Sri Lanka - Development Finance Corporation of Ceylon Project

Report No. 1388A-CE FILE COPY Appraisal of the Development Finance Corporation of Ceylon Sri Lanka August 24, 1977 Industrial Development and Finance Division South Asia Projects Department FOR OFFICIAL USE ONLY Document of the World Bank This document has a restricted distribution and may be used by rec ipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  CURRENCY EQUIVALENTS Since May 24, 1976, the Sri Lanka Rupee has been officially linked to a basket of currencies with the initial parity rate based on the Rupee/Pound rate at that date.* Current rates: US$1 Rs 7.28 Rs 1 = US$0.137 MIost non-foodgrain imports have to pay a surchage of 65% through the purchase of Foreign Exchange Entitlement Certificates (FEECs), and most non-traditional exports receive a 65% premium over the official rate through the sale of FEECs. The premium is now fixed at 65% of the Rupee parity rate, resulting in the following current exchange rates including FEECs: US$1 Rs 12.01 Rs 1 US$0.083 ACRONYMS AND ABBREVIATIONS ADB = Asian Development Bank AICC = Agricultural and Industrial Credit Corporation BOC = Bank of Ceylon CRA = Convertible Rupee Account CTB = Ceylon Tourist Board DDC = District Development Council DFCC = Development Finance Corporation of Ceylon FEEC = Foreign Exchange Entitlement Certificate FIAC = Foreign Investment Advisory Committee GDP = Gross Domestic Product GNP = Gross National Product GOSL = Government of Sri Lanka IDB = Industrial Development Board SSI = Small Scale Industry FISCAL YEARS Government of Sri Lanka: January 1 to December 31 DFCC . April 1 to March 31 * The composition was changed on March 12, 1977, when Sri Lanka revalued the Rupee by 20%.  FOR OFFICIAL USE ONLY SRI LANKA APPRAISAL OF THE DEVELOPMENT FINANCE CORPORATION OF CEYLON TABLE OF CONTENTS Page No. SUMMARY AND CONCLUSIONS ..... ....................... i - iii I. INTRODUCTION .........*****.***.**....................................... 1 II. ECONOMIC AND FINANCIAL ENVIRONMENT ................. 2 General ..... . . . . . . . . . . . . . . . . . .. . . . . . . .2 Industrial Sector ..... .... . . . . . . . ...... ...... . . 3 Industrial Policy .... .. ........ . . . . . . . . . . 5 Industrial Finance .... ... .................... 6 III. INSTITUTIONAL ASPECTS ........ ...... 10 Share Capital and Ownership 10 Organization and Staff. 10 Procedures.. ..... 12 Operating Policies ....14 Relations with Government and the Business Community .................. 16 IV. RESOURCES AND OPERATIONS ........................... 16 Resource Mobilization ..... .................... 16 Resource Allocation ........................... 17 Characteristics of Operations ................. 18 Small Scale Industries (SSIs) .... ............. 19 Development Impact * ........................... 20 V. FINANCIAL ASPECTS ................. ................. 21 Quality of Portfolio ............ ....... 21 Profitability ..... ....................................... 22 Capital Structure ....... ...................... 23 VI. PROSPECTS .......................................... 23 General Outlook ... .............................. 23 Business Forecasts ........... .................. 24 Resource Requirements ......................... 27 Financial Projections ..... ................... 27 This report was prepared by Messrs. N. Fostvedt and A. Wateler following their visit to Sri Lanka in August/September. 1976. Tbis document has a tricted distributon and my be md by recipients only in the performance of their offcW dutie. Its contents may not otherwie be dioclod wthou World Dank authorization.  -2- PaRe No. VII. OBJECTIVES OF THE CREDIT . .................... 29 VIII. PROPOSED CREDIT ..................................... 29 Lending Scheme .............. .. ................ 29 Main Terms .......... *......................... 29 Project Risks ........ . . ......................... 30 IX. RECOMMENDATIONS ........ .................... .... 30 ANNEXES 1. The Tourism Sector Table 1 - Visitor Arrivals by National Origin, 1971-1975 and 1976 (five months) Table 2 - Average Length of Stay by National Origin and Purpose, 1975. Table 3 - Trends in Visitor Arrivals by Month, 1972-1976 Table 4 - Accommodation Statistics for Graded Establishments 2. Private Sector Incentives 3. Interest Rate Structure in Sri Lanka 4. List of Shareholders as of June 30, 1976 5. Board of Directors as of July 1, 1976 6. Number and Classification of Staff, 1974-1976 7. Statement of Policy 8. Development Strategy 9. Main Terms and Conditions for Assistance - as of June 30, 1976 10. Resource Position as of June 30, 1976 11. Summary of Operations, FY73-FY76 and FY77 (first quarter) 12. Comparative Statement of Loans and Investments Approved, FY73-FY77 (first quarter) 13. Comparative Statement of DFCC's Clients - FY73-FY77 (first quarter) 14. Industrial Distribution of Loans and Investments Approved, FY73-FY77 (first quarter) and Outstanding Portfolio as of March 31, 1976 15. Loans in Arrears over Three Months as of June 30, 1976 16. Summarized Income Statements, FY73-FY76 and FY77 (first quarter) 17. Cash Flow Statements, FY73-FY76 and FY77 (first quarter) 18. Summarized Balance Sheets, FY73-FY76 and FY77 (first quarter) 19. Comparative Operational Ratios, FY73-FY82 20. Forecast of Approvals, Commitments and Disbursements, FY77-FY82 21. Projected Foreign and Domestic Currency Resource position, FY77-FY82 22. Projected Income Statements, FY77-FY82 23. Projected Cash Flow Statements, FY77-FY82 24. Projected Balance Sheets, FY77-FY82 25. Estimated Disbursement Schedule for the Proposed Credit Organization Chart  SRI LANKA APPRAISAL OF THE D,'JLLOPNENT FINANCE CORPORATION OF CEYLON SUMMARY AND CONCLUSIONS i. The Development Finance Corp3ration of Ceylon (DFCC) received a $4.5 million Line of Credit (Credit 566-CE) in August 1975, of which sub- projects for $4.0 million have been authorized by IDA, and $2.9 million disbursed. DFCC's level of activity is projected to increase rapidly, so that commitments through March 1979 of new foreign currency resources are projected at more than $13 million. The Asian Development Bank (ADB) has granted a $5 million loan, and this report recommends a $8 million Line of Credit for DFCC. ii. Sri Lanka's economy is overly dependent on a few primary commodi- ties and has been suffering from steadily deteriorating terms of trade, although these showed an improvement in 1976. The deteriorating terms of trade have affected the growth in real national income; thus in 1975, GNP grew by 3.6% in constant prices, while real national income increased by only 0.8%. In 1976, real national income increased by 4.0%. In 1975, there was growth in the manufacturing, mining and services sectors, while agricul- ture stagnated because of a sharp decline in paddy production. The current account deficit was $186 million in 1975, $64 million in 1976. iii. The manufacturing sector accounts for 13% of GDP and employs 350,000- 400,000 people. Of this, the organized sector covered by the Cen- tral Bank's annual survey numbers about 1,500 units with 108,000 employees (1975), and accounts for 70% of total value added in the manufacturing sector. These industries are mainly consumer goods. The public sector corporations account for about 50% of production in the organized sector. In 1975, total industrial production grew by 15% in constant prices with most of the growth in the private sector. As a result, the average utilization of industrial capacity increased from 40% in 1974 to 54% in 1975. Between 1973 and 1976, industrial exports (excluding petroleum) grew by 37% p.a. to $39 million in 1976, of which the private sector accounts for about 70%. The main reasons for the increased level of activity are the improved investment climate, better use and availability of domestic raw materials, and improved foreign exchange allocations for imported raw materials. iv. As a result of the various incentives, investment interest grew gradually up to 1975, and improved further as a result of the perceived private sector emphasis in the 1976 budget. The 1977 budget did not con- tain any major changes vis-a-vis the private sector, except for the announced nationalization of the private foreign banks, which now will not take place. The revaluation of the rupee in March 1977 has reduced the attractiveness of industrial exports, but many export-oriented investments will still be pro- fitable. The total allocation to the private sector for raw materials and  - ii - spares was Rs 384 million in 1975 and an expected Rs 480 million for 1976. High priority is given to export-oriented industries, which now face few problems in obtaining imported raw materials. v. DFCC's Chairman, Mr. W. Tennekoon, who was appointed in August 1974, has given DFCC a more dynamic policy. Mr. D.W. Kannangara, an exper- ienced banker who was formerly General Manager of the People's Bank, has been appointed DFCC's General Manager. DFCC's organization structure is appro- priate, and the Corporation has recently hired several new staff, to cope with the increased level of activity (para vii). vi. DFCC's interest rates have been increasing over the past five years; the normal foreign currency lending rate is now 12.5%, giving DFCC a spread of 4%. This rate will be 13% under the proposed credit. DFCC has been depending on IBRD/IDA for its foreign exchange resources, apart from the recent ADB loan. DFCC has been trying to diversify its local currency resources; and it has recently obtained a Rs 10 million line of credit from the National Savings Bank. vii. DFCC's net approvals increased from Rs 9 million in FY75 to Rs 57 million in 1976, of which 42% was in foreign currency. For tax reasons, the Corporation now tries to give at least 20% of its assistance in the form of investments. DFCC's lending operations are well diversified. However, tourism projects account for 35% of its total portfolio. This percentage is expected to decline to about 28% by 1981. DFCC has utilized $107,000 of the $200,000 earmarked for small scale industry (SSI) under Credit 566-CE, but DFCC is not well placed on its own to do SSI lending. The Corporation has now finalized its participation in an SSI scheme with the Industrial Development Board, Bank of Ceylon and the People's Bank, where DFCC would be providing the foreign exchange requirements. viii. The quality of DFCC's portfolio is good. Principal outstanding affected by arrears over three months as of June 30, 1976 was Rs 4.9 million, of which Rs 1 million (1.2% of total loan portfolio) was actually in arrears. DFCC's investment portfolio as of March 31, 1976 consisted of Rs 12.1 million in 28 companies, Rs 2.7 million of which is in ordinary shares. Total estimated value was only Rs 12.5 million, because of a number of recent investments in companies under construction or in the pre-operating stage. Because DFCC's provisions (Rs 2.87 million) were considerably larger than loans and invest- ments actually considered bad or doubtful (Rs 1.67 milion), DFCC did not make any provisions for FY76. ix. The profit before tax and provisions increased from Rs 2.7 million in FY73 to Rs 4.2 million in FY76, as a result of the increased level of activity and higher returns on equity investments. Administrative expenses increased rapidly in FY76, but are still reasonable for DFCC. The debt- equity ratio was 5.4:1 as of March 1976, still well below the contractual limit of 7:1.  - iii - x. DFCC has recently made a Rs 8 million share issue, of which Rs 4.6 million was taken up by private domestic sources, Rs 1 million by a Government-owned bank, and it is proposed that the remaining Rs 2.4 million be taken up by IFC. An additional share issue of Rs 4 million is planned for FY80. xi. The improved investment climate (para iv) is evidenced by DFCC's pipeline of projects, which has a foreign exchange content of $14 million for 62 projects. Export-oriented projects are mainly in non-traditional sectors for Sri lanka, and are either labor-intensive or utilize local raw materials. On the basis of the pipeline, through December 1979 DFCC should be able to commit new foreign currency resources of more than $13 million, which would be covered by the ADB loan and the proposed credit. xii. On the basis of the agreements reached with GOSL and DFCC, a $8 mil- lion credit is recommended. The objectives of the proposed credit would be: (a) to help finance the foreign exchange content of economically and finan- cially viable industrial projects controlled by the private sector, including those in the small scale sector; and (b) to continue the institution building efforts of DFCC begun under previous Bank group loans/credits.   SRI LANKA APPRAISAL OF THE DEVELOPMENT FINANCE CORPORATION OF CEYLON I. INTRODUCTION 1.01 The Development Finance Corporation of Ceylon (DFCC) was estab- lished in 1955 by an Act of Parliament with technical assistance from IBRD 1/ to finance private enterprises 2/ in industry, agriculture and commerce, including hotels, transportation, construction and engineering. 1.02 In the late sixties 3/, IBRD made two loans to DFCC, for $4 mil- lion and $8 million, respectively. The objectives of these two loans were to provide foreign exchange for capital investments in the private industrial sector, increase DFCC's level of activity, and help build up DFCC as an in- stitution. In the period 1967-69, these objectives were by and large ful- filled. DFCC's commitments (foreign and local) increased from Rs 2.4 million in FY67 to Rs 21.2 million in FY69. The Corporation hired an advisor for a two-year term, increased its professional staff substantially, and started improving its appraisal and follow-up procedures. 1.03 However, with the change in Government in 1970, the investment climate deteriorated and the private sector cut back its investments sharply. As a result, the flow of new applications dried up almost completely, and a number of projects already approved were cancelled by the clients. Accord- ingly, DFCC was forced to cancel $6.8 million out of the $12 million avail- able. In this difficult period, DFCC continued to improve some of its pro- cedures (in particular regarding follow-up), and overall it remained a cap- able institution. However, a number of issues discussed under the appraisal of the second loan (e.g., share capital increase, diversification of rupee resources) were not pursued due to the radically changed circumstances. 1.04 Since the early seventies, the investment climate in Sri Lanka has improved gradually. As a result Credit 566-CE ($4.5 million), which became effective in August 1975, has been utilized rapidly. Under the Credit, sub- projects for $4.0 million have been approved (net of cancellations) 4/, and $2.9 million disbursed. Due to the resurgence of investment interest in 1976, DFCC's activity is projected to continue to increase rapidly. DFCC's 1/ DFCC was established in response to a recommendation of an IBRD economic survey mission report published in 1952. IBRD assisted in drafting the DFCC Act. 2/ Defined in the DFCC Act to include enterprises in which Government ownership does not exceed 20%. 3/ In its early years, it was felt that DFCC did not need any IBRD loan, and for about four years from 1961, Sri Lanka's economic policies precluded any lending by the Bank or IDA in the country. 4/ DFCC expects to subtuit shortly subprojects for the remaining $0.5 !i_ilion.  - 2 - uncovered foreign exchange requirements through December 1979 have been pro- jected at more than $13 million (para 6.05) and the Asian Development Bank (ADB) has approved a loan of $5 million. A $8 million IDA Line of Credit is recommended. II. ECONOMIC AND FINANCIAL ENVIRONMENT General 1/ 2.01 Sri Lanka's economy is overly dependent on a few primary commodi- ties (tea, rubber, and coconuts), and has been suffering from a steady deter- ioration in the terms of trade, which was reversed only in 1976. In particular, during the past few years, the prices of the major imports (foodgrains, fertilizers, and petroleum products) have increased considerably faster than the prices for the country's major agricultural exports. As a result, the terms of trade declined from 65 in 1973 to 58 in 1974 and to 46 in 1975 (1967 = 100), causing severe balance of payments problems. However, in 1976, a decline in imported food prices combined with high tea and rubber prices have led to an improvement in the terms of trade to 62. At the same time, the Government (GOSL) has emphasized welfare and income distribution objectives with corresponding resource requirements. Accordingly, the growth in real national income has barely kept pace with the population growth. Over the period 1964/66 - 1974/76, GNP growth averaged 3.9% per annum in real terms. The growth was 2.8% in 1975 and 3.0% in 1976. However, due to declining terms of trade in 1975, real national income (GNP adjusted for changes in the terms of trade) increased by only 0.8%, while the population grew by 1.6%. In 1976, real national income increased by 4.0%. In 1974, growth in GNP occurred mainly in the agricultural sector, whereas this sector stagnated in 1975 because of a 28% decline in the production of paddy. Thus, the 1975 growth was mainly due to a rise in the output of manufacturing, mining and services. The low economic growth has led to a severe and worsening unemployment situ- ation, with perhaps 20% of the labor force unemployed. GOSL has been trying to shift the emphasis towards labor intensive industrial investments, and investments in agriculture for increased food production and employment. 2.02 The relatively equal distribution of income 2/ and the social wel- fare programs have led to relatively high standards of health and nutrition for a country with a per capita income level ($170) 3/ as low as Sri Lanka's. Because of the widespread network of social services, the tertiary industries account for about 48% of GNP, while agriculture accounts for 31% and manufac- turing, mining and construction for 21%. However, agriculture still provides 55% of total employment. The current account deficit was $186 million in 1975, 1/ A more detailed assessment of Sri Lanka's economy is contained in the latest Bank Economic Memorandum No. 1425-CE of February 28, 1977. 2/ In 1973, the top 10% of the population received 30% of total income, compared to 39% a decade earlier. 3/ Based on a payments weighted average exchange value of Rs 11.25.  but fell to $64 million in 1976 because of the improving terms of trade. In volume terms, exports (inclusive of re-exports) increased in 1975 by 20%, imports by 23%. However, in 1976, the export volume fell by 5% while the import volume increased by 8.7%. The three major exports accounted for 70% of total exports in 1976, whereas foodstuffs accounted for almost 50% of total imports in 1975, and 33% in 1976. The Colombo Consumers' Price Index increased by 12.3% in 1974, 6.7% in 1975, and by 1.2% in 1976. However, due to pervasive price controls, this index understates the amount of inflation in Sri Lanka; for 1976 the inflation is estimated at 10%. Industrial Sector 2.03 Characteristics. The manufacturing sector accounts for about 13% of GDP and employs about 350,000-400,000 people, or 10% of total employment. A large number (perhaps 35,000-50,000) of small, mostly non-corporate units may employ around 70% of the total industrial workforce, engaged in handloom and power loom operations, potteries and other cottage industries producing coir products, straw mats, candles, nuts and bolts, etc. The organized sector covered by the Central Bank's annual survey numbers about 1,500 units having 110,000 employees (1975) 1/ and accounts for about 70% of total value added in the manufacturing sector, with the public and private sectors accounting for about 50% each. These units are also fairly small, as 900 out of 1,489 units had output of less than Rs 250,000 in 1975. However, the 230 units with output of more than Rs 2 million (equivalent to about $140,000) accounted for 89% of total production in 1974, 92% in 1975. This high degree of concentra- tion is caused to some extent by the 28 State corporations, with around 50% of total production and employment in the organized manufacturing sector. Thus, in the private sector alone, the units with output higher than Rs 2 million accounted for 85% of total production in 1975, up from 77% in 1974. This increased concentration is partly explained by the inflation in Sri Lanka, but it is also possible that the larger firms (which are still small by international standards) are in a better position to expand production, in particular for exports. 2.04 The industry in Sri Lanka consists largely of consumer goods. In 1975, food and beverages accounted for 50% of industrial value-added, textiles and garments 14%, and chemicals, plastics and petroleum 16%. Overall, Sri Lankan industry depends heavily on imported raw materials, but as a percentage of total production, these imports declined from 45% in 1974 to 37% in 1975, which is explained in part by the only marginal increase in production for Ceylon Petroleum Corporation, with its large import content of crude oil. The value of imported raw materials, measured in current rupees, increased by 34% to Rs 2.2 billion. 2.05 Recent Performance. In 1974, the output from the manufacturing sector declined by 4.1% in real terms, followed by an 8.0% increase in 1975, 1/ The discussion in paragraphs 2.03 to 2.07 concerns only the organized sector. Since the Central Bank used a different method to collect its information on this sector in 1975 than in 1974, the figures for the two years are not exactly comparable. However, the differences should be minor in most cases.  - 4 - and 1.2% in 1976. The Central Bank's figures for the organized sector covered by its survey (para 2.03) show a growth in production in constant prices of 2.3% and 15.5% respectively for 1974 and 1975, which indicates that the organized sector is growing faster than cottage-type industries. In 1975, this growth came from the private sector; the production of the public sector corporations grew by only 1%. By industry (public and private) the growth was highest for textiles, garments and leather (51% in constant prices), paper and paper products (32%), and food and beverages (29%). As a result of the growth in production, total industrial employment also increased in the or- ganized sector from 97,000 to 108,000 or by 12%, while private sector employment alone grew from 48,000 to 56,000 or by 17%. The main reasons for this increase in production are better use and availability of domestic raw materials, and the higher foreign exchange allocations for imported raw materials in 1974 (para 2.17). 2.06 Capacity Utilization. The production growth in 1975 was accom- panied by an improvement in the utilization of industrial capacity, from 40% in 1974 to 54% in 1975, with most subsectors showing an improved per- formance. The highest utilization (69%) was in the food and beverages subsector, the lowest (34%) for basic metal products. However, these figures cover too broad areas to have much operational significance, in that there are wide differences in capacity utilization between companies. For instance, in the period April-June 1976, DFCC granted assistance for balancing, modern- ization and expansion to eight industrial projects 1/ with a present capacity utilization of above 75% on a one shift basis. The still low capacity utili- zation is primarily due to the shortage of foreign exchange to pay for the import of spare parts and raw materials. This has affected especially the private sector since the public sector corporations generally have been given preferential treatment in this regard (para 2.17). Other factors influencing capacity utilization are the small size of the domestic market, lack of good management, and, in some cases, consumer resistance due to high prices. A number of units presently producing for the local market would need consider- able investments to become competitive on the international market, due to the age and small size of their production facilities. 2.07 Industrial Investment. Total fixed capital formation (exclusive of GOSL) was Rs 2.2 billion in 1974, Rs 2.6 billion in 1975, and Rs 2.7 billion in 1976, giving an increase in current prices of 14%, 20%, and 4% for the three years, respectively. The major increase in 1975 was for plant and machinery, where the capital formation was Rs 200 million in 1974, Rs 518 million in 1975. In the latter year, the private sector accounted for Rs 389 million, or 75% of total capital formation for plant and machinery. The direct import content of all investment expenditures increased from 13.3% in 1974 to 15.8% in 1975, reflecting the depreciation of the rupee. 1/ For tyre retreading, floor tiles, packaging, glass bottles, ice, matches, cables and garments. For most of its projects, DFCC expects a signifi- cantly higher capacity utilization at the time of project completion.  - 5 - 2.08 Industrial Exports. After a rapid expansion from a very low base between 1971 and 1973, industrial exports (excluding petroleum products 1/) grew from $18 million in 1973 to $39 million in 1976 or by 37% p.a. Private sector exports accounted for about 70% of non-petroleum exports in 1973 and 1975, somewhat less in 1974 due to high public sector exports of cement in that year. In 1976, the growth in exports occurred especially for seafoods, ready- made garments, and chemical products (soaps, oils and fats). This rapid improvement in industrial exports reflects GOSL's incentives for export- oriented industries (para 2.12) and the relatively easy access to imported raw materials for export-oriented industries (para 2.17). 2.09 Tourism. Sri Lanka's tourism sector is discussed in some detail in Annex I. The number of visitors increased from 78,000 in 1973 to 85,000 in 1974, and to 103,000 in 1975. In 1976, total arrivals reached 119,000, in spite of the disruptions in the low season summer months caused by the non- aligned conference held in Colombo in August 1976. The Ceylon Tourist Board (CTB) expects the number of arrivals to grow to 166,000 in 1978, which is attainable. The average recorded room occupancy has been falling from 42.2% in 1973 to 36.8% in 1975 as a result of large recent increases in hotel capacity. 2/ However, there are wide regional discrepancies in occupancy rates, and it also seems that most established hotels have been enjoying higher than average occupancy rates. It is expected that these rates will now improve, since the capacity will increase at a moderate pace and the traffic is expected to continue to increase rapidly over the next few years. There is still considerable scope for DFCC financing of hotels, but the focus will shift more towards expansion and upgrading projects rather than new hotels. Industrial Policy 2.10 General. The Government's basic industrial development policies, which were laid down in 1971, place primary emphasis on: (i) reorienting industrial activity towards exports; (ii) promoting labor-intensive projects, in particular in the small-scale sector and rural areas; and (iii) minimizing the foreign exchange requirements for capital goods and raw materials. In addition, for social reasons GOSL wishes to make the distribution of income and wealth more equal and to strengthen the Government's control over the private sector. Consequently, immediately after it came to power in 1970, the previous Government announced that the heavy and capital goods industries and other suitable basic industries would be state-owned, while other industries would be assigned to cooperatives and private enterprises. Further, the "Business Undertakings (Acquisition) Act" was passed in 1971, under which GOSL is empowered to take over any private firms at its discretion. As a result of 1/ The export of petroleum products has recorded a sharp increase as a result of the escalation in the price of crude oil. 2/ Due to seasonal variations, it is considered that the maximum average annual occupancy rate in Sri Lanka is around 55%.  - 6 - such pronouncements and measures, the private sector confidence was severely shaken and investments declined sharply. However, in practice not many enter- prises were taken over, and the Government's policy of maintaining or intro- ducing 1/ various incentives (para 2.12) indicated a recognition of the role of the private sector, although no official demarcations between the public and private sectors have been made. 2.11 The 1976 budget (introduced in November 1975) laid increased emphasis on the role of the private sector. In addition to dropping some taxation measures previously announced but not carried out, the budget introduced policy changes such as the suspension of income ceilings, modifi- cations of the tax structure, and a proposal for a Foreign Investment Guaran- tee Law. Although there has been no movement regarding the latter proposal, private sector confidence increased. This interest was not damaged by the 1977 budget, which did not contain any major changes for the private sector. At that time, GOSL announced the nationalization of the three private foreign banks, but this did not take place. In any case, this nationalization was not expected to affect the private sector to any significant extent, due to the limited role now played by these banks. The industrial policy of the new Government is not known. However, in case GOSL's attitude towards the private sector should revert back to the negative position of the early seventies, the investment interest would once again decline sharply. On March 12, 1977, Sri Lanka revalued its currency by 20%. This revaluation will have reduced the attractiveness of industrial exports, but it is considered likely that many export-oriented investments will still be profitable. 2.12 Incentive System. The present package of incentives for private sector investments, which is discussed in Annex 2, is adequate, and shows an appropriate focus on export-oriented industries and hotel projects. Such industries are, inter alia, entitled to convertible rupee accounts (CRA), tax holidays on export profits, and investment relief for investment in new shares. In 1976, a tax measure was introduced to encourage employment creation, but this is not expected to have much effect. Industrial Finance 2.13 Financial Institutions. Private sector companies rely to a consid- erable extent on self-finance. Thus, normally DFCC bases its lending on a debt-equity ratio of 1:1 for its borrowers. Besides internal cash generation, the private sector obtains its funds from DFCC and the commercial banks. There are ten commercial banks in Sri Lanka, four domestic and six foreign. The two Government-owned banks (Bank of Ceylon and People's Bank) alone account for more than 75% of amounts outstanding. The branch network of the domestic banks has increased rapidly during the last few years, up from 152 in 1970 to 293 in 1973 and 554 in 1975. Of these, 299 branches represent agri- cultural service centers opened by the Bank of Ceylon. In 1975 the foreign commercial banks had 8 branches. The role of these banks has been declining for several years; their share of total advances outstanding was 24% in 1/ Investment relief and convertible rupee accounts (Annex 2) were intro- duced in 1972.  December 1973, 147. in December 1974 and 13% in September 1975. The decline in 1974 was caused in part by the take-over by a private Ceylonese bank of the assets and liabilities of a British bank. With the transfer of business of the newly nationalized estates to the public sector commercial banks, the business of the foreign banks is expected to decline further. 2.14 From December 1974 to December 1975, total advances outstanding from co'mercial banks increased from Rs 3.3 billion to Rs 3.5 billion, or by about 7%, down from 47% in 1974. The main reasons for this moderate increase were a net reduction in the resources available to commercial banks and the reduced demand for credit from some public sector corporations. Advances extended for commercial purposes increased from Rs 1,544 million to Rs 1,655 million, largely for the finance of import bills for public sector corporations. On the other hand, advances extended for industrial purposes declined from Rs 844 million to Rs 786 million, but this was still 30% above the level of December 1973. The decrease in 1975 was a result of a fall in bank credit to public sector corporations; advances for the private sector increased from Rs 394 million (47% of total industrial advances) to Rs 422 million (54%). 