactory regional distribution, it was agreed that at least 60% of the loans (by value) rediscounted under the project by PDBs located outside Metro Manila will be for projects outside Metro Manila. To formalize its lending strategy, accreditation criteria and operating policies and procedures with respect to the accredited PDBs, DDRB will prepare a Lending Strategy Statement and Policy Manual, acceptable to the Bank, which will be adopted by September 30, 1982. 3. Development Banking Institute (DBI) 4.28 During the appraisal of Loan 1572-PH to DBP, the potential of using PDBs to channel funds to regionally dispersed cottage and small industry borrowers was recognized. However, at that time it was felt that the PDBs needed to be upgraded if they were to operate as effective financing channels. Hence, under Loan 1572-PH, US$300,000 was allocated to establish a PDB training institute within DBP. The Development Banking Institute (DBI) was established in 1978, to provide training to PDB staff and management. Before any significant progress could be made,/1 DBI was merged with the training division in DBP's Personnel Department. In 1980, with the help of a Canadian consulting firm, the training needs of DBP and PDB personnel were evaluated and DBI became the official training institute for DBP staff. 4.29 DBI currently has a staff of 42, of whom 29 are support staff. While DBI's nine member faculty appears adequate, the research staff of four persons needs to be strengthened. There is considerable scope for further research in the preparation of training material, particularly SMI-specific case studies. DBP recognizes this need and will take the necessary actions to deal with it. In the long run, DBI should become a major force in upgrading the professional capabilities of the DBP and PDB staff. For 1982, a detailed work program for DBI has been developed (Annex 4, Table 1). 4.30 Under this project, training courses will be provided for the staff of SMILE, DDRB, PDBs and SMI staff in the branches. While almost all of the staff in these departments/institutions will need training in SMI project appraisal and supervision, priority will be given to the assistant manager level staff at SMILE and DDRB, the staff of PDBs which are potential candi- dates for accreditation and the SMI staff of the 15 most active branches. Courses on SMI project appraisal and supervision will initially be conducted by UPISSI and later by DBI. An outside training institute will also conduct the first few courses on institutional evaluation for DDRB staff. In addition to these courses, a few highly specialized courses on economic analysis and corporate planning will be held for PPG and other DBP staff. /1 Between 1978-81, only four seminars and six courses were conducted for PDB staff focussing only on routine operations; under the project, a much more active training program has been developed so as to meet more adequately the training needs of the PDBs.  - 33 - B. Industrial Guarantee and Loan Fund (IGLF) 4.31 Background. IGLF was established in 1952 as a compensatory financing and guarantee fund. It is owned by the National Economic Development Authority (NEDA) but is administered by the Department of Loans and Credit (DLC) of the Central Bank of the Philippines (CB). IGLF operates as an apex unit with the basic objective of providing resources to financial institutions for onlending to SMI. This rediscount mechanism enables the IGLF program to have a wide geographical reach as many of the institutions have an extensive regional network. In the past, IGLF has not financed cottage industries with Bank resources, due to a P 50,000 loan floor for Bank-funded projects; this requirement has been removed and Bank funds will now be available to cottage industries through IGLF. Criteria governing IGLF project eligibility conform with national development priorities such as employment generation, export promotion and regional dispersion of industry. Decisions on policy issues affecting IGLF's operations are made by a highpowered (ministerial/deputy ministerial) interagency Review Committee (RC),/l which is chaired by the Minister of the Budget. The RC has proved very effective in providing IGLF with the needed policy guidance. 4.32 The Accreditation Scheme. Under the accreditation scheme, IGLF delegates all appraisal and supervision responsibilities to the accredited financial Institution while IGLF itself provides institutional guidance and monitors the overall performance of the program. Before granting accredita- tion status, IGLF undertakes a thorough review of the institution to determine its overall financial viability and the adequacy of its staff to implement an SMI program. Only accredited institutions are eligible for Bank funding. The performance of each accredited institution is reviewed annually by IGLF and the Bank is informed of the findings of these reviews. 4.33 As of December 31, 1981, 32 financial institutions were accredited under IGLF of which 14 were commercial banks, 12 were nonbank financial inter- mediaries (NBFI), 2 were savings/mortgage banks and 4 were PDBs (Annex 5, Table 1)./2 Of the 32 accredited institutions, 11 were particularly active and accounted for 94% (by amount) of IGLF loans outstanding as of December 31, 1981. IGLF-s experience with PDBs has not been satisfactory as the accredited PDBs have either been inactive or have developed large arrears on their IGLF portfolio. After a review of the PDBs, it was felt that, at present, PDBs were not financially mature institutions and needed much more focussed technical assistance than IGLF was currently able to provide. It was therefore decided that no further PDBs would be accredited by IGLF and /1 The Government agencies represented on the RC are NEDA, CB, MTI, Ministry of Finance and UPISSI. /2 At the time of the last Bank appraisal of IGLF (1978), there were 20 accredited institutions of which 10 were commercial banks, 9 were nonbank finanical intermediaries and 1 was a savings/mortgage bank.  - 34 - that already accredited PDBs would have their status rescinded. The resource and technical assistance needs of the PDBs will now be met by DBP. 4.34 Scope and Conditions of Lending. IGLF's assistance to accredited institutions is in the form of a 100% rediscount on their SMI loans and the provision of guarantees. IGLF provides two types of loan guarantees: the collateral short guarantee, which is available for cottage and small industry loans and covers the actual collateral deficiency up to 25% of the loan amount; and the credit risk guarantee, which is available for cottage, small and medium industry loans and covers a fixed percentage of the loan amount outstanding but cannot exceed 60% for cottage and small industry loans or 40% for medium industry loans. A 2% p.a. guarantee fee is charged to the end-user in the case of the collateral guarantee and to the financial institution in the case of the credit risk guarantee. While the credit risk guarantee has proven popular with the financial institutions, with nearly all approvals under Loan 1727-PH using this facility, a small but growing number of approvals has carried the collateral guarantee, illustrating the extreme reluctance of private institutions to lend to under-collateralized clients. 4.35 Operating Policies and Procedures. IGLF's broad policies concerning its operations and relationship with accredited institutions are spelled out in its draft Lending Strategy (Annex 5, Attachment 1), while administrative details on its lending policies are incorporated in its Policy Manual. In view of its recent experience, IGLF has decided to modify its policy regarding the provision for losses. In the past, provision for losses on IGLF guarantees were made annually and amounted to P 3.8 million as of December 30, 1980. In 1981, IGLF's share in the net losses covered by its guarantees amounted to P 4.0 million thus wiping out its entire provisions and requiring ad hoc provisions to be established. IGLF has therefore decided to set aside as annual provisions an amount equivalent to the guarantee fees collected during the year and projected losses for the coming year based on an account-by-account analysis of IGLF's portfolio in arrears. IGLF has also decided to modify some of its operating procedures in order to encourage the financing of the entire size spectrum of manufacturing and manufacturing-related service industries and meet the financing needs of undercollateralized clients. The major policy changes to be introduced are: (a) modification of the asset-based definition of SMI (para. 1.02); (b) allowing manufacturing-related service industries to be eligible for IGLF financing; (c) removal of the minimum loan size on Bank funded loans and introduction of a maximum loan size of P 5 million; (d) removal of the restriction that only established medium industries are eligible for IGLF financing; and (e) provision of accreditation status to eligible leasing companies. These changes will be incorporated, in a form acceptable to the Bank, in IGLF's revised Lending Strategy Statement and Policy Manual, both of which will be adopted by IGLF by September 30, 1982.  - 35 - 4.36 Orgalization and Staff. During negotiations for Loan 1727-PH, it was agreed that IGLF would be reorganized and strengthened so as to be more responsive to the operating needs of the program. Unfortunately, the orga- nizational changes and staffing increases recommended were not immediately implemented and IGLF was unable to monitor adequately the operations of accre- dited institutions. In November 1981, the Monetary Board approved 18 new positions for IGLF so that its staff strength increased from 48 to 66. As a result, IGLF has received approval from the RC to reorganize from its two existing divisions into four divisions. The major responsibilities of these divisions will be: (a) institutional appraisal of accredited institutions; (b) desk processing of loan applications and the servicing of guarantees; (c) servicing of all loan acounts; and (d) undertaking studies related to the IGLF program. The new organization structure showing staff allocation is given in Annex 5 Chart 1. 4.37 Staff Training. To upgrade the quality of IGLF's operations, it is necessary that, at a minimum, all IGLF staff be fully trained in project evaluation and follow-up. In addition, staff responsible for monitoring the institutional capabilities of the participating institutions will need training in development banking. IGLF's management, in conjunction with the CB's training institute and other outside training agencies will develop suitable courses. In addition to the training needs of IGLF's own staff, the training requirements of the accredited institutions' staff have also been taken into account. IGLF sponsored a UPISSI course on SMI lending for the staff of participating institutions in June 1981 and will be sponsoring further courses this year. 4.38 Appraisal and Disbursement Procedures. Under the accreditation system, project appraisal is the responsibility of the accredited institution. Some accredited institutions, such as commercial banks with no history of term lending, tend to rely more on collateral than on project analysis. IGLF's Lending Strategy requires, however, that the subprojects it finances be both economically and financially viable. IGLF will be in a position to remedy this deficiency through its close monitoring of the performance of the participating institutions and the training programs being held for the staff of accredited institutions. 4.39 Supervision. While the accredited institutions are primarily responsible for project supervision, IGLF staff have routinely conducted end- use project verifications to guard against diversion of funds. However, as the number of IGLF-financed projects grow, an increasingly large proportion of IGLF staff time is being taken up in this routine activity. In addition, when IGLF conducts its annual review of accredited institutions, it has followed a policy of visiting all the subprojects financed to ensure that funds have been properly utilized. As a result, in 1980 it was only possible for IGLF to carry out a review of 4 of the 32 accredited institutions. In the future, in order to leave IGLF staff more time to review and appraise institutions, a random sample of IGLF-financed projects would be visited during the  - 36 - annual review of accredited institutions. In addition, IGLF will require that all accredited institutions have independent auditors review annually their IGLF portfolio and report their findings to IGLF. As a result of the annual audit of the IGLF portfolio of the accredited institutions and the decision to visit a representative sample of projects financed, the time spent by IGLF staff on supervising specific projects will decrease thereby enabling IGLF to undertake an annual evaluation of all accredited institutions. 4.40 Operations. IGLF loan approvals increased steadily from P 29.2 million in 1976 to P 59.9 million in 1979 for an annual average growth of 27% over the period. In February 1980, when Loan 1727-PH became effective, medium industry loans became eligible for IGLF financing and the spreads to accredited institutions were increased to 8% for small industry loans and 6% for medium industry loans. As a result, loan approvals sharply increased to P 147.2 million in 1980 and P 234.4 million for 1981 (Annex 5, Table 2). In terms of institutional participation, for 1981, nonbank financial intermediaries accounted for 75% of loan approvals and commercial banks for 17%, while "other" financial institutions, such as savings and mortgage banks, accounted for 8% of approvals (Annex 5, Table 3). 