India - Sixth Telecommunications Project

Document of The World Bank FOR OMCUL USE ONLY Rlist No. 5525 PROJECT COMPLETION REPORT 1N.-IA - SIXTH -ELECOMNUICATIONS PROJECT (LOAN 1313-IN) March 7, 1985 Industry Department This docufie b Dsa resico istngbb antd he usd by reciits Wbd inthepe n1u. of tl ofin dufis lblsnn nay nout we be d1ee abot WW Ban a__rd.  FOR O CIAL USE ONLY INDIA SIXTH TELECONMUNICATIONS PROJECT LOAN 1313-IN * PROJECT COMPLETION REPORT TABLE OF CONTENTS Page No. PP,EFACE ................i BASIC DATA SHEET .ii HIEGHLIGHTS . .................................................. iii I. INTRODUCTION .. II. PROJECT PREPARATION AND APPRAISAL 1 ....... ....... Preparation and Appraisal ..... Project Objectives ..... 2 Project Description ..... 2 Covenants.... 3 III. PROJECT IMPLEMENTATION, OPERATION AND COST . . 4 Loan Effectiveness and Project Start-up. 4 Revision of the Project. 4 Implementation Schedule. 5 Procurement. 6 Costs and Physical Achievements. 7 Disbursements. 8 IV. OPERATING PERFORMANCE.. 9 V. FINANCIAL PERFORMANCE.1 11 Operating Results ..12 Revaluation of Assets ..12 Financial Pbsition ..13 Financial Plan ..13 Tariffs . .14 Commercial Accounting System ............................ 14 Transfer of Pbstal Accounts ..15 Audit ..15 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.  PROJECT COMPLETION REPORT INDIA - SIXTH TELECOMMUNICATIONS PROJECT (Loan 1313-IN) PREFACE This is a Project Completion Report (PCR) on the Sixth Tele- communications Project in India (Loan 1313-IN), involving a loan of US$80 million to the Government of India, with the objectives of extending telephone access, expanding the long distance telephone and telex network, and helping to improve the quality of service. Additional financing to help cover foreign exchange costs was to be obtained from a carryover from credit 403-IN for the Fifth Telecommunications Project and a Credit (US$9.0 million equivalent) from the Government of Hungary. Associated with the project were a number of institution building activities. The loan was approved in July 1976. Substantial delays in project execution prompted two extensions of the closing date, first to March 31, 1982 and later to March 31, 1983. The final disbursement was made in August 1983, about 40 months behind the original schedule. The PCR was prepared by the Industry Department and is based on information in Bank files, field visits in July 1983 and February 1984 and material prepared by the Indian Posts and Telegraph Department (PET). It has been prepared thoroughly and examines the design of the project, elaborates on particular aspects of the institutional development and operational performance of the Telecommunications Branch of PET, comments on the justification for Bank support of the project, and draws lessons from the project experience. In accordance with the revised procedures for project performance audit reporting, this PCR was read by Operations Evaluation Department (OED), but the project was not audited by OED staff. Following standard procedures, OED sent copies of the draft report to the Government and P&T for their comments. The comments which were received have been taken into account in preparing the final report and they are reproduced in the Appendix. 4  TABLE OF CONTENTS (continued) Page No. VI. INSTITUTIONAL PERFORKANCE ....................e. . *i .. 15 Staff Recruitment, Training and Development 16 VII. PROJECT JUSTIFICATION. .................... 16 Financial Internal Rate of Return on Investment 16 Annual Financial Rates of Return 18 Factors in Financial Performance 18 Economic Rate of Return .. .21 Justification of Bank Involvement 22 VIII. BANK PERFORMANCE..... 22 Working Relationship .23 IX. CONCLUSIONS .23 ANNEX 1: Compliance with Covenants 25 ANNEX 2: Details of the Main Items of Equipment Originally Planned Imported Vis-A-Vis Actual Imports Under 6th Telecom Project .26 ANNEX 3: Financial Statements - Year to March 31, 1977-1983 Table 1 - Comparative Income Statements .29 Table 2 - Comparative Balance Sheets ..... ......... .. 31 Table 3 - Comparative Sources and Applications of Funds ....... ............................ 33 APPENDIX Comments from the Government of India .35  - il - PROJECT COMPLETION REPOR? BASIC DATA SHEET INDIA - SIXTH TELECOCUINICATIONS PROJECT - LOAN 1313-IN REY PROJECT DATA Actual or Appraisal Current Item Expectation Estimate T* t*l project cost (US$ uillion) 414.6 464.8 Overrua (Z) - 12.1 Loan Amount (USS million) 80.0 80.0 Disbursed 80.0 80.0 Cancelled Date for completion of physical components March 31. 1979 March 31, 1983 Proportion completed by appraisal target date (Z) 100.0 69.0 Time overrun (%) - 133 Economic rate of return (Z) 20.2 12.5 Financial performance - Satisfactory Institutional performance Satisfactory Actual or OTHER PROJECT DATA Estimated Item Original Plan Revisions Actual First mention in files or timetable 10/15/74 10/15/74 Government's application - _ 1, Negotlations 05/07/76 - 05Th7/76 Board approval date 07/06/76 - 07/06/76 Guarantee and Loan Agreement date 07/22/76 - 07122176 Effectiveness date 09/14/76 - G9/14/76 Closing date 03/31/80 3/31/82;3/31/83 03/31183 2/ Guarantor Government of India(GOI) Borrower and executing agency Post & Telegraph Department(P&T) Fiscal year of borrower April I - March 31 Follow-on projects Seventh Project under Loan 1592-IN Eighth Project under Credit 1112-IN 1T No speclfic date for formal application was recorded. The appraisal was undertaken at Government's request. Z/ Winal disbursement was made on August 8, 1983. MISSION DATA Item Month/Year ?4o.of Weeks 3/ No.of Persons Hanweeks Date of Report Appraisal 11-12/75 3.7 2 5.4 Supervision I 02/77 1.0 1 0.5 3/28/77 Supervision II 4.0 2 4.0 8111/78 Supervision III 05/79 2.0 2 2.0 9/28/79 Supervision IV 07/80 4.0 2 4.0 10(31180 Supervision V 06-07/81 6.0 3 9.0 8/26/81 Supervision VI 01/82 1.0 1 0.3 2122/82 Supervision VII 04/82 2.5 1 0.8 7/19/82 Supervision VIII 12/82 2.5 2 1.6 4/01/83 - Supervision IX 07/83 3.6 2 2.4 9/26/83 Completion 02/84 4.0 3 3.0 - 34.3 33.0 Y Only portions of the total nanweeks were related to work on Loan 1313-IN. COUWNTRY EXCHANGE RATES Name of Currency(Abbreviation) Rupees (Rs) Year Exchange Rate Appraisal Year Average US$1 - Rs. g9o Intervening Year Average US$1 - Rs 8. 