Argentina - El Chocon Power Project

RESTRICTED FILE COPY Report No. P - 6 5.5 This report was prepared for use within the Bank and its affiliated organizations. They do not accept responsibility for its accuracy or completeness. The report may not be published nor may it be quoted as representing their views. INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT REPORT AND RECOMMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO HIDRONOR S. A. HIDROELECTRICA NORPATAGONICA SOCIEDAD ANONIMA IN THE ARGENTINE REPUBLIC December 5, 1968  REPORT AND RECON1ENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAlN TO HIDRONOR S.A. HIDROEIECTRICA NORPATAGONICA SOCIEDAD AiqONIMA IN THE ARGENTINE REPUBLIC 1. I submit the following report and recommendation on a proposed loan in an amount in various currencies equivalent to US$82 million to Hidronor S.A. Hidroelectrica Norpatagonica Sociedad Anonima for the El Chocvin hydroelectric project. PART I. HISTORICAL 2. Possibilities for hydroelectric development on the tributa- ries of the Rio lIegro in Northern Patagonia have been investigated for many years and since the early 1960's the Argentine Government has commissioned several studies by international consultants. First enquiries concerning financial assistance by the Bank for El Chocon were made in 1965. As the Bank had also been kept informed about another large hydroelectric development, the Salto Grande project on the Uruguay River which forms the boundary between Argentina and Uruguay, it advised the Argentine Government to undertake studies to determine priorities in the power sector. After the present Government took office in the middle of 1966, it decided in favor of El Chocon. The Bank subsequently agreed to assist in organizing and carrying out a study designed to ascertain whether El Chocon wras the most economic solution for meeting the power requirements of Greater Buenos Aires. These studies were made in the course of 1967. Discussions about possible Bank financing followed in early 1968. An appraisal mission visited Argentina. in August and negotiations took place in Washington in the second half of November 1968. Hidronor was represented by the President of its Executive Committee, Ing. Raul A. Ondarts, and two of its Directors, Dr. Julio C. Gonzalez del Solar and Dr. Enrique J.L. Ruiz Guinazu; Dr. Daniel Fernandez, Financial Minister at the Argentine Embassy in Washington, represented the Government.  REPORT AND RECOMNENDATION OF THE FRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO HIDRONOR S.A. HIDROELECTRICA NORPATAGONICA SOCIEDAD AiqONIIMA IN THE ARGEIEINE REPUBLIC 1. I submit the following report and recommendation on a proposed loan in an amount in various currencies equivalent to US$82 million to Hidronor S.A. Hidroelectrica Norpatagonica Sociedad Anonima for the El Chocten hydroelectric project. PART I. HISTORICAL 2. Possibilities for hydroelectric development on the tributa- ries of the Rio Negro in Northern Patagonia have been investigated for many years and since the early 1960's the Argentine Government has commissioned several studies by international consultants. First enquiries concerning financial assistance by the Bank for El Chocon were made in 1965. As the Bank had also been kept informed about another large hydroelectric development, the Salto Grande project on the Uruguay River which forms the boundary betwjeen Argentina and Uruguay, it advised the Argentine Government to undertake studies to determine priorities in the power sector. After the present Government took office in the middle of 1966, it decided in favor of El Chocon. The Bank subsequently agreed to assist in organizing and carrying out a study designed to ascertain whether El Chocon iws the most economic solution for meeting the power requirements of Greater Buenos Aires. These studies were made in the course of 1967. Discussions about possible Bank financing followed in early 1968. An appraisal mission visited Argentina in August and negotiations took place in Washington in the second half of November 1968. Hidronor was represented by the President of its Executive Committee, Ing. Raul A. Ondarts, and two of its Directors, Dr. Julio C. Gonzalez del Solar and Dr. Enrique J.L. Ruiz Guinazu; Dr. Daniel Fernandez, Financial Minister at the Argentine Embassy in Washington, represented the Government.  - 2 - 3. The following is a summary statement of the previous Bank loans to Argentina. as of October 31, 1968: Loan Amount Undisbursed Number Year Borrower Purpose (US$Mfiilion) 288 1961 The Argentine Republic Roads 31.0 2.1 308 1962 Servicios Electricos del Gran Buenos Aires S.A.(SEGBA) Power 93.3 - 505 1967 The Argentine Republic Livestock 15.3 15.2 525 1968 Servicios Electricos del Gran Buenos Aires S.A. (SEGBA) Power 55.0 h7.9 Total (less cancellations) 19h.6 of which has been repaid to Bank and others 16.8 Total now outstanding 177.8 Amount sold 4.7 of which has been repaid .9 3.8 Total now held by Bank 174.0 Total undisbursed 65.2 No IDA credits have been made to Argentina.. IFC presently holds about $4.9 million of loans to three Argentine industrial companies. 