Mozambique - Energy Reform and Access Project

Documentof The World Bank FOROFFICIAL USEONLY Report No: 26296-MOZ PROJECTAPPRAISAL DOCUMENT ON A PROPOSEDCREDIT FROMTHE INTERNATIONALDEVELOPMENT ASSOCIATION INTHEAMOUNT OFSDR29.7 MILLION (US$40.26MILLIONEQUJYALENT) AND PROPOSEDGRANT FROMTHE GLOBALENVIRONMENT FACILITY TRUST FUND IN THE AMOUNT OF US$3.09MILLION TO THE REPUBLICOF MOZAMBIQUE FOR AN ENERGYREFORMAND ACCESS PROJECT INSUPPORTOFTHEFIRSTPHASEOFTHE ENERGYREFORMAND ACCESS PROGRAM July 14,2003 EnergyTeam Infrastructure Group Africa RegionalOffice This document has a restricteddistributionandmaybe usedby recipients only inthe performanceof their official duties. Its contents may not otherwise be disclosedwithout World Bank authorization.  CURRENCY EQUIVALENTS (Exchange Rate Effective July 7,2003) Currency Unit = Meticais SDR 1.0 = US$1.40607 (July 7,2003) US$l.O = 23,190 Meticais FISCAL YEAR January 1 -- December 31 ABBREVIATIONS AND ACRONYMS A C Alternating Current AfDF African Development Fund AFD Agence Francaise de Developpement AFRREI Africa Rural and Renewable Energy Initiative APL Adaptable Program Loan CAS Country Assistance Strategy CDF Comprehensive Development Framework CFAA Country Financial Accountability Assessment CNELEC Conselho Nacional de Electricidade (National Electricity Council) CPAR Country Procurement Assessment Review CPI Centro de Promoqiio e Investimentos (Center for Promotion of Investments) CQ Consultant Qualification DANIDA Danish Development Agency D C Direct Current DIPREME Direqiio Provincial e Recursos Minerais e Energia D N C H Direqiio Nacional de Carviio E Hidrocarbonetos (National Directorate for Coal and Hydrocarbons) DNE Direqgo Nacional de Energia DPP Detailed Procurement Plan EdM Electricidade de Moqambique EMP Environmental Management Plan EWEIRR Economic Rate o f ReturdEconomic Internal Rate o f Return ESIA Environmental and Social Impact Assessment ESPS Energy Strategy Program Support FM Financial Management FMR Financial Management Report FMS Financial Management System FRR Financial Rate o f Return FUNAE Fundo Nacional da Energia (Energy Fund) GACOPI Office for Investment Project Coordination GEF Global Environmental Facility GHG Greenhouse Gases G o M Government o f Mozambique GPN General Procurement Notice IA Implementing Agency IAS International Accounting Standards  FOROFFICIAL USEONLY IBIT Income Before Interest and Tax ICB International Competitive Bidding ICT Information and Communication Technologies INDER Instituto de Desenvolvimento Rural (Institute for Rural Development) IT InformationTechnology LIL Learning and Innovation Loan LPG Liquefied Petroleum Gas LRMC Long RunMarginal Cost MDGs MilleniumDevelopment Goals MECS Modern Energy Challenge Scheme MICOA Ministerio para a CoordenaqBo da AcFao Ambiental (Ministryfor Coordination of Environmental Affairs) MINED Ministerio da EducaCZo(Ministry of Education) MIREME MinistryofMineral ResourcesandEnergy MISAU Ministerio da Saude (Ministry of Health) MOTRACO Mozambique Transmission Company MPF Ministry of Planning and Finance NCB National Competitive Bidding NDF Nordic Development Fund NGO Non-Governmental Organization NORAD Norwegian Agency for Development NPV Net Present Value NREL National Renewable Energy Laboratories OBA Output-Based Aid PA Project Accounts PCU Project CoordinationUnit PETROMOC EmpresaNacional de Petroleos de MoCambique (National Petroleum Company of Mozambique) PHRD Policy and Human Resources Development PIP Project Implementation Plan PIU Project Implementation Unit PODE Project0 para o Desenvolvimento Empresarial PPIAF Private Participationin Infrastructure Advisory Facility PPR Post Procurement Review PRSP Poverty Reduction Strategy Paper PSP Private Sector Participation PSPE Private Sector ParticipationinEnergy PV Photovoltaic QCBS Quality and Cost Based Selection RE Renewable Energy RPTES Regional Program for the Traditional Energy Sector SA Special Accounts SADC Southern Africa Development Community SCADA Supervisory Control and Data Acquisition SHS Solar Home Systems SIDA Swedish Development Agency SME Small and MediumEnterprise SOE Statement o f Expenditure UEM Eduardo Mondlane University [Thisdocument has a restricted distribution and may beused by recipients only in lthe performance of their official duties. I t s contents may not be otherwise disclosed lwithout World Bank authorization.  UHEP Urban HouseholdEnergy Project UNDB UnitedNations Development Business USAID United States Agency for International Development UTIP Unidade TCcnica de Implementaciio dos Projectos HidroelCctricos (Technical Unit for Implementationo f Hydroelectric Projects) VAT Value Added Tax WHO World Health Organization WP Watt-peak ZIP Zona de InfluenciaPedagogica (Pedagogic Zone o f Influence) Vice President: Callisto Madavo Country Director: Darius Mans Sector Director: Praful C. Pate1 Team Leader: Reynold Duncan Program Assistant: Lily Wong  MOZAMBIQUE ENERGY REFORMAND ACCESS PROJECT CONTENTS A. ProgramPurpose and Project Development Objective Page 1. Programpurpose and programphasing 2. Project development objective 3. Global objective 4. Key performance indicators B. Strategic Context 1. Sector-related Country Assistance Strategy (CAS) goal supported by the project 4 2. Main sector issues and Government strategy 5 3. Sector issues to be addressed by the project and strategic choices 8 4. Program description and performance triggers for subsequent loans 10 C. Program and Project Description Summary 1. Project components 15 2. Key policy and institutional reforms supported by the project 16 3. Benefits and target population 16 4. Institutional and implementationarrangements 17 D.Project Rationale 1. Project alternatives considered and reasons for rejection 20 2. Major related projects financed by the Bank andor other development agencies 21 3. Lessons learned and reflectedinthe project design 21 4. Indications o f borrower and recipient commitment and ownership 23 5. Value added o f Bank and Global support inthis project 23 E. Summary Project Analysis 1. Economic 23 2. Financial 28 3. Technical 36 4. Institutional 37 5. Environmental 39 6. Social 40 7. Safeguard Policies 42  F. Sustainability and Risks 1. Sustainability 42 2. Critical risks 43 3. Possible controversial aspects 45 G. Main Conditions 1. Effectiveness Condition 45 2. Other 45 H. Readiness for Implementation 47 I.CompliancewithBankPolicies 47 Annexes Annex 1: Project Design Summary 48 Annex 2: Detailed Project Description 53 Annex 3: Estimated Project Costs 62 Annex 4: Cost Benefit Analysis Summary, or Cost-Effectiveness Analysis Summary 63 Annex 5: Financial Summary for Revenue-Earning Project Entities, or Financial Summary 78 Annex 6: (A) Procurement Arrangements 85 (B)Financial Management and DisbursementArrangements 97 Annex 7: Project Processing Schedule 106 Annex 8: Documents inthe ProjectFile 107 Annex 9: Statement o f Loans and Credits 108 Annex 10: Country at a Glance 110 Annex 11: Letter o f DevelopmentProgram 112 Annex 12: Subsidy Transfer Mechanism 122 Annex 13: GEF Incremental Cost Annex 128 MAP(S) IBRD 32473  MOZAMBIQUE Energy Reformand Access Project Project Appraisal Document Africa RegionalOffice AFTEG Date: July 14,2003 Team Leader: ReynoldDuncan Sector Director: PrafulC. Patel Sector(s): Power (76%), Central government Country Managermirector: DariusMans administration(13%), Renewable energy (7%), Health Project ID: PO69183 (3%), Generaleducationsector (1%) Lending Instrument: Adaptable ProgramLoan (APL) Theme(s): RuralServicesand infrastructure(PI, Infrastructureservices for privatesector development (P), Access to urbanservices for the poor (P), Regulationand competitionpolicy (S), Climatechange (S) Global Supplemental ID:PO71942 Team Leader: ReynoldDuncan Estimated APL Indicative Financing Plan Implementation Period Borrower (Bank FY) IDA Others Total Commitment Closing US$ m % US$ m US$ m Date Date APLLoanl 1 40.26 49.4 41.26 81.52 10/15/2003 12/31/2007 Government o f Mozambique Credit APL 2 40.00 47.1 45.00 85.00 01/01/2007 12/31/2011 Government o f Mozambique Loanl Credit Total 80.26 86.26 166.52 Years to maturity: 40 BORROWER 8.48 1 0.00 I 8.48 IDA 5.01 35.25 40.26 AFRICAN DEVELOPMENT FUND 2.59 12.60 15.19 GLOBAL ENVIRONMENTFACILITY 0.49 2.60 3.09 NORDICDEVELOPMENTFUND 0.70 6.40 7.10 FOREIGNPRIVATE COMMERCIAL SOURCES 1.74 5.66 7.40 (UNIDENTIFIED) Total: 19.01 62.51 81.52  BorrowerlRecipient: GOVERNMENT OF MOZAMBIQUE Responsible agency: National Directorate of Energy (DNE) Address: 25 de Septembro Av. 1218 - 3rd Floor P. 0.Box 1381 Maputo Contact Person: Mr.Pascoal Bacela, National Director Tel: 258-1-323016,258-1-307126 Fax: 258-1-420-245,258-1-303063 Email: pbacela@Tropical.Co.Mz, dne@tropical.co.mz Other Agency(ies): Electricidade de Mozambique (EdM) Address: 70 Agostinho Net0 Av P. 0.Box 2447 Maputo Contact Person: Mr.Vicente Veloso, CEO Tel: 258-1-490636 Fax: 258-1-491048 Email: weloso@teledata.mz Fundo Nacional da Energia (FUNAE), Ministries of Health (MISAU) and Education (MINED) Estimated Disbursements ( Bank FY/US$m): Project implementation period: 2003 2007 - Expected effectiveness date: 10/15/2003 Expected closing date: 12/31/2007 - 2 -  A. Program Purpose and Project Development Objective 1. Program purpose and program phasing: The program will increase access to modern energy inperi-urban and rural areas, thereby facilitating improved quality o f life o f the respective communities and generating income. It will comprise: (i) reforms necessary for improved performance o f the energy sector (inparticular electricity) and accelerated access to electricity, inrural and peri-urban communities; and (ii) investments inelectricity supply infrastructure (including renewables). The program will support the effort towards achievement o f at least four o fthe Millennium Development Goals (MDGs). Provision o f electricity inat least 150 rural health facilities will help improve rural health services (such as enable night time delivery and better vaccination storage) and thus support the effort inreducing child mortality and improving maternal health. Provision o f electricity in at least 150 rural schools will enable evening classes to take place and improve the living condition o f teachers, thus reducing their turnover. It will therefore support the effort inachieving universal primary education. The use o f renewable energy sources for production o f electricity will help ensure environmental sustainability, by displacing about 440,000 tons o f carbon dioxide over the life o f the program. Phasing. The program will comprise two phases over a maximumperiod o f 8 years; each for 4 years. Should the triggers for the first phase be achieved before the first four-year period, the second phase will commence earlier. The first phase will create a conducive environment for commercially viable acceleration o f access to modern energy to rural and peri-urban communities and businesses. It will finance some investments and actions necessary to restructure the grid- and non-grid- based sectors for maximum sustainable involvement o f and investment by the private sector. The second phase will comprise scale-up o f the investment activities commenced inthe first and transmission rehabilitation and expansion, based on the outcome o f the ongoing African Development Fund (AfDF)-funded Transmission Masterplan study. The second phase will be triggered ifthe reforms planned inthe first phase, including the measures required to improve the power sector's performance, are adequately implemented. 2. Project development objective: (see Annex 1) The development objectives are to: (a) accelerate, ina commercially viable manner, the use of electricity for economic growth and social services and thus improve the quality o f life inun-served and under-servedareas (peri-urban and rural); and (b) strengthen Mozambican capacity to increase accessto modern energy. It seeks to achieve these objectives via supporting the implementation o f the Government o f Mozambique (GoM) National Energy Strategy o f October 2000 that, inter alia, aims at reforming the country's energy sector and implementing an enabling environment for private sector participation inthe sector. 3. Global objective: (see Annex 1) The proposed project's global objective [for the Global Environmental Fund(GEF) part] is to initiate the process o f eliminating the barriers that impede the development and use o f renewable energy, in particular solar photovoltaic (PV) systems, and develop micro-hydro and other renewables' capacity. The global objective will contribute to the reduction o f Greenhouse Gases (GHG) as some o f the use o f diesel for power generation, and kerosene and candles for household lighting, will be displaced by renewable energy. - 3 -  4. K e y performance indicators: (see Annex 1) Key performance indicators for the programare as follows: (i) Increaseddirectaccesstoelectricityinperi-urbanandruralareas,byprovidingreliable, affordable and sustainable electricity supply to an additional 1 millionpeople (400,000 inthe first phase, 1 million over the program) inrural and peri-urban areas o f the country. This will increase direct access by about 20% inthe first phase, inwhich most o f the connections (about 80%) will be from the main grid. (ii) Private sector involvement in thepower sector, measured by: (i) participation o f the private sector inElectricidade de Mozambique's (EdM's) distribution and supply business by the end o f the first phase o f the program; and (ii) establishment o f at least 3 isolated grid power supply businesses by the the private sector. (iii) Improvedperformance of thepowersector,measuredbytheoperationalandfinancial performance o f EdM, inthat it will be able to generate a surplus and raise private capital for access expansion, increase its customer base (see (i) above), and reduce the average cost o f connection to at least US$950per customer. For the global objective: (i) Increase inthe numberso f viable solar P V distributors, other renewable energy businesses, such as micro-hydro, and institutional users o f solar systems (300 in the first phase; 1,075 over the program) and individual users o f solar systems (2,500 inthe first phase; 8,500 over the program). (ii) Establishment o f at least one isolated grid system based on a renewable energy source. B. Strategic Context 1. Sector-related Country Assistance Strategy (CAS) goal supported by the project: (see Annex 1) Document number: 20521-MOZ Date of latest CAS discussion: June 1, 2000 The key approach adopted inthe proposed program, to work with other donors to buildpublic and private sector capacity to promote development o f commercially-oriented expansion o f access to modern energy, i s consistent with the June 2000 CAS 2001-2004 strategic priorities. The priorities comprise: (i) maintaining an enabling private sector environment; (ii) developing infrastructure; and (iii) promoting rural development and agriculture (under CAS pillar "Increasing Economic Opportunities through Private Sector-led Growth"). The approach also conforms to the specific sectoral target o f the Government's Poverty Reduction Strategy Paper: (a) to ensure that all district capitals and administrative posts are suppliedwith electricity; and (b) to expand the national grid to connect rural areas. Insupplying electricity to rural service providers such as inhealth and education, the program supports efforts towards achievement o f three MDGs: reduce child mortality, improve maternal health, and achieve universal primary education. Furthermore, the use o f renewable energy by rural service providers and rural communities will help ensure environmental sustainability by reducing the amount o f carbon dioxide resulting from current non-renewable energy sources. The program approach enables the Government to adopt the most appropriate delivery systems for the country through the process o f "learning by doing" (inthe first phase). - 4 -  GEF Operational Program supported by the project: (see Annex 1) The proposed project is fully consistent with the GEF Operational Program 6: Promotingrenewable energy by removing barriers and reducing implementation costs. GEF support would help to: (i) remove information and awareness barriers within Mozambique about solar P V systems; (ii) up a build commercial market and reduce the costs o f renewable energy; and (iii) prepare a strategy for long-term development o f renewable energy. l a . Global Operational strategy/Program objective addressed by the project: Underutilised renewable energypotential To date little renewable energy exploitation has been done inMozambique, yet both photovoltaic, mini- and micro-hydro systems have promising prospects for providing stand-alone power solutions inareas not covered by the main grid. A number o f factors have prevented the widespread use o f renewable energy resources, namely: (i) high capital cost o f photovoltaic systems (on average, the costs in Mozambique are 30-35% higher than the world market average); (ii) o f capacity inGovernment and lack the private sector to develop and implement mini-and micro-hydro schemes; (iii) absence o f support mechanisms (financing & business development support) to develop the market o f solar P V and attract investments insmall isolated hydro schemes; and (iv) general lack o f awareness about solar PV, its applications and the potential market. Strategy: The Government recognizes the potential economic and environmental promise o f renewables-based electricity technologies: (i) to serve small, disperse loads, for which it is not cost-effective to supply from the national grid or from isolated grids: and (ii) to augment the independent grid-connected generation capacity on a least cost basis. The Government has accordingly requested help to expand the renewable electricity sub-sector. It plans to remove the barriers to widespread use o f REtechnologies by implementing a few private sector-led projects, and assisting service providers, comprising Health and Education inthe first phase, to better meet their energy needs. The project will address awareness, development o f quality standards and creation o f a conducive environment for private sector entry, including the provision o f output-based subsidies and standardized small power purchase agreements. The renewable energy providers will include solar P V retailers, mini-grid concessionaires and project developers. The Government also plans to builduponprevious isolated project experience with institutional solar P V systems, especially to address the lack o f appropriate operation and maintenance arrangements. 2. M a i n sector issues and Government strategy: The four primary issues facing the Mozambique energy sector are: (a) low access to modern energy, in particular electricity, and the poor reliability and efficiency o f its supply; (b) the adverse environmental, livelihood, and health impacts o f traditional biofuels production and use; (c) inadequate promotion and management o f low cost export-oriented energy projects; and (d) inadequate staff and developing institutions, such as the National Electricity Council (CNELEC) and the Energy Fund(FUNAE). In recent years the Government, with the help o f the Bank and other donors, has taken some significant steps toward adopting a legislative and policy framework to reformthe sector to meet these challenges. For instance, the 1997 Electricity Law allows for private participation inbusiness units created by unbundlingEdMand for awarding concessions to the private sector to develop off-grid supplies. However, little implementationhas occurred. All o f these issues and Government's strategy for addressing each one, are discussed below. - 5 -  2a. Low access to modern energy andpoor reliability and efficiency of supply Only about 6% o f Mozambican households (about 220,000 or a population o f about 2 million) have access to electricity, and over half o f these are inthe capital, Maputo, and its surrounding areas. Outside these main urban areas, electricity access i s minimal, and there has beenpractically no increase in the last 25 years. Of the 120 or so "district capitals", over 50 are without any form o f public electricity supply, or have sporadic supplies from small diesel-fueled generating sets (gensets) to a handful o f customers via old and poorly maintained small grids. All the provincial capitals besides Maputo, and most o f the other 20 or so municipalities, are served by the national grid or isolated diesel-based grids. Eveninthese areas, supply reliability i s low, the household electricity access rate i s only 15-20%, and the implicit cross-subsidies (from the Maputo area to the rest o f the country) are heavy. The planned pace o f access expansion along the main grid is woefully slow. For instance, only 31,000 new customers were added between 1996 and 2000, and less than 50,000 are targeted for the next four years, compared to more than 100,000 new households that will be formed over the same period. The difficulty o f EdM,the national utility, to raise the funds requiredto connect more customers and the high cost o f electrification, are the main reasons for the slow growth. Although the performance o f EdMhas shown some improvement since internal management contracting began in 1997 -- energy losses have been reduced to around 21% from over 30% in 1998, sales per employee have increased from 4.75 MWhin 1998 to 5 MWhand the rate o f returnhas become positive -- its current performance cannot be said to be satisfactory. For instance, the ratio o f payroll to operating expenses has increased from 18% to 24%, the level o f receivables has deteriorated from 123 days to 147 days and its contribution to investment has reduced from over 50% to negative. Although the problems can be partly attributed to calamities such as the floods o f 1999/2000, much under the control o f EdM and the Government could be done to improve the utility's performance, including better recurrent expenditure control, better capital expenditure planning, and more timely approval o f tariff adjustments. Strategy: To expand electricity access and improve the quality o f supply, the Government plans to supplementthe traditional approach o f maingrid expansionwith a package o ftechnical and institutional changes that lower the costs o f service, enhance affordability, employ performance-oriented subsidies, and bring incompetitive participation by the private sector, through public-private partnerships. The Electricity Law o f 1997 opened the power sector inMozambique for participation o fnew entrants, through concession contracts. Implementing regulations to permit private sector participation inall stages o f the electricity business were passed inApril, 2000. Since then, the GoM: (i) has passed a decree establishing a power sector advisory body, CNELEC, with the aim o f transforming it into a regulatory body within 5 years; (ii) i s inthe process o f separating generation, transmission and distributionlsupply functions o f EdMin order to runthem as separate business lines; and (iii) has established an "energy fund" (FUNAE) to collect specific levies, and to channel subsidies to specific projects to expand access to modern energy or for demonstration projects. Subsequent to the separation o f EdM`s functions and the creation o f business centers, the Government plans to commercialize the utility and invite strategic private investment and management inDistribution. It should be notedthat EdM-owned and operated Generation is insignificant as most o f the power is either imported from South Africa or purchased from the Cahora Bassa plant, and that future generation capacity will be implementedby the private sector. Furthermore, the Government intends to develop future transmission assetsjointly with the private sector but to retain management o f the transmission assets. The transmission company will also be the single buyer. - 6 -  Government is also inthe process o f concessioning out the North Inhambane mini-gridswhich were constructed under the IDA-funded Urban HouseholdEnergy Project (UHEP). This model, o f decentralized energy supply through an off-grid system, could be replicated inother parts o f the country which cannot be economically connected to the nationalpower grid. 2b. Adverse environmental, livelihood, and health impacts of traditional biofuels production and use Most o f Mozambique's primary energy consumption is met by traditional biofuels (wood, charcoal, and agro/animal wastes) that are produced and used inefficiently. Work done under the Urban Household Energy Project (UHEP), including the Energy Sector note, has shown that heavy urban reliance on woodfuels, while a significant source o f income and employment to the supplyingcommunities inrural areas, imposes significant environmental costs. On the supply side, the growing demand for charcoal and fuelwood inthe principal cities (Maputo, Beira, Nampula and Quelimane), combined with inefficient charcoal production practices, has led to a significant depletion o f the forest stocks around those cities and in some cases as far away as 200 kms. As such stocks are depleted, supplyingcommunities lose a significant source o f their cash incomes and risk a loss o f land productivity. Onthe end-useside, traditional combustion technologies and practices cause significant indoor air pollution, with adverse health consequences, particularly for women and children. The transition to modem cooking fuels is hampered, even inurban areas, by limited access to such fuels or highinitial costs. Most o f the kerosene the poor purchase is used for lightingpurposes due to lack o f access to electricity. Strategy: To mitigate these adverse impacts, the Government plans to: (a) reform the legal and regulatory framework for land use, wood extraction and charcoal production, including allowing for land ownership by the communities; (b) strengthen the resource management capabilities o f rural communities and create substitute means o f income generation, other than woodfuels exploitation, for them (based on a pilot implementedunder the UHEP, which includedbrick-making, charcoal production, oil extraction, pottery and nurseries for medicine extraction); (c) expand access to modern cooking fuels (LPG and gelfuel); and (d) employ more efficient andor cleaner technologies o f woodfuels use, such as the more efficient w o o d charcoal stoves. 2c. Inadequate promotion and management of export-oriented energyprojects Mozambique is rich inmodern energy resources such as hydropower, natural gas, and coal, and can exploit them for exports and for domestic use. Currently, the largest part o f the power sector in Mozambique i s the "export-oriented'' market, centered around Cahora Bassa hydro power plant. In addition, GoM has recently reached agreements with foreign companies for the development o f Pande and Temane gas fields, and building a gas pipeline for exports to South Africa, for which an IDA Partial Risk Guarantee is planned. ERAP will also fund technical assistance related to this project. A number of other export-oriented, private sector-led energy projects, based on hydroelectricity, coal for energy, and other minerals such as titanium, are at various stages o f planning or implementation. Prudent management o f these energy and industrial projects via careful contracting and fiscal policies can yield significant revenues for macroeconomic stability and developmental expenditures, and provide an impetus for other foreign direct investments. Conversely, inappropriate management can expose the country to significant adverse risks, such as contract disputes, delays infinancial closures and project investments and potential adverse environmental and social impacts o f project development. - 7 -  Strategy: The Government realizes that building internal capacity to effectively negotiate the concessions and contracts will be a long-term process and its strategy i s to seek external assistance while such capacity i s being built. The ongoing Gas Engineering project i s providing support inthis respect and inconnection with the Mozambique-South Africa gas pipeline project. 2d. Inadequate institutional and human resource capacity While in some respects Mozambique has gone far inlegislative changes to liberalize the energy sector, the pace o f implementation, and o f showing concrete results on the ground, has beenslow because o f limited institutional and human resource capacity. For instance, CNELEC was provided for inthe Electricity Law o f 1997, yet its board members were only appointed inNovember 2001 and to-date they have not begun to operate because o f the lack o f various resources. Due to a shortage o f sufficient trained personnel inDNE,the institution has had to rely heavily on advisors provided by bilateral donors, and the transfer o f knowledge has not been effective due to a shortage o f graduate staff to understudy the advisors. Strategy: The Government realizes that the development o f local staff i s a long-term process and that the energy sector will continue to rely on external assistance for a long time to come. Inline with recommendations o f the Institutional Diagnostic Study, G o M plans to develop and utilize more efficiently the limitedcapacity inthe public sector and wherever possible, the local private sector. G o M plans to take advantage o f this and other projects to selectively provide hands-on and classroom training for existingand new staff. Furthermore, G o M plans to be more careful in its selection o f donor-funded technical assistance and investments (as i s evident on this project and the DANIDA-fundedEnergy Sector Program Support project where coordination will be done jointly), as well as provide better coordination o f its donor aid program. 3. Sector issues to be addressed by the project and strategic choices: The main issues facing the energy sector have been discussed in Section 2 above; this section addresses the issues to be addressed by the project. The project concept outlined here reflects several strategic choices to address these issues. The alternatives considered and the reasons for rejecting some o f them are given inSection D1. Thefirst strategic choice is to apply a hybrid approach inrestructuring EdM. It emphasizes three parallel activities: assistance inimplementing a new corporate structure to modernize EdMmanagement systems and financial controls; selected investments that would make new connections and demonstrate low-cost approaches inparts o f EdM`s distribution network; and introduction o f a private sector operator for the EdMdistribution system. This hybridapproach will achieve at least some private investment inthe integrated distribution network, allowing broader impact on the distribution network as a whole and, critically, moving at a pace that is seen as realistic by the authorities. The three activities would be completed within the first phase o f the proposed program. The second strategic choice is to develop a private sector-led, commercially-oriented and institutionally viable program to expand electricity access specifically targeted at underserved areas, which i s a break from the "business-as-usual" approach relying exclusively on high-cost transmission line extensions by the national utility, and heavy implicit cross-subsidies. Nevertheless, keeping inmindthat EdMwill continue to play a major role inthe sector untilthere is significant and credible private sector involvement (which the program will assist inachieving), the strategic choice does not preclude the involvement o f EdMprovided it can effectively contribute to the objectives o f the program (see third strategic choice). Furthermore, with liberalization o f the power sector, the need for an independent  regulator will increase, and the decision to take a stepwise approach in establishing the regulator has been made. The first step i s to operationalize CNELEC so that it effectively plays the mediatory role envisaged inthe 1997 Law. The second step is to develop CNELEC into an independent regulatory body. This approach will enable capacity to be built over time, through learning-by-doing inthe first phase o f the program, to meet the more demanding requirements o f a regulator by the second phase. Both steps would be completed inthe first phase o f the proposed program. The third strategic choice is to begin to forge selective links with non-energy sectors, commencing with those where the needs are the greatest and where there is readiness to commence. Inthe first phase, therefore, links will be developed with Health and Education, and extended to Water inthe second phase. This forging o f cross-sectoral links is consistent with the Country Assistance Strategy (CAS) and the Poverty Reduction Strategy Paper (PRSP). A major implication o f this choice is that inthis project, the Bank would function as a "knowledge bank" as well as the "lending bank". This approach also reflects thejudgment that electricity alone is insufficient to catalyze economic growth and improvements inthe quality o f livelihoods, but that together with other infrastructure investments (physical or social), synergistic benefits can be expanded and electricity service can be made commercially viable by exploiting opportunities o f further load growth. The project will thus work with these other sectors to assist them inimproving their service delivery through improved access to electricity and more effective use o f the resource. Thefourth strategic choice is to use competitive output-based subsidy award mechanisms, and the outputs will be the number o f customers connected, which will be agreed upon at the award o f the concession andor qualified installation of individual solar P V household systems. The results o f the financial analyses o f the isolated grid schemes already prepared show that fully commercial rural electrification i s not feasible but that the issue o f affordability can be tackled by subsidizing only the capital cost. The results also show that most o f the schemes will require capital subsidies exceeding 50%. The adoption o f competitive output-based subsidy mechanisms will ensure the transparency o f subsidy award and disbursal, more deeply involve the private sector inproject selection and design, achieve efficiency, enable economies o f scale to be realized and facilitate regulatory processes. The Government's role will be, inthe first instance, enabling the market insubsidy support, and secondly, regulating, monitoring, and enforcing the resulting contracts. The structure o f the competitions envisioned i s designedto lower entry costs and maximize transparency and competition for the subsidy so as to minimize the public contribution per customer connection. It is also designed so that G o M institutions, principally DNE, FUNAE, and CNELEC, can realistically buildup the capacity to reform their roles effectively. The Government has decided to operate a subsidy transfer mechanism recommended by the Private Sector Participation inEnergy (PSPE) study -- the Modern Energy Challenge Scheme (MECS), presented indetail inAnnex 12. Under the scheme, FUNAE will be responsible for maintaining a database o frural electrification opportunities and for operating the MECS, comprising structured and open competition. DNE,including its regional offices, private companies, andNGOswill identify potential schemes. The$$h strategic choice is to accelerate the use o f renewables-based electricity technologies inthe Mozambican market and initiate the process o f eliminating market barriers to these technologies, with a focus on solar PV, mini-and micro-hydro schemes. This reflects the judgment that decentralized, renewables-based electricity technologies are an economically and environmentally superior choice for certain end-users, but that their market development i s constrained by low levels o f awareness, significantly higher prices compared to other countries inAfrica or other parts o f the world, and the use o f inefficient supply chains. The strategy includes the award o f output-based subsidies as for isolated grids, as well as a pre-determined level o f GEF subsidies for incremental costs. - 9 -  4. Program description and performancetriggers for subsequentloans: PHASE 1 The main objectives o f the first phase are to buildboth Government and local private sector capacity for commercially viable expansion o f access to modem energy, and to commence implementation on a small scale, by building on the regulatory and institutional developments that have already taken place. The first phase will also support preparation o f the second phase. The project will finance technical assistance as well as investments, and support GoM's strategy to increase access to electricity to 20% by 2015. Investments, to be implementedby both public and private sectors, will be directed at expanding electricity access via the main grid, independent grids, and individual and institutional solar PV systems. Technical assistance will consist o f various discrete elements that will collectively aim to: (i) strengthen the Government's capacity to effectively manage the access expansion program; (ii) assist the Government incommercializing and inviting private sector participation inthe currently wholly Government-owned power utility; and (iii) buildthe domestic private sector's capacity to scale-up electricity access. A. Power Sector reforms This component will involve transaction advice on EdMDistribution public-private partnership and assistance inthe creation o f a separate transmission public-owned company. Subsequent to a consultancy report o f EdMrestructuring and private participation, an internal task force appointed by the Government and consisting o f several stakeholders has recommended private sector participation inEdM'spower distribution and supply business as the most appropriate strategy for the country. This is inview of: (i) legislation, which does not allow for private sector involvement current inthe currently vertically-integrated utility butinits subsidiary businesses; (ii) fact that Generation the and Transmission already involve independentownership/management; and (iii) since the main issues responsible for poor performance o f the sector (high costs o f supply, low penetration, highlosses, poor collection) are inDistribution. The consultant will advise the Government on implementation o f the agreed option. The Government has already commenced with the separation o f transmission from other engineering functions. The project will support the Government inthis effort and ensure proper (legal and operational) establishment o f a fully functional public-owned entity, with possibly an interimrole as single buyer, and support institutional strengthening o f the new entity. B. Grid Electrification This component will consist o fmain grid and independentgrid investments. Main grid investmentswill demonstrate that main-grid based access can be made more commercially attractive inareas close to the national grid via use o f appropriate low-cost standards, construction and management procedures. This should prove to be highly beneficial inMozambique where the cost per connection (about US$2,000) i s the most expensive inthe region and the population density is about the least. The component will be implementedprimarily by EdMand will include Distribution investments on a supply and install basis, inperi-urban areas, comprising about: 500 kmo f mediumvoltage lines, 1100 kmo f low voltage lines and 240 distribution substation, to connect approximately 40,000 new -10-  consumers at about 265 sites (see Annex 2). It will aim to: 0 Introduce, (with the goal o f main-streaming), proven lower-cost distribution network designs standards (such as the selective use o f 3-phase and single phase, longer span lengths and smaller conductor sizes), and constructiodmanagement procedures (such as turnkey contracting and outsourcing revenue collection), in order to substantially reduce the cost per new customer connection and per unit load (kW) served. 