5 Completion Year Average US$1 - Rs. 9.6  - iii - INDIA SIXTH TELECOMMUNICATIONS PROJECT LOAN 1313-IN PROJECT COMPLETION REPORT HIGHLIGHTS 1. The sixth Bank-financed telecommunications project in India was intended to finance a major part of the foreign exchange costs of the FY1977-79 investment program of the Telecommunicatiuns Branch of the Indian Post and Telegraphs Department. Due chiefly to procurement delays (paras. 3.05-3.06), particularly for directly imported items, the loan was not fully disbursed until FY84. The slow utilization of Bank funds was particularly unfortunate in the context of a telecommunications network suffering from extreme shortage of investment funds (paras. 5.12, 7.09, 7.13). Part of the delay was due to the necessity of resolving a major technological debate within the GOI on the desirability of replacing the electro-mechanical analog technology which dominated the network (and the domestic manufacturing system) in 1976 with a progressively developing and increasingly inexpensive digital electronic technology. Over the life of this project the debate was resolved in favor of the latter (para. 8-01) with transfer-of-technology agreements concluded for both trunk and local digital electronic exchange manufacture and an impending agreement for electronic teleprinter manufacture. Unfortunately, additional procurement delays arose due to bureaucratic problems a-d problems with equipment specification. 2. While some development momentum was maintained under the project, network expansion proceeded at a rather low level (para. 4.01), waiting lists expanded enormously (para. 4.03), quality of service stagnated due in part to extreme shortage of facilities relative to burgeoning demand (para. 4.02), and the financial situation of the network deteriorated to some extent due to failure to meet demand, to continuing overstaffing (para. 7.07), and to dispersion of investment insufficiently guided by commercial considerations (paras. 4.01, 7.08-7.11). Despite these disturbing trends the financial (and other) covenants of the project loan were still fully met (para. 2.07). 3. Furthermore, at the end of the project period several encouraging trends emerged, including a revived interest within GOI to improve quality of telecommunications services and to invest heavily to do so in a concentrated fashion (para- 4.04) and increased emphasis on quality control of manufacturing operations. Unfortunately, these initiatives will require several years to fully materialize, during which time substantial improvements in telecommunications service and financial returns will be difficult to achieve.  INDIA SIXTH TELECOMMUNICATIONS PROJECT LOAN 1313-IN PROJECT COMPLETION REPORT I. INTRODUCTION 1.01 Telecommunications services in India are provided by the Telecommunications Branch of the Department of Pbsts and Telegraphs (E&T), which operates under the Ministry of Communications. A separate government agency, the Overseas Communications Service (OCS), which also operates within the Ministry of Communications, provides international telecommunications services. 1.02 The telecommunications equipment manufacturing industry is also largely government owaed. The three major manufacturers are Indian Telephone Industries Ltd. (ITI), Hindustan Cables Ltd. (HCL) and Hindustan Teleprinters Ltd. (HTL). These three major manufacturers are supported by a large number of small private firms acting as sub-contractors. ITI and HTL come under the ambit of the Ministry of Communications and HCL under the Ministry of Industrial Development. 1.03 The Sixth Telecommunications Project was a self-contained part of the P&T expansion program for FY77-79. The expansion program itself was intended to complete the implementation of the last three years of the Fifth Five-Year Plan. The total cost of the 1977-79 program was estimated at Rs. 9,023 million (US$1,003 million) with a foreign exchange component of Rs. 2,421 million (US$269 million). The project's capital cost was originally estimated as 41% of this program (para. 2.04). II. PROJECT PREPARATION AND APPRAISAL Preparation and Appraisal 2.01 During implementation of the Fifth Telecommunications Project the Government of India (GOI) discussed Bank assistance in financing the remainder of the foreign exchange cost of the P&T's Fifth Five-Year Plan (April 1974 to March 1979) in a manner similar to the assistance provided previously. An appraisal mission visited India from November 10, 1975 to December 3, 1975. Negotiations for the loan took place in May, 1976. Loan No. 1313-IN for US$80 million was approved by the Bank's Board of Directors on July 6, 1976 and the loan agreement was signed on July 22, 1976.  -2- Prolect Oblectives 2.02 The project was formulated within the framework of the national five-year plan. It was designed to extend telephone access in India, expand the long distance telephone and telex network, and help improve the quality of service. Associated with the project were a nuumber of institution building activities (para. 6.01). Project Description 2.03 The Bank financed project consisted of the following main item.: (a) installation of 274,000 line units of local telephone exchange equipment including introduction of modern electronic switching equipment; (b) provision of cables and associated equipment to permit the connection of about 220,000 direct exchange lines (DELs); (c) extension of existing trunk exchanges and installation of new trunk exchanges including modern electronic switching equipment to accommodate about an additional 23,000 lines; 'd) transmission equipment including radio, coaxial cable and multiplex equipment to increase capacity on routes between important cities and for expansion of the trunk lines network to more remote rural areas; Ce) small satellite earth stations to provide reliable good quality communications between the Andaman Islands and the mainland; and (f) telex exchange equipment including electronic telex exchanges for Bombay, Delhi, Calcutta and Madras, as well as associated teleprinters. 