Tunisia - Second Small and Medium Scale Industry Development Project

Document of The World Bank FOR OFFICIAL USE ONLY Report No. P,4535-TUN MEMORANDUM AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN IN THE AMOUNT OF US$28.0 MILLION EQUIVALENT TO THE REPUBLIC OF TUNISIA FOR A SECOND SMALL AND MEDIUM SCALE INDUSTRY DEVELOPMENT PROJECTv January 12, 1988 Industry & Enery Dvision Country Department II Europe, Middle East and North Africa Regiona Office Ti-s docunent bas a resiced dhbution and may be used by reciients only in the performanc of their official doues Its conents may not odhwi be diclosed with Wodld Bank autozaton.  GOVERNMENT OF REPUBUC OF TUNISA Fiscal Year January 1 - December 31 CURRENCY EQUIVALENTS Currency Unit = Tunisian Dinar (TD) Value of TD Value of US. 1985 (average) US$ 1.321 TD 0.757 1986 (average) US$ 1.259 TD 0.794 December 31, 1986 US$ 1.190 TD 0.840 November 17, 1987 US$ 1.255 TD 0.797 GLOSSARY OF ABBREVIATIONS API (new)- Agence de Promotion de l'Industrie API (old)- Agence de Promotion des Investissements ASAL - Agricultural Sector Adjustment Loan BDET - Banque de D6veloppement Economique de Tunisie BS - Banque du Sud BT - Banque de Tu,.isie BTEI - Banque de Tunisie et des Emirats d'Investissement FOPRODI - Fonds de Promotion et de Decentralisation Industrielles (Industrial Promotion and Decentralization Fund) ITPAL - Industrial and Trade Policy Adjustment Loan SMI - Small and Medium Scale Industries STB - Societe Tunisienne de Banque UTICA - Union Tunisienne de l'Industrie, du Commerce et de l'Artisanat  REPUBLIC OF TNSIA FOR OMCUL USE ONLY SECOND SMALL AIID MEDIUM SCALE INDUSTRY DEVELOPMENT PROJECT Loan and Project Summary Borrower: The Republic of Tunisia. Participating Banks: Two development banks and three commercial banks: Banque de D6veloppement Economique de Tunisie (BDET), Banque de Sud (BS), Banque de Tunisie (BT), Banque de Tunisie et des Emirats d'Investissement (BTEI), Societ6 Tunisienne de Banque (STB). Beneficiaries: Small and medium scale industrial enterprises investing in economically viable and technically and financially sound new or expansion projects. Amount: US$28.0 million equivalent. Terms: 17 years, including four years of grace, at the standard variable interest rate. Onlending Terms to The participating banks would pay the Government Participating Banks the Bank's interest rate applicable at the time of and Beneficiaries: signing of the Loan Documents plus 12 flat fee to cover the foreign exchange risk. The participating banks would onlend the Bank funds to ultimate beneficiaries at about 122 per annum, permitting them a margin not exceeding 42. In addition, beneficiaries would pay the banks the 12 flat fee for the foreign exchange risk coverage, which would be borne by the Government. The onlending rates to the participating banks and the ultimate borrowers may be revised on the basis of an annual review to be conducted by the Government, the participating banks and the Bank. The participating banks would repay their loans to the Government according to the composite amortization schedule of the subloans financed out of the proceeds of the loan. Subloans to beneficiaries would be for a maximum of eleven years, including three years grace. Financing Plan: Local Foreign Total ----(US$ Million)--- IBRD - 28.0 28.0 Participating Banks 15.8 -- 15.8 Owners' equity 25.0 - 25.0 Co-financing (UNDP/Bilateral) - 1.2 1.2 Total 40.8 29.2 70.0 Appraisal Report: No. 6752-TUN |This document has a festricted 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.  MEMORANDUM AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL BANK FOR RE'0ONSTRUCTION AND DEVELOPMENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO THE REPUBLIC OF TUNISIA FOR A SECOND SMALL AND MEDIUM SCALE INDUSTRY DEVELOPMENT PROJECT 1. The following report on a proposed loan of US$28.0 million to the Republic of Tunisia is submitted for approval. The proposed loan would have a term of 17 years, including 4 years of grace, at the standard variable interest rate. It would help finance viable small and medium scale industrial enterprises (SMI) through a credit line of $27.5 million to five participating banks. The project also ixucludes technical assistance ($0.5 million) to assist SMI in formulating and designing investment projects and in resolving managerial and technical protlems, and to help the participating banks in improving their appraisal and supervision of SMI projects. 