0 Employ more effective connection financing and power marketing strategies including supplier financing o f household meters and connection fees, and increased proactivity on the part o f EdM to better identify pockets o f affordability and thus increase its customer base inperi-urban areas. G o M and EdMrequestedtechnical assistance during the course o f project preparation, for cost reduction inaccessexpansion, especially inconnection with procurement, design standards and construction practices. The study has identified a cost reduction potential o f at least 20% invarious parts o f main grid distribution extension, and EdMhas expressed interest in implementing the recommendations o f the study insupplying peri-urban consumers. Output indicators for this component will be: (a) percentage reduction incost per household connection and per kW served; and (b) percentage increase inhousehold access to electricity. Independent gridinvestments,will demonstrate that it is possible to interest private businesses (investors and commercial financial institutions) to accept the commercial risks o f independent grid electrification investments, while the Government provides the appropriate enabling environment. In such an environment: (i) concessions will be awarded to private sponsors for greenfield sites; (ii) EdM will sell inbulk to independent distributors; (iii) Government will provide transparent capital the subsidies (on a competitive OBA basis) for otherwise commercially unviable schemes; and (iv) there will be a mediation and regulatory entity (CNELEC) acceptable to the private sector. The Government will ensure that the schemes to benefitfrom the subsidies can be self-sustaining after the subsidies have been provided and that inthe event that additional subsidies shall be required, they shall be purely for expansion. Based on the schemes that have beenprepared, a subsidy level o f at least 50% is expected over the first phase o f the program and the total average annual subsidy amount is estimated at USs2.5 million. The first set o f sites earmarked for concessioning out inthe first phase o fthe program includes: North Inhambane and Mocimboa da Praia (see Annex 2 for details). These were selected due to their being district capitals with comparatively higher economic activities and population levels than other candidate sites, and therefore requiringless subsidies. Furthermore, the four allow the two delivery methods -- bulk supply from the grid and isolatedgrids -- to be tested. Pre-qualificationis inprogress for North Inhambane, and its financial and economic evaluation are provided in Section E. Output indicators for this sub-component will be: (a) percentage reduction incost per household connection or per kW served (compared to the national level o f about US$2,000); (b) percentage increase inhousehold access; and (c) number o fprivate ruraldistribution concessions. ProductiveUses of Electricity. This study will identify productive uses o f electricity for income generation, with particular attention to women and the young unemployed inthe rural areas. This is aimed at direct poverty alleviation inthe rural areas which will inturnhelp improve the viability o f the electrification program. -11 -  Transaction advice for independent grids. To operate the MECS detailed inAnnex 12, a consultant will be retained to assist FUNAEprepare new sites to be taken to the market for bidding, inconsultation with DNE and its regional representatives (DIPREMEs), invetting unsolicited proposals, and in negotiating the transactions, up to financial close. C. Renewable Energy Promotion and Cross-sectoral Linkages The component contributes to the overall objectives o f the Project inproviding electricity generated by renewable energy systems for rural transformation through improved services inthe health, education and water sectors; improved productive uses and income generating activities; and further private sector and entrepreneurial development. The means to this objective is to create, in four to eight years, a sustainable market for renewable energy systems. The incremental costs o f the renewable energy systems will be fundedout o f a GEF grant and disbursed on a performance basis. This component will be implementedby the private sector, communities, and line ministries. The strategies for action comprise: Workingwith line ministries to provide electricity to Government service centers like schools, clinics, and agricultural centers - mainly through solar P V systems. Inthe first phase the project will focus on the Ministryo f Education(MINED)and Ministry o f Health(MISAU), which are ready to forge energy links. The systems will be procured on a batch basis by the line ministries (through DNE) following minimumtechnical specifications. The line ministries will remain responsible for the operation and maintenance but will outsource the day to day activities under a management contract on a competitive basis to a private firm which will be requiredto establish a local outlet inthe region. Workingwith independent grid concessionaires to provide electricity to those willing to lease-purchase a solar P V system. The systems will be procured on a batch basis by the concessionaire following minimumtechnical specifications. The size o f the batch depends on the total number o f households to be served under the concession. It i s expected that the solar systems will be least cost for 10% o f the households inthe communities (those with no access to isolated grids). The concessionaire will be responsible for maintenance during the lease period. After the lease period, it will provide the after sales service on a commercial basis through its regional office. Co-financing GEF grants will be provided on a Watt-peak (Wp) performance basis and will be inaddition to the IDA subsidy funds provided through the biddingprocess. Workingwith dealers to provide electricity to isolated households that have the capacity to pay for these services either on a cash or credit basis. The procurement will take place under normal commercial practices where the qualified dealer will purchase the system -mainly solar P V -- on a competitive basis on the open market. Systems supported by the program needto comply with technical specifications. Dealers will need to be qualified by the program which will include a business plan as well as an approval from a commercial bank for debt financing. Co-financing GEF grants will be provided on a Wp basis. - 1 2 -  Working with EdMandDNEto ensure that renewable energy generation i s open for supply inthe same way as other technologies by supporting the development o f a standardized small power purchase agreement. Procurement o f the systems will be done by the project promoters making use o f normal commercial practices, on a competitive basis on the open market. Project promoters will need to be qualified by the program which will include a business plan as well as an approval from a commercial bank for debt financing. Co-financing GEF grants will be provided on a Wp basis. Technicalassistance. The technical assistance programwill support the objective of creating a sustainable market for renewable energy systems. Any barrier for achieving the objective that is identified by the local key stakeholders or individual participants inthe program and for which a resolution i s proposed could inprinciple tap into two technical assistance windows. The first is a cost-shared financing window which will require a twenty to eighty percent contribution o f the company. The trigger for support will be the clearances o f (i) independent two person panel; and (ii) an FUNAE. The second is a full-cost coverage window which focuses on the "bigger picture issues" that are constraining the rate o f growth o f the industry. The trigger will be the clearances of: (i) an independent panel; (ii) three practitioners inthe sector; and (iii)FUNAE. Greater emphasis will be on cost-shared activities, with full-cost activities only rewarded inexceptional cases. Several activities for both windows have been identified during preparation (see also Annex 2). Investments. This component will provide support for investment inrenewable energy activities intwo ways. The first way is through aperformance basedco-jinancing grantfacility, managed by FUNAE. The co-financing grant will be disbursed after the systems have been installed satisfactorily, and written proof o f this with the client's signature has been provided to FUNAE. Complementary financing for the investmentprojects will be raised through private equity and debt financing. A World Bank-supported private sector development project (PODE) already provides debt financing to local businesses and entrepreneurs and it has indicated interest infinancing private sector-led energy investments. It is estimated that 2,500 individual household systems and 1.5 MW ingrid-connected renewable energy systems will be supported duringthe first phase o f the Project. The second way i s through IDA support to the line ministries o f Health and Education for the installation o f 300 institutional systems as detailed inAnnex 2. The energy systems for these ministrieswill be suppliedand maintainedby the private sector. The ministrieswill be responsible for covering the recurrent costs o f the operations. D. InstitutionalStrengtheningandCapacityBuilding This component aims to strengthen the energy institutions under the Ministry o f Mineral Resources and Energy (MIREME)by delineating their responsibilities and appropriate coordination mechanisms to ensure their optimal working relationships. Furthermore, it aims to provide both on-the-job and classroom training to staff inthe energy institutions, and support preparation o f the second phase o f the program. The project will help operationalize CNELEC, whose role is to provide legal advice on energy concessions and to mediate inthe case o f disputes. It will complement support by donors, such as USAID, to transform CNELEC into an independent regulator over the first phase o f the program. The support will be intraining as recommended by the Institutional Diagnostic report, once the staff has been recruited, and the provision o f a resident advisor inmediation, legal and contractual matters to assist in the operationalization process. Inorder to transform CNELEC into a regulator, the project will support consultancy services to assess the steps required, including changes to the Electricity Law o f 1997. - 1 3 -  To strengthen environmental management capacity necessary for the effective implementation o f the investmentcomponents, the project will support the establishment o fthe environmentalunit already envisaged inDNE's organizational structure, and that recently established inEdM. It will support training o f members o f the unit and other staff involved inthe project, who will be responsible for ensuring that environmental considerations are incorporated into all project components. It will also finance a technical advisor who will help set up the unit andprovide on-the-job training to local staff. To assist the Government innegotiating concessions and contracts for mega-projects, the project will support technical assistance requiredfor the Gas Pipeline project, expansion o f the local gas market, as well as other projects currently under discussion, including coal and hydropower. PHASE 2 The triggers for Phase 2 will be linkedto the accomplishment o fthe objectives o f Phase 1, and comprise the following (GEF-related triggers arepresented in italics): 0 Operationalization o f CNELEC and its transformation into a regulatory body. 0 Separation o f EdM's core functions o f Distribution, Transmission and Generation and implementation o f a private participation option inEdM'sDistributionbusiness, with independent management control. 0 Successful completion o f at least three independent grid concessions, one o f which will be based on a renewable energy source, and another be bulk-suppliedfrom the national grid. Successful sustainable operation of at least two solar PV dealers that have been supported under thefirst phase of the program. The creation o f a regulatory body will be required for any o fthe Phase 2 components to be triggered, whereas the other three triggers will each be for the corresponding Phase 2 components. Phase 2 will comprise scale-up o f the investments commenced inthe first phase, using the most appropriate delivery mechanisms, as determined inthe first phase. The activities specific to renewable energy will follow from those initiated inthe first phase, and consist o f building in-country capabilities, resource data dissemination, continuing dissemination and promotion o f international best practices, and scaling up. For the cross-sectoral links,it is expected that two more provinces will be included inHealth and Education and links to the Water sector will be included. Transmission rehabilitation and expansion will be included for the newly-created Transmission company and OBA for the publidprivate Distribution company. - 14-  C. Program and Project Description Summary 1. Projectcomponents(see Annex 2 for a detailed description and Annex 3 for a detailed cost breakdown): PHASE 1 Project activities will be clustered around the following five main components: (i) Sector Reform; Power (ii) Electrification;(iii) Grid Independent Grids; (iv) Renewable Energy and Cross-Sectoral; and (v) Institutional Development and Capacity Building. Indicative Bank % of GEF % of omponent costs % of financing Bank financing GEF (US$M) Total (US$M) lnancing (US$M) inancing 1. Power Sector Reform 6.12 7.5 2.65 6.6 0.00 0.0 1.1 Private Sector Participation inEdM's Distribution and Supply business (4.12) 1.2 EdM Transco Creation (2.00) 2. Grid Electrification (41.00) 41.00 50.3 17.35 43.1 0.00 0.0 2.1 Peri-urban Investments(38.00) 2.2 Technical Assistance (3.00) 3. IndependentGrids 16.38 20.1 10.60 26.3 0.00 0.0 3.1 Independent Grid Investments(15.00) 3.2 Technical Assistance (1.38) 4. RenewableEnergy and Cross-sectoral 9.55 11.7 4.12 10.2 3.09 100.0 4.1 Cross-sectoralinvestments(2,47) 4.2 SHS 4.3 SHS dealers (0.98) -- gridconcessionaires (0.72) 4.4 Grid connectedrenewable energy (130) 4.5 Technical assistance (3.58) 5. Institutional Strengthening& CapacityBuilding 8.47 10.4 5.54 13.8 0.00 0.0 5.1 Regulatory Studies & CNELEC Advice (0.90) 5.2 Training (0.50) 5.3 Motor Vehicles and Office Equipment(0.35) 5.4 Project Coordination, M& E (1.40) 5.5 Preparationof Phase 2 (0.60) 5.6 Environmental Management(0.76) 5.7 Mega-projectsTA, including Natural Gas (3.86) 5.8 Audits (0.1) 0.00 0.0 0.00 0.0 0.00 0.0 Total Project Costs 81.52 100.0 40.26 100.0 3.09 100.0 Total Financing Required 81.52 100.0 40.26 100.0 3.09 100.0 - 15-  PHASE 2 Bank- Yo of Yo of financing Bank- I(US$M) Total [US$M) financing 1. REInvestments(Independent Grids & Grid-based) 40.0 47.1 17.2 38.2 2. Transmission Rehabilitation & Expansion 25.0 29.4 18.0 40.0 3. Renewable Energy and Cross-sectoral 13.2 15.5 5.8 12.9 4. Institutional Strengthening & Capacity Building 6.8 8.0 4.0 8.9 rota1Project Costs 85.0 100.0 45.0 100.0 rota1 Financing Reauired 85.0 100.0 45.0 100.0 2. Key policy and institutional reforms supported by the project: The key reforms aim to facilitate and accelerate private sector involvement inprovision o f modern energy, especially to the rural population. They consist of: (i) operationalization o f CNELEC and its transformation into an independent regulator over the first phase o f the program; (ii) involvement o f the the private sector inEdMDistribution; (iii) involvement o fthe private sector innew Distribution the concessions -- bothisolated and grid-based; and (iv) removal o f barriers for renewable energy development. Key to success o fthe program is the policy change that allows explicit subsidies to be provided to private sector-led operations for schemes that would not otherwise be financially viable, and for the majority o f such subsidies to be output-based. 3. Benefits and target population: The project will target rural and peri-urban communities. The grid-based intensification component will cover most provinces, whereas the candidate sub-components so far earmarked for the independentgrid and renewables components cover the provinces o f Cab0 Delgado, Nampula, Inhambane, Tete, Zambezia and Maputo. Beingone ofthe most sparsely populated and poorest countries inAfrica, the expansion o fmodern energy supply inrural Mozambique poses a major challenge, and selectivity i s important if economic viability and sustainability are to be ensured. Duringpreparation, surveys were carried out to assess household incomes and the peoples' willingness to pay for electricity. The surveys included six peri-urban areas, currently without any form o f electricity supply, inTete and Maputo. The results in these areas showed an average monthly household income o f US$58 and a willingness to pay o f about US$5 per month. Onthe other hand, inareas with some form o f electricity, butwhere supplies are not continuous or are unreliable, such as North Inhambane, Mocimboa da Praia, Malema, and Mormmbala, it - 1 6 -  was found that customers actually pay between 10 and 20 US cents per kilowatt-hour or a flat monthly rate of US$lO, yet the average monthly household incomes are about the same (US$60). Inthe more rural areas, (Derre inZambezia and Quixaxe inNampula were surveyed) the average monthly household income was found to be US$15. Although those surveyed said they would be willing to pay between US$3.50 and US$7.50 per month for electricity, their actual average expenditure on lightingwas found to be only US$0.89. Insuch areas the benefits will be indirect, via rural public institutions such as health clinics and schools. Other major beneficiaries will be commercial and industrial enterprises inthe areas to be electrified, including Mozambican businesses that will participate inthe electricity supply business. The benefits o fthe project are therefore: (i) improvements in the productivity and quality o f life for communities that directly get electricity access (400,000 rural and peri-urbandwellers inthe first phase and 1million over the life o f the program); (ii) improvements inthe quality o f life o f households that get electricity access indirectly via rural public institutions such as health clinics, schools, and via public lighting(this is estimated to amount to at least double the numbero fthose with direct access); (iii) increases inthe viability o f small and mediumrural enterprises who use electricity intheir operations; and (iv) improvement inthe quality o f governance (by Government agencies and energy parastatals). The global benefit will be the displacement o f about 440,000 tons o f carbon dioxide over an 8-year life by replacingkerosene, diesel and gasoline use by solar, mini-and micro-hydro-based electricity, yielding a cost-effectiveness o f US$14 per ton. 4. Institutionaland implementation arrangements: Core at the implementation o f the program are the community leaders, private developers, local entrepreneurs, rural community groups, and other organizations that directly interact with the rural poor the program is aiming to serve. To facilitate the involvement o f these group, the following institutions have an implementingresponsibility within the Project: DNE, FUNAE, EdM, Ministry o f Health (MISAU) and Ministryo f Education (MINED). PODE, eventhough not a formal signatory to the project, i s a critical partner inprovidingdebt financing as well as technical assistance funds for private parties. DNE will be responsible for overall coordination, through a Project coordination Unit (PCU). Itwill facilitate regular meetings with all involvedstakeholders as well as liaise with the inter-ministerial committee on rural development (chaired by the Minister o f Agriculture). Inaddition, it will have primary responsibility for implementing the off-grid and renewable components. The coordination unit will complement the day-to-day duties o f DNEand FUNAE,inparticular with facilitation o f the market development process as well as administration and other fiduciary requirements. Inline with the objective o f buildingcapacity within the energy institutions, priority will be given to utilizing existing and new regular staff for the coordination work. However, due to shortage o f such staff, it will be necessary to also employ external staff to be dedicated to the project. DNE will also implement the technical assistance components concerning DNE,FUNAEand the other Energy institutions (excluding EdM), and Power Sector Reform. A key issue that needsto be resolved duringthe first phase o fthe APL is the level o f implementation authority that will remain within DNE. Over time its mandate clearly states that it will focus on policy, strategy and coordination o f energy inthe country. It will facilitate the implementation and allow the financing o f projects to be the full responsibility o f FUNAEand commercial financiers. - 1 7 -  FUNAEwill have primary responsibility for operating the MECS. Incoordinationwith DNE, it will: (i) identify potential activities for implementation under the Project, and make such information publicly available; and (ii)use the information obtained to identify area concessions to be let out to bid, with the support o f a transaction advisor, and a trust agent that will disburse the subsidies to project sponsors on achievements o f the agreed outputs.. MISAUand MINED(through existingPIUs) will be the lead agencies for the cross-sectoral component, and they will be provided technical support by DNE and the PCU. EdM (through its PCU) will implement the GridIntensification component and provide support to DNE on the Power Sector Reformcomponent. PODE may provide credit for investments to and support technical assistance required by the private sector (concessionaires and dealers). FinancialManagement The principal objective o f the Project's Financial Management System (FMS) will be to support management intheir deployment o f limitedresources with the purpose o f ensuring economy, efficiency and effectiveness inthe delivery o f outputs required to achieve desired outcomes, that will serve the needs o f the people o f Mozambique. Specifically, the FMS mustbe capable o f producing timely, understandable, relevant and reliable financial information that will enable management to plan, implement, monitor and appraise the Project's overall progress towards the achievement o f its objectives. Relevantly qualified, experienced and independent auditors will be appointed on approved terms o f reference, The external audit will cover all World Bank funds and Counterpart funds at all levels o f Project execution. DisbursementArrangements andFlow of Funds World Bank credits inMozambique are generally controlled through separate bank accounts (Special Accounts {SA}), each managedby a Project Coordinating Unit (PCU). InWorld Bank credit management in Mozambique, G o M agrees to open separate Project Accounts (PA) where counterpart funds are deposited inagreed amounts and managed by the PCUto fulfill counterpart financing requirements. This Project will adopt the SA and PA structure. I A s will manage Special Accounts and Project Accounts for counterpart funds. The following chart illustrates the banking and flow o f funds arrangements for general project management. - 18-  IDA GOM DNE PCU I EdM I Credit Central DNE DNE EdM Project Special Project Account Account Account Special Account resources) v Providersof Providersof goods & Providers of goods & services - parallel payments goods & services - from SA & PA; transfers to services- direct Trust Account parallel payments paymentsfrom SA & PAS The additional chart below shows the flows of funds for the subsidy mechanismdisbursedby the Trust Agent. - IDA Trust Aaent MPFlFUNAE oncessionaire Administrivo Contract info to Trust Agent Rep.(asMPF) of Contract Approval E l 4 Post performance bond, submit first invoice* i Funds Request for + 4 l T' Funds received Receive subsidy and piilaqut -4?rIts *Copies to DNE and FUNAE, including verification connection reports and plans The Governmentwill on-lendpart ofthe IDA Credit (aboutUS$17.35 million)to EdMto implementthe Peri-urbanElectrificationcomponent. It will provideUS$1.2million for the Cross-sectoralcomponents implementedby MISAUandMINEDandUS$9.25 million for the Sector Reform, Institutional Developmentand Capacity Buildingcomponentsimplementedby MIREME. The balance ofthe Credit will be administeredby FUNAEandDNE (througha Trust Agent) for the MECS. - 1 9 -  The GEF Grant (US$3.09 million) will be administered by FUNAE(through a Trust Agent) and renewable energy developers will be able to draw on the Grant on an output basis. The Grant will also be available for specific technical assistance with respect to the Renewable Energy component. D. Project Rationale 1. Project alternatives considered and reasons for rejection: The option o f pursuingonly the conventional rural electrification approach - national grid extensions over long distances to serve very small demands under a regime o f uniform national tariffs (and thus heavy implicit cross-subsidies) -- was rejected for the reasonthat such investments are unsustainable. The option to limit the project strictly to technical assistance and institutional strengthening for sector reforms and postponing investment financing to a later date was also considered and rejected, mainly because Mozambique is further along the reform process than most other countries, having achieved the legislative change for demonopolizing the electricity business and permitting private sector participation. G o M has also passed the secondary legislation for competitive award o f electricity concessions. The stage has been set for pursuingthe next round o f reforms -- ina "learning by doing" manner, finance both EdMas well as non-EdM investments as the rules for cost-based tariffs are devisedand implemented, and implicit cross-subsidies are gradually replacedby "smart" subsidies. The option o f a Learning and InnovationLoan (LIL)was considered, but found unsuitable for an environment where one o f the main imperatives i s policy changes for sector reform and capacity building inbothpublic and private sectors. Inaddition, the smaller size ofa LILwould have made it difficult to exploit the economies o f scope inan operation that included components relatedto investments in electrification, and technical assistance to support sector reforms and institutional strengthening. The option o f a Sector Investment Credit was also considered. It was found less appropriate for the required long-term engagement by the Bank, to lay foundations for accelerated access, adopt the most appropriate delivery systems through the process o f learning by doing, and commence to make significant progress on access expansion. - 20 -  2. Major relatedprojects financed by the Bank and/or other development agencies(completed, ongoing and planned). Latest Supervision Sector Issue Project (PSRI Ratings (Bank-fhce projects only) Implementation Development Bank-financed Progress (IP) Objective (DO) Rural Electrification Ghana National Electrification S S (P000953) Urban & Rural Energy Mozambique Urban Household S S Energy Solar P V Indonesia Solar Home Systems U U (P035544) Renewable Energy China Renewable Energy S S (P046829) Rural Energy Laos Southern Province Rural S S Energy Rural Energy, Renewable and Isolated Uganda Energy for Rural S S Grids Transformation (P069969) Rural and Renewable Energy Sri Lanka Energy Services HS HS Deliverv (P076702) Other development agencies Rural Energy Mozambique Energy Sector Program Support -- DANIDA Highly Unsatisfr ory) 3. Lessons learnedand reflectedinthe project design: Main-grid based rural electrification. Inrecent years, development agencies have supported few utility-executed main-grid rural electrification projects, primarily because o f the generally poor past performance. InAfrica, few power utilities have had any significant success inrural electrification. In general, grid-based rural electrification executed by state-owned power utilities, coupled with a uniform national tariff to cross-subsidize rural consumers, as has beencommon inthe Bank's client countries, rarely delivers any significant development impact. It frequently leads to extension o f the grid to rural areas, but without actually connecting any significant number o f households or small and medium enterprises or providing reliable services. Thus, one o f the key lessons is that it is best to shift to commercially-oriented rural electrification, employing cost-based, regionally differentiated distribution tariffs that provide market signals for expansion and scale-up. One implication o f this approach is that subsidies should be directed at expanding access-they should finance initial capital costs rather than consumption, which tend to limit benefits to a privileged few "first-comers". The project's design thus provides for capital subsidies, which will be mainly output-based. A second key lesson is that it is possible to reduce the costs o frural electrification significantly with little, if any, loss in quality o f service. The standards and procedures utilized by most power utilities are mostly too costly for rural or peri-urban conditions, and often reflect past practice indeveloped countries. Itis possible to introduce lower-cost technical standards and operational procedures that have already beentested and found acceptable in other places inthe world, including some countries inAfrica, such as -21 -  Ghana and South Africa. However, state-owned utilities are frequently unenthusiastic about such changes. Greater reliance on the private sector or some incentives to the utility, is therefore required. Studies on low-cost electrification have been conducted duringpreparation, with the full engagement o f EdM, and it has beenestablishedthat a reductionincapital cost o f at least 20% is possible. Experts on specific low-cost technologies have also made presentations to EdMstaff. EdMhas agreed to adopt the recommendation o f the studies inthe detailed project design, for which implementation will be through supply and installation contracts instead o f force account. Independent grids. This is still an emerging option for rural electrification, with only limited experience available, which has so far been favorable. Inany case, it is clear that ina number o f circumstances, independent mini-grids are not only lower cost than grid extension, but also that Government find it easier to permit cost-based tariffs for these mini-grids. Here also it is important to introduce lower cost designs, technical standards and operational procedures, so that the cost-based tariffs are affordable for a larger segment o f the population. Consultations with Mozambican and foreign private companies has suggested that with the sector reforms and regulatory approaches contemplated under the proposed project, they would be interested inequity and debt participation ifthe "rules o f the game" provide sufficient incentives and protection against risks. Experience inother parts o f the world has shown that even inthe absence o f a regulatory and financing framework, small-scale entrepreneurs often do engage inelectric service businessto serve small loads, provided the supply and financing chains for equipment and fuel exist, and there is little risk o f confiscation by the Government. Solar PV systems. I t is clear that solar P V systems are technically suitable for, and workable in,the rural areas o f developing countries, where grid supply i s not available. However, prices inAfrica remain far higher than inAsian countries, where systems that meet international standards (such as those specified inBank-supported projects) are available at prices that are upto 50% lower. Thus, better linkages between Asian and African markets would reduce prices inAfrica. Another key lesson is that significant resources are requiredinitially to lower the barriers that impede greater use o f solar P V systems. These include, for instance, preparation o f standardized small power agreements, resource assessments, preparation o f business plans, training for technicians and managers, preparation o f technical standards and general awareness creation. At the same time, these "upstream" activities, ifcarried out inisolation and without links to actual investments, do not lead to market development. To the contrary, a viable investment financing program helps "learning by doing" and improves the quality and impact o f such "upstream" activities. Differentinstitutional models have beenusedindisseminating solar PV systems, among them: the vendor model inwhich the end-user (e.g., household) owns the system and after-sales service i s provided by the vendor, thefee for sewice model, inwhich an energy service company owns the system and the end-user simplypays a periodic (e.g. monthly) fee for the energy provided, and the institutional model, in which line ministries own the systems and operate and maintain them through service contracts with the private sector. The vendor model has been used inBank-supported projects inAsia, the fee-for-service model has beenusedinBank-supported projects inArgentina and Laos, and the institutional model has beenusedinUganda. Insub-Saharan Africa, the vendor model has emerged spontaneously incountries such as Kenya, which has a vigorous solar P V market, and Zimbabwe, while the Government o f South Africa has opted for a fee-for-service model. The project design allows for either model to be used as appropriate. The fee-for-service model inan adjusted format -- withtransfer o f ownership after about three years from the concessionaire to the household -- may be adopted where concessions are awarded for independent grid supply. The vendor model could be adopted inparts o f the country where extension o f the (midmain) grid is not feasible. The institutional model will be used inremote areas where - 22 -  (maidmini) grid extension i s not viable and a certain density o f schools and health clinics allow for a rural business anchor for the solar dealers. 4. Indicationsof borrower and recipientcommitment and ownership: The Government has accepted the recommendations o fthe Private Sector Participation inEnergy study, upon which a major part o f the project is designed. It had also endorsed private sector participation in EdM'sdistribution and supply business. Furthermore, consultations for the solar P V component elicited considerable interest from the MozambicanNGOs active inrural development. 5. Value added of Bank and Globalsupport in this project: One o f the main contributions o f the Bank to this project is its ability to function as a "knowledge bank". This brings to Mozambique fresh approaches to solving its problems, taking account o f Mozambique's current situation and growth potential, while incorporatingthe experience o f and key lessons learned in other countries. Much o f the sector reform work to date - preparation o f 1997 electricity and petroleum laws, concessioning decrees and national energy strategy -has been financed by the Bank. Looking forward, the Bank's knowledge assistance will be geared at fostering a consensus among the various stakeholders toward new approaches to sector development and maximizing aid effectiveness, inorder to achieve a broad, sustainable development impact o f aid-financed investments. A second major contribution of the Bank will be indonor coordination by providing donors with - effective grant funding channels and building selective cross-sectoral partnerships inthe context o f the Poverty Reduction Strategy Paper. Such cross-sectoral activities are plannedto be targeted at helping meet the energy needs o frural healthand educational facilities and improvingthe quality o f social services delivery. The GEF's value-added goes beyond the grant support provided by it. While there have been a number o f donor-supported renewable energy activities inMozambique, their impact has beengenerally limited to the actual projects supported. GEF's support will make it possible to develop a more programmatic approach, within which individual projects could be developed. E. Summary Project Analysis (Detailed assessmentsare inthe project file, see Annex 8) 0 Costbenefit 1. Economic (see Annex 4): NPV=US$l8 million; ERR = 23 % (see Annex 4) 0Costeffectiveness 0 IncrementalCost 0 Other (specify) The economic analysis was conducted separately for the components described inAnnex 2: (i) grid EdM based electrification; (ii) independent grids; and (iii) PV. The analysis confirms that the solar components are justified for financing as they are least-cost options to supply additional electricity and the discounted presentvalue of their benefits net o f costs (NPV) are positive. Sensitivity and risk analyses indicate that the economic outcomes are robust to changes inkey assumptions and that the risk o f failure is at an acceptable level. For instance, a quantitative risk analysis shows that the probability o f a positive N P V o f the project's largest component - theEdMgrid-based electrification is 90 percent. - - 23 -  1. EdM grid-based electrification This component will connect about 61,000 new residential consumers in265 sites to grid supply. The sites are a mixture o f peri-urban neighborhoods close to the provincial capitals and larger rural villages close to larger towns. Out o f the total number, at least 40,000 consumers will be connected by the end o f year 2006. EdMcannot currently connect these consumers due to lack o f network extensions. As EdM's electricity supply is already available inclose proximity to these neighborhoods, the required investments consist o f distribution network extensions and reinforcements at the economic cost o f less than US$700 per connection. EdM, incollaborationwith COW1Consultants, selected the neighborhoods to be electrified usingthe following criteria: 0 The site i s close to an existing electrified area. 0 The site has a sufficient number o f potential consumers who are interested ina grid connection. 0 The site has a promising socio-economic profile when compared to already electrified sites with respect to income levels and economic development potential. The economic benefits related to the incremental demand served by the project are the sumo ftwo components: (i) the saving inresource cost from serving demand inthe without project case; and (ii) the value o f the incremental demand served inthe with the project case over the level o f demand served in the without the project case. The analysis calculated the saving inresource cost as the cost of small amounts o f kerosene lightingand back-up diesel generators. The analysis estimated the value o f the incremental electricity consumption by new household connections by calculating the area under the consumers' estimated demand curve for electricity services, Since the true shape o f the demand curve is not observable, the benefits are valued on the assumption o f a semi-log demand curve o f the form: Q=A+B*lnP that passes through two knownpoints: the lower case point represents the substitution o f existing methods o f lightingand is a saving inresource costs. Field observations indicate that the majority o f unelectrified households use kerosene for lighting. The upper case point is the consumption rate o f an electricity consumer at the EdMtariff. To take into account the income effect, rather than using an aggregate demand curve, the analysis estimates the benefits separately for households with three income levels -low, medium and high. The economic investment cost is about US$38 million. The cost benefit analysis confirms that the plannedinvestments arejustified for financing. The EIRRis 23 percent, which is above the estimated opportunity cost o f capital o f 12 percent. The table below shows that the results are not overly sensitive to changes inthe main assumptions. The risk analysis, discussed below, confirmed the robustness o f the economic return. Annex 4 discusses the details o f the analysis. IExDected EIRR 123% I +20% investment cost & 20% fewer connections 13% One year delay inbenefits 21% Monthlvaverage consumDtion Der connectionlimited to 90 kWh 14% - 24 -  RiskAnalvsis The quantitative risk analysis o fthe EdMcomponent assessedthe impact on the component's economic returns o f uncertainty inunderlying assumptions and predictions. To deal with this uncertainty, the analysis assigned probabilities to the values o f the key variables. The key variables and the probabilities o f the values these variables will assume inthe future, emerged from the Bank's and Government's estimates. These include: (i) the level of electricity consumption ofnew connections; (ii) cost project estimates; (iii)international oil prices; and (iv) scheduling. The stochastic nature o f the project's outcome was modeled using a commercially available risk analysis program. The model determined the expected EIRR and N P V with their probability distributions through a "Monte Carlo" simulation process. Chart 1below shows the resulting probability distribution o f the expected NPV. Chart 1. Frequency Distribution ofNPV. Frequency Distribution of NPV ($7.1) $1.2 $9.4 $17.7 $25.9 NPV (@12%) millions of US$ The risk analysis indicates that the range o f the discounted NPVs is rather broad, ranging from a negative US$l1 million to a positive US$34 million with an expected value o f US$14 million. The expected N P V i s somewhat lower than the base case point estimate o f the NPV, echoing the skewness in the probability distributions for some o f the risk variables. This broad range reflects the impact o f the demand projections and project cost estimates. However, the analysis validated the robust economic return o f the EdMcomponent and indicated that reasonable changes inthe key variables and assumptions pose small risksto achieving the project's benefits. The probability o f a positive NPV is about 90 percent. Variations inthe viability of the individualsites. The COW1consultant's analysis revealed wide variations inthe viability of the selected sites, mainly because o f expected electricity demand. The consultant concluded that out o f the 265 sites, 184 sites would be clearly financially viable on the basis of financial costs and EdM's current tariffs. Since it was not possible for the appraisal missionto visit all the 265 sites or carry out a separate economic evaluation o f each o f them, it was agreed with EdM and the Government that the economic - 25 -  evaluation would be done for the combined component. This approach will average the costs and benefits o f the sites and may result incross-subsidization among them. Both EdMand Government are comfortable with the potential cross-subsidization. To approximate the extent o f the cross subsidization, the team estimated separately the economic viability o f some o f the least financially viable sites. For instance, the Chiduachine neighborhoodin Chokue resulted in an EIRR o f 7 percent and the Mutivaze site inNampula in an EIRR o f 5 percent. These are also some o f the smallest among the 265 sites with a total estimated investment cost o f less than US$200,000 compared with the total investment cost o f about US$38 million. 