Turkey - Balikesir Newsprint Project

Report No. 1046a-TU FILE COPY Turkey: Appraisal of Balikesir Newsprint Project April 30, 1976 Industrial Projects Department FOR OFFICIAL USE ONLY Document of the World Bank This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  CURRENCY EQUIVALENTS TL 1.0 = US$ 0.0625 All weights and measures are in metric units TL 16.0 = US$ l.OO 1 Metric Ton (t) = 1,000 Kilograms (kg) 1 Metric Ton (t) = 2,205 Pounds 1 Hectare (ha) = 2.47 Acres 1 Kilometer (km) = 0.62 Miles 1 Meter (m) = 39.37 Inches 1 Cubic Meter (m3) = 35.31 Cubic Feet = 264 U.S. Gallons Volumes of logs refer to solid wood content of logs (true volume) PRINCIPAL ABBREVIATIONS AND ACRONYMS USED DSI State Hydraulic Works DYB State Investment Bank FAO Food and Agriculture Organization GDF General Directorate of Forestry MOF Ministry of Forestry TEK Turkish Electricity Authority SEKA State Enterprise for Pulp and Paper UNDP United Nations Development Program tpy tons per year i3 p.a. cubic meter per annum ub underbark SEKA'S FISCAL YEAR January 1 - December 31  TURKEY FOR OFFICIAL USE ONLY APPRAISAL OF BALIKESIR NEWSPRINT PROJECT TABLE OF CONTENTS Page No. SUMMARY AND CONCLUSIONS ............................ i - iii I. INTRODUCTION ....................................... 1 II. THE SECTOR AND THE BORROWER ........................ 2 A. Turkey's Pulp and Paper Industry .... .......... 2 B. The Turkish Sawmill Industry .... .............. 2 C. SEKA ................................. . 3 1. History and Organization .... ............. 3 2. Newsprint Production Capacity .... ........ 4 3. Financial Position ....................... 5 III. THE MARKET ......................................... 7 A. Newsprint ..................................... 7 1. The Turkish Newspaper Industry .... ....... 7 2. Newsprint Demand Projection .... .......... 7 3. Domestic and International Newsprint Prices 9 B. Sawnwood ................... . ................... 11 1. Projected Demand and Prices .... .......... 11 2. Distribution and Selling Methods ......... 11 IV. THE PROJECT ........................................ 12 A. Project Scope ................................. 12 B. Wood Supply ................................... 12 C. Process Technology ............................ 13 D. Site and Related Factors ...................... 14 E. Environmental Impact and Protection .... ....... 15 F. Present Project Status and Implementation 15 G. Training and Management Assistance .... ........ 16 H. The Balikesir Establishment ................... 16 V. CAPITAL COSTS AND FINANCING PLAN ..... .............. 17 A. Capital Cost Estimate ........... .. ............ 17 1. Basic Cost Estimate ...................... 17 2. Capital Cost Escalation .... .............. 18 This report has been prepared by Messrs. G. Becher, M. Oberdorfer, and A. Tarnawiecki of the Industrial Projects Department. This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  -2- Page No. B. Financing Plan ................................ 18 C. Procurement ................................... 19 D. Allocation and Disbursement of Bank Loan ...... 20 VI. FINANCIAL ANALYSIS ............... .. ................ 21 A. Manufacturing Costs ............ .. ............. 21 B. Sales Volume and Revenues ......... .. .......... 22 1. Sales Volume ............................. 22 2. Revenues ................................. 23 C. Financial Projections ........... .. ............ 25 D. Financial Rate of Return .......... .. .......... 26 E. Risks ..................... .................... 27 VII. ECONOMIC ANALYSIS .................................. 28 A. Adjusted Capital and Manufacturing Costs ...... 28 B. Economic Rate of Return ....................... 28 C. Net Foreign Exchange Savings .................. 29 D. Employment Effect ............................. 29 VIII. AGREEMENTS ......................................... 29  ANNEXES 1 Glossary of Terms 2-1 SEKA, Existing Production Facilities and Future Expansion Plans 2-2 SEKA, Production by Plants and Products 2-3 SEKA, Organization Chart 2-4 SEKA, Financial Position 3-1 Newsprint Consumption in Some Representative Countries 3-2 Newsprint Production, Import and Consumption in Turkey (1948-1975) 3-3 The World Market for Newsprint 3-4 Sawnwood Production and Consumption in Turkey (1962-1974) 3-5 Sawnwood Market in Turkey 3-6 Sawnwood Distribution and Selling Methods in Turkey 4-1 Project Production Capacity 4-2 Forest Resources and Cost of Wood Supply 4-3 Forest Management and Production Methods in Turkey 4-4 Newsprint Quality and Process Technology 4-5 Project Site and Related Factors 4-6 Environmental Impact and Protection 4-7 Project Progress Schedule 4-8 Training, Management and Operating Assistance 4-9 Balikesir Establishment, Organization Chart 5-1 Capital Cost Summary 5-2 Detailed Capital Cost Estimates 5-3 Detailed Working Capital Estimate 5-4 Price Escalation Schedule 5-5 Principal Repayment and Interest of IBRD Loan 5-6 Principal Repayment and Interest of DYB Loan 5-7 Disbursement Schedule for IBED Loan 6-1 Manufacturing Cost 6-2 Projected Income Statement 6-3 Projected Cash Flow Statement 6-4 Projected Balance Sheet 6-5 Assumptions Used in Financial Projections 6-6 Depreciation Allowances 6-7 Break-Even Chart 6-8 Financial Rate of Return 7-1 Adjustment of Capital and Manufacturing costs for Economic Evaluation 7-2 Economic Rate of Return MAP - IBRD 12192   TURKEY APPRAISAL OF BALIKESIR NEWSPRINT PROJECT SUMMARY AND CONCLUSIONS i. This report appraises the Balikesir newsprint project for which the Government of Turkey has requested a Bank Loan of US$70 million. The project would be operated by the "Balikesir Establishment", a subsidiary of SEKA, the fully Government-owned State Enterprise for Pulp and Paper. The project consists of a pulp mill, a paper mill, a sawmill, pollution abatement facilities, and ancillary installations, including a housing colony, all integrated on a site near the town of Balikesir in Weste 5n Turkey. It would produce annually 100,000 tons of newsprint and 105,000 m of sawnwood. Total financing required for the project is estimated at TL 3,200 million or US$200 million equivalent, including