2.15 The commercial banks do relatively little long term lending. Total industrial outstandings of more than five years (excluding rollover of short term credits) were Rs 58 million (11.2% of total industrial advances) in December 1973, and Rs 66 million (8.4%) in December 1975, 1/ compared to Rs 94 million in loans and investments outstanding from DFCC as of March 1976, almost all of which were for private enterprises. This makes DFCC the leading industrial term lending institution in Sri Lanka. 2. 16 A proposal for a National Development Bank has been discussed for several years, but the question has now remained dormant for some time. If created, such a bank would, at least primarily, provide term finance for indus- trial, agricultural and commercial enterprises in the public sector. Given the importance of this sector, such a bank could perform a useful function. It has now been decided to merge the Agricultural and Industrial Credit Cor- poration (AICC) 2/ and the State Mortgage bank, both public sector institu- tions, although no date for implementation has yet been determined. If GOSL should decide to let the new institution function as a development bank as outlined above, considerable financial and institutional upgrading would be 1/ Another Rs 107 million (13.6%) were for between one and five years. Total outstandings over five years to all borrowers for all kinds of purposes (including housing) were Rs 216 million. 2/ AICC was established in 1943 mainly to extend funds for agriculture and construction. Its performance has been poor, in part due to lack of funds. Since 1955 it has made new loans only to the extent of its loan collections and annual profits.  - 8 - necessary. As of December 1975, these two institutions had outstandings of Rs 100 million, of which Rs 5 million was for industrial purposes from AICC. 2.17 Foreign Exchange. DFCC is the only private financial institution in Sri Lanka that provides foreign exchange for industrial investment. The public sector corporations normally obtain their requirements directly from GOSL. For the private sector, the Ministry of Industries and Scientific Affairs obtains a block allocation from the Ministry of Planning to cover the import of raw materials and spare parts. This allocation has every year been released to the Ministry of Industries in several stages, making it difficult for the Ministry (and thereby also for the private industrialists) to know how much foreign exchange to expect in a given year. However, in the 1977 budget speech, it was announced that this allocation will now be made in one lump sum at the beginning of the year, which should facilitate expedient utilization of the available amounts. The total foreign exchange allocation 1/ for the private sector was Rs 384 million in 1975, and an expected Rs 480 million in 1976. 2/ This is insufficient to meet industry's requirements for imported inputs. Various industries are ranked by the Ministry of Industries according to their importance for the national economy. Export-oriented indus- tries are given high priority, and it is now GOSL's policy to try and provide adequate foreign exchange for such industries, which were allocated Rs 30 million in 1973, Rs 70 million in 1975, and Rs 97 million for the period January-September 1976. As a result, export-oriented industries face few problems in obtaining foreign exchange for raw materials and spares. However, out of the allocation for these industries, the Ministry has also been granting free foreign exchange for capital investment; Rs 4.4 million was granted for machinery and spares in 1975, Rs 30 million in 1976 (January-September), of which a major part was for machinery. DFCC is much better placed than the Ministry to do a detailed appraisal of an investment project. Accordingly, GOSL has confirmed to IDA that the free foreign exchange allocations will be utilized predominantly for the import of raw materials and spare parts. The free foreign exchange for the import of machinery and equipment will normally be granted only in the case of applications for small amounts. 1/ Due to the time lag between allocation and actual import, it seems that the increased allocation in 1974 resulted in increased imports in 1975, when total import of raw materials for industry was Rs 2.2 billion, of which Rs 1 billion for the petroleum and chemical industries. Exclud- ing these industries, the private sector accounted for around 37% of raw material imports, which indicates that the public sector corpora- tions are given a preferential treatment with respect to foreign exchange allocations. 2/ Corresponding to $54 million and $57 million, respectively. These figures are considerably lower than the amounts of foreign exchange actually released to the Ministry of Industries. The difference may be explained by bureaucratic delays in utilizing the foreign exchange, and problems caused by the piecemeal allocation procedure (up through 1976).  - a 2.18 Assistance to Small Scale Industries (SSIs). Apart from normal sources of financing such as the commercial banks, SSIs receive special attention from a number of institutions, of which the most important are the following: (a) The Department of Small Industries under the Ministry of Industries and Scientific Affairs. With some excep- tions, the Department is responsible for units with plant and machinery of less than Rs 25,000. In particular, it operates handloom and power loom centers and training centers, provides tools and raw materials to registered enterprises, and markets SSI products through 12 retail outlets. (b) Divisional Development Councils (DDCs). The DDCs are scattered all over the country. Each Council consists of several GOSL officials and local community leaders, with the function of identifying and promoting local projects in industry and agriculture. Last year, the 550 DDCs were reduced in number to 154 by enlarging the authority area of each DDC. During the five years of their existence (through 1975) the DDCs have helped to start 1,680 projects (of which 563 in 1975 alone), with total employment of 20,500 persons. 889 projects have been classified as industrial, with total production in 1975 of Rs 18.6 million. To a large extent, these projects were financed through the People's Bank. (c) The Industrial Development Board (IDB). IDB prepares feasi- bility studies, provides technical assistance, and operates industrial estates. Since October 1972, it has also operated a joint scheme with the People's Bank for SSI financing, with IDB and the bank doing the appraisal and the latter provid- ing the financing. The maximum assistance per project has been Rs 50,000. As of March 1976, 171 loans had been granted under the scheme, with 68 loans in arrears with more than two installments. The scheme is now being expanded with the addi- tion of the Bank of Ceylon and DFCC (para 4.11). 2.19 Interest Rate Structure. Annex 3 shows the interest rates charged/paid by financial institutions in Sri Lanka. In 1975, the interest rate structure was revised upwards, for the first time since 1970. Commercial banks now pay between 5.5% and 7.5% on deposits (previously 4.5%-5.5%), and their lending rates are between 7.5% and 14%. The normal rate on industrial term loans is 10.5%. The increase in the interest rate structure should be beneficial both from the viewpoint of savings mobilization and efficient allo- cation of resources. Despite the interest rate increases in 1975, total time and savings deposits and savings certificates (including GOSL deposits)  - 10 - increased by only 7.5% compared to 20% in 1974. The modest increase for 1975 is in part due to the fact that accrued interest is not included in the 1975 figures. Other reasons are the slower growth in money supply (6% in 1974, 4.8% in 1975), 1/ stagnating time deposits from financial institutions, and a sharp drop in deposits from plantations. Time and savings deposits in commercial banks held by individuals increased by 12% in 1974, 13% in 1975. 2.20 Capital Market. The capital market in Sri Lanka has never developed properly, due to the strong inclination among private entrepreneurs for closely held company ownership, a high degree of self-financing, and long periods with an adverse climate for private investments. In addition to Government bonds, shares of about 100 tea and rubber companies are quoted on the exchange, as well as nine hotels, nine finance companies, and about 55 industrial and com- mercial enterprises. However, trading volume is very low; several days can pass without the exchange of a single share. Two issues were floated in 1975, totaling Rs 715,000, and one in 1976, for Rs 360,000. Stockbroking is an activity carried on as a sideline activity by several commodity brokers. III. INSTITUTIONAL ASPECTS Share Capital and Ownership 3.01 DFCC's authorized share capital is Rs 24 million. Its initial capital, subscribed and paid in, was Rs 7.1 million, which was increased to Rs 8 million in 1967. Recently, DFCC increased its share capital by Rs 8 million to Rs 16 million. Of this increase, Rs 1 million was subscribed by the Government-owned People's Bank, and Rs 4.6 million by private domestic sources. It is proposed that the remaining Rs 2.4 million (15% of the share capital after the increase) be subscribed by IFC. 2/ More than Rs 3 million of the increase has already been paid in, and the remaining amounts will be paid in two tranches over the next twelve months. A further share capital in- crease of Rs 4 million is planned for FY80. Annex 4 shows DFCC's principal shareholders as of June 30, 1976. With 311 shareholders (of whom 285 are Ceylonese) DFCC's ownership is fairly broadbased by local standards. The lar- gest shareholder is the Bank of Ceylon (19%), a public sector institution. Other public sector agencies control 6% of the share capital, the private sector 45% and foreign shareholders 30%. After the recent share capital increase, the public sector will control 19%, the private sector 51% and foreign shareholders (including IFC) 30%. DFCC declared a dividend of 9% for FY76, up from 8% for the previous years. The DFCC Act limits DFCC's dividends to a maximum of 12% as long as there are any outstanding amounts of the GOSL subordinated loan (para 4.02). Due to the low dividend, DFCC's shares are quoted at about Rs 90 (par value is Rs 100). A higher dividend rate (up towards the legal maximum) 1/ Based on year-end figures. The monthly averages increased by 18.1% in 1974, 1.9% in 1975. 2/ IFC may possibly take up only a portion of this share increase, with the rest being taken up by Deutsche Gesellschaft fur Wirtschaftliche Zusammenarbeit (DEG).  - 11 - would have increased the market value of DFCC's shares somewhat, but would not have substantially affected the response to DFCC's recent share issue. Organization and Staff 3.02 Board of Directors: Annex 5 shows DFCC's Board as of July 1, 1976. At that time, there were only four shareholder Directors, but DFCC has since added two more Directors. Under the DFCC Act, there should be between six and eight shareholder Directors (including the chairman). The Act also provides that GOSL can appoint two Directors; in addition the Director of the Ceylon Institute of Scientific and Industrial Research is an ex-officio Director. The Board meets regularly once a month, with good attendance, and considers amongst other things all loan and investment proposals. It is kept well informed of DFCC's affairs. 3.03 Management. The Chairman, Mr. W. Tennekoon, was appointed in August 1974. He is a former Governor of the Central Bank, alternate Executive Direc- tor of IBRD (1955), and Executive Director of ADB. He is an active Chairman who has taken a keen interest in DFCC's day-to-day operations and has given DFCC a more dynamic policy. The former General Manager, Mr. S. Kanagaratnam, retired in June 1976, and was replaced by Mr. D. W. Kannangara, who was for- merly General Manager of the People's Bank, and is an experienced banker. 3.04 Organization. DFCC is organized in five departments (see Chart): Project Evaluation, Project Implementation, Legal, Accounts and Administra- tion, Service and Consultancy. This structure is appropriate for DFCC, and the responsibilities of each department are clearly defined. Due to staff constraints, the Service and Consultancy staff has been engaged mainly in internal project appraisal and follow-up work. In the absence of such con- straints, there would probably have been some scope for outside assignments. 3.05 Staff. As of June 30, 1976, DFCC had 20 professional and 26 non- professional staff (Annex 6). The professional staff was increased by 50% from September 1974 to September 1975, and had remained almost constant since then, although an economist was recruited in 1976. DFCC's staff is of good quality. Over the past few years, several senior officers have left for assignments abroad. Recently, DFCC has been placing heavy emphasis on staff training. In 1976, eight officers were sent for nine training courses, of which five courses outside of Sri Lanka. In view of DFCC's increasing expo- sure in hotel projects, under Credit 566-CE it was agreed that DFCC should take steps to strengthen its expertise in this sector. In this regard, DFCC recruited an outside consultant who spent a few weeks with DFCC staff evaluat- ing existing tourism projects. In addition, one DFCC staff member attended a course on modern hotel management techniques in India in November 1976, and DFCC is making use of the adviser with the Ceylon Tourist Board to train its staff. 3.06 Due to the increased level of activity (para 4.04), DFCC was under- staffed at the time of appraisal. The Corporation has since recruited one civil engineer, three project appraisal officers, three project implementation officers, and one accountant/financial analyst to handle in particular DFCC's budgeting and information system. As DFCC's salaries are competitive within  - 12 - Sri Lanka, the Corporation has not faced any serious problems in recruiting competent staff, and it has been able to absorb this increase in staff. One of the project appraisal officers will be designated as counterpart officer for the small industries specialist that the Asian Development Bank (ADB) intends to provide (para 6.09). In the longer run, the projected further increase in activity, and the need for more promotional work (para 4.14) may necessitate additional staff increases. DFCC will keep its staffing require- ment under constant review, and will recruit additional staff as and when necessary. In particular, DFCC will attempt to recruit a qualified industrial economist in the near future. Procedures 3.07 Appraisal. Project proposals are screened by the Ministry of Industries and Scientific Affairs, or by the Ceylon Tourist Board for hotel projects. Thereafter, projects involving any kind of foreign collaboration (financial, technical or marketing) go for final approval to the Foreign Investment Advisory Committee (FIAC), an inter-ministerial committee under the auspices of the Ministry of Planning and Economic Affairs. There are no firm guidelines for this approval process, but at present the authorities consider, in particular, the ability of the projects to export, the use of local raw materials, and potential employment generation. This approval process may take 2-6 months, but has taken a longer time in some cases. DFCC has successfully been encouraging its clients to submit their applications simultaneously to the Government authorities and to the Corporation, to facilitate DFCC's involvement at an early stage of the project preparation process. 