2. Backaround. Small and medium scale industries are estimated to comprise about 851 of all manufacturing enterprises in Tunisia and to employ over 65% of the labor force in the manufacturing sector. They are concentrated in traditional sectors like textile/leather and food processing but are now becoming important in the modern electro-mechanical sector which has become the third most important in terms of SMI investment and employment. The Government is interested in further developing the SMI sector, inter alia as a source of employment since the cost of creating a new job in SMI averages about TD 8,500 (US$10,700) i.e. less than 402 of the average for the industrial sector as a whole or less than 201 of the average for larger enterprises. The proposed project builds on the experience of a pilot project (Loan 1504/1505, approved in 1977) and of the SSI project (Loan 1969-TUN, approved in 1981) which have contributed to a better understanding of the strengths and constraints of the SMI subsector. In particular, it has brought to light the weaknesses in the institutional and financial support system. API (Agence de Promotion des Investissements). which is responsible for industrial promotion, has become inflexible and more concerned with regulatory matters than with promotion, while FOPRODI (Fonds de Promotion et de Decentralisation Industrielles), which provides financial assistance to SMI, has become too lax in its financing standards and criteria. The project addresses these weaknesses (paras. 4-6). The Government is already undertaking economy-wide and sectoral reforms under the Agricultural Sector Adjustment Loan (ASAL) and the Industrial and Trade Policy Adjustment Loan (ITPAL), both approved in 1986, which are expected to provide the economic environment required for sound SMI development. Specifically, these reforms aim at: (i) expanding exports to offset the country's declining oil revenues, and (ii) reducing the present high levels of unemployment and underemployment. The Government places high priority on the growth of SMI as a means of achieving improvements in these two areas.  - 2 - 3. Project Obiecti"c^s. The proposed project would finance eligible SMI investment projects through a credit line to three commercial banks and two development banks. Through the promotion of SMI enterprises, the project would foster the development of a new class of industrial entrepreneurs and create employment in economically sound projects at a relatively low cost. The proposed project will provide medium- and long-term finance to SMI through the commercial banking system. Under the project, this type of financing will become more attractive to the banks and will enable them to improve the quality of financial services and assistance to SMI. Technical assistance, which is critical to SMI development, would (i) help commercial banks develop the necessary expertise to improve their support to SMI; and (ii) assist SMI in designing new extension/modernization projects and in resolving their operational problems. The project will also assist BDET (Economic Development Ban!' of Tunisia), one of the participating banks, in strengthening its financial situation which has been impaired by Government arrears related to foreign exchange losses, and by a weak portfolio, especially with respect to loans in arrears many of which concern public sector enterprises and the tourism sector. 4. Proiect Description. The proposed project would consist of a credit line of US$27.5 million, divided among three commercial banks and two development banks (BDET and BTEI) which are active in the financing of SMI. Based on a review of each bank's subproject pipeline, its past volume of activity and a reasonable estimate of future growth, it is expected that the participating banks will be able to utilize, in the next three years, their share of the credit line, i.e. US$ 6.5 million for BDET, Us$ 6.0 million for STB, as well as for BS, US$ 5.0 million for BT and US$ 4.0 million for BTEI. The utilization of the loan :unount will be reviewed after 18 months and, if needed, a reallocation may be undertaken in agreement with the Government, the participating banks and the Bank. Proceeds of the proposed loan would finance new SMI enterprises with total investment not exceeding TD 1.5 million (US$1.9 million) and existing enterprises with total investments for expansion, modernization, diversification/integration or rehabilitation/restructuring not exceeding TD 2.5 million, including net existing investments. Eligibility criteria for SMI subprojects would include inter alia an