4.41 Characteristics of Operations. In general, IGLF tends to finance labor-intensive manufacturing industries, although some construction, tourism and service industries have also been financed. During 1976-81, the manufacturing sector accounted for 94-99% of approvals, the more important subsectors being apparel/footwear/garments, food and food products and metal products (Annex 5, Table 4). In terms of regional distribution, IGLF's lending has been skewed in favor of Metro Manila and adjoining provinces (Annex 5, Table 4). In order to bring about better regional distribution of investment, IGLF now requires accredited institutions to finance: (a) 60% (by number) of their loans in a 6-month period outside Metro Manila; and (b) no new projects in Metro Manila unless they are export oriented. Over the period January-December 1981, 25% of IGLF resources have gone to cottage and small industry and 75% to medium industry. Financing of medium industries has, however, been encouraged both because the medium-scale enterprise tier is not particularly well-developed in the Philippines and because they form a vital link in fostering subcontracting relationships (paras. 1.05 and 1.06). IGLF has therefore decided not to impose any limits on the allocation of its resources between cottage, small and medium industries. The number of loans carrying maturities of less than 5 years has been decreasing steadily from nearly 80% in 1976 to 22% in 1981, indicating a growing sense of realism in the project evaluations done by the accredited financial institutions. 4.42 Financial Position and Performance. IGLF's total assets have increased at an average of 34% per year since 1974. This asset growth has been almost entirely financed by drawdowns on the two previous Bank loans (Loans 1120-PH and 1727-PH) and Government counterpart funds (Annex 5, Table 5). IGLF's financial position has been very strong with a current ratio consistently over 4:1 and total debt/equity ratio of below 2:1 for the period 1976-80. In 1981, however, IGLF's current ratio dropped to 1.2:1 as temporary assets were liquidated to provide resources for further term- lending. IGLF's total operating income has been increasing at an average of  - 37 - 47% p.a. over the past three years and stood at P 32 million in 1981 (Annex 5, Table 6). Its sources of income are interest income on loans, interest income on temporary investments and guarantee fees. Historically, the largest contribution to gross income was from short-term investments. However, this element has now declined as surplus funds have been used for term financing. As a result, interest income from term loans as a proportion of total income increased from an average of 53% for 1974-79 to 81% in 1980 and 82% for 1981. The profitability of IGLF's operations steadily increased between 1976-80 with net profit in 1980 more than double that of 1979. How- ever IGLF's net profit declined from P 8.5 million in 1980 to P 5.3 million in 1981 due to a decline in interest income on temporary investments and rising interest expenses. 4.43 Quality of Portfolio. Over the last few years, arrears, both in terms of absolute amount and as a percentage of loans outstanding, have steadily declined. The improvement can be explained partly by the signifi- cant increase in the outstanding portfolio between 1978-81 and by the CB's newly adopted (early 1980) automatic debiting policy whereby the accounts of participating institutions in arrears are automatically debited by CB after a grace period of 45 days if no remedial plan has been suggested. As of December 31, 1981, total arrears of financial institutions to IGLF were 1.6% of the outstanding portfolio; loans affected by arrears were 25% by number and 14% by amount (Annex 5, Table 7). Based on a sample representing 66% of the number and 74% of the amount of loans outstanding, total arrears of end-users to participating financial institutions amounted to 6% of the outstanding loan portfolio, while loans affected by arrears amounted to 35% by number and 19% by amount. The arrears ratio varies significantly by type of institutions with rural banks having the highest ratio of 74%,/1 private development banks 36%,/2 commercial banks 13%, and NBFI 2% (Annex 5, Tables 8 and 9). C. Technical Assistance Component 4.44 Organization and Structure of BSMI. Following the merger of the Ministries of Trade and of Industry in July 1981, there are now six bureaus and 17 affiliated agencies (many of which are technical institutes) within MTI. The BSM[, one of the above mentioned six bureaus, is headed by a Director who reports to the Deputy Minister, MTI in charge of SMI. The BSMI has four divisions with 53 professional staff at Head Office and a regional extension organization, SBAC/MASICAP, with 277 professional staff as of year-end 1981./3 The SBAC/MASICAP field organization reports directly to the /1 Rural banks have not been accredited and are therefore not eligible for Bank funding. /2 PDBs will no longer be accredited under IGLF (para. 4.33). /3 The SBAC/MASICAP staff are projected to increase from 330 at year-end 1981 to 600-650 by year end 1985.  - 38 - Director, BSMI and is grouped under two program coordinators, one for Luzon and the other for Visayas and Mindanao. BSMI's total budget allocation is P 23.1 million (US$2.9 million) for 1982. The organizational structure, staffing and procedures within BSMI are satisfactory. 1. SBAC/MASICAP Subcomponent 4.45 Strengths/Weaknesses of SBAC/MASICAP Program. The history and current operations of the SBAC/MASICAP program are discussed in paras. 1.15- 1.18. The major strengths of the SBAC/MASICAP program are: (a) an extensive regional presence (12 centers and 35 subcenters); (b) provision of good quality advice to SMI entrepreneurs; and (c) its referral service operations which links clients in the regions to essentially Metro Manila-based technical expertise. The major weaknesses of the program are: (a) inadequate physical facilities to support an effective and efficient increase in the level of operations; (b) the absence of an operating strategy and guidelines for SBAC/MASICAP operations; (c) relatively little industry level activity; and (d) inadequate training on industry-level issues and technology. 4.46 The proposed SBAC/MASICAP subcomponent aims to build on the experi- ences under the previous two Bank loans and address the weaknesses mentioned above. First, service to rural areas has been limited in the past due to a lack of sUbcenters from which to operate and transportation vehicles and infrastructure necessary to reach outlying entrepreneurs. Under the project, financing will be provided for equipment, vehicles and establishment of reference libraries in the regional SBAC/MASICAP offices and the subregional offices currently being established. Second, an Operating Strategy, and Guidelines for SBAC/MASICAP Operations, focusing on the importance of industry-level counselling were agreed upon at negotiations. Third, SBAC/MASICAP staff have started developing industry studies; a list of industry studies that have been prepared is provided in Annex 6, Table 1. In addition, SBAC/MASICAP centers are in the process of establishing industry associations and are arranging industrial group counselling./1 To do this effectively, it is necessary for SBAC/MASICAP staff and the BSMI staff supervising SBAC/MASICAP to have not only broad managerial training but in-depth training on the technical, marketing and financial problems facing priority industries in their regions. In addition, SBAC/MASICAP staff will, from time to time, need technical consultancy assistance. This training/technical consultancy assistance will be particularly important for SBAC/MASICAP staff in developing solutions to industry-specific problems via the pilot project mechanism (para. 4.47). In addition to SBAC/MASICAP and Head Office (BSMI) staff training, it will be necessary for SBAC/MASICAP to organize client training for priority SMI industry groups which will be /1 A study of SBAC/MASICAP clients and their requirements indicates that technical training will be particularly needed with respect to food processing, furniture manufacture and production technology for metal working industry.  - 39 - carried out by specialized institutions/consultants. It is estimated that over a 4-year period, approximately 1,820 BSMI and SBAC/MASICAP staff will attend courses., The actual number of staff trained will clearly be less than this as many of the staff will attend more than one course. Courses for 5,100 SBAC,MASICAP clients will also be arranged. SBAC/MASICAP clients contribute both monetary and nonmonetary payment for the technical training received. A summary of the proposed training program is given in Annex 6, Table 2. BSMI will be responsible for identifying the specific training needs of Head Office and SBAC/MASICAP staff and for organizing the necessary courses. Regional SBAC/MASICAP Training Coordinators will be responsible for proposing client training which will be reviewed and centralized into an annual work program by BSMI. 2. Pilot Project Subcomponent 4.47 On the basis of regional industry studies, SBAC/MASICAP staff are engaged in identifying for each region existing priority industries and those with growth potential, the latter being identified on the basis of natural resources of the region and the skill mix of the local population. The industry studies thus far prepared have shown that many problems faced by individual entrepreneurs are industry-wide, rather than firm-specific problems. To deal with this type of problem, SBAC/MASICAP has organized individual entrepreneurs into industry associations and worked closely with them to develop solutions. When the solution indicates the need for the development of a common facility or new/improved technologies, pilot projects may be developed. A project feasibility study (PFS) would be prepared by the regional SBAC/MASICAP staff in conjunction with the industry association, using private sector technical expertise when necessary and would be forward- ed to BSMI for review. The choice regarding which pilot projects to finance would rest with BSMI, subject to Bank approval, while pilot project identifi- cation and supervision would rest with the local SBAC/MASICAP center. An approved project would be implemented by a full-time professional manager under the guidance of SBAC/MASICAP and the industry association concerned. 4.48 Several pilot projects have been identified and, in principle, are ready for financing. The pilot projects so far identified are typically common facilities (e.g., kiln drying, metal testing, food processing and handicraft marketing) and reconditioning and service centers. A few pilot projects concentrate on developing new technologies (e.g., bio-gas). Details of the already identified pilot projects are given in Annex 6, Table 3. In addition, a pipeline of interesting suggestions has also been established and is given in Annex 6, Table 4. Certain pilot projects have been specifically developed to address the problems of the four key SMI subsectors namely, food, garments, wood and furniture, and metal working. Details regarding the problems of these subsectors and the manner in which the project addresses them are provided in Annex 6, Attachment 1.  - 40 - 4.49 Under this project, the maximum subloan to a pilot project will be limited to P 5 million (US$617,280). With respect to project financing, the Bank will finance a maximum of 70% of the total project cost leaving the project sponsor responsible for the remaining amount. A minimum of 20% of project cost would be required as an equity contribution from either the sponsor (industry association) or a VCC./l The remaining 10% may come from the sponsor-s own resources, other financial institutions such as VCCs, or from counterpart pilot project funds. In those instances when pilot projects are developing new technologies for which there is no private sector sponsor, the Bank would finance 70% of the project cost while the balance would comprise MTI funds. As MTI is not legally capable of lending to private enterprises, Bank and MTI funds to, and repayments from pilot projects will, for administrative convenience, be channelled through DBP. While DBP would operate as the banking agent for MTI, pilot project appraisal, approval and supervision will be done by MTI and the credit risk would be borne by MTI. After allowing an appropriate grace period for both capital and interest, a maximum interest rate of 18% will be charged on Bank financing./2 4.50 Cost Sharing. In the past, BSMI-s assistance services were provided free of charge. With the expansion of BSMI's activities, it is desirable to introduce cost sharing to generate operating revenue and information on the value of services to clients. MTI, in its Operating Strategy and Guidelines, is committed to the principle of cost sharing for technical services rendered to SMI and has developed specific cost sharing targets for entrepreneur training, industry studies and project feasibility studies. The target is to increase the SBAC/MASICAP-to-client contribution ratio from 55:45 in 1981 to 40:60 in 1985./3 3. Studies Subcomponent 4.51 Studies will be financed under the proposed technical assistance component to review issues affecting the operations of the SMI sector. The /1 The MTI has a shareholding in all the VCCs. In addition, VCCs currently face a shortage of projects (para. 1.23). It is envisaged that most VCC-financed enterprises will be ultimately sold to the industry associations. /2 Analogous to the interest rate charged by DBP and IGLF on small industry loans. /3 Should SBAC advisory services become subject to a direct monetary fee, then the legal status of SBAC/MASICAP would have to be reviewed. It would probably need to be transformed to an MTI affiliated agency with (semi) commercial operations.  - 41 - three studies which have already been identified are subcontracting (para. 1.06), NACIDA (para. 1.19), and the provision/coordination of services to the SMI sector (para. 1.26). In addition, MTI has requested Bank financing for a set of national SMI subsector studies. These studies will mirror the research currently being done under SAL for large industry and will complement the detailed and purely regional work done by SBAC/MASICAP as well as provide a valuable data base on the structure of SMI. The proposed SMI subsector/ industry studies will consider issues such as productivity, economies of scale, and product supply capabilities of specific industries in which SMI predominate. With respect to cost, it is estimated that the NACIDA study will take approximately 1-1.5 man-years, the subcontracting study from 1.5-2 man- years and the study on the services to the SMI sector about 2 man-years, for a combined estimated cost of about US$0.4 million./1 The balance of about US$0.6 million will be kept for financing the industry level studies. The terms of reference of all studies financed under this subcomponent will be approved by the Bank prior to fund release; any consultants financed under the project will be employed according to Bank Guidelines. V. THE PROPOSED BANK LOAN Benefits and Risks 5.01 Benefits. The proposed SMI project will address the major financial and technical constraints hindering the development of SMI. In addition to providing needed financial assistance, the technical assistance provided under the project will foster the structural changes necessary to upgrade the quality of SMI output in industries where SMI currently predominate while simultaneously fostering the development of SMI in subsectors with growth potential. 5.02 The Bank loan would increase the resources available for SMI lend- ing. It is expected that about 2,100 subprojects will be financed, with subproject costs, including sponsors' equity of about P 2,211 million (US$273 million) and an average subloan size of about P 794,600 (US$98,100). These subloans are expected to generate incremental direct employment of about 32,900, with an incremental cost-per-job of about US$8,300. For the individual subcomponents, the cost-per-job values are likely to be in the /1 Consultant costs (including salary, travel, subsistence, etc.) are estimated at US$60,000 per man-year for local consultants and US$100,000 for foreign consultants.  - 42 - range of US$10,000 for IGLF, US$8,000 for DBP and US$4,500 for the PDBs./J The breakdown of expected costs and benefits is as follows: Expected no. Total subpro- Total sub- Average sub- of subprojects ject cost loan amt. loan amt. US$ million US$ million US$'000 IGLF 300 155 117 390,000 DBP/SMI 300 67 50 166,700 DBP/PDBs 1,500 51 39 26,000 Total 2,100 273 206 98,100 Since individual subprojects to be financed under the loan are not yet inden- tified, an ex ante quantification of their economic impact is not possible. However, under the Bank's past SMI financing the weighted average ex ante financial rate of return was 26% and the economic rate of return was 42%. 5.03 In addition to providing finance to SMI, the project will play an important role in upgrading the capabilities of the financing institutions. While the Bank has had a long-standing and satisfactory relationship with IGLF, organizational and procedural changes are being introduced under the ,roject to enable IGLF to monitor a.d upgrade more effectively the operations of ics accredited financial institutions. Although the Bank has had a long relationship with DBP/SMI, its institution-building impact has been limited. A detailed Action Program has been developed with DBP which, if implemented, would significantly improve DBP's SMI operations both at the Head Office and in the branches. Under this project, PDBs would, for the first time, receive Bank resources through DBP's DDRB for onlending to SMI. Organizational and procedural changes have been recommended for DDRB to enable it to shift its focus from project evaluation to institutional upgrading. For the PDBs, an accreditation system has been devised which offers incentives to PDBs to improve their operations. In addition, a series of training courses has been developed for the staff of IGLF, DBP/SMILE, DPB/DDRB, DBP branches, /1 The increase in the cost-per-job as compared to previous loans is princi- pally because of inflation and the increase in the subloan ceiling. In addition, the increased financing of medium industries, which tend to be more capital intensive than small industries, is likely to raise the cost-per-job; however, financing of medium industries is justified since this industry size group is underdeveloped and is vital in promoting subcontracting (para. 1.05).  - 43 - PDBs and IGLF accredited financial institutions. While some highly special- ized courses will be offered, the major thrust of the training program is to induce financial intermediaries to shift their focus from collateral- to project-based lending and, for the apex institutions (IGLF, DDRB), to shift from a project-specific review role to an institutional development role. 5.04 Although difficult to quantify, the technical assistance service provided by SBAC/MASICAP and the alleviation of key production, technical and marketing constraints facing priority SMI subsectors through the pilot project mechanism are expected to have a significant impact on the growth prospects and productivity of SMI. Under the project, SBAC/MASICAP staff will increase the scope of their activities to deal with industry problems as well as individual business problems of SMI entrepreneurs. In addition to services directly provided, SBAC/MASICAP will play an important referral role by linking SMI clients on a one-to-one basis with Manila-based technical institutes and will arrange for the staff of technical institutes to come to the regions and demonstrate ways in which SMI technologies can be upgraded. It is estimated that approximately 5,000 SMI entrepreneurs will attend such technical courses and will bear a significant proportion of the costs incurred. 5.05 The pilot project mechanism will provide a novel way of testing potential solutions to constraints faced by specific industrial subsectors and is capable of being replicated nationwide if proven successful. Colla- boration with the private sector in the design and implementation of pilot projects and in project-funded studies to be undertaken on SMI-related issues will provide a useful mechanism to get the private sector more actively involved in the development of SMI. 5.06 Risks. With respect to the credit component, the financial requirements of SMI estimated under the project assume a favorable invest- ment climate and that other funds are not provided to the same sector on more favorable terms. The only program which is likely to compete with DBP/PDB/ICLF financing due to provision of funds below market interest rates is the KKK. However, the project characteristics inherent in KKK-funded projects are likely to differ significantly from those financed under programs using Bank funds (para. 1.22) and the present expectation is that this program will not have a major effect on the demand for loans under this project. As PDBs and DDRB are new clients, there is a risk that the PDB accreditation program will face teething problems and that progress under the scheme will be slower or less effective than anticipated. To reduce the likelihood of this occurrence, DBP has already started reviewing PDBs for accreditation and it is expected that some PDBs will be accredited prior to loan effectiveness. In the case of DBP's direct SMI lending, there has been a long history of institutional problems. A detailed Action Program has been developed for DBP's SMI operations which DBP's senior management has agreed to support. To help ensure against the risk of noncompliance with the Action Program, a tranching mechanism has been introduced (para. 4.16).  - 44 - With respect to IGLF, it is possible that if the higher end-user interest rates discourage accredited institutions from participating in the program, the growth rate of IGLF operations will be lower than anticipated. The appropriateness of the interest rates charged will be continually monitored and revised if necessary (para. 5.10). 5.07 With respect to the SBAC/MASICAP program, the move from individual client counselling is a recent one and the transition to an industry-wide focus might prove more difficult and time consuming than presently antici- pated. Second, the integration of the Ministries of Trade and Industry has resulted in the new MTI having a number of extension services. While MTI has repeatedly given assurances that it will differentiate its extension services on the basis of developmental and regulatory operations, it is conceivable that, over time, SBAC/MASICAP could be functionally integrated with NACIDA or other similar agencies. If this were to happen, it might interrupt the SBAC/MASICAP work program and the time frame for its implementation. The Government agreed at negotiations, however, that the Bank will be consulted prior to any such proposed functional integration. Third, as SBAC/MASICAP is generally regarded as the premier SMI extension service agency, demands are placed on it to help develop/administer other Government SMI programs. These demands could result in SBAC/MASICAP neglecting its own operations. Agreements were reached at negotiations with the Government that BSMI and SBAC/MASICAP will have the staff and budgetary resources necessary to carry out their responsibilities under the project. Finally, the pilot project mechanism is innovative by design and there is a significant risk that these projects will not achieve their desired objective. Project approval by the Bank prior to disbursement from the pilot project fund should provide some safeguard. Features of the Loan 5.08 Lending Arrangements. The proposed loan of US$130 million /1 would be made to the Government on standard country terms and conditions. About US$123.0 million of the Bank loan would be for the credit component of which the equivalent in pesos of US$48.0 million would be onlent by the Government to DBP under a Subsidiary Loan Agreement satisfactory to the Bank, on terms and conditions similar to the Bank loan. Signing of the Subsidiary Loan Agreement would be a condition of effectiveness of the proposed loan. Of this amount, US$27.0 million would be for DBP's direct SMI lending and US$21.0 million for relending to PDBs./2 Loan proceeds in the amount equivalent to US$63.0 million would be made available to IGLF under terms and conditions similar to the Bank loan. An amount of US$12.0 million would initially be unallocated among the financing institutions (para. 3.05). DBP and IGLF would bear the 0.75% commitment fee on the undisbursed balance of their portion of the loan and the 1.5% front-end /1 This excludes the US$2.0 million front-end fee. /2 DBP's direct SMI lending would not include cottage industries.  - 45 - fee. The balance of US$7.0 million would be passed on to MTI for the technical assistance component./I The Government would bear the foreign exchange risk for both components financed under the loan. 5.09 Loan Amortization. Since the number of subloans expected to be financed under the credit component is quite large (para. 5.02), as in the case of previous loans, for the sake of administrative convenience, a fixed amortization schedule that would have the same repayment schedule as the Bank loan is recommended for repayment to the Government by DBP and IGLF. As the maturities of subloans to be financed will be considerably less than the 20 years allowed for repayment to the Government, IGLF, DBP/SMI and the DBP/PDBs will receive an excess of repayments from borrowers over repayments to the Government. As agreed at negotiations, these surplus funds are to remain with the financing institutions to be utilized for further lending to subprojects eligible to receive Bank financing according to the criteria established for the proposed project. 5.10 Onlending Terms. Subloans made with IGLF or DBP/SMI resources would be onlent to the end-users at 18% p.a. and 21% p.a. for small- and medium-scale borrowers, respectively. For cottage industry borrowers, IGLF's end-user rate will be 18% p.a./2 The PDBs, which will essentially be making loans to cottage and small industry borrowers, will charge 21% for loans made with Bank resources. The rates charged by the financing institutions will be more market-oriented than they were under previous Bank loans, and given projected rates of inflation of 10% and under, onlending rates are estimated to be significantly positive in real terms during the life of the project. The framework of rates and spreads proposed is shown in the table below. The continued appropriateness of these rates and spreads will be reviewed by by Government throughout the commitment period to ensure that they continue to reflect market conditions. In light of operating experience and/or major changes in market rates, the interest rates and spreads would be revised with agreement of the Government and the Bank. /1 From the technical assistance component, US$2.5 million for pilot projects would be administered by DBP as MTI's agent bank (para. 4.49). /2 In the case of IGLF, its end-user interest will increase from 14.7% to 18% for cottage and small industry loans and from 15% to 21% for its loans to medium industry. In the case of DBP, its end-user rate will increase from 14% to 18% for its small industry loans and from 16% to 21% for its medium industry loans.  - 46 - PROPOSED LENDING RATES AND SPREADS /a Industrial category of borrower Cottage Small Medium IGLF Final end-user rate 18 18 21 Spread to financial institution 7 7 5 Interest charged by IGLF to financial institution 11 11 16 Cost of IGLF funds /b 7.2 7.2 7.2 IGLF spread 3.8 3.8 8.8 DBP/PDBs Final end-user rate 21 21 21 Spread to PDBs 7 7 7 DBP's rediscount rate 14 14 14 Cost of DBP's funds /c 12.4 12.4 12.4 DBP PDB spread 1.6 1.6 1.6 DBP/Direct SMI Lending Final end-user rate /c 18 21 Cost of DBP's funds /d /c 12.4 12.4 DBP direct lending spread 5.6 8.6 Ia All rates in percent per annum. /b Computation: 60% of resources at 12% (assuming IBRD rate of 11.8% + capitalization of front-end fee = 12%) + 40% with no interest (Govern- ment counterpart) = 7.2%. /c Bank funds will not be financing DBP's direct cottage industry lending operations. /d Computation: 60% of resources at 12% (assuming IBRD rate of 11.8% + capitalization of front-end fee = 12%) + 40% at 13% = 12.4%. 5.11 Loan Purposes. The credit component of the loan will be used to finance fixed assets and permanent working capital of SMI subprojects. The technical assistance component of the loan will be used to finance equipment/ transportation vehicles and reference books for SBAC/MASICAP, consultancy services, training of SBAC/MASICAP and BSMI staff as well as SMI entrepren- eurs, and fixed asset and permanent working capital costs for pilot project. 5.12 Subloan Size, Equity Contributions and Maturity. To ensure a wide distribution of the project's funds, under the credit component, the maximum subloan size will be P 5 million (US$617,280). For all subloans made using Bank funds, a minimum equity contribution of 20% of total project cost will be required. For working capital loans, the maximum maturity allowed  - 47 - will be seven years, including a two-year grace period. For fixed asset subloans, the maximum maturity allowed will be 12 years, including a three-year grace period. 5.13 Procurement. DBP and IGLF would be responsible for ensuring that the procuremernt procedures utilized to select items to be financed entail a satisfactory degree of competition. As items procured by SMI borrowers do not justify international competitive bidding, most financing institutions require the borrower to submit at least 3 quotations from reliable suppliers. A supplier is chosen based on the suitability of equipment, local availability of spare parts/service efficiency, reliability of supplies, compatibility with present equipment and price. DBP and IGLF will be required to maintain records of the method of procurement and to monitor the utilization of subloan funds during their regular project supervision. These procurement methods, which are satisfactory, will be reviewed by the Bank during project supervision. Under the technical assistance component, goods would be procured through a series of relatively small contracts which would be awarded during project implementation as SBAC/MASICAP regional subcenters were established. International competitive bidding procedures would therefore not be appropriate; however, procurement of goods under this component would require at least three quotations. This procedure should prove satisfactory as there is adequate representation of equipment suppliers and acceptable after-sales service in the Philippines. MTI has agreed to provide the Bank with details on the quotations obtained and the reasons for the choice of supplier. Under the proposed loan, procurement of consultants would be in accordance with the Bank's "Guidelines for the Use of Consultants" (August 1981). 5.14 Disbursement. For the portion of the Bank loan channelled through the credit component, the Bank will finance 60% of the total subloan amount which would approximate 45% of total project cost assuming an equity contribution of 25% of total project cost (minimum sponsor contribution would be 20%). As in the case of previous SMI loans, applications for disbursement from DBP and IGLF will be supported by a statement of expenditure. In addition under this loan, the statement of expenditure will need to be accompanied by the standard quarterly reports agreed upon with the Bank. In the case of the technical assistance component, Bank disbursements will be made for: 1()0% of the direct foreign exchange cost of imported, or 60% of the cost of locally procured, equipment/transportation vehicles and books for the SBAC/MASICAP subcomponent; 100% of training under the SBAC/MASICAP sub- component; 70% of the total cost for pilot projects; and 100% of the studies subcomponent. With respect to the technical assistance component, disburse- ments will be made against some local currency costs. Disbursements for equipment, training and consultants fees would be made against contracts; for the pilot projects, disbursement would be made against a statement of expenditure. For all components or subcomponents using a statement of expenditure, adequate records of documentation will be maintained and will be available to the Bank upon request. The loan is expected to be committed in about three years and disbursed in about four years. Annex 7, shows the estimated schedule of disbursements. As the standard Industrial Development Finance (IDF) profile is not relevant in the case of a SMI project, the  - 48 - disbursement profile under this loan is based on the disbursement experience of SMI I (Loan 1120-PH) and SMI II (Loan 1727-PH) and projections. 5.15 Free Limit. Given the increase in the maximum subloan amount,/l free limits have been established for each of the financing channels; disbursements for subloans in excess of the free limits will need prior approval by the Bank./2 The free limits for DBP/PDBs, DBP/SMI and IGLF are P 2.5 million, P 3.0 million and P 4.0 million, respectively. The differences in the free limits reflect the differences in expected average loan sizes (para. 5.02) and the degree to which the Bank desires close supervision of subproject appraisals. In addition, for DBP/PDBs and DBP/ SMI, all appraisal reports for subloans from P 500,000 to the respective free limit, or the 10 largest subloans approved during the quarter below the free limit, whichever results in the greater number of projects, will be sent to the Bank for postapproval review. For IGLF, appraisal reports for subloans from P 2.0 million to P 4.0 million will be sent to the Bank for postapproval review. The free limits and postapproval review limits should result in the Bank reviewing about 75 of IGLF's subprojects (30% of projected approvals), 75 of DBP/SMI subprojects (20% of projected approvals), and 130 PDB subprojects (9% of projected approvals). 5.16 Financial Rate of Return (FRR) and Economic Rate of Return (ERR) Calculations. FRR calculations are to be made for all subloans of P 500,000 (US$61,730) or more. ERR calculations will be required for all subloans of P 3.5 million (US$432,100) or more. 5.17 Reporting and Audit Requirements. IGLF, DBP/SMI, DDB/DDRB and MTI will submit quarterlv reports on their operations/activities to the Bank on the basis of agre-d formats. The pilot project fund of MTI is to be annually audited with the findings of the auditor provided to the Bank. IGLF will continue to be audited yearly by the Commission on Audit (COA), according to the Bank's long-form audit procedures and the Bank will be provided with a copy of the audit and any comments/findings of the auditor. IGLF will also require that its accredited institutions have their IGLF portfolios audited on an annual basis by auditors acceptable to IGLF and the findings of the audit will be conveyed to IGLF. For DBP/SMI and DBP/DDRB, each department will have the COA certify that year-end data relating to its level of operations and quality of portfolio (arrears and collection rates) are accurate and the Bank will be provided with a copy of the auditor's opinion. In addition, DBP will require that all accredited PDBs have their accounts audited annually by auditors acceptable to DBP. In those instances when disbursements are made against a statement of expenditure, an annual audit of the Statement of Expenditure will also be undertaken and the results will be provided to the Bank. /1 The maximum subloan size was previously P 2.5 million. /2 For subprojects above the free limit, IGLF and DBP will be required to complete the Bank's subproject data sheet.  - 49 - Agreements and Understandings Reached at Negotiations 5.18 During negotiations the Bank reached agreements with: (a) DBP and IGLF on: (i) interest rates to be charged to end-users (para. 5.10); (ii) maximum subloan size (para. 5.12); (iii) free limit to be applied (para. 5.15); (iv) provision of quarterly reports to the Bank on the basis of agreed formats (para. 5.17); (v) provision of audit report on DBP and IGLF; and an operational audit of DBP/SMI and DBP/DDRB. In addition, IGLF and DBP will require their accredited institutions to have their accounts audited annually (para. 5.17): (b) DBP on: (i) issuance by DBP of its revised SMI Lending Strategy Statement by September 30, 1982 (para. 4.04) (ii) the Action Program developed for DBP's SMI operations (Annex 2, Attachment 2). As the time required to fully implement the Action Program is likely to be significant, the DBP direct lending component of the proposed loan will be disbursed in two equal tranches. The following elements of the Action Program will be conditions for release of the second tranche: implementation of the recommendations of the MIS study; implementation of the agreed supervision program; and improvement in the collection rates and arrears ratios on the basis of the agreed targets (para. 4.16); (iii) issuance by DDRB of a Lending Strategy Statement and a Policy Manual by September 30, 1982 which would include the accreditation criteria as well as operating policies and procedures for accredited PDBs (para. 4.27); (iv) at least 60% of the subloans (by value) rediscounted under the project would be used by PDBs located outside Metro Manila for subprojects outside Metro Manila (para. 4.27);  - 50 - (c) IGLF on: (i) issuance of IGLF's Lending Strategy and Policy Manual (paras. 4.35); (d) the Government on: (i) adequacy of staff and budgetary resources to carry out BSMI and SBAC/MASICAP's responsibilities under the project (para. 1.16); (ii) consultation with the Bank about any major changes affecting the operations of BSMI and the SBAC/MASICAP program (para. 1.16); (iii) pilot project financing arrangements and Bank approval of all pilot projects (paras. 4.47 and 4.49); and (iv) periodic review of interest rates charged to end-users to ensure that they remain in line with market rates (para. 5.10). 5.19 In addition, at negotiation the Bank reached understandings with DBP and IGLF on: (i) post-disbursement review of subloans (para. 5.15); and (ii) computation of the financial and economic rates of return of subprojects (para. 5.16); 5.20 Conditions of Effectiveness. The signing of a Subsidiary Loan Agreement, satisfactory to the Bank, between the Government and DBP would be a condition of effectiveness of the proposed project (para. 5.08). 5.21 Recommendation. A Bank loan of US$132 million (inclusive of a front-end fee of US$2 million), for a term of 20 years including 5 years of grace, is recommended to be made to the Government of the Philippines to finance the IGLF program, DBP's SMI and PDB operations and further develop the SBAC/MASICAP program of MTI.  - 51 - ANNEX 1 Page 1 PHILIPPINES THIRD SMALL AND MEDIUM INDUSTRIES DEVELOPMENT PROJECT Ministry of Trade and Industry Small- and Medium-Scale Industry Development in the Philippines: Policy and Strategy for the 1980s I. INTRODUCTION 1. Small and medium industries (SMI) play a major role in the develop- ment of the Philippine economy. In manufacturing, SMI account for more than 90% of the total number of establishments in the organized sector, employ almost 50% of workers and contribute about 30% of value-added. 2. The Government recognizes the importance of SMI and, starting in the second half of the last decade, has begun a conscious effort to develop SMI. The Bureau of Small and Medium Industries in the Ministry of Industry was established in 1974; technical assistance programs were designed to respond to the problems of the sector, and lending to SMI was increased. To extend assistance to small firms in the regions, the Ministry of Industry created the Medium and Small Industries Coordinated Action Program (MASICAP) and Small Business Advisory Centers (SBAC), which have helped with project preparation and technical and management consultancy. The Ministry of Industry also encouraged and coordinated the participation of other government agencies in the SMI development effort. 