about US$82 million foreign exchange. ii. The Bank Loan would be made directly and jointly to SEKA and the Balikesir Establishment for 15 years, including 4 years of grace at an interest rate of 8.5% p.a., plus a fee of 1.5%, to be paid to the Govern- ment. The Government would provide 40% of the financing required for the project in the form of equity, and the remainder would be covered through a loan from the Turkish State Investment Bank for a term of 17 years, in- cluding 5-1/2 years of grace at 11.5% p.a. The Bank Loan would finance foreign expenditures for machinery and equipment, engineering, training, management and operating assistance. The Loan would finance retroactively foreign expenditures of about US$2.5 million expected to have been made by the time of signing the proposed loan. iii. Newspaper publishing became a significant element in communication in Turkey only after 1945 with the appearance of large nation-wide newspapers and the evolution of advertising. Consumption of newsprint increased from 9,400 tons (0.5 kg per capita) in 1950 to 93,000 tons (2.4 kg per capita) in 1974, representing an average annual growth rate of about 10%. The dem- ographic features of the Turkish society, a trend towards urbanization and the Government's efforts to increase literacy levels, as well as rising expenditures for advertising, are combining to support the expectation of continued strong growth of newspaper readership, leading to a projected demand for newsprint of 138,000 tons in 1979 and 188,000 tons in 1983. On the basis of the projected domestic market and production, small exports would be possible between 1979 and 1982, probably to Turkey's neighboring countries along the Mediterranean and in the Middle East which are importing newsprint. By 1983, however, Turkey once again would have to resort to importation. SEKA, which is by far Turkey's largest enterprise in the pulp and paper industry, is also the country's only newsprint manufacturer. iv. Implementation of the Balikesir project is well under way. The consulting firm, Sandwell of Canada, completed the feasibility study in  - ii - January 1975 and was subsequently retained by SEKA to prepare bidding docu- ments and detailed design. The project will utilize thermomechanical pulping and twin-wire newsprint sheet forming, two recently developed but already firmly-established process improvements that are expected to reduce costs and improve paper quality. The site has been purchased and is well-suited. The project will have only a minimal effect upon the environment and the proposed anti-pollution controls are fully satisfactory. First orders for time criti- cal equipment items will be placed in April and May 1976, with the sawmill expected to start production in October 1978 and the pulp and paper mill in January 1979. Full capacity production is expected to be achieved by 1982. Sandwell will also provide training, project implementation and operating assistance in the form of a field staff of 12 and other back-up services. In light of this assistance program, the progress schedule is judged realistic. v. The project would use 307,000 m3 (ub) per year of wood from surround- ing forests and would so help utilize more intensively Turkey's forest re- sources. SEKA and the General Directorate of Forestry have executed a protocol assuring the wood supply to the project. The Loan would be the Bank's second operation for the development of Turkey's pulp and paper industry. In January 1974, a Bank loan of US$40 million to the Government of Turkey was approved for the Antalya Forest Utilization Project (Loan No. 957-TU) of which US$35.1 million were on-lent to SEKA for an integrated sawmill and linerboard mill, while US$4.9 million were to be used for the modernization of related forestry operations. The project is about two years behind schedule because of a decision to move its location from the original site near the town of Manavgat in the Antalya region about 300 km to the east to a new site near the town of Silifke. The delay has led to a significant cost overrun. The Government of Turkey has undertaken to finance this overrun, and the project is now proceed- ing satisfactorily. vi. The newsprint price in Turkey is controlled by the Government and currently set at TL 4,500 (US$281) per ton, well below domestic production costs and the estimated c.i.f. import price of US$430. The Government covers SEKA's losses originating from newsprint production through budgetary alloca- tions. This system provides no incentive for efficient operation and dis- guises the degree of newsprint subsidy. The Government has agreed to a change of the system under which SEKA would set the ex-factory newsprint price of the Balikesir Establishment so as to enable the Balikesir project annually to earn a reasonable annual return on its investment. Should the Government decide to keep the newsprint price to the newsprint consumer below this level because of social and political considerations, then it would pay an amount equivalent to the difference between the price paid to the Balikesir Establish- ment under the above formula and the price established by the Government. This would identify the degree of newsprint subsidy and not compensate the project for losses resulting from less than efficient operation. vii. The project is expected to earn a financial rate of return of 9.7% before corporate income tax and 7.7% after tax. Its economic return, using  - iii - international prices for traded goods, is estimated at 16.1%. The project will directly employ only 850 people but will provide indirect employment for up to 2,500 people through the expansion of forestry operations attributable to the project. viii. Based on the agreements reached with the Government, SEKA and the Balikesir Establishment, which are listed at the end of this report, the project is suitable for a Bank loan of US$70 million.   