4. Construction work on the road project financed by the 1961 loan has been completed and most of the undisbursed balance is expected to be dramwn down to pay for maintenance equipment before the closing of the loan account on December 31, 1968. After a period of prepara- tion and organiza.tion, the credit program supported by the Bank's loan for livestock development was launched at the end of August 1968 and disbursements are now expected to gather momentum. 5. At the request of the Government, the Bank has recently appraised a second road project for financing. This would call for a loan of about $20 million. SEGBA has indicated that it would approa.ch the Bank at the beginning of 1969 about a third loan, in the  amount of about $40 million, to help finance further expansion of its transmission and distribution system. IFC has at present under consi- deration a $3 million standby commitment to Dalmine Siderca, a producer of seamless tubes and steel. II. DESCRIPTION OF THE PROPOSED PROJECT 6. BORRGWER: HIDRONOR S.A. Hidroelectrica Norpa- tagonica Sociedad Anonima GUARANTOR: The Argentine Republic AMOUNT: In various currencies equivalent to US$82 million. PURPOSE: To help finance El Chocon hydroelectric project. AMORTIZATION: In 25 years including a 6-year period of grace, through semi-annual installments beginning March 15, 1975 and ending March 15, 199h. INTEREST RATE: 6 1/2% per annum COMMITMENT CHARGE: 3/4 of 1% per annum III. THE PROJECT 7. A report entitled "Appraisal of the El Chocon Project, Hidro- electrica Norpatagonica S.A." (PU-la) is attached. 8. Practically all power generated at El Chocon nould be used by consumers in Greater Buenos Aires, which presently absorbs about 60 percent of total public supply of electricity in Argentina. A small quantity may be sold to consumers in Northern Patagonia. SEGBA, a large Bank borrower providing most of Buenos Aires power require- ments, would buy the power from El Chocon under a contract to be negotiated with Hidronor before the project comes into operation. Arrangements satisfactory to the Bank in respect of such purchase will be made by Hidronor and SEGBA before the proposed loan becomes effective.  - 4 - 9. Hidronor iwas established as a stock corporation in October 1967 by the Argentine Government and Agua y Energia Electrica (AyEE), the government-owned wqater and power entity. The legal basis was a law of June 1967 authorizing establishment of corporate enterprisesin which the State, the provinces or the municipalities would at all times hold at least 51 percent of the share capital but wthich would be managed following private business principles and practice. Present shareholders are Direccion Nacional de Energia. y Combustibles, a. government agency, AyEE and, with a. small participation, SEGBA. Hidronor has started with a competent and experienced management. A draft concession grants Hidronor the right to build the El Chocon-Cerros Colorados complex, provides it with resources to finance the local cost of the wiorks, and assures it of a reasonable return on the investment. Signing of the concession will be a condition of effectiveness of the proposed loan. 10. The El Chocon hydroelectric project on the Limay River in Northern Patagonia consists of a dam, a power house with three 200 WJ generating units,and tiwo 700 mile long transmission lines to Buenos Aires, Its cost is estimated at $325 million, including interest during construction. Work on the dam will start in early 1969 and the three generating units should be in commercial operation by the end of 1973. Together with the Portezuelo Grande flood control works on the Neuquen River, estimated to cost about $32 million, the project wxill make up the first stage of the El Chocon-Cerros Colorados complex. The second stage, to be executed bettween 1972 and 1978 at an estimated cost of about $187 million, w.Tould consist of the installation of three more 200 X-1 units in the El Chocon powier house, and the construction of an intake and a hydroelectric plant with three 150 14A units at Planicie Banderita on the Neuquen River. However, if the search for natural gas noTr going on in the area is successful, the Gbvernment may, a few years from now, consider substituting a thermal plant for Planicie Banderita. 11. The major part of the cost of El Chocon will be met by domestic taxation, namely, the proceeds of 5 percent surcharges on sales of electricity and refining of crude oil, which are expected to cover the local costs. 