2a. NorthInhambaneMini-Grid The project supports the concessioning to a private operator o fthe three existing mini-grids inthe towns o f Vilankulos, Inhassaro, and Nova Mambone inthe North Inhambane Province. All three systems use natural gas to generate electricity and require additional investments ingenerating capacity and network extensions inthe near future. The demand inVilankulos already exceeds available capacity, while the demand inInhassaro and Nova Mombane is forecast to exceed the installed capacity inthe coming years. The existing mini-grids, which have been inoperation since 1998 inVilankulos and Inhassaroand since 2001 inNova Mombane, supply 333 households and 267 commercial enterprises. There is significant potential for increased electricity sales inthe area, which is rapidly developing its tourism potential and fishprocessing industries. Currently, 132 households and 39 commercialenterprises are waiting for a connection. Inthe absence of adequate mini-gridsupply, industries and commercial enterprises operate their own costly diesel generators. There are several reasons why the mini-grids have not been able to meet the consumers' demand for electricity: (i) supply capacity constraint because FUNAEhas been unable to finance system expansion; and (ii) the deficient incentive structure of the mini-grids' present contract operator: the increased electricity sales raise the operator's revenue only marginally although the operator incurs additional costs related to new connections, such as meter reading and billing. To increase access to electricity and to improve operational efficiency, the Government has decided to invite private firms to bidfor the operation and expansion o f the mini-grids. The Government prefersa centralized generation option with a 3 MVA gas turbine inthe Temane natural gas field to supply the nearest towns - Vilankulos and Inhassoro as this option is least-cost when compared to the alternative o f - retaining the two decentralized supply systems. Nova Mambone will be part o f the concession but will continue to be supplied locally. The design o f the proposed concession contract will provide incentives for access expansion. The affordability o f electricity supply is a concern to the Government. Analyses carried out duringthe preparation o f this project indicate that the concession arrangement may require a significant increase in tariffs for viability unless the Government is prepared to subsidize some portion o f the costs. To moderate the requiredtariff increases while at the same time increase the attractiveness o f the concession for bidders, the Government has decided to provide capital cost subsidies through output-based-aid (OBA) to the future concessionaire. The economic analysis assumes that with the OBA subsidy, tariffs could be maintained at around US$O.12-0.14/kWh. The actual level o f subsidy will be defined during implementation, on the basis o f bidsreceived. - 26 -  The project's goal i s to connect 2,500 new customers; increasing the total number o f customers to about 3,100. This will lift the electrification rate o f households inthe three towns from the current 5-6 percent to more than 30 percent. The total economic investment cost isjust above US$4 million. The Bank's economic analysis calculates the component's EIRR at about 15 percent, which i s above the estimated 12 percent opportunity cost o f capital inMozambique. The N P V isjust about US$0.7 million. Although the outcome i s not overly sensitive to variations inthe values o f the key parameters, a 20 percent decrease indemand combined with a 20 percent increase incapital cost will result ina negative NPV. 2b. Mocimboa da PraiaMini-Grid The economic activities o f Mocimboa da Praia the administrative and economic center for the districts - inthe northof Cab0 Delgado Province focus on fishingand seafoodprocessing. These sectors, along - with tourism are said to have a large development potential. The town has 10 large industrial and commercial establishments with their own diesel gensets. Of the town's 6,400 residential houses, 143 obtain electricity supply from the Municipality, which operates a 15 year old diesel generator. Supply is limited to 4 hours per day. The generator cannot provide reliable supply during the entire day and the supply is also not sufficient to meet increased demand. Electricity use is not metered and the annual tariff revenues do not cover the system's operation and maintenance costs. The project will support the concessioning o f the Mocimboa da Praia mini-grid to a private operator. Initially, the operator will upgrade the thermal generating capacity and the distribution network to supply new customers. Later, inaround the year 2009, the mini-gridwill connect to the EdMgrid supply, while maintaining the diesel generator for back-up purposes. EdMhas initiated the design o f the transmission line extension, which will connect several areas inthe northern part o f Mozambique to grid supply. The earliest the line will reach the Mocimboa da Praia area is 2009. Diesel generation and connection to the EdMgrid are the only feasible options available for the town to increase grid supply. Ofthese, connection to the grid i s least-cost. The project's goals are to connect the existing large industrial and commercial establishments to the mini-gridto reduce their cost o f electricity, increase the number of residential electricity connections from the current 143 to about 2,000 by the year 2015, and connect new industrial and commercial consumers to strengthen the area's economic expansion. The household electrification ratio will increase from 2 percent to about 23 percent in2015. The economic investment cost is about US$1.4 million. The EIRR at about 16percent and the NPV at around US$0.2 million are acceptable andjustify the investments for financing. The results are most sensitive to variations in demand and capital costs. A 20 percent lower than forecast demand or a 20 percent higher capital cost will switch the N P V from positive to negative. 3. Solar PV This component will install 1,600 solar home systems o f40 Wp capacity and 900 small mobile systems o f 12 Wp capacity. The project will subsidize the cost o f the systems through a GEF grant that will amount to US$2.6 per Wp. There w i l l be no additional Government subsidies. - 27 -  Studies incountries such as the Philippines and elsewhere find that solar P V systems can be the least cost solution to providing basic electricity services for lighting, communications, and other household needs inareas with dispersed populations andremote from the grid. The economic benefits include: (i) the savings inresource costs, from substitutes (kerosene, battery charging, etc.) that the P V systems replace; (ii) gainsinconsumersurplus;and(iii) the environmental externalities. The economic analysis o f the solar homes component o f this project shows high economic returns. The ERRand the NPV for the 40 Wp solar home systems, are estimated at about 25 percent and US$175,000 prior to consideration for environmental externalities. These results are consistent with estimates for similar projects in other countries. They reflect the high willingness to pay for the improved levels o f lighting service, and the significantly higher levels o f radio listeningand TV viewing. A sensitivity analysis showed that the results are robust to reasonable changes inthe values ofthe key variables. A switching value analysis indicated that the initial system cost and the cost o f replacement parts (battery, controller, and light bulbs)would have to increase by 20 percent for the project's benefits to evaporate. Overall, this component has few implementation risks. With 1,600 systems as the goal, the riskfor overestimating the market size is small. The risk of the GEF supporting uneconomic investments i s small since GEF subsidies are linkedto the actual installation o f the systems after the customer has revealed its willingness to pay for the systemwith an out-of-pocket down payment. 2. Financial (see Annex 4 and Annex 5): NPV=US$ -4 million; FRR = 9 % (see Annex 4) Past Performance of EdM EdM's financial performance for the past 4 years (FY1998 to FY2001) is shown inthe attached tables. The company achieved favorable operating income both in 1999 and 2001. The year 2000 was atypical for EdM, because the heavy flooding that devastated the country had a direct impact on the overall performance o f the company. It not only caused prolonged outages o f power lines and substations and therefore loss o f electricity sales, but also caused considerable damage on its fixed assets, therefore increasing maintenance and repair costs. These repairs had to be extended through 2001 and part o f 2002. - 28 -  Income Statement 1998 1999 2000 2001 Average Exchange Rate (000' MTIUS$) 10 13.2 17 23 Operating Revenues 79,353.5 65,468.3 60,623.8 54,742.1 Electricity Revenues 78,481.8 64,717.0 60,196.0 53,985.4 Other Revenues 871.7 75 1.2 427.8 756.7 Operating expenses 81,234.9 63,918.4 62,545.4 53,857.7 PurchasedEnergy 12,000.0 8,518.5 11,142.5 8,669.7 Fuels 6,000.0 3,540.0 5,192.0 5,223.1 Materials and Equipments 6,407.9 4,055.2 5,296.4 4,740.7 Personnel 14,411.3 15,023.9 13,080.8 13,048.7 Maintenance and Services 12,06 5 $6 9,567.1 7,296.3 7,439.7 Other 2,377.3 2,183.4 3,722.5 3,103.5 Depreciation 27,972.8 21,030.4 16,814.9 11,632.3 Operating Income (1,881.4) 1,549.8 (1,921.6) 884.4 Extraordinary Result 13,483.1 6,776.6 843.3 14,344.6 Other Income 840.8 334.7 866.5 682.2 Extraordinary Profit (Loss) (6,298.6) (3,453.1) (2,617.3) (3,000.1) Income Before Interest and Taxes (7,33 9.2) (1,568.6) (3,672.5) (1,433.5) Interest 3,006.9 3,288.0 3,408.6 4,339.0 Interest During construction 0.0 0.0 0.0 0.0 Operating Interest 3,006.9 3,288.0 3,408.6 4,339.0 Income Taxes 641.6 174.5 264.1 86.8 Net Profit (10,987.7) (5,031.1) (7,345.2) (5,859.2) Prior Year Results 0.0 (92.7) (221.2) (675.5) Profit (Loss) for theyear (10,987.7) (4,938.4) (7,124.0) (5,183.7) US$ 885.4 996.2 1013 1074 88.6 65 .O 59.4 50.3 - 29 -  Statement o f Sources and Application o f Funds US$ thousand 1998 1999 2000 2001 Average Exchange Rate 10 13.2 17 23 ('000 Metical/US$) SOURCES Internal Generation 34,629.9 26,063.9 12,03 5.1 (4,232.5) I n c o m e B e f o r e Interest 5,502.3 5,033.6 (4,7 79.8) (15,864.8) Depreciation 27,972.8 2 1,030.4 16,814.9 11,632.3 0ther 1,154.8 0.o 0 .o 0.o D e b t Service 3,006.9 3,310.0 3,43 7.4 4,37 1.O Amortization 0.0 22.0 28.7 32.0 Interest 3,006.9 3,288.0 3,408.6 4,339.0 Internal N e t Generation 3 1,623.0 22,75 3.9 8,5 97.7 (8,603.5) N e t B o r r o w i n g s 21,929.1 18,75 0.0 24,O 17.6 17,404.3 W o r l d B a n k 0.0 3,030.3 2,352.9 3,9 13.O Other Banks 0.0 15,15 1.5 2 1,05 8.8 13,043.5 0thers 2 1,929.1 568.2 605.9 447.8 Equity Contributions 0.0 13.5 0.o 1.7 (including Revaluation) T O T A L SOURCES 53,552.1 4 1 3 17.5 32,615.4 8,802.6 APPLIC AT10 N S Investments 62,340.3 4 1,568.2 27,666.6 37,39 1.3 Plant In Service 43,566.3 34,090.9 11,882.4 1,739.1 W o r k In Progress 1,9 18.8 4,825.8 15,7 84.2 35,2 60.9 Financial Investments 16,855.2 2,65 1.5 0.o 391.3 W o r k i n g Capital Increase (8,524.6) 265.2 4,994.1 (2 8,750.4) Unrealized Differences (263.6) (3 15.9) (45.3) 161.7 T O T A L APPLICATIONS 53,552.1 41,517.5 32,615.4 8,802.6 - 30 -  Profitability Analysis. For over five years EdMhas beenconstantly increasing its power sales. Sales in 1996 amounted to 662.4 GWh, 885.4 GWh in 1998 and 1,074 GWh in2001, an overall growth of 21% or about 7% average per year from 1998 to 2001. Sales revenues (incurrent meticais) also increased: by some 9% from 1998 to 1999,20% from 1999 to 2000 and 21% from 2000 to 2001. This was due both to a tariff increase o f 33% in September 2001, and to a considerable increase inthe number of customers from 186,000 (1998) to 212,000 in2001. On the Operating expenses side, EdM had a sharp increase in purchased energy both in2000 (about 77%) and again in2001 since its own plant operation was negatively influenced by the flooding mentioned above. Personnelcosts also increasedby a yearly average of about 25% between 1998 and 2001; they are now at about 24% of total operating expenses. As a result, EdMonly reacheda modest 1%rate of returnon its averageassets in2001. The income before interest and taxes (IBIT) is further influenced by "extraordinary results". This account includes donations for investments and operating costs (on the income side) and the revaluation of the debt (on the expense side). Dueto a 6% inflation rate and an appreciation of the U S dollar and related currencies of about 66%, in2001, this revaluation alone was valued at 330 billion meticais, about 25% of EdM's operating revenues, and according to International Accounting Standards (IAS) had to be recognized during the current year without any possibility of shifting this burdento the following years. The yearly profit during the last years has been further erodedthrough increasing financial costs, while taxes had only a minor impact. Liquidity Analysis. EdM's liquidity position has improvedfrom 1988to 2000, with a decrease in2001 due to higher liabilities to suppliers and short-term bank commitments. The debt service coverage ratio was also satisfactory until2001, when EdM hadto rely on larger than average external financing and higher financial costs. Financial Policy. EdM's financial policy, as shown inits capital structure and indebtedness indicators from 1998 to 2001, needs some improvement. Its equity situation has beeneroded over the last year. Furthermore, EdMhas reliedheavily on foreign financing for its expansion program. Its external debt has increasedby some 75% between 1998 and 2001. Although the debt/equity ratio (long-term debt/debt + equity) was kept below the 40% range, EdM's total debt (including the short-term portion) has deteriorated during this period, The number of days inreceivables increasedfrom 123 to 147 days between 1998 and 2001, and a substantial amount of the arrears are owed by Government institutions. The company took a number o f administrative and managerial steps aiming at improving the collection procedures in several areas of the country. Among these is the decentralization of commercial functions, including the establishment of additional payment points. - 31 -  Key Past Financial Performance Indicators (USDollar Values) 1998 1999 2000 2001 I.OPERATIONALINDICATORS Losses (GWh) 372.0 387.1 438.0 254.0 Technical 299.6 298.3 306.4 137 Non-technical 72.4 88.8 131.6 117 Loss Percentage 31% 32% 36% 21% Numbero f employees 2,799 2,860 2,774 2,774 Numbero f customers 186,208 189,269 202,001 212,011 Sales (GWh) 885.4 996.2 1013 1063 Sales/employee (MWh) 4.75 5.26 5.01 5.01 Revenue/employee ('000 US$) 28.0 22.6 21.7 19.5 System load factor (%) 67 70 71 Outage frequency 11.FINANCIAL INDICATORS Contribution to investment (%) 51% 55% 31% Neg Average sales price (UScentdkWh) 8.9 6.5 5.9 5.1 Rate o f return (%) Neg 0.88% Neg 0.92% Labor/Gross plant in service(%) 6% 9% 10% 12% Labodoperatingrevenues (%) Neg 969% Neg 1475% Labor/Operating Expenses (%) 17.7% 23.5% 20.9% 24.2% Debt service coverage (times) 11.5 7.9 3.5 Neg DebdDebt+ Equity 36% 33% 36% 41% Indebtedness 61% 60% 77% 99% Collection period (days) 123 129 203 147 Current ratio (times) 0.65 0.93 1.21 0.88 Working ratio (%) 33% 34% 25% 23% Depreciationrate (%) 12.1% 11.9% 12.2% 10.7% - 32 -  Future Prospects Profitability Analysis. EdM's financial projections for the next 6 years, FY2003 to 2008 (for 2002 estimated values based on mid-year figures were used) are predicated on strong sales and sales revenue averaging about 8% per annum. This figure is consistent with past sales increases and takes into account the new connections under the project as well as predictable new large consumers. The load forecast for 2003 is somewhat distorted because o f delayed (to 2004) initial sales to a large industrial consumer (MOMA). Operational expenses will follow a similar growth pattern, with the exception o f fuel expenses -- a number o f isolated systems inthe north o f the country now served by diesel units (Pemba, Lichinga and others) are expected to be connected to the central grid by 2005. Therefore the profit before interest and taxes is forecast to increase from 6% inFY2003 to about 37% in2008. The impact o f higher costs in financing on operating profits will become more significant as the differential between profit before interest and taxes as a percentage o f sales revenues is felt after 2004. The two major assumptions determining the financial projections are: (a) retail tariff increases o f about 6% inreal terms inthe years 2003,2004,2005 and 2006, bringingthe average tariff from the present US cents 6.7lkWh to U S cents 9.09/kWh (the last value matching the calculated L R M C for Mozambique); and (b) the large investment program o f US$281 millionover the period 2003-2008, with an average o f almost US$50 million per year. The bulk o f the investment (50%) will be in distribution, with transmission taking 32%, generationjust over 3%, and studies, capacity buildingand other activities the remaining 15%. The distribution investmentcovers rehabilitation, reinforcement, as well as expansion o f the network to connect new customers both inurban and rural areas, while the transmission component accounts for a number o f extensions from the southern and central grids. Only small thermal generating plants are included inEdM's investment plan. Any possible major additions to the generating capacity are excluded from EdM's financial projections on the assumption that they will be implementedby the private sector. The increasing internal cash generation in the years after 2005 would allow EdMto reach high self-financing ratios untilthe end o f the projection period, starting from a low 7% in 2003 and reaching close to 100% by 2007. At the same time, EdM's profitability (return on net fixed assets) is expected to grow from about 3% in2003 to 17% in 2008. The following table contains both operational and financial performance indicators. - 33 -  Kev ProiectedFinancial Performance Indicators OPERATIONALINDICATORS I Estlmate I Forecast Year 2002 2003 2004 2005 2006 2007 2008 Total Losses(GWh) 271.2 271.9 305.0 320.0 330.0 345.0 357.0 Total Losses(%) 18.1% 18.1% 17.4% 16.9% 16.2% 15.7% 15.0% Non-technicalLosses 150.17 150.6 175.1 189 204.1 220.4 237.9 Technical Losses 121.03 121.3 129.9 131 125.9 124.6 119.1 Number of employees 2580 2580 2580 2580 2580 2580 2580 Number of customers 229,551 244,000 266,539 291,122 292,322 293,522 294,722 Total Demand 1501.7 1506 1751 1890 2041 2204 2379 Total Sales (GWh) 1094.45 1094.9 1272.9 1374 1483.8 1602.2 1729.4 Average sales price (UScenVkWh) 6.74 7.14 7.72 8.33 9.09 9.09 9.09 Saleslemployee (MWh) 4.8 4.5 4.8 4.7 5.1 5.5 5.9 I I FINANCIALINDiCATORS I Estimate 1 Forecast Year 2002 2003 2004 2005 2006 2007 2008 Debt Service Coverage Ratio 0.8 1.3 1.9 2.2 2.5 2.6 3.2 Self Financing Ratio -2% 7% 37% 53% 142% 97% 53% Operating Ratio(%) 86% 90% 80% 72% 67% 64% 72% Current Ratio 0.75 1.13 1.64 1.43 1.89 1.79 1.43 Debt Ratio (%) 82% 89% 90% 88% 83% 77% 88% Returnon Net FixedAssets (%) 4% 3% 6% 9% 13% 15% 17% Labour/NetAssets in Service (%) 14% 10% 8% 8% 8% 7% 7% Labour/Operating Revenues (%) 21% 21% 18% 17% 16% 14% 13% Working Ratio (%) 69% 66% 57% 50% 46% 43% 50% Depreciation Rate 8% 9% 9% 9% 10% 10% 11% Accounts ReceivableTurnover (days) 173 120 90 60 60 60 60 LiquidityAnalysis. Inline with its projectedincreasing profit performance, EdM's liquidity will also improve inthe next six years to 2008. Cash balances are projected to remain about constant during the period, at the level o f about one month o f electricity sales, a sufficient amount to cover current expenses. Similarly, current assets, which accounted for about 21% o f total assets at the end o f 2001,will decrease gradually reaching about 15% o f total assets by FY2008. Within this trend, EdM's liquidity position will remain strong with current ratios increasing from a low 0.75 (2002 estimate) to about 1.8 at the end o f the projection period. A precondition for this is the effort inEdM's collection o f receivables, gradually bringingthe average collection periodto 60 days by 2005. This could be achieved by: (a) a clearing-house mechanism o f compensating accounts payable to the Government against accounts receivable from the Government and its departments, as well as other suitable mechanisms. A classical case i s EdM's debt o f 27.5 billionmeticais to Customs Administration for non-payment o f import duties against EdM's credit o f 36 billionmeticais at the Maputo Water Authority for unpaid electricity bills; (b) the expansion o f the existing "Galatee" system (sales and collectibles management) by extending it to all o f EdM's customers; and (c) follow-up o f insolvent (non-paying) customers and writing-off o f unpaid and/or non-collectable balances. - 34 -  FinancialPolicy. EdM's investmentprogram for the next six years (FY2003-2008), along with the corresponding financing plan, are summarized inthe table below. This program totals US$282 million equivalent. The financing plan is based on disbursements from committed long-term loans (US$110 million), internal cash generation (US$114 million) and financing deficithew loans (US$58 million). Therefore, about 20% o f the financing plan represents loans yet to be secured. A key challenge for EdM will be to mobilize this amount o f financing for the next six years. The main possibilities are to: (i) generate more resources internally through tariff adjustments; (ii) improve operational efficiency thereby unlocking resources for investment; (iii) obtain additional grants from donors for specific highpriority programs; and (iv) mobilize private sector financing. With respect to private sector financing, the only possibility considered at this time would be selected distribution areas with sufficient economic growth potential and therefore demand growth to attract private investments. Investment andFinancingPlan(MUS$) InvestmentPlan(Summary) 2002 2003 2004 2005 2006 2007 2008 TOTAL Yo Distribution 25.7 31.6 27.1 20.6 17.8 21.1 21.1 165.0 48.8% Transmission 29.9 26.5 11.0 14.8 3.9 16.5 16.5 119.1 35.3% Generation 0.0 0.0 0.0 3.8 3.8 0.9 0.9 9.4 2.8% Other (Studies,RegionalProjects) 0.5 12.3 11.3 11.3 0.0 4.4 4.4 44.1 13.1% T O T A L 56.1 70.3 49.3 50.4 25.5 43.0 43.0 337.8 100.0% FinancingPlan Internal Cash Generation 0 5.6 17 27.5 35 46.1 43.0 174.2 45.2% CommittedLoans 56.1 65.3 46.3 9.8 2.1 179.6 46.6% Onlent IDA Loan 0.0 0.0 3.0 8.2 13.2 7.6 32.0 8.3% African DevelopmentBank 0.0% New Loans 0.0% T O T A L 56.1 70.9 66.3 45.5 50.3 53.7 43.0 385.8 100.0% Tariff adjustments will be needed, not only to support EdM's financial strength, but also to finance an adequate share o f the investment program than currently envisaged, if the projectedborrowings do not materialize. It is important to ensure that approval is given without delay and the tariff adjustments are implemented as recommended. This will allow EdMto achieve a self-financing ratio o f around 40% in 2004 increasing to over 50% ineach year thereafter. It would also increase debt service coverage from 1.3 times (2003) to 3.2 in2008 and current ratios from 1.13 to about 1.8 inthe same period. With regard to operational efficiency improvements, an important aspect is a need for reducing system losses, which were about 18% inFY2002. The rehabilitation o f the urban and peri-urban distribution systemwill help to reduce technical losses, while the implementation of the Galatee system for the whole o f EdM's operational area would tendto reduce the non-technical losses. The combination o f these measures will result inan overall loss reduction o f 3% over the 6-year implementationperiod. Another aspect will be continued sound management o f the working capital. EdM's ability to meet debt maturities as they fall due should be monitored, so that an adequate debt service ratio o f at least 1.9 times in2004 is reached. The projectednew loans for the present expansionprogram, as well as the expected tariff increases, would keep the debt service ratio well within this limit inthe following years. On-lending Terms. The Government will on-lend US$17.35 millionto EdM. The yearly interest rate will be 5.0 percent, and the repayment period will be 20 years including a grace period o f 5 years. EdM will bear the foreign exchange risk on the on-lent amount. - 35 -  Fiscal Impact: The fiscal impact on central Government revenue o f the EdMcomponent, the project's largest 1 component, is positive. Table 1below shows the revenue flows accruing to the Government. Table 1. Revenue flows accruing to Government NPV@12% 2003 2004 2005 2006--> 2010--> 2014--* 2023 2024 IAdditionai tax revenue accruing to government I Government 17% VAT on billed EdM electricitysales 1 1 million US$: ($3.49) 0.27 0.56 0.61 0.66 0.73 0.73 Gov loss of tax revenue on EdM investm+O&M mil US$ ($4.7) -0.04 -1.17 -2.83 -1.74 -0.12 -0.12 -0.13 -0.13 Loss on kerosene taxes $0.18 -0.01 -0.03 -0.03 -0.03 -0.04 -0.04 Total government tax intake ($1.34) -0.04 -1.2 -2.6 -1.2 0.5 0.5 0.6 0.6 IDebt service Net additional revenue - Commitmentfee to IDA -0.10 -0.08 -0.03 0.00 0.00 0.00 0.00 Service charge to IDA -0.02 -0.07 -0.15 -0.15 -0.11 -0.10 Service charge to AfDF -0.01 -0.05 -0.10 -0.10 -0.07 -0.06 Service charge to NDF -0.01 -0.02 -0.05 -0.04 -0.03 -0.03 EdM interest paymentto Gov on IDA credit 0.95 0.75 0.28 0.23 EdM repaymentsto Gov on IDA credit (starting 2009) 1.03 1.03 1.03 1.03 EdM interest payments on AfDF credit 0.60 0.47 0.18 0.15 EdM repaymentsto Gov on AfDF credit (starting 2009) 0.65 0.65 0.65 0.65 EdM interest paymentsto Gov on NDF loan 0.28 0.22 0.08 0.07 EdM repaymentsto Gov on NDF loan 0.30 0.30 0.30 0.30 Government repaymentsto IDA (starting2014) -0.69 -0.69 -0.69 Government repaymentsto AfDB (starting 2014) -0.43 -0.43 -0.43 Governmentrepaymentsto NDF(starting 2014) -0.20 -0.20 -0.20 Net debt service revenue to government $8.20 0 -0.10 -0.12 -0.17 3.52 1.80 1.00 0.91 Net revenue accruing to Government from the EdM component $6.87 -0.04 -1.27 -2.69 -1.38 3.98 2.31 1.56 1.47 The table above indicates that the EdMcomponent will provide the Government with revenues o f more than US$6 millionat a 12%present value basis. These revenues are available to finance social programs that benefit the poor. The table shows that even as Government will forego tax revenue from the project investmentsand kerosene sales, it will gain VAT revenue from additional electricity sales and the interest spread on the IDA, AfDF, and NDF credits that it will on-lend to EdM. The net present value o f the incremental VAT revenue to Government on electricity sales is estimated at about US$3.5 million or more than US$0.5 million per year on average. The loss o f taxes and duties on kerosene that electricity will replace is minimal as kerosene only commands a 5 percent import duty and no taxes. 3. Technical: The key technical issue i s the introduction o f low-cost designs and equipment for grid distribution and standards for solar P V systems. Studies conducted duringpreparation have confirmed that, by using designs, equipmentstandards, procurement, installation, and maintenance procedures already tested and proven inother parts o f the world (including Ghana and South Africa) the costs o f grid distribution in Mozambique can be reduced by 20% without any compromise inperformance. To counteract the possible supply o f substandard equipment, especially by private project sponsors, minimumrequirements will be established which each concessionaire or retailer will be required to meet. - 36 -  4. Institutional: 4.1 Executing agencies: See also Section C4. The executing agencies are: the National Directorate o f Energy (DNE), the National Energy Fund(FUNAE), the Electricity Company o f Mozambique (EdM), the Ministry o f Education (MINED) and the Ministryo f Health (MISAU). 4.2 Project management: The Government institution for overall coordination, as well as overall monitoring and evaluation, is DNE, and will be assisted by a dedicated coordination unit,the Project Coordination Unit(PCU). Each o f the implementing agencies has created an implementationunit that will have direct responsibility for implementing its part o f the project inaccordance with the PIP. The implementing agencies will be strengthened through the provision o f training, equipment, and short- and long-term advisors, under the project. The long-term advisors will be provided by bilateral donors, such as DANIDA under the Energy Strategy Program Support (ESPS) program. 4.3 Procurement issues: The Country Procurement Assessment Review (CPAR) o fMozambique which was carried out by IDA in cooperation with the technical unit o f the Inter-ministerial Commission for the Reform o f the Public Sector and participation o f other donors was finalized inMay 2002. The major findings o f the CPAR showed that the Mozambicanprocurement system has serious institutional, legislative and manpower weaknesses which have a negative impact on the use o f Government funds and those from donor and international agencies. These weaknesses affect every sector o f procurement and commercial activities including imports and banking services. To correct some o f these weaknesses inthe system, the CPAR recommended the following: 0 Reform o f procurement regulations. 0 Establishment o f new policy directorate. 0 Long-term capacity buildingprograms and assistance to training institutions. 0 Addressing corruption issues. The overall procurement capacity o f DNE and FUNAE is low and the risk assessment is high. The capacity was strengthened with the appointment o f a Procurement Specialist and an Accountant for the PCU. Inaddition, some staff inFUNAE and DNE are familiar with WB procurement guidelines and procedures from their involvement inthe procurement processing o f the IDA-fundedUrban Household Energy Project (Cr. 2033-MOZ) which closed in 1999, and a minor component o f the ongoing Gas Engineering Project (Cr. 2629-MOZ). The overall procurement capacity o f EdMis average and the risk assessment is average. EdMhas some familiarity with WB procurement procedures and guidelines as it was responsible for the procurement processing for a component o f now closed IDA-fundedUrban Household Energy Project (Cr. 2033-MOZ). The project implementationunit has also handledprocurement processing for DANIDA, NORAD, SIDA, AfDF and AFD, applying bilateral procurement procedures. The overall procurement capacity o f MINEDi s high and the risk assessment is low. The project unit staff i s familiar with WB procurement guidelines and procedures due to its implementing an ongoing IDAproject (Cr. 3172-MOZ), which has not faced any procurement problems. A Post Procurement - 37 -  Review (PPR) was conducted on March 6, 2003, which concluded that MINEDgenerally complied with the agreed provisions. The overall procurement capacity o f MISAUis currently low and the risk assessment is high. The Procurement Unit (GACOPI) will be responsible for handling the procurement o f the cross-sectoral component o f the project. GACOPI i s familiar with WB procurement guidelines and procedures due to its implementing an ongoing IDA-fundedproject (Cr. 2788-MOZ). Of concern is the fact that two key staff o f GACOPIwho were responsible for fiduciary matters, resigned from M I S A U recently. The following actions are recommended for the PCU and other relevant stakeholders o f the project: 0 Assignexperienced staff who have beenworking for the AfDF-financed power projects as PCU team members prior to negotiations. 0 Update the knowledge o f the procurement staff through participation inregional Bank procurement workshops; and provide all relevant SBDs, RFPs, Guidelines and Manuals to the PCU and stakeholders prior to project effectiveness. 0 Recruit qualified and experienced consultants to assist the PCUs insupply and installation and equipmentdesign, and construction supervision. 0 Provide internal and external procurement training to the PCU staff, and other stakeholders where found necessary, throughout the project implementationperiod. 0 Ensure that the PCU staff acquaint themselves with the nation-wide initiatives for procurement reform and follow the recommendations o f the recent Country Procurement Assessment Review (CPAR) for Mozambique. 4.4 Financial management issues: An assessment o fthe financial management arrangements o f the project included a review o fthe systems o f accounting, reporting, auditing, flow o f funds and internal controls. The implementing agents' arrangements are acceptable ifthey are considered capable o f recording correctly all transactions and balances, supporting the preparation o f regular and reliable financial statements, safeguarding assets, and are subject to auditing arrangements acceptable to the Bank. The Project is at high risk until the FM and other operational systems are well defined and documented, and personnel are trained. However, the Project FMrisk inimplementation is assessedas moderate once this critical set upphase is passed. The client has been tasked with producing an FMtimeline to effectiveness that is realistic and includes realistic timingfor the procurement being started inApril 2003, namely: (i) Agent; (ii) Accounting System at DNE; (iii) Trust FM External Auditors; (iv) transaction agent (who will design operations and produce procedures manuals for the subsidy mechanism), as well as the preparation o f manuals and staff training. The FMteam will return for a review once the systems are more developed and the Trust Agent has been appointed. For the Project to fully deliver on its objectives, a FMS will be developed in accordance with the Financial Management Assessment Report presented inAnnex 6B. The overall conclusion o f the financial management assessment is that the current financial management arrangements inthe implementing agencies do not satisfy the World Bank's minimumfinancial management requirements. Inorder to establish an acceptable control environment and to mitigate financial management risks the measures outlined inthe Action Plan inAnnex 6B should be implemented. - 38 -  5. Environmental: Environmental Category: B (Partial Assessment) 5.1 Summarize the steps undertaken for environmental assessment and EMP preparation (including consultation and disclosure) and the significant issues and their treatment emerging from this analysis. An environmental and social impact analysis (ESIA) for Phase Io f the proposed APL has been prepared with a view to identify potential environmental and social impacts o f future sub-projects (distribution networks and sub-stations; diesel and gas-powered generators; solar P V systems; mini-and micro-hydropower systems) and to propose measures to mitigate such impacts (loss o f vegetation, habitat disturbances, soil erosion, soil andnoise pollution, and land acquisition). The ESIA report concluded that: (i) negative impacts on natural habitats would be unlikely given that the proposed project will be implementedinsmall rural towns or centers and inperi-urban areas where few, ifany, critical habitats are remaining; and(ii) construction of distribution lines, sub-stations, the generation plant and other project-related infrastructure is unlikely to involve land acquisition; the permanent loss o f infrastructure and other assets is likely to be minor. Wherever possible, future sub-stations will be located on public land or unused "waste" lands. Nonetheless, sub-project proposals will be screened for potential safeguards issues (see 5.2below) and appropriate measures will be taken as required to ensure compliance with safeguard policies. For example, if a sub-project would result inthe significant conversion o f a natural habitat, this sub-project would not be funded under the proposed project. Since the sites for future sub-projects have yet to be finalized and no design details (Le. distribution network plans) are available, a generic rather than a site-specific approach to preparing the ESIA report had to be adopted. Towards this end, the ESIA report outlines processes for: (i) environmental and social screening o f sub-projects; (ii) the environmental management o f sub-projects; (iii) the implementationo f sub-projects; and (iv) monitoring. It also: (i) identifies the needs and cost estimates for capacity buildingand training; and (ii) includes a Resettlement Policy Framework to address potential social impacts due to land acquisition. The above processes would be applied to Phase I1o f the APL if it were decided to finance the second tranche. Inthe event that Phase I1includes the rehabilitation and expansion o f transmission lines or other activities not included inPhase I,separate EAs would be carried out to address their environmental and social impacts. 5.2 What are the main features o f the EMP and are they adequate? Given that the sites o f future sub-projects are unknown at this time, the ESIA report for Phase Ioutlines a generic Environmental Management Plan (EMP) which will require the proponent to: (i) describe potential environmental and social impacts; (ii) propose mitigation measures and cost estimates for their implementation; (iii) describe the responsibilities, qualifications, and lines o f communications o f staff responsible for implementation o f the EMP; (iv) outline detailed plans and method statements for the elements o f construction for which such information is required; (v) prepare a monitoring plan, including institutional arrangements and cost estimates; and (vi) prepare monitoring indicators. The generic EMP also outlines the institutional responsibilities for preparation and implementation o f the sub-project EMPs, and provides sample specifications for inclusion in sub-project EMPs. Inaddition to the preparation and implementationofsub-project EMPs, the ESIA report outlines the role and responsibilities o f a Safeguards Working Group - to be supported by the Environmental Unit inthe - 39 -  National EnergyDirectorate (DNE) which will include representatives o f DNE, Electricidade de - Mozambique (EdM) and the Ministry for Coordination o f EnvironmentalAffairs (MICOA) to manage compliance with environmental and social safeguards. For the purposes o f quality assurance and assessment o f capacity building needs, the first six sub-projects will also be reviewed and cleared by the World Bank prior to approval. 5.3 For Category A and B projects, tiineline and status o f EA: Date o f receipt o f final draft: January 2003 The ESIA report has been finalized. 5.4 How have stakeholders been consulted at the stage o f (a) environmental screening and (b) draft EA report on the environmental impacts and proposed environment management plan? Describe mechanisms o f consultation that were used and which groups were consulted? Discussions were heldwith representatives o f DNE and EdMregarding the selection o f representative sub-project sites. It was ascertained that although general areas for project implementation had been considered, no specific details were available. Nevertheless, a number o f possible reference sites were selected together with DNE to serve as a basis for carrying out the ESIA. Sub-project preparation will include consultations with potentially affected people. 5.5 What mechanisms have been established to monitor and evaluate the impact o f the project on the environment? D o the indicators reflect the objectives and results o f the EMP? A monitoring plan has beenprepared for the various types of sub-projects. The ESIA report recommends that DNEbe responsible for the coordination o f the monitoring activities and the preparation o f regular monitoring reports. It i s further recommended that technical assistance be provided to DNE through: (i) the contracting o f a Technical Advisor who will assist inthe establishment o f the Environmental Unit, ongoing training o f staff through "on-the-job" training; and provide assistance to DNE to implement the environmental management and monitoring plan; and (ii) the provision o f backstopping expertise. 6. Social: 6.1 Summarize key social issues relevant to the project objectives, and specify the project's social development outcomes. There are two key social issues. First, some uncertainty remains about the willingness o f communities to accept commercially-oriented rural electrification schemes because it is likely that their tariffs will be higher than EdM's under the existing regime o f uniform national tariffs, even though three independent mini-gridswith higher tariffs are already operational. This is being addressed by discussing the commercial concepts with the community duringthe process o f selecting the sites for independent mini-grids,and incorporatingtheir suggestions and chosen compromises into the project's design. Conversely, areas where communities are more willing to accept the commercial approach, local entrepreneurs or anchor customers are interested ininvesting inthe distribution business, and/or where communities make "in-kind" contributions to project costs, will be stronger candidates for project investments. A relatedconcern with the commercial approach may arise from the proposed cost-based, regionally differentiatedtariffs on the main grid. These would entail that EdMcustomers outside the Maputo area pay higher tariffs than they do now, while those in the Maputo area may see a loweringo f the tariffs. The proposed solution to the perceivedregional inequity i s as follows: higher-use customers inthe - 4 0 -  Maputo area would continue to pay about the same average price, but a portion o f it inan explicit surcharge or electrification levy that would be transparently allocated for access expansion inthe rest o f the country. Population inthe Central and Northern regions would be offered a regulatory bargain- in return for an increase inthe average tariffs, they would get a substantial increase inaccess to electricity, partially grant-financed by the levies from the higher-usecustomers (most o f whom are inthe South). In other words, the system o f cross-subsidies would move away from implicit taxation o f Southern customers' consumption to finance the current consumption inthe rest o f the country toward an explicit taxation o f the former to finance greater expansion of connections inthe latter. A Resettlement Policy Framework outlining the principles to be applied inthe event that future sub-projects require land acquisition has been prepared. 6.2 Participatory Approach: How are key stakeholders participating inthe project? For the electrification investment components, there have been extensive discussions with service providers (EdM, potential private investors/financiers/retail dealers) and potential customers, which would be continuedduring the course o f project preparation. Visiting missions have traveled to all three o f the functioning independentmini-grids under UHEP to assess their operations, and the views and needs of consumers. Other key stakeholders: Extensive discussions have beenheldwith bilateral donors who have shown support for the proposed project concept and are happy with the Bank taking the lead inadvancing both sector reforms and new approaches to electrification tailored to the Mozambican context. The project team has had one or more meetings with other G o M ministriedagencies with some responsibilities in rural development -Ministries/Directorates o f Agriculture and Rural Development, State Administration, Health, Education, Water, and Environment -or ininvestment promotion - Ministries o f Industry, and o f Planning and Finance, and CPI (Center for Promotion o f Investments). Inaddition, several NGOs attended a meeting on renewable energy options and another workshop on solar P V meetings have also been held with provincial administrators, local entrepreneurs and local residents, all o f whom have requestedurgent support inproviding access to modern energy (electricity, inparticular). 6.3 How does the project involve consultations or collaboration with NGOs or other civil society organizations? Apart from the institutionsdirectly involved inimplementing the project, the project team has worked closely with a number o f other agencies representing the beneficiaries o f the project and the potential consumers themselves. One o f the project preparation activities concerned market assessment and stakeholder consultations. Furthermore, the role o f NGOs, micro-credit institutions and cooperatives in the supply of Solar PV systems has been examined andthe views o fthese institutions have beensought. 6.4 What institutional arrangements have been provided to ensure the project achieves its social development outcomes? A committee comprising the key stakeholders would be established to provide advice to the implementing agencies. -41 -  6.5 How will the project monitor perfomiance interms o f social development outcomes? Monitoring and evaluation plans have been outlined for each component and are being detailed ineach PCU. The results o f the monitoring and evaluation (see Annex 2) would be made available for inclusion inahouseholdsurvey, which will becarried out outside the project/program. The baseline data will come from a householdsurvey planned for 2003. 