I. INTRODUCTION 1.01 The Government of Turkey has requested a Bank Loan of US$70 mil- lion equivalent for Seluloz ve Kagit Fabrikalari Isletmesi (SEKA), its State Enterprise for Pulp and Paper, for the construction of an integrated sawnill and newsprint mill near the town of alikesir in Western Turkey (Map IBRD 12192), for the production of 105,000 m p.a. of sawnwood and 100,000 tpy of newsprint for local consumption. Total financing required for the pro- ject, which is under way and scheduled for completion in early 1979, is expected to be TL 3,200 million (US$ 200.0 million), including foreign exchange of TL 1,308.2 million (US$81.7 million). The Government and the Turkish State Investment Bank (DYB) will provide the remainder of the financ- ing. 1.02 Turkey possesses extensive forest resources and, in terms of area, it has the fourth largest forests in Europe. Since the early 1960s, the United Nations Development Program (UNDP) has been assisting Turkey in survey- ing these forest resources and preparing plans for more intensive utilization. The Antalya Forest Utilization Project, which will utilize forests along the Southern Mediterranean coast, was one of the first results of these studies. A detailed study of the North Aegean, Marmara and Black Sea region (North Turkey Forest Study), which is nearing completion, indicates that there are also substantial wood resources available in that area. Using preliminary results of this study, a prefeasibility study and subsequently a full feasi- bility study were commissioned by UNDP, with the Food and Agriculture Organi- zation (FAO) as executing agency, for the Balikesir newsprint project. The feasibility study was prepared by Sandwell and Co. Ltd., consulting engineers of Vancouver, Canada. It was completed in January 1975. 1.03 The proposed Bank Loan would be the second loan for the develop- ment of Turkey's pulp and paper industry. In January 1974 a Bank Loan of US$40.0 million to the Government of Turkey was approved for the Antalya Forest Utilization Project (Loan No. 957-TU) of which US$35.1 million were on-lent to SEKA for an integrated sawmill and pulp and paper mill for liner- board and sackkraft, while US$4.9 million were to be used for modernization of forestry operations in order to supply the new industrial complex with its wood requirements (IBRD Report 240a-TU of December 17, 1973). This project, which has been renamed the Akdeniz Project 1/, is now proceeding, but is one and a half years behind schedule due to a decision to move, because of strong local opposition to acquisition of the original site, its location from the original site near the town of Manavgat in the Antalya region about 300 km to the east to a new site near the town of Silifke (Map IBRD 12192). A Presi- dent's memorandum (No. R 76-95) which discusses the effects of this change and confirms the viability of the project has been distributed to the Executive Directors on April 27, 1976. 1.04 The project was appraised in the field from mid-October to mid- November 1975 by Messrs. G. Becher, M. Oberdorfer and A. Tarnawiecki of the 1/ "Akdeniz" (White Sea) is the Turkish name for the Mediterranean Sea.  - 2 - Industrial Projects Department with the assistance of Messrs. R.D.H. Rowe, Forestry Advisor in the Agriculture and Rural Development Department amd G.H. Grayum, forestry consultant. The appraisal is based on the Sandwell feasi- bility study as modified by the appraisal team's own investigations. 1.05. A glossary of terms used in this report is given in Annex 1. II. THE SECTOR AND THE BORROWER A. Turkey's Pulp and Paper Industry 2.01 SEKA, a fully Government owned company, is by far Turkey's largest pulp and paper enterprise. In 1974, it produced 301,000 tons of paper and paperboard, equivalent to 83% of the total domestic production in that year. Private sector enterprises produced 62,000 tons, and 23,000 tons were imported for a total consumption of 386,000 tons, which during the period 1965-1974 has grown at an annual average rate of about 10%. Over one half of the production in the private sector comes from three larger manufacturers, including one (Viking Kagit ve Seluloz A.S.) in which IFC invested in 1969 and 1971 a total of about US$3.2 million (Investment Nos. 159 TU and 189 TU). The remainder of the private sector consists of numerous small plants. Private manufacturers use imported pulp and waste paper as raw materials. 2.02 The high capital cost associated with maximum economies of scale in producing pulp and paper is a major deterrent for private investors. SEKA will, therefore, continue to dominate the production of these products in Turkey, while private sector enterprises will concentrate on converting paper products, such as corrugated containers. The two largest private converters, nevertheless, are currently going forward, as part of a vertical integration program, with the construction of two small pulp and paper mills to produce fluting and bogus linerboard from straw and waste kraft paper. The combined capacity of these two projects will be about 55,000 tpy of paper. Limited availability of straw and kraft waste paper is likely to discourage other major projects of this type in the future. The existing pulp and paper enterprises in the private sector primarily produce qualities not made by SEKA. In those few instances where there is direct competition, the private mills follow SEKA's prices. B. The Turkish Sawmill Industry 2.03 There are 17 public sector sawmills, operated by the Ministry of Forestry, and about 5,000 private sawmills in Turkey. Most of the privately owned mills are small with 3an estimated average capacity per mill in terms of roundwood input of 1,200 m yer year, whereas the public sector mills have an average capacity of 25,000 m per year. In the small private mills, capital investment is low, and generally all activities except operation of tVe band saw are carried out manually. In developed countries, about 30,000 m per  -3- year is currently regarded as the minimum level of output required to make a unit economically viable. The 3two sawmills that will be built as pirt of the Balikesir project (105,000 m ) and the Akdeniz project (170,000 m ) will be the first to be operated by SEKA. They will be the largest sawmills in Turkey. C. SEKA 1. History and Organization 2.04 SEKA was established as a State Economic Enterprise in 1955, with its head office and plant in Izmit. 