3.08 DFCC's appraisal standards are generally good, although the quality has lately been affected somewhat by lack of staff to handle the increased level of activity. Under Credit 566-CE, an understanding was reached with DFCC that it would cover the economic impact of projects more thoroughly in its appraisals, and in particular calculate the economic rate of return for all projects costing Rs 1 million or more, and the domestic resource cost per unit of foreign exchange earned/saved for all projects costing between Rs 0.5 million and Rs 1 million. DFCC has been doing these calculations for most projects, but in the beginning it did not make full use of them in the appraisal process. DFCC has now undertaken to make more use of the economic calculations in the project analysis, inter alia by doing them earlier in the appraisal cycle than at present. As also undertaken under Credit 566-CE, DFCC has been paying attention in its appraisals to capacity utilization questions, and this aspect will receive increased emphasis. For its projects, DFCC will evaluate the capacity utilization for the individual clients as well as for the particular sector. 1/ In sub-sectors where there is considerable underutiliza- tion of capacity in Sri Lanka, DFCC will require special justification for loans creating additional capacity. 1/ A dual free limit (para 8.05) is proposed to permit IDA to pay closer attention to this question for the subprojects under the proposed Credit.  _ I I _ 3.09 Procurement and Disbursement. DFCC generally requires that procure- ment under its foreign currency loans be based on three quotations from for- eign suppliers. In cases of foreign equipment where the manufacturers do not have agents in Sri Lanka, the Corporation also requires a reputable firm of international surveyors to certify that the machinery meets the required specifications, is in good working order and is reasonably priced. For rupee loans, DFCC tries to obtain alternative quotations wherever possible. Disbursements are usually in installments against actual expenditures. The Corporation's procurement and disbursement procedures are satisfactory. 3.10 Project Supervision. DFCC tries to visit projects under construc- tion every quarter, projects in operation once a year, and problem proj- ects as and when necessary. However, due to its staff constraints, the Corporation has not been able to fulfill this schedule. Recent formal visits to clients have been as follows: Under Construction* In Operation Problem Projects* No. of No. of No. of No. of No. of No. of Projects Visits % Projects Visits % Projects Visits % July-September, 1975 16 3 19 47 8 17 8 - - October-December, 1975 23 9 39 50 5 10 8 3 38 January-March, 1976 27 5 19 53 8 15 8 3 38 April-June, 1976 32 10 31 59 6 10 7 2 29 July-August, 1976 (two months) 32 4 13 59 16 27 7 3 43 * Six companies taken over by GOSL are not included. With the addition of the three project implementation officers recently recruited (para 3.06), DFCC should be in a position to visit its present projects regularly. 3.11 The project implementation staff prepares factory visit reports after most visits and progress reports on each company in operation once a year. Mostly these reports are of a descriptive nature with little analysis of problems or suggested solutions. DFCC is aware of this problem, and hopes to improve the quality of the reports. The Corporation also requires regular progress reports from its clients, with poor response, and it is represented on the Board of 38 client companies. DFCC has just started to prepare comple- tion reports on its projects, comparing appraisal estimates with actuals. It is too early to draw any conclusions from this work, which should, however, be very useful to DFCC.  - 14 - Operating Policies 3.12 General. Annex 7 shows DFCC's Statement of Policy._/ While DFCC is empowered to do underwriting, it had not done so since the mid-1960's because of the dormant state of the stock market, and because of the gen- eral preference in Sri Lanka for closely held company ownership. However, DFCC underwrote one share issue in early 1977, and it expects that it may do so again from time to time. Traditionally, DFCC did little direct subscription to shares. However, since intercompany dividends are not assessable for income tax, the Corporation is now trying to provide 20% of its assistance in the form of investments. Mostly this is in the form of redeemable preference shares, issued especially for DFCC, and often combined with a loan for the same project. This allows DFCC to revolve its funds; whereas, given the state of the capital market, investment in ordinary shares may mean freezing DFCC's funds for the foreseeable future. Nevertheless, DFCC is also making some ordinary share investments in selected companies. DFCC hopes that these investments can be sold in the market in a few years' time, thereby helping to activate the stock market. 3.13 Exposure Limits. DFCC has the following exposure limits: (a) Policy Statement, Section 7. To avoid taking a controlling interest in any company, DFCC normally limits its ordinary 2/ share investments in an individual company to 25% of that company's issued ordinary share capital, a limit that has been exceeded in one single case; (b) Policy Statement, Section 9 (a). The total exposure in an individual company is limited normally to not more than 20% of the sum of DFCC's equity and the outstanding amount of the GOSL subordinated loan. As of March 1976 this limit had been exceeded in two cases; however, DFCC's assistance to a number of large projects in its pipeline can be restricted by this limit. Since DFCC is the only financial institution in Sri Lanka providing foreign exchange, this could then prevent some otherwise attractive projects from being implemented. (c) Policy Statement, Section 9 (b). DFCC's share investments in a company are limited normally to not more than 10% of DFCC's equity and the outstanding amount of the GOSL sub- ordinated loan; (d) Policy Statement, Section 9 (c). DFCC's aggregate share investments are limited to the sum of its equity and the outstanding amount of the GOSL subordinated loan. As of 1/ Under the terms of Credit 566-CE and of the proposed credit, DFCC cannot amend its Policy Statement without the prior approval of IDA. 2/ For preference shares taken after 1974, DFCC acquires voting rights in a company only if its redemptions should be two years behind schedule.  - 15 - March 31, 1976, DFCC's share investments amounted to 40% of this sum. A substantial portion of DFCC's share invest- ments are in redeemable preference shares, which are of a somewhat different nature than ordinary shares. To account for this difference, IDA has agreed that DFCC may change this section so that the aggregate of DFCC's ordi- nary and non-redeemable preference share investments may not exceed 50%, and the aggregate of its redeemable pre- ference share investments may not exceed 75%, of the sum of DFCC's equity and the outstanding amount of the sub- ordinated Government loan. 3.14 Terms of Assistance. Annex 9 shows DFCC's present interest rates and other charges. Over the past two years, the normal local currency rate has gone up from 10.5% to 12%. DFCC's normal foreign currency lending rate is 12.5%, which will be increased to 13% under the proposed credit. Assum- ing a long-run inflation of 7%-9%, 1/ the normal real lending rates would then be 2.8%-4.7% for rupee loans, and 3.7%-5.6% for foreign currency loans, which is adequate. For foreign currency, DFCC would receive a normal spread of 5% 2/, which is not excessive in view of the small size of DFCC's clients and the need for the Corporation to build up its equity. 3.15 DFCC now charges 15% for foreign currency loans to unincorporated bodies, because DFCC cannot give assistance to such companies in the form of share capital, which is more profitable to DFCC and more expensive for the borrowers for tax reasons (para 3.12).3/ Therefore, in the absence of the higher interest rate, the cost of funds would be lower for unincorporated bodies than for limited liability companies. Whereas DFCC previously charged 11% on its foreign exchange SSI loans, it will now charge 13% also on all such loans under this credit, with the participating commercial banks obtaining a 3% spread on loans under the new SSI scheme (para 4.12). 3.16 Under its loan documents, DFCC is able to charge a penalty rate of 2% for foreign currency loans, and 1% for local currency loans, in the form of a rebate for prompt payment, but this is hardly ever used. Previously, DFCC's foreign currency loans were subject to a commitment charge on undis- bursed balances of 1.25% p.a. However, DFCC dropped this rate as it was not required to pay such a charge itself under Credit 566-CE. Under the proposed credit, DFCC will pay to GOSL the standard commitment fee of 0.75%, which will be passed on to DFCC's clients. 1/ In 1975, which was a "normal" year for the country, the GNP deflator was 7.6%. 2/ The rate from GOSL to DFCC will be the present ordinary IBRD lending rate of 8.0%. 3/ It is expected that about 20% of DFCC's future lending will go to unincorporated bodies.  - 16 - 3.17 GOSL has been carrying the exchange risk under the three previous DFCC projects and under the recent ADB loan, and this is also stated in the DFCC Act. 1/ In view of the uncertain foreign exchange situation and the small size of many of DFCC's clients, GOSL will carry the exchange risk also for the proposed credit. Relations with Government and the Business Community 3.18 Relations between GOSL and DFCC are close. GOSL is represented on DFCC's Board, and under the DFCC Act the Minister of Finance is empowered to give directives to DFCC in matters of general policy, after consultation with its Board. No such directives have been given as yet. The Ministry of Finance shows a keen interest in DFCC's activities, but has respected DFCC's autonomy. DFCC also has good relations with the Central Bank through the latter's refinance scheme (para 4.03). DFCC's image in the business commun- ity has improved as a result of the Corporation's increased level of activity and more aggressive attitude. It also has good relations with the commercial banks, in particular with the Bank of Ceylon (BOC), which is the largest bank in Sri Lanka, DFCC's largest shareholder, and an important source of rupee funds. In 1976, DFCC staff has also been conducting project evaluation sem- inars for BOC's top and middle management. IV. RESOURCES AND OPERATIONS Resource Mobilization 4.01 Foreign Exchange Resources. Annex 10 summarizes DFCC's resource position as of June 30, 1976. As of that date, foreign currency resources under Credit 566-CE available for commitment were $2.5 million, and $1.0 million were available for approval. However, because of the rapid utili- zation of the Credit, the available resources as of mid September had been reduced to $1.3 million and $0.4 million respectively. Since DFCC previously was not successful in raising funds from other sources, it has been depend- ing exclusively on IBRD/IDA for its foreign exchange resources. The Corpora- tion obtained two IBRD loans totalling $12 million in 1967 and 1969, but the change in Government in 1970 and the subsequent slowdown in private investment forced DFCC to cancel $6.8 million of these loan amounts. An ADB appraisal mission to DFCC visited Sri Lanka in August/September 1976, and ADB approved a loan of $5 million in December 1976 (para 6.09). 1/ Section 14 (6): "In the case of any loan made to the Corporation by the International Bank for Reconstruction and Development, or any other international or foreign organization approved by the government and guaranteed by the government, the government shall bear any loss, and be entitled to any profit, resulting from revalu- ation of the Sri Lanka rupee in relation to the currency or currencies in which that loan is expressed or repayable in whole or in part."  4.02 Domestic Resources. Total rupee resources as of June 30, 1976 were Rs 105 million, of which equity accounted for Rs 15 million (14%), pro- visions Rs 3 million (3%), the GOSL subordinated loan Rs 16 million (15%), Central Bank refinancing Rs 36 million (34%), Bank of Ceylon credit facili- ties Rs 26 million (24%), and the National Savings Bank Rs 10 million (10%). DFCC's share capital was recently increased by Rs 8 million (including the proposed IFC investment, para 3.01). The interest free GOSL subordinated loan is repayable in 15 equal annual installments, starting in 1981. 4.03 As of June 30, 1976, DFCC had rupee resources available for dis- bursement of Rs 22 million. The Central Bank refinance facility is available for financial institutions (including commercial banks) for term loans for fixed investment. No ceiling has been set for the available refinance. Under the scheme, the Central Bank charges 6.5% p.a. on agricultural projects, 7.5% p.a. for all other projects. The terms of repayment are the same as for the client to DFCC, but lately subject to a minimum maturity of ten years. Total amount available under the Bank of Ceylon (BOC) credit facility has been raised from Rs 9 million to Rs 26 million over the past two years, of which about Rs 10 million has been utilized. BOC charges 9% on overdrafts, and 8.5% on term loans, which are repayable over ten years in monthly installments. To diversify its domestic resources, DFCC recently arranged a Rs 10 million line of credit with the National Savings Bank, repayable over ten years in semi- annual installments and carrying interest of 9% p.a. Resource Allocation 4.04 Overall Operations. Annex 11 presents a summary of DFCC's opera- tions through June 30, 1976. Net approvals (loans plus investments) were Rs 20 million in FY74, but dropped to Rs 9 million in FY75 as a result of continued political uncertainties and DFCC's lack of foreign exchange re- sources in that year. However, with the improved investment climate, net approvals increased to Rs 57 million for 37 projects in FY76. Commitments have been following approvals, and were Rs 19 million in FY74, Rs 9 million in FY75, and Rs 43 million in FY76; disbursements are lagging somewhat behind with Rs 14 million in FY74, Rs 17 million in FY75, and Rs 26 million in FY76. DFCC has recently increased its investments considerably (para 3.12); during FY76 and FY77 (first quarter) they accounted for 29% of total net approvals, compared to 7% for the previous three years. Of 37 projects during FY76, DFCC made loans to 35 and investments in 27, which shows that it makes both loans and investments to most projects. DFCC's preliminary figures for FY77 show a decline in total net approvals from Rs 57 million (FY76) to Rs 41 million, caused by a drop in local currency approvals from Rs 33 million to Rs 11 mil- lion. This decline is primarily a result of DFCC's policy of doing rupee finance mainly as a lender of last resort, in cases where the promoters them- selves or the commercial banks cannot provide the necessary rupee finance. In FY77, net approvals in foreign currency increased from Rs 24 million (FY76) to Rs 31 million, or from 42% of total net approvals to 74%. Foreign currency commitments increased from Rs 16 million to Rs 28 million, or by 74%.  - 18 - Characteristics of Operations 4.05 Size. Annex 12 shows the characteristics of DFCC's recent opera- tions. The average size of its assistance per project has been fairly stable: Rs 1.2 million in FY74, Rs 1.1 million in FY75 and Rs 1.5 million (corresponding to $105,000 at FEEC rate) in FY76. Since DFCC extends both loans and investments to many projects, the average loan and average invest- ment are smaller, (for FY76, Rs 1.2 million and Rs 0.6 million, respectively). 4.06 Geographical Spread. DFCC's operations are heavily concentrated in the Western area of Sri Lanka, including Colombo where industry and services are concentrated. DFCC's hotel projects have been better dispersed than industrial projects, and this could become more pronounced in a few years time, when the resort developments in the vicinity of Colombo have been completed. 