2.04 The original estimated cost of the project was US$415 million including a foreign exchange cost of US$103 million. The loan of US$80 million covered about 78Z of the estimated foreign exchange cost of the project, including the cost of equipment imported by the P&T plus the estimated foreign exchange cost of imported raw material used in the production of telecommunications equipment purchased by the P&T from the indigenous manufacturers, ITI, HCL and HTL.  2.05 The amounts proposed at appraisal for Bank disbursement were: A. Direct Imports by P&T Appraisal Estimates a/ Category 1 (US$ million) (a) Switching Equipment Electronic telephone exchanges 8.0 Electronic trunk exchanges 6.0 Electronic telex exchanges 3.0 (b) Transmission Equipment Coaxial cable line equipment 4.0 Radio system and equipment 4.0 (c) Equipment for research, testing and training 3.0 (d) Raw materials for P&T workshops 2.0 Sub-total 30.0 B. -murchases from Domestic Factories Category 2 (a) From Hindustan Cables Limited (HCL) Cables and accessories 22.2 (b) From Indian Telephone Industries (ITI) Switching, transmission, radio systems, coaxial cable and multiplex equipment 27.5 Cc) Teleprinters (HTL) 0.3 Sub-total 50.0 GRAND TOTAL 80.0 a/ The actual allocations are shown in para. 3.03. 2.06 The remainder of the foreign cost of the project (US$23.0 million) was to be covered by a carryover from the fifth credit (403-IN), a credit from Hungary of US$9 million and foreign exchange made available by the GOI. Covenants 2.07 Aside from standard covenants the loan agreement provided that the borrowet should:  - 4 - (1) (a) establish and maintain tariff for telecouuunication services at an annual rate of return of not les than 11% on the value of the not fixed assets in operation of the Branch adjusted in accordance with l(b); (b) review or cause to be reviewed, the value of the net fixed assets in operation of the Branch whenever appropriate, and in any case not leas frequently than every five years, to determine whether adjustments to such values, and for the purposes of 1(a) are required. (2) cause P&T to continue the financial raorganization of the Branch that will result in progressively providing adequate financial information to the management in the Circles/Districts. (3) cause P&T to establish a special unit within the Btanch not later than December 31, 1976 to undertake economic analysis in telecommunications and to furnish to the Bank its work program yearly starting from December 31, 1977. These three important specific covenants have been met. Evaluation of P&T's compliance with loan covenants is summarized in Annex 1. III. PROJECT IMPLEMENTATION, OPERATION AND COST Loan Effectiveness and Project Start-up 3.01 The loan was made effective on September 14, 1976 and the project start was prompt, especially the disbursement of the proceeds allocated to Category 2 (purchases from domestic factories). Revision of the Project 3.02 Several major revisions were made in the project. The following specific adjustments occurred with the consent of the Bank: (a) additional orders were placed on contracts signed under ICB for 3,000 lines of electronic trunk telephone exchange for Bombay and a total of 9,600 lines of electronic telex exchanges for Bombay (3,600 lines), Delhi (3,800 lines), Calcutta (1,000 lines), and Madras (1,200 lines); (b) in order to ensure the full utilization of the loan by the extended closing date of March 31, 1983, an amount of US$2.5 million was transferred from Category 1 to Category 2 of the loan. This amount was originally intended for: (i) retention money (USS0.47 million) for the telex exchanges, (ii) tag blocks (US$1.03 million); and (iii) multiforge machines for P&T factories. This amount could  - 5 - not be disbursed for the original purpose before the closing date due to delays In delivery. However, this procurement was financed out of the proceeds of the seventh loan, 1592-IN; (c) the financing of the Jabalpur and Calcutta galvanizing plants was transferred to the seventh project. b Details of these adjustments are given In Annex 2. 3.03 The original and revised loan allocations are shown: Allocation (US$ Million) Category Description Original Final 1-a Local and trunk telephone exchange systems; telex and gentex equipment 17.00 19.457 1-b Cable systems, and radio systems and equipment 8.00 4.942 1-c Materials, components for P&T workshops 2.00 0.402 1-d Equipment and instruments for research, testing and training 3.00 3.215 2-a Telephones, switching and transmission equipment manufactured by Indian Telephone Industries Ltd. 27.50 2B.214 2-b Cable and wire manufactured by Hindustan Cables Ltd. 22.20 23.462 2-c Teleprinters manufactured by Hindustan Teleprinters Ltd. 0.30 0.308 80.00 80.000 Implementation Schedule 3.04 The original implementation schedule was to be over fiscal years 1977, 1978 and 1979. However, substantial delays in project execution prompted two extensions of the closing date first to March 31, 1982 and later to March 31, 1983.  -6- 3.05 The main reasons for the delay from the appraisal schedule were: (a) the bidding documents for the electronic switching equipment were issued only in July 1978 instead of July 1977 when the Bank cleared them. The decision making was delayed due to long and intenee policy discussions, as major technological decisions were Involved. Similar delays in the evaluation of bids and approval of contracts eventually resulted In a delay in implementation of the project of over two years (para. 3.06); (b) shortfalls in supply of switching and other equipment from ITI during 1977, 1976 and 1979 due to various reasons such as power shortages, industrial disputes, product design deficiencies, and lack of incentives for productivity improvements; (c) delays in delivery and installation of imported telex exchanges due to procurement difficulties and delay in building construction. The original implementation (and disbursement) schedules were also, in retrospect, extremely optimistic (para. 3.10). Procurement 3.06 Procurement delays were a significant problem in project execution, particularly for imported equipment. Apart from routine delays within the Government procurement approval system and in the specification and bid evaluation process within the Telecommunications Branch, where project procurement involved import of equipment embodying new electronic technology, major technological debates para. 3.05a) within the GOI delayed implementation by several years. While procurement of local equipment proceeded smoothly, supply by the locsl factories lagged far behind orders (and payments) and quality of output was generally poor. 1/ GOI has stated that it is aware of the problem and steps are being taken at the highest level to streamline the procedures (Appendix).  -7- Costs and Physical Achievements 3.07 The estimated project costs at the time of appraisal together with the best estimate of actual costs are shown in the following tables. Classification -Original Estimate- - Actual Cost of Expenditure Local Foreign Total Local Foreign Total (Rs. Million) 1. Local Tel. Service 1173.3 434.0 1607.3 1883.2 381.0 2264.2 2. Trunk Line Service 688.9 244.8 933.7 921.6 218.2 1139.8 3. Telegraph & Telex 37.5 22.7 60.2 355.4 87.3 442.7a/ 4. Land & Buildings 263.0 - 263.0 204.3 - 204.3 5. Research,Training & Testing Equipment 26.0 20.8 46.8 71.1 27.8 98.9 6. Contingencies 620.5 200.5 821.0 - - - Total 2809.2 922.8 3732.0 3435.6 714.3 4149.9 Increase (decrease) from original estimate (%) - - - 22.3 (22.6) 11.2 Converted to US$ million:b/ 312.1 102.5 414.6 384.8 80.0 464.8 a/ The loan eventually covered virtually the entire foreign exchange component of this category. b/ 9.0 Rs./US$ at appraisal; actual weighted average of 8.9 Rs./US$ for project expenditures. 3.08 The cost overrun of about 11% of the original cost is largely attributable to major changes in the physical composition of the program, and partly to local price escalation, which was around 30%, slightly above the appraisal estimate of 22% for price contingencies. 3.09 The actual achievements in the three fiscal years (FY1977-79) of the Fifth Five-Year Plan, compared with the main targets of the expansion program for these years, as defined in the appraisal report, were as follows:  -8- Achieve- Target ments Local Telephone Networks Unit 77-79 77-79 Variance Subscribers exchange capacity Lines x 1 3 594 463 -22% Direct exchange lines (DELs) DELs x 10 520 402 -23Z Telephone sets installed Number x 103 694 450 -35% Cables laid Pair Km x 103 2178 2434 +12% Riblic call offices Number 2633 5916 +125% Trunk Network Trunk automatic exchange lines Lines 40900 17200 -58% Point to point STD routes Number 50 59 +18% Trunk manual boards Number 1712 1098 -36% Trunk Transmission Trunk cable Channels 5328 7744 +45% Coaxial and other trunk cables Route Km 3385 4184 +24% Microwave radio channels Channels 10556 5777 -45% Microwave radio systems Route Km 12081 6440 -47% UHF/VHF radio system Channels 2760 216 -92% UHF/VHF radio system Route Km 4638 467 -90% HF radio system Channels 102 101 -1% Open wire carrier channels Channels 3600 4113 +14% Multiplex equipment Channels 21244 17850 -16% Telegraph offices Offices 3449 7868 +128Z VFT systems Channels 5500 5574 +12 Telex exchange Number 25 48 +92% Telex exchange capacity Number 6760 4655 -31% Teleprinters Number 6160 7800 +27% Disbursements 3.10 The estimated and actual annual disbursements of the loan were as follows: Bank Fiscal Accummulated Disbursement Actual as Z of Year Appraisal Actual Appraisal -----(Million US Dollars)--- 1977 38.511 25.899 67% 1978 80.000 51.283 64% 1979 80.000 55.188 69% 1980 80.000 56.720 71% 1981 80.000 61.748 77Z 1982 80.000 70.713 88Z 1983 80.000 80.000 100%  IV. OPERATING PERFORMANCE 4.01 In terms of physical achievement, the record of the project and the overall telecommunications investment program is mixed (para. 3.09), with performance far exceeding original targets for installation of facilities serving the general public (telegraph and public call offices), approaching 80% of original targets for telephone network expansion (local subscribers exchange capacity and direct exchange lines), and generally falling far short of targets for long distance service (switching and transmission) and telex networks, which are the most profitable components of the system from a commercial viewpoint. 