7. Safeguard Policies: 7.2 Describe provisions made by the project to ensure compliance with applicable safeguardpolicies. To ensure that potential environmental and social impacts o f the proposed project are addressed, an Environmental and Social Assessment Report and a Resettlement Policy Framework have been prepared (see 5.2 above). F. Sustainability and Risks 1. Sustainability: The sustainability o fspeczjic investments depends on whether the geographic area inquestion has reasonable potential for catalyzing economic growth and expanding the market for electricity. For example, whether some "anchor customers" (such as an agro-industrial enterprise or some public service institutions) exist, and whether the rules for cost recovery and performance targets for subsidies are complied with. This i s being ensured by carefully selecting areas o f demonstrated ability and willingness to pay at least the operating costs o f electricity provision. The adoption o f a program approach with a small "learning by doing" first phase ensures gradual nurturing o f the local markets and capacities so as to ensure the long-term sustainability o f rural electrification investments under the project and acceleration o f these investments beyond the period when grants cease. Over time, sustainability will come from barrier removal, cost reductions, rising incomes, and declining grants. Furthermore, as the Government plans to finance the electrification fund via a levy on energy mega-projects and grid-based electricity, the need for external grants to support electrification will decline. For solar PV systems, the decline incosts will come from: (i) economies o f scale -which are often realized when a credible expectation o f a large market has been created; (ii) formation o f links to lower-cost suppliers abroad; and (iii) rising incomes, which will increase the affordability o f the systems. Furthermore, the GEF grant per unit for solar PV systems is also expected to decline over time. - 42 -  la. Replicability: The key assumptions underlyingviability and replicability are that cost-reductions will be realizedand incomes will rise. For the renewables component, giventhe GEF share o f 20-25% intotal costs, it is reasonable to expect that cost reductions and income increases over a number o f years will offset the need for such support after the project is over. For the independent grids, the output-based grants will helpaccelerate expansion and commercial viability so that the businesses are able to generate surpluses to contribute towards further expansion after the project i s over. Subsidies will, however, be required for new schemes, and these will be provided through levies as well as external funding. The planned TA/CB activities will support "learning by doing" and incorporatingmid-term revisions and corrections along the way taking care to reduce grant dependencies o f individual sub-projects. The sub-component to identify productive uses o f electricity for income generation, especially inthe rural areas, will further help ensure sustainability and replicability, inthat it will identify areas where energy (especially electricity) is a barrier to increasing income generating activities inthe communities, and recommend ways o f removing such barriers. The Government will disseminate the recommendations, as well as information on the overall electrification program, to the public and energy service providers. 2. Critical Risks (reflecting the failure o f critical assumptions found inthe fourth column o f Annex 1): The highest riski s associated with the investments inprivate-sponsored independent grids and renewables, inthe first phase o f the program. This is due to limited capacity on the part o f the Government, a weak regulatory set-up and, consequently, the investment riskperceivedby the private sector. For the first phase, therefore, the value o f these components has beenkept relatively low, compared to the lower risk national grid-based (EdM) component, which is designedto provide the largest impact inthis phase. For the EdMcomponent, use will be made o f supply and installation contracts and the work will be divided into several lots, with subsequent lots commencing only upon EdM's satisfactory previous performance. This component stands alone and would not be affected by failure o f the other components. For the private-sponsored components, substantially large amounts have beenprovided for technical assistance inthis "learning-by-doing" phase inorder to ensure their success. Furthermore, with implementation o f the proposed reforms, EdMis expected to be better-placed by the second phase to scale up access expansion. The reformcomponent is not without risk,and the riskis due to the utility's and other stakeholders' resistance to change and the possibility o f lack o f interested private sponsors. However, the Government has shown its commitment to reforming EdMby agreeing to have Cabinet approval o f the Distribution publidprivate partnership proposal prior to Negotiation, and the private participation option allows for flexibility. - 43 -  Risk Risk Rating Risk Mitigation Measure ~~ ~ From Outputs to Objective 1. Government and other stakeholders S Provide support to help Government overcome are not committed to sector reforms and obstacles, and ensure that future support will be the policylregulatory changes. contingent on steady advancement on the reforms front. 2. There i s limitedaffordability and M Affordability will be enhanced by promoting resistance to commercial approaches. income-generating uses o f electricity, and acceptability o f commercial approaches will be enhanced through consensus-building programs. 3. Institutional capacity o f MIREME is S The recommendations o f a recently carried out weak. institutional diagnostic study will form part o f the project scope; technical support will be provided by bilateral donors and short-term consultants. 1. Procurement capacity ofthe S Ensuringthe PCU staff acquaint themselves implementingagencies is weak. with the nation-wide initiatives for procurement reform and follow the recommendations o f the recent Country Procurement Assessment Report (CPAR) for Mozambique. From Components to Outputs 1. There is limitedpotential to use S Project sites have beedwill be carefully Zlectricity productively. selected to ensure there is potential; the project also aims to promote productive uses and indirect benefits. 2. Private sector and financial S Output-based grants, and possibly a credit institutions are not interested in enhancement facility, will be provided; the participating; cost-based tariffs are not private sector will have access to funds from iccepted. the IDA-financed PODE project. 3. Institutional users are unable to pay S The capital cost will be paid by the project; for P V systems and maintenance. commitment will be sought from local authorities to create a budget line for maintenance, which i s expected to be less than the current expenditure on energy. 4. Financial Management Control Risks: M The proposed financial management (FM) arrangements are properly implemented, the [lliquidity delaying project FMaction plan satisfactorily addressed in implementation through lack o f practice and a separate Project Coordination :ounterpart funds in fiscal year 2003. Unitis set upat central andprovincial levels. Delays inimplementation due to poorly iefinedprocedures for inter-agency :ooperation infinancial management and :eporting. Delays inimplementation due to the need - 44 -  to design the subsidy mechanism only after the transaction agent is mobilized. Overall Risk Rating S An advisory body, consisting o f the various stakeholders, will be established to oversee the implementation o f the project, and it will be able to call on experts for assistance. Furthermore, the program is designed so that failure o f one component has minimal impact 3nthe rest o fthe program. Risk Rating - H (High Risk), S (Substantial Risk), M (Modest Risk), NI legligible or Low Risk) 3. Possible ControversialAspects: (i)Provisionofsubsidiestotheprivatesector. (ii) participationinEdM. Private G. Main Loan Conditions 1. Effectiveness Condition (a) The Subsidiary Loan Agreement has been executed on behalf o f the Borrower and EdM. (b) The GEF Grant Agreement has beenexecuted and delivered and all conditions precedent to its effectiveness or to the right o f the Borrower to make withdrawals thereunder, except only the effectiveness o f the Development Credit Agreement, have been fulfilled. (c) The Borrower and EdMhave each opened a Project Account. (d) The Borrower and EdMhave fulfilled the financial management conditions set out inan action plan agreed upon with the Association, such plan including but not limitedto: (i) the establishment o f financial management and information systems ina form and substance that is acceptable to the Association; (ii) the appointment o f two relevantly qualified external auditors (one for EdMand one for DNE);(iii) employment o f financial management staff with experience and qualifications satisfactory to the Association; (iv) preparation of the financial management manual; and (v) appointment o f a Trust Agent that is acceptable to the Association to manage the disbursement o f Subproject Financing from the DNE Special Account, the GEF Special Account, and preparation o f the Trust Agent Procedures manual. (e) EdMhas employed a consultant with qualifications and experience satisfactory to the Association, to review its assets and current policy on insurance, and subsequently propose a suitable insurance strategy for EdM. 2. Other [classify according to covenant types used inthe Legal Agreements.] Financial Performance (i) EdMshall maintaina ratio of current assets to current liabilities equal to or greater than 1.3 from 2004. (ii) EdMshall reduce the level of receivables to 90 days by December 2004 and 60 days by December 2005. - 4 5 -  AccountsfAudit (i) The accounts for each o f the implementing agencies shall be audited by auditors acceptable to IDA, and shall be submittedto IDA within 6 months ofthe endo f the fiscal year. Management Aspects (i) The implementing agencies shall retain professional management and staff, and shall inform IDA o f any changes inthe top management. Implementation (i) The Government shall implement an EdMrestructuring plan as agreed with IDA. (ii) The implementing agencies shall implement the project inaccordance with the agreed ImplementationPlan (including the Environmental Management Plan and the Resettlement Framework). (iii) Each implementing agency shall maintain a project coordinating unit with qualified personnel, including an accountant and a procurement specialist; the coordinatingunits inDNE and EdM shall also include an electrical engineer. (iv) The implementing agencies shall carry out annual reviews and a mid-term review under TOR acceptable to IDA. Monitoring and Reuortinq (i) The implementing agencies shall prepare quarterly project management reports and annual progress reports, which they shall review with IDA. - 46 -  H. Readiness for Implementation a1. a) The engineering design documents for the first year's activities are complete and ready for the start o f project implementation. 1. b) Not applicable. 2. The procurement documents for the first year's activities are complete and ready for the start of @ 3. The ProjectImplementationPlanhas been appraisedand found to be realistic andof satisfactory project implementation. 04. quality. The following items are lacking and are discussed under loan conditions (Section G): I. Compliance with Bank Policies 1. This project complies with all applicable Bank policies. 2. The following exceptions to Bank policies are recommended for approval. The project complies with all other applicable Bank policies. ReynoldDuncan Praful C. Pate1 Darius Mans Team Leader Sector Director Country ManagerlDirector - 4 7 -  Annex 1: Project Design Summary MOZAMBIQUE: Energy Reform and Access Project Key Performance Data Collection Strategy Hierarchy of Objectives Indicators Critical AssumDtions Sector-related CAS Goal: iector Indicators: Sector/ country reports: from Goal to Bank Mission) 0 Developing 0 Investments indomestic 0 Utility/GoM annual 0 Infrastructure infrastructure. energy infrastructure and reports. investments expand export-oriented energy economic growth projects. opportunities and contribute to poverty alleviation. 0 Promoting rural 0 Increase inrural access 0 Household income or 0 Broad-based rural development and to, and consumption of, expenditure surveys. development, and agriculture. modern energy. sharing o f aid benefits 0 Increase output from Enterprise surveys. reduce rural poverty. productive use of modem energy. 0 Improved delivery o f Surveys o f social service social services. institutions. :EF OperationalProgram: Promote the adoption o f renewable energy Size o f renewable 0 Enterprise surveys. 0 Greater use o f renewable technologies. electricity sector energy helps mitigate (excluding large hydro). global warming. 'rogram Purpose: ind-of-Program Indicators: 'rogram reports: from Purpose to Goal) Improvement in the 0 Number o f households 0 Household survey reports. quality o f life o f and institutions with peri-urban and rural access to modern forms of Impact evaluationreports. communities i s facilitated energy (about 1 million through the provision o f people will have direct modern energy. access). 0 Support the effort towards 0 Improved health facilities 0 Surveys o f the relevant 0 Modern energy is achievement o f four and services due to social service institutions. essential for improved MDGs -- reduce child electricity provision. delivery o f social mortality, improve 0 Improved teacher living services. maternal health, achieve conditions due to universal primary electricity provision. 0 Project supervision education, ensure 0 Increased adult classes reports. environmental due to electricity sustainability. provision. 0 Reduced carbon dioxide emissions (estimates based on number o f renewable systems installed). - 48 -  GEF Operational Program: lutcome I Impact ndicators: 0 Barriers are removed and 0 Reduced cost o f Project supervision 0 Barrier removal and local implementation costs o f renewable systems, in reports. capacity buildingare renewable energy are particular solar PV. effective ways o f reduced. More rapid growth o f the 0 Enterprise surveys. promoting renewable solar P V market. energy. Project Development htcome I Impact 'roject reports: from Objective to Purpose) Objective: ndicators: 0 The use o f electricity for 0 Viable electricity 0 Project supervision 0 Private sector can bringin economic growth and providers, including EdM reports and impact additional capital and use improved quality o f life in (based on their evaluation reports. it more efficiently. underserved areas i s profitability and their accelerated in a ability to connect the commercially viable estimated 60,000 manner. consumers). 0 Mozambican capacity to 0 Effective negotiationof 0 EdMoperational reports. Staff i s available and car expand the energy sector at least 3 private sector 0 Performance audit o f be retained. is strengthened. concessions and private MIREME. partnership in EdM. 0 Reports by participating financial intermediaries. 0 Regulatory reports. 0 EdM's operational 0 EdMfinancial and Cross-sectoral links are performance improves (it performance audits. established to ensure becomes profitable and i s electricity i s used to able to contribute increase productivity and substantially towards to improve social investments). services. 0 The elimination o f 0 Increase in the numbers of 0 Impact evaluation The progress achieved barriers that impede viable solar distributors report. will be sustained. renewable energy and other renewable development is initiated. energy businesses (by at least 2), including micro hydro. 0 G o M adoption o f a renewable energy development plan. - 49 -  .- I Key Performance lata Collection Strategy Hierarchy of Objectives Indicators Critical Assumptions Output from each htput Indicators: roject reports: 'om Outputs to Objective) Component: 1. Power Sector Reform 0 EdM is reorganized along 0 N e w EdM structure. 0 Consultant and quarterly B The new sector structure profit centers. 0 Private partner in progress reports. is attractive to the private 0 There is private sector Distribution. 0 G o M decrees. sector and there i s investment inEdM's 0 Publisheddecrees. credible private sector Distribution business. 0 Separate public-owned interest in EdM. 0 A regulatory framework is transmission company. established. 2. M a i n Grid Electrification 0 Expanded customer base 1 Number o f new connections EdMproject reports. Low-cost options and other on the main grid in (40,000 in the first phase Customer satisfaction efficiency improvement several parts o f the and 60,000 in the second surveys. measures are mainstreamed. country. phase). Customer satisfaction Acceptability o f commercial 1 Extent o f cost reductions (at surveys. approach can be increased least 20%). by promoting indirect benefits o f electricity access. 0 3 new independent grids 1 Minimumnumber o f Quarterly progress reports are established by the concessions awarded. and operators' annual private sector. 1 Number o f new connections reports. (10,000 inthe first phase Customer satisfaction and 20,000 inthe second surveys. phase). 4. Renewable Energy and Cross-sectoral links 0 Increaseduse o f solar 1 Number and total size Implementation and 0 Action plan for renewable P V systems inrural (kWp) o f solar P V systems supervision reports for the energy capacity building areas. soldinstalled inrural institutional market i s realistic and has strong 0 Prices o f solar P V institutions (300/1075) and program. Government commitment. systems come down. households (2500/ 8500). Market surveys for solar P\ 0 A renewable energy 1 Minimumnumber and system prices in development plan i s geographic dispersion o f Mozambique and prepared, along with a retail solar P V comparisons with price market development and distributorships. trends inother countries. outreach program. 1Preparation and adoption o f Distributorhstomer 0 There i s greater future plans acceptable to satisfaction and preference awareness o f renewable the Bank and other donors. surveys. technologies and supply chains. 0 Aprogram for micro-hydro - 50 -  0 MIREMEstaff are better 0Minimumnumber of trained 0 Quarterly progress report. Transparency inthe award trained, and prepare and staff. External performance o f concessions. execute properly Minimumnumber of reviews. formulated work plans in concessions successfully a timely manner. negotiated and awarded. 0 There are successful negotiations on private concessions. - 51 -  Key Performance lata Collection Strategy Hierarchy of Objectives Indicators Critical Assumptions 'roject Components I nputs: (budget for each .eject reports: om Components to jub-components: :omponent) rtputs) . Power Sector Reform JS$6.12 million Consultant and quarterly There i s consensus among progress reports. stakeholders on the proposedreform program. G o M i s committed to private sector involvement inEdM. !. MainGridElectrification JS$41.OO million Consultant and quarterly Inperi-urban areas and progress reports. small towns there are pockets o f affordability to use electricity productively. 3. Independent Grid JS$16.38 million Consultant and quarterly Private investors and Electrification progress reports. financial institutions are interested inparticipating. Cost-based tariffs are acceptable and affordable in private sector concession areas. Inrural areas and small towns there are pockets o f affordability to use electricity productively. 1. Renewable Energy and JS$9.55 million Consultant and quarterly Institutional users are able Zross-sectoral Links progress reports. to pay for their solar P V Businessplans for solar P V systems and their dealers. maintenance. Retail distributors are interested and can import and stock solar P V systems without grant financing o f working capital. Awareness campaign successful, and pockets o f affordability exist. 5 .Institutional Strengthening JS$8.47 million Consultant, training and MIREMEemployees can k Capacity Building quarterly reports. take advantage o f training opportunities and continue to work for MIREME. Private businesses need and can take advantage o f the support offered. - 52 -  Annex 2: Detailed Project Description MOZAMBIQUE: Energy Reform and Access Project By Component: Project Component 1 US$6.12 million - Power Sector Reform This component will consist o f three parts: (i) separation o f EdMinto several business units, which is ongoing with financing from DANIDA; (ii) Private Sector Participation (PSP) inEdM's Distribution and Supply business by a strategic private investor; and (iii) creation o f separate corporate public entity to provide transmission assets andperform system operation, with a possible interim role as single buyer. A preliminary report on EdM's Separation ofAccounts was issuedinDecember 2001. Itrecommends the separation o f EdMinto several businesscenters, including Distribution, Transmission and Generation. The remaining consultancy work on the separation (US$2 million) and roll-out o f the recently installed information systems to the regions (US$1 million), will be supported by AfDF, DANIDA under the Energy Strategy Program Support, and directly by EdM. For the Private Sector Participation (PSP) inEdM'sDistribution and Supply business, the project will fundseveral pre-investment activities, includingrevaluationo f assets, environmental analysis, drafting o f concession agreements, tariff studies, as well as assist in stakeholder consultations. The work will be led by a transaction advisor who, inthe bidding phase, will assist with the preparation o f a request for proposals, negotiations and financial close. The third sub-component (funded by AfDF) will involve assistance to the Government in legal and operational establishment o f a fully functional public-owned transmission company and system operator, with possibly an interimrole as single buyer. Unlike Distribution capitalization, it will also support institutional strengthening o f the new entity. Monitoring and Evaluation. The output indicator will be percentage completion and the impact indicator will be efficiency o f the power sector (measured by the operational performance o f EdM). Project Component 2 US$40.30 million - Grid-based Peri-Urban Electrification Inthe first phase, the project will finance: (i)technical assistance to develop and mainstream lower cost standards and designs appropriate for rural and peri-urban areas, where the demand and level o f affordability are lower than inurban areas; (ii) consultancy services for design, bidpreparation and evaluation, construction management and supervision; (iii) construction o f about 500 kmo f medium voltage lines and 1,100 kmo f low voltage line and erection o f about 240 distribution substations; (iv) updating o f the distribution planning facilities and provision o f the required training; (v) supply o f vehicles, tools and specialized equipment for operating and maintaining the extended distribution network, and for planning and project management; and (vi) construction o f operational facilities at some o f the sites. - 53 -  Implementation will be through turnkey contracts. However, owing to the wide spread o f the sites and small size o f some o f them, the selected contractor(s) may have to subcontract some o f the work to local contractors. The preparatory studies have shown that savings can be realized by using, for instance: (i) single-phase or 3-phase designs selectively dependent on load; (ii) construction for low voltage and dual mediumvoltage lines; (iii) longer span lengths; (iv) flat rate meters; and (v) pre-assembled wiring. The studies have demonstrated that reductions o f at least 20% inthe average infrastructure cost, are possible. Preliminary designs have been prepared for 6 sites inMaputo and Tete. It i s estimated about 40,000 new connections will be made inthe first phase o f the program, and a further 16,000 twelve years thereafter with minimal reinforcement to the network. The following provinces will benefit from this component: Nyasa, Zambezia, Tete, Manica, Nampula, Sofala, Inhambane, Cab0 Delgado and Maputo. Inthe second phase, after a strategic private partner is inplace in EdMDistribution, the financing o f access expansion out o f the credit (where subsidies are required) shall be through the established subsidy mechanism. Monitoring and Evaluation The output indicators will be percentage completion, including the numbero f new customers connected (about 40,000 inthe first phase) and change inthe cost o f electrification (estimated to be reduced by at least 20%). The impact indicator will be the customers' revealed willingness to pay for improved energy services (measured by the level o f arrears and also the number o f customers connected). Project Component 3 US$ 16.38 million - IndependentGrid RuralElectrification Inthe first phase theproject will support a few investments to test the viability ofthe concession arrangements and o f competitive subsidy mechanisms. Implementationwill be by private sponsors. Due to the non-viability o f most rural schemes andthe implication o f this on tariff levels, the National Energy Fund(FUNAE) will channel capital subsidies through the private sector. The institutional and financing arrangements for the rural electrification and renewable energy fund are presented in Section C4. A credit enhancement facility intended to encourage local and regional commercial banks to provide commercial loans at competitive rates to private sponsors to carry out small to medium-sized energy investments may be provided under the first phase as a pilot and rolled out inthe second phase. Another source o f debt funding will be the IDA-fundedPODE project, which i s already inplace and provides debt financing to SMEs at more favorable terms than the commercial banks. The bulko f the sub-projects to be supported under this component will be developed during the first phase o f the program. The two that have beenprepared are presented below. The capital costs included inthe project cover investments over the first phase o fthe APL. Northern InhambanePower System Concession (US$5million) A concession will be granted to a private operator to supply electricity at the endo fthe current three-year management contract. Pre-qualification o f potential concessionaires is underway. The natural gas-based, state-owned but privately managed mini-gridsare the result o f a pilot effort inthe late 1990s, which provided power to Vilankulo, Inhassoro and Nova Mambone, innorthern Inhambane. There are over 500 customers connected to the mini-grids. The demand growth for several months since - 54 -  the commencement o f operation in 1998 was about 10% per month. The peak demand has now reached the installedcapacity at Vilankulo and the existing systemcannot supply additional customers. The concessionaire will be expectedto invest insystem expansion. The total investmentrequirements for the next five years is estimated at US$5 million, as shown inthe following table. Approximately 50% of this is in generation expansion and 50% indistribution expansion. Most of the investment (75%) will be requiredat Vilankulo. Over the 5-year period the number o f consumers is expected to increase to 5,000. TotalInvestments(US%) Mocimboa da Praia (US$0.40million) The town i s currently suppliedfrom a diesel-fueled genset, which the concessionaire will be expected to replace. It will also need to rehabilitate and expand the distribution network. Within the next 8 years the national grid will reach Mocimboa da Praia, at which time the concessionaire will switch to grid supply. The table below shows the estimated demand growth and capital requirements o f the site. Montepuez also has an independent power system, currently under a management contract. Both Montepuez and Mocimboa da Praia are inCab0 Delgado Province and the two could be combined to form a larger concession area. TAfor Preparation of Other Schemes (US$1.38million) Transaction advice is already being provided by NORAD for the North Inhambane mini grids, the first that are to be concessioned out under the project, while information packages have beenprepared for the other three schemes -- Morrumbala, Malema, and Mocimboa da Praia. A consultant will be retained for the preparation, marketing, bidding,negotiation support, and assistance infinancial close for other sites the Government intends to bringto the market inthe first phase o f the program. The consultant will also assist invetting unsolicited proposals. - 55 -  Productive Uses of Electricity and Information Dissemination (US$0.2million) This will involve a study to identify productive uses o f electricity for income generation, with particular attention to women and the young unemployed inthe rural areas. The study will identify areas where energy is a barrier to increasing the income generating activities inthe communities, and recommend ways o f removing those barriers. The recommendations o f the study will be disseminated to the public and to potential and existing concessionaires. The component will also support dissemination o f information on the overall electrification program. Monitoring and Evaluation The output indicators will be the number o f concessions awarded, percentage completion, and the number o f connections. The outcome indicators will be customer revealed willingness to pay and economic growth. The latter will be assessedthrough independent impact evaluation reports. Project Component 4 US$9.55 million - Renewable Energy and Cross-sectoral Linkages Investments (US$5.97million) The renewable energy component will provide support for investment inrenewable energy activities through a performance based co-financing grant facility managed by FUNAE. Similar to the independent grid rural electrification component, the co-financing grant will support the investment on an output basis which, for the renewable energy system, will materialize indisbursement o f the funds after the systems have been installed satisfactorily and written proof o f this with the client's signature has been provided to FUNAE. Complementary financing for the investment projectswill be raised through private equity, private/Government debt financing (including from PODE), or additional subsidy provision through biddingfor the concessional and cross-sectoral packages (see below). Co-financing GEF grants will be provided on a Wp basis, as follows: US$2.9 per Watt for institutional systems (US$5.1 per Watt for first phase; US$1.7 per Watt for second phase), US$2.5 per Watt for home and mobile systems (US$5.5 per Watt for first phase; US$1.8 per Watt for second phase), and US$0.4 per Watt for micro-hydro, biomass, or other renewable energy system that i s near commercial and has the promise o f developing a sustainable commercial market inthe country and (US$0.6 per Watt for first phase; US$0.3 per Watt for second phase). For the Health sector the project will finance, intwo provinces, 83% o f the capital cost (IDA + GEF) o f the energy packages (including solar fridges) for Health Centers Type 1-3 that meet the eligibility criteria established by MISAU. The energy packages will be supplied and maintainedby the private sector and M I S A Uwill be responsible for covering the annual recurrent cost o f maintenance contracts. For the Education sector the project will finance, intwo provinces, 83% o f the costs (IDA + GEF) o f energy packages for secondary schools, existing ZIPSand resource centers, and for primary schools that meet the eligibility criteria established by MINED. The energy packages will be supplied and maintained by the private sector and MINEDwill be responsible for covering the annual recurrent cost o f maintenance contracts. - 56 -  The scope o f the Health and EducationCross-sectoral components is summarized inthe following tables. ICapitalCosts US$ 1Number of 1 ADDroximatecost Der I Total Cost Health facilities Energy Package ' Nampula 50 12,920 646,000 Zambezia 50 12,920 646,000 Nation wide 50 12,920 646,000 IFinancingUS$ I IDA 1 GEF Grant I GOM I Nampula 374,680 161,500 109,820 Zambezia 374,680 161,500 109,820 Nation wide 374,680 161,500 109,820 Total 1.124.040 484.500 329.460 A ~ aRecurrent lus$ Number of health Indicative 0 & M cost Total Cost facilities Der Enerav Packaae Nampula 50 350 17,500 Zambezia 50 350 17,500 Nation wide 50 350 17,500 Total 52,500 I Schools I Energy Package ' IZambezia I 50 I 5,320 I 266,000 I Nation wide 50 5,320 266,000 Total 798,000 IFinancingUS$ I IDA I GEF Grant I GOM I Zambezia I 154,280 I 66,500 45,220 Nation wide 154,280 66,500 45,220 Total 462,840 199,500 135,660 Annual Recurrent Number of Indicative 0 & M cost Total Cost costs us$ Schools per Energy Package Nampula 50 350 17,500 Zambezia 50 350 17,500 INation wide 1 50 I 350 I 17,500 I Total 52,500 - 57 -  Technical Assistance (US$3.58million) The technical assistance program will support the objective o f creating a sustainable market for renewable energy systems which inturn will contribute to the overall objective o f achieving rural economic transformation through targeted, least-cost electricity provisions. Any barrier for achieving the objective that is identified by the local key stakeholders or individual participants inthe program and for which a resolution i s proposed could inprinciple tap into two technical assistance windows. The first window will be a cost-shared financing window, and the second the full cost window. Greater emphasis will be on cost-shared activities, with full-cost activities only rewarded inexceptional cases. Awarded assignments will be linked to key deliverables that are derivatives o f the above-stated objectives. The cost-shared technical assistance scheme will require a 20 to 80 percent company contribution. The trigger for support of a proposal will be the clearances o f (i) an independent two/three persons panel; and (ii) FUNAE. Prior review from IDNGEF will be requiredfor all proposals during the first two years o f operation. The following activities have beenidentified during preparation: (a) solar PV: business plan preparation, training o f staff, promotion activities; (b) hydro: detailed feasibility studies, training o f staff; (c) biomass: detailed feasibility studies for bagasse and other biomass-based proposals; (d) wind: resource analysis; and training o f technicians and management; (e) building o f capacity: organizing industryassociation; and (f) rural transformation and income-generating activities. Most o fthe awarded technical assistance support will fall under this window. Thefull-cost technical assistance scheme focuses on the "bigger picture issues" that are constraining the rate o f growth o f the industry or renewablehral energy sector. The trigger for support o f a proposal will be the clearances of: (i) an independent panel; (ii) FUNAE; and (iii) key stakeholders inthe sector. three Prior review from IDNGEF will be requiredfor all proposals during the first two years o f operation. The following activities during preparation have beenidentified:(a) solar: international exchange o f technologies; (b) wind: macro-level mapping; (c) rural transformation and income-generating activities; (d) quality control and consumer protection; (e) local private sector support (market study, businessto business support and other technical assistance); (f) rural outreach and consumer awareness; and (g) development o f financing instruments. Also, new companies inthe sector could receive an one-off preparation grant up to US$lO,OOO for business plan development productive uses program i s integrated -- -- and an additional US$4,000 if a which will be for the largest part disbursed after a commercial finance institution has approved the companies` requested debt. TechnicalAssistance (TA)for the cross-sectoral components will be provided to operationalize the ERAP health and education component. This will include the development o f the energy guidelines & criteria for eligibility, and develop the energy packages as well as information kits on energy packages for the provinces. Inaddition, the TA will be used for capacity buildingand monitoring and evaluation. Monitoring and Evaluation The PCUwill provide quarterly progress reports as the main instrument o f monitoring progress. Performance formats and indicators as currently agreed (see Annex l), will be employed for all renewable energy and cross-sectoral projects. Duringimplementation o f the first year o f operation a detailed monitoring and evaluation program will be designed that will, inparticular, address the energy and impact issue. - 58 -  Project Component 5 US$8.50 million - InstitutionalDevelopmentand Capacitv BuildinK The component will comprise the strengthening o f the energy institutions under the Ministry o f Mineral Resources and Energy (MIREME) and helping establisWoperationalize others that were provided for in the 1997 Electricity Law. It will help ensure optimal working relationships between the energy institutions and provide the necessary training, hardware and software. The following are the proposed sub-components: Operationalizing CNELEC& Creation of an Independent Regulator (US$O.90 million) The project will helpestablish CNELEC to carry out its responsibilities o f dispute resolutionand mediation, and at the same time prepare for its transformation into an independent regulator. It will support a specialist inmediation, legal and contractual issues, training of CNELEC staff (included under Institutional and Capacity Building) and the provision o f some office hardware and software (included under Hardware and Software). Furthermore, the Government plans to transfer the regulatory duties, currently carried out by DNE,to CNELEC, in 2005. As a prerequisite, the following work will be done, intwo phases: Phase 1: A study to assess and recommend specific steps to transform CNELEC into an independent regulator. Phase 2: Revisions to the Electricity Law, including enabling legislation to empower the regulator, in accordance with the recommendations o f the above study. Training of Energy Staff (US$0.50 million) The amount will finance training as recommended inthe Institutional Diagnostic Study report, for staff in the key Energy institutions of MIREME. Itwill include short management courses, as well as courses in Energy Planning, Energy Conservation, Renewable Energy, Rural Electrification, Subsidy Administration, Regulation and Administration. The training will be provided through local workshops or seminars, and by local regional and international institutions. A detailed first year training program will be provided inthe Project ImplementationPlan. Motor Vehicles, Offlce Equipment, Hardware and Software (US$0.35 million) The amount will finance office equipment and motor vehicles required by the Project Coordination Unit, including FUNAE and DNE, as well as support the implementation o f an IT strategy for the key energy institutions. Preparation of Phase 2 (US$O.dO million) The amount will finance consultancy work needed to prepare the second phase o fthe program. - 59 -  Environmental Management (US$O.76 million) The project will support the following recommendations o f the ESIA report inorder to strengthen the environmental management capacity necessary for the effective implementation o f the investment components o f the project. Environmental Unit. Establish a small EnvironmentalUnit inthe National Directorate o f Energy (DNE), comprising existing staff. These core staff will be responsible for ensuringthat environmental considerations are incorporated into all components o f the proposed project. Environmental Management Training. Training inenvironmental management will be provided not only to the staff members who are part o f the EnvironmentalUnit,but also to heads o f departments as well as technical staff o f various sectors involved inthe project. Ofparticular importance are the Rural Electrification, Solar, Licensing and Inspection, and Energy Conservation Sectors o f DNE. This training should be provided to both DNE and EdM staff, as the latter agency is also currently establishing an Environmental Unit. The training will be inthe form o f local short courses designed by independent consultants and tailored to environmental conditions and problems specific to the project components. ESIA TechnicalAssistance. The ESIA report recommended that technical assistance be provided to DNEthrough the contracting of a Technical Advisor. The TechnicalAdvisor will: (i) inthe assist establishment o f the Environmental Unit;(ii) provide ongoing training o f staff through "on-the-job" training; (iii) identify other suitable training courses for key staff; and (iv) provide continuous assistance to DNE inimplementing the environmental management and monitoring plans. The Technical Advisor will be contracted for a 3-year period. Inaddition, backstopping expertise will be provided to monitor and measure specific components o f the socio-economic and biophysical environment. TAfor Gas and other Mega-projects (US$3.86 million) To assist the Government innegotiating concessions and contracts for mega-projects, the project will support technical assistance required for the Gas Pipeline project as well as other projects currently under discussion, including coal and hydropower. To maximize the value o f natural gas resources through generation o f export earnings and domestic uses, the G o M requires technical assistance and training to support policy formulation, institution buildingand negotiation o f contracts with private sector parties, The project will provide the following technical assistance and training: (a) DNE: Since Mozambique will receive higher benefits from marketing its royalty gas inthe domestic market than selling it to Sasol Gas o f South Africa, it i s important for DNEto articulate appropriate gas policies and strategies to create an enabling framework for private investments in domestic gas infrastructure, consistent with both public interest, and the generation o f adequate returns to investors. The project will provide consultants and advisory services to assist DNE with formulation o f appropriate gas sector policies and negotiation o f individual transactions for use o f gas inthe domestic market. The project will also finance consultants' services to assist MIREMEin analyzing options for privatization o f ENHsubsidiaries and recommending specific options for implementation. - 60 -  (b) DNCH: Giventhe importance of accelerating oil/gas exploration, the project will finance consulting services and training to help D N C Hbuildup and maintain a digital data base o f all the petroleum data available inthe country; articulate fiscal and other policies to attract private investors; buildup skills innegotiatingpetroleumconcessions; and efficiently monitor the activities o f companies under concession contracts. Inthe short-term staff training and consultants support will be required to enable the DNCHto monitor the proposed Southern Africa Regional Gas Project under which Mozambique will export gas to South Africa inaccordance with contractual obligations. (c) ENH: Since the Government is a 30% partner (through ENH)inthe field development and central processing facility and participation inthe pipeline i s envisaged under the gas export project to South Africa, it needs to have at its disposal, adequate skills and systems (including data processing equipment) to manage its share inthe project. Thus the project will finance: (i) international and local legal advisers to assist with the completion o f negotiations o f outstanding agreements under the project; (ii)residentlegaladvisertoassistinaddressinglegalissuesarisingduringtheimplementationphase; a and (iii)international financial advisors to advise with the project financing arrangements and an internationalAoca1 financial expert to develop and operate the financial accounting, management and reporting systems. Financing will also be provided for training o f ENHtechnical, legal and finance staff to enable them to effectively participate inthe various management committees established under the contracts for the project. Project Coordination (US$1.40million) The amount will finance the operational costs o f the coordination units, including staff and short-term consultants that will assist with monitoring and evaluation. -61 -  Annex 3: Estimated Project Costs MOZAMBIQUE: Energy Reform and Access Project Local Foreign Total Project Cost By Component US $million US $million US $million Power Sector Reform 1.01 4.33 5.34 Grid-basedPeri-urbanElectrification 8.11 28.31 36.42 Independent Grid RuralElectrification 3.73 10.91 14.64 RenewableEnergy & Cross-sectoralLinks 2.45 7.10 9.55 InstitutionalDevelopment& Capacity Building 2.04 6.43 8.47 Total Baseline Cost 17.34 57.08 74.42 Physical Contingencies 1.26 4.19 5.45 Price Contingencies 0.41 1.24 1.65 Total Project Costs1 19.01 62.51 81.52 Total Financing Required 19.01 62.51 81.52 Local Foreign Total Project Cost By Category US $million US $million US $million Goods 0.48 1.32 1.80 Works 9.93 32.65 42.58 Services 4.05 13.67 17.72 Training 0.58 2.46 3.04 Sub-projects funded by the MECS 3.97 12.41 16.38 Total Proiect Costs' 19.01 62.51 81.52 I Total Financing Required 1 19.01 I 62.51 I 81.52 I 1 identifiable taxes and duties are 4.91 (USSm) and the total project cost, net o f taxes, i s 76.61 (USSm). Therefore, the project cost sharing ratio is 52.55% of total project cost net of taxes. - 62 -  Annex 4: Cost Benefit Analysis Summary MOZAMBIQUE: Energy Reform and Access Project [For projects with benefits that are measured in monetary terms] costs: 38 43 5 US$ million Net Benefits: 18 -4 US$ million IRR: 23 9 Oh 0 The above flows relate to the EdMgrid intensification component, the largest project component. 