12. The proposed Bank loan would finance the estimated foreign exchange cost of the main civil works contract, about to be placed iath Impregilo of Italy after international competitive bidding; the cost of ga.tes and penstocks to be procured in international com- petition with Argentine suppliers being allowed a preferential margin  - 5 - of 15 percent; foreign exchange payments to engineering consultants; and interest during construction on the Bank loan. Assuming that the orders for gates and penstocks wrere placed domestically, local expenditures would not exceed $7 million and are justified under paragraphs 27 b and d of the paper of July 30, 1968 "Foreign Exchange Loans for Local Currency Expenditures". Argentina's development program calls for substantial gross capital inflows in the years ahead, largely because external debt service draws heavily upon domestic savings and foreign exchange resources. As indicated in the recent economic report on Argentina (vH-182a, paragraph 132), the financial requirements of the investment program cannot be met by financing only the foreign exchange costs of high priority projects. 13. Other foreign exchange expenditures on El Chocon would be met from bilateral buyer's credits arranged in Western Europe and North America by Hidronor and estimated at around $60 million. These would cover electrical and mechanical equipment for the power house and transmission equipment purchased after competitive bidding restricted to suppliers from countries which have offered buyer's credits. To date, governments and banks in nine countries, Belgium, Canada, France, Germany, Italy, Sweden, Switzerland, the United Kingdom and the United States, have made such offers quoting favorable terms, namely 20 years life, amortization beginning after January 1, 1974 and interest com- parable to the Bank's interest rate. 14. Hidronor should have no difficulty in servicing the proposed loan. Its concession provides for rates to produce revenues sufficient to cover operating expenses, including adequate maintenance and depre- ciation, and to yield an 8 percent return on the investment. 15. Power from the El Chocon-Cerros Colorados complex will be needed in Buenos Aires as soon as it becomes available in 1973. The El Chocon project has been found to be the lowest cost solution to meet Buenos Aires power requirements so long as the cost of capital is less than 7.5%. The estimate of Hidronor's consultants is that the project is the lowest cost solution with capital costing not more than 10%. The quantifiable flood control benefits of the complex are modest and the irrigation benefits small, because new storage capacity for irrigation in the Rio Negro Valley would not be needed for another 25 years. 16. Execution of the project should also result in substantial non-quantifiable benefits outside the power sector. The developmental impact of a big productive scheme in a distant underpopulated and un- exploited part of the country may prove significant psychologically. With flood danger removed once the complex has been completed, the pace of agricultural settlement and development may accelerate and the area under irrigation expand more rapidly. 1 regard El Chocon a suitable project for Bank lending.  - 6 - PART IV, LEGAL INSTRUIMENTS AND AUTHORITY 17. Drafts are being distributed to the Executive Directors separately of: (i) the Loan Agreement between the Bank and Hidronor S.A. Hidroelectrica. Norpatagonica Sociedad knonima and (ii) the Guarantee Agreement betwieen the Argentine Republic and the Bank. 18. The report of the Committee provided for in Article III, Section 4 (iii) of the Articles of Agreement of the Bank is also being distributed separately. 19. The following features of the Loan and Guarantee Agreements are of particular interest. (a) Section 5.05 of the Loan Agreement and Section 3.07 of the Guarantee Agreement provide that coordination must be achieved with all the suppliers of electricity in the Greater Buenos Aires area, including Hidronor, in order to prevent waste of energy, duplication of facilities and unnecessary investment. (b) Section 5.11 of the Loan Agreement provides that during the construction of the El Chocon-Cerros Colorados complex, Hidronor must not undertake any expansion which would jeopardize the carrying out of the complex or impair Hidronorts financial condition. (c) Section 5.14 provides, among other things, for a. two to one debt equity ratio. (d) Section 5.16 forbids pre-payment of long-term debt without the Bank's consent. (e) Section 5.17 and Section 6.02 (c) require Hidronor to make its best efforts to obtain buyer's credits for financing goods not financed under the Bank's loan, and any repayment required by reason of default under any of the buyer's credits may be held to be an event of default under the loan. (f) In Section 6.02, changes in Hidronor's Charter and Concession without the Bank's consent may be considered events of default. (g) Section 7.01 provides that the Concession must become effective and arrangements with SEGBA have to be made for the sale of Hidronor's power before the loan becomes effective.  - 7 - PART V. TIE ECONOMY 20. The report on 'Tqhe Economic Position and Prospects of Argentina" (WHII-182a), distributed to the Executive Directors on July 22, 1968, concluded that the Government had been singularly successful in carrying out the far-reaching. fiscal, monetary, incomes and foreign exchange policies aiich formed the core of its 1967 sta- bilization program. The budgetary deficit wras sharply cut, there iwas an even greater than planned increase in public savings, Treasury borrowving from the Central Bank was kept well below the ceiling fixed in the monetary program agreed with II;D, and the Government's incomes policy proved effective in freezing wages. The program adopted for 1908, w7hile continuing the main lines of the stabilization policy, reflected a distinct shift in emphasis toward growsth objectives. Assuming that the corner had been turned in the fig}ht against inflation, the Government decided that demand could be stimulated and that, vith the private sector still maintaining a "wait-and-see" attitude, this would have to be done mainly through a large increase in public invest- ment. 'Thile planned primarily in the context of the Government's desire to reactivate the economy, the increase in public investment also responds to the need to begin to make up for the long neglect of some of the country's basic economic infrastructure. 21. Developments so far this year have confirmed the realism of the Government's approach; inflation has been greatly reduced while economic activity andl employment have turned up. The cost of living index (seasonally adjusted) rose only 8 percent in the first 10 months of this year, compared writh the 25 percent increase in the like 1967 period. Preliminary official estimates indicate that consumption and investment were each up about 3 percent in the first half of this year; the Government believes that GDP will gro; by some 4 percent over 1968 as a whole. Industry shows clear signs of recovering from the recession which began in 1966 and corstruction activity has been booming; agricul- tural production is, however, down quite sharply this year, mainly as a result of a poor corn crop. The ma or departure from the Governrnent's domestic program has been a substantial shortfall in tax revenues. The authorities are fully aware of the importance of the revenue problem and are planning a major tax reform aimed at bringing in substantial addi- tional revenues in 1969, as well as irnproving the tax structure. 22. This year's export performance has been disappointing as a result of the poor corn crop and of wheat and beef marketing difficuLties. During January-September, exports winere some ti75 million low,er than in  -8- the corresponding 1967 period. Ho-vever, better harvests are in prospect for 1969, judging from early indicators, and the export tax reductions recently announced by the Government should do much to improve exporters' incentives. Despite this year's export lag, the reserve position has improved o-'iing to a continuing substantial inflow of capital. An important factor has been the Government's success in floating three $25 million bond issues in the United States and European markets. Near the end of November, the monetary authorities' net foreign exchange reserves stood at $413 milaion, up $34 million over the year. Argentina is carrying a heavy load of external debt contracted on unfavor- able terms; scheduled service payments idll absorb upwards of 30 percent of estimated current account earnings this year. However, projected service on the existing debt declines sharply over the next few years and Argentina should be able to undertake the substantial volume of ne-T borroring required for its development efforts ihile reducing its annual debt service burden. PART VI. CO1iIANCE WITH ARTICLES OF AGRJ'ICAT 23. I am satisfied that the proposed loan would cornply twith the Articles of Agreement of the Bank. PLAT VII. RflCOfNEIfATION 24. I recommend that the Executive Directors adopt the follow-ring resolution: rESOLUTION NO. Approval of Loon to Hidronor S.A. Hidroelectrica ilorpatagonica Sociedad Anonima in an anount equivalent to U.S.$82,000,000 to be guaranteed by the Argentine Republic. RESOLVED: THAT the Bank shall grant a loan to Hidronor S.A. Hidroelec- trica Norpatagonica Sociedad Anonima to be guaranteed by the Argentine Republic, in an amount in various currencies equivalent to eighty-two  - 9 - million United States dollars (U.S.$82,000,000), to mature on and prior to Hbrch 15, 1994, to bear interest at the rate of six and one-half percent (6 1/2%) per annum, and to be upon such other terms and conditions as shall be substantially in accordance with the terms and conditions set forth in the form of Loan Agreement (El Chocon Power Project) between the Bank and Hidronor S.A. Hidroelectrica Norpatagonica Sociedad Anrnima, and the form of Guarantee Agreement (El Chocon Power Project) betimen the Argentine Republic and the Bank,which have been presented to this meeting." Robert S. McNamara President Attachments. Washington, D.C. December 5, 1968