1/ Its authorized share capital, fully Government owned, is currently TL 2.6 billion. It employs about 10,000 people. Until 1970, Izmit, which produces various kinds of pulp and paper from wood and straw, was SEKA's only plant. In 1970, 1971 and 1972, construc- tion of three new plants (Caycuma, Aksu, Dalaman), one in each year, was completed. Each of them is organized as a subsidiary of SEKA. Now three more projects (Afyon, Akdeniz and Balikesir) are under implementation, and each of these projects is also organized as a subsidiary of SEKA. The Afyon project, a reed and straw pulp mill in Central Turkey, is expected to be completed in 1977. The Akdeniz project is scheduled for completion in late 1978, and the Balikesir project in early 1979. The location of SEKA's exist- ing plants and of the three projects now under implementation is shown in Map IBRD 12192. Their production facilities, main raw materials, employ- ment, and future expansion plans are described in Annex 2-1. Since the North Turkey Study has established that there still are significant unused wood resources available in Northern Turkey, the UNDP is currently financing a study of the potential of expanding SEKA's existing mills in Northern Turkey and/or of establishing new ones, such as a new bleached kraft pulp mill. Sandwell and Co. are executing the study which will be completed in mid 1977. 2.05 SEKA's past and future production by plants and major products is given in Annex 2-2. It shows the rapid increase in SEKA's paper and paper- board production from about 100,000 tons in 1966 to about 300,000 tons in 1975 and a planned 540,000 tons in 1980. Starting up three new plants in as many consecutive years was a difficult task for SEKA and would have been so for any manufacturer undergoing such a rapid expansion program. The three new plants did indeed face start-up difficulties, but these are gradually being overcome, and the Caycuma plant reached 96% of capacity utilization in 1975, the Aksu plant 86% and the Dalaman plant 93%. The Izmit plant operated at full capa- city. The shortage of trained and experienced personnel in Turkey has been 1/ Prior to 1955, the production facilities taken over by SEKA had belonged to the Government-owned Sumerbank.  - 4 - a problem for SEKA. Turkish law, applying to all State Economic Enterprises regulates salaries, but SEKA can arrange for special contracts if it needs to compete with the private sector in attracting and retaining sufficient high caliber technical and management talent for key positions. SEKA fully recog- nizes the importance of having competent staff, and one measure that it has taken is to send promising young students abroad to institutions of higher learning. Upon graduation, these students are required to work for SEKA until the debt for their education has been repaid. More important, however, is that while in the past SEKA has been relying only on equipment manufac- turers for start-up assistance, it now has made provisions in the implemen- tation program of the Akdeniz and Balikesir projects for expatriate training, operating and management assistance from its consulting engineers. Shortage of experienced staff is, therefore, not endangering the benefits of these projects. The details of the assistance program for the Balikesir project are discussed below (para. 4.12). 2.06 SEKA has a Board of Directors with six members. The Chairman is also SEKA's General Manager, and his two Assistant General Managers (one for Finance and Administration, the other for Production and Technical Matters) are also Board members. They are appointed by the Council of Ministers. The other three Board members are one representative each from the Ministry of Industry and Technology, from the Ministry of Finance and from the labor unions. The Board meets frequently and exercises close control over SEKA's operations. SEKA's General Manager and Assistant General Managers also exercise the function of managers for the Izmit plant, still SEKA's largest mill accounting for about 40% of total output by volume. Each of SEKA's six subsidiaries has its own legal personality, incorporated under Turkish law, but their autonomy from the Izmit head office is limited, especially in financial matters, and this is spelled out in detail in SEKA's rules and regulations. Therefore, in accordance with the official translation of the applicable Turkish law, the term "Establishment" is used to describe SEKA's subsidiaries. On balance, the effect of the close control exercised by the senior management of the head office is positive, but in the longer run, as SEKA. expands further and the management of the Establishments gain further experience, continued close control could adversely effect operational efficiency. SEKA's management foresees that eventually the head office will be separated from the Izmit plant and transferred to Ankara. The Izmit plant would then also become a subsidiary of SEKA, and the head office would limit itself to overall planning and control. SEKA's organization chart is shown in Annex 2-3. 2. Newsprint Production Capacity 2.07 SEKA is Turkey's only newsprint manufacturer. Initially, the Izmit plant had the only facilities for making newsprint, and domestic production stagnated between 10,000 and 20,000 tpy until 1971, when SEKA's Aksu plant with a design capacity for 82,500 tpy of newsprint came on stream. Imports in 1970 had reached 66,000 tons. Bv 1972, the Aksu and Izmit plants together were able to produce enough newsprint to eliminate imports. The Aksu plant has so far produced at less than 90% of design capacity, and it is expected that it will take some time before full production will be reached. Among the  - 5 - reasons, besides inexperience of staff (para. 2.05), are delivery of over- mature and dry wood and power outages. Mechanical pulp from over-mature wood has low yield and poor strength characteristics. The General Directorate of Forestry (GDF) is trying to deliver wood from younger trees to the Aksu plant, but this problem can only be solved gradually as the forests are cleared of over-mature trees and stocked with