0 The difference between the presentvalue o f economic and financial benefits is large because the economic benefits include the estimated consumer surplus, while the financial benefits derive from EdM'stariffs including VAT. 0 Present values are discounted at 12%. 'Ifthe difference between the present value o f financial and economic flows is large and cannot be explainedby taxes and subsidies, a brief explanation o f the difference i s warranted, e.g. "The value o f financial benefits i s less than that o f economic benefits because o f controls on electricity tariffs." Summary of Benefits and Costs: - 63 -  Incremental Energy Total No of energy supply Energy incremental consumers demand requirement Investments O&M purchases costs Benefits Net benefits Year MWh MWh Million US$ Million US$ Million US$ Million US$ Million US$ Million US$ 2003 0 0 0 0.7 0.0 0.0 0.7 0.0 -0.7 2004 0 0 0 7.4 0.0 0.0 7.4 0.0 -7.4 2005 22,538 30,814 35,066 16.8 0.3 0.4 17.5 4.0 -13.4 2006 47,122 64,552 73,460 10.1 0.8 0.8 11.7 8.4 -3.2 2007 48,144 66,013 75123 0.2 1.o 0.8 2.0 8.6 6.6 2008 49,165 74,370 84,633 0.2 1.o 1.o 2.1 9.2 7.0 2009 50,187 83,377 94,883 0.2 1.o 1.1 2.3 9.7 7.4 2010 51,209 85,162 96,915 0.2 1.o 1.2 2.4 9.9 7.5 2011 52,231 86,948 98,947 0.2 1.o 1.2 2.5 10.1 7.7 2012 53,253 88,734 100,979 0.2 1.o 1.3 2.5 10.4 7.8 2013 54,274 90,520 103,011 0.2 1.1 1.4 2.6 10.6 7.9 2014 55,296 92,305 105,044 0.2 1.1 1.5 2.7 10.8 8.1 2015 56,318 94,091 107,076 0.2 1.1 1.5 2.8 11.0 8.2 2016 57,340 95,877 109,108 0.2 1.1 1.6 2.9 11.2 8.3 2017 58,361 97,663 111,140 0.2 1.1 1.7 3.0 11.4 8.4 2016 59,383 99,448 113,172 0.2 1.1 1.8 3.1 11.6 8.5 2019 60,405 101,234 115,204 0.2 1.1 1.9 3.2 11.8 8.6 2020 60,405 101,234 115,204 0.0 1.1 2.0 3.1 11.8 8.7 2021 60,405 101,234 115,204 0.0 1.1 2.0 3.2 11.8 8.7 2022 60.405 101234 115.204 0.0 1.1 2.1 3.2 11.8 8.6 2023 60,405 101]234 11512041 0.0 1.1 2.2 3.3 11.8 8.5 2024 60,405 101,234 115,204 -0.02 1.1 2.3 3.4 11.8 8.5 NPVs @ 12%: 26 6 7 38 56 17 NPVs @ 10%: 27 7 9 42 67 25 EIRR: 22.7% AIC @ 12%: 0.073 US centslkWh Investment cost/connection: 619 US $/connection Main Assumptions: 1. EdMGrid-Intensification Economic benefits. The economic benefits relatedto the incremental demand served by the project are the sum of two components: (i) saving inresource cost from serving demand inthe without project the case; and (ii) the value o fthe incremental demand served inthe with the project case over the level of demand served inthe without the project case. The analysis calculated the saving inresource cost as the cost o f small amounts o f kerosene lightingand back-up diesel generators for higher income households. The analysis derivedthe value o fthe incremental demand for new residentialconsumers by estimating a semi-log demand curve with the shape o f the following form: Q=A+B*Ln(P), where A and B are constants and are derived from observed behavior of households with and without access to electricity supply. The analysis includes an adjustment factor o f 0.8 to reduce the possibility o f overestimating the consumer surplus. To take into account the income effect, the analysis estimated the benefits separately for households with three income levels -low, medium, and high. The low income is taken as the minimumwage, the middle as EdM's consultant's (COWI) estimate o fincome levels insample neighborhoods, and the high is Government and EdMestimate. Field observations indicate that the majority o f unelectrified households use kerosene for lighting and that they use the equivalent o f between 12 and 24 kWh per month at an average cost o f US$0.21 per kWh. The fuel and maintenance cost o f a small diesel generator is about US$0.24/kWh. The estimate o f the average electricity consumption per - 64 -  connection inthis analysis is about 115 kWhlmonth initially rising to about 140 kWWmonthwith maturing consumption at EdM'sforecast tariffs. This i s considered reasonable when compared to the average consumption o f EdM's current domestic consumers of almost 200 kwhlmonth given that the new consumers are likely to be lower income. The 140 kWWmonthis, however, somewhat lower than that proposed by COWI. The reduction inthe monthly consumption was agreed with EdMas there was little evidence to verify the existence o f the highincomes requiredto be able to afford the highest levels o f consumption inthe consultant's analysis. Table 4.2 below illustrates the demand and supply situation in the "with the project" case and inthe "without the project" case. Insum, the analysis estimated the weighted average economic benefit at about US$0.13 per kWh. Inaddition to the above benefits, there is likely to be additionalbenefits inthe form ofincreased small business activity, as well as health and education benefits as clinics and schools are connected to grid electricity in some areas. There is no data available to quantify these benefits at this stage; hence they are not included inthe analysis. It is also likely that consumption per connection will increase with the increase inhousehold incomes over time. Economic costs include capital investment and incremental operation and maintenance costs, incremental energy purchases exclusive o f taxes, and environmental mitigation and resettlement costs (about US$1.5 million). Costs are inconstant 2002 prices. Since the local cost component i s less than 10% o f the total capital costs, the analysis did not shadow price it as it does not have a major impact on the results. The estimate o f the average incremental cost o f supply i s about US$O.O73/kWh. Table 4.2. Summary of demand and supply situationwith the project and without the project: Demand and supply EDM component With the project: Demand 61,000 new residential consumers' intial averageuse of 115 kWh/month increasesto 140kWh/month over the years. 75% consume 80 kWmonth or less initially. Supply EdM Grid Without the project: Demandand Supply Kerosene for lighting, batteriesfor TViradio, and back-up diesel generators. 0 International crude oil price: US$21 per barrel as per World Bank's forecast (base case). 0 Network energy losses: 12% o f generation. 0 EdMtariffs without VAT: $/kWh Social tariff < 50 kWhlmonth: 0.04 50 85 kwl-dmonth: 0.05 86 165 kwhlmonth: 0.08 166 330 kWWmonth: 0.09 331 496 kWh/month: -- -- 0.11 0 VAT at 17 % is levied on 62% of electricity consumption. 0 Kerosene use according to COWI: Cost Reduction Strategy Study, October 2002: about 5 literslmonthlhousehold on average. 0 Kerosene price build-upas per DNEprice formula of February 2003. - 65 -  0 0 & Mcost: 2% ofinvestmentsannually plusUS$6.2pernew connection. 0 Energy cost: US cents l/kWh initially; increasing to US cents 2/kWh by 2024. 0 Economic life o f investments is 20 years. Sensitivity Case EIRR Base case 23% +20% increase in capital and 0 & M costs 18% -20% decrease inbenefits 17% +20% increase in capital and 0 & M combined 13% with 20% decrease inbenefits Switching values: The NPV @ 12% switches from positive to negative if: 0 Benefits are 35% lower or 0 Investment costs are 60% higher. RiskAnalysis: The quantitative risk analysis o f the EdMcomponent assessedthe impact on the component's economic returns o f uncertainty in underlyingassumptions and predictions. To deal with this uncertainty, the analysis assigned probabilities to the values o f the key variables. The key variables and the probabilities of the values these variables will assume inthe future, emerged from the Bank's and Government's estimates. The stochastic nature o f the project's outcome was modeled usinga commercially available riskanalysis program. The model determined the expected EIRR and NPV with their probability distributions through a "Monte Carlo" simulation process. Chart 4.1 below shows the probability distribution o f the expected EIRR. Table 4.2 shows the list o f the risk variables and the probabilities assigned to them. - 66 -  Chart 4.1. Frequency Distribution of EIRR EdM Grid Intensification Component 1 Frequency Distribution of EIRR % 100 , I 10% 16% 22% 29% 35% Elm(%) The expected EIRR is 22 percent, which i s a little lower than the point estimate inthe base case. This reflects the skewness o f some of the probability distributions usedinthe risk analysis.  Table 4.4 Assumptions inriskanalysis Variable Formof probability distribution Values Investmentcost Triangular -50%,base cost, +50% Crude oil price Triangular 16$ibbl,2l$ibbl, 25$ibbl Delay inproject start Discrete 25% probability of one year delay Average monthly electricity consumptionper Discrete iew householdconnection --- Middle Low -20 kWh, 50 kWh, 60 kWh -60 kWh, 80 kWh, 100 kWh High -100 kWh, 240 kWh, 290 kWh Correlation: Low to middle: 0.5 Low to high: 0.5 2. NorthInhambaneMini-mid The economic analysis o f the North Inhambane mini-grid uses demand forecasts agreed with FUNAEas those prepared by the consultant (SAD-ELEC) who carried out the feasibility study in2001 were considered somewhat optimistic. It was agreed with FUNAEthat a realistic connection target for the area i s about 2,500 new customers by the end of year 2008. Table 4.5 below shows the forecast number o f new connections from 2004 to 2008. Table 4.5. Forecast ofnew connections inNorthInhambane minigrid (cumulative) North Inhambane 2004 2005 2006 2007 2008 Vilankulos New residential 125 375 675 975 1,275 New commercial & Industrial 11 36 45 54 63 lnhassaro New residential 50 125 225 325 425 New commercial & Industrial 2 10 12 15 17 Nova Mombane New residential 50 125 225 325 425 New commercial & Industrial 3 10 13 15 18 Developments along roads New residential 56 111 166 221 276 New commercial & Industrial 2 4 6 7 8 Total 299 796 1,367 1,937 2,507 The existing mini-grids inVilankulos, Inhassaro and Nova Mombane supply less than 600 customers. The forecast rate o f connections is higher than that observed inthe past because o f the estimated significant unmet demand inthe area, which is rapidly developing its tourism potential and fish - 68 -  processing industries. Overall, there are 171 consumers waiting for a connection, 39 o f them are commercial enterprises. The commercial enterprises operate their own diesel generators. FUNAE's consultant, SAD-ELEC has prepared demand forecasts and electrification costing for Vilankulos, Inhassaro and Nova Mambone and evaluated the financial viability o f the proposed concession. The consultant concluded that the concessionaire would require an average revenue o f US$0.2l/kWh for financial viability. Giventhat the existing average tariff is about US$O.O7/kWh, this would result in a substantial tariff revision. To increase the attractiveness o f the concession while at the same time maintaining the affordability o f electricity supply, Government has decided to provide OBA based subsidies to the future concessionaire to moderate tariff increases. It i s clear, however, that the tariffs have to increase from their current levels. This analysis assumes that with the OBA subsidy, tariffs could be maintained at around US$0.12 - 0.14/kWh. The actual level o f subsidy will be defined duringimplementationonthe basis ofbidsreceived. Benefits. The economic analysis defines the component's benefits interms o fthe incremental demand that i s met under the "with the project" case relative to the much lower level o f demand that could be served if no new supply capacity was added to the system. The analysis values the benefits o f incremental demand usinga similar approach to the EdMgrid intensification component. The analysis estimates the benefits separately for newly connected household, existing households, and commercialhndustrialenterprises. Also, it estimates the benefits separately for the towns o f Vilankulos, Inhassaro, and Nova Mombane because o f their different demand and income characteristics. Inaddition to the savings inresource costs from servingdemand inthe "without the project'' case (in terms o fkerosene lightingand small diesel generators), the benefits for new householdconnections include the area under the consumers' estimated demand curve for electricity services. Since the true shape o f the demand curve is not observable, the benefits are valued on the assumption o f a semi-log demand curve o f the form: Q=A+B*lnP that passes through two knownpoints: the lower case point represents the substitution o f existing methods o f lighting and i s a saving inresource costs. Field observations indicate that the majority o f unelectrified households use kerosene for lighting and that they use the equivalent o f between 12 and 24 kWhper month at an average cost o f US$0.21 per kWh. The upper case point i s the consumption rate o f an electricity consumer at the mini-gridtariff plus VAT. For a new consumer inVilankulos, this point is definedas 1,000 kWh/year initially (about 1/3 o f the average household consumption inVilankulos in2002) at about US$O.14 per kWh (the forecast tariff including VAT in2002 prices). The lower level o f consumption for new consumers isjustified because the projected tariff increase will moderate demand and because new consumers will take a few years to build up their consumption. The consumption level o f a new consumer inInhassaro andNova Mombane is assumed to be lower - 760 kWWyear and 480 kWh/year respectively because o f the lower existing - consumption and generally lower incomes. The analysis assumes further that households' electricity consumption will mature to a higher level infour years. The benefits for existingconsumers increasing their consumption is very conservatively valued at the forecast tariff (about US$O.l4/kWh), since it is difficult to define whether it is the highvalue or the low value area o f the consumer's demand curve that the project will serve. For commercial and industrial consumers, the value o f economic benefits are the avoided financial cost o f self generation - a resource saving. The estimate o f the avoided cost varies with the size o f the diesel generator. Based on data from diesel suppliers inMozambique, the analysis has estimated the cost o f owning and operating a 50 kVA diesel set at about US$0.2l/kWh o f which US$0.16 is for fuel. Smaller sets could cost about US$0.29/kWh. The smaller sets generally have higher investment costs per kWh and higher specific fuel consumption. The costs include local taxes on fuel and the capital cost o f - 69 -  equipment (diesel sets below 75 kVA are exempt from VAT). The economic cost of gasoline and gasoil include local taxes o f an equivalent o f US$O.19 and US$O.13 per liter, respectively (at a crude oil price o f US$2l/barrel). The combined average benefit for residential and commercial consumers works out to about US$O.18/kWh. Costs. Economic costs are the difference between power system costs for meeting the full forecast demand "with the project" and the system costs o f meeting a lower level o f demand inthe "without the project" case. The OBA subsidy is included as a project cost, since it i s considered to be fungible to the country ina sense that an equivalent subsidy would be available for another project ifthis one were not to proceed. The analysis assumes further that inthe "without the project" case, the Inhassaro and Nova Mombane mini-gridswould continue supplying the existing consumers and some additional demand with investments already inplace plus some additional rehabilitation o f the Vilankulos mini-gridto improve the reliabilityof supply to the existing consumers. The following assumptions are made; all costs are in constant 2002 prices: 0 Total investment cost: US$4.3 million. This cost includes a 2.4 MW gas turbine and distribution extension. 0 Gas cost: price o f gas exports to RSA (about US$0.74/GJ) plus 70% o f gas transport costs (to take account o f transfers). At a crude oil price o f US$2l/barrel, the total gas cost is US$1.15/GJ. 0 Fuelefficiency of gas turbines: 69.4 kWh/GJ. 0 Annual 0 & M: 2% of investment cost. 0 Distribution losses 10% o f generation. Table 4.6. Summary of demand and supply situationwith the project and without the project inNorth Inhambane: Demandand supply NorthInhambane component With the project: - New residential consumers' average monthly consumption increases from an initial 70 kWhto 140 kWh. 2,400 newresidential consumers connected. - 335 existing residential consumers increase their consumption: 3% annually in Vilankulos and Inhassaro and 2% annually inNova Mombane - Industrial and commercial consumption reaches 4.4 GWh in20 10. Number o f industrial and commercial mini-gridconsumers i s 370. I SUDDIV Mini-grid.Natural gas generation. Without the project - Households use kerosene for lighting,batteries for TVhadio, and back-up diesel generators. - 335 residential consumers connected to mini-grids use an average o f 275 kWh, 160 kWh, and 100 k W h per month in Vilankulos, Inhassaro and Nova Mombane respectively. - Industrial and commercial mini-grid consumption is 2.3 GWh in2003. Number o f industrial and commercial mini-grid customers is 270. - Unconnected industries operate own diesel generators. 3 mini-grids with natural gas generation. Kerosene. diesel. - 70 -  Sensitivity Analysis: Table 4.7 Results o f Sensitivity Analysis ISensitivitv Case I EIRR 1 I Base case I I 15% i +20% increase in capital and 0 & M costs I 12% -20% decrease in benefits 13% +20% increase in capital and 0 & M combined with 20% decrease inbenefits 10% Crude oil urice declines to US$16/barrel 14% The results o f the sensitivity analysis indicate that project outcome is sensitive to demand levels foremost. A lower than expected demand combined with increases ininvestment costs can switch the project's N P V from positive to negative. These two variables should be monitored closely during implementation. The case with the lower crude oil price is interestingsince the lower price will cut gas costs (the export price o f gas is pegged to the international crude oil price) and hence lower system operating costs. However, lower crude price would also cut kerosene prices. This would result in lower avoided costs and hence lower economic benefits. The net result inthis case is a reduced EIRR. Generation8 Incremental Distribution Trans. Incremental Incremental Total Net Demand Generation Generation investm. investm. O&M Gas Total cost benefits benefits MWh MWh MWh US$ '000 US$ '000 US$ '000 US$'000 US$ '000 US$ '000 US$ '000 2003 3,230 3,585 0 297 1,880 0 0 2,177 0 -2,177 2004 3,884 4,312 727 624 0 13 12 649 123 -526 2005 4,837 5,370 1,785 462 167 26 29 685 307 -378 2006 5,735 6,365 2,781 445 0 38 46 529 470 -59 2007 6,815 7,565 3,980 445 0 50 66 560 658 98 2008 8,045 8,930 5,345 0 0 63 88 151 900 749 2009 8,588 9,532 5,948 0 0 67 98 165 985 819 2010 9,131 10,136 6,551 0 0 72 98 170 1,069 900 2011 9,527 10,575 6,990 0 0 75 115 190 1,128 939 2012 9,527 10,575 6,990 0 0 75 115 190 1,138 948 2013 9,527 10,575 6,990 0 0 75 115 190 1,147 957 2014 9,527 10,575 6,990 0 0 75 115 190 1,147 957 2015 9,527 10,575 6,990 0 0 75 115 190 1,147 957 2016 9,527 10,575 6,990 0 0 75 115 190 1,147 957 2017 9,527 10,575 6,990 0 63 75 115 253 1,147 894 2018 9,527 10,575 6,990 0 1,191 75 115 1,381 1,147 -234 I 2019 9,527 10,575 6,990 0 627 75 115 817 1,147 330 20201 9,527 10,575 6,9901 0 -1,6391 75 1151 -1,4491 1,1471 2,5961 NPV Q 12%: $0.6 million NPVQ 10%: $1.2 million IRR 14.5% Mocimboa da Praia The economic analysis for this component calculated the project's incrementalcosts and benefits as the - 71 -  difference between the "without the project" and "with the project" cases. Inthe "without the project" case, the municipality would upgrade the 15 year old 400 kV diesel generator so that the system could continue supplyingthe existing 170 consumers four hours a day. Inthe "with the project" case, the concessionaire will upgrade both the generating capacity and the distribution network duringthe period 2004-2008 to supply an increasing number o f consumers. From2009 onwards, the concessionaire will connect the mini-gridto EdM'snational grid, and retire the diesel generators for back-up duty. Since the interconnectionwill allow the concessionaire to reduce consumer tariffs, the analysis assumes that the rate o f householdconnections will increase at that time and also that the large industries will connect to grid supply. There are currently about 10 large and medium industries and commercial establishments which when combined, have some 300 kW installed capacity o f diesel generators and generate about 800 MWhannually. At the end of the project, Mocimboada Praia will have about 2,200 mini-gridconnections, 2,060 of which are households. The estimate o f electricity demand will increase from 200 MWhin2002 to about 4,000 MWhin2015. Inthe immediate future, the construction o f the MultifunctionalMarket, which is scheduled to open in 2004, will boost electricity demand. Similarly the hotel, restaurant, seafood processing and other developments currently underway will require a reliable supply o f electricity. The basis for the demand forecast is a study by IED in September 2002 but it i s reduced somewhat after discussions with DNE and taking into account estimates o fhousehold incomes inthe area by Austral Consutatoria e Projectos Lda inNovember 2002 and data on households' consumption levels collected in the 1996/97 Household Survey. Benefits. Similar to the approach for the EdMand the NorthInhambane components, the analysis o f the Mocimboa da Praia calculates the benefits separately for new households, existing households, and industrial/commercial establishments. The difference inthe approach is that the benefits for new household consumers have to be calculated separately for households connecting to electricity supply before and after the mini-gridi s connected to EdMbecause the electricity tariffs, and thus demand change. Before interconnection, tariffs will be high on account o f the high supply cost o f diesel generators. IED consultants calculated that Government needs to subsidize the investment costs by 30 percent to 50 percent to achieve a reasonable tariff level, Le., about US$O.lS/kWh for mediumand large domestic and commercial consumers. After interconnection in2009, the tariffs will be closer to EdM's projectedtariffs of about 0.09/kWh for larger consumers andUS$0.04/kWh for small household consumers. The analysis assumes that after the interconnection, households will increase their demand for electricity to compensate for the "increased income" they receive as a result o f the tariff reduction. Since there i s limited data available on the current household electricity demand (electricity i s not metered) and the households' income levels, the analyses takes guidance from the 1996/97 Household Survey and electricity consumption inother mini-gridsinMozambique. A field survey by Austral Consutatoria e Projectos Lda inNovember 2002 also provides guidance on households' consumption preferences and their willingness to pay for electricity. The benefits from existingconsumers' increasing demand is conservatively valued at the mini-gridtariff o f about US$O. 1YkWh for reasons discussed under the North Inhambane component. Kerosene and diesel generator usage and costs are the same as inthe analyses for EdMand North Inhambane. For commercial and industrial consumers the analysis uses the avoided financial cost o f diesel generation as the value o f benefits. For those large commercial and industrial enterprises connecting to the - 72 -  mini-gridthat currently operate a diesel genset, the value ofthe substitute demand includes the cost of diesel fuel, and operation and maintenance o f the genset (Le., about US$O.l7/kWh at a crude oil price o f about US$2l/barrel). This figure is close to the results o f a field survey o f a number o f existing industries that indicated that they would be willing to pay about US$O.16lkWh for mini-gridsupplied electricity. For other industries the value includes also the investmentcost o f a diesel genset, increasing the value to almost US$0.25/kWh. This value assumesthat the new industries will be smaller than the existing ones; hence their genset efficiencies will be lower. All things considered, the average benefit for all customers comes to about US$O.18/kWh. Costs, Economic costs are the difference between power system costs for meetingthe forecast demand with this project and the system costs without the project. Similar to the North Inhambane case, the OBA subsidy is included as a project cost since it is assumed that ifthe IDA credit didnot finance the subsidy, the credit would be available for other projects inMozambique. The analysis assumes that inthe "without the project" case, the Mocimboa da Praia municipality will rehabilitate the existing generators and the network to facilitate continued supply to the existing consumers for 4 hours per day with satisfactory reliability. The following assumptions are made; all costs are inconstant 2002 prices: 0 Total investment cost: US$1.4 million. This includes two diesel generators, distribution network extension and rehabilitation, and a portion o f the EdMinvestment inthe 11 kV and 33 kV transmission lineconnecting Mocimboada Praia to the national grid. 0 Annual 0 & M: 3% o f investment cost. 0 Distributionlosses 10% o f generation. 0 Transmission losses 4% o f supply. 0 Electricity purchase cost: starting at US$O.Ol/kWh and increasing to US$O.O2/kWh inreal terms. 0 Fuel efficiency o f diesels: 0.33 l1kWhfor new diesels and 0.37 l/kWh for the existing ones. Table 4.9 Summary o f demand and supply situation inthe with the project and without the project cases Demandand supply Mocimboa da Praia component With the project Demand - New residential consumers use 70 kWWmonth on average before grid connection increasingto 135 kWWmonth on average after grid connection. 2,060 new residential consumers connected b y 2015. - 143 existing residential consumers increase their consumption: 3% annually before grid connection and 5% annually after gridconnection. - Industrialand commercial grid electricity consumption increases to 946 M W h in 20 15. Supply Mini-grid. Diesel generationup to 2009 thereafter connected to E d M grid. Without the project Demand - Kerosene for lighting, batteries for TViradio, back-up diesel generators. - 143 residential consumers connected to mini-grid use an average o f 100 kWWmonth. Supply II- Industries and commercial establishments use own diesel generators. Mini-gridwith dieselgeneration. Kerosene, diesel. - 73 -  Table 4.10. Summary of benefits andCosts of Mocimboada Praiamini-gridcomponent System Total Industrial 8 No of Energy Energy supply Incremental Incremental Incremental Energy incremental Residential commercial Net consumers demand requirement Investments 0 8 M Fuel purchases costs Benefits Benefits benefits Year MWh MWh '000 US$ '000 US$ '000 US$ '000 US$ '000 US$ '000 US$ '000 US$ '000 US$ 2003 170 200 222 235 0 0 0 235 0 0 -235 2004 180 206 229 21 7 0.4 0 28 0 0 -28 2005 306 357 397 8 8 14 0 29 23 0 -6 2006 370 508 565 45 10 30 0 85 29 28 -29 2007 447 673 747 145 10 46 0 201 35 54 -111 2008 542 760 844 378 15 54 0 448 43 62 -342 2009 784 1,271 1,412 128 26 59 6 220 77 100 -44 2010 1,027 2,250 2,499 49 30 -18 32 93 111 166 183 2011 1,272 2,549 2,832 78 32 -18 37 130 139 173 182 2012 1,518 2,816 3,129 79 34 -18 43 138 167 174 203 2013 1,766 3,084 3,426 79 37 -18 49 147 195 176 224 2014 2,016 3,353 3,725 80 39 -18 55 156 223 177 245 2015 2,268 3,623 4,025 52 41 -18 61 137 252 179 293 2016 2,268 3,623 4,025 0 41 -18 63 87 252 179 343 2017 2,268 3,623 4,025 0 41 -18 65 89 252 179 341 2018 2,268 3,623 4,025 0 41 -18 68 91 252 179 339 2019 2,268 3,623 4,025 0 41 -18 70 94 252 179 336 2020 2,268 3,623 4,025 -365 41 -18 73 -269 252 179 699 NPV@12% $1,018 $639 $594 $216 NPV@10% $1,134 $786 $722 $374 ElRR % 16.3% 1) negative investmentcost in 2020 is a residualvalue of investment. - 74 -  Table 4.11. Results o f Sensitivity Analysis Sensitivity Case 1 EIRR Base case 116% I +20% increase in cauital and 0 & M costs 112% I -20% decrease in benefits 11% +20% increase in capital and 0 & M combinedwith 20% decrease inbenefits 1% Industrial demand -50% 10% Solar PV Component This component will install about 1,600 solar home systems (SHS) o f40 Wp capacity and 900 small mobile systems o f 12 Wp capacity. The project will subsidize the cost o f the systems through a GEF grant of US$2.6 per Wp. There will be no additional Government subsidies. Experience in other countries shows high willingness to pay for the improved level o f lighting, radio listening, and TV viewing that solar P V systems provide compared to kerosene lightingand batteries. These benefits are representedby the saved resource costs when compared to the "without the project" case and by the increase inconsumer surplus because a SHS will provide greater level o f service (this analysis draws from the economic analysis o f the Philippines solar P V system project by Peter Meier in October 2002). To calculate the consumer surplus, the analysis estimates demand curves for lumen-hours and radio/TV listeninghiewing-hours. Inline with the analyses o f the other project components, the shape o f the demand curve is assumed to be semi-log o f the form Q=A+B*lnP. The lower-case point o f the demand curve is represented by the quantity-price pair o f lumen-hours from a kerosene lamp consumed at the prevailing price o f kerosene (584 lumenhourdyear at 10 U S centdlumen hour). The upper-case point is the quantity-price pair o f lumenhours from SHS lighting at the financial SHS consumer cost (1,460 lumenhours/yr at 4 US centdlumen hour). The lower and upper case points for radio/TV are 438 hourdyear at 5 U S centdhour and 1,095 hourdyear at 2.5 U S centdhour respectively. Affordability should not be a major issue since a household's expenditure on lighting and radio/TV are at the same level inthe with the project case and the without the project case - about 5 US$/month for lighting and 2 US$/month for radio/TV. Finally, the analysis assumes that 50 percent o f the SHS output and costs is allocated for lighting and 50 percent for radio/TV. The analysis assumesthat inthe "without the project'' case, households use a typical Petromax kerosene lamp, which delivers 400 lumens per hour. Further, households use the lamps an average of 4 hours per day. Survey data indicate that kerosene consumption in Mozambique varies with incomes and that the average consumption o f households interested in SHS could be inthe order o f 6 literdmonth. For the SHS, the light output i s assumed to be about 50 lumens/W. Assuming 4.2 peak sunlight hours per day, the SHS would be capable to provide some 160Wh per day. Economic project costs are defined as the investment cost o f SHS and the annual expenditures on bulbs, controller, and batteries excluding taxes. The GEF subsidy is subtracted from the economic cost, since the analysis assumesthat it would be available only for this project inMozambique. Thus, its opportunity cost is zero. Under these assumptions the ERR is an acceptable 25 percent. Ifthe GEF subsidy was included as a project cost, the ERRwould drop to 14percent. Table 4.12 shows the economic benefit and cost flows for the 1,600 SHS to be installed under the project while Table 4.13 illustrates the build-upo f the economic cost o f one SHS. - 75 -  Table 4.12. Summary ofbenefits and costs of the 40 Wp solar home systems. - - NPV@ I ! 13% 'Year 4 Year 3 Year 3 /Year 4 Year 6 --> /ear In ~UIJiiInocosts. PW , 1 i 1I I i~iiocatcdCost of tdal PV cost 50% ,I tFinancialcaptala O&Mcos4to consumcr (cxcl GEF grant) _ _ $331 101 18 58 18 ~ 35 34 1I "I- L _$33: 59 5!."_. 50 -SO., 50 _I 50 8,249 1,460 1",460 1,460 IL460 0 1,460 I ?rylightingconsumer cost Sfmonth W l nd 84 Y Liylitiiiy GUI~I, kw u ~ e i i i I I I<oroocnooonoumption ldcro I ~ 58 58 58 581 58 58 Kerosene consumptionUS$ $90 16 16 16, 16 16 16 ~ Petromaxlamp investment c 0 s t - u ~ '$20Q 70 0 70 0 " 0 I70 Wrk,~AIITPSpqwndfiiirp IIS$ $71 , d dl 4 4 4 j I mal tinancial cost ot Kerosene llmtlng Y;.w, tlud 2u, YU LUI YL 2U KerO lip" I000 lumennoursyr 3,300 584 584 584 584 584 584 ,Karu hytiLiiiy ~ u aBAuriiaiit1y.u l 80.10 j Kei o liyltiny costhnonth , $47 RadinjTJf! PU-em " - ^ " " - " . - - :inancia! cost to consumer lexcl Citk CiVantl All?rattPd.rn+fs nfjntal P"Vrnd 'in4 I ~ " " _ " - _ $155 l j 4 - I _ _ " U U U 1 _U 'FiiMII L ILUDIS VGIIL~~ ~ I G $155 I 27 27 27 27 27 27 PV non-liyltiny houisbi G,107 '1,095 1,095 1,095 IL095 1,095 1,09z PV cost non-liyltiny 9hout $0 025 PV cod non-lighting$/month - $2 3 I I I RadioCTV: Battery I ,- .Dry cell exaendnure gNr - 1 2 21 2 2 'EaLLery Ltiaryiity B; axpai idiLuk $4, $10 2l 1 I $113 20 20' 201 20 2c 20 TVhaclio vicwiny houisty1 1 2,472 430 430 430, 430 43c 430 TVfRaclio cost 9houi $0 050 TVlRadio viewing cost $honth $1 .8 I I 8 3Benefttsof PV iiclhtina 1000US3 $778 0 I64 164 164 I64 I64 a ~ ~ ur PV radiur 1000iUS$ ~ ~ e ~ ~ I 0188 0 35 35 35 , 35 35 ,Totaleconoinic costs 1000 US$ $709 303 40 153 4G 93 30 'Notconoumcr bcncflto 1000 US$ $175 (383) 152 , 46 , !52 , 105 100 hlPV@l2% FRR Inaddition to the monetary benefits, solar PV systems also avoid air-emissions and burninjuries associated with kerosene use. These avoided environmental and health damage costs represent benefits that increase the level calculated above. - 76 -  Table 4.13. Make-up of the economic costs o f a one 40 Wp SHS (US$). -4 6--> 10' I I ' t - Downpaymce $M " ~ 50% ?104<# " 7 4 I GEF 2 6 1-74, Financial c o d 461I iFinancc 01 234 Loan rcpaymcntc 35% 0/(234) 0 0 0 0 '1033 duty 13% -291 , Ic33 -VAT 17% -61 I '1033 inccmc tax on dcalcr marginnct of cxpcn3co 35%, -151 iI IC33 tran3fcr3 -27' , I IC33 CEF-~uboidy _I -1041 - -I Economic capital coat $188 211' 0 0 01 0 01 ~ ;08Mcoata I Oulbs $110 35 0 3: 0 35 I O , hCcntrollcr I $76 01 0 45 0 0 , 15 35 -351, 3s Financial c o dto &"cr I I I * 35 70 68 'less VAT 1776 (5CU) -G -G -21: -G -12 -11 'Economic 08M coat $203 ' 23' 20 9C 29 58 56 1 Tdal ) I Cconomic Cost $401 240 29 9: 29 501 5G The analysis also reconciled the economic and financial flows o f the SHS component to allocate the costs and benefits among the consumer, the solar P V dealers, local financial institutions, and GEF. This reconciliation shows that the Government i s among the winners. This is due to the taxes and duties it will collect from the SHS systems. This revenue more than compensates the revenue loss from kerosene taxes that are much smaller than taxes on P V systems and components. The team recommends that the Government review the taxation o f solar P V systems during the project's first phase with the objective of achieving a more level playing fields between the different energy systems. - 77 -  Annex 5: Financial Summary MOZAMBIQUE: Energy Reform and Access Project Years Ending June 1 Year1 I year2 I Year3 I year4 I Year5 I Year6 I Year 7 Total Financing Required Project Costs Investment Costs 4.0 19.1 35.5 23.0 0.0 0.0 0.0 Recurrent Costs 0.0 0.0 0.0 0.0 0.0 0.0 0.0 Total Project Costs 4.0 19.1 35.5 23.0 0.0 0.0 0.0 JTotalFinancing 4.0 19.1 35.5 23.0 0.0 0.0 0.0 Financing IBRDllDA 3.0 11.3 17.1 8.8 0.0 0.0 0.0 Government 0.4 1.1 1.1 0.4 0.0 0.0 0.0 Central 0.4 1.5 1.6 0.4 0.0 0.0 0.0 Provincial 0.0 0.0 0.0 0.0 0.0 0.0 0.0 Co-financiers 0.3 3.1 10.5 8.2 0.0 0.0 0.0 User FeeslBeneficiaries 0.0 1.3 3.2 3.2 0.0 0.0 0.0 EdM 0.2 1.4 2.5 1.4 0.0 0.0 0.0 GEF 0.1 0.9 1.1 1.o 0.0 0.0 0.0 Total Project Financing 4.0 19.1 35.5 23.0 0.0 0.0 0.0 Main assumptions: - 7%-  EdM Financial Summary Historical Income Statement U S $ t h o u s a n d 1 9 9 8 1 9 9 9 2 0 0 0 2 0 0 1 A v e r a g e E x c h a n g e R a t e ( O O O ' M T / U S $ ) 10 13.2 1 7 2 3 0 perating Revenues 79,353.5 65,468.3 6 0 , 6 2 3 . 8 5 4 , 7 4 2 . 1 E l e c t r i c i t y R e v e n u e s 78,481.8 64,717.0 60,196.0 53,985.4 0 ther Revenues 8 7 1.7 7 5 1.2 4 2 7 . 8 7 5 6 . 7 Operating expenses 81,234.9 63,918.4 62,545.4 53,857.7 P u r c h a s e d E n e r g y 12,000 .o 8,518.5 11,142.5 8,669.7 F u e l s 6,000 .O 3,540.0 5,192.0 5,223.1 M a t e r i a l s a n d E q u i p m e n t s 6,407.9 4,055.2 5,296.4 4,740.7 P e r s o n n e l 14,411.3 15,023.9 13,080.8 13,048.7 M aintenance a n d Services 12,065.6 9,567.1 7,296.3 7,439.7 O t h e r 2,377.3 2,183.4 3,722.5 3,103.5 D e p r e c i a t i o n 2 7,9 7 2 . 8 21,030.4 1 6 , 8 1 4 . 9 11,632.3 Operating Income (1,88 1.4) 1,549.8 (1,921.6) 8 8 4 . 4 E x t r a o r d i n a r y R e s u l t 13,483.1 6,776.6 8 4 3 . 3 14,344.6 O t h e r I n c o m e 840.8 3 3 4 . 7 8 6 6 . 5 6 8 2 . 2 E x t r a o r d i n a r y P r o f i t ( L o s s ) (6,29 8.6) (3,453.1) (2,617.3) (3,000.1) Income Before Interest and Taxes (7,3 3 9.2) (1,568.6) (3,672.5) (1,43 3.5) Interest 3 ,O 06.9 3,288.0 3,408.6 4,339.0 I n t e r e s t D u r i n g c o n s t r u c t i o n 0.0 0 .o 0 .o 0 .o O p e r a t i n g I n t e r e s t 3,006.9 3,288.0 3,408.6 4,339.0 I n c o m e Taxes 6 4 1.6 174.5 2 6 4 . 1 86.8 N e t Profit (10,98 7.7) (5,03 1.l) (7,3 4 5.2) (5,859.2) P r i o r Y e a r Results 0.0 (92.7) ( 2 2 1.2) ( 6 7 5 . 5 ) Profit ( L o s s ) for the Y e a r (10,987.7) (4,93 8.4) (7,12 4 .O) (5,183.7) 8 8 5 . 4 9 9 6 . 2 1 0 1 3 1 0 7 4 88.6 6 5 . 0 5 9 . 4 50.3 - 79 -  Historical Sources and Application of Funds US$thousand 1998 1999 2000 2001 Average Exchange Rate 10 13.2 17 23 ('000 MeticaliUS$) SOURCES Internal Generation 34,629.9 26,063.9 12,035.1 (4,232.5) Income Before Interest 5,502.3 5,033.6 (4,779.8) (15,864.8) Depreciation 27,972.8 21,030.4 16,814.9 11,632.3 Other 1,154.8 0.0 0.0 0.0 Debt Service 3,006.9 3,310.0 3,437.4 4,371.0 Amortization 0.0 22.0 28.7 32.0 Interest 3,006.9 3,288.0 3,408.6 4,339.0 Internal Net Generation 31,623.0 22,753.9 8,597.7 (8,603.5) Net Borrowings 21,929.1 18,750.0 24,017.6 17,404.3 World Bank 0.0 3,030.3 2,352.9 3,913.0. Other Banks 0.0 15,151.5 21,058.8 13,043.5 Others 21,929.1 568.2 605.9 447.8 EquityContributions 0.0 13.5 0.0 1.7 (including Revaluation) TOTAL SOURCES 53,552.1 41,517.5 32,615.4 8,802.6 APPLICATIONS Investments 62,3 40.3 41,568.2 27,666.6 37,391.3 Plant In Service 43,566.3 34,090.9 11,882.4 1,739.1 Work InProgress 1,918.8 4,825.8 15,784.2 35,260.9 Financial Investments 16,855.2 2,6S 1.5 0.0 391.3 Working Capital Increase (8,524.6) 265.2 4,9 94.1 (28,750.4) Unrealized Differences (263.6) (315.9) (45.3) 161.7 TOTAL APPLICATIONS 53,552.1 41,517.5 32,615.4 8,802.6 - 80 -  Historical Balance Sheet - - US$ million 1998 1999 - - 2000 2001 Aver.Exchange Rate ('000 MT/US$) 10 13.2 17 23 ASSETS Fixed Assets in Operation 274.4 300.9 237.9 187.6 Less Accumulated Depreciation 0.0 99.8 91.8 77.8 Net Fixed Assets in Operation 274.4 201.I 146.2 109.8 Work in Progress 37.2 51.8 55.4 76.2 Other assets 18.6 14.8 13.7 10.1 Total Net Fixed Assets 330.2 267.7 215.3 196.1 Current Assets Cash and Banks 7.2 5.4 8.7 10.0 Accounts receivable 26.4 23.3 33.5 21.7 lnvento ry 19.3 20.0 21 .I 16.7 Accounts Prepaid 0.0 16.5 11.9 15.8 Other 14.4 0.0 0.0 0.0 Total Current Assets 67.3 65.1 75.3 64.3 TOTAL ASSETS 397.5 332.8 290.5 260.4 EQUITY AND LIABILITIES Equity Capital 25.6 33.4 25.6 18.9 Retained Earnings (42.9) (3 1.3) (32.4) (46.8) Capita1 Reva luati0n 170.6 131.2 100.4 75.9 Total Equity 153.3 133.3 93.5 47.9 Long-Term Debt World Bank 20.0 18.6 17.9 15.2 Bank Loans 118.7 86.0 85.5 90.2 Others 2.6 2.6 2.6 2.4 Total Long Term Debt 141.2 107.2 106.0 107.7 Current Liabilities Short-Term Debt 0.0 7.7 5.9 6.5 Current Portion of LT Debt 0.0 22.3 28.7 32.0 Accounts Payable 51.6 49.5 25.7 31 .7 Other 51.4 12.8 30.7 34.6 Total Current Liabilities 103.0 92.3 91 .I 104.7 TOTAL EQUITY AND LIABILITIES 397.5 332.8 290.5 260.4 -81 -  Projected Income Statement 74325 78.783 a775 115.057 135.459 146.m 151.788 73.766 78.224 98.216 114.493 13.900 145.665 157.229 0.569 0.559 0.569 0.558 0.559 0.558 0.569 63.671 70.965 78,910 83.203 90.456 93956 97.565 7.906 7.906 9.171 9.905 10.697 11.553 12.477 3.944 4 . m 4.524 1.388 1.508 1.512 1.517 14.596 15.617 16.742 18.091 19.647 19.706 19.765 15.694 16.793 18.002 19.453 21.126 21.189 21.253 6.645 7.110 7.622 8.236 8.945 8.971 8.998 2207 O.Oo0 O.Oo0 O.Oo0 O.Oo0 O.Oo0 O.Oo0 12680 19.319 22849 26.129 28.534 31.024 33.555 operatinghccfm 10.653 7.817 19.865 31.856 45003 52268 6022 (-)RoJiYors(pensim&BadM) -16.804 -3.100 -3.200 -3.200 -3.200 -3.200 -3.200 lnamebeforelnterestdTaxes -6.150 4717 16665 28.665 41.803 49.068 9.022 (-) Interest 3.006 11.104 12047 15.237 15.011 12655 12.404 (-)Taxes 0.169 O.Oo0 1.617 4.696 9.377 12745 15.617 Net I m -9.325 6.336 3.002 8.722 17.415 23.668 29.002 (-) Didderds 0.m o.Oo0 o.Oo0 o.Oo0 o.Oo0 o.Oo0 o.Oo0 WriedEamings -9.325 aim mz a722 17.415 am 29.002  Proiected Sources and Auulicationo f Funds InterndG?" 