4.02 The overall quality of service of the telecommunications network appears to have improved to a limited extent during the three years of major project expenditure (1977-79), in part because the network was expanding in size quite rapidly during the period (28Z in three years) which eased the congestion problem to some extent, and partly because the project helped to introduce a stronger institutional emphasis within the Telecommunications Branch on monitoring the quality of service and undertaking a rehabilitation program to directly attack the most fault-prone system components. Between 1979 and the present, however, service levels have probably declined somewhat, as demand again overwhelmed the relatively small system,2/ system expansion slowed down3l, an increasing volume of reinvestible Telecommunications Branch surpluses were drained out of the sector to finance increasing postal deficits, the overaged stock of equipment physically depreciated further, and possibly, the quality of domestically manufactured telecommunications equipment declined. The SAR made clear (e.g., paras_ 3.01-3.04 and 6.02) that the project could not hope to meet more than a fraction of outstanding and projected demand. Net investment in the sector is and has been simply too small to generate rapidly expanding and improving service and to prevent a long-term deterioration in its financial position. Indeed the SAR projected (paras. 5.22-5.2") that over the period 1975-79 funds flowing from the Branch to other Government entities (including interest payments) would be about 250% of the amount of funds flowing to the Branch from Government. Only at the nresent moment has GOI begun to take steps to prepare a substantial infusion of external funds into the telecommunications sector. 4.03 The demand for service has remained buoyant after a settling down period following the sharp drop in the level of the waiting list with the introduction of the Advance Deposit" Scheme in 1976. Under this arrangement intending subscribers were obliged to pay in advance a deposit ranging from Rs. 1000 to Rs. 5000 in order to register on the waiting 2/ It may be noted that India has substantially fewer telephones than Hong Kong. 3/ Expansion between 1979 and 1982 was less than 23X.  - 10 - list. This caused the official waiting list to drop from 637,000 in 1975 to 250,000 in 1976 and 243,000 in 1979. The relatively high connection rate durlng 1977-79 also helped to reduce the waiting list although the latest evidence on demand in India suggests that it has now again grown to an all-time peak of over 700,000, despite selective increases in the size of deposits. This implies that there is a large latent reservoir of suppressed demand for telecommunications services. 4.04 Although telecommunications investments in India have been generally successful, investments in the sector have continued to be below 4 requirements (see below, para. 7.13). The sixth project has not changed substantially the problems of the high unmet demand, low penetration, and/or unsatisfactory service coverage of either the urban or rural areas. The subsequent seventh and eighth projects were designed to address the basic problem of supply of switching equipment, and the subsequent decision of GOI in 1982 to build two production units with an eventual total annual production capacity of one million lines of digital electronic exchange equipment will hopefully alleviate this problem in the loiag term. The problem of inadequate investment in network expansion and upgrading will not be finally solved, however, until a major policy shift from heavy reliance on internally generated funds towards increased external investment (para. 5.12), is decided at the highest levels of GOI. This policy shift may now be forthcoming in the form of a proposed Crash Program of telecommunications investment.  - 11 - V. FINANCIAL PERFORMANCE 5.01 Performance indicators for the P&T's operating results and financial position during the 7-year period of FY1977-1983 are summarized below. Detailed financial statements are given in Tables 1 to 3 of Annex 3. Fiscal Year 1977 1978 1979 1980 1981 1982 a/ 1983 a/ Ending March 31 (Millions of Rs) Operating Revenues Forecast 4,073 4,689 5,445 6,218 7,323 7,948 9,252 Actual 4,354 4,813 5,352 5,926 6,578 7,695 9,404 Operating Expenses Forecast 2,676 3,123 3,700 4,360 5,043 4,608 5,312 Actual 2,340 2,657 3,072 3,493 4,135 4,807 6,007 Net Operating Income Forecast 1,397 1,566 1,745 1,858 2,280 3,340 3,940 Actual 2,014 2,156 2,280 2,433 2,443 2,888 3,397 Rate of Return on Net Plant (M) On Historical Cost Basis Forecast 21.5 20.4 18.5 15.7 15.9 20.8 20.0 Actual 32.0 28.7 26.0 23.3 21.7 21.1 19.4 On Revalued Cost Basis Forecast - - - - - 14.9 14.2 Actual 24.8 22.4 21.5 17.1 15.4 14.7 13.2 Operating Ratio (Z) with Depreciation on Historical Cost Forecast 66.0 67.0 68.0 70.0 69.0 58.0 57.4 Actual 53.1 54.8 56.7 58.9 62.9 62.5 63.9 With Depreciation Reflecting Revaluation Forecast - - - - - 62.5 62.2 Actual 53.7 55.2 56.8 63.2 67.2 65.6 69.9 Current Ratio (times) Forecast 3.0 2.8 2.7 2.5 2.3 3.9 3.6 Actual 3.5 4.1 4.3 4.0 4.9 4.7 4.6 Debt/Equity Ratio (%) Forecast 35/65 36/64 36/64 36/64 35/65 20/80 20/80 Actual 18/82 18/82 18/82 16/84 14/86 14/86 13/87 Debt Service Coverage (times) Forecast 1.7 2.2 2.6 2.7 3.1 5.2 4.7 Actual 2.2 - 3.9 5.3 2.5 2.3 2.3 a/ 1982 acLuals subject to audit; 1983 actuals provisional; 1982 and 1983 forecast based on SAR for Eighth Project.  - 12 - Operating Results 5.02 The operating revenues for P&T have been generally satlsfactory. The revenues were significantly higher during FY1977 and 1978 but were lower during FY1979-82 than forecasted in the appraisal report due to delays in implementation of P&T's program. However the revenues for 1983 were satisfactory, following substantial tariff increases in 1982. There was a significant reduction in expenses compared to appraisal estimates during FY1979-81, which was reversed in 1981-83. 5.03 During FY1977-83, operating revenue increased from Rs. 4,354 million to Rs. 9,404 million with an annual growth rate of 14M, while operating expenditure increased from Rs. 2,340 million to RB. 6,007 million with an annual growth rate of 17%. As a result the operating ratio with depreciation on historical cost increased from 54% in FY1977 to 64% in FY1983, moving in the opposite direction from that projected with rising staff expenses exceeding comendable increases in revenues (para. 7.06). 