4.07 Maturity. The average maturity of DFCC's loans has been reduced somewhat in recent years. By amount, 82% of gross approvals were for ten years or more 1/ in FY75, 68% in FY76, and 43% in FY77 (first quarter); by number the percentages were 63%, 51%, and 44%, respectively. The picture is about the same for redeemable investments. Although some industries in Sri Lanka have a fairly low net-of-tax profitability and therefore require long repayment periods, DFCC still has had a tendency to grant somewhat long matur- ities to its clients. DFCC will now examine its policy in this regard, to ensure that the maturity periods granted are reasonable in view of the ex- pected economic life and debt service coverage of the individual projects. 4.08 Characteristics of Clients. Annex 13 analyses DFCC's clients over the past few years. For the period FY75-FY77 (first quarter), existing projects received 53% of all assistance by amount. A significant portion of new projects are undertaken by existing enterprises; thus, while over this period new projects received 47% of all assistance by amount, new enterprises received only 34%. DFCC's operations are heavily concentrated in the medium scale sector in Sri Lanka. For the period FY75-FY77 (first quarter), 34% by number (13% by amount) went to companies with fixed assets of less than Rs 2 million ($141,000 equivalent); another 49% by number (51% by amount) went to clients with fixed assets of between Rs 2 million and Rs 10 million. All these clients, with fixed assets of less than $0.7 million, must be con- sidered very small by international standards. 4.09 Sectoral Distribution. Annex 14 shows the industrial distribution of DFCC's gross approvals. For the period FY75-FY77 (first quarter), tour- ism projects accounted for 39% of approvals by amount, readymade garments for 13%. Other significant sectors were chemicals, rubber products, and printing and packaging. Tourism projects accounted for 35% of the total outstanding portfolio as of March 31, 1976. This share may increase slightly as present commitments are disbursed, but is thereafter expected to decline, to reach about 28% by 1981. Other important sectors in DFCC's portfolio are textiles (10%), engineering (8%), and food processing industries (8%). Except for the exposure in tourism, DFCC's portfolio is well diversified. 1/ Exclusive of grace period, normally 1.5 years.  - 19 - Small Scale Industries (SSI) 4.10 The definition of SSIs in Sri Lanka was recently changed from Rs 200,000 of fixed assets excluding land to Rs 500,000 of investment 1/ in machinery and equipment. Even the new definition, which corresponds to about $42,000, covers only the informal sector and the low end of the organ- ized sector. DFCC's appraisal capabilities are not as relevant for SSI lending as for its normal operations, since it is necessary to apply simpli- fied requirements and procedures for lending to SSIs. In addition, the commercial banks are better placed for SSI financing in view of their branch network, working capital lending, and other banking services. For this reason, DFCC has done very little lending to SSIs. Under Credit 566-CE, $200,000 were earmarked for such lending, of which $107,000 have been utilized so far. 4.11 The IDB/People's Bank scheme for SSI financing (para 2.18) is now being expanded to include the Bank of Ceylon as well as DFCC. The main fea- tures of the expanded scheme will be as follows: (a) Applications under the scheme will be received and processed by IDB and one or the other of the two banks; (b) Rupee finance will be given by the commercial banks, while applications for foreign exchange will be submitted to DFCC; (c) DFCC will normally undertake a desk review of the appraisal prepared by the other institutions, but will have the right to request more information from these institutions or from the clients. Applications under the scheme will be decided by DFCC's General Manager; (d) The follow-up work will be undertaken by IDB and the com- mercial bank; DFCC will not make follow-up visits under the scheme except in special cases; (e) The credit limit per project will be Rs 400,000, with a foreign exchange limit of Rs 150,000 exclusive of FEECs, or about $20,600;and (f) Simplified appraisal requirements have been drawn up, and normal banking security will not be insisted upon. DFCC's foreign exchange loans will be guaranteed by the commercial banks. The utilization rate under the scheme will depend primarily on the demand for finance, which may be fairly modest in view of the low utilization of the SSI funds under Credit 566-CE. DFCC's role will be to provide foreign exchange, 1/ Inclusive of FEECs, custom duties, and installation charges.  - 20 - and in addition, to utilize its appraisal expertise on certain projects, and thereby help upgrade the appraisal skills of IDB and the commercial banks. However, it will be inconvenient for the SSI clients to establish loan docu- ments with several institutions. Therefore, for foreign exchange, it would be advantageous to let the scheme work as a refinance arrangement, so that the clients would only have to establish loan documents will the bank involved. Under the proposed credit, DFCC will be permitted to engage in refinance 1/ for SSI units, subject to IDA's approval. 4.12 The present rupee lending rate under the scheme is 11%, and the foreign exchange rate to the SSI borrowers will be 13%, with the commercial banks getting 3%, and DFCC 2% under the proposed credit. This spread is acceptable to the banks, but is still rather low in view of their role and responsibilities under the scheme. A credit guarantee scheme for SSI lending is under consideration within GOSL and the Central Bank. Such a scheme, if introduced, could reduce the risks of SSI lending and thereby reduce the minimum spread necessary. Development Impact 4.13 During the period April 1975-August 1976, net approvals of loans and investments amounted to Rs 73 million, of which 32% for hotel projects. DFCC's approvals amounted to 50% of the total expected fixed investments in the projects. In particular, DFCC's foreign exchange finance accounted for 27% of total fixed investments in those projects requiring foreign exchange, so that one rupee equivalent of foreign exchange generated local currency investments (including FEECs) of Rs 2.70. DFCC has estimated the net direct foreign exchange earnings/savings by these projects, when completed, at about Rs 20 million per annum, corresponding to 20% of total industrial exports from the private sector in 1975. The direct employment effect is expected to be 3,100 jobs, with a fixed investment per job (for those projects leading to an increase in employment) of Rs 33,500 or $2,360 at the FEEC rate. DFCC's ex-ante rate of return calculations for the period in question show the following satisfactory results: Internal Rate Economic Rate of Return of Return No. of Projects 25 15 Low 8% 13% High 50% 50% Weighted Average 21% 27% 1/ Under the terms of Credit 566-CE, DFCC must enter into a loan agree- ment directly with the borrower, whereby the obligations are owed directly by the borrower to DFCC and DFCC assumes definite responsi- bilities and rights vis-a-vis the borrower; a refinance scheme is therefore not possible under that Credit.  4.14 DFCC has a positive impact on project selection and formulation through its appraisal process, though some further improvements will be made regarding economic rate of return calculations and capacity utilization questions (para 3.08). In addition, DFCC has played an important promo- tional role through its contacts with businessmen and potential investors. DFCC intends to strengthen its promotional activities, inter alia through the preparation of internal working papers and feasibility studies for selected subsectors, and will seek the collaboration of the Ceylon Institute of Scientific and Industrial Research in developing new projects utilizing local raw materials. DFCC will also actively encourage foreign investments in Sri Lanka, in collaboration with local entrepreneurs. V. FINANCIAL ASPECTS Quality of Portfolio 5.01 Loan Portfolio. DFCC's loans in arrears for more than three months have developed as follows since March 1973 (Rs million): No. of Principal Out- % of Total Principal and % of Total Companies standing Affect- Loan Port- Interest in Loan Port- Date in Arrears ed by Arrears folio Arrears folio 3/31/73 7 5.420 9.1 0.554 0.9 3/31/74 4 2.138 3.6 0.497 0.8 3/31/75 5 2.709 3.9 0.558 0.8 3/31/76 9 3.880 4.7 0.975 1.2 6/30/76 8 4.890 5.8 1.004 1.2 The debt service performance of DFCC's clients has generally been good, except in FY72 and FY73, when the insurgency and widespread labor dis- putes caused business setbacks and temporary liquidity problems for some borrowers. As a result, 9.1% of the total loan portfolio was affected by arrears as of March 1973, compared to 5.8% as of June 30, 1976. As of the latter date, eight companies were in arrears (Annex 15), of which three companies with total outstandings of Rs 3 million (60% of total outstandings affected by arrears) are expected to face only temporary difficulties. DFCC has taken steps to recover the arrears from the three taken-over units, and the Corporation is confident that it will recover these amounts, although it may take some time. During the period FY75-FY77 (first quarter), DFCC rescheduled loans for four companies with outstandings of in all Rs 5 mil- lion. Two of these companies are again in arrears, for small amounts of interest. 5.02 Investment Portfolio. DFCC's total investment portfolio as of March 31, 1976 amounted to Rs 12.1 million at cost in 28 companies, of which Rs 2.7 million (ten companies) was in ordinary shares. Nine of the latter companies are working profitably, while one is making losses. On the basis of stock market prices and book values, DFCC's ordinary share  - 22 - investments are estimated to be worth Rs 4.9 million, about 80% above their acquisition cost of Rs 2.7 million. However, for the four companies where quotations are available, the stock market value is depressed due to the dormant state of the market. Dividends received in FY76 on ordinary shares (Rs 192,000) amounted to 7% on cost value. The total estimated value of the preference shares is Rs 7.6 million, which is below par value due to eight projects under construction or in pre-operating stage. Dividends received during FY76 on preference shares, including cumulative dividends from pre- vious years, were Rs 1 million, which corresponds to 17% on the par value of companies in operation. Only one company is now behind schedule on dividends or redemptions of preference shares. Since none of the preference shares are quoted on the Colombo stock exchange, they have no market price. 5.03 Provisions. DFCC believes that outstanding advances actually bad or doubtful amount to Rs 1.6 million (loans) and Rs 70,000 (investments), compared to actual provisions of Rs 2.1 million and Rs 0.77 million, respec- tively. Excessive provisions affect DFCC's debt-equity ratio and thereby its borrowing power. Therefore, the Corporation decided to make no provi- sions for FY76, which was reasonable in view of the quality of its portfolio. Profitability 5.04 DFCC's financial statements for FY73-FY77 (first quarter) are shown in Annex 16 through Annex 18, and its operational ratios are in Annex 19. Profit before tax and provisions increased from Rs 2.7 million (3.7% of aver- age total assets) in FY73 to Rs 4.2 million (4.8%) in FY76, as a result of DFCC's increased level of activity and higher returns on equity investments. The average spread 1/ on lending operations has also been increasing somewhat, from 4.6% in FY73 to 4.9% in FY75, as a result of increases in the lending rates. In 1976 the spread dropped to 4.1%, but this was a result of the heavy increase in the level of activity towards the end of the year 2/. DFCC's large spread is caused in part by the GOSL subordinated loan, on which DFCC does not pay any interest. If this loan is excluded from term debts, DFCC's average spread becomes 3% (FY75), which is satisfactory. 5.05 Net profit after tax and provisions doubled from Rs 1 million in FY73 to Rs 2 million in FY76, or from 8.4% of average equity to 15.2%. This increase occured mainly because DFCC did not make any provisions in FY76 for doubtful loans and advances (para 5.03). After declining for several years, the administrative expenses increased by 12% in FY75, and by 36% in FY76, as a result of the expansion in staff (para 3.05). However, as a percentage of average total assets, these expenses increased only from 1.2% in FY73 to 1.4% in FY76, which is reasonable for DFCC. The Corporation increased its dividend from 8% to 9% for FY76; still, the payout ratio has been falling from 66% for 1/ Income from term loans as percent of average term loan portfolio minus cost of term debts as percent of average term debts. 2/ 80% of the disbursements in FY76 took place in the second half of the year.  - 23 - FY73 to 52% for FY75 and to 36% for FY76. DFCC's debt-service coverage ratio has remained satisfactory over the past four years at between 1.2:1 and 1.7:1. Capital Structure 5.06 DFCC's gross portfolio of loans and investments increased from Rs 66.4 million in FY73 to Rs 94.5 million in FY76, corresponding to an average compounded growth rate of 13% p.a.; from FY75 to FY76 the growth was 21%. While the share capital remained unchanged over this period, DFCC's reserves increased by Rs 2.3 million, provisions by Rs 1.4 million. The DFCC Act requires that at least 20% of annual net profits be set aside as special reserves as long as the subordinated GOSL loan is outstanding. These reserves, which are part of DFCC's equity and amounted to Rs 2.7 million at the end of FY76, must be invested in fixed deposits. 5.07 Previously, DFCC's long term debt-equity ratio was calculated by including the GOSL subordinated loan 1/ as quasi-equity. In connection with Credit 566-CE, the definition was changed to include that loan as debt, and at the same time the limit was increased from 3:1 to 7:1. Under this defi- nition, DFCC's debt-equity ratio has increased from 4.7:1 as of March 1973 to 5.4:1 as of March 1976. The present definition is conceptually correct, as the subordinated loan represents a liability that ultimately will have to be discharged; and, the limit of 7:1 is reasonable for DFCC. 5.08 Audit. DFCC's accounts have always been approved without quali- fications by DFCC's auditors, the firms of Ford, Rhodes, Thornton & Co. and Satchithananda, Schokman, Wijeyeratne & Co. Their long-form audit report is of good quality. VI. PROSPECTS General Outlook 6.01 With the change in Government in 1970, the level of activity in the private industrial sector slowed down considerably, partly due to uncer- tainties about the sector's future role. However, the strong incentives pro- vided by GOSL for export-oriented and tourism projects drew a gradually increasing response from private entrepreneurs, at first particularly for the tourism industry. Against that background must be seen the improved performance of the private sector in 1975 and 1976 (paras 2.05-2.09). Indus- trial exports increased by 37% per annum between 1973 and 1976, the average capacity utilization improved from 40% in 1974 to 54% in 1975, and the num- ber of tourism arrivals increased by 21% in 1975, 15% in 1976. With the 1/ In the event of liquidation, this loan is subordinated to other debts as well as to DFCC's share capital.  - 24 - encouragement of the perceived private sector emphasis of the 1976 budget, which was continued virtually unchanged in the 1977 budget (para 2.11), invest- ment interest in the organized private sector has increased considerably, albeit from a very low level. The recent elections in Sri Lanka may also have improved the investment climate by clarifying the political situation for the next few years. The revaluation of the rupee, if maintained, is expected to affect DFCC's export-oriented projects somewhat, but many export projects are still expected to go forward. Therefore, within Sri Lanka's political and economical framework, the prospects appear reasonable for private indus- trial production and investment. Business Forecasts 6.02 Strategy Statement. Annex 8 shows DFCC's draft Strategy State- ment. 1/ In accordance with GOSL's objectives, DFCC intends to concentrate on projects maximizing employment generation and on projects earning foreign exchange. Other priority projects are those utilizing local raw materials, balancing and modernization projects, and, finally, essential import substitu- tion industry. The hotel section will continue to receive assistance, but DFCC expects to concentrate on the expansion and upgrading of existing facil- ities. The Corporation will try to expand its SSI activities, and to improve its qualitative contribution both in the form of improved appraisals as well as promotional activities. DFCC considers it one of its functions to serve as a channel of communication between GOSL and the private sector. To that end, the Corporation will maintain close contact with Government ministries and agencies and try to give advice on policy implementation where appropri- ate. 6.03 Pipeline of Projects. The improved investment climate is evidenced by DFCC's pipeline of projects, which is as follows (Rs million): 2/ 1/ The approval by DFCC's Board of this statement or another statement acceptable to IDA will be a condition of credit effectiveness. 2/ Net of six projects recently sanctioned ($2.8 million) under the ADB loan. The pipeline represents expected investments and DFCC contribu- tions at post-revaluation exchange rates, and following canvassing of the potential clients to ascertain their continued interest.  - ?F - Project Cost DFCC Assistance /a Foreign Local Foreign Local No. Currency Currency Currency Currency Industry: Export 27 97.0 94.6 40.7 (24) 13.0 (12) Local Market 27 67.5 88.3 38.6 (22) 8.9 ( 9) Tourism 10 19.5 26.0 15.0 ( 7) 6.8 ( 7) Miscellaneous 10 7.8 9.8 7.3 ( 9) 2.2 ( 5) Total 74 191.8 218.7 101.6 (62) 30.9 (33) = $26.3 million $14.0 million /b /a The figures in parentheses represent number of projects for foreign currency and local currency assistance, respectively. /b DFCC's pipeline at the time of credit 566-CE had a direct foreign exchange content of $5.8 million. The table shows that DFCC has received applications for foreign exchange fi- nance of $14 million for projects with a total foreign exchange requirement of $26.3 million. The difference is expected to be financed by free foreign exchange, convertible rupee accounts, suppliers' credits, foreign banks or collaborators, or by institutions like IFC or the Private Investment Corpora- tion of Asia (PICA). Alternatively, some of the projects can be reduced in size, if necessary. Export-oriented industries account for 40% of the foreign exchange pipeline, 1/ local market industries for 38%, tourism projects for 15%, and miscellaneous projects (printing, packaging, polythene films) for 7%. Tentative employment generation figures are available for 53 of the 74 proj- ects in the pipeline. For these projects, 7,320 jobs would be created, at an estimated foreign exchange cost per job of $1,600, and a total cost per job of $4,800 equivalent. 6.04 The export-oriented foreign exchange projects, which are mostly new (16 out of 24), are largely in non-traditional sectors for Sri Lanka. These projects are either labor intensive, like knitwear and ready-made garments (Rs 11 million for 9 projects) 1/, diamond polishing (Rs 6.7 mil- lion for 2 projects), canvas shoes (Rs 0.4 million for 1 project), or they are based on domestic raw materials such as rubber (Rs 7.7 million for 2 projects), coconuts (Rs 11.4 million for 4 projects), or other agricultural and marine products (Rs 3.1 million for 3 projects). A number of these projects have foreign collaboration, particularly for technical aspects and marketing. Ten of the local market projects are new and twelve for expansion, balancing, modernization, and replacement. These projects cover a broad range of industries, such as paints (Rs 0.5 million for 3 projects), batteries (Rs 0.9 million for 2 projects), foundry projects and the 1/ Amounts of DFCC foreign exchange assistance.  - 26 - manufacture of spare parts (Rs 15.9 million for 6 projects), and rubber products (Rs 1.3 million for 2 projects). There is room for selective capacity increases for local market industries 1/, and DFCC expects that most of the existing companies coming forward for financing will have acceptable capacity utilization. Four of the seven tourism projects are new, and three for the expansion of existing facilities. 6.05 Forecast of Operations. Annex 20 shows DFCC's business projections through FY82. On the basis of the pipeline, and taking into account possible effects of the revaluation of the rupee, DFCC's operations are expected to grow as follows over the next few years: Foreign Currency Local Currency ($ million) (Rs million) Approvals Commitments Approvals Commitments Amount No.* Amount Amount Amount FY76 (Actual) 3.0 24 1.9 33.1 26.5 FY77 (Preliminary) 3.6 26 3.3 10.7 10.7 FY78 5.2 30 4.5 15.0 12.0 FY79 6.0 33 5.7 20.0 19.0 FY80 7.0 37 6.2 23.0 22.4 * Number of projects exclusive of SSI projects under the joint scheme. 6.06 The projected foreign exchange approvals and commitments for FY78 are based on a project-by-project analysis of the pipeline. For the follow- ing two years, a growth in real approvals (assuming a 10% inflation rate) of about 5% per annum has been assumed. The average DFCC foreign exchange assistance per project would increase from $125,000 in FY76 to $190,000 in FY80. This increase is caused by the presence in the pipeline of some large projects, by the reduction of the share going for hotel projects (which have a fairly low foreign exchange content), and by the general increase in inter- national prices. Accordingly, from FY77 to FY80, DFCC's foreign exchange approvals are expected to increase 94% by amount, but only 42% by number. 2/ DFCC's local currency approvals declined sharply from FY76 to FY77, but are now expected to increase at a fairly rapid pace, to reach Rs 23 million by FY80. 1/ The question of increases in capacity for sectors with low capacity utilization does not arise for export industries, and for local market industries must be reviewed on a case-by-case basis. DFCC has agreed to strengthen its capacity utilization analysis (para 3.08); the proposed dual free limit (para 8.05), will allow IDA to pay closer attention to this question. 2/ Under conservative assumptions (10% inflation and 2% real growth per annum over 1975 in total private sector investments in Sri Lanka), DFCC's total disbursements in FY81 would be 10.3% of fixed capital formation in the private sector for plant and machinery (exclusive of hotels and transport); DFCC's foreign exchange disbursements would be 6.9%.  - 27 - Resource Requirements 6.07 Share Capital. DFCC's share capital has recently been increased by Rs 5.6 million, and another Rs 2.4 million is proposed to be taken up by IFC (para 3.01). DFCC plans a further increase of Rs 4 million in FY80 to main- tain its debt-equity ratio below 7:1, and also to provide resources for DFCC's rupee lending. In view of the successful outcome of the recent increase, DFCC should not face any difficulties in this regard. 6.08 Foreign Exchange Requirements. Annex 21 shows DFCC's projected resources position through FY81. The $5 million ADB loan became effective in May 1977, the IDA line of Credit should also become effective in FY78. 1/ DFCC intends to make an effort to tap other sources of foreign exchange, but no such sources are expected to materialize through FY79. 6.09 The ADB Loan. The $5 million ADB loan, which was approved by ADB's Board in December 1976, is to GOSL out of ADB's special funds, for relending to DFCC at ADB's ordinary lending rate, 8.9%. It is a general purpose loan, though ADB has excluded lending for tourism, since it feels that IDA has more expertise in this area, and also excludes lending for equity investments, which are against ADB's general policy. Also, there is a firm allocation of 10% of the loan for SSIs. GOSL will carry the foreign exchange risk, and there will be a minimum average spread of 3.75% on the ADB funds. Finally, ADB will provide to DFCC on a grant basis an expert in SSI financing for six to nine months, to assist DFCC in improving its operations with regard to identifi- cation, promotion, and implementation of SSI projects. 6.10 Domestic Resource Requirements. DFCC has made commendable efforts to diversify its sources of domestic resources. In addition to the line of credit with the National Savings Bank, the Controller of Exchange has recently allowed DFCC to accept long-term deposits of "blocked" funds, which are funds now on deposit with commercial banks, owned by residents of foreign countries. However, DFCC has not yet succeeded in obtaining such funds. In addition, it is possible that DFCC may be able to obtain funds from the Ceylon Insurance Corporation, and it is also considering the possibility of raising funds via debentures. DFCC's local currency position is expected to remain comfortable, since the Corporation would not require any of the above additional rupee resources to be available until FY80. Internal cash generation and collections will fund 55% of DFCC's local currency requirements for the period FY78-FY80. Financial Projections 6.11 Annex 22 shows projected income statements for FY77-FY82. 2/ Profit before tax and provisions is expected to increase from Rs 4.2 million in 1/ DFCC's fiscal year: April 1 - March 31. 2/ The financial statements for FY77 have been estimated based on DFCC's preliminary disbursement figures.  - 28 - FY76 to Rs 11.0 million in FY81, corresponding to 4.8% of average total assets in FY76, 4.3% in FY81. Net profit as percent of average equity would increase from 15.2% in FY76 to 16.6% in FY81. Administrative expenses are projected to increase by 17% p.a., but due to the increased volume of business, they will decline from 1.4% of average total assets in FY76 to 1.0% in FY81. With a 9% rate of dividend, dividend payout would be 36% in FY76, 34% in FY79, and 30% in FY81. However, to attract new investors, it is possible that DFCC may decide to increase its dividend somewhat, within the legal limit of 12% (para 3.01). 6.12 Projected cash flow statements and balance sheets are shown in Annexes 23 and 24. DFCC's collections are expected to remain high during the period. As a result, the debt-service coverage ratio will be between 1.4:1 and 1.2:1, which is satisfactory. Besides its normal operations, a cash out- lay of Rs 3 million is expected in FY79 on account of a new office building, which would be needed to accommodate DFCC's staff increases. For this pur- pose, DFCC had acquired a piece of land several years ago, but this has now been taken over by GOSL, at an expected loss to DFCC of Rs 350,000. 1/ Total assets are expected to grow from Rs 97 million in FY76 to Rs 279 million in FY81, or by 24% per annum. This high growth rate is a result of DFCC's past low level of activity. Because of the past and projected share capital increases (para 6.07), the long-term debt-equity ratio is expected to stay well below the contractual limit of 7.0:1 after FY77. As a result of the low level of foreign exchange lending FY70-FY75, foreign exchange loans and invest- ments accounted for only 21% of the total portfolio in FY76. This percentage is expected to increase to 55% by FY81, as a result of the expected increase in foreign exchange lending. 6.13 In the projections, it has been assumed that 15% of net foreign exchange approvals and 25% of local currency approvals from FY78 onwards would go for equity investments (85% for preference shares, 15% for ordinary shares), against DFCC's present policy of 20%-25%. Nevertheless, the total equity portfolio would reach the present exposure limit of the sum of DFCC's equity and the GOSL subordinated loan by the end of FY82. 2/ Provisions for bad and doubtful loans and investments are expected to remain at 3% of the total portfolio, and reserves plus provisions at about 9-10%. DFCC's finan- cial position is expected to remain satisfactory. 1/ This land had a cost value of Rs 850,000, but in view of present property prices and GOSL's compensation practices, DFCC does not expect to get more than Rs 500,000 for the land. 2/ However, DFCC may change this limit (para 3.13).  - 29 - VII. OBJECTIVES OF THE CREDIT 7.01 The proposed Credit has two objectives: (a) To provide foreign exchange for private investments in industry, tourism, and related activities. Thereby, the Credit would support the present increase in investment interest (para 6.01), and through DFCC's appraisals help to channel this interest into investments of economic bene- fit to Sri Lanka. In particular, based on DFCC's present pipeline (para 6.03), it is expected that about 40% of the Credit will go for export-oriented projects, either labor- intensive or utilizing local raw materials. Another 15% is expected to go for hotel projects, so that more than half of the Credit will create direct foreign exchange earnings for Sri Lanka. Other projects will provide indirect foreign exchange earnings, or foreign exchange savings. (b) To continue the efforts to improve DFCC as an institution, through appropriate staff expansion (para 3.06), improved appraisal standards (para 3.08), and through efforts to increase DFCC's promotional activities (para 4.14), for which there is considerable scope in Sri Lanka. VIII. PROPOSED CREDIT Lending Scheme 8.01 The proposed Line of Credit for $8 million would be made to GOSL for relending to DFCC, which would on-lend to private sector companies to meet the foreign exchange cost of capital goods and services. As with other IBRD/IDA projects for development finance companies, eligible'enter- prises would be broadly defined so as to include manufacturing, agro-indus- tries, tourism, mining, transportation etc. Disbursements from the proceeds of the proposed credit would be made against 100% of the foreign expenditures for directly imported equipment, services, and materials. Disbursements would be completed by December 31, 1981. An estimated disbursement schedule is shown in Annex 25. Main Terms 8.02 Interest. GOSL would relend to DFCC at the normal IBRD lending rate, 8%. DFCC would also pay a commitment fee to GOSL of 0.75% on the un- disbursed amounts, to be passed on to DFCC's sub-borrowers. DFCC's lending rate will be 13%, giving DFCC a normal spread of 5% on its foreign currency operations, which is appropriate in view of the small size of many of DFCC's clients and the need for the Corporation to build its reserves.  - 30 - 8.03 Amortization. Repayments to GOSL on individual subprojects would be made within 15 years including grace, on a flexible amortization schedule in approximate conformity with repayments received by DFCC from sub-borrowers. The repayment period for individual sub-loans would not exceed 15 years in- cluding grace. 8.04 Foreign Exchange Risk. The foreign exchange risk would be assumed by GOSL, as under the three previous IBRD loans/IDA Credit to DFCC (para 3.17). 8.05 Free Limit 1/. Under Credit 566-CE the free limit was $150,000, including previous IBRD/IDA commitments outstanding or undisbursed. For this credit, there will be a dual free limit 2/: (a) $100,000 for projects producing for the local market (i.e. less than 80% of the production for export), and which also involve an increase in installed capacity of at least 10%, and in addi- tion for all tourism projects; and (b) $400,000 for all other projects. This definition has been introduced to permit IDA a closer contact with proj- ects where capacity utilization could be a problem. It is expected that with this limit, IDA will review about 25% by number, and 70% by amount, of the sub-projects under the credit. This is desirable to continue a dialogue on project appraisal, especially in view of DFCC's need to improve further its appraisals in certain areas (para 3.08). Project Risk 8.06 The primary risk associated with the proposed credit concerns the investment climate. Within Sri Lanka's current political and economic frame- work, the prospects appear good for private industrial production and invest- ment. However, if GOSL's attitude towards the private sector should revert back to the negative position of the early seventies, the investment interest would oncX again decline sharply. In that case, it would become difficult for DFCC to utilize all of the proposed credit. IX. RECOMMENDATIONS 9.01 On the basis of the agreements reached with GOSL and DFCC, a $8 million IDA credit to GOSL is recommended, to be on-lent to DFCC at 8%. The only condition of effectiveness of the proposed credit would be that DFCC's Board approve a Statement of Development Strategy satisfactory to IDA (para 6.02). An IFC equity investment of up to Rs 2.386 million (about $199,000 equivalent) is recommended to assist the increase in DFCC's equity. 