6381 am 37.888 s.lo88 a960 67.347 74961 32l.651 l mMmInterestMer Taws -6319 4.717 15.049 23.958 32425 33.324 4 1 . a 147.561 (t)Depea&m 12690 19.319 22849 23.129 28.534 31.Oe4 33.556 174.090 -7.756 -18794 -19.815 -POW -a820 -257W -23067 -143039 4.750 -7.893 -7.768 -7.843 -9.809 -13.053 -10.663 61.576 -300s -11.104 -12047 -15.237 -15.011 -12666 -12404 -81.463 NetlrtemdGeneratiCil -1.395 e 18083 27.008 1140 41.88 51.895 178612 84.803 99.420 53.333 27.940 13.260 11.803 5a33 B5.550 O.Oc0 0.320 3633 8340 5.060 0.W 0.m 17.350 84.803 84.500 5103 9.803 2103 0.003 0.m 1%m 0.m 14.603 44.603 9.803 6103 11.803 5033 91.930 s4.rtycalbiMCns 0.m 0.m 0.m am am am a m T(XpL- -- W 104663 71.413 54.948 49.400 53433 5895 474162 !E100 7oAoo 48Aoo 5o.m 25500 42900 42900 337,700 25.703 31.603 27.103 20.603 17.803 2l.1(30 2l.103 I&ax) 29.93 26.500 11.m 14.803 3930 16.500 16.500 119.103 0.m 0.m 0.m 3803 3803 0.930 0.930 9 . m 0.500 12x0 11.303 11.303 0.03 4 . m 4.403 44.203 m~pppucAnlONs -- 83405 104663 71.413 54948 49.400 53433 56895 474162 - 83 -  Proiected Balance Sheet [Esfimate I Forecast YearendingDec.31 2 0 0 2 2 0 0 3 2 0 0 4 2 0 0 5 2 0 0 6 2 0 0 7 2 0 0 8 ASSETS FixedAssets inOperation 253.715 321.984 380.818 435.485 475.569 517.060 559.256 Accumulated Depreciation (90.462) (109.781) (132.630) (158.759) (187.293) (218.317) (251.872) Net FixedAssets inOperation 163.253 212.203 248.188 276.726 288.275 298.743 307.384 Work in Rqress 66.137 68.268 58.834 54.667 40.084 41.492 42.196 OtherAssets 10.000 10.100 10.100 10.100 10.100 10.100 10.100 Total Net FixedAssets 239.390 290.571 317.122 341.493 338.459 350.335 359.680 Current Assets CashandBanks 10.436 8.474 9.003 9.542 11.242 12.139 13.102 Accumulated Surplus 0.200 0.053 0.037 0.079 0.065 0.068 0.047 Accounts Receivable 35.216 26.075 24.554 19.083 22.483 24.277 26.205 Inventory 16.341 14.854 17.373 19.371 20.179 20.912 21.517 Other 0.772 0.000 o.Oo0 0.000 0.000 0.000 0.000 Total CurrentAssets 62.964 49.456 50.967 48.074 53.970 57.396 60.871 TOTAL ASSETS ------- 302.354 340.027 368.089 389.567 392.428 407.731 420.551 EQUITYAND LIABILITIES Equity Capital 18.906 18.906 18.906 18.906 18.906 18.906 18.906 RetainedEarnings (56.166) (62.553) (59.550) (50.829) (33.414) (9.746) 19.257 Capital Revaluation 75.884 75.884 75.884 75.884 75.884 75.884 75.884 RevaluationSurplus 0.000 o.Oo0 0.000 0.000 0.000 0.000 0.000 Total Equity 38.624 32.238 35.240 43.962 61.376 85.045 114.047 Long-TermDebt 180.096 264.058 301.777 312.065 302.463 290.547 284.884 Current Liabilities Short Term Debt 6.500 6.630 6.763 6.898 7.036 7.177 7.320 Current Portionof LongTerm Debt 7.690 7.768 7.843 9.809 13.053 10.663 0.000 Accounts Payable 34.444 29.333 16.467 16.833 8.500 14.300 14.300 Other Current Liabilities 35.000 o.Oo0 o.Oo0 0.000 o.Oo0 o.Oo0 o.oO0 Total Current Liabilities 83.634 43.731 31.072 33.540 28.589 32.140 21.620 TOTAL EQUITYAND LIABILITIES ------- 302.354 340.027 368.089 389.567 392.428 407.731 420.551 - 84 -  Annex 6(A): Procurement Arrangements MOZAMBIQUE: Energy Reform and Access Project Procurement General Procurement o f all Supply and Installation o f Plant and Equipment, Goods and Works to be financed under the IDA Credit will be inaccordance with the appropriate Bank's Guidelines: Procurement under IBRD Loans and IDA Credits, (January 1995 and as revisedinJanuary and August 1996, September 1997 and January 1999). Consulting services by firms or individuals to be financed by IDA will be awarded contracts inaccordance with the Bank's Guidelines: Selection and Employment of Consultants by WorldBank Borrowers, (January 1997and as revised September 1997, January 1999, and May 2002). The appropriate World Bank's Standard BiddingDocuments for all International Competitive Bidding (ICB) and National Competitive Bidding (NCB) with any appropriate modifications, will be used. The World Bank's Standard Request for Proposals (RFP) will be usedfor the selection o f consultants. For details on project costs by procurement arrangements refer to Table A. Project Components: There are five main components under this project. The output from each component is as follows: Power Sector Reform (to be implemented by DNE) i s estimated to cost US$6.12 million (IDA US$2.65 million). It consists o f three parts and will allow: (i) to be organized along EdM business centers (US$2 million -- financed by AfDF and DANIDA); (ii) sector private partnership inEdM'sDistribution and Supply business; and (iii) the establishment o f a separate transmission company (AfDF-funded). A Transaction Advisor will be procured under IDA financing to carry out all activities up to financial close o f the transaction (US$2.65 million). Grid-based Peri-Urban Electrification (to be implementedby EdM) is estimated to cost US$41.OO million (IDA:US$17.35 million) and will finance expansion o f the electricity network to connect more consumers. The following will be procured: consultancy services, comprising design, bidpreparation and evaluation, construction supervision, andtechnical assistance (US3 million); supply and installation (US$36.3 million); civil works (US$l million); and goods (US$0.7 million). Independent Grid Rural Electrification (to be implementedby DNE) is estimated to cost US$16.38 million (IDA: US$10.6 million) and will allow the private sector to establish three or four new independent grids. The following will be procured out o f the IDA amount for consultancy services contracts: transaction advice (US$1 million), technical advisory services (US$0.4 million), and a study to identify productive uses o f electricity for income generation purposes (US$0.2 million). The rest o f the amount will finance subsidies, based mainly on outputs (the number o f connection achieved). Annex 12 provides details o f the OBA scheme. Renewable Energy and Cross-Sectoral Linkages (to be implementedby DNE, M I S A U and MINED)is estimated to cost US$9.55 million (IDA:US$4.12 million, GEF: US$3.09 million). Of this amount, US$2.7 million will be used to procure solar P V systems for MISAUand MINED, on a supply and installationbasis; US$3.58 million will be used for various technical assistance (consultancy and training) required to create a sustainable renewable energy market; - 85 -  and US$3.27 million, comprised o f private equity, debt and GEF-funded output-based grants on a per Watt basis, will finance the supply o frenewable energy systems by private sector suppliers. Prospective suppliers will be pre-qualified based on minimumtechnical and financial criteria. 0 InstitutionalDevelopmentand Capacity Building(to be implemented by DNE) is estimated to cost US$8.50 million (IDA: US$5.54) and will be usedto procure: (i) consultancy for regulatory and technical advisory services; (ii) legal and financial advisory services for the natural gas pipeline project and other mega-projects; (iii) training courses; (iv) individual various consultants for the DNE PCU, including a consultant to assist inpreparing an M& E plan; (v) consultants to assist inpreparingthe second phase o f the program; and (vi) motor vehicles and office equipment for the PCU. ProcurementOrganizationand Capacity Assessment The project organization structures are shown below: D N E P C U M I S A U & M I N E D Environmental Project Coordinator Specialist I I Implementation Procurement M I S A U (GACOPI) Specialist Administrator Finance Manager (Albino Moamba) Specialist C. da Conceicao Jose International E d M P C U (Max Tonela) 'Responsible for Engineering & Procurement Project Manager Finance Manager I I International Consultants. I The Overall coordination o f the project will be handled by the PCU inDNE. Procurement o f all supply and installation o f plant and equipment, goods and civil works, and consultant services under the project will be handled by four Project Coordinating Units (PCUs) formed by the five agencies that will be - 86 -  responsible for implementing the program (see Annex 2 for detailed implementingarrangements). They are: the EdMfor the Intensification Component, the Ministries o f Health (MISAU) and Education (MINED)for the Cross-sectoral components and DNE for all other components. Other arrangements are as follows: Funds out o f this Credit will be channeled from IDA either directly to suppliers, to implementing agencies (public entities) through Special Accounts or to private project sponsors through a trust account that will be managedby a commercial bank. The funds to public entities will be used for procuring works, various consultancy services for managing the program, for providingadvisory services to the private project sponsors, as well as for procuring office equipment, furniture and vehicles. A formal procurement capacity and summary riskassessmentso fthe five agencies that will be responsible for implementingthe project has been carried out by IDA. It depicts salient features o f the procurement arrangements, controls systems and procurement methods and procedures, applicable to each component and the overall project. During the appraisal mission, a World Bank Basic Operations Procurement training was conducted. About 12 staff members from all the five agencies participated inthe training. This included the Director o f the DNE, the PCU Coordinator and the newly recruitedProcurement Specialist. At the end o f the training, the PCU Coordinator was given a document on procurement filing guidelines and checklist for PIUs and the updated WB procurement planning tools as guidance for the agencies to prepare their first year procurement plans. To update the procurement knowledge o f the agencies, the website o f the latest versions o f the applicable WB-SBDs guidelines and manuals was given to the PCU Coordinator to be disseminated to the agencies that will be implementing the project. Insummary, the procurement capacity and riskassessmentsare ratedfair (for the DNE,FUNAEand the Ministry o f Health) and satisfactory (for the EdMand the Ministryo f Education). The summaries o f the procurement capacity assessments o f the four agencies to implement the project are as follows: Electricidade de Mozambique (EdM) The Electrification and Projects Directorate (DEP) will manage the components to be implementedby EdM. A Project Coordinator has already beenappointed. He will be responsible for the intensification component. He will be assisted by an engineer dedicated to the project, a financial manager, an accountant, and staff from a recently established environment unit o f EdM. The overall procurement capacity o f EdMto implementIDA-fundedprocurement is ratedaverage and the riskassessmentis average. Two key staff who will be involved inprocessing procurement are familiar with World Bank procurement procedures and guidelines. They were responsible for executing a component o f the IDA-fundedUrban HouseholdEnergy Project (Cr. 2033-M0Z), which was closed about five years ago. According to the ImplementationCompletion Report No. 19449 dated June 17, 1999 factors external to the energy sector contributed to the slow pace o f project implementation and credit disbursement such as the weak banking sector, the cumbersome and lengthy Government review and approval procedures for procurement o f goods and recruitment o f consultants. The PCUhas also handledprocurement processing for DANIDA,NORAD, SIDA, AfDF and AFD, applying bilateral procurement procedures. - 87 -  The NationalDirectorateof Energy (DNE) and Energy Fund (FUNAE) The overall procurement capacity o fDNE and FUNAEis low and the riskassessmentis high. A Project Coordinator, Accountant and Procurement Officer have been appointed. There is inadequate procurement management capacity within the agencies; however most procurement will be handledby international consultants. A few staff are familiar with WB procurement guidelines and procedures due to their involvement inthe procurement processing o f the IDA-fundedUrban HouseholdEnergy Project (Cr. 2033-MOZ) which closed in 1999, and a minor component of the ongoing Gas Engineering Project (Cr. 2629-MOZ). The Ministryof Health (MISAU) The overall procurement capacity o f MISAUis currently low and the risk assessment is high. The Procurement Unit (GACOPI) which is managedby a Procurement Assistant and assisted by a Procurement Consultant, and a Procurement Secretary from Crown Agents, will be responsible for handling the procurement o f the cross-sectoral component o f the project. M I S A U is inthe process of hiringa consulting firdprocurement agent to handle goods contracts. The Procurement Unit (GACOPI) i s familiar with WB procurement guidelines and procedures due to their implementing an ongoing IDA-fundedproject (Cr. 2788-MOZ). A matter o f concern is the fact that two key staff o f GACOPIwho were responsible for fiduciary matters, resignedfrom MISAUrecently. The Ministryof Education(MINED) The overall procurement o f MINEDis high and the risk assessment is low. The Procurement Unit i s headed by the Director o f Administration and Finance. A Procurement Advisor, Procurement Assistant, Administrative Assistant and Logistics Assistant work incoordination with the head o f the department of internal administrationwho reports to the Director o f Administration and Finance. The Procurement Advisor o f the Administrative and Finance Department who will be responsible for handling the procurement o f the cross-sectoral component o f the project, has good knowledge o f international procurement and IDA rules. The Procurement Unit i s familiar with World Bank procurement guidelines and procedures due to its implementing an ongoing IDA project (Cr. 3172-M0Z), which has not faced any procurement issues. A Post Procurement Review (PPR) was conducted on March 6,2003, which concluded that MINEDhad generally complied with the agreed provisions. Other Arrangements It is highly recommendedthat staff who will be involvedinthe implementation ofthe various components o f the project are sponsored by the project to attend one or more o f the World Bank external procurement workshops/seminars heldinthe region, ESAMI inArusha, Tanzania. Duringthe first phase o f implementation, the PCU should hire international consultants to assist inprocessing procurement. - 88 -  Summary RiskAssessment andAction Plans The overall assessment indicates that the procurement systemhas serious institutional, legislative and manpower weaknesses which have a negative impact on the use o f Government funds and sometimes affect funds from donor agencies including the Bank. These weaknesses affect procurement processing inthe energy sector as a whole and ais0 commercial activities, including imports andbanking services. An actionplan to support the objectives to reformand achieve acceptable standards o ftransparency, economy and efficiency is proposed as follows: Appointment o f suitably qualified personnel. Training o f procurement staff. Recruiting procurement consultants to assist the PCUs in supply and installation o f equipment design, and construction supervision. Assigningthe EdMexperienced staff who have beenworking for the AfDF financed power projects as PCUteam members prior to project effectiveness. Updating the knowledge o f the PCU and procurement staff through participation inregional Bank procurement workshops; and providing all the relevant WB-SBDs, RFP, Guidelines manuals to the PCUprior to project effectiveness. Ensuringthat the PCU staff acquaint themselves with the nation-wide initiatives for procurement reform and follow the recommendations o f the recent Country Procurement Assessment Review (CPAR) for Mozambique. Procurement Planning: A final Overall Procurement Plan(OPP) for all the components which forms part o f the Project ImplementationPlan (PIP) has been preparedby DNE, EdM, M I S A U and MINED. The OPP includes relevant information on supply and installation o f plant and equipment and consulting services as well as the timing o f each milestone inthe procurement process. The first year's Detailed Procurement Plan (DPP) i s beingprepared. The DPPs for the remaining years o f the project, indicating the procurement method and processing time for each contract, will be submitted to IDA every year for its review and comments not later than three months before the end o f each fiscal year. Advertising: A General Procurement Notice (GPN) will be publishedinthe UNDevelopment Business (UNDB) inJuly 2003. Itwill indicate all the procurement contracts estimated to cost the equivalent o f US$100,000 or more where the International Competitive Bidding (ICB) method o f procurement will be used. All consultancy assignments estimated to cost the equivalent o f US$lOO,OOO or more will be advertised in an international newspaper and inthe UNDB. Inaddition, expressions o f interest may be sought from prospective consultants by advertising ina national newspaper or technical magazines. In the case o f assignments estimated to cost US$lOO,OOO or less the assignment may be advertised nationally and the short list may be made up entirely o f national consultants, provided that at least three qualified national firms or individuals are available inthe country and foreign consultants who wish to participate, are not excluded from consideration. - 89 -  .--- Procurement methods (Table A) Table A: Project Costs by Procurement Arrangements 1 (US$ million equivalent) Procurement MethodI Expenditure Category Total Cost 1. Works 43.58 la. Supply & Installation (13.20) (14.67) 1b. Civil Works (1.47) 2. Goods 1.80 2. Goods (1.44) 3. Services 16.11 3. Consultants (0.00) (0.00) (9.77) (0.00) (9.77) 4. Miscellaneous 0.00 0.00 16.38 0.00 16.38 Sub-projects funded by the (0.00) 1 (0.00) 1 (11.75) 1 (0.00) (11.75) 3. Training 0.00 3.04 (0.00) (0.00) (0.00) (2.05) 4. Total GrantslPPF Advance 0.00 0.00 0.00 0.60 (0.00) (0.00) (0.60) (0.00) (0.60) (i) PHRD Grant (0.36) (Bank-executed) (ii) PHRD Grant (0.19) (Recipient-executed) (iii) PPF Advance (0.60) (iv) GEF PDF-B Grant (0.30) TOTAL Project Cost I Of which IDA-funded Cost is 20.68 2.60 37.23 21.oo (12.50) (2.02) (25.76) (0.00) I'Figures inparentheses are the amounts to be financed by the IDA Credit. All costs include contingencies. *'Includes civil works and goods to be procured through national shopping, consulting services, services of contracted staff o f the project management office, training, technical assistance services, and incremental operating costs related to (i)managing the project, and (ii)re-lendingproject funds to local govemment units. 3 / The numbers indicating IDA Credit financing include amounts advanced or expected to be advanced by the PHRD Grants (Bank-executed US$0.356 million; Recipient executed US$O. 192 million and PPF Advance US$0.82 million). 41 "N.B.F." means Not Bank-Funded. - 90 -  ProcurementMethod: All contracts for supply and installation o fplant and equipment, goods and works estimated to cost more than US$lOO,OOO equivalent will be procuredthrough International Competitive Bidding(ICB). This includes: Goods andWorks by GovernmentSponsors andothers: All contracts for goods, works, and concessions estimated to cost US$lOO,OOO or more will be procuredthrough ICB inaccordance with provisions o f Section I1o f the Guidelines and paragraph 5 o f Appendix 1 thereto. To the extent possible, contracts for similar goods and works will be grouped into packages o f US$lOO,OOO and more so that they can be launched usingICB to obtain more favorable prices. Contracts for goods and works estimated to cost US$30,000 equivalent or more, up to an aggregate o f US$1.5 million may be procured through National Competitive Bidding(NCB) inaccordance with the provisions o f paragraphs 3.3 and 3.4 o f the Guidelines. Goods estimated to cost US$30,000 equivalent or less per contract, up to an aggregate amount o f US$1.5 million equivalent may be procured through shopping procedures by soliciting at least three quotations from different suppliers, inaccordance with provisions o f paragraphs 3.5 and 3.6 o f the Guidelines and June 9,2000 Memorandum "Guidance on Shopping" issuedby the Bank. Procurement o f goods and hiring o f facilities for training purposes, such as workshops, will also be carried out through shopping procedures. Records o f award decisions on the shopping procedure will be kept for Bank's ex-post reviews. All contracts for minor works estimated to cost less than US$30,000 equivalent, up to an aggregate amount o f US$300,000 equivalent, may be procuredunder lump-sum fixed-price contracts awarded on the basis o f quotations obtained from three qualified domestic contractors inresponse to a written invitation. The above aggregate values for N C B and shopping methods for goods are limitedand cannot be exceeded without prior Bank clearance. The procurement units responsible for the project will maintain a tracking system to monitor such procurement inorder to alert the Bank ina timely manner when this occurs. Procurementof Consultant Services ProcurementMethods: As a rule, consultant services will be procuredthrough Quality and Cost Based Selection (QCBS) in accordance with the provisions o f Section I1o f the Consultant Guidelinesand provisions o f paragraphs 3.13 through 3.18 o f the Guidelines. All consulting service contracts costing more than US$lOO,OOO equivalent for firms will be awarded using the QCBS method. For transaction advice, procurement will be through QCBS. Consulting service contracts estimated to cost less than US$50,000 for firms may be awarded through the Consultants' Qualifications (CQ) selection method in accordance with the provisions o f paragraph 3.7 o f the Guidelines. All consulting services o f individual consultants will be procuredunder individual contracts inaccordance with the provisions o f paragraph 5.1 to 5.3 o f the Guidelines. Inexceptional cases, Single-Source selection will be usedin accordance with the provisions o fparagraphs 3.8 to 3.11 o fthe Guidelines. Single-Source selection could be used for contracts o f US$lO,OOO equivalent or less subject to an aggregate ceiling o f US$50,000. Procurement for subproject development by the sponsors for consultant services under US$50,000 can follow standard commercial practices. Inparticular, the consultant's qualifications must be adequate to perform the requestedservices, and the rates must be consistent with comparable consultants of similar capabilities and experience. The short list o f consultants for services estimated to cost US$lOO,OOO equivalent or less per contract, may comprise entirely national consultants inaccordance with the provisions o f paragraph 2.7 o f the Guidelines. -91 -  Private Concessions (Sub-projects) For the private concessions, whenever competitive procedures are used, the selected sponsors will be allowed to procure goods, works and services usingestablished commercial practices. Incases where sponsors are not selected on a competitive basis (due to particular circumstances precluding a viable market response inremote areas), the sponsors will be required to procure goods, works and services in accordance with the Association's procurement guidelines and the agreed procurement arrangements for theproject. Training: The training activities will generally cover institutional and capacity buildinginall the project components. It is envisaged that there will be various training modules for operating staff, estimated to cost US$3.04 million equivalent intotal. Also there will be: on-the-job training and hiring consultants for developing training materials, conducting training, and support for training activities through seminars, workshops and training inthe region and abroad based on individual needs as well as group requirements. A detailed annual training program givingcategories of training, number o f trainees, duration o f training, staff months, timingand estimated cost etc., will be submitted to IDA for review and approval prior to initiating the training process. The procurement o f these activities will also be in accordance with the provisions o f paragraph 1.20 of the Guidelines. - 92 -  Table AI : Consultant Selection Arrangements (optional) (US$ million equivalent) Consultant Se i\Including contingencies Note: QCBS = Quality- and Cost-Based Selection QBS = Quality-based Selection SFB = Selection under a Fixed Budget LCS = Least-Cost Selection CQ = Selection Based on Consultants' Qualifications Other = Selection of individual consultants (per Section V of Consultants Guidelines), Commercial Practices, etc. N.B.F. = Not Bank-financed Figures in parentheses are the amounts to be financed by the Bank Credit. - 93 -  Prior review thresholds (Table B) Review by IDA Table B provides the prior review thresholds. Each supply and installationof plant and equipment contract estimated to cost US$300,000 equivalent or more, each goods contract estimatedto cost US$lOO,OOO equivalent or more, each subproject expectedto cost US$lOO,OOO equivalent or more and each civil works contract estimatedto cost US$lOO,OOO equivalent or more will be subject to IDA prior review as set forth inparagraphs2 and 3 of Appendix 1to the Guidelines. All other contracts will be subject to post review in accordancewith paragraph4 of Appendix 1 of the Guidelines. All terms of references, all consulting contracts exceedingUS$50,000 for individuals and US$lOO,OOO for firms, and all training will be subject to IDA prior review. All Single Source selection -regardlessof value, assignments of a critical nature as determined by IDA or amendmentsof contracts raising the contract value above the prior review thresholds, will be subject to IDA prior review. Table B: Thresholds for Procurement Methods and Prior Review' Contract Value Contracts Subject to Threshold Procurement Prior Review Expenditure Category thousands) Method (US$ millions) I. Works - Supply and Installation equal or greater than ICB All contracts greater than 100,000 300,000 Zoncessions (Subprojects) equal or greater than ICB All contracts greater than 100,000 100,000 less than 100,000 NCB All post review equal or greater than ICB All contracts greater than - Civil Works 100,000 100,000 Concessions equal or greater than ICB All contracts greater than 100,000 100,000 greater than 30,000 and NCB All post review less than 100,000 less than 30,000 minor works basedon All post review quotations !.Goods - Office Equipment, Computers & Vehicles equal or greater than ICB All contracts greater than 100.000 100,000 equal to 30,000 or less NCB All post review - 94 -  than 100,000 Less than or equal to Shopping All post review 30,000 Concessions equal or greater than ICB All contracts greater i..an 50,000 100,000 Less than 50,000 NCB All post review I 3. Services (ConsuItants) Firms Equal or greater than QCBS All contracts greater than 100,000 100.000 Firms Less than 50,000 CQ All post review Individuals IC All contracts greater than r 50,000 Individual/Firms No threshold (All) ss All contracts 4. Training Various Training Modules Various * To be determined 5. Miscellaneous Total value of contracts subject to prior review: US$30 million Overall Procurement Risk Assessment: High Frequency of procurement supervisionmissionsproposed: One every 6 months (includes special procurement supervision for post-reviewiaudits) - *I A detailed training program giving categoriesof training, number oftrainees, duration of training, staff months, timing and estimated cost etc., will be submitted to IDA for review and approval prior to initiating the training process. The appropriate methods of selection will be derived from the detailed training schedule. NOTE: ICB - InternationalCompetitive Bidding NCB - Isms National Competitive Bidding - International ShoppingNational Shopping QCBS - Quality- and Cost-Based Selection CQ - Consultants' Qualifications IC - ss Individual Consultants - Single Source - 95 -  Agencies RiskAssessments EdM Average DNE/FUNAE High MISAU High MINED Low OverallProcurement RiskAssessment: High The frequency ofprocurement supervisionmissions proposed: Three inthe first year o f implementation andat least two inthe subsequentyears. (This includes specialprocurementsupervision for post-review/audits). I\Thresholdsgenerallydiffer by countryandproject. Consult "AssessmentofAgency's Capacityto Implement Procurement"andcontactthe RegionalProcurementAdviser for guidance. - 96 -  Annex 6(B): Financial Management and Disbursement Arrangements MOZAMBIQUE: Energy Reform and Access Project FinancialManapement 1. Summary of the FinancialManagement Assessment OrganizationalStructure. The Project has three main implementingagencies directly involved in component management: DNE through its PCU, EdM, and FUNAE. The Ministrieso f Health(MISAU) and Education (MINED)will be direct beneficiaries o f project activities under the Renewable and Cross-Sectoral component. Through this component, electricity will be provided to Government service centers like schools, clinics and agricultural centers. These ministries will not be involved directly in funds management. FUNAEwill be involved as a managementhmplementing agent, but will not directly manage a Special Account. The Special Account for Component 3, Independent Grids, will be heldby a Trust Agent acting for FUNAE and DNE. The Project has five components as follows: 1 I Power Sector Reform 6.12 2.65 3 IndependentGrids 16.38 10.60 4 Renewable Energy, Cross-Sectoral 9.55 4.12 (GEF: 3.09) 5 Institutional Strengthening and 8.47 5.54 Capacity Building TOTAL 81.52 40.26 Accounting System, Accounting Policies and Procedures. The Government accounting system is based on manual, single entry, cash-based system. EdMuses the national corporate chart o f accounts and a double-entry, accrual based system. Government and parastatal accounts are maintained on a variety o f platforms, including accounting software, excel spreadsheets, and manual books of registry. The PCU for this Project will invest inan accounting and financial management system, and install that system at the central PCU. EdMwill rely on its own internal (excel-based) project management system to control funds and produce its required reports. The FUNAE/TrustAgent system will be definedonly when the TORSof the Trust Agent are finalized. The central PCU will use a double-entry cash-based system to produce financial data o n the components it manages. This will be maintainedon an information system as discussed above. The form o f reporting to the PCU for consolidation that other IAs will be required to follow will be defined inthe PCU Project Financial Procedures Manual. - 97 -  Books of registry. Inaddition to any information system installed, and the books needed to maintain an accurate and complete record o f transactions, the various implementing agents will maintain a set o f additional books o f registry, either within or outside their systems, for control purposes. These books include: 1. A FixedAsset Register at each IA (ImplementingAgency). 2. A Contracts Register at each IA. 3 . Books o f control for document deliveries and controlled stationery such as checks. Budgeting. For the purposes o f the credit, each IA will produce annual procurement and disbursement plans that will be consolidated at the PCU and usedto monitor and plan cash flow needs. The PCU Coordinator and the Coordinators at the other I A s will be responsible for authorizing expenditures for their respective components inaccordance with the agreed budgets. Reporting (Financial Monitoring Reports). The following quarterly FMRs will be producedby each IA and consolidated by the PCU: 1. Sources and Uses o f Funds by Project Category. 2. Uses o f Fundsby Project Component. 3. Physical Output Monitoring Report. 4. Procurement Monitoring Reports. The formats were prepared by negotiations. Each IA o f the Project mustbe capable o f producing FMRs by effectiveness. Inaddition, the PCUmust demonstrate its capacity to produce the consolidated reporting by credit effectiveness. Project Financial Statements. Inaddition to the monthly reconciliations and quarterly monitoring reports, the Project will produce annual Project Financial Statements for analytical and audit purposes. These Financial Statements will be composed of: 1, A Consolidated Statement o f Sources andUses o f Funds(showing IDA and Counterpart Funds as well as funds provided by donors). 2. A Statement reconciling the balances on all Bank Accounts to the bank balances on the Statement o f Sources and Uses o f Funds. 3 . SOE Withdrawal Schedule, listing individual withdrawal applications relating to disbursements by the SOE Method, by reference number, date and amount. 4. A Cash Forecast for the next two quarters. 5. Notes on significant accounting policies and accounting standards adopted by management when preparing the accounts; and on any supplementary information or explanations that may be deemed appropriate by management to enhance the presentation o f a "true and fair view". - 98 -  Monitoring. Project monitoringwill take the following forms: 0 Management oversight by the PCU o f other IAs. 0 Annual external audit o f the Project finances. Impactof ProcurementArrangementson FinancialManagement. Procurement at the PCU for DNE-managed components and the FUNAE-managed components will be under the management o f the Procurement Specialist. EdMwill manage procurement o f works and goods through its technical team. Staffing and Training. The central PCUhas a financial manager on staff. The manager has little WB experience, but has already beenon one training course inMaputo on WB Financial Management and Disbursements and i s aware that further training is necessary. This financial manager will also work closely with the financial management consultant being contracted to set up PCU financial management systems. EdMhas appointed a financial manager. The Trust Agent has not been appointed; therefore the Trust Agent and EdMstaff qualifications could not be assessed. TrainingPlan. All Accountants, and some administrative and procurement staff will be giventraining, as appropriate, inthe following areas: (a) Financial Management, including internal controls, information systems and computer applications; and (b) Procedures relating to use o f funds e.g. IDA (Special Account, SOEs, Procurement, FMR etc.) and Government regulations. On-the-job coaching will be provided. Training on the new financial management system must be completed before Project effectiveness. Additional on-the-job training will most likely be necessary. RiskAssessment. The overall conclusionofthe Country FinancialAccountability Assessment (CFAA) dated December, 2001 is that "public sector financial management systems inMozambique are very weak, as evidenced by the Report o f the Tribunal Administrativo o f the Government General Accounts Report for 1998. The Government General Accounts Report (Conta Geral do Estado, CGE) was published and auditedby the TA for the first time during 1999 and 2000, and will require substantial strengthening over several years. Inthe interim, risk o f waste, diversion and misuse o f funds are assessed as high. The public sector financial environment inMozambique denotes a situation o f high fiduciary risk: material receipts and payments are excluded from the budget and from Government accounting and reporting system; accounting systems and standards are outmoded; internal and external auditing require substantial support; and parliamentary oversight requires strengthening. Efforts have beenmade in recent years to reduce the fiduciary risk through (among other measures) the strengthening o f the internal audit capacity o f the IAD, and the creation o f external audit capacity within the AT, Both o f these efforts (as well as others) need to be intensified, because there i s still a lot o f work to be done inthis area." Project Risks. Again from the CFAA: "Because o f the highfiduciary risk, IDA has taken special measures to ensure adequate financialmanagementof itsportfolio. Project management units are often established to manage IDA-financed projects and Bank funding is "ring-fenced'' to mitigate fiduciary risk. Accounting staff are hiredas consultants, typically on salaries higher than civil service salaries, to work on projects, even when a Ministry implements those projects. IDA projects are invariably audited by one o f the "Big Four" international audit firms." - 99 -  Generally inMozambique, there are high financial management risks due to a weak control and low capacity environment. Government accounts are regularly late and incomplete. Inter-agency reporting is slow and sometimes difficult to achieve, where hierarchical lines are blurred or are foreign to the day-to-day structures and management o f the institution. Accountability chains are weak, and penalties are extremely light or non existent. Specific Project risks here include: 1. Delays inthe appointment o f the Trust Agent due to delays inbeginning the selection process. 2. Delays in implementation due to poorly definedprocedures for inter-agency cooperation in financial management and reporting. 3. Delays inimplementationdue to the need to design the subsidy mechanism only after the transaction agent i s mobilized. Additionally, risks often faced by projects inMozambique include: (1) Illiquidity at the central treasury delayingproject implementationthrough lack o f counterpart funds and/or inability to access counterpart funds because the project is not "inscribed" inthe national budget. For example, this project is scheduled to become effective mid-year. Counterpart funds should already have been authorized for this fiscal year. However, the Government will not authorize a project "inscription" into the national budget before the project is negotiated. Ifnegotiations are after the beginning o f the fiscal year, and the project effectiveness date is inthe same year, I A s almost invariably findthemselves unable to inscribe the project timely. They reach effectiveness without the required counterpart funds and have no prospect o f accessing them, except through extraordinary measures, until the following calendar year. (2) Weak financial management and procurement capacity at the PCU delaying implementation. (3) Delays inimplementation due to the time and capacity requiredto train staff to an adequate level to manage a ring-fenced Project management structure. Conclusion. Based on the evaluation above, the Project does not currently satisfy minimumWorld Bank financial management requirements. Inorder to establish an acceptable control environment and to mitigate financial management risks the various measures should be taken by the due dates as indicated inthe table below. The project financial management risk is assessedas beingmoderate providedthat the financial management arrangements are properly implementedand the following financial management action plan satisfactorily addressed inpractice. - 100 -  Financial ManagementAction Plan Action Due Date Conditionality 1 Individual and Consolidated (ifdifferent) Negotiations Condition o f Financial Monitoring Report formats Negotiations agreed. Report formats for EdM, FUNAE, -Qualified and DNEmustbe compatible. 2 and experienced Financial Negotiations condition o f Managers working at the Project Units at Negotiations -DNE andEdM. - 3 Training for Financial Managers at EdMand Effectiveness Condition o f DNE onWorld Bank FMandProcurement Effectiveness procedures. 4 Financial Management System (FMS) Effectiveness Condition o f designed and installedat the DNE PCU and Effectiveness the EdMPCU. This includes: -- Procedures Manuals - ---- Training Information System 5 Qualified and experienced Trust Agent Effectiveness Condition o f competitively appointed. Trust Procedures Effectiveness -Trust Manual finalized. 6 Agent, DNE and FUNAEpersonnel Effectiveness Condition o f trained inthe subsidy mechanism and its Effectiveness -procedures. 7 Project Accounts for Counterpart Funds and Effectiveness Condition o f JS Dollar Special Accounts opened for Effectiveness 'roject funds at DNE and EdM 8 Relevantly qualified external auditors for the Effectiveness Condition o f project appointed on approved terms Effectiveness o f reference. 9 Ability to prepare FMRsdemonstrated at Effectiveness Condition o f each Project IA (or, inthe case o f FUNAE, Effectiveness at the Trust Agent managing the Trust Special Account). Ability to produce consolidated FMRs demonstrated by DNE incooperation with all other Implementing - Agents. - 101-  2. Audit Arrangements Internal Audit. Taking into account that the internal audit functions are weak, there needs to be strong supervision and quality assurance at all IAs involved inthe Project. The day-to-day supervision o f accounting functions will be assured by the organization structure o f the Project, which calls for a Financial Manager at each implementing agent. The Financial Manager will be responsible for direct operational supervision o f the I A s special account, and the manager at the DNE PCU will be responsible for consolidated reporting. ExternalAudit. Relevantly qualified, experienced and independent auditors will be appointed on approved terms o f reference. The external audit will cover all World Bank funds and Counterpart funds at all IAs. The IDA Credit Agreement will require the submission o f audited financial statements (consolidated) to the Bank within six months after the year-end. The formats to be adopted will be documented inthe Financial Procedures Manual. Besides expressing a primary opinion on the audited financial statements incompliance with International AuditingStandards, the auditor will be requiredto include a separate paragraph commenting on the accuracy and propriety o f expenditures withdrawn under SOE procedures and the extent to which these can be relied upon as a basis for loan disbursements. Regarding the Special Accounts, the auditor will also be expected to form an opinion as to the degree o f compliance with World Bank procedures and the balances at the year-end. Inaddition to the audit report, the auditor will be requiredto prepare a separate Management Letter giving observations and comments, and providingrecommendations for improvements o f accounting records, systems, controls and compliance with financial covenants inthe IDA Agreement. Supervision. Financial management supervision will be carried out regularly by the project FMS at least once a year. Inaddition, the project would be submittedto regular SOE reviews as required by the World Bank. The FMS will also: 0 Conduct a FMsupervision before effectivenessldisbursement. 0 Review the financial component o f the quarterly FMRs as soon as they are submittedto the World Bank. 0 Review the annual Audit reports and Management letters from the external auditors and follow-up on material accountability issues by engaging with the TTL, Client, andor Auditors. 