5.04 Telephone revenues during FY1977-83 increased from Rs. 3,540 million to Rs. 8,091 million reflecting an increase in total telephone revenue per DEL from Rs. 2,189 to Rs. 3,281, an annual growth rate of 7Z. 5.05 During the period FY1977-83 telex facilities continued to be both popular and profitable, revenues increasing from Rs. 247 million to Re. 821 million (annual growth rate of 20%). Total telegraph revenues increased from Rs. 334 million in FY1977 to Rs. 750 million in FY1983 (annual growth rate 16%). 5.06 The annual rate of return on average net plant in operation on historical cost basis declined from 32.0% in FY1977 to 19.4% in FY1983. The rate of return on revalued cost basis was 24.8% in FY1977 and declined to 13.22 in 1983 (see paras. 7.05-7.13). Revaluation Of Assets 5.07 To calculate the annual rate of return on revalued net plant in operation in the financial forecast, the net fixed assets in operation as of March 31, 1980 were increased by about 25% on the basis of a revaluation study on the life of fixed assets and the current value of the various categories of assets. For future revaluations, the forecast assumed an index of 6% per year which is broadly in line with the past experience of other available indices of manufacturing costs of telecommunications equipment and components. For purposes of calculating annual rates of return, the P&T is continuing on a memorandum basis, to review and determine annually its telecommunication assets in a manner acceptable to the Bank.  - 13 - Financial Position 5.08 F&T's financial position during the period FY1977-83 is reflected in the balance sheets which are given in Table 2 of Annex 2. As of March 31, 1983, F&T's total net fixed assets, including the plant under construction, amounted to about Rs. 26,060 million, some 155% higher than in March 1977. PST's inventory level has been satisfactory, at least in financial terms. The yearly accounts receivable position has also been satisfactory. 5.09 P&T's current ratio has been satisfactory. This is because P&T operates on a cash basis as a Government department and the current liabilities including accounts payable have been relatively low while the current assets including inventories and accounts receivable are higher. 5.10 Debt service coverage bas been satisfactory, as has the debt/ equity ratio, although in the context of P&T as a Government department, these two ratios are not very meaningful or important. Financial Plan 5.11 The statements of actual and forecasted sources and applications of funds for the period FY1977-83 are given in Table 3 of Annex 3 and are summarized below for the seven-year period as a whole. Forecast Actual FYs 1977-83 (Rs. millions) X (Rs. millions) Z Sources (net of debt service) Internal cash generation 23,867 71.9 22,163 77.9 Less: Debt service 3,904 11.8 2,740 9.6 Net internal cash generation 19,958 60.1 19,423 68.3 Government contributions 4,027 12.2 5,785 20.3 Subscriber deposits and OYT 2,632 7.9 434 1.5 Borrowings 6,545 19.8 2,812 9.9 Total Sources 33,162 100.0 28,454 100.0 Applications Construction programme 28,691 86.5 21,789 76.6 Working capital change 699 2.1 2,011 7.1 Other (transfers) 3,772 11.4 4,654 16.3 Total Applications 33,162 100.0 28,454 100.0 5.12 P&T was able to generate 68% of the fund requirements for investment from internal cash generation net of debt service. This compares favorably with a forecast of 60% for the period, and, despite a drop in the receipt of subscriber and OYT deposits (these are now held in  - 14 - the Ministry of Finance until subscribers are connected), has resulted in a reduced amount of borrowing. However, even this degree of self-financing of investment, which is very high by international standards, understates the true situation with regard to the Telecommunications Branch. Deducting transfers from the Branch to postal and other accounts, the net self-financing ratio of telecommunications investment rises to 82%. Finally, much of the Government contribution allocation is actually intended to compensate the branch for customs duties paid on imported equipment, a form of transfer from telecommunications revenues to Central Government accounts. Deducting this amount from the costs of telecommunications investment raises the self-financing parameter to as high as 108%; i.e., the subsector is a net contributor to government revenues even on a cash basis. Given the relatively small size and poor quality of the network, telecommunications development in India %ay be severely hindered by excessize reliance on internally generated funds for investmert. Tariffs 5.13 An annual tariff exercise is conducted by P&T mainly with a view to augmenting the internal resources for its development programmes. Recommendations for tariff revision are approved by the Government and placed !hefore the Parliament. The tariff revisions effected from March 1, 1976, increased the rates for most of the main services and generated about 25% increase in revenue. During 1979, FST introdutced a differential tariff structure for its local telephone services. In September 1980, P&T increased the rates for trunk calls by about 30%-50% depending on the distance. The rates for local calls were also increased. In July 1981, PFT increased the local call rates further and raised the Own-Your-Tele- phone (OYT) deposit requirements by 50%-70% depending on the size of exchange. The revisions in March 1982 increased the rental charges by 50% and the quarterly billing system was changed to bi-monthly billing system with corresponding changes in the local call slabs. The tariff revisions effected frnm March 1, 1983 related to long distance circuit rentals which were increased by 100%. Installation charges and rates for telephone extensions and additional and auxiliary facilities of teleprinter machines were also revised upwards by about 50%. Commercial Accounting System 5.14 P&T has developed for the Telecommunications Branch a commercial accounting system which is the basis for all financial reporting within PST as well as to Government. Although the accounting system on an accrual basis was started as early as FY69, the double entry system of accounts was introduced only with effect from April 1, 1972. As agreed under Credit 403-IN, P&T extended the accounts to the regions including all the circles and districts. P&T management is using the information based on these accounts as a major element of the Management Information System for its day-to-day operations. The commercial accounts are audited by the Comptroller and Auditor General (C&AG) and presented to Parliament (see paragraph 5.17).  - 15 - Transfer of Postal Accounts 5.15 On April 1, 1976, the postal accounts were transferred from the C&AG to P&T together with the transfer of about 7,000 staff performing this function. Previously P&T's accounting function had been divided between P&T and the C&AG, with P&T responsible for the telecommunications accounts and C&AG responsible for the postal accounts. With this change, P&T was able to allocate expenses between the two branches as they accrued and to maintain the accounts on a more current basis, and therefore avoid the need for coordinating the accounting function between two different bodies. Audit 5.16 The loan agreement required that provisional financial statements be submitted within four months of the close of the fiscal year (i.e., by the end of July of each year) and that audited financial statements be submitted within a reasonable time thereafter. The reports were submitted as follows: --Date Submitted to IBRD- Reporting Year Provisional Audited FY1977 Aug, 16, 1977 Jan. 31, 1979 1978 Aug. 26, 1978 June 30, 1979 1979 Aug. 20, 1979 July 28, 1981 1980 July 28, 1980 May 25, 1982 1981 Aug. 13, 1981 Oct. 10, 1982 1982 Aug. 19, 1982 July 7, 1983 1983 Sept. 13, 1983 - 5.17 The delay in submission of audited accounts for FY1977-1980 was laroely due to the late closing of accounts and partly to delay in audit. There has been a significant improvement in submission of audited accounts to the Bank since FY1981. VI. INSTITUTIONAL PERFORMANCE 6.01 The material management system and the Management Information System (MIS) introduced during the fifth project were further developed under the present project and continued to operate effectively. During the course of the sixth project the Economic Study Cell has been established and staffed. The work of the Cell contributed to the improvement of the quality of investment planning and to better management of the P&T Department. Some of the studies completed by the Cell were: (i) telephone demand studies; (ii) opinion surveys; (iii) employment study in P&T; and (iv) local call distribution studies.  - 16 - Staff Recruitment, Training and Development 6.02 The staffing ratio of the Telecommunications Branch is very high by international standards. At the commencement of the expansion program of FY77-79 there were approximately 163 staff per 1000 DEL. and this was reduced to 155 staff per 1000 DELs in 1979 and 134 in 1982.4/ The drop in this ratio reflects a trend in the correct direction, but maJor improvements in staff productivity must still be made. 6.03 P&T has adequate training programs for telecommunications staff. There are 25 Circle/District training centers and 13 regional training centers. In addition, an advanced training center has been established in Ghaziabad with assistance of UNDP/ITU. During FY78 and FY79J over 25,882 candidates at various job categories completed technical training courses. P&T also offers refresher courses for in-service training and over 21,605 candidates including 161 accounting staff completed these courses during FY78 and FY79. VII. PROJECT JUSTIFICATION 7.01 Financial Internal Rate of Return on Investment.5/ In projects where new capital is being added to an existing stock or network, it is quite difficult to identify the exact output resulting from the fresh investment. It is even more difficult to isolate the output which has resulted from a particular component of the investment program. Therefore, the financial IRR has been calculated on the overall expansion program of the P&T during the years of the project execution (1977-83). Also, the calculations have been made on an incremental basis since conventional with-and-without analysis was considered quite speculative in this case. 7.02 The calculations are based on the following assumptions: (i) The entire cost of the investment program for 1977-83 has been taken as the investment cost. (ii) Operating costs and benefits relating to the increment in the network have been determined by calculating total incremental Telecommunications Branch operating costs and revenues per telephone DEL6/ in service for each year, and allocating against the investment coBt those incremental annual flows attributable to DELs installed during the project period. (iii) The annual flows have been lagged one year behind related investments to account for the installation, connection, and commissioning period. For 1984 it is assumed that the 4/ For comparison, the staffing ratios (staff per 1,000 DELS) range from 8-10 in the U.S. and Western Europe, to about 22 in Thailand, 66 in Ethiopia and 150-160 in Upper Volta and Bangladesh. 5/ This section (paras. 7.01-7.03) is based on the work of the Economics Study Cell of the P&T, which was established under this project. 6/ From 1977 through 1979 telephone revenues represented over 80% of total Branch operating revenues, rising to 86% in recent years.  - 17 - fairly modest target of 200,000 DELs will actually be placed in service. A final year of benefit build-up (1985) has been included to serve as a proxy for all future increases in traffic over the project DELs due to overall network expansion. The target for 1985 (541,000 additional DELs) may well not be achieved in that year, but since all subsequent incremental real revenues per DEL have been ignored this assumption is still conservative. 7.03 Equipment life has been assumed at 20 years without salvage value, which is also conservative in the Indian context. Inflation over the project life has been taken as 4% per annum through 1983, after which it is assumed that unit operating costs, tariffs, and net benefits per DEL will increase roughly in line with general inflation and hence remain constant in real terms. The financial IRR on the basis of these assumptions is 12.5%, as opposed to the 20% projected at appraisal. The relevant parameter streams are given below: Capital Capital Cost of the Cost of ---------Incremental- 6th Tele om the Total Operating Operating Net Year Deflator Project Program Cost Revenue Benefits ~~- - ---(---Rupees million)-- --- ---_ 1977 1.00 1,457 2,015 - - (2,015) 1978 0.96 1,915 2,185 148 386 (1,947) 1979 0.92 232 2,325 319 773 (1,871) 1980 0.89 40 2,327 503 1,205 (1,625) 1981 0.85 11 2,219 713 1,598 (1,334) 19X2 0.82 129 3,733 937 2,112 (2,558) 1983 0.79 172 4,211 1,260 2,785 (2,686) 1984 0.79 - - 1,549 3,425 1,866 1985 0.79 - - 2,331 5,154 2,823 1986- 2005 0.79 - - 2,331 5,154 2,823 Internal rate of return: 12.5%. 7.04 Aside from the factors noted above, which may have depressed the financial IRR by a point or two, an important factor in the relatively low IRR is the fact that a significant proportion of the Telecommunications Branch construction budget over the past several years appears to have been devoted to replacing existing assets (fully depreciated both physically and financially) rather than to expanding the network. This category of expenditure has thus served to maintain existing net revenues from pre-1977 DELs rather than to install new DELs, leading to an under-allocation of net revenues to the current project and thus to an underestimation of the actual rates of return by the calculation performed above.  - 18 - 7.05 Annual Financial Rate, of Return. Annual Telecommunications Branch rates of return on both hlstorical and revalued costs of the asset base show a continuously declining trend over the project period, as indicated below: Annual Return on Net Plant in Oeration On Historical On Revalued Indian FY Cost Basic Cost Basis () 1976/77 32.0 24.8 1977/78 28.7 22.4 1978/79 26.0 21.5 1979/80 23.3 17.1 1980/81 21.7 15.4 1981/82 21.1 14.7 1982/83 19.4 13.2 Although the most recent results still fulfill the covenanted minimum of 11% on revalued assets, are better than most years prior to 1976, and are roughly in line with appraisal projections, the trend is disturbing. The trend does not appear to be due to policy on tariffs, which have been regularly increased by rather substantial proportions over the life of the project (para. 5.13). Further real general tariff increases (above the general rate of inflation) may be difficult to impose unless the quality of service is substantially improved. There may be scope, however, for initiating the metering of local service, which could possibly raise revenues and reduce peak hour congestion (a major cause of poor service levels) simultaneously. 7.06 Factors in Financial Performance. Aside from the tariff question, the financial (and economic) performance of the Branch is most influenced by the complex of factors summarized by the operating ratio (the ratio of expense to revenues), the allocation of investments, and the costs of investment. Contrary to appraisal projections the operating ratio has increased significantly during the latter years of project implementation (to 64% in 1982-83 as against a projected 57%), with rising staff expenses (two-thirds of total expenses) exceeding commendable increases in revenue: 1976/77 1977/78 1978/79 1979/80 1980/81 1981/82 19828B3 Operating Ratio (%) 53.1 54.8 56.7 58.9 62.9 62.5 63.9 Annual Growth Rates (Z) Staff expenses 1.2 13.1 14.4 13.8 19.7 19.1 23.8 Staff numbers 6.6 3.4 4.1 5.8 6.3 '.2 - Other operating expenses 1.2 12.9 14.4 13.8 19.6 19.2 23.7 Operating revenues 38.0 10.5 11.2 10.7 11.0 17.0 22.0  - 19 - 7.07 As demonstrated above, the two major cost categories (which exhibit nearly identical behavior) increased faster than revenues In each year since 1976/77. Within the stAff expense category, costs per staff member (i.e.. wages) increased in current Rupee terms between 8 and 13% durtng each of those years. In part this was due to a justifiable improvement in the mix of Branch staff, with the numbers of engineers of various grades increAsing much faster than the unskilled staff. But the overlond of redundant laborers (readily admitted by most local network mar.,1gers) in still very great, and actually seems to hinder efficient operations, aside from its financial implications. Despite the external political and humanitarian pressures to use the Branch as a haven of relatively well-paid employment, the government bhould consider encouraging the Branch to limit its recruitment of redundant grades of staff to a very low (or zero) rate of increase, justified strictly on the amount of work to he done. Contracting out of telephone installation, house wiring, and crthle laying should also he stimulated. 7/ 7.08 While revenues have grown at a reasonable rate over the project period, they could possibly have increased faster if a greater proportion of investment had been directed to the more profitable long-distance components of the network as against general locil network expansion. A comparison of traffic growth rates (or their proxies) and the growth of operating revenues is giver, below: -------------- ----Annual Growth Rates