younger age classes. In order to prevent drying of the wood after cutting, which again reduces yield, SEKA and the GDF are jointly taking measures to better schedule wood haulage from forest roadsides to the mill. Wood transport is entirely handled by con- tractor-owned trucks, and during harvest seasons SEKA has found it difficult to engage sufficient trucks, and has had to hold larger wood inventories. This is still considered more economical than the purchase of trucks by SEKA. There is little that SEKA can do about power outages, since self-generation of power cannot be justified. However, the performance of the Turkish Electri- city Authority (TEK), which has a history of voltage and frequency variations, is generally expected to improve through the expansion of its generating capacity more rapidly than its expected load growth, and the extension of its interconnected transmission system, and other measures to be undertaken.l/ 2.08 The Izmit mill, though capable of producing newsprint, is not designed for that purpose, and it is expected that the facilities of Izmit will be reverted to their intended use for other writing and printing paper grades as soon as sufficient newsprint capacity becomes available from the Balikesir project. 3. Financial Position 2.09 SEKA's financial position, is discussed in Annex 2-4, and a few in- dicators of its consolidated financial statements for the years 1971 to 1975 are summarized below: 1/ The problems faced by TEK and measures undertaken to solve them are described in IBRD Report No. 679a-TU, which projects a faster growth for expansion of TEK's generating capacity than for maximum power demand.  SEKA - Indicators of Financial Position 1971 1972 1973 1974 1975 Production of Paper and Board (1,000 tons) 194 260 288 301 308 Average Capacity Utilization (%) 74 77 85 89 94 Net Sales (TL Million) 951 1,269 1,623 2,393 2,752 Operating Profit (TL Million) 162 191 154 407 151 Net Income after Taxes (TL Million) 3 (100) (66) 135 (119) Current Assets/Current Liabilities 1.1 1.3 1.1 1.3 1.3 Debt/Equity 73/27 71/29 70/30 66/34 44/56 Operating Profit as % of Total Assets 5.8 6.6 5.0 11.2 2.9 2.10 As evidenced in the table above, SEKA's financial results and liquidity position have been poor in the years 1971 to 1973, but this perfor- mance must be seen in the light of the start-up of three new plants, which resulted in a low average capacity utilization in 1971 and 1972, and poor financial results. The year 1974 showed good overall results and can be considered as the year in which SEKA had mastered its first wave of expansion projects. The year 1975 was expected to show equally good results. However, during 1975, SEKA had some significant cost increases as a result of the high rate of inflation in Turkey. On July 1, 1975, new labor rates became effective which represented an increase in labor costs of 108%. SEKA has not yet adjusted the prices of its products to reflect these cost increases. According to the law pertaining to SEKA, SEKA is free to determine the prices of its products, except for newsprint which has been declared a "basic commo- dity" by the Government and for which the Government determines the price. In reality, however, even with regard to its other products, SEKA is not completely free to set the prices and has to solicit the opinion of the Government prior to introducing price increases. This subjects SEKA to Government interests other than those purely related to SEKA, such as the Government's current policy to reduce Turkey's rate of inflation. Because of this policy, the Government at this moment is hesitant to permit price adjust- ments by SEKA to the new cost levels, and this "unofficial" government control over SEKA's product prices makes it difficult to project SEKA's cash generation and financial position. However, since SEKA is fully Government owned, any restriction through price control on its potential for cash generation must be offset by the Government through an increased infusion of capital in the form of equity or loans.  III. THE MARKET A. Newsprint 1. The Turkish Newspaper Industry 3.01 Newspaper publishing became a significant element in communica- tion in Turkey only after 1945. The four major publishing groups, which now account for about 70% of total newsprint consumption, were all founded after 1948. The remaining 30% of Turkey's newsprint consumption is shared by numerous small publishers, most of whom use less than 500 tons of newsprint per year. The four main newspapers, with a circulation of more than 300,000 each, are published in Istanbul, but all have satellite printing facilities in the other three main cities: Ankara, Adana and Izmir. All the large papers have their own distribution systems including truck fleets that ensure that normally these "national" papers reach all towns even in Eastern Turkey the same day they are published. Newspapers are sold mainly through newsstands (or in small shops) and less than 1% through subscriptions. This system results in a high proportion, estimated at 15%, of newspapers returned unsold. However, unsold newspapers find a ready market as waste paper. At present the newsstand price of the major papers is TL 1.5 per copy. This is relatively high in terms of Turkish incomes and the limited number of pages in each newspaper (12 to 14 pages for major papers) and yet circulation revenues are judged not to reach even half of the newspaper production costs. Advertising revenues provide the principal income. 2. Newsprint Demand Projection 3.02 Twenty-five years ago, consumption of newsprint in Turkey was only 9,400 tons annually or less than 0.5 kg per capita. However, since then news- print consumption has increased on the average by 10% per year, and by an average of 11% since 1961, reaching a volume of 93,000 tons in 1974, or 2.4 kg per capita. For Turkey, at its level of per capita income, this is a fairly high consumption and few developing countries exceed this level. The newsprint consumption of some representative countries is shown in Annex 3-1, and past production, imports and consumption of newsprint in Turkey are shown in Annex 3-2. 