1/ ADB's free limit is $200,000, but with ADB prior approval of the first ten sub-loans to SSIs as well as first ten sub-loans above $100,000. 2/ The amounts relate to DFCC's total foreign exchange assistance.  ANNEX 1 Page 1 SRI LANKA APPRAISAL OF THE DEVELOPMENT FINANCE CORPORATION OF CEYLON The Tourism Sector General 1. Sri Lanka has considerable tourism assets: A tropical, but gener- ally pleasant climate, excellent beaches, ancient ruins, game sanctuaries, and beautiful scenery. The price level, measured at the FEEC rate, is also advantageous for foreign visitors. However, due to Sri Lanka's location - more than 5,000 miles from Western Europe, Japan and Australia - these assets could not be fully utilized prior to the development of mass air travel. The tourist trade in Sri Lanka is therefore barely ten years old. Arrivals 2. Up to 1966, the number of arrivals (business and pleasure) hovered around 20,000 annually. Since then the tourist traffic has increased steadily, except for a set-back in 1971 due to the insurgency in that year. The num- ber of arrivals increased to 46,000 in 1970 and to 78,000 in 1973, giving a growth rate for the period 1966-1973 of more than 22% p.a. In 1974, when world travel in general experienced a drop of 3% due to the energy crisis, the number of arrivals in Sri Lanka increased by 9% to 85,000, followed by a 21% increase in 1975 to 103,000. 3. The Ceylon Tourist Board (CTB) had assumed that total arrivals for 1976 would be around 115,000. This low expected growth (11%) was because of the disruptions in the low season summer months caused by the non-aligned con- ference held in Colombo in August 1976. However, it turned out that this projection was on the conservative side, in that the actual number of visitors reached 119,000 (a 15% increase), despite the conference. 4. After 1976, CTB expected that the traffic will increase by 18% p.a. up to 1978, to reach 166,000 arrivals in that year. This is an ambitious, but attainable target, based on past performance and present indications of demand. No projections have been made for the years after 1978. However, it seems realistic to assume that the growth will then slow down. Assuming a 10% growth rate, the number of arrivals would be 200,000 in 1980, and 242,000 in 1982. Whether such figures can be reached would depend, inter alia on Sri Lanka's promotional efforts (para 21), on the economic development in its  ANNEX I Page 2 major markets, and on the development of the costs of air transport, including fuel. However, since the demand for long-haul travel is relatively resistant to price increases, the tourist industry in Sri Lanka should be able to hold up well in the case of moderate international economic disturbances. 5. Countries of Origin. Table 1 shows the trend in visitor arrivals to Sri Lanka by country of origin. Sri Lanka's tourist traffic is heavily concentrated from a few countries. West Germany, France, and Scandinavia are the leading traffic generators 1/, with 40% of traffic in 1974, 35% in 1975. This decline was a result of the rapid growth for a number of new mar- kets, in particular Japan, USSR, and Australia. Also as a result of this development, Western Europe's share fell from 66% to 59%. However, this re- gion will remain Sri Lanka's major market for the foreseeable future. With- in Western Europe, the French traffic, which almost doubled between 1972 and 1973, declined in 1974 and was stagnant in 1975 as a result of the suspension of UTA services in May, 1974. However, the figures for the first five months of 1976 show an increase of 41% over the same period in 1975, which indicates renewed growth for this important market. The figures for 1976 show also strong growth for West Germany (which is the largest single country of origin), Japan, and Australia. A number of smaller markets (Canada, Austria, Belgium, The Netherlands, Pakistan) showed also excellent growth, and in particular Italy, with a growth of 22% over the whole of 1975. Over the next few years no major changes are expected in the make-up of Sri Lanka's tourist traffic. 6. Transportation. In 1974 and 1975, 7% of all tourists to Sri Lanka arrived by sea, mostly from India, and 93% by air. Due to its location and the small size of its population, Sri Lanka is not an important point of call for international scheduled airlines. Still, the country is adequately served in this respect, as witnessed by arrivals brought in by such airlines 2/ grow- ing from 61% of all arrivals in 1974 to 65% in 1975. Accordingly, the share of the charter airlines dropped from 32% to 28%, despite the fact that Japan Airlines (JAL) in 1975 started operating a series of charters and brought in 4,000 tourists, accounting for 76% of the increase in Japanese arrivals. However, the charter traffic remains dominant for a number of important mar- kets, in particular Scandinavia, West Germany, and Switzerland. Due to the economies enjoyed by package tours using air charters, it is expected that this type of transport will increase its importance again over the next few years. Also, it is possible that a number of tour operators have found the 1/ Exclusive of India, which provides about 7,000-8,000 visitors per year, mostly staying with friends and relatives. 2/ There were twelve scheduled airlines serving Sri Lanka in 1974, ten in 1975.  ANNEX 1 Page 3 Ceylonese market to be still too small for cost-effective mass tourism 1/; so that some additional growth could trigger a large increase in charter operations. 7. Length of Stay. Table 2 shows that the average length of stay of visitors to Sri Lanka in 1975 was 9.8 nights, down from 10.3 nights in 1973, which is explained largely by the fact that arrivals from Eastern Europe and Japan more than doubled their relative share of total arrivals; both these markets show low average length of stay, e.g., 5.6 nights for Japan in 1975. For Western Europe, the average length of stay has remained stable (10.7 nights in 1973, 10.5 in 1975). Business visitors tend to stay shorter period than pleasure tourists (1975: 8 nights vs 9.8 nights). Since most charter operators try to work weekly back-to-back arrangements, charter tourists mostly stay for one or two weeks. 8. Seasonality. Table 3 shows that the tourist traffic to Sri Lanka is heavily concentrated during the Northern Hemisphere's winter months, from November through March. For the period 1972-1975, these five months had on the average 57% of the traffic. The seasonality factor (the ratio between the highest and the average months) was 1.68 in 1972, 1.46 in 1973, 1.49 in 1974, and increased to 1.74 in 1975, because of a very heavy traffic in the month of December. The average seasonality factor for 1972-1975 was 1.60. If it is assumed that the maximum national occupancy rate for the peak month is 85%, due to organizational problems and last-minute cancellations, then this seasonality factor would produce a maximum national average annual room occupancy rate of 53%. If, on the other hand, the seasonality factor could be reduced to 1.4, the average maximum occupancy rate would increase to 61%. For this reason, CTB tries to encourage traffic in the low season, in parti- cular by promotional work in new markets like Japan and Australia. Likewise, the development of the East Coast Region is aimed at encouraging summer visitors. Despite these efforts, the seasonality factor will remain high, possibly around 1.55, which would give a maximum average occupancy rate of 55%. Hotel Capacity 9. Table 4 shows that there has been a rapid increase in hotel capacity in Sri Lanka. From 1971 to 1975 the number of rooms in graded establishments (hotels thought suitable for the international tourist trade) increased from 2,055 to 3,632, or by 15% p.a., despite the fact that a number of substandard establishments were withdrawn from classification. The increase in capacity has been especially large in the past two years; the number of rooms was 2,661 in October 1974, 3,632 in December 1975, and 4,220 in August 1976. 76% of the expansion in 1976 took place in Colombo, in anticipation of the non-aligned conference. 1/ For example, if a tour operator should want to operate weekly back-to- back operations for five months, with a 100-seats plane, he would require 2,000 tourists to operate at full capacity.  ANNEX 1 Page 4 10. Occupancy Rate. The average occupancy rate increased from 31.1% in 1971 to 42.4% in 1973, but then fell to 36.8% in 1975 as a result of the large expansion in hotel capacity between 1973 and 1975. There are wide regional discrepancies in occupancy rates, which in 1975 varied from a high of 48.4% (Colombo City) to a low of 16.2% (High Country Region). Generally, the most popular tourist areas (Colombo City and Region, South Coast Region and Ancient Cities Region) have had the highest average occupancy rates. Due to the seasonality of the traffic, the rates vary considerably over the year for all regions with a high in the winter months (except for the East Coast, where the high season is in the summer months). 11. The above average annual occupancy rates are based on recorded guest nights. These figures differ considerably from the number of visitor nights 1/ spent in the country, as seen from the following table: (1) (2) Visitor Nights Guest Nights (2) in % of (1) (1) - (2) 1971 416,367 347,102 83.4 69,265 1972 610,912 412,672 67.6 198,240 1973 802,246 556,951 70.8 234,295 1974 875,613 623,314 71.2 252,299 1975 1,015,021 709,685 69.9 305,336 From 1972 onwards, the number of recorded guest nights in graded establishments has consistently been about 70% of the number of visitor nights. In 1975, the number of guest nights (710,000) included local guest nights of 45,000, leaving foreign guest nights of 665,000 or 65.5% of total visitor nights. The differ- ence of 350,000 nights could be explained as tourists staying in other ungraded establishments or in private homes. However, in 1975 only 66,000 foreign guest nights were spent in other establishments, leaving 284,000 unrecorded guest nights. 2/ Some of these will have been spent in private homes by people visit- ing friends and relatives, but the figure seems high in view of the fact that most visitors to Sri Lanka are long-distance travellers. Also, it does not seem likely that such traffic should have been increasing by 15% p.a. in the period 1972-1975, in particular since the traffic from the neighboring countries (India and the Maldives) was increasing by only 7% p.a. in that period. In 1975, even if all Indian and Maldivean visitors were included in the unrecorded guest nights, there would remain a difference of 156,000 nights. For this reason, it is possible that some hotels under-report their actual number of guest 1/ Number of visitors times average length of stay. 2/ Recorded foreign guest nights also include foreigners not classified as tourists (residents, diplomats, aircraft crews), making the difference even larger.  ANNEX 1 Page 5 nights. 1/ Therefore, the projected occupacy rates (para 14) have been prepared in two alternatives, assuming 66% and 80%, 2/ respectively, of all foreign visitor nights spent in graded establishments. 12. The break-even period for "normal" hotels in Sri Lanka has been calculated at 38%-42%, but this will vary considerably from hotel to hotel, depending i.a. on size, standard, and quality of management. The present recorded average occupancy rate of 36.8% (para 10) is below the "normal" rate, but is affected by the many new hotels that have come into operation recently, thus many established hotels have been enjoying a higher occupancy rate. This is also shown by the fact that if the occupancy rate is calculated on the basis of the number of rooms available during the whole year, the rate for 1975 increases to 42%. 13. Projected Capacity. In addition to the 4,220 rooms in operation as of August 1976, CTB has approved additional projects involving 1,160 rooms, of which 700 rooms may be completed through 1977, while projects with 460 rooms will probably not be realized for some time. These projects are dis- tributed over the various regions as follows (no. of rooms): August 1976 Approved Total Golombo Region - City 1,301 - 1,301 Colombo Region - Greater Colombo 873 172 1,045 South Coast Region 803 513 1,316 East Coast Region 210 120 330 High Country Region 212 - 212 Ancient Cities Region 743 306 1,049 Northern Region 58 50 108 Total 4,200 1,161 5,361 14. In view of the present low recorded occupancy rates, CTB is re- luctant to approve many new projects for the time being. On this basis, 1/ This could explain statements from CTB and some individual tour oper- ators and hotel managers that the established hotels were fully booked, or indeed overbooked, for the 1976/77 winter season. 2/ 66% is the figure actually recorded for 1975, whereas 80% is a guess- timate arrived at by deducting recorded foreign guest nights in ungraded establishments, plus all Indian and Maldivian visitor nights, from the total number of visitor nights for 1975.  ANNEX 1 Page 6 4,920 rooms may be available for 1978, 5,380 for 1980, and 5,840 for 1982, which could give the following average annual occupancy rates. 1/ 1975 1978 1980 1982 No. of visitors 103,204 166,000 200,000 242,000 No. of rooms (beginning of year) 2,905 4,920 5,380 5,840 Average annual room occupancy-a/ 42.0% */ 39.3% 43.2% 48.0% Average annual room occupancy-b/ 50.3% 47.2% 51.9% 57.7% */ Calculated on the number of rooms in operation at the beginning of the year, and therefore different from the actual average rate of 36.8% mentioned in para 10. Due to the large increase in number of rooms during 1975 and the first half of 1976, the expected average annual room occupancy under alternative a/ above will remain fairly low through 1980. On the other hand, if alternative b/ should be more correct, the real average occupancy rates are already satisfactory, and new capacity could be added in addition to what is being projected above, since 55% average annual occupancy is considered the maxi- mum for Sri Lanka (para 8). 15. Country-wide capacity considerations, as above, have only limited operational usefulness, as the demand and supply situations will vary between regions, as well as between different types of establishments. CTB bases its approval policy on the recorded occupancy rates. Its present approach is therefore to refuse approvals of new projects for the time being, except for the East Coast which it is attempting to develop as an encouragement for summer tourism. In addition, it allows expansions wherever land and in- frastructure are considered adequate; this is desirable since many hotels are fairly small (the average hotel size is 48 rooms), making them less attractive for many tour operators. Finally, CTB tries to encourage upgrading of exist- ing facilities, which is desirable since the quality of many hotels is fairly low as a result of lack of experience, the rapid development of the sector, and the heavy reliance on domestic inputs for the construction and operation of hotels. CTB's approach is appropriate under the present circumstances. 16. DFCC's Role. The above projections show that there is considerable scope for DFCC financing, although not on the same scale as in the past. Its 1/ For these calculations, the projected visitor figures from para 4 have been used, in addition it is assumed that average length of stay will be 9.8 nights, and average room density 1.6, as for 1975. It is further assumed that local guest nights will increase by 7% p.a., as between 1973 and 1975. Alternative a/ assumes that 66% of all visitor nights to Sri Lanka will be spent in graded establishments (as per the recorded figures for 1975), alternative b/ 80%.  