3. DisbursementArrangements World Bank credits inMozambique are generally controlled through separate bank accounts (Special Accounts {SA}) managedby a Project Coordinating Unit (PCU). Normally, inWB credit management inMozambique, the GoM agrees to open a separate ProjectAccount (PA) where counterpart funds are deposited in agreed amounts and managed by the PCU to fulfill counterpart financing requirements. This Project will adopt the SA and PA structure. IAswill manage Special Accounts and Project Accounts for counterpart funds. The chart below illustrates the banking and flow o f funds arrangements for general project management, while the diagram that follows shows the flows o f funds for the subsidy mechanism disbursed by the Trust Agent. - 102-  Financing and Replenishment of Trust Agent Account - 103-  Allocation of credit proceeds (Table C) IDA Categories Expenditure Category Amount in US$ Million Financing Percentage 1. Sub-projects fundedby the MECS 11.75 100% o f amounts disbursed 2. Works 100% foreign, 85% local - Grid-based electrification (EdM) -- Cross-sectoral 11.10 links (MISAU) 0.91 Cross-sectoral links (MINED) 0.21 3. Goods ---- Institutional 100% foreign, 85% local - Grid-based electrification (EdM) 0.50 Cross-sectoral links (MISAU) 0.05 Cross-sectoral links (MINED) 0.05 and capacity building 0.85 4. Consultancy 86% - Grid-based electrification (EdM) ----- Independent grid 2.30 Cross-sectoral links (MISAU) 0.15 Cross-sectoral links (MINED) 0.15 Institutional and capacity building 3.80 Sector reform 2.37 electrification 1.20 5. Training ---- Institutional 100% foreign, 85% local Grid-based electrification (EdM) 0.30 Cross-sectoral links (MISAU) 0.05 Cross-sectoral links (MINED) 0.05 and capacity building 0.60 6. Unallocated 3.87 Total (IDA) 40.26 I 1.52 100% of amounts disbursed -- Training -- Subprojects Consultancy services 0.92 86% 0.35 100% foreign, 85% local Unallocated 0.30 Total (GEF) 3.09 I -104 -  Use of statements of expenditures (SOEs): The threshold for SOEs will be set at US$300,000 for supply and installation (US$lOO,OOO for GEF); US$100,000 for goods, works, and consultancy contracts for firms; and US$50,000 for consultancy contracts for individuals. Special account: To facilitate disbursement o f eligible expenditures, EdMand DNEwill open accounts with a commercial bank to cover local and foreign currencies o f IDA'Sshare o f eligible expenditures (for parts o f the project as described in Schedule 2 o f the Development Credit Agreement) as follows: SpecialAccount A (DNE): DenominatedinUS dollars, disbursements from IDA credit for Part A, C and D. Special Account B (EdM): DenominatedinUS dollars, disbursements from IDA credit for Part B. GEF SpecialAccount (DNE): DenominatedinUS dollars, disbursements from GEF for Part D. ProjectAccount A (EdM): Counterpart funds for Parts A, C and D. Project Account B (DNE): Counterpart funds for Part B. - 105-  Annex 7: Project Processing Schedule MOZAMBIQUE: Energy Reform and Access Project IAppraisal mission departure 02l1012003 0211612003 I Negotiations 0511912003 0511912003 IPlanned Date of Effectiveness III 1011512003 III III Prepared by: ReynoldDuncan, Team Leader, AFTEG Preparation assistance: Lily Wong Chun Sen, ProgramAssistant, AFTEG Bank staff who worked on the project included: Name Speciality Reynold Duncan Senior Power Engineer and Team Leader (AFTEG) Paivi Koljonen Senior Energy Economist (AFTEG) Yuriko Sakairi Senior Economist (AFTEG) Alan Townsend Senior Private Sector Development Specialist (PSAPP) Trine Refsbaek Cross-sectoralConsultant (AFTEG) Johannes Exel Renewable Energy Business Specialist Consultant (AFTEG) Helena Kofi Procurement Analyst (AFTEG) Marie-Ange Saraka-Yao Senior Financial Officer (PFG) Edeltraut Gilgan-Hunt Environmental Specialist (AFTES) Julius Wilberg FinancialAnalyst (Consultant) Joao Tinga FinancialManagement Analyst (AFTFM) Elizabeth Adu Chief Counsel (LEGAF) Muthoni Kaniaru Counsel (LEGAF) Jose Janeiro Senior Finance Officer (LOAG2) MariusKoen Senior FinancialManagement Specialist (AFTFM) Tesfaalem Gabreiyesus Senior Procurement Specialist (AFTPC) Lily Wong Chun Sen Program Assistant (AFTEG) Quality Assurance Team Nelsonde Franco Lead Power Engineer (LCSFE) Ranjit Lamech Senior Energy Specialist (ECSIE) -106 -  Annex 8: Documents in the Project File* MOZAMBIQUE: Energy Reform and Access Project A. Project Implementation Plan Three PIPS:EdM,DNE, MISAU, MINED. B. Bank Staff Assessments Procurement Capacity Assessment, March 2003. Financial Management Assessment, April 2003. C. Other ConsultantReport Cost ReductionStrategy, Preparation and Commencement of Implementation, COWI, February 2003. Pre-feasibility Studies for Isolated Grid Electricity Supply Systems, Innovation Energie Dtveloppement, September 2002. Micro-hydro Scoping Study, ITC, October 2002. MIREMEInstitutional Diagnostic Study, Nexant, September2002. Market Assessment and Stakeholder Consultations, Austral (Draft), January 2003, Private Sector Participation inEnergy, Price Waterhouse Coopers, September2002. Cross-sectoralLinkages, IT Power, February 2003. Inventory and Supply Chain Study for Small Solar PV systems, IT Power, January 2003. Customer andBusiness Protection Mechanisms, ESD, December 2002. *Including electronic files -107 -  Annex 9: Statement of Loans and Credits MOZAMBIQUE: Energy Reform and Access Project 21-Mav-2003 Difference between expected and actual Original Amount in US$ Millions disbursements' Project ID FY Purpose IBRD IDA GEF Cancel. Undisb. Orig Frm Rev'd PO49878 2003 MZ-EMPSO 0.00 120.00 0.00 0.00 63.50 16.50 0.00 PO72080 2003 PUBLIC SECTOR REFORM 0.00 0.00 0.00 0.00 26.59 0.00 0.00 PO78053 2003 HlVlAlDS Response Project 0.00 0.00 0.00 0.00 57.15 0.00 0.00 PO69824 2002 Higher Education Project 0.00 60.00 0.00 0.00 60.77 -3.30 0.00 PO01806 2002 MZ-MUNICIPAL DEVELOPMENT PROJECT 0.00 33.60 0.00 0.00 30.27 5.07 0.00 PO73479 2002 MZ Communication Sector Reform . 0.00 14.90 0.00 0.00 13.19 -0.44 0.00 PO01785 2002 MZ-ROADS 8 BRIDGES MMP 0.00 162.00 0.00 0.00 174.33 45.11 0.00 PO01808 2001 Mineral Resources Project (NRMCP) 0.00 18.00 0.00 0.00 16.25 2.24 0.00 PO49874 2000 ENTERPRISE DEVELOPMENT 0.00 26.00 0.00 0.00 17.42 14.75 0.00 PO70305 2000 Coastal and Marine Biodiversity MGMT 0.00 5.60 0.00 0.00 4.96 4.87 0.00 PO42039 2000 RAILWAY 8 PORT RESTR 0.00 100.00 0.00 0.00 69.36 46.02 0.16 PO35919 2000 COASTAL MANAGEMENT 0.00 5.60 4.11 0.00 3.48 3.47 2.26 PO01786 1999 Education Sector Strategic Program(ESSP) 0.00 71.00 0.00 0.00 54.00 52.32 0.00 PO01799 1999 AGRiC SECTOR PEP 0.00 30.00 0.00 0.00 18.97 19.56 0.00 PO52240 1999 NATIONAL WATER II 0.00 75.00 0.00 0.00 66.25 33.75 0.00 PO39015 1998 NATIONAL WATER I 0.00 36.00 0.00 0.00 23.23 20.80 0.00 PO01759 1997 TRANSBORDER PARKS 0.00 0.00 5.00 0.00 0.22 5.00 0.00 PO01792 1996 HEALTH SEC RECOVERY 0.00 98.70 0.00 0.00 11.33 21.85 0.00 PO01804 1994 2ND ROAD AND COSTAL 0.00 188.00 0.00 1.66 14.03 15.56 15.44 PO01780 1994 MZ GAS ENGINEERING (ENGY) 0.00 30.00 0.00 3.47 0.32 4.25 4.25 Total: 0.00 1074.40 9.11 5.12 725.63 307.39 22.11 - 108 -  MOZAMBIQUE STATEMENT OF IFC's HeldandDisbursedPortfolio J u ~30 - 2002 InMillions USDollars Committed Disbursed IFC IFC FY Approval Company Loan Equity Quasi Partic Loan Equity Quasi Partic 1996 AEF CahoraBassa 0.18 0.00 0.00 0.00 0.18 0.00 0.00 0.00 1998 BIM-INV 0.00 0.30 0.00 0.00 0.00 0.30 0.00 0.00 2000 BMF 0.00 0.20 0.00 0.00 0.00 0.20 0.00 0.00 1997101 MOZAL 25.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 1999 Maragra Sugar 10.30 0.00 0.00 0.00 0.00 0.00 0.00 0.00 1992 Polana Hotel 0.53 0.00 0.00 0.00 0.53 0.00 0.00 0.00 2000 SEF Ausmoz 0.72 0.00 0.00 0.00 0.45 0.00 0.00 0.00 1997 SEF CPZ 1.00 0.00 0.00 0.00 1.00 0.00 0.00 0.00 1997 SEF CTOX 0.73 0.00 0.00 0.00 0.73 0.00 0.00 0.00 2000 SEF Cab0 Caju 0.58 0.00 0.00 0.00 0.51 0.00 0.00 0.00 1999 SEF ROBEIRA 0.13 0.00 0.00 0.00 0.13 0.00 0.00 0.00 Total Portfolio: 39.17 0.50 0.00 0.00 3.53 0.50 0.00 0.00 Approvals Pending Commitment FY Approval Company Loan Equity Quasi Partic 1999 Mozal Swap 9.00 0.00 0.00 0.00 2000 2.00 0.00 0.30 0.00 200 1 BIML SEF Grand Prix 0.44 0.00 0.00 0.00 Total Pending Commitment: 11.44 0.00 0.30 0.00 -109 -  Annex IO: Country at a Glance MOZAMBIQUE: Energy Reform and Access Project Sub- POVERTY and SOCIAL Saharan Low- Mozambique Afrlca Income Development diamond' 2001 Population, mid-year(millions) 18.1 674 2,511 1 GNI per capita (Atlas method, US$) 210 470 Life expectancy 430 GNI (Atlas method, US$ billions) 3.8 317 1,069 I I Average annual growth, 199541 T Population (%) 2.2 2.5 1.9 Labor force (%) 2.2 2.6 2.3 Most recent estimate (latest year available, 1995-01) capita nroiiment Poverty (% ofpopulation below nationalpovertyline) Urban population (% of total population) 41 32 31 I Life expectancyat birth (years) 42 47 59 L Infant mortality (per 1,000live births) 129 91 76 Child malnutrition (% of children under 5) 26 Access to improvedwater source Access to an improvedwater source (% ofpopulation) 60 55 76 illiteracy (% ofpopulation age 15t) 55 37 37 Gross primary enrollment (% of school-agepopulation) 71 78 96 I - Mozambique Male 83 85 103 i Low-incomegroup Female 60 72 88 KEY ECONOMIC RATIOS and LONG-TERMTRENDS 1981 1991 2000 2001 Economic ratios' GDP (US$ billions) 3.5 2.5 3.8 3.6 Gross domestic investmentiGDP 6.0 16.0 39.6 41.6 Exports of goods and services/GDP 9.9 11.2 12.3 21.7 Trade Gross domestic savings/GOP -9.8 -11.2 11.9 19.2 Gross nationalsavings/GDP -8.6 -6.7 15.6 17.3 T Current account baiance/GDP -13.2 -29.6 -27.7 -23.6 interest payments/GDP 0.0 0.6 3.8 5.1 Domestic Investment Total debtiGDP 1/ 0.0 336.7 136.5 138.1 savings Total debt service due/exports2i 0.0 15.5 9.1 3.5 Present value of debtiGDP 21 24.6 25.3 L Presentvalue of debtiexports2/ 194.4 116.0 Indebtedness 1981-91 1991-01 2000 2001 2001-05 (average annualgrowth) GDP 1.2 7.3 1.6 13.9 9.0 -Mozambique GDP per capita -0.1 4.9 -0.2 11.8 6.9 Low-incomegroup EXDO~~Sof goods and sewices -2.7 14.8 15.0 60.0 25.6 1981 I991 2000 2001 ("A of GDP) 1Growth of investment and GDP (Oh) Agriculture 35.1 33.7 24.4 22.0 6o T Industry 33.8 17.6 25.1 25.8 Manufacturing 9.2 12.6 11.5 Services 31.1 48.6 50.5 52.2 Private consumption 97.0 100.6 78.2 70.4 General governmentconsumption 12.8 10.6 9.9 10.4 imports of goods and services 25.8 38.4 40.0 44.0 1981.91 1991-01 2000 2001 (average annual growth) Growth of exports and imports (%) Agriculture 5.4 5.9 -10.3 14.0 75 industry -3.9 17.2 4.3 34.1 50 Manufacturing 18.0 11.0 34.3 25 Services 9.4 1.2 11.3 -8.3 0 Private consumption -0.2 3.9 -4.3 -2.2 25 General governmentconsumption -2.7 3.0 5.0 -4.4 501 Gross domestic investment 4.9 16.8 6.2 14.6 Importsof goods and services -2.6 -Exports --O'lmports 7.7 0.0 3.0 Note: 2001 data are preliminary estimates. *The diamonds show four key indicators in the country (in bold) compared with its income-group average. if data are missing. the diamond will be incomplete. - 110-  Mozambique PRICES and GOVERNMENT FINANCE 1981 1991 2000 2001 Domestic prices (% change) Consumer prices 4.2 33.3 12.7 9.0 Implicit GDP deflator 4.1 46.2 11.7 11.3 Government finance (% of GDP, includes current grants) Current revenue 15.4 16.6 17.8 17.8 96 97 88 99 00 01 Current budget balance 2.1 3.8 4.2 3.7 Overall surplusldeflcit -8.7 -10.1 -10.9 -12.9 -GDP deflator ' I O I C P I TRADE 1981 1991 2000 2001 (US$ millions) I Export and Import levels (US$ mlll.) Total exports (fob) 281 162 364 704 11.500 1 Cashew 55 16 28 31 Prawn 52 61 69 81 Manufactures 40 14 15 1,000 Total imports (cif) 791 1,162 1,117 Food 87 72 ~ 500 Fuel and energy 44 41 Capital goods and Mozal related imports 410 396 l o Export price index (1995=100) 91 99 77 90 ~ 95 96 97 98 89 00 01 Import price index (1995=100) 107 90 88 84 Exports W Imports Terms of trade (1995=100) 31 85 110 87 108 BALANCE of PAYMENTS 1981 1991 2000 2001 (US$ millions) Current account balance to GDP ( O h ) 1 Exports of goods and services 395 310 732 1,022 0 Imports of goods and services 858 894 1,546 1,588 Resource balance -464 -584 -814 -566 .io Net income -1 -154 -228 -283 Net current transfers 0 0 0 0 Current account balance -464 -738 -1,042 -850 .20 Financing items (net) 398 751 1,235 853 Changes in net reserves 67 -13 -194 -4 -30 1 Memo: Reserves including gold (US$ millions) 171 240 746 727 Conversion rate (DEC, locailUS$) 35.4 1.462.9 15,447.1 20,703.6 EXTERNAL DEBT and RESOURCE FLOWS 1981 1991 2000 2001 (US$ millions) Composltlon of2001 debt (US$ mlll.) Total debt outstandingand disbursed 4/ 0 8,402 5,125 4,980 IBRD 0 0 0 0 IDA 0 328 760 760 B: 760 Total debt service 5/ 0 57 67 46 IBRD 0 0 0 0 IDA 0 2 9 4 Composition of net resource flows 41 Official grants 502 564 469 Official creditors 0 94 151 83 Private creditors excl. non-guarateeddebt 0 -16 -1 -1 Foreign direct investment 0 23 139 183 E: 3,631 World Bank program Commitments 0 53 62 229 4 IBRD - E Bilateral Disbursements 0 56 98 51 B IDA D -Othermultilateral F Private -- Principal repayments 0 0 4 5 Z IMF -- G Short-term . Net flows 0 56 94 47 interest payments 0 2 5 5 Note: Private debt in chart includes non- Net transfers 0 54 89 42 guaranteed debt of US$ ,747 m. ueveiopmenr tconomics YI Il I U L 4/ Public and publiclyguaranteed. Data for 2000 reflects legal situation as at the end of 2000. Does not reflect full delivery of assistance under -111 -  Additional Annex 11:Letter of Development Program MOZAMBIQUE: Energy Reform and Access Project 1 - 112-  2 -113-  3 -114-  -115-  -116-  -117 -  -118-  -119-  -120 -  -121-  Additional Annex 12: Subsidy Transfer Mechanism MOZAMBIQUE: Energy Reform and Access Project Subsidv Transfer Mechanism The transaction process is summarized inthe following diagram. Transaction Process Preparation Winning bids get concession S11bsidy I Assistance and subsidy contract award + paid on outputs Competitive Bidding .... l e n l o n t n f l,I Proposals not based on The subsidy mechanism will be competitive and mainly output-based, with most o f the payout occurring after specific connection targets have been met. Two types o f competitions will be used- structured transactions, using a "competition for the market" approach, and "project-on-project" competition to allow for unsolicited proposals to be considered ina fair and transparent manner. The subsidy mechanism will be based on concepts developed by the PSP study, but supplemented with structured transactions. Database. FUNAEwill further develop and maintain a database o f rural electrification opportunities. It currently maintains one which consists o f only very small potential schemes. Potential projects could be identifiedby DNE (through DIPREMEs), local governments, other government agencies, NGOs,private companies, donors, or operating companies inthe energy sector. The database will be public information, available (including via the internet) to the public. - 122 -  StructuredTransactions. Every year FUNAE(supported by a transaction advisor) will use the database to identify a number o f area concessions (such as Northern Inhambane). Dependingon the least-cost approach, the concession will be based on either mini grids or line extensions o f f the integrated network. As appropriate, some solar home system obligations could also be included. The following steps will occur: Bidpackageswill be prepared inparallel; the packages will provide a description ofthe market, indicative technical plan, and will fix most parameters (e.g. connection targets, performance standards, concession fee, tariffs, subsidy per connection, etc.). Bidpackageswill include model documents (ideally basedon those already developed in connection with the Northern Inhambane systems). Bidders will be prequalified. Bidpackages will be issuedas a set to prequalifiedbidders. Bidderscouldbidon one or more of the packages and could bidonthem all ifthey so chose. Bids for eachpackage will be evaluated, and a preferred bidder identified for eachpackage. The selection could be made out on either a least-subsidy request (iftariffs are fixed) or lowest tariff bid (ifsubsidies are fixed). Winning bidders will be awarded a concession contract for the given area, and will get most o f the subsidy award only when connection targets have been achieved; FUNAEwill be responsible for monitoring this aspect o f concessionaire performance and for approving disbursement o f subsidy by a trust agent. Inthe initialstages o fthis program, donors will play an important role inidentifying bidpackages and assisting with bid package preparation (including through funding o f the transaction advisor). Open Competition. Following issuance o fthe BidPackages inthe "Structured Transaction" round, FUNAEwill announce a due date for unsolicitedproposals. Proposals could be based on projects inthe database or on projects that are identified by other means. Proposals could also be made for any bid package that did not receive any bids inthe "structured transaction" round. It will also cover requests for support o f expansion o f existing private distribution businesses (whether these are minigrids, private line extensions, or privatized parts o f EdM's distribution activities). -123 -  I ! Concession and Subsidv Contract Award Process Transaction Trust Agent MPFlFUNAE Concessiona Team* (as Rep.of MPF) DNE -Elires Submit Proposals Proposal evaluationand selectionof SubsidyContract preferredbidders info to Trust Agent Post Performance Bond and Proceedwith Contract =on < teamsupported by Step I: Competitivc biddingproccsses will be uscdto sclect the project promoters and to award thc subsidy contracts. A Bid Packagc comprising proposed concession and subsidy contracts will be issued to qualified biddcrs, inviting them to submit proposals according to rules establishcd by the GOM's Transaction Tcam. Note: ifOpcn Competition is used, minimum-subsidy biddingwill bc a rcquircment. Step 2: The proposals will be evaluated by the Transaction Team; this unitwill include DNE, CNELEC, and FUNAEpersonnel and be supported by consultants. Evaluation will be done according to pre-specified criteria with an emphasis on objective, quantitative parameters - least subsidy bid, lowest tariff offered, most connections, or some combination. Step 3: Once the Transaction Team identifies the Preferred Bidder and successfully concludes negotiations, DNE awards the concession contract. Most terms and conditions o f the concession contract should not be open for negotiation, with operating and financial parameters fixed in the Bid Package, other than those selected as bidding variables. Step 4: Following concession contract award, FUNAE, on bchalf o f the Ministry of Planning and Finance, should issue the subsidy contract. The subsidy contract would specify the level o f per conncction subsidy, the overall connection target, the connection schedule, reporting requirements, monitoring and evaluation procedures, and invoice and payment proccss details. Step 5: FUNAEprovidcs key subsidy contract information to the Trust Agent. The Trust Agent is a commercial bank with a good reputation and operating record whose job is to receive, hold, and disburse subsidy amounts to eligible contractors. The Trust Agent disburses only on specific instruction to do so (see Subsidy Contract Monitoring Arrangements). - 124 -  Step 6: Award of the Subsidy Contract, including notice that the contract information has beenprovided to the Trust Agent, is the trigger for initiationof the concession arrangement. Within [thirty] calendar days of Subsidy Contract award, the Concessionaire should start work and submit its Annual Connection Planand 1st subsidy invoice. Subsidv Contract Monitoring Arrangements Trust Anent Copy of plan and Verifier Receive invoice invoice, make Annual connection payment (up plan and invoice Receives Is' Receive connection report and invoice, make payment Receive conne :tic ConnecticIn Report, . Anncal C mnection Plat-, ami invoice Receives implements connection plan Step I: On an annual basis, including at the outset of the concessionperiod, the concessionaire prepares and submits a Connection Plan for the year. An invoice i s also submitted for the agreedup-front subsidy payment. Step 2: FUNAE revicws plan and approves invoice (assuming the plan is complete and complies with concessionand subsidy contract). Step 3: FUNAE instructs the Trust Agent to pay the Concessionaire the up-front component of the subsidy. Step 4: The Concessionaire receives payment. (Note: payment should be exclusively by electronic transfer). Step 5: The Conccssionairc implements the annual connection plan (at contract initiation, for green field sites, this will also includc initial installation o f generation and mini-grid). - 125-  Step 6: Near the end o fthe first year o f operation, the Concessionaire prepares and submits a Connection Rcport for the year, recording how many connections were made, whether targets have been met, etc., and submits the Connection Plan for the next year. The Concessionaire submits the second invoice for the balance o f the subsidy for those connections actually made, and for up-front component of next year's program. Step 7: FUNAE reccivcs and providcs an initial review o f the Conncction Rcport. Ifthe report is completc and complies in tcrms o f format with contractual obligations, FUNAE sends the report to a Third Party for verification that the claimed connections were actually made. Step 8: The ThirdParty Verifier audits the report through random site visits and other techniques, and reports back to FUNAE on his findings. Step 9: Ifthe Connection Report is certificd as accurate by thc Third Party Verifier, FUNAEapproves thc rcport and the invoice. Step 10: A payment instruction is sent to the Trust Agent. Step 11: The Concessionaire receives payment, and implements the following year's connection program. NOTE: After the first year, procedures 5 - 11repeat on annual basis, or more regularly ifinvoicing is donc on a less than annual basis (e.g. every 6 months). Financing and Replenishment o f the Trust Agent Account - IDA Trust Anent MPF/FUNAE oncessionaire Administrivo Contract info to Trust Agent Rep.(asMPF) of I Contract Approval performance bond, submit first invoice* TrT?-G Funds Request for transfwfcorn SA i Funds received Receive subsidy and W u t ts *Copies to DNE and Report to DNE FUNAE, including from FUNAE verification connection reports and plans - 126 -  Step 1: FUNAEmakesa Subsidy Contract award to a private concessionaire. Step 2: FUNAEprovides key contract information to the Trust Agent. Step 3: The Contract information is also supplied to MPF, together with aggregatedcontractual commitments. Step 4: MPFrequests IDA for disbursementfrom ERAP Step 5: Uponreview of the disbursementrequest, IDA deposits the requested amount into a Special Account managed by Trust Agent. Step 6: The Trust Agent receives payment instructions and makespayments to concessionaires (See Subsidy Contract MonitoringArrangements). Step 7: Concessionairesreceive subsidy payments (subsidy is disbursed to conccssionaircs fully or mostly on outputs, with up to 25% per connection paid up-front). Step 8: FUNAE receives subsidy payment reports from Trust Agent. Step 9: Periodically, FUNAEaggregatessubsidy payment reports and reports to MPF on the perfoiinance of the contracts and the amount o f subsidy actually disbursed. Step IO: As ncccssary, MPF requests additional disbursements from IDA to ensure that the Trust Agent can meet subsidy payment obligations. -127 -  Additional Annex 13: GEF Incremental Cost Annex MOZAMBIQUE: Energy Reform and Access Project Introduction and GEF Program Rationale Mozambique is a low-income country struggling to rebuild after years o f war and severe debt service burdens. Impressive economic growth o fthe last several years has beenconcentrated inor near urban areas, especially the south, inpart because o f limitedor poor quality infrastructure. The government is gradually expanding the network o f public services -especially inhealth and education sectors -and its recent Poverty Reduction Strategy Paper plans broad-based public investments inboth social infrastructure (education, health) as well as physical (roads, water, energy). Access to electricity i s low, and commercial expansion o f the main grid i s not feasible in the foreseeable future for much o f the large expanse o f the country. Givenits current and prospective claims on Cahora Bassa hydroelectric power, the opportunities to generate global environmental benefits via grid-connected renewable electricity (RE) technologies are also limited. The potential "workable entry point" for such technologies to generate greenhouse gas (GHG) reductions are therefore potential users in areas remote from the main grid. There is some experience with REtechnologies -wind, PV, and micro-hydro - and the G o M has established a goal o f electrifying all administrative centers, isolated health centers, and `other social and economic important targets' with off-grid options over the coming ten years. (National Rural Electrification Strategy PlanNovember 2000). The proposed two-phase program (APL) provides an opportunity to meet this key challenge via: (a) gradually removing information and awareness barriers, and gaining end-user confidence; (b) reducing the costs o f RE - inparticular solar photovoltaic (PV) - technologies via rapidly expanding the market size and establishing more efficient supply chains for products and services, both with the rest o f the world and within the country; and (c) building the human resource and institutional capacity inpublic as well as private sectors to develop viable REbusinesses. The proposed program's sector reform and access expansion objectives are centered on de-monopolization o f electricity service, creation o f a level playing field, unbundling of tariffs, cost-reflective price regulation, and use o f "smart subsidies". These requirements are conducive to creating and supporting viable REbusinesses under the program, which concentrates at first on remote P V applications, and then on independent mini-grids based on micro-hydro and wind. The proposed program's RE component inpart draws its inspiration from, and aims to leam from the Uganda Energy for Rural Transformation APL - supported by the Africa Rural and Renewable Energy Initiative (AFRREI)-with two distinctions, considering Mozambican conditions: a relatively greater focus on capacity building, and exclusion o f GEF support for RE supplies into the maingrid. Compared to other GEF/Bank `climate change' projects, the proposed program has several distinctive features: 0 REpromotion is linkedwith sector reforms within the same project. 0 Initial GEF and other donor support i s directed mostly toward P V investments and technical assistance (TA)/capacity building (CB) activities (with the effect that the calculated incremental costs for Phase Io f the APL are high). - 128-  0 Its P V component, inturn, i s based on a philosophy of `cross-sectoral' collaborations and donor partnerships leading first to investments in "large" or "institutional size" P V systems (which allow markets for retail P V systems - such as fixed solar home systems or mobile solar "lanterns" -to piggy back). These features also entail a more rigorous and innovative approach to workable monitoring and evaluation (M& E) arrangements. Broad Development Goals As mentioned inthe main text, the proposedprogram's development objectives are to: (a) accelerate, in a commercially viable manner, the use o f electricity for economic growth and improved quality o f life in underserved areas; and (b) strengthen Mozambican capacity to expand the energy sector. It seeks to achieve these objectives via supporting the design and implementation o f the Government o f Mozambique (GoM) National Energy Strategy that, inter alia, aims at reforming the Mozambican energy sector and implementing an enabling environment for greater private sector participation inthe sector. The RE component o f the proposed program supports these goals by introducing competitive off-main grid approaches to provision o f electricity services via primarily private sector investors inthe supply and service chains. The proposed program's global objective i s to initiate the process o f eliminating the barriers that impede the development o f renewable energy. Promotion o f these REtechnologies would provide rural institutional and household customers the direct benefits o f increased access to electricity, inthe form o f direct current (DC) power produced by stand-alone solar P V systems or that o f alternating current (AC) by independent RE-based grids. The provision o f electricity to rural public institutional customers such as health and educational facilities and administrative posts will result inindirect benefits to the poorer households inthe form o f higher-quality public services, even when they themselves cannot afford electricity access intheir homes. Barriers to Renewable Energy Development and Barrier Removal Strategy Inthe Mozambicancontext, the mainrationale for supporting the development o fREindustry is that RE technologies: 0 Have a geographic and demographic market niche, now and for the foreseeable future. 0 Offer opportunities for specific indirect benefits o f electricity provision to public social infrastructure institutions. 0 Whenmature, can compete with grid supplies based on conventional large hydro or coal-fired electricity. Such decentralized RE technologies are an economically and environmentally superior choice for certain end-users,buttheir market development is constrained by several factors: - 129-  1. Low levels o f awareness and experience with RE technologies, inboth public and private sectors, despite a small but unpredictable market (driven largely by donor grant programs with limited attention to local market development or financial sustainability or scaling up). 2. Limitedresource assessment. 3. Financing constraints at various levels - suppliers to end-users - and the inability o f financial intermediation mechanisms to provide adequate riskmanagement options. 4. Limited institutional capacity to mount and monitor a sizeable program o f public investments andor assistance to private business development inthe form o f a supportive regulatory environment and financial intermediation alternatives (debt or grant). 5. Significantly higher domestic prices compared to other countries in Africa or other parts o f the world, reflecting a lack of efficient supply and service chains, and limitedhuman resource capacity (on technical, business or policy fronts). The general misperception -inpart a result o fthe GoMpolicy to apply "uniform national tariff" for EdMcustomers-that Cahora Bassaprovides "very cheap" hydro-electricity also contributes to the potential for RE technologies and a neglect o f niche service needs that can be - and often i s -met by intermittent, non-grid electricity service (by batteries or gensets, which can be replaced by solar PV). At the same time, there have beensome investments inwind water pumping and solar P V systems for health clinics and water pumping, both financed by donor grants. There are also some private investments insolar home systems, water-pumping, wind-diesel hybrids,micro-hydro mostly providing shaft power and some electric power, and one also finds solar P V panels being used in small, informal commercial establishments by the roadsides. A number o f local private companies have established themselves as suppliers/installers o f solar P V systems or have shown interest indoing so. Mozambican migrant workers who work in South Africa (especially mines) have been a source o f "cash sales" market for solar P V systems that can be expanded with greater attention to the maintenance and servicing aspects. The existing market for car batteries for household lightingpurposes - about 20,000 to 30,000 a year, at a cost o f US$35-65 each - suggests that solar P V systems, or at least solar battery-charging, could find a viable market with sufficient potential for scaling up as the awareness expands and as local costs are brought closer to the international levels. Itis recognized that even with more efficient supply chains and support o f competitive distribution agents inthe Mozambican market, renewable energy options will face a significant financing constraint, and that initially these technologies will have to be provided direct subsidies and other types o f business support (e.g. marketing campaigns). The precise modalities o f financing support will be developed duringthe course o f additionalproject preparation. There are three broad elements o f the barrier removal strategy o f the proposed program: (a) significant market expansion, led initially by P V systems for large public institutional customers, which would both lower costs and expand experience; (b) associated assistance inestablishing a domestic commercial supply and service chain, led initially by P V markets and followed by micro-hydro and wind markets; and (c) technical assistance and capacity buildingfor RE resource and market assessments, development o f appropriate policy and regulatory environment, and institutionalhusiness support. The last element o f this strategy fits well with three separate elements of the rest ofthe program: (i) establishment o f regionally differentiated grid distribution tariffs and `lightregulation' o f independent grids (which reduce the market barriers against off-grid RE technologies); (ii) provision o f `smart subsidies` for all types o f providers (grid distributors, independent grid operators, and off-grid REbusinesses); and (iii) development o f a comprehensive approach to policy and regulatory developments. -130 -  Phase Ichoices: The details o f specific Phase Iand Phase I1activities inline with this strategic vision are provided below. The tactical choices for Phase Iare: Rather than initiate a broad, nationalprogram, to limit Phase Isolar P V investments to a select number o f provinces - Cab0 Delgado, Nampula, and Zambezia - inorder to generate a `critical mass' o f investment and service market for the large institutional P V systems and to correspond to investments inthe main-grid and independent grids inPhase I. Rather thanjust `open the window and wait to serve whoever that comes', to limit the choice o f strategic `partner' sectors inpublic investments to rural health, education, and local government (with a possibility for including rural water, and rural telecom - incombination with promotion o f information and communication technologies (ICTs) for the main `partner sectors' if and as appropriate) inorder to work toward complementary, synergistic investments and builda framework for sustainable, expanding program o f use o f rather thanjust `open the window and wait to serve whoever that comes'. To work with other donors and leverage their grant resources to apply a "head start" approach to capacity buildingand technical assistance - i.e., linked to preparation for future investments -in both public and private sectors, rather than risk dissipation o f such efforts inthe absence o f follow-up investmentfinance. To utilize existinginstitutions and other development projects to buildpartnerships and leverage both funds as well as local human resource capacity. Preparedness triggers for Phase I1 Broadly, implementation progress o f Phase Iinvestments and technical assistance/capacity building (TNCB) activities, and identification o f Phase I1investment and capacity needs, will be usedas `preparedness triggers' for Phase 11. I t is conceivable that different sub-components o f the GEF-supported project component could be advanced into Phase I1at differenttimes. For example, if the independent grid operators inPhase Iinvestments show an interest inproviding solar home systems or "lanterns", or service and maintenance contracts for large P V systems as a part o f their operating strategies, the solar P V sub-component may well be ready to transition into Phase 11. On the other hand, ifdevelopments inthe `sector reform' portion oftheprogram(e.g., establishment ofunbundledtariffs and third-party access, corresponding regulatory structures, or financial intermediation mechanisms for private service providers) delay, so might main grid-connected RE investments. A mix o fthe following specific indicators will be usedto assess readiness for Phase 11: 0 Progress in `cross-sectoral' activities for large institutional P V systems - namely, the preparedness o f relevant ministries (of health, education, public administration) to: (a) incorporate `electricity service' as a part o f their routine capital and operating budgeting process; and (b) to routinely designtheir requirements and conduct procurement o f RE equipment and services. - 131-  Level of other donors' interest inexpanding the `public institutions' market for solar PV. Adequate output from the TA activities -resource assessment, market assessments, assistance with supply chain improvements. Identification o f sites for grid-connected and independent grid RE investments, with potential private sector interest inequity and debt finance. Capacity and interest inthe central and provincial ministries and directorates to implement and expand public sector investments. Capacity inthe private suppliers businesses to expand competitively. Level o f customer satisfaction (with direct benefits - o f improved lighting-or indirect benefits - improvement inthe quality o f public service deliveries). Development o f indigenous M & E capability - in accordance with indigenously articulated objectives, criteria and methods - aimed at sustaining and expanding the RE market. The Baseline Without GEF participation, the Energy Reform and Access Program could still proceed; but (a) the focus on renewable energy promotion would be diffuse; (b) RE investments will not reach a `critical mass' to mobilize local private sector capacity for competitive supplies; and (c) thejustification to invest human and institutional resources into technical assistance and capacity building-inparticular, aimed at a wider, systematic program o f renewable energy industry development inPhase I1-will be much weaker. A. Increased reliance on petroleum-based fuels -with associated carbon emissions -for small electricitv markets 0 Rural public health and educational facilities will continue to rely on gasoline generators for the provision o f electricity, and there will be no `demonstration effects' on private customers - `larger' commercial customers or individual households. 0 Peri-urban and rural households that cannot be effectively served by the main grid or independent grid supplies will continue to rely mostly on kerosene lighting (with some use o f automobile batteries or dry cells for small electrical appliances such as radios or flashlights). 0 Private investors inindependent grids (or for large private customers such as for farming estates) will for the most part neglect the potential for micro-hydro or wind technologies because o f lack o f awareness, absence o f routine supply chains, and lack o f financing. B. Limitedcauacitv develoument inurivate and public sectors: 0 The domestic solar P V industrywill remain small, serving an unpredictable and geographically spotty market, and its incentives to establish reliable supply chains externally or internally, or invest inhuman resource capacity, will be sharply lower. There will be virtually no capacity inthe public sector to help identify, design, and implement -132 -  REprojects. Inturn,the scale and experience base of technology adaptation and `localization' will remain very low, and the pace o f REdevelopment will remain largely subject to small, uncoordinated projects o f individual external grant donors. 0 The potential benefits o f `sector reforms' - demonopolization o f the grid electricity supply industry, establishment o f thirdparty access and unbundledtariffs, and transparent `smart subsidy' mechanism-will not accrue to the REindustry(or will be sharply limited,and go to support unnecessarily higher costs). 0 The volume o f overall cost-effective investments over the longer-term will be lower. This i s because, to the extent that RE technologies provide an opportunity to serve small, disperse markets more cost-effectively over the long-term, continued reliance on higher-cost options such as main grid extension or kerosene would necessarily imply an economic loss. Also, to the extent that continued reliance on low-quality lighting sources such as kerosene lamps involve higher costs (inthe long-term), there is a corresponding loss in economic welfare, and the transition to modern lighting services would proceed slower. The Alternative(TheProject) The proposed alternative consists o f investments and technical assistance/capacity building (TNCB) for two classes o f RE technologies: 0 Solar P V systems, initially focused on large institutional users inthe public sector (rural health and educational facilities, and local administrative posts), but gradually buildingup larger market share for household-size systems. 