3.03 The consumption of newspapers is influenced by a number of factors, but the most important one is a large, literate urban population. Turkey now has an adult literacy of about 50%, and the Government is making strong efforts to improve literacy standards and provide advanced education. Turkey continues to be a predominantly rural society since about 65% of its population resides in communities of less than 10,000 persons, but there is a distinct trend toward urbanization, and the urban population is growing much faster than the rural population. Demographic features of the Turkish society, there- fore, combine to support the expectation of continued strong growth of news- paper consumption. Increased circulation is only one stimulus to newsprint consumption. The other is increased size of newspapers, but this is only  -8- possible if an acceptable balance is maintained between editorial and adver- tising content. Since the trend in Turkey is towards increased advertising expenditures, this too supports the expectation of growing newsprint consump- tion. However, the rapid growth registered in the past 25 years, brought about by the evolution of advertising and the appearance of large nation-wide newspapers is not expected to continue. After consideration of all factors, including the publishers' opinion on future growth prospects, it is considered that an average annual rate of increase of 8% represents the best judgement on the future demand trend (as compared to the past annual growth rate of 10%). This rate has been applied to the actual consumption of 1974 of 93,000 tons to project the demand through 1985. The results are compared below with the domestic production capacity. SEKA maintains that there was an unfulfilled demand in Turkey for about 10,000 tons of newsprint in 1974. On this basis, SEKA projects the 1976 demand to be 120,000 tons rather than 110,000 tons as shown below. Projected Demand and Supply Balance for Newsprint in Turkey (1,000 tons) Projected Year Demand Projected Production Surplus (Deficit) Aksu Balikesir Izmit 1974 (actual) 93.0 71.5 - 24.2 2.7 1975 (actual) 99.0 71.1 14.8 (13.1) 1976 110.0 75.0 - 0.8 (34.2) 1977 118.0 80.0 - 25.0 1/ (13.0) 1978 128.0 82.5 - 25.0 1/ (20.5) 1979 138.0 82.5 60.0 - 4.5 1980 149.0 82.5 77.5 - 11.0 1981 161.0 82.5 90.0 - 11.5 1982 174.0 82.5 100.0 - 8.5 1983 188.0 82.5 100.0 - ( 5.5) 1984 203.0 82.5 100.0 - (20.5) 1985 219.0 82.5 100.0 - (36.5) 1/ Indicated maximum newsprint capacity of Izmit plant, to be used for production of other paper grades as soon as the Balkesir plant becomes operational (para. 2.08). 3.04 Small surpluses of up to about 7% of projected demand are possible during the years 1979 through 1982, but the export of such surpluses should not present difficulties since Turkey has neighboring countries that import small quantities of newsprint, as shown in the following table.  These are countries where the important newsprint exporters are not strongly interested because of the small size of the markets. Of the countries involved, only Iran is known to have a newsprint mill planned (90,000 tpy capacity) with 1980 as the earliest date of completion. Newsprint Imports by Countries Neighboring Turkey (1,000 tons) 1971 1972 1973 1974 Bulgaria 48 44 44 45 Iran 23 22 20 25 Iraq 3 3 4 4 Israel 33 34 43 51 Lebanon 8 9 11 12 Egypt 38 40 44 45 153 162 166 182 3.05 The projected supply and demand balance also indicates that by about 1983 Turkey is likely once again to have a deficit in newsprint pro- duction. A further expansion of domestic production facilities might, there- fore, be considered at that time. Such expansion could logically take place either at the existing mill of Aksu or at the Balikesir mill now being im- plemented. Assurance has been obtained from SEKA that it will discuss with the Bank the results of the study currently undertaken by Sandwell as they relate to newsprint production (para. 2.04). 3. Domestic and International Newsprint Prices 3.06 Newsprint has been declared a basic commodity by the Government (para. 2.10), and the Government has set its ex-factory price at a level below domestic production costs so as to assist Turkey's developing newspaper industry in making newspapers available throughout Turkey. Some newsprint is also used for school books. The Government covers the losses of SEKA's news- print plants. 3.07 The controlled ex-factory price applies only to newsprint produced locally. SEKA, which is also Turkey's only authorized newsprint importer, charges buyers a weighted average price between the controlled domestic price and the actual cost of imported newsprint (the average price was about TL 5,000 in Istanbul at the end of 1975). Most of the world newsprint trade takes place under long-term contracts. In the past, however, Turkey has bought newsprint in the spot market because the small volume and the lack of con- tinuity of her purchases did not make it attractive to large-scale export- ers in Scandinavia or North America. In the spot market prices are subject to wider fluctuations than in the contract market because some exporters are willing to dump their surpluses at prices below prevalent contract prices when world demand is low and, on the contrary, are likely to charge a premium  - 10 - over contract prices when shortages of newsprint occur. Spot prices are not published regularly but since 1973 they have been generally higher than contract prices. The controlled ex-factory price for Turkish newsprint is compared below to U.S. contract prices (f.o.b. New York) and with average Turkish import prices (for actual import price see Annex 3-2, page 2). After addition of freight, insurance and landing charges, the U.S. contract price of newsprint would have been higher than the domestic ex-factory price of news- print in Turkey in the last three years. Comparison of Turkish and U.S. Contract Newsprint Prices Turkish Turkish Average Domestic Price Import Price U.S. Price Exchange Year (Ex-factory, TL/Ton) (C & F) (Delivered East Coast) Rate (US$/ton) (TL/ton) US$/ton TL/ton 1961 2,000 n.a. n.a. 149 1,341 9.0 1969 2,250 n.a. n.a. 163 1,467 9.0 1970 2,800 149 1,714 167 1,921 11.5 1971 4,100 1/ 155 2,325 174 2,610 15.0 1972 3,600 154 2,156 179 2,506 14.0 1973 3,300 (none) 220 3,080 14.0 1974 4,500 (none) 242 3,388 14.0 1975 4,500 396 5,940 286 4,290 15.0 1976 2/ 4,500 313 5,008 308 4,928 16.0 1/ Start-up year of Aksu plant. 