3. The experiences gained in these SMI development activities provide an important basis for the SMI Development Strategy for the 1980s. II. SMI DEFINITION 4. The Ministry of Trade and Industry promotes SMI development in manufacturing, trading and service sectors. Presently, the Government applies the following three criteria to define SMI for different administrative and assistance purposes: (a) Definition based on asset size for lending purposes: small industries are those with total assets between P 250,000 and P 2.5 million at the time of loan application while medium-scale industries have total assets at the time of loan application, of  - 52 - ANNEX 1 Page 2 up to P 10 million. The Government recognizes the need to adjust this definition periodically to reflect changing economic conditions. (b) Definition based on number of employees for statistical purposes: small industries are those employing 10-99 workers and medium industries are those employing 100-199 workers. (c) Definition based on management structure: small industries are enterprises in which the owner-manager performs the varied range of tasks involved in operating the enterprise without the help of specialized staff officers. These three criteria will be considered in the provision of technical assistance to SMI. III. SMI POLICY OBJECTIVES 5. SMI will continue to contribute to the Government's development objectives which are stated in the National Development Plan and include: (a) equitable distribution of wealth; (b) increased employment generation; (c) improved living standards of the poor; (d) countryside development; and (e) utilization of indigenous resources. 6. The framework for SMI development in the industrial sector is provided by the Government's national industrialization objectives: (a) accelerated employment creation; (b) increased foreign exchange earnings to support the country's development programs and growing import bills; (c) a dynamic industrial structure that is efficient and internationally competitive; and (d) an equitable distribution of the benefits of industrialization among the Filipino people. 7. In support of these objectives, the Government has initiated a program of industrial policy reform. While these reforms will improve the policy framework for the entire industrial sector, several measures are expected to have a particular impact on SMI. The first phase of policy reform focuses on trade; the realignment of tariffs that is currently being imple- mented will lead to greater competitiveness of Philippine manufactured exports and will contribute to the increased efficiency of industries producing for the domestic market. Export incentives have also been strengthened to  - 53 - ANNEX 1 Page 3 complement these reforms. In the second phase of industrial policy reform, the investment incentives system will be revised to encourage export produc- tion, employment generation and the growth of industry in the regions. 8. In support of these policy objectives, the government will imple- ment an industrialization strategy consisting of seven major components which are: (a) rationalization and restructuring of existing key industry sectors; (b) increased emphasis on the promotion of small and medium-scale industries; (c) accelerated dispersal of industries and the promotion of employment-generating projects; (d) stronger cooperation and coordination between the Government and the private sector in the planning and implementation of industrial policies and programs; (e) a focused and organized export promotion program; (f) continued encouragement of foreign investments in selected areas; and (g) accelerated implementation of the 11 major industrial projects. 9. Within the framework of the Philippines' industrialization strategy, the specific objectives for SMI development will be: (a) Increased Geographical Dispersion of SMI (i) The Government will continue to encourage the establishment and growth of SMI as they can contribute significantly to increased regional dispersal of industry and to more balanced regional development. (ii) Particular emphasis will be given to the identification and promotion of SMI which can be established in smaller towns and outlying regions. Locational flexibility and production for the local market are important SMI features which will support this objective. (iii) The MASICAP program of the Ministry of Trade and Industry has assisted SMI establishment and expansion in the regions by providing them with technical assistance in the conduct of  - 54 - ANNEX 1 Page 4 project feasibility studies needed for the availment of loans from financing institutions. The SBACs provided technical and management advisory services. The provision of this assistance will be sustained and enhanced for the coming years to accelerate the development of SMI in the regions. (b) Creation of New Employment Opportunities The considerable potential of SMI to use labor-intensive production techniques will be developed further to enable 9MI to increase its already substantial provision of employment opportunities. (c) Promotion of Export-Oriented Small and Medium Industries The Government in its drive to promote and support exports, will seek to identify exportable products in whose production SMI can participate either directly as exporters or as suppliers to larger firms and trading companies. SMI products which have distinct comparative advantages both in the utilization of indigenous raw materials and local labor will be developed. Initiatives shall be taken to assist SMI with export potential with regard to product design and quality to increase market- ability abroad. (d) Diversification of the Industrial Structure The existence of a broad entrepreneurial middle class is a key element in economic stability. S14I offer the most promising means of promoting entrepreneurship given limited financial resources and scarce technical and managerial expertise. Hence, the pro- motion of SMI will contribute to broadening the entrepreneurial base within the country. This objective is also in line with the Government's commitment to increasing private sector participation in industrial development. (e) Increased Utilization of Indigenous Raw Materials The Government will encourage SMI to increase their use of local raw materials and assist them in the provision of these raw materials. SMI development will thus permit the tapping of resources which otherwise would not have been utilized, particu- larly in the less developed areas.  - 55 - ANNEX I Page 5 IV. MAJOR ELEMENTS OF THE SMI DEVELOPMENT STRATEGY 11. To attain the above mentioned objectives, the SMI Development Strategy for the 1980s will have the following major elements: (a) Contribution to Geographical Dispersion of SMI Geographical dispersion of SMI will be promoted through: (i) regional industry subsector studies which will identify SMI having a comparative advantage based on regional factor endowment and existing regional specialization of production; (ii) the increased regional focus of SMI financial and technical assistance programs and institutions; (iii) strengthening regional investment incentives; and (iv) establishment of the National Industrial Estates Program which will operate as the nuclei for SMI development in the regions. (b) Strengthening of SMI Development Planning Programming (i) The Ministry of Trade and Industry is currently introducing the approach of subsector development planning to restructure problem industries and encourage new industries with a potential comparative advantage. These subsector plans at the national level will cover several subsectors in which SMI represent a large number of firms and will therefore provide a planning framework for subsectoral SMI development. Among the national priority subsectors already identified are food, wood, metal working, and mechanical engineering, garments, and leather industries. (ii) Within this framework, BSMI and the SBACs, will continue to undertake several types of SMI industry studies to provide the basis for focused SMI assistance programs; a. SMI subsector studies at the national level will determine industry-wide problems and assistance requirements; b. SMI subsector studies at the regional level will determine region-specific industrial problems and assistance requirements; these studies will also identify  - 56 - ANNEX 1 Page 6 new industries which should be promoted in specific regions. (c) Access of SMI to Financial Resources (i) In order to further facilitate the access of SMI to financing and to make the financial system more responsive to the specific needs of SMI, the Government will take the following approaches: a. Long-term lending to SMI will continue to be provided through Government financial institutions although the participation of private financial institutions is increasing. Additional channels of SMI lending will be strengthened, particularly to reach SMI firms in the regions. b. The Government will continue to provide guarantee schemes to reduce the collateral requirements for SMI borrowers. c. Schemes of "lending in kind" through equipment leasing will be introduced to reduce the needs of SMI to invest in fixed assets. d. Equity financing by Venture Capital Corporations will continue to support SMI. e. Additional financing schemes for working capital will be introduced or strengthened (e.g., subcontracting financing, financing of purchase orders for export SMI, in-kind raw material financing). (d) Strengthening of SMI Technical Assistance (i) With the SBAC/MASICAP taking the lead role, the technical assistance agencies for S14I will cooperate to expand providing the following services to SMI: a. Business-counselling for individual firms or groups of firms will be strengthened. b. Assistance in the preparation of SMI project feasibility studies will be improved. c. Assistance in technology delivery and quality control will be provided either directly through the technical  - 57 - ANNEX 1 Page 7 institutes or through a referral system operated by the SBAC/ MAS ICAP. (ii) For the delivery of these services, the principle of cost sharing, introduced in 1980, will be maintained and gradually expanded. (e) Strengthening of Training (i) The Government will assist in the provision of training programs which are geared towards the needs of SMI: a. Vocational training courses will have an increased focus on specific industries and take account of the requirements of SMI. b., Training courses for SMI entrepreneurs will be expanded. c, Training for additional industrial extension staff will be provided as well as courses in support of specific extension tasks. (f) Domestic Market Assistance (i) The Government recognizes the importance of marketing for SMI and is providing assistance in the following areas to strengthen the marketing capabilities of SMI: a. The subcontracting program that has been operated by MTI in conjunction with DBP on a pilot basis will be strengthened; a subcontracting exchange will be established to facilitate linkages between SMI and large firms which are interested in subcontracting. b. SBAC/MASICAP will assist in providing information on markets for selected SMI products in the domestic market. c. SBAC/MASICAP will also assist SMI in exploring arrangements for raw material procurement. d. The possibilities of collective marketing arrangements for SMI will be explored. (g) Promotion of SMI Exports (i) In support of the Government's export promotion programs, the export potential of SMI will be developed further:  - 58 - ANNEX 1 Page 8 a. The use of marketing intermediaries for export will be increased, in particular the use of the 12 accredited trading corporations (ATCs). The SBAC/MASICAP staff will work closely with the ATCs to promote SMI exports. b. SBAC/MASICAP will liaise with the Government s export promotion services to provide information on export markets suitable for small- and medium-scale industries. c. SMI export products will be promoted through trade fairs and expositions. (h) Continued Efforts to Develop Technologies and Products Suitable for SMI Production Mi) The Government will increase the emphasis of technological research oriented towards products and production processes appropriate for SMI. (ii) The SMI assistance institutions will help by establishing pilot projects that apply and test the result of these research activities. (i) Development nf Mutual Help and Self-Reliance among SMI The government will assist SMI in identifing and establishing services that might be provided more economically through common facilities. These services could comprise common laboratory and testing centers, common repair service centers, common ware- housing, market outlets, and delivery facilities. While the Government is willing to participate in the establishment and initial operation of these facilities, they ultimately should be taken over by private investors or associations of SMI. V. INSTITUTIONAL FRAMEWORK FOR SMI DEVELOPMENT 12. Concerning the institutional framework for SMI policy design, the Bureau of Small and Medium Industries of the MTI has been assigned lead role for SMI policy design. BSMI will coordinate with other government agencies and the private sector whenever needed for specific SMI policy issues, as well as review the implementation of the SMI Strategy. 13. Concerning the institutional framework for SMI assistance programs, BSMI also takes the lead role for the design of SMI assistance programs by the MTI. The SBACs are the implementing arm of BSMI assistance programs in the regions.  - 59 - ANNEX i Page 9 14. Within the framework of the SMI strategy for the 1980s, agencies extending assistance to SMI will draft action programs to support specific elements of this strategy. BSMI and the SBACs will coordinate and cooperate with other SMI assistance agencies at the working level with respect to these implementation of the action programs. 15. Private sector participation in SMI development is an important thrust of the Government's SMI Strategy. The Government is committed to include representatives of small and medium-sized firms and their associations in the ongoing industrial sector dialogues. In addition, MTI encourages the formation of SMI associations on an industry and regional level to discuss specific policy concerns and to gradually assume an increased role in SMI assistance.  - 60 - ANNEX 2 Attachment 1 Page 1 PHILIPPINES THIRD SMALL AND MEDIUM INDUSTRIES DEVELOPMENT PROJECT Development Bank of the Philippines Draft Lending Strategy for 1982-1986 for Cottage, Small and Medium Industries Target 1. Financing of SMIs will continue to rank high in DBP's lending priorities. Financial assistance to the sector is estimated to amount to P 1.48 billion from 1982-1986. Coverage of SMI Financing 2. Cottage, small and medium industries shall be defined based on the total asset size of the enterprise at the time of filing of loan application. Accordingly, maximum loan sizes shall be assigned for each category. 2. The SMI lending program of the DBP shall cover the financing of fixed assets acquisition, contingency allowances and working capital requirement of manufacturing enterprises registered in the Philippines and engagea/proposing to en?gea in cottage, small or medium industry operations. Assistance to service-oriented projects which have vital linkages to SMIs will also be pursued selectively. 4. Aside from the regular SMI lending program, the DBP shall imple- ment special financing packages designed for specific beneficiaries such as submarginal families engaged in home industries, residents of government resettlement areas who have entrepreneurial potentials, Filipino inventors promoting the use of indigenous raw materials and energy conservation; SMI subcontractors, and venture capital corporations. From time to time, special programs will be designed depending on the specific needs of the sector and explicit government policy. Resource Allocation 5. Lending will be approached on a priority basis to be determined by the impact of the project on the economy and the project's commercial profitability. 6. To ensure optimum benefits to the economy from its SMI financing program, DBP shall be guided by the following strategies:  -61 - ANNEX 2 Attachment 1 Page 2 (a) Regional Dispersal. DBP's SMI financing in regions outside Metro Manila, Southern Tagalog and Central Luzon will account for at least 50% of DBP's total SMI financing. The DBP has identified 15 key branches which, based on the potential of the regions and accelerated growth in the past years, may provide the lead for regional expansion of the SMI sector. (b) Utilization of Local Raw Materials and Energy Conservation. Priority will be given to projects utilizing indigenous raw materials. The DBP will also give weight to projects which are in line with the energy conservation program of the government. (c) Export Promotion. DBP intends to adopt a more assertive role in promoting export consciousness and in undertaking export-liaison work. To this end, the DBP will implement a special financing program for export trading companies. (d) Promotion of Labor-Intensive Industries. Promotion of labor- intensive industries will continue to be one of the main objectives of DBP's lending to SMIs. Generation of about 60,000 jobs at an investment cost of P 26,000 per job is targeted for the next five years. (e) Subcontracting Activities. Relative to its labor-generation OujieLive, the DBP will continue to engage in the promotion of subcontracting activities through its subcontracting financing program. Subcontracting is envisioned to be an important strategy for the creation of jobs at a lower capital investment per job as well as being significant in export promotion activities. Project Appraisal Guidelines 7. Procedures for initial screening and handling of loan application shall be streamlined to reduce processing time. (a) For cottage industries, project evaluation shall center on the entrepreneurial capability of the borrower and his credit responsibility. Evaluation of the technical feasibility of the project shall be in general terms. Financial projections shall be made only for the first year after financing has been granted. (b) For small industries, the market, technical, and financial feasibility studies shall be undertaken in greater detail in addition to a careful evaluation of the proponent's credit worthiness and entrepreneurial skills.  - 62 - ANNEX 2 Attachment 1 Page 3 (c) For medium industries, a detailed study of the past financial performance of the enterprise and the economic, technical, and financial feasibility study of the project shall be undertaken. Careful evaluation shall be done on the management aspect of the project and the creditworthiness of the project proponents. 8. For loans of P 500,000 and above, the project's financial review will include computation of the internal rate of return of the project, breakeven analysis and sensitivity analysis. 9. Economic rate of return shall be computed for projects with loan components of P 3.5 million and above. Project Supervision 10. The DBP will upgrade and intensify loan supervision efforts of SMILE as well as of the branches with emphasis on preventive supervision. Systematic follow-up on the progress and operations of DBP-financed projects will be undertaken to keep DBP-s management informed of current project status so that timely and appropriate action may be taken. DBP therefore requires its borrowers to submit regular periodic reports on operational and financial performance. This may also involve project visits to confirm the state of progress, to check on the efficiency, organization and management of the project and to discuss problems of mutual concern with the borrower-s management. 11. To further ensure the efficient use and recovery of DBP-s resources, DBP will continue to take measures to reduce the level of arrearages of its SMI loan portfolio. Accounts in arrears will be analyzed to determine the causes for arrears and to determine the repayment capacity of the enterprise. On the basis of this analysis, DBP's management will take appropriate measures for collection, rescheduling, restructuring, or foreclosure of the account. Implementation and Training 12. To implement its lending program more efficiently and effectively, the DBP will regularly review the organization set-up as well as functional relationship between SMILE and the Branches. The SMILE Department will act as the overall SMI program administrator. 13. Branch personnel will be assigned permanently to attend to SMI functions, including reporting. Assistance will be extended by the Head Office to the branches in the appraisal and supervision of SMI projects. 14. Continuous upgrading of skills and capability of SMILE and branch SMI staff will be pursued.  - 63 - ANNEX 2 Attachment 1 Page 4 Reporting 15. The information system will be improved so as to generate accurate and timely reporting.  - 64 - ANNEX 2 ATTACHMENT 2 Page 1 PHILIPPINES THIRD SMALL AND MEDIUM INDUSTRIES DEVELOPMENT PROJECT Development Bank of the Philippines Program of Action 1. The management of DBP has initiated the following Action Program to help make its institutional set-up more responsive to the needs of the complex small and medium industries (SMI) program under its administration and to better achieve its broader objectives of: promotion and development of the SMI sector, a more equitable income distribution through regional dispersal of investment, and the broadening of the country-s entrepreneurial base. 2. Definition of SMI. For its SMI operations, DBP will define cottage, small and medium industries on the basis of the size of total assets of the enterprise at the time of loan application rather than on the loan amount granted, as had been the case in the past. Accordingly, those enterprises with total assets of up to P 250,000 at the time of loan application would be defined as cottage industries, those with total assets of P 250,000- 2.5 million would be small industries, and those with assets of P 2.5- 10.0 million would be medium industries. This definition would be used in all aspects of DBP-s SMI lending including determining the eligibility of enter- prises for receiving DBP SMI financing, and in establishing the appropriate interest rate to be charged; in addition, the definition would be uniformly applied on all of DBP's SMI operations, irrespective of the source of funds used by DBP. 3. Organization of SMILE. Given the increasingly complex nature of DBP-s SMI lending, DBP-s management has decided to reorganize the SMILE Department to increase its effectiveness in providing guidance to and monitoring DBP-s SMI operations. The main features of the reorganized SMILE would be: (a) establishment of a branch group /1 to review branch appraisal reports, oversee branch SMI operations, provide branches with needed assistance and receive operational branch data; (b) a special financing schemes (SFS) group would be separately staffed from other operating groups so that the administration of the SFS do not impinge on DBP's regular SMI operations; and (c) establishment of four project appraisal/supervision groups in charge DBP's regular head office SMI operations. Within these groups, appraisal and supervision functions would be handled by separate and distinct /1 The term group is used to define the functions/staff assigned to an Assistant Manager.  - 65 - ANNEX 2 ATTACHMENT 2 Page 2 units /1 of staff./2 The administrative collection functions would be removed from project supervision and performed by a separate unit of the administra- tion group. A revised organizational chart of the SMILE Department which incorporates th,e major functions of each group is attached (Chart 1). Implementation of the revised organization for SMILE will be completed by September 30, 1982. 4. Organization of the Branches. DBP's strategy for its future SMI operations vis--a-vis the Head Office (SMILE) and the branches is to allocate the functional responsibility of eoordinating and monitoring its overall SMI operations to SMILE and strengthen SMI staffing in the branches. DBP's management has therefore given SMILE clear functional authority over branch SMI operations and has agreed to establish SMI units in all of DBP's branches. Under DBP Circular No. 71, a three-person SMI unit has been established in all the branches. The Amendment to Circular No. 71 requires that in the 15 DBP branches most active in SMI lending,/3 the SMI staff will be engaged solely in SMI branch operations; in the other branches the SMI units will be responsible for all branch SMI operations but will engage in other activities when time permits. To the extent possible, the rotation of trained SMI staff in the branches will be managed so as to minimize the impact on the unit's operations. The SMI branch units will be established and have started operations by September 30, 1982. 5. Management Information Study. DBP has faced long-standing problems with regard to the effective monitoring of its SMI operations and meeting the reporting reqtLirements of the Government and its creditors. DBP's management aas therefore undertaken to establish an effective management information system (MIS) for its SMI operations. In order to design an appropriate system, an MIS consultant will be assigned to the SMILE Department to examine its data collection requirements and procedures. The essential functions of the MIS consultant would be to: (a) undertake an inventory of the current data base for Head Office and branch SMI operations with a view to resolving discrepancies between SMI data generated by different units within SMILE, branch and Head Office data on SMI operations, and data generated by EDP /4 and SMILE; /1 A unit is a part of a group. /2 Both appraisal and supervision groups will be organized on an indus- trial subsector basis. /3 Cebu, Davao, Cagayan de Oro, Balanga, Bacolod, Baguio, General Santos, Dagupan, Lucena, Tacloban, Tarlac, Zamboanga, Legaspi, Roxas, Dipolog. /4 DBP's data processing department.  - 66 - ANNEX 2 ATTACHMENT 2 Page 3 (b) design an internal reporting system for SMILE and branch SMI operations which would be compatible with DBP's overall MIS and its proposed computerization; at a minimum, this reporting system would generate data which would enable DBP to meet its reporting requirements to the Government and its creditors; (c) establish an effective monitoring and evaluation system for both DBP's overall SMI program and the direct SMI lending of SMILE and the branches; and (d) establish a system of data generation and processing between SMILE, the branches and EDP to ensure timely and accurate operational and financial reports. The MIS study is to be completed by September 30, 1982 and implementation of its recommendations will be a condition for release of the second tranche. 6. Revision of Operational Manuals. In order to formalize its proce- dures and policies regarding project appraisal, implementation and supervi- sion, DBP would review its existing appraisal, supervision and implementation manuals on SMI operations with a view to updating and upgrading them. The revised manuals will be sent to the Bank for review by December 31, 1982 and will be implemented by March 31, 1983. 7. Streamlining of Procedures. DBP plans to introduce a number of changes in its operating procedures to upgrade its SMI operations. In parti- cular, DBP has decided to concentrate on: (a) reducing processing time:/1 At present DBP's SMI lending opera- tions are undertaken both at Head Office and in the branches. As a condition for release of the second tranche DBP has agreed to reduce its average loan processing to 60 calendar days for both Head Office and branch operations, effective January 1, 1983. The average will be for the period January-December of each year and will be calculated separately for Head Office and Branch SMI operations. /1 Processing time is computed from the date of receipt of the application by DBP to the date of final approval by DBP.  - 67 - ANNEX 2 ATTACHMENT 2 Page 4 (b) upgrading supervision capabilities: In order to upgrade its SMI operations, DBP considers it necessary that SMILE and the branches undertake a systematic follow-up on the progress of its SMI operations to: (i) establish whether the actual developments correspond with the expectations and projections on the basis of which the investment decision was made; and (ii) keep DBP's management informed of the project status so that timely and appropriate action can be taken. DBP considers that supervision should start during the implementation phase of the project and would continue until the loan is fully repaid. Supervision priorities in order to importance would be: (i) problem accounts; (ii) loans within the implementation period (from approval until the commencement of commercial production); (iii) depressed industries; and (iv) completed projects repaying regularly. The frequency of project supervision deemed adequate by DBP is provided in Schedule 1. Full implementation of the supervision program by DBP would be a condition for release of the second tranche; and (c) improving disbursement procedures: With respect to its disburse- ment procedures, DBP considers that, to the extent possible, it would be advisable for DBP to make payments directly to suppliers in the case of fixed assets and transportation vehicles and to contractors in the case of civil works. Payments in these cases would be made against invoices, bills and contracts. In those instances when this was not possible, payments to the borrowers would be made against: invoices and purchase orders for fixed assets and transportation vehicles; contracts for civil works; and purchase of raw materials in those instances when civil works are being undertaken by the entrepreneurs. In all cases, DBP would retain all the supporting documents against which payments were made. 8. Quality of Portfolio. DBP is concerned with the high arrears ratio and default rate on its SMI portfolio and considers it advisable to undertake some concrete measures, such as systematic supervision, and corrective actions (restructuring, write offs, foreclosures, etc.) to improve its portfolio. DBP has recently approved guidelines for arrears management; these would be applied to its Head Office and branch SMI portfolio on a project-by-project basis. This review and the accompanying appropriate action (rescheduling or forclosure) is to be completed by September 30, 1982 for the Head Office portfolio and December 31, 1982 for the branch portfolio. As a result of these actions, the impact on the collection rates and arrears ratios expected to be achieved during the next few years is as follows:  - 68 - ANNEX 2 ATTACHMENT 2 Page 5 Reduction in arrears ratio Portfolio affected Increase in as % of loans /a by arrears /b as a collection Target to be outstanding % of outstanding (%) ratio _c achieved by Head Branches No. Amount (%) office 3 /d 1 /d 60 45 10 June 30, 1983 1 1 55 40 5 December 31, 1983 1 1 50 35 /e 5 December 31, 1984 1 1 45 30 /e 5 December 31, 1985 /a Arrears = (Principal in arrears + Interest in arrears + Other charges)xlO0 as a % of Total Principal Outstanding outstanding portfolio /b A loan is deemed to be in arrears if it is in arrears for over 90 days. Ic Collection ratio = Cash collections during the period x 100 Total collectibles during the period /d Of the 3% reduction in Head Office arrears, 2% is to be achieved by December 31, 1982; the 1% reduction in branch arrears is also to be achieved by December 31, 1982. /e Targets will be reviewed at the time of evaluation for release of the second tranche. 9. Training. Staff in the SMILE Department and SMI staff in the branches will receive training along with the staff of the DDRB and the Private Development Banks. DBP has asked the University of the Philippines Institute for Small Scale Industry (UP-ISSI) to hold, during 1982, four specialized courses on Project Evaluation and Supervision for SMI. It is expected that 140 staff will attend these courses broken down roughly as follows: SMILE (25-30), DBP branches (60),/1 DDRB (10-15) and PDBs (40)./2 The details of the training program agreed between DBP and the Bank are given in Schedules 2, 3 and 4; it has also been agreed that course material for newly introduced courses will be sent to the Bank for review/comment three months prior to the course being held. /1 All the SMI staff (45) in the 15 DBP branches most active in SMI lending and one SMI staff member (15) from 15 of the remaining branches active in SMI lending. /2 Thirty SMI staff from the 15 PDBs which have been tentatively identified for accreditation and one each from another 10 PDBs.  - 69 - ANNEX 2 ATTACHMENT 2 Schedule 1 FREQUENCY OF SUPERVISION OF DBP'S SMI PORTFOLIO Cottage /a Small /a Medium /a industry industry industry 1. Visits by DBP staff to lb - projects under implemen- tation /c Quarterly Quarterly Quarterly - completed projects repaying regularly Annually Annually Annually - projects in arrears /d Quarterly Quarterly Quarterly - projects in distressed industries Semi-annually Semi-annually Semi-annually 2. Analysis of Reports - Progress reports /e Quarterly Quarterly Quarterly - Operational reports /f Annually Annually Annually - Completion reports - within 45 days of project completion - /a Enterprises with total assets before financing of: up to P 250,000 are defined as cottage industry; P 250,000 - P 2.5 million as small .ndustry; and P 2. million - P 10.0 million as medium industry. /b All project visits would result in an operational report prepared by the DBP staff concerned. /c Follow up visit before each release or every 3 months whichever is sooner. /d Projects in arrears for over 90 days. /e Progress reports (those provided by borrowers on an agreed periodic basis) from projects repaying regularly would be reviewed at the Assistant Manager level; in the case of progress reports from projects in arrears a course of action would be developed by DBP which would be reviewed at the manager level. /f Operational reports highlighting the progress/problems of the project would be prepared by DBP staff following each project visit.  -70- ANNEX 2 ATTACHMENT 2 Schedule 2 PHILIPPINES SMALL ENTERPRISE DEVELOPMENT PROJECT Development Bank of the Philippines Proposed Training Program for SMILE and Branch SMI Staff To be conducted Participants During By Course per year 1981 1982 1984 A. SMILE Staff 2nd qtr 2nd qtr 2nd qtr DBI Project evaluation 12 4th qtr 4th qtr 4th qtr & supervision /a 1st sem 1st sem DBI & Corporate planning 2 2nd sem 2nd sem 2nd sem other agencies Economic Analysis 2 Management information 2nd qtr 2nd qtr 2nd qtr DBI & system 2 4th qtr 2nd qtr other agencies Financing of SMI 1 4th qtr 2nd qtr 2nd qtr UP-ISSI/ ADFIAP B. Branch Staff /b Project evaluation & supervision /a 40-50 4 courses in each year DBI Branch Planning 20 1 seminar in October DBI /a In addition, during 1982, 25 staff of SMILE and 60 staff of branches will participate in four courses to be offered by UP-ISSI. /b Priority will be given to staff in 15 most active branches. AEP Projects Department February 15, 1982  - 71 - ANNEX 2 ATTACHMENT 2 Schedule 3 PHILIPPINES THIRD SMALL AND MEDIUM INDUSTRIES DEVELOPMENT PROJECT Development Bank of the Philippines Proposed Training Program for DDRB Staff Parti- To be conducted cipants During By Course per course 1982 1983 1984 Project evaluation and 6-8 4 cour- 1st qtr 1st qtr DBI supervision /a ses 3rd qtr 3rd qtr Institutional evalua- 6-8 1st qtr 1st qtr 1st qtr DBI tion/supervision /b 3rd qtr 3rd qtr Financing of SMI 1 4th qtr 2nd qtr 2nd qtr UP-ISSI/ADFIAP Management assistance 1 2nd sem 1st sem 1st sem UP-ISSI/CRC program 2nd sem Environmental appraisal 1 1st sem CRC Management information 1 2nd qtr 2nd qtr 2nd qtr DBI and other system 4th qtr 4th qtr institutions Corporate planning 4 4th qtr 1st sem 1st sem DBI and other 2nd sem 2nd sem institutions /a During 1982, four courses on Project Evaluation and Supervision will be con- ducted by UP-ISSI in which a total of 25 staff of DDRB will participate. /b During 1982, two courses on Institutional Evaluation and Supervision will be conducted by the University of the Philippines. AEP Projects Department February 15, 1982  - 72 - ANNEX 2 ATTACHMENT 2 Schedule 4 PHILIPPINES THIRD SMALL AND MEDIUM INDUSTRIES DEVELOPMENT PROJECT Development Bank of the Philippines Proposed Training Program for PDB Staff A. Summary of Courses To be conducted Parti- During By Courses cipants Duration 1982 1983 1984 Project evaluation and 30-35 4-5 weeks 1st qtr DBI supervision /a 3rd qtr DBI 1st qtr DBI 3rd qtr DBI 1st qtr DBI 3rd qtr DBI Executive seminar 30 1 day 1st qtr 1st qtr 1st qtr DBI 2nd qtr 2nd qtr 2nd qtr DBI 3rd qtr 3rd qtr 3rd qtr DBI Management information system 25 5 days 2nd qtr 2nd qtr 2nd qtr DBI Corporate planning 30 1 week 4th qtr 4th qtr DBI Specialized courses in: Credit investigation 30 2 days 2nd qtr 2nd qtr DBI SSE Promotion 30 1 week 2nd qtr 2nd qtr DBI Tellers/cashiers 30 1 week 4th qtr 4th qtr DBI Extension services 30 1 week 4th qtr 4th qtr DBI Financial analysis 30 1 week 2nd qtr 2nd qtr DBI Economic analysis 30 1 week 4th qtr 4th qtr DBI /a In addition, 40 staff of PDBs will participate in four courses to be offered by UP-ISSI during 1982.  B. Details of Program by PDBs Project evaluation Executive Management and supervision course seminar information Corporate Specialized/e 1st 3rd 1st 3rd 1st 3rd 1st 2nd 3rd system planning courses qtr qtr qtr qtr qtr qtr qtr qtr qtr 2nd qtr 4th qtr 2nd & 4th qt 1982 1982 1983 1983 1984 -1984 1982 1983 1984 1982 1983 1984 1983 1984 1983/84 Selected PDBs Capitol City 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 Cavite 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 Dev. Bank of Rizal 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 Davao City 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 Lipa City 1 0 1 1 1 1 1 1 1 1 1 1 1 1 1 Luzon 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 Peninsula 1 0 1 1 1 1 1 1 1 1 1 1 1 1 1 Peoples 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 Planters 2 1 1 1 1 1 1 1 1 1 1 1 1 1 1 Premiere 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 Quezon 1 0 1 1 1 1 1 1 1 1 1 1 1 1 1 Second Bulacan 1 1 2 1 1 1 1 1 1 1 1 1 1 1 1 Second Laguna 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 Southern Negros 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 Urban 2 1 1 1 1 1 1 1 1 1 1 1 1 1 1 Subtotal 17 12 16 15 15 15 15 15 15 15 15 15 15 15 15 Other PDBs 13 18 14 15 15 15 15 15 15 10 10 10 15 15 15 Total 30 30 30 30 30 30 30 30 30 25 25 25 30 30 30 /a One person from each PDB in each course. AEP Projects Department c > z February 15, 1982 Z  - 74 - A00,kX 2 PHILIPPINES Attachment 2 THIRD SMI DEVELOPMENT C- SMALL AND MEDIUM INDUSTRIES LENDING (SMILE) DEPARTMENT PROPOSED ORGANIZATIONAL CHART EH: ~~~~~~~~~~~~~~~~.| . E3...... Aanasltlsllass A SnnssMnt,ms,A Aaa tnO Is p = nd tma ll l l ea nch Assisbns I -H I mSo5rr~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~lI sa l A C s U l 0 55 5 011555 sslyasup- la ns u irVGsolyn, AISaSSI - eke Awluwtms Ass,u |115. 01 dl015e ru rupIGop IlSela oXal ru t1,Aw Alslansr I anose DIsIAF at Iqe A , il anel< CAsI n M IIIl I Asoun nose AcTs,a PasCal DiaAI UlAm Ucan l AISCI CTnDe | JFCf,cTnNs| FUNCTIONS | FUNCTIONS I 5ANCTIONS | FUNCTIONS I IRUNC1 IONS | FRACTIONS | FUMTTIOFA S FUNGi IAFT DSsanErM AmmmPsooll I an cmmna lo Cssv,aslnof " I smAneseC ohslsIsasIIsssCI ds,saIISua Hadea- ounFlnlfsnfCloIIstthI 3esuSaCCFI I I CssCsIIsTIasIlIIalnI ~~~~~~~~~~~~~IsIsfbds as u SNI ssd,s a9 Psrlos |... . ..... t als IP IIIIlsUOlslIIsvIA 5151 J lAsl slssssssas wllsas suplCO sArssI | I I l ~~~~~~~~~~~~~~~~~~~~~~~I | PlasdsisaltsF daossstsasllos .. ........ EsshsssssluaTllgsolpshll| rossv>v I 151515 a5,llllslissIsToIssqu,sTs | I~~~~ ~ ~ II h ADmns odgo>nJn l l l ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~ICslIaaal FOPsIIUl I i | i AAD m Jth EDP and | j l l i~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~AIlOl 3S  PHILIPPINES THIIRD SHALL AND MEDIUM INDUSTRIES DEVELOPMENT PROJECT Development Bank of the Philippines - Special Financing Schemes (P000) Name of agency OuLstandinig Name of Inter- performing as of December 31, 1981 Total agency Source Date Amount est detailed Approvals Approvals No. of arrears holding Name of of of estab- of cre- rate project for 1980 for 1981 bor- No. of as of repayment special financing scheme funding lishment dit line % p.a. appraisal No. Anmount No. Amount rowers accounts Amount 12/31/81 risk Cottage Industry Guarantee NACIDA 03/11/81 800,000 12-14 NACIDA/DBP - - 44 3,772 10 22 876 80 DBP/NACIDA Loan Fund (CIGLF) Technology Resource Center DBP/OECF 06/11/80 100,000/ 15-21/ TRC/DBP 5 { 2,384 6 { 8,773 2 7 847 - DBP/TRC (TRC) US$22 m 8.75 { 3,977 { 16,611 3 6 4,913 - National Housing Auithority WB 04/27/77 3,500 12 NHA/DBP - - - - 196 200 1,015 373 DBP/NHA (NHA) Ministry of Social Services DBP 09/25/74 3,000 9 MSSD - - - - 815 815 1,368 920 DBP and Development (MSSD) /a Manufacturers Subcontracting DBP 10/29/80 20,000 14-16 MSDO/DBP - - 1 286 1 1 262 - DBP Development Office (MSDO) Philippine Investors Commis- PIC/DBP 09/20/78 6,000 15-21 PIC-DBP 9 2,085 5 902 6 16 1,434 292 DBP/PIC sion (PIC) Maria Christina Chemical DBP 11/12/80/c 5,000 15-21 DBP - _ _- - - - DBP/MCCI Industries (MCCI) /b Venture Capital Corporations DBP/VCC 09/03/80/c 30,000 9 DBP - - - - - - - - DBP (VCC) /a Financing for rural home industries. /b Financing for charcoal producers. /c No availments yet. AEP Projects Department February 15, 1982  - 76 - ANNEX 2 Table 2 PHILIPPINES THIRD SMALL AND MEDIUM INDUSTRIES DEVELOPMENT PROJECT DEVELOPMENT BANK OF THE PHILIPPINES Summary of Operations of SMI Loans, 1976-81 (Amount in F'000) 1976 1977 1978 1979 1980 1981 Number Amount Number Amount Number Amount Number Amount Number Amount Number Amount Net Approvals Cottage industry loans SMILE 151 2,772 ) 1,093 26,432 ) 879 17,835 172 1,375 142 1,636 105 1,926 Branches 1,014 21,509 ) ) 608 19,931 620 23,416 173 4,352 Small industry loans SMILE 120 23,381 ) 217 57,492 ) 133 37,221 64 13,535 69 18,107 135 34,358 Branches 125 24,914 ) ) 168 49,663 203 58,613 350 55,559 Medium industry loans SMILE 39 73,254 ) 41 77,518 ) 23 56,196 41 75,126 40 63,143 35 81,055 Branches 19 29,762 ) ) 8 13,565 10 13,497 11 18,064 Subtotal SMILE 310 99,407 351 161 442 1035 111252 277 90,036 251 82,886 275 117,339 Subtotal Branches 1,158 76,185 1 1 111252 784 83,159 833 95,526 534 77,975 Total 1,468 175,592 1,351 161,442 1,035 111,252 1,061 173,195 1,084 178,412 809 195,314 Commitments cottage industry loans SMILE 195 3,190 91 2,212 88 3,211 87 1,252 98 1,354 116 1,774 Branches 1,933 29,612 244 9,720 273 9,708 57 1,058 296 15,123 NA NA Small industry loans SMILE 178 29,378 111 22,066 71 14,750 59 12,926 86 23,019 143 34,340 Branches 448 64,700 238 31,537 217 28,349 410 53,368 485 91,663 NA NA Medium industry loans SMILE 71 86,988 34 60,230 34 56,679 32 53,451 32 49,122 37 72,650 Branches 73 58,529 4 5,275 6 5,679 21 27,464 10 10,605 NA NA Subtotal SMILE 444 119,556 236 84,508 193 74,640 178 67,629 216 73,495 296 108,764 Subtotal Branches 2,454 152,841 486 46,532 496 43,736 488 81,890 791 117,392 NA NA Total 2,898 272,397 722 131,040 689 118,376 666 149,519 1,007 190,887 296 108,764 Disbursements Cottage industry loans SMILE 177 3,131 923 1,454 3 10,322 Sranches 1,7S- 22,755 799 - Small industry loans SMILE 134 29,060 16,399 14,728 12,548 )174,492 Branches 340 24,989 16,563 29,288 13,507 Medium industry loans SMILE 30 65,992 55,027 58,299 59,697 3 46,467 Branches 58 25,200 12,764 16,898 8,585 Subtotal SMILE 341 98,183 71,426 73,950 73,699 81,294 Subtotal Branches 2,164 72,944 29,327 46,985 22,092 149,987 Total 2,505 171,127 125,608 /a 100,753 /a 120,935 95,791 231,281 Re.payments Cottage industry loans SMILE 1,914 2,286 NA NA NA NA 2,901 2,244 2,063 Branches 2,972 6,129 2,374 3,024 1,637 3,783 4,680 8,146 9,968 Small industry. loans SMILE 1,280 19,924 NA NA NA NA 19,549 21,650 15,312 Branches 469 5,498 663 5,304 775 6,269 24,697 23,117 12,846 Medium industry loans SMILE 158 11,949 NA NA NA NA 14,188 22,390 9,681 Branches 26 2,166 11 834 32 1,853 4,507 5,363 3,699 Subtotal SMILE 3,352 34,159 NA 22,178 /b NA 23,643 /b 36,638 46,284 27,056 Subtotal Branches 3,467 13,793 2,048 9,162 2,444 11,905 33,884 36,626 26,513 Total 6,819 47,952 NA 31,340 NA 35,548 70,522 82,910 53,569 Outstanding Loans Cottage industry loans SMILE 2,155 14,596 NA NA NA NA ) 6,592 3 82,781 3 6,327 77,822 2,330 19,002 Branches 2,829 35,175 ) ) ) 3,950 57,111 Small industry loans SMILE 695 116,896 NA NA NA NA ) 1,923 300,717 3 2,040 300,810 1,139 195,948 Branches 430 62,870 ) ) 1,373 251,196 Medium industry loans SMILE 88 93,618 NA NA NA NA 3 172 181,282 ) 193 196,361 171 167,138 Branches 28 37,452 NA NA NA NA 3 ) 62 62,310 Subtotal SMILE 2,938 225,110 3,017 241,655 2,221 263,173 3,166 300,435 3,207 327,850 3,640 382,088 Subtotal Branches 3,287 135,497 3,294 148,256 7,264 248,576 5,521 261,647 5,353 247,143 5,385 370,617 Total 6225 360,607 6,311 389,911 9,485 511,699 8,687 562,112 8,560 574,993 9,025 752,705 /a Refers to I3RD-assisted small and medium loans only. /b Breakdown between home, small and medium not available. AEP Projects December 23, 1981  ANNEX 2 - 77 Table 3 PHILIPPINES THIRD SMALL AND MEDIUM INDUSTRIES DEVELOPMENT PROJECT Development Bank of the Philippines DBP's 15 Most Active Branches in SMI Operations as of December 31, 1981 Arrears as Outstanding SMI % of out- Staffing loan portfolio Principal standing SMI Branch Location No. Amount affected portfolio Total unit/a (P'000) (P'000) Cebu Visayas 322 50,879 17,815 11.62 72 3 Davao Mindanao 227 22,345 7,498 11.47 41 3 Cagayan de Oro Mindanao 308 23,827 10,588 14.64 40 3 Balanga Luzon 215 17,079 11,336 41.23 48 3 Bacolod Visayas 109 16,013 10,054 26.93 69 3 Baguio Luzon 283 11,378 8,735 29.50 60 3 General Santos Mindanao 113 10,356 7,468 24.53 69 3 Dagupan Luzon 253 14,634 8,371 15.39 34 3 Lucena Luzon 119 15,784 5,698 6.74 54 3 Taclobusr Vis-as Q'A q.692 4,212 27.15 66 3 Zamboanga Mindanao 132 9,751 6,700 16.94 57 3 Tarlac Luzon 127 7,269 4,001 22.82 52 3 Legaspi Visayas 209 6,944 3,912 17.60 41 3 Roxas Visayas 205 11,885 5,757 13.55 53 3 Dipolog Mindanao 90 6,852 6,640 31.68 42 3 Total 15 Branches 2,805 233,688 118,785 778 45 /a Proposed professional staff to handle SMI operations exclusively. AEP Projects Department April 29, 1982  PHILIPPINES THIRD SMALL AND MEDIUM INDUSTRIES DEVELOPMENT PROJECT Development Bank of the Philippines Characteristics of SMI Loans,/a 1976-December, 1981 (Amount in P'O0) 1976 1977 1978 No. X Amount % No. % Amount % No. % Amount X Total Loan Approvals Head office 333 22.0 101,373 57.0 246 16.0 100,195 57.0 N/A - N/A - Branches 1,164 78.0 76,449 43.0 1,299 84.0 75,568 43.0 N/A - N/A - Total 1,497 100.0 177,822 100.0 1,545 100.0 175,763 100.0 1,212 100.0 132,900 100.0 Regional Distribution I Ilocos 116 8.0 15,542 9.0 95 6.0 6,822 4.0 44 4.0 2,600 2.0 II Cagayan Valley 28 2.0 1,363 1.0 17 1.0 3,192 2.0 36 3.0 4,700 4.0 III Central Luzon 179 12.0 17,770 9.0 182 12.0 31,661 18.0 146 12.0 16,700 13.0 IV Metro Manila 130 9.0 35,513 20.0 94 6.0 11,156 4.0 77 6.0 15,100 11.( IV-A Southern Tagalog 197 13.0 47,252 27.0 128 8.0 65,032 37.0 136 11.0 53,300 40.0 V Bicol 107 7.0 5,336 3.0 74 5.0 5,128 3.0 69 6.0 2,200 2.0 1 VI Western Visayas 152 10.0 16,328 9.0 181 12.0 15,469 9.0 280 23.0 6,800 9.0 1j VII Central Visayas 149 10.0 12,131 7.0 125 8.0 14,693 8.0 101 8.0 14,500 11.0 VIII Eastern Visayas 36 2.0 5,568 3.0 22 1.0 1,674 1.0 26 2.0 1,700 1.0 IX Western Mindanao 116 8.0 1,635 1.0 374 24.0 6,886 1.0 37 3.0 3,500 3.0 X Northern Mindanao 91 6.0 9,356 5.0 97 7.0 5,166 3.0 836 11.0 5,400 4.0 XI Southern Mindanao 104 7.0 7,853 4.0 69 4.0 4,191 2.0 68 6.0 3,000 2.0 XII Central Mindanao 92 6.0 2,175 2.0 87 6.0 4,693 3.0 56 5.0 3,400 2.0 Total 1,497 100.0 177,822 100.0 1,545 100.0 175,763 100.0 100.0 132,900 1OO.C Industrial Classification Food & beverages 238 15.9 13,007 7.3 142 9.2 28,070 16.0 258 21.3 17,300 10.1 Coconut products & its preparation 2 0.1 3,500 1.9 2 0.1 180 0.1 - - - - Tobacco manufacture - - - - _ - _ _ - - Textile, apparel, twine, cordage & other finished products 166 11.1 13,828 7.9 94 6.1 16,454 9.4 240 19.8 15,000 11.3 Lumber, wood products, fuirniture & fixtures 117 7.8 18,115 10.2 61 3.9 15,746 9.0 95 7.8 13,400 10.1 Paper & paper products 2 0.1 979 0.5 8 0.5 4,937 2.8 2 0.2 2,700 2.0 Printing, publishing & allied industries 38 2.5 8,154 4.6 29 1.9 4,403 2.5 22 1.8 5,100 3.4 Leather, leather products & footwear 28 1.9 5,208 2.9 18 1.2 8,123 4.6 33 2.7 5,700 4.3 Chemicals & chemical products 16 1.1 23,299 13.1 24 1.5 16,631 9.4 7 0.6 5,500 4.1 Petroleum & coal products - - - - - - - - - - - - Nonmetallic products 67 4.5 8,507 4.8 88 5.7 12,819 7.3 48 4.0 7,300 3.5 Metal products 51 3.4 12,583 7.1 29 1.9 14,471 8.2 14 1.2 10,400 7.8 Mechanical/electrical equipment, appliances & parts 84 5.6 16,548 9.3 54 3.5 9,709 5.5 33 2.7 10,900 8.2 Ice plant & cold storage 190 12.7 27,829 15.6 14 0.9 5,269 3.0 11 0.9 7,100 5.4 Transport equipment & repair - - - - 115 7.4 13,815 7.9 91 7.5 13,700 10.3 Extractive industries 48 3.2 12,944 7.3 21 1.4 10,311 5.9 24 2.0 11,300 8.5 Rubber products - - - - 7 0.4 2,822 1.6 3 0.2 1,700 1.2 Miscellaneous manufacturing industries 363 24.3 11,954 6.7 296 19.2 6,569 3.7 331 27.3 5,400 4.4 Home industries 87 5.8 1,367 0.8 543 35.2 5,434 3.1 331 27.3 5,400 4.4 x Insufficient data - - - - - - - - - - - -M Total 1,497 100.0 177.822 100.0 1,545 100.0 1 100.0 1.212 100.0 132,900 100.0  1979 1980 1981 No. % Amount 1 No. % Amount X No. X Amount x Total Loan Approvals Head office 289 26.2 95,517 52.7 263 23.3 83,778 45.1 275 34.0 117,339 60.1 Branches 816 73.8 85,688 47.3 869 76.7 101,865 54.9 534 66.0 77,975 39.9 Total 1,105 100.0 181,205 100.0 1,132 100.0 185,643 100.0 809 100.0 195,314 100.0 Regional Distribution I Ilocos 86 7.8 10,628 5.9 64 5.7 5,299 2.9 20 2.3 3,694 1.7 II Cagayan Valley 36 3.3 6,346 3.5 33 2.9 3,782 2.1 57 6.7 27,977 12.7 III Central Luzon 62 5.6 16,086 8.9 86 7.6 21,029 11.3 96 11.3 19,696 9.0 IV Metro Manila 169 15.3 54,405 30.0 110 9.7 22,837 12.3 215 25.4 76,304 34.8 IV-A Southern Tagalog 86 7.8 22,609 12.5 220 19.4 61,058 32.9 113 13.4 42,060 19.2 V Bicol 160 14.5 12,235 6.8 74 6.5 3,802 2.0 27 3.2 5,293 2.4 VI Western Visayas 90 8.1 6,682 3.7 134 11.8 10,382 5.6 67 7.9 9,363 4.3 VII Central Visayas 147 13.3 16,601 9.2 114 10.1 17,466 9.4 47 5.6 7,748 3.5 VIII Eastern Visayas 30 2.7 6,905 3.8 28 2.5 2,232 1.2 21 2.5 1,925 0.9 IX Western Mindanao 44 3.9 6,448 3.5 47 4.2 6,850 3.7 65 7.7 8,433 3.8 X Nortliern Mindanao 96 8.7 10,541 5.8 125 11.0 11,511 6.2 60 7.0 9,529 4.3 XI Southern Mindanao 56 5.1 8,565 4.7 44 3.9 13,612 7.3 32 3.9 3,147 1.4 XII Central Mindanao 43 3.9 3,154 1.7 53 4.7 5,783 3.1 26 3.1 4,345 2.0 Total 1,105 100.0 181,205 100.0 1,132 100.0 185,643 100.0 846 100.0 219,514 100.0 Industrial Classification Food & beverages 158 14.3 25,107 13.8 165 14.6 26,851 14.5 136 16.0 29,326 13.4 Coconut products & its preparation - - - - - - - - 5 0.7 2,956 1.3 Tobacco manufacture - - - - - - - - - - - - Textile, apparel, twine, cordage & other finished products 82 7.4 12,940 7.1 60 5.3 17,503 9.4 197 23.3 31,354 14.3 Lumber, wood products, furniture & fixtures 96 8.7 37,702 20.8 101 8.9 27,891 15.0 140 16.5 37,540 17.1 Paper & paper products 4 0.4 2,842 1.6 3 0.3 1,558 0.9 9 1.1 971 0.4 Printing, publishing & allied industries 28 2.5 8,067 4.4 47 4.2 8,528 4.6 36 4.3 13,041 5.9 Leather, leather products & footwear 5 0.5 2,650 1.5 18 1.6 6,860 3.7 27 3.2 6,549 3.0 Chemicals & chemical products 11 1.0 10,720 5.9 14 1.2 9,321 5.0 4 0.5 759 0.3 Petroleum & coal products - - - - - - - - - - - - Nonmetallic products 54 4.9 13,421 7.4 75 6.6 17,419 9.4 82 9.7 34,477 15.7 Metal products 22 2.0 12,063 6.7 32 2.8 15,095 8.1 60 7.1 13,710 6.2 Mechanical/electrical equipment, appliances & parts 20 1.8 7,090 3.9 18 1.6 3,447 1.8 25 2.9 5,022 2.3 Ice plant & cold storage 17 1.5 13,565 7.5 15 1.3 10,207 5.5 15 1.8 9,653 4.4 Transport equipment & repair 89 8.0 15,181 8.4 77 6.8 9,412 5.1 30 3.5 6,701 3.1 Extractive industries 14 1.3 3,343 1.8 13 1.1 3,146 1.7 13 1.5 6,271 2.9 Rubber products 6 0.5 6,252 3.5 5 0.5 0,689 0.4 6 0.7 4,247 1.9 Miscellaneous manufacturing industries 24 2.2 5,454 3.0 34 3.0 21,995 11.3 58 6.9 14,672 6.7 Home industries 475 43.0 4,808 2.7 455 40.2 6,721 3.6 - - - - Insufficient data - - - - - - - - 3 0.3 2,265 1.1 Total 1,105 100.0 181,205 100.0 1,132 100.0 185,643 100.0 846 100.0 219,514 100.0 rDl X 0  - 80 - ANNEX 2 Table 5 PHILIPPINES THIRD SMALL AND MEDIUM INDUSTRIES DEVELOPMENT PROJECT DEVELOPMENT BANK OF THE PHILIPPINES Trends of Arrears of Home Industry & SMI Loans, 1976 - December 1981 (In P'GOO) As of As of As of As of As of As of 12/31/76 6/30177/a 12/31/78 12/31/79 12/31/80 12/31/81 Head Office Outstanding Loans - Amount 222,438 241,655 263,123 300,435 327,850 382,088 - Number 2,920 3,017 2,221 3,166 3,207 3,640 Outstanding amount of loans affected by arrears - Amount 184,264 196,689 231,051 200,374 218,557 209,083 - Number 2,580 2,603 2,036 2,544 2,685 2,561 Arrears (principal and interest) - Amount 57,901 67,762 49,486 37,385 35,697 42,711 - As % of principal outstanding 26.0 28.0 18.8 12.40 10.89 11.18 Loans affected as % of loans outstanding - Amount 82.8 81.4 87.8 66.70 66.66 54.72 - Number 88.4 86.3 91.7 80.35 83.72 70.35 Branches outstanding Loans - Amount 135,498 148,256 248,563 237,251 247,143 370,617 - Number 3,287 3,294 7,264 5,521 5,353 5,385 Outstanding amount of loans affected by arrears - Amount 73,598 87,139 192,445 111,372 136,234 179,967 - Number 2,015 2,039 5,704 2,740 3,162 4,024 Arrears (principal and interest) - Amount 12,112 16,181 53,993 28,249 35,646 75,328 - As % of principal outstanding 8.9 10.9 21.7 11.91 14.42 20.33 Loans affected as % of loans outstanding - Amount 54.3 58.8 77.4 46.94 55.12 48.56 - Number 61.3 61.9 78.5 49.63 59.07 74.73 Total Outstanding Loans - Amount 357,936 389,911 530,906 564,780 574,993 752,705 - Number 6,207 6,311 9,485 8,687 8,560 6,585 Outstanding amount of loans affected by arrears - Amount 257,862 283,828 423,496 311,746 354,791 398,050 - Number 4,592 4,642 7,740 5,284 5,847 6,585 Arrears (principal and interest) - Amount 70,013 83,943 103,479 65,634 71,343 118,039 - As % of principal outstanding 19.6 21.5 19.5 11.62 12.41 15.68 Loans affected as % of loans outstanding - Amount 72.0 72.8 79.8 55.20 61.70 52.88 - Number 74.0 73.6 81.6 60.83 68.31 72.96 /a Data for December 1977 not available. AEP Projects February 15, 1982  - 81 - ANNEX 2 Table 6 PHILIPPINES THIRD SMALL AND MEDIUM INDUSTRIES DEVELOPMENT PROJECT Development Bank of the Philippines Analysis of Home Industry & SMI Loan Portfolio as of December 31, 1981 Outstanding amount Outstanding loans of loans affected Total arrears Number Amount by arrears Amount in arrears of % of loan No. % P'000 % Number Amount Principal Interest Total outstanding (PW000) --------- (p'000)