0 Micro-hydro and wind power technologies, primarily for independent grids to serve local customers, but may also be used for large industrial or commercial users or to supply bulk power into the main grid. InPhaseI, PV investments and T N C B activities dominate; micro-hydro and wind investments (or solar "grid renewables") are expected to be quite limited due to: (i) resource data; (ii) transaction limited high costs; and (iii)slow development o f regulatory institutions for independent grids. InPhase 11, the "grid renewables" market is expected to expand rapidly, and the use o f GEF funds is increasingly shifted from direct subsidies to indirect `business support', possibly inthe form o f contingent financing. The project approach will: Establish a `critical mass' o f initial solar P V market and subject it to international competitive biddinginorder to exploit the economies o f scale and rapidly bringthe domestic equipment prices inline with the world market levels as well as reduce the unit costs o f local service and maintenance. Support and accelerate entry o f private suppliers o f RE equipment and services, and private entrepreneurs inRE-based `independent grids', with technical and financial assistance. Establish the regulatory and policy framework for a national REprogram, and provide for institutional and human resource development to support such a program. - 133-  Total cost GEF IDA Private GOM Investments US$ US$ % US$ % US$ % US$ % health 1,938,000 650,250 34% 958,290 49% 329,460 17% education 532,000 178,500 34% 263,060 49% 90,440 17% 2,470,000 828,750 34% 1,221,350 Solar home systems - grid concessionaires Cross sectorai 49% 419,900 17% 720,000 275,000 38% 100,000 14% 345,000 48% Solar home systems -dealers 975,000 412,500 42% 150,000 15% 412,500 42% Grid connected renewables 1,800,000 300,000 17% 900,000 50% 600,000 33% Total Investments - phase1 5,965,000 1,816,250 30% 2,371,350 40% 1,357,500 23% 419,900 7% Total cost GEF IDA Private GOM Items US$ US$ % US$ % US$ % US$ % MiNED/MISAU cross 915,000 264,750 29% 335,250 37% - 0% 315,000 34% DNE - policy development and M 8 E 765,000 310,000 41% 455,000 59% 0% 0% FUNAE fuii cost window 950,000 335,000 35% 615,000 65% -- 0% 0% FUNAE cost shared window 950,000 364,000 38% 347,000 37% 239,000 25% --- 0% Total TA phase 1 - 3,580,000 1,273,750 36% 1,752,250 49% 239,000 7% 315,000 9% INVESTMENTS. Phase 2 -Cost and Financing plan I 1 1 I I I I Private I Investments US$ us$GEF I % I US$IDA % US$ % US$GOM % health I 2,851,750 II 397,375114% I 1,969,578II 69%II II I1 484,798 II 17% education 2,135,000 I 297,5001 14%1 1,474,550 69% 362,950 17.1 Cross sectorai 1 Total cost I 4,986,750 694,875 14% 3,444,128 69% 847,748 17% SHS -arid concessionaires 1,815.000 270.000 15% 225.000 12% 1.320.000 73% SHS - ieaiers 1,567,500 270,000 17% 225,000 14% 1,072,500 68% Grid connected renewabies 3,780,000 1,080,000 29% 1,620,000 43% 1,080,000 29% Total Investments - phase 2 12,149,250 2,314,875 19% 5,514,128 45%1 3,472,500 29% 847,748 7% TECHNICAL ASSISTANCE -Phase 2 Cost and Financing - Total cost Private I I Items US$ US$GEF I % II US$IDA % II US$ % US$GOM % Total TA phase 2 - I 1,000,000 III 500,000 I50%1 250,000 II25%1 II O%I 250,000 II 25% IncrementalCost summary The calculated incremental costs are based on the following scenarios for: (a) investments; and (b) technical assistance and capacity building. Investments Investments in institutional and household solar PVsystems: The goal o f the GEF alternative is to open up the institutional (health clinics, schools, NGO posts, and private businesses) market for solar PV systems to local competitive procurement, to establish the financial, technical, and business development intermediation mechanisms for local suppliers, and to `piggy back' the marketing and market development o f solar home systems and small/mobile solar systems. GEF grants would be used for direct subsidies - either as fixed unit price ($/Wp or $/unit) or competitively - via a National Rural Electrification Fund(possibly a window within FUNAE, for channeling GEFhilateral grants). In particular, two distinct markets would be targeted (other markets may emerge as a result o f "demonstration effects"): - 134-  0 Cross sectoral institutional svstems: The first program would be directed at meeting efficiently the modernenergy needs o fruralinstitutional consumers such as health clinics, schools, and - administrative posts, and possibly for water supplies (for general access or dedicated to the use o f clinics or schools, say) intwo or three provinces inPhase Iand for additional three or four provinces inPhase 11. Phase Iwould initiate the process by providing about 300 `large systems' for lighting, cooling for vaccines and electricity for other appliances (radio, telecom, TV). The typical system size would be about 700 Wp, and would cover basic electricity services for staff housing as well. This would be a "cash market" for private suppliers, with the bulk o f financing coming from donor-supported investmentprograms inthe education and health sectors (as well as G o M budgets for these sectors under the PRSP), andthe remainder from GEF grant support under this project. 0 Household svstems (through grid concessionaires and through dealers): The second program would aim to provide "fixed" solar home systems (of about 40 Wp each) for lightingand TV, or small/mobile solar systems (or "lanterns", o f about 12 Wp each) to rural households and small commercial users on a commercial basis with some subsidies from either the grid concessionaires or solar dealers. Phase Itargets installation o f about 1,600 SHS and 900 mobile systems. Phase I price reductions, service improvements, and increased awareness o f (and confidence in) solar P V technologies are tentatively projectedto lead to Phase I1investments o f about 6,000 SHS and 7,000 mobile systems. It i s expected that during Phase I,a few reliable, competitive solar P V dealers emerge, who would be able to extend consumer credit (or `hire-purchase' schemes) in Phase I1and refinance it via commercial banks; if so, Phase I1o f the program would provide for an on-lending scheme for IDNother credit sources. Assuming that the relevant ministries- of, say, health, education, state administration, and perhaps water -have the relevant funds to procure electricity services for their facilities -the `baseline' for the large institutional customers (some o f whom exist, and some expected to emerge as a result o f rehabilitation and expansion o f rural health and education networks) would be the use o f gasoline gensets according to the types o f service they are expected to provide. Some institutional systemswould be installedwith external grant funds, but with widely varying technical standards, and uncertainor inadequate attention to after-market services or to scaling up the market over time. The baseline for the household customers is that some cash purchases from South Africa (via the miners' supplies companies) and Zimbabwe would continue, and local retail sales o f modules and systems will grow somewhat. The prices will remain high, the quality unreliable, service unavailable or high-cost. The awareness o f P V technology will remain low, and it would continue to be seen as `risky' or `inadequate'. Under the GEF alternative, the annual P V market will be expanded to roughly US$1.3 million per year during Phase Iand to US$2.2 million per year duringPhase 11, solar P V businesses would be assisted in findingbest-price sourcing opportunities from aroundthe world (including possibly localproduction of some components), and would be provided a per Wp subsidy to reduce first costs and enable expansion o f sales and service networks. The businesses will also be given other direct assistance, as necessary, in strengthening their capacity to access commercial and quasi-commercial short- or long-term finance (including from SME development projects such as Bank-financed PODE program, or from foreign equipment suppliers and private grant donors). -135-  This package of interventions to rapidly expandthe marketinapredictable mannerand supporting the entiredelivery chain as well as pioneering institutionalcustomers is expectedto leadto significant cost and price reductions (via international competitive bidding) as well as greater awareness and acceptance -firstforthelargerinstitutionalsystemsandgraduallyforthesmallersystems. TheGEF-financed up-front subsidy to the PV investment component is expectedto be inthe order of about US$5/Wp duringPhaseI and US$lnVp during Phase11,and overall US$2/Wp for the entire program. These correspond to about US$30per ton gross carbon dioxide abatedinPhase I, US$lO/t inPhase I1and US$l5/t overall (or about US$110/t, US$36/t andUS$57/t respectively for gross carbon abated). I PV Investments GEF `buy down' I Avg.size # of Capital cost per Wp per ton per to Wp systems $/Wp c 0 2 c02 Phase I Institutional systems 750 300 $ 15.2 $ 5.1 $ 31.2 $114 Home systems 40 1,600 $ 14.4 $ 5.4 $ 27.5 $101 "Small"/mobile systems 12 900 $ 11.6 $ 5.7 $ 26.1 $96 Totallweighted average $ 14.9 $ 5.2 $ 30.0 $110 PhaseII Institutional systems 550 $ 12.2 $ 1.7 $ 10.3 $38 Home systems 6,000 $ 12.1 $ 1.8 $ 9.4 $35 "Small"/mobile systems 7,000 $ 8.8 $ 1.8 $ 8.1 $30 Totauweighted average $ 11.7 $ 1.8 $ 9.7 $36 Program Institutional systems 850 $ 13.2 $ 2.9 $ 17.7 $65 Home systems 7,600 $ 12.6 $ 2.6 $ 13.2 $49 "Small"/mobile systems 7,900 $ 9.1 $ 2.2 $ 10.2 $37 Totauweighted average $ 12.7 $ 2.8 $ 15.4 $57 Investments in renewables connected to the grid (hydro/wind): This component would consist of investments in small hydro or wind electricity generating facilities, either for independent grids for local distribution or for self-generation by large industriallagriculturalusers or for grid connected systems. There has been some -albeit limited-assessment ofmicro-hydro potential inMozambique, and significant efforts have been made over the years by NGOs working with various local stakeholdersto demonstrate the viability of micro-hydro options. (Some micro-hydro generation sets owned by local governmental authorities date back to pre-independenceperiod, and some private investors have also beenusing suchsystems). On the wind technology option, no comprehensive resourceassessment has been conducted but the generalview has beenthat: (a) Mozambique's wind regime is probably not conducive to large-scale windfarm development for competitive supplies into the main grid; but that (b) pockets of appropriate wind regimes do exist, for small-scale generating options as proposed here, possibly also as `hybrids' in combination with existing diesel generators inremote areas. (That is, it may be economically attractive to expandcapacity via adding a wind turbine rather than replace with a new, larger diesel generator). Unlikethe PV investments, investments inmicro-hydro andwind options are dependent on: (a) appropriate advances inpower sector regulations for independent grid operators; and (b) detailed, site-specific resourceassessment. However, it also appears - from current vantage point -that once a - 136-  `level playing field' is established (duringPhase I, part o f the sector reforms process) for grid-based as supplies o f RE and non-RE technologies, the `incremental costs' for grid-based RE technologies at resource-favored sites will increasingly consist o f only the initial high `transactions costs' which can be better addressed via use o f contingent financing rather than direct subsidies. (See below). Grid RenewablesInvestments GEF `buy down' Avg.size Avg. # of Capitalcost Per WP per ton per ton kWp systems $/kWp c02 C PhaseI Wind 200 3 $1,650 $0.5 $20.8 $76 Micro-hydro 100 3 $2,530 $0.8 $17.3 $63 Totallweighted average 6 $0.6 $19.1 $70 PhaseI1 Wind 15 $1,490 $0.3 $13.8 $51 Micro-hydro 15 $2,285 $0.5 $11.9 $44 Totallweighted average 30 $0.3 $12.9 $47 Program Wind 18 $1,517 $0.3 $15.0 $55 Micro-hydro 18 $2,326 $0.6 $12.8 $47 Totallweighted average 36 $0.4 $13.9 $51 Technical Assistance and Capacity Building Technical Assistance inPhase Iwill support the preparation o f Phase I1design for: (a) up-scaling o f the cross-sectoral energy/educatiodhealth solar P V initiatives started during the project: and (b) building a broader renewable energy sector development plan. Together with local and international support the necessary backgroundinformation will be collected, institutional arrangements and responsibilities discussed, pipelines for investments identified, energy needassessment models defined, suggestions for policy enhancements and a program for follow up activities described. The design o f the subsidy release criteria, organizational responsibilities inrelation to the subsidies and other related issues will be part o f the activity but will receive separate attention. Market Developmentactivity will support the businesses intheir market research, controlled test marketing, and outreach. The focus o f the market research and the controlled test marketing i s towards the more affordable smaller solar systems for households and optimal design for the larger scale institutional systems. The market researchwill clarify the profile o f the potential buyers thereby establishing stronger focussed marketing strategies, product design and pricing policies. This activity will be developed and undertaken inclose collaboration with the existing companies, and build on the experiences o f some of the larger commercial companies (e.g., beverage makers) who use similar market development process. Inthe later stage o f the project, specific marketing tactics like road shows, district demonstration centers and national awareness campaigns might be considered. To make sure that these activities are undertaken as part o f the individual business strategies the activity will be designed on a cost-shared basis. Capacity Buildingactivity will focus onthree maintarget groups: (i) localrenewable energy the businesses; (ii) development organizations, commercial banks and government officials from energy rural as well as non energy sector ministries; and (iii) cross-sectoral working groups. -137 -  Local renewable energy businesses will receive support to prepare better business plans and implement them. Initially, SME development experts with the assistance o f a solar P V market expert will develop criteria for a high quality business plan inthe Mozambican context. Individual businesses will then be provided guidance and, as necessary, training, to prepare and execute such businessplans. The activity will support businesses to buildtheir capacity to improve products to meet the price/quality range expected by rural households and the health and education ministries. It will also support the businesses to improve and expand their current installation and after-sales services. These activities will be undertaken incollaboration with the CPI and may be achieved through established twining relations with highquality foreign businesses (e& promising south-south trade relationships). Additionally, internationally available renewable energy training programs will be tailored to the Mozambican situation. It will contain teaching modules and extension materials that will strengthen the capacity o f distributors as well as financiers and customers to make informed and reliable choices, and to own and operate the solar P V systems. Simple technology descriptions, data collection tools, and screening tools will be provided, as well as information on how to obtain the equipment. Particular attention will be given to a training module on the cross sectoral renewable energy options inthe health and education sector, and buildon lessons learned by the WHO (World Health Organization), NREL (National Renewable Energy Laboratories) and other international organizations that have worked with and tested the different options inother developing countries. The training material will also contain a module for government officials from energy and non energy sectors on renewable energy policy aspects, international agreements, and renewable energy program management. The material will be based on participatory training methodology. The activity will train local training institutions after which they will receive small financial support to train the different target groups inthe rural and urban areas. The activities will be undertaken incollaboration with UEM,regional renewable energy institutes and the SADC (Southern African Development Community). To implement the institutional systems will require cross sectoral collaboration among different ministries, accompanying experts and businesses. To facilitate this process one or two (health andor education) working groups will be established. A professional facilitator will support the groups during the process of collaboration. Inaddition, technical support will be made available to support the groups on specific issues. The group(s) will support the government officers inestablishing functional specifications, technology assessment tools, operation and maintenance schedules, fee collection mechanisms, definition o f responsibilities, procurement guidelines etc.. PhaseI1of TNCB The needs for technical assistance and capacity building (TNCB) activities inPhase I1will become clearer duringPhase I.Inline with the proposed `preparedness triggers' for Phase 11, these T N C B activities would build on experience gathered duringPhase Iboth inthe public and private sectors, and would be geared towards meeting specific localneeds identified by the stakeholders. As the investment program gradually shifts more infavor o f household solar P V systems and grid-connected renewables, the capacity building activities for the private sector would increasingly consist of business development assistance, and strengthening the supply chains for REtechnology goods and services. Inthe public sector, T N C B assistance to the power sector regulators would be aimed at continuing learning from `best practices' inother parts o f the world. - 138 -  Use of ContingentFinancing Dueprimarilyto the severe structural and capacity limitations ofthe commercial financial institutions in Mozambique, the GEF grant inPhase Iwill be provided directly as a subsidy to the sellers o f RE technologies (PV systems, wind and micro-hydro systems) under rules o f competitive procurement. In Phase 11, however, it is anticipated that direct subsidiesto wind and micro-hydro, or other grid-connected REinvestments, would be gradually eliminated, and other modalities such as partial guarantees would be applied; direct subsidies to non-solar P V technologies would thus be limited to technical assistance and capacity buildingactivities. Direct subsidies to solar P V sellers would continue inPhase I1but on a declining basis as the domestic market grows, costs and prices are closer to those inthe world market (which are also expected to decline). Investors inwind and micro-hydro who distribute electricity to other customers would also qualify for the general rural electrification subsidy inboth Phase Iand Phase 11, under the rules to be developed for the nationalrural electrification fund. GlobalEnvironmentalBenefits The calculated gross avoided carbon dioxide emissions for the 300 kWp solar P V investments and 900 kWp grid-connected wind/micro-hydro investments inPhase Iare 52,000 and 27,000 tons respectively over a 15-year lifetime. InPhase I1investments o f about 736 kWp solar P V and 4.5 MWp grid-connected RE technologies (mostly windimicro-hydro, but may include other), the calculated gross avoided carbon dioxide emissions are 133,000 and 136,000 tons respectively over a 15-year lifetime. Sustainability and Replicability A key strategic reason to choose an APL instrument for a project that also combines sector reforms with REpromotion was to seek to ensure sufficient, gradual nurturingo f the local markets and capacities so as to ensure the long-term sustainability o f RE investments under the project AND acceleration o f these investmentsbeyondthe period when GEF grants cease. The overall approach is that, over time, sustainability will come from barrier removal, cost reductions, rising incomes, and declining GEF grants. Also, as the Government plans to finance the electrification fund via, for example, a levy on energy mega-projects and grid-based electricity, the need for external grants to support electrification ingeneral, or that via RE technologies inparticular, will decline. For solar P V systems, the decline in costs will come from: (i) economies o f scale -which are often realized when a credible expectation o f a large market has beencreated; (ii) formation o f links to lower-cost suppliers abroad; and (iii) risingincomes, which will increase the affordability o fthe systems. Further,the GEF grant per unitfor solar P V systems is also slated to decline over time. Thus, the key assumptions underlying the viability and replication prospects are that cost-reductions will be realized and incomes will rise. Given the GEF share o f 20-25% intotal costs, it is reasonable to expect that cost reductions and income increases over a number o f years will offset the need for such support after the project i s over. Additionally, the planned T N C B activities will support `learning by doing' and incorporating mid-termrevisions and corrections along the way; taking care to reduce grant dependencies o f individual sub-projects. - 139 -  A cost-benefit analysis was conducted for a 40Wp solar home system. The economic benefits inthe analysis include: (i) the avoided costs, inwhich the economic costs ofthe PV system are compared against the economic costs o f substitutes (kerosene, battery charging, etc.) that the P V systems replace; (ii) gainsinconsumersurplus;and(iii) the environmental benefits. The economic analysis o f the solar homes component o f this project shows high economic returns. The ERR and the N P V ((912%) for the 40 Wp solar home systems, are estimated at about 27 percent and US$286,000 prior to consideration for environmental externalities. The benefits are consistent with those estimated inother countries for similar projects. They reflect the high willingness to pay for the improved levels o f lighting service, and the significantly higher levels ofradio listeningandTV viewing. A sensitivity value analysis shows that the results are robust to reasonable changes inthe values o f the key variables. A switching value analysis indicated that the initial system cost and the cost o f replacement parts (battery, controller and light bulbs) would have to increase by 40 percent for the project's benefits to evaporate. With 1,600 systems as the goal, the risk for overestimated market size is small. The risk o f the GEF supporting uneconomic investments i s small since GEF subsidies are linked to the actual installation o f the systems after the customer has revealed its willingness to pay for the system with an out-of-pocket down payment. As one o f the least-developed countries, Mozambique is expected to remain dependent on grant support from donors in social sector investments - e.g., health and education. To that extent, the expansion o f the `public institutional market' will remain indirectly dependent on donor support. The major change this project proposes inthis regard is to incorporate `electricity (and perhaps ICT) provision' as a routine part o f budgetary processes o f individual line ministries. Initially the P V sellers take the usual commercial risk that this portion o f their market depends on the ability o f the G o M to fund public-sector social services. Over time, as their market grows and diversifies, this risk would become relatively smaller. Apart from the techno-economic considerations, innovative financial engineering i s adopted to match the payments for energy services yith the willingness and ability o f the consumers to pay. This includes output based co-financing so as to attract the private sector. Sales service and maintenance would be a necessary requirement irrespective o f the mode o f private sector involvement. The project would also strive to ensure that key stakeholders have the requisite capacity to handle pertinent tasks. All these considerations would ensure long-term sustainability o f operations. The project supports income generation activities to increase affordability of the systems. A study to identify productive uses o f electricity for income generation will be conducted, with particular attention to women and the young unemployedinthe rural areas. The study will identify areas where energy is a barrier to increasing the income generating activities inthe communities, and recommendways o f removing those barriers. The recommendations o f the study will be disseminated to the public and to potential and existing dealers and concessionaires. Secondly, the project will support new companies with an one-off preparation grant up to US$lO,OOO for business plan development -- and an additional US$4,000 ifa productive uses program is integrated. Thirdly, the technical assistance windows invite the stakeholders to submit tailored proposals to address this issue. It should also be mentionedhere that indesigning the activities for GEF support inMozambique, lessons learned from the experience o f the World Bank and other donors in supporting renewable energy technologies incountries inthis region -Uganda, Ethiopia, Zimbabwe, etc. -as well as countries from outside the region - Vietnam, Indonesia, India, Sri Lanka, etc. -have beentaken into consideration. Learning from other country experiences should contribute towards the sustainability o f this project. - 140 -  Also, the Technical Assistance included inthe Project is specifically designed to enhance sustainability o f the Project supported activities during and after the project period. Inparticular, there are several factors, which will contribute to this sustainability goal: A regime o f declining GEF grants (see also below), with a transitionto a more sustainable grant structure such as a Rural Electrification Fund. Explicit incorporation o f renewable energy into power sector planning in general and inrural electrification inparticular. A monitoring and evaluation program, which is aimed at quantitatively assessing the contribution of energy to rural development thus providing a clear indication of its value to decision makers and civil society. Specific TA activities aimed at identifying potential barriers to sustainability and developing mitigation strategies. Monitoring and Evaluation, and Dissemination Monitoring and evaluation toward the GEF objectives would be coordinated to the maximum extent with the overall APL monitoring and evaluation (M& E), which will focus on three broad categories o f impacts - direct and indirect benefits o f electricity access; market viability of a variety o f suppliers and technologies; and achievement of environmental objectives, GEF-specific indicators will be linked to the second and third o f these categories, and are briefly described inthe table below. Baseline levels will be established during initial poject implementation, usingboth quantitative survey techniques as well as participative techniques for qualitative data. It i s also anticipated that, over time, some o f the M & E will be increasingly `mainstreamed' and `localized' - so that the beneficiaries and market players themselves have an interest inproviding, collecting, and reporting data. Disseminationo f program results will be accomplished through regular reporting as well as contributions to international conferences and other such fora. - 141 -  Responsibilities for overall M& E and its sub-components will be determined during the course o f project preparation. Market Development Indicators 0 Sales not financed or subsidized by the project 0 Performance andperceptions o fmarket participants at differentpoints in supply and service chains; foreign participants' interest 0 Percentage codprice reductionat various levels in the supply chains Cost/prices compared to regional and world markets 0 Varieties o f systemsavailable outside the project 0 Varieties o f sales and financing terms offered 0 Codes, standards, and certification 0 Consumer protection mechanisms develoDed and acceDted Grid-renewables 0 Same as for PV investments plus Investments 0 Regulations development for independent grids and for bulk sales to the main grid or independent grids Technical 0 Number o f participants, duration and commitment, cost-sharing Assistance/Capacity 0 Studies completed and decisions taken by G o M building (TNCB) 0 Academidtraining programs mainstreamed 0 Utilities and distribution concessionaires adopt off-grid systems intheir planning and marketing darket Intervention Indicators P V Investments 0 Direct sales (# o f systems, kWp, $, terms o f sales) 0 Geographic spread o f customers 0 Size distribution o fhousehold P V systems e 0 Amount o f subsidies disbursed 0 Budgets o f participatingministriesfor electricity services 0 Amount and sources o f supplier financing r Grid-renewables 0 same as for PV investments - Investments 0 to be develoned darket Sustainability Indicators P V Investments 0 Consumer acceptance o f P V systems as well as more generally o f the criticality o f electricity services ineducation, health, and local administrationperformance 0 Incorporation o f P V option inthe businessplans for grid electricity + distributors (main or independent grids) 0 Pipeline development for Phase I1investments and beyond 0 Localization o f assembly and service Grid-renewables 0 same as for PV investments - Investments 0 to be develoned - 142 -  Incrementa IostMatrix Baseline Alternative Incremental Domestic Benefits i.Investments Rural and off-grid PhaseI: iwareness and market grows, slowly, Expansiono f large nformationbarriers and primarilywith institutional P V ,emoved diesel and kerosene market 3reater efficiency in Solar market small, SHS and lanterns upplyand service product availability become available in narrow, and near- several geographic icceptance o f P V exclusive dependence markets echnology byusers on imports for mdfinanciers hardware andhuman Some private capacity investors select wind 2ost reduction inP V andmicro-hydro mdother RE Private investors options for echnologies, and select diesel gensets independent grids for iarrowingo f cost gap for electricity public distribution or uithinternational provision to for private industrial narket independent grids uses Phase11: Successful Growth o f P V iemonstration o f a systems market range o f technologies mdbusiness Renewables-based 3pproaches independent grids (windand micre Further cost reduction hydro, possibly inPV technologies, bioenergy) andnarrowing o f cost gap with international market b. Capacity Reliance on imports Development o f local Same as inthe for equipment commercial supply "alternative" case suppliesandservices, chains for a small, unpredictable market Public sector policy and regulatory Little specific capacity attention to making REoptions viable for Private sector retail or grid-based business development applications. Limited private sector development for RE supplies and services. - 143 -  Global environmental 1 None Offset o f GHG Phase I: About benefits emissions via 130,000 gross tons o f avoidance o f gasoline, COz avoided over kerosene, and diesel project lifetime Phase 11: About 310,000 gross tons o f CO1avoided over project lifetime. Cost by compon its (millionUS$) Phase I: Cross sectoral (solar) 1.6 2.4 0.8 SHS (grid- conces.) 0.4 0.7 0.3 SHS (dealers) 0.6 1.o 0.4 I Gridrenewables 1.5 1.8 0.3 Capacity 2.3 3.6 building/technical assistance/M&E 1.3 Subtotal 6.4 9.5 Phase 11: Cross sectoral (solar) 4.3 5.0 0.7 SHS (grid- conces.) 1.5 1.8 0.3 SHS (dealers) 1.3 1.6 0.3 Gridrenewables 2.7 3.8 1.1 Capacity 0.5 1.o building/technical assistance/M&E Subtotal 10.3 13.2 2.9 Total 16.7 22.7 6.0 - 144 -  GEF STAP Review and Comments STAP Reviewer's Comments and ProjectTeam's Response This is an ambitious project, and the humancapacity to buildwhat are effectively three major new energy markets (solar, wind, and micro-hydro) all simultaneously i s still somewhat problematic. It can be done, but an evaluation would be helpfulthat shows the current and future level o f trained - local - trained facilitators and private-sector vendors, and how that resource base maps onto the demands that a project o f this size will place on the industry. Response: Agree. A PDF-Bsupported study 'Design of Capacity Building Programfor Renewable Energy Industry' conJirmed the relatively low institutional and human capacity for renewable energy implementation. Itproposes that during thefirst phase of theprogram emphasis isplaced on capacity building through training, exposure visits and "learning by doing". A plan of action has become available and is an integral part of the technical assistance to the different implementing agencies involved in the component (DNE, FUNAE, MICAO, MINED)). Extensive funds are allocated for development o f the 'markets'. Added emphasis on technology and service evaluation, and even certification would be useful. Response: Agree. A PDF-Bsupported study on 'Consumer Protection Mechanisms' explained a detailed set-upfor aframework of quality control, certijkation and service evaluation. During thefirst year of implementation of theprogram, thisframework will become operational with support of international consultants. The approach chosen is based on the successful model used in some of the Asia countries (Sri Lanka, China, Indonesia). The scope o f this project suggests that an international review board would be o fuse to not only the work taking place inMozambique, but in other nations as well where renewable energy and/or rural transformation efforts are ineffect, or are planned. Response: The stakeholders of theprogram indicated that exposure to experiences in other countries is important through exposure visits, in-country training, and thepossible establishment of an international network of specialists. Several of the key stakeholders have internal operations andfrequently visit renewable energy projects in other African countries, while others have had training at international institutions for example, Esami, Tanzania). It is expected that these international contacts and networks will support theprogram in improving its review process in deciding on strategic directions as well as day-to-day implementation issues. The extended project duration is an important innovation. The project is now sufficiently clear -- particularly the incrementalcost analysis -- that iti s ready for approval. - 145-  Comments on the I C A (9-18-01 version): Notes Sheet: What is the sensitivity to the price fluctuations noted for the various fuels? Inboth the Kenyan and South African solar (PV) histories, P V demand was highly inelastic to changes inkerosene costs. This was apparently due to the dominance inimportance to consumers o f energy reliability over price, at least for the early adopters o f PV. Early studies o f the improved stove market inMaputo by A. Ellegard (Stockholm Environment Institute) indicated strong price sensitivity (as expected for low-cost cookstove technologies). Response: Kerosene, gasoline and dieselprice assumptions are critical to the estimated incremental costs. At the current worldprices of oilproducts, estimated unit incremental costs are lower than what they would have been, say, twoyears ago. Alternatively, the estimated unit incremental costs would have been even lower ifa real (Le., net of infation) price increase was assumed, (The prices assumed here are at the world market levels, with assumed adjustmentsfor market sizepremium and domestic distances). On demand sensitivity tofuel prices, there are three distinct markets here, and the products/fuels competition varies by geography (within and across countries) and end use. I t is probably the case that cross-price demand elasticitiesfor the lighting market are low, and that the assumed oil products prices may matter less than the consumers' expectations of such prices andpreference for higher quality lighting. (For PY, the consumer preference for electric lighting over kerosene is well-known, and it is understandable that PVsystem demand is relatively inelastic with respect to kerosene price). Incremental cost analysis here is not addressed to cookingfuels and technologies. Summarv Sheet: The selection o f `large' (40 Wp) versus small/mobile (12 Wp) solar systems for household users is interesting. Inmuch o f East Africa the SHS market has bifurcated (see Duke, Jacobson, Kammen, 2001, available online at: http://socrates.berkeley.edu/-rael/qualityshs.pdf) into sales o f systems roughly > 40 Wp (largely to the affluent, and to businesses), and the current solar home system market, o f<40 Wp. The split o f `large' versus `small/mobile' systems may be fine, but justification should be offered based on the current sales o f these system types inMozambique. I s this effort one that will require multiple training process, or can vendors selling one make a good case for the other as well? Response: Theprimary justifcation for bifurcation is that sales of the 40 Wpfxed systems will be limited due to affordability constraints while the 12 Wp systems haven't yet been introduced andface some market risks. Also, the 40 Wp and 12 Wp sizes selected here arefor illustrative purposes and represent apartial range of unit sizes that could be marketed under theproject. Implicationsfor trainingprocesses are not yet clear; controlled marketing and market tests -asproposed under PDF-B consultancies and Phase I TA will clarify them. - Recommend using cost/ton carbon, instead o f cost/ton carbon dioxide to conform to most international analyses o f GHG offsets. Response: Agree; both units given now in the Project Briej The incremental cost and cost/ton carbon i s based on key assumptions about solar/kerosene substitutions. There are a number o f questions about the degree to which this takes place (versus simply adding energy sources to the household mix. The importance o f this i s apparent inthe calculations inPV Systems and Alternatives and inthe kerosene lamps analysis). The projectjustification based on carbon offsets is more convincingly made ifbased around prevented future emissions. - 146-  Response: Projectjustification is indeed based on 'preventedfuture emissions'from the systems expected to be installed under theproject and through removal of barriers to market growth. There is no apriori reason to expect that kerosene lighting useper household would increase over time. So what is assumed here - inline with other solar home systemsprojects is that each 40 Wp system or 12 Wp - system avoids 0.52 tons and 0.17 tons of carbon dioxide per year, based on estimates of per household kerosene use in the two market segments. Summary (Table 3) & SHS Sheet: This table highlights a key issue inmarket development, particularly for P V systems. Ina number o f countries the evolution o f the SHS P V market has been significantly driven by two factors: (1) the presence o f TV as a high-valued application; and (2) quality standards, or at least discernible differences betweenproducts based on price/performance characteristics (Duke, et al., 2000). With a market intended to grow to > 15,000 systems duringPhase 11, greater attention is needed for module testing and education (irrespective if formal or informal standards prevail inthe market in Mozambique. Again, Duke et al., 2000 provides a set o f test procedures, recommendations on how to provide this information to the market, and approaches to working with vendors. Response: Agree. TV access is being rapidly expanded in Mozambique, and will be a main driverfor solar P V demand. Activities areplanned in thepreparation phasefor testing as well as defining testing/certijkation needs during theprogram. Small Systems: The comparison o f the 'Base' and 'GEF' cases need to be clarified. N o capital replacement costs appear to be included. Response: I t is assumed that battery and lamps are covered in the 'annual 0 & M' of US$20per system. Investment Calculation: This analysis, which is very clear, is highly conservative with respect to the renewable energy - solar, wind and hydro -options. Over a seven year project life, assuming that the renewable energy programs are even moderately successful, the total carbon savings will be considerably higher than indicatedinthe spreadsheet. The development o fa PV market, for example, that grows to sales o f > 3,000 unitdyear will have significant ancillary benefits interms of future growth inenergy use that i s diverted from fossil fuels to renewable energy. An estimated growth coefficient o f 3 percent/year would be reasonable, and with 50% o f that met with renewables, the $/Carbon avoided values will decrease by over 20%. This calculation, while speculative, i s recommended. This applies even more strongly to the GridRE Summary analysis. Response: Weagree that the estimates are conservative and believe that such conservatism is prudent. The expectation of 50% of the marginal growth in kerosene lighting demand being met by P V is too optimistic at this stage. Besides, some of the electricityfor lighting market will be captured by grid supplies. Two, grid-based renewables will incur 'carbon offsets' only insofar as they are usedfor 'independent'grids (because main grid marginal generation comesfrom hydro). This 'independent grids' market is also small, and even as it grows, some of it will be captured by the main grid. Micro-hydro: An estimate o f the river resource for micro-hydro systems should be included in an evaluation o f the market potential, giventhe favorable economics indicated inthe analysis o f both $/ton carbon and inthe project NPV. Expansion to the scale indicated suggests the potential to develop a micro-hydro industry,with regional sales. The Zimbabwean micro-hydro turbines produced until recently have left the market due to violence inthat country. Mozambique could become a regional supplier, particularly ifproject funds are usedfrom the 'market development' program to support this initiative. - 147 -  Response: The estimate of river resource will be done as part of implementation of theprogram. Also, based on current indications, South Africa or Zimbabwe (once the violence ends) areprobably better placedfor capital goods production and regional distribution. Mozambican capacityfor maintenance and repair are to be emphasized$rst. Summary: The incremental cost analysis, despite inevitable problems and uncertainties inthe assumptions that underlie the value o f the GEF option interms o f carbon offsets ($/tC), is well argued and clear. With the N P V calculation already included inthe analysis, it would be instructive to add an evaluation o f the future offsets incarbon emission based on a partial conversion o f adopters to a renewable energy component o f future growth inenergy use. Response: As mentioned above, while there is a potentialfor significant `spin-off: at this time wefeel the implied conservatism is prudent. Monitoring and evaluation (M & E) during Phase I willprovide a better basisfor judging whether the potential for `spin-off' is large enough so as tojustify a more aggressive stance in Phase II. FurtherComments onthe PCD: As inthe initial review, this project seeks to jump-start several distinct clean energy sectors in Mozambique. This is an excellent goal, but it remains unclear if sufficient human resources exists to develop these programs without over-reliance on a few key individuals. Are there more extensive ways to distribute the burdenon building three new energy markets (to say nothing o f the differences between small and large PV)? A process with a staggered phase-in o f the PV, wind ,and micro-hydro phases would make sense. Response: Agree, This is indeed how it is planned --- large institutional P V systems initially, wind and micro-hydro later, household P V systems to build up gradually and escalate. Why is biomass not a candidate here? There are extensive saw mills and timber plantations that may, like their counterparts inZimbabwe (e.g. Border Timbers) have extensive biomass waste issues that could become a key fuel. Response: The use of biomass is under consideration, but it is prudent to start on a small scale in view of the institutional and human resource capacity constraints already mentioned. Furthermore, the issue is electricity generationfor own use (where gasoline and diesel compete) versusfor sales to the main grid. The latter seems an unviable option while Cahora Bassa marginal cost is less than US1cent/kWh. Theformer might be attempted. For now, the `grid renewables'analysis covers wind and micro-hydro; biomass gasipers may bepiloted in Phase I. - 148 -