economic rate of return of 102 per year, a financial viability test showing the enterprise's ability to pay interest and reimburse the loan, and a combination of indicators including employment creation and export orientation. The Bank loan would be made to the Government at the standard IBRD variable interest rate and would be onlent to the participating banks in local currency at the interest rate charged by the Bank at the time of signing of the loan documents. The banks would onlend the Bank funds to eligible SMI at cost, plus a margin of not more than 42, to provide for about 2% overheads, 1% provision for losses and 12 profit. The foreign exchange risk will be covered by the Government, the participating banks paying to the Government a 1% flat fee which they will charge to subborrowers. On this basis, the interest rate paid by the subborrowers will be about 12X per year, which is similar to other local rates for term loans, and is strongly positive in real terms when compared to expected inflation of 72 for the period 1987-1990. The onlending interest rates to the banks and the subborrowers for new commitments will be reviewed once a year and adjusted on the basis of changes in the Bank's lending rate, the level and structure of interest rates in Tunisia (particularly, the interest rate on long-term funds), the prevailing inflation rate, the demand for long-term funds, the utilization of the Bank loan and overall liquidity in the banking system.  5. Technical assistance (US$0.5 million) would be provided to API, the regulatory role of which has been reduced under ITPAL and which will, under the proposed project, reorient its activities towards the promotion of new enterprises. The technical assistance would consist of the provision of an expert engineer, equipment and training to its technical assistance directorate, to help new entrepreneurs in the design of their projects. Technical assistance would also be provided to UTICA, the Tunisian employers' federation, by the provision of training and operating support to its Centre d'Assistance a la PME; this technical assistance is expected to be finar,ced by bilateral sources. The project also proposes a program of actions to strengthen BDET's financial situation. Amounts and methods of procurement and disbursements and the disbursement schedule are shown in Schedule B. A timetable of key project processing events and the status of Bank group operations in Tunisia are given in Schedules C and D, respectively. The Staff Appraisal Report (Number 6752-TUN) dated January 12, 1988 is being distributed separately. 6. Rationale for Bank Involvement. The Bank has assisted the Tunisian Government in its policy adjustment efforts through intensive macroeconomic and sectoral dialogue (Synopsis Paper, Financial Sector Report, Industrial Policy Report, Industrial Employment Report), and with concrete policy measures being implemented under ASAL and ITPAL. The project is consistent with, and expected to benefit from, these policy changes and the continued macroeconomic dialogue. In addition to policy-based sectoral lending, there is a need for project lending to support investments in priority areas. The proposed project helps to pursue, in particular, objectives in the areas of employment creation, promotion of new industrial activities and technological innovations. Through the support of the commercial banks, the project aims at a more efficient mobilization and allocation of financial resources for SMI. As proposed in the Financial Sector Report (Report No. 5263-TUN dated December 16, 1985), the Government has agreed that the minimum long- and medium-term lending by commercial banks be reduced from 18% to 102 of sight and term deposits and that this ratio apply for the SMI, export and agriculture sectors. In the past, most of this lending was directed to larger and often publicly owned enterprises. The project also intends to bring about changes in FOPRODI, in order to make its interventions more effective and promotional, while strengthening its management and loan recovery. A study to this effect will be undertaken under the project. 