2/ January and February only. 3.08 A review of the present and future world market for newsprint and a discussion of international newsprint prices are contained in Annex 3-3. Newsprint consumption in the market economy countries is projected to in- crease between 1973 and 1979 at an average rate of 5% annually from 20.4 to 27.3 million tons. Based on projects underway and expansion of existing capacity no serious imbalance between supply and demand is expected to occur during this period. However, a consensus exists in the trade that international prices will have to increase in real terms by at least 20% over the 1975 level of about US$300 per ton f.o.b. Scandinavian port to bring about the construction of new plants and substantial replacement of obsolete existing facilities required to meet demand beyond 1979. Therefore a price of US$360, f.o.b. Scandinavia, in 1975 Dollars is judged to be an appropriate basis for economic evaluation. Freight, insurance and landing costs, which are relatively high for newsprint rolls (the usual way in which newsprint is traded), are estimated at US$70/ton (or about 20% of the f.o.b. price). This leads to an estimated economic cost by the end of the present decade of US$430 or TL 6,880 (in 1975 Dollars) per ton of newsprint, landed Turkey.  B. Sawnwood 1. Projected Demand and Prices 3.09 The production and consumption of sawnwood in Turkey in the years 1962 through 1974 is shown in Annex 3-4. Imports and exports of sawnwood are not significant and consumption is practically identical to domestic produc- tion, which amounted to about 2.7 million m of sawnwood in 1974. In the past 10 years, average growth of sawnwood consumption in Turkey has been 7.5% per year. There is no known reason at this time why this growth rate should actually decline, but as a measure of safety it has been assumed that the average growth in future years will be only 5% annually. This would mean an increase in consumption between 1975 and 1982, the year when the Balikesir - slwmill is expected to reach full production, of about 40% or about 1 million m . The potential suppliers of this amount are the existing sawmills, none of which have any known expansion plans, and the niw sawmills to be built as part of SJKA's Akdeniz project (170,000 m p.a.) and the Balikesir project (105,000 m p.a.). The Balikesir sawmill will be well located to supply the cities of Istanbul, Izmir, and to a lesser extent, Ankara, which constitute about one-third of Turkey's sawnwood market or an expected incre- ment of about 360,000 m between 1975 and 1982. This indicates that there should be no problem in the marketing of the sawnwood. 3.10 Prices for sawnwood vary considerably according to species, grade and length as well as to the conditions of sale. Little systematic price information is available in Turkey. The weighted average price for construc- tion sawnwood, which will constitute most of th output of the Balikesir mill, has been estimated at TL 1,390 (US$86.88) per m . For the economic analysis, quotations obtiined in mid-1975 show that border prices averaged TL 2,160 (US$135) per m for construction grade sawnwood. A more detailed discussion of the sawnwood market in Turkey and the domestic and import prices for sawn- wood is in Annex 3-5. 2. Distribution and Selling Methods 3.11 A description of the current distribution and selling methods in the sawnilling industry is contained in Annex 3-6. These procedures are cumbersome, requiring visits by buyers to the sawmills to inspect the mer- chandise and participate in suctioning. In the case of the Balikesir mill which will sell some 8,750 m of sawnwood each month, much more than the quantities currently being sold by any sawmill, these methods would not be feasible. In conniction with the Akdeniz project which also comprises a sawmill (170,000 m p.a.) SEKA had, therefore, requested its consultants Sandwell, to prepare a detailed study of the existing system and pro- pose new selling and distribution methods. This study was completed in  - 12 - May 1975. Its main recommendations (Annex 3-6) are that (i) sawnwood prices would be set by SEKA in a published price list which would be amended from time to time to reflect changing market conditions and which would also offer a variety of credit terms; (ii) SEKA would establish regional selling offices in Istanbul, Ankara, Izmir and Adana (or Mersin); and (iii) buyers would be encouraged to permit SEKA to arrange transportation to facilitate an orderly flow of sawnwood from the mill. Assurances were obtained that, by end of 1978, SEKA will establish a sawnwood selling and distribution system sub- stantially in accordance with these recommendations. IV. THE PROJECT A. Project Scope 4.01 The project consists of a wood preparation plant, a sawmill, a pulp mill, a paper mill, pollution abatement facilities and ancillary facilities, all integrated on a site near the town of Balikesir, about halfway between Istanbul and Izmir. The pulp mill will have a capacity to produce about 80,000 tpy (bone dry) of thermomechanical pulp, all to be used in the paper mill, together with 14,000 tpy (bone dry) of imported semi-bleached chemical pulp, for the production of lOO,9O0 tpy of newsprint. The sawmill will produce for sale3about 105,000 m per year of air dried sawnwood, and will deliver 97,000 m annually of wood'residue (including sawdust) to the pulp mill. The integrated complex will consume 221,000 m (ub) per year of saw- logs, and 86,000 m (ub) per year of pulplogs which will be converted in the wood preparation plant into chips for the pulp mill. Ancillary facilities will include a power plant and a housing colony for 1,000 people. The project also includes consultant services. 