7. Agreed Actions. (a) With regard to the technical assistance program, the Government has agreed that the main vehicles for assistance to SMI will be UTICA and API. The signatures of the API and UTICA grant agreements are conditions of effectiveness; so is the confirmation of the availability of funds from bilateral and other sources to finance the UTICA component;  - 4 - (b) With regard to the credit line, the proposed onlending terms and conditions - as presented in the Project Description and reflected in subsidiary loan agreements between the Governments and the participating banks -- were agreed with the Government,with the aim of improving and simplifying financial intermediation to SMI and increasing the responsibility and financial interest of the participating banks in SMI investments. Signature of the subsidiary loan agreements will be a condition for effectiveness; (c) With regard to the SMI subsector, the Government agreed that: (i) a study for the reform of FOPRODI be undertaken, the results of which will be discussed with the Bank before finalization; and (ii) subloans made from the proceeds of the Bank loan qualify for inclusion in the "priority activities ratio"; and (d) With regard to BDET, the following action was agreed upon to strengthen BDET's financial situation: payment by the Government, over a maximum of two years, of its arrears on account of BDET's foreign exchange losses. Payment of TD 15 million would be a condition for effectiveness, and the remainder as of late 1987 (TD 13.8 million) would be paid before December 31, 1989; future accruals not covered by a new foreign exchange coverage scheme presently being studied under ITPAL would be paid with a maximum delay of two years. 8. Justification and Risks. This prcject provides technical assistance and financial support at a critical time of adjustment to a subsector which should be an engine of growth, employtent and export creation and diversification. The main risks involved are that, for macroeconomic reasons, SMI investments might not proceed at the levels now projected. This risk will be mitigated by the fact that there is already a substantial pipeline of subprojects which should increase as a result of the macro and sector policy reform program supported under ASAL and ITPAL. Considering the past and expected future dynamism of the sector and the special features of the proposed project which should make investment by and lending to SMI attractive, project risks are acceptable. 9. Recommendation. I am satisfied that the proposed loan would comply with the Articles of Agreement of the Bank and recommend that the Executive Directors approve the proposed loan. Attachments Barber B. Conable Washington, D.C. President January 12, 1988  Sebedule A Estinated Costs and FinanDing Plan Estimated Costs. The proposed loan consists of lines of credit to five Tunisian banks for on-lending to eligible SMI subprojects. It is estimated that the fund. provided under the proposed loan would help to finance about US$70 million of investments in the SMI sector. F=euivgA Pgaw The lines of credit to the participating banks would finance about 452 of investment costs of eligible subprojects (including permanent working capital) which corresponds to the estimated foreign exchange component of SMI projects in Tunisia. Investors would contribute an average of about 35% to the total cost of the investment in the form of equity or internal cash generation, with the balance of about 202 contributed by the participating banks.  -6- Schedule B Procurement and Disb'sements Procurement Procurement under the investment subprojects would follow the procedures used under previous Bank lines of credit through the banking system in Tunisia, which have been satisfactory. Purchases would be made on the basis of a comparison of at least three quotations from suppliers or contractors. As in the past, this is expected to lead to international bidding or sho'ning. Procurement for the technical assistance component would be done on the basis of Bank Guidelines on the use of consultants. Estimated Disbursement Sehedule Fiscal Year (US$ Thousand) 1988 1989 1990 1991 1992 1993 1994 1995 Annual 1,600 2,300 6,100 6,800 5,000 3,600 2,100 500 Cumulative 1,600 3,900 10,000 16,800 21,800 25,400 27,500 28,000  -7- Schoede C TUNHA SECOND SMA LLSCALE DSUSlTRY DEVELOPMENT PROJECT Tumetabe of KeY Prowjec ProeesdEvents (a) Time taken to prepare :Two Years (b) Prepared by :Government, with IBRD assistance (c) First IBRD mission :February 1985 (d) Appraisal mission departure MNovember 1986 (e) Pre-negotiations mission departure :September 15, 1987 (f) Negotiations :December 1987 (g) Planned Date of Effectiveness :October 1988 (h) List of relevant PCRa or PPARs :PCR for Loan 1504/1505-TUN dated June 28, 1985 and PPAR of the same loan dated January 30, 1987.  - 8 HESTATUS aF BANK GOEMag.res NTNSA/ A. STATIMENT Of BANK LANS INS IDA REmImititmo mteIA107 Loan or Amunt in USS million Credit hems eancellationi EumIr Yar DarrmKer MemrosA0 lAk AM Unglibrau Forty-nine Loans and Credits Fully Disbursed 107.38 75.15 1601 Republic of Tunisia Transport 30.00 0.15 1675 1979 Republic of Tunisia Second Urban Sewerage 26.50 4.52 1746 1979 Republic of Tunisia Second Fisheries 25.S0 1.68 1796 1980 Republic of Tunisia Southern Irrigation 19.50 1.60 1797 1980 Office des Ports Nationaux Third Port 42.S0 8.84 1841 1980 Republic of Tunisia Fourth Highways 36.50 7.36 1864 1980 Republic of Tunisia Second Natural Gas Pipeline 27.0 0.31 1961 1981 Republic of Tunisia fourth Education 21.00 12.07 1969 1981 Republic of Tunisia Small-Scale Industry Oevelopoent 30.00 9.24 1"97 1981 Republic of Tunisia Northwest Rural Development 24.00 11.70 2005 1981 Republic of Tunisia Health and Population 8.50 4.64 2052 1981 Republic of Tunisia Grain 01stribution and Storage 38.00 6.73 2108 1992 Republic of Tunisia Fifth Highway (Rural Roads) 35.S0 14.23 2113 1982 8OET Electrical & Mechanical Industries 23.28 2.37 2134 1982 SONEDE Sixth water Supply 30.50 1.67 2157 1982 Republic of Tunisia Irrigation Development 17.00 8.02 2197 1982 Republic of Tunisia Technical Assistance 4.50 1.31 2223 1983 Republic of Tunisia Urban Oevelopme_t U! 25.00 19.60 2230 1983 Republic of Tunisia Education V 27.00 20.81 2234 1983 Republic of Tunisia Central Tunisia Irrigation 16.50 9.96 225S 1983 Republic of tunisisa Urban Sewerage III 34.00 28.80 2289 1983 Republic of Tuwisia Sfax Flood Protection 2S.00 9.68 2301 1983 SOFONECA Industry (IV) Foundry 16.80 2.61 2346 1984 Republic of Tunisia 1ining Technical Assistance 13.40 9.45 2368 1984 Reoublic of Tunisia Seventh water Supply S.00 34.56 2429 1984 Republic of Tunisia Second Urban Transport 33.00 30.15 2455 198' Socidtd Tunisienne de lElectricitd et du Gaz Fourth Power 21.70 18.86 2s02 1985 Republic of Tunisia Northwest Agricultural Production 15.00 14.59 2522 1985 Republic of Tunisia Export Industries 50.00 SO.00 2S54 198S Republic of Tunisia Second Electrical and Mechanical Industries 54.00 52.99 2573 1985 Republic of Tunisia Irrigation Management Improve~ent 22.00 22.00 2605 1985 Republic of Tunisia Gabes Irrigation 27.70 25.99 2735 1986 Republic of Tunisia Energy Conservation 4.00 4.00 2736 1986 Republic of Tunisia fourth Urban Development 30.20 30.20 2754 1986 Republic of Tunisia Agricultural Sector Adjustment 150.00 6S.12 2781 1987 Republic of Tunisia It Industrial a Trade Policy Adjust. 150.00 114.78 2865 1987 8NT BNT IV 30.00 30.00 2870 1987 Republic of Tunisia /f Agriculture 20.00 20.00 TOTAL 1.804.37 7S.1S 710.61 Of which has been repaid 34A.81 a.79 Total Now Outstanding 1.462.56 64.36 Amount Sold 33.10 of whtch has been repaid 22-Ea 10.64 Total now held by Bank and IDA I 4U2.56 6436 Total Undisbursed 1.451.92 710.61 /i The status of the projects listed in Part A is described in a separate report on all Bank/IDA financed projects in execution, which is updated twice yearly and circulated to the Executive Directors on April 30 and October 31. /l Not yet effective; effective August. 1987. ls Not yet signed.  B. STATEMT 0 i IUESm Th S IN TIISIA (AS Or STE .m lblgatnr TIM of ausinsts &Mt af USA 1NIl]Io Lon LdiMX Toa 1963 MPK tngrats FertilizerS 2.0 1.50 3.50 1966/70/8 Sociit4 lNational* d'tnvesttsssnt (now So0T) Oev. Finance Co. 2.30 2.30 1969 WOflT Tourtsm (now NOT) Dev. Finance Co. 8.0 2.20 10.20 1973 Soci6td Touristique et Hoteli*re RYN SA Tourism 1.6 0.30 1.90 1974 Zndustrtes Chimiques du Fluor Chesicals 0.60 0.60 1975 So=tit# dEtudes et de Oevelopponent de Sousse-Nord Tourism 2.S 0.60 3.10 198S/86 Sociit6 Tunisienne de Leasing Leasing Co. 3.4 0.SO 3.90 1985 Soci4t6 Mintire de Spar Fluor et de earytine (Fluobar) 1ining Co. 0.30 0.30 1986 SITEX Textiles and Fibers S.0 0.00 8.20 1987 Adwya. S.A. Chemicals/Petrochemicals 2.3 0.30 2.60 1987 Rozzi Edilizzia Industrial- Prefabricated Pamels 1.3 0.40 1.70 izzata - Tunisia 1987 Caete UV. Services - 0.04 0.04 Total Gross Comitmnts 26.1 124 38.34 Less cancellat ons Terminattons. Repaments and Sales Il3a 2-9h AAl Total Comitmmnts now held by IFC I& 11.7 9.4 21.10 Total Undisbursed g . l /a In addition. an investment tn Comte - Engineering was approved on April 1. 1987 and si1ned an April 27. 1987. (01070)  38 9 10 1 | R~~~~~~~~~~~~~~~~~~~~~~~~IZERTE Se w enene5~~~~~~~Ro Diebel 37,S NEA ,/ eutiqe TUN;S II AotriC 37-_ I ~~~~~~~ ~~~~~~~~~~~~~~ rr lbiI -J~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~t |~~~~ (/ Eeee Mets o Iooui E 1-~~~~~~~~~~~~~~~BJ zo Is To- Cmirnilo X