4.02 The primary objectives of this project are to provide for Turkey's growing need for newsprint to support an expanding newspaper industry and to make more intensive use of the available forest resources. An integrated mill was chosen to permit processing sawlogs that would be extracted from the forests at the same time as pulplogs so that sawmilling residues could be directly utilized as pulpwood. The appropriate newsprint capacity has been established at 100,000 tpy, well within the available raw material and the market potential. There are larger newsprint machines operating in industria- lized countries, but in the light of the less than satisfactory performance of SEKA's existing newsprint mill at Aksu, it is judged that the selected size is around the upper limit of SEKA's capability with adequate training and expat- riate assistance in operation and management. Further details on the produc- tion capacity of the project are presented in Annex 4-1. B. Wood Supply 4.03 The five Forest Conservancies closest to the project (Balikesir, Canakkale, Izmir, Bursa and Eskisehir) will supply the wood requirements of the project (Map IBRD 12192). Sufficient wood is available in these conservancies to meet current demand plus that of the project, even without  - 13 - more intensive forest utilization. The project will take about 25% of the area's current annual allowable cut. The average hauling distance to the mill will be about 165 km with all wood transported to the plant by contractor- owned trucks. The forest resources in the five conservancies and the cost of sawlogs and pulplogs delivered to the Balikesir project are discussed in Annex 4-2. 4.04 In 1975 SEKA and the General Directorate of Forestry (GDF) signed a protocol specifying the basis for determining the cost and quantity of wood to be supplied by GDF to the project. The price (delivered roadside) of sawlogs will be based on the average public auction price for the preceding six months in the five conservancies, and the price of pulpwood will be established annually in accordance with GDF regulations which provide for a price based on direct production costs plus an allocated overhead cost and a fixed profit allowance. The protocol between SEKA and the GDF will require certain changes because it is likely that as a result of the North Turkey Forest Study, expected to be completed by mid-1976, more wood can be obtained from areas closer to the mill (para. 4.05), and because of a change in the timing of the Balikesir project that has taken place since the protocol was signed. Assur- ances have been obtained that SEKA will amend the protocol in a manner satis- factory to the Bank by December 31, 1976, and will not change the protocol thereafter without the prior approval of the Bank. 4.05 As part of the North Turkey Forest Study, forest resources were systematically surveyed, including the five conservancies that will supply the project. The present system of forest management was also analyzed and changes proposed to introduce more intensive forest utilization. These are described in Annex 4-3. The Government intends to implement the recommen- dations of the study and invest an estimated US$20 million equivalent in Turkey's fifteen northern forest conservancies of which about US$6.8 million will be invested in the five conservancies that will supply the Balikesir mill, primarily in road construction and maintenance equipment. The new management system and the extended road network will significantly increase, over the next five to ten years, the annual allowable cut, including the five conservancies serving the mill. As a result, it is hoped that eventually all pulpwood could be obtained just from the Balikesir conservancy and no pulp- wood would be required from the remaining four conservancies, and that the three conservancies closest to the mill site could supply the entire sawlog requirements. This would reduce hauling costs to the mill by about 25% or TL 7 million in 1975 prices but this reduction has not been taken into account in the financial projections. In addition, more intensive forest utilization will also reduce the cost of wood per cubic meter as delivered to the roadside, but it is not possible at this point to quantify the cost reduction. Assuran- ces have been obtained that the Government will provide GDF with all funds and take all actions necessary to assure the wood supply to the project, including introduction of modern forest management techniques. C. Process Technology 4.06 The project will utilize two recently-developed but firmly-establi- shed process improvements: thermomechanical pulping and twin-wire sheet forming on the newspaper machine. These developments have important advantages to the project, both in cost of manufacture and in improved quality. Most new  - 14 - newsprint capacity will utilize these process improvements. All other proces- ses used in the project are long established. The species of wood available to the project have never been utilized in newsprint manufacture, although similar species have been so utilized in other countries for many years. SEKA's existing newsprint facilities use an older process and are therefore unsuited for testing these species. The Turkish species have been tested in a leading Canadian laboratory and in a leading American thermomechanical pilot plant. A review of the test results shows that the species are suitable for newsprint manufacture utilizing the proposed process. Further details on newsprint quality and process technology are presented in Annex 4-4. D. Site and Related Factors 4.07 The site, which is 12 km southeast of the city of Balikesir on the main highway to Izmir, was acquired by SEKA in 1971 for a bleached sulphate pulp mill. This project had to be abandoned because of the asso- ciated stream pollution and the low assimilative capacity of She only major stream in the area which had a minimum recorded flow of 1.82 m /s in the year prior to the start of flow regulation. A thermomechanical pulp mill requires little water and causes no major pollution problems. The State Hydraulic Works (DSI), which is developing surface water storage and distribution sys ems for irrigation in the Balikesir area, has granted a pejmit to SEKA for 1 m Is, well above the project's water requirements of 0.133 m /s. A conven- tional