ANNEX 1 Page 7 pipeline as of September 1976 contained 16 hotel projects, of which twelve had been approved by CTB. The remaining four projects were all expansion projects, which in general receive approval (para 15). In all, these projects would have about 740 rooms, the projects already approved by CTB, 560, or 48% of the room capacity already approved by CTB (para 13). 11 of the 16 hotels would have a capacity of at least 50 rooms, which is satisfactory. The proj- ects were located in several regions, but with a concentration in the Greater Colombo and South Coast Regions where most of the developed resort areas are located. None of the projects were located in the High Country and Northern Regions, which have the lowest annual occupancy rates (Table 4). Estimates of hotel costs are available for eight of the 16 projects, with an average cost of Rs 70,000 per room; of which foreign exchange costs account for 17%. For a few hotel projects recently completed the average cost per room was Rs 50,000-Rs 220,000, depending on size, quality, and location. Thus, it seems likely that the cost estimates will increase during appraisal, in par- ticular the rupee components. Under the projections in para 14, the total capacity in Sri Lanka is assumed to grow by about 230 rooms per year after 1978. Assuming an average cost of Rs 150,000 per room, of which 15% in foreign exchange, this would imply annual foreign exchange approvals by DFCC for hotels (exclusive of upgrading projects) of Rs 5.2 million ($600,000 equivalent), or around 10% of DFCC's projected foreign exchange approvals after FY77. Economic Impact 17. The total employment in establishments providing direct services to tourists (hotels, travel agencies, airlines, tourist shops etc.) increased from 11,484 in 1974 to 13,190 in 1975 or by 15%. Of this increase, the ac- commodation sector accounted for 71%, tourist shops 25%. CTB has calculated the indirect employment effect in the supply sectors at about 14,900 (exclusive of hotel construction), which gives a total employment creation of 28,000, equal to 25% of employment in the organized industrial sector. 18. CTB has estimated the foreign exchange receipts from the tourism industry as follows (Rs million, inclusive of FEECs): 1/ 1974 1975 % Change Accommodation establishments 51.5 83.8 62.7 Travel agents and tour operators 59.7 70.1 17.4 Tourist shops 21.4 47.2 120.6 State Gem Corporation 3.8 4.0 5.3 Commercial banks 40.3 54.1 34.2 Total 176.7 259.2 46.7 1/ Based on foreign encashments made by tourists through legitimate sources and do not show accurately the distribution of tourism spendings. It is possible that overseas pre-payments for ultimate remittance to Sri Lanka tourist enterprises would not be reflected in the table.  ANNEX 1 Page 8 The increase from 1974 to 1975 was due to the increased number of arrivals (para 2), to increased spending per tourist, as witnessed by the large in- crease for tourist shops, and also to the deterioration of the value of the Sri Lanka rupee. Thus, total foreign exchange receipts measured in US$ increased from $16.2 million to $22.3 million, or by 38%. CTB has estimated the net foreign exchange earnings at about 70% of gross foreign exchange receipts, corresponding to $15.6 million for 1975. In view of the fact that both hotel construction and operation are forced, by the lack of foreign exchange bulk in Sri Lanka, to depend heavily on local inputs 1/, it is possible that this is a conservative estimate. The Ceylon Tourist Board (CTB) 19. CTB, which was established in 1966, consists of seven members with the Chairman as a full-time Chief Executive. It reports to the Ministry of Shipping, Aviation and Tourism. The administrative structure was reorganized in 1975 into three divisions: Product Planning and Development, Marketing and Industry Relations, Finance and Administration. The total professional staff is 77, inclusive of 3 overseas and 11 in the Hotel School (para 22). CTB is responsible for planning and development relating to the tourism industry, promotion, research and statistics. It will also be responsible for hotel classification, for which legislation was passed in 1975. According to the terms of Credit 566-CE, a tourism advisor for CTB has now been hired. 2/ He will advise on the overall tourism development program; on the implementa- tion of the hotel code and the creation of an efficient inspectorate, and will also be advising hotel companies on operational problems. 20. CTB must approve a hotel project before DFCC can grant finance or the project can obtain tax concessions. Before approval, CTB considers the location, size and class of the proposed hotel, within the overall development framework, but does not conduct any detailed project appraisals. The Board is also responsible for the development of certain resort areas, for which it had available Rs 2.8 million in 1975, for the financing of infrastructure such as roads and sewerage facilities. Outside of those areas, however, CTB has not been able to prevent some developments from taking place virtually uncontrolled by physical considerations; this has in part been due to the lack of proper land-use regulations in Sri Lanka. In some cases, the lack of enviromental concern may have serious repercussions in the future. It is expected that the tourism advisor will look into this question. 1/ The heavy reliance on domestic inputs has had a negative impact on the quality of physical assets and services. Therefore, it is possible that the percentage of net to gross foreign exchange earnings will decline as the quality of the tourist industry is upgraded (para 15). 2/ Funded by the Commonwealth Fund for Technical Cooperation.  ANNEX 1 Table 1 SRI LANKA APPRAISAL OF DEVELOPMENT FINANCE CORPORATION OF CEYLON Visitor Arrivals by National Origin, 1971-1975 and 1976 (five months) % Change Annual Compounded 1976 five months Growth Rate, 1971-75 % Change 1976 Over Same 1971 1972 1973 1974 1975 (M) 1974-1975 (five months) Period, 1975 NORTH AMERICA 3,936 4,814 5,974 6,271 7,823 19 25 3,738 4 Canada 600 617 865 1,045 1,194 19 14 731 31 USA 3,336 4,197 5,109 5,226 6,629 19 27 3,007 -1 LATIN AMERICA & CARRIBEAN 127 129 170 345 404 34 17 149 -20 WESTERN EUROPE 23,263 33,877 50,704 56,309 60,660 27 8 37,923 40 Austria 514 648 1,081 1,441 1,514 31 5 978 28 Belgium 434 651 1,137 980 1,259 30 28 795 63 Denmark 1,367 2,080 2,923 3,298 2,396 15 -27 1,405 9 Finland 212 257 362 532 407 18 -23 212 45 France 3,618 6,352 12,417 10,839 11,093 32 2 6,433 41 WeFt Germany 5,888 8,627 10,286 13,893 15,497 27 12 10,335 43 Italy 1,310 1,530 3,030 3,338 3,826 31 15 4,669 219 Netherlands 485 706 763 1,506 1,886 40 25 1,332 77 Norway 193 270 363 604 524 28 -13 241 6 Sweden 2,135 3,469 5,393 5,429 6,689 33 23 3,829 21 Switzerland 2,024 2,952 4,871 6,575 5,841 30 -11 2,844 9 United Kingdom 4,865 6,084 7,464 6,969 8,756 16 26 4,402 26 Others 218 251 614 905 972 46 7 448 44 EASTERN EUROPE 369 943 1,511 2,089 5,002 72 139 2,651 3 USSR 200 473 1,081 1,659 4,354 116 102 2,43s S Others 369 470 430 430 648 15 51 213 -33 AFRICA 295 425 883 1,495 1,251 44 -16 482 -12 South Africa 214 301 711 1,156 1,019 48 -12 349 -18 Others 81 124 172 339 232 30 -32 133 11 MIDDLE EAST 253 300 327 381 647 26 70 293 -14 ASIA 10,130 14,156 16,510 15,619 23,779 24 52 12,230 33 India 6,097 7,843 7,754 6,773 7,808 6 15 4,024 13 Japan 1,036 1,501 2,888 3,013 8,281 78 175 4,287 45 Malaysia 1,301 1,667 1,599 1,153 1,210 -2 5 520 19 Maldives 405 660 1,201 1,914 2,588 59 35 896 -13 Pakistan 382 691 1,249 979 1,628 44 66 1,446 230 Singapore 467 919 969 695 833 16 20 379 16 Others 442 875 850 1,092 1,431 34 31 678 49 OCEANIA 1,081 1,403 1,809 2,502 3,638 35 45 1,788 39 Australia 905 1,152 1,542 2,095 3,156 37 51 1,584 48 Others 176 251 267 407 482 29 18 204 -3 TOTAL 39,654 56,047 77,888 85,011 103,204 27 21 59,254 32 December 7, 1976  ANNEX 1 Table 2 SRI LANKA APPRAISAL OF DEVELOPMENT FINANCE CORPORATION OF CEYLON Average Length of Stay by National Origin and Purpose, 1975 Average Duration of Stay in Days All Pleasure Business Others Country Tourists Tourists Tourists Tourists NORTH AMERICA 8.9 8.9 6.4 19.0 Canada 11.6 12.2 6.9 12.6 U.S.A. 8.4 8.4 6.2 21.2 LATIN AMERICA & THE CARRtIBEAN 6.2 6.3 5.3 - I&SIERN EUROPE 10.5 10.6 7.5 11.2 France 10.4 10.1 7.3 9.8 West Germany 11.0 11.0 8.5 16.3 Italy 5.3 5.2 7.2 10.0 Netherlands 9.9 10.3 5.5 7.0 Scandinavia 13.4 13.5 8.4 14.7 Switzerland 10.7 10.6 9.6 26.5 U.K. 10.5 10.9 7.5 10.7 Others 7.8 7.9 6.4 6.5 EASTERN EUROPE 3.8 3.6 7.2 3.8 MIDDLE EAST 6.9 6.8 6.7 14.9 AFRICA 3.8 3.8 3.9 3.4 ASIA 9.4 9.1 8.7 12.6 India 11.1 11.4 7.6 12.1 Japan 5.6 5.5 6.9 7.5 Malaysia 12.5 12.9 7.7 11.6 Maldives 15.9 16.2 12.7 22.2 Pakistan 10.1 10.1 10.2 10.2 Singapore 8.6 8.8 6.0 10.2 Others 7.5 6.9 8.5 14.9 OCEANIA 14.3 13.9 10.2 25.0 Australia 14.4 14.5 11.4 25.8 Others 9.4 9.9 5.2 7.0 TOTAL 9.8 9.8 8.0 13.4 December 7, 1976  SRI LANKA APPRAISAL OF DEVELOPMENT FINANCE CORPORATION OF CEYLON Trends in Visitor Arrivals by Month, 1972-1976 1972 1973 1974 1975 1972-1975 1976 Month Arrivals % Arrivals % Arrivals % Arrivals % Average x Arrivals January 5,762 10.3 9,386 12.8 10,915 12.8 11,740 11.4 11.7 15.626 February 5,848 10.4 8,343 10.7 9,648 11.3 10,388 10.1 10.6 15,214 March 5,564 9.9 7,875 10.1 9,847 11.6 11,158 10.8 10.7 13,431 April 3,091 5.5 5,468 7.0 6,400 7.5 5,890 5.7 6.5 8,886 May 3,282 5.9 4,168 5.4 3,241 3.8 5,587 5.4 5.1 6,097 June 2,302 4.1 3,246 4.2 3,303 3.9 4,787 4.6 4.2 N.A. July 3,703 6.6 5,919 7.6 5,404 6.4 5,925 5.7 6.5 August 4,634 8.3 6,680 8.6 6,147 7.2 8,565 8.3 8.1 September 3,402 6.1 4,184 5.4 4,986 5.9 5,287 5.1 5.5 October 4,476 8.0 5,977 7.7 6,199 7.3 7,622 7.4 7.5 November 6,155 11.0 7,137 9.2 8,338 9.8 11,271 10.9 10.2 December 7,828 14.0 9,505 12.2 10,583 12.4 14,984 14.5 13.3 Total 56,047 100.0 77,888 100.0 85,011 100.0 103,204 100.0 100.0 X D eX December 7, 1976  SRI LANKA APPRAISAL OF DETELOPMENT FIX NCE CORPORATION OF CEYLON Accommodation Statistics for Graded Establishments No. of Hotels No. of Rooms No. of Beds Occupancy Rate C%) Bed/Room Occupancy Rate 1971 1973 1975 1971 1973 1975 1971 1973 1975 1971 1973 1975 1971 1973 1975 Region Colombo Region - City 16 12 12 439 705 1,059 845 1,382 2,074 43.4 43.3 48.4 1.4 1.4 1.4 Colomabo Region - Greater Colombo 15 8 13 515 518 669 973 971 1,291 ;5.7 52.1 38.8 1.6 1.7 1.7 South Coast Region 13 15 19 363 519 790 715 1,040 1,598 28.9 46.2 33.4 1.7 1.8 1.8 East Coast Region 4 2 5 67 75 230 140 154 464 16.3 34.1 24.0 1.5 1.8 1.8 High Country Region 16 4 4 292 189 212 531 341 360 16.o 17.5 16.2 1.7 1.8 1.8 Ancient Cities Region 15 13 18 312 414 614 621 833 1,244 27.8 41.8 32.7 1.7 1.7 1.8 Northern Region 4 2 2 67 48 58 117 80 111 19.8 20.4 17.5 1.5 1.7 1.6 Total 83 56 73 2,055 2,468 3,632 3,942 4,801 7,142 31.1 42.4 36.8 1.6 1.7 1.6 December 7, 1976  ANNEX 2 Page 1 SRI LANKA APPRAISAL OF THE DEVELOPMENT FINANCE CORPORATION OF CEYLON Private Sector Incentives Manufacturing 1. The export-oriented manufacturing sector enjoys the following incentives: (a) Foreign Exchange Entitlement Certificate (FEEC). The expor- ters of most goods, apart from a few traditional agricultural exports, receive a premium above the official exchange rate. This premium was increased in November 1972 from 55% to 65%. The FEEC rate also applies to most imports (excluding food- stuffs). Thus, importers of machinery and equipment have to pay 65% above the official rate of exchange. (b) Convertible Rupee Account (CRA). The CRA scheme was introduced in July 1972. Under the scheme, exporters of industrial products earning convertible foreign exchange are entitled to retain a proportion of the FOB value of their exports, inclusive of FEECs. The CRAs may be used for the import of a wide range of goods for consumption or industrial use. The percentage is 5% for most articles, 20% for gem exports. In the 1976 budget a variable scale was announced, with a maximum of 15% for industrial exports, 20% for gem exports. However, this change has not yet been introduced. The CRA scheme is considered a powerful incentive, in that it permits the import of many articles otherwise not usually available. CRAs are non-transferable, but goods imported under the scheme are traded at prices implying a rate roughly double the official exchange rate including FEECs. (c) Tax Holidays on Export Profits. Tax holidays apply to companies approved by the Ministry of Finance for this purpose. Companies in operation before April 4, 1972, enjoy a five year tax holiday on their increased export profits over the average export pro- fits for a three-year period before April 1, 1973. New companies, i.e. limited liability companies incorporated after that date, are granted an eight-year tax holiday on their export profits, defined as the same proportion of total profits as export sales to total sales. Previously, dividends declared during a tax holiday (new companies only) were also exempt from tax to the extent they related to export profits, but this has now been changed to cover only companies approved before November 6, 1974, and only for dividends on ordinary shares of up to 10%.  ANNEX 2 Page 2 This change was introduced because GOSL found the original ex- emption to encourage the distribution rather than the reinvest- ment of profits. However, dividends that are invested in approved enterprises would still be eligible for investment relief against income tax (para l(e) below). (d) Deduction of expenses. Undertakings approved under (c) above are permitted to deduct from taxable income expenses in connection with export trade including advertising and travel- ling outside Sri Lanka (the latter only with the approval of the Exchange Controller), as well as expenditures in Sri Lanka on scientific, industrial, and agricultural research for export articles. (e) Investment Relief. Investment relief is granted for limited liability companies which are considered by the Minister of Finance to be capable of exporting goods or providing services for payment in foreign exchange, or are considered essential for the economic progress of Sri Lanka. Individuals and companies who purchase new shares in such approved companies can claim deductions from their assessable income in the amount of their investment or 20% of their assessable income, whichever is lower. Such investments must be held for at least five years. This incentive has been a major factor in mobilizing equity funds for export-oriented and hotel enterprises. (f) Turnover Tax. All exports of industrial products are exempted from business turnover tax and excise duties. (g) Customs Duty Rebate. This scheme is meant to refund the amount of import duty paid on imported materials used in the manufacture of industrial exports. In practice, fixed percentages to be refunded, ranging from 3% to 60%, have been determined on the FOB export values of about 300 items. The scheme is operated without major difficulties. 2. The following capital allowances are allowed: (a) Lump Sum Depreciation. Assets acquired before April 1, 1957 are depreciated at a fixed annual rate on the written down value of the assets, while assets acquired after that date are given a once and for all lump sum depreciation ranging from 33 1/3% on industrial buildings to 80% on short lived equipment. (b) Development Rebate. In addition to lump sum depreciation, a 20% additional depreciation is allowed for factories, staff welfare buildings, and new plant and machinery used in the commencement of a business. If the undertaking is an approved  ANNEX 2 Page 3 project, the percentage for plant and machinery is increased to 40%. The justification for the lump sum method is that it gives a cash advantage to the investing company by reducing the tax burden in the year of assessment immediately following the investment, but it is of benefit only to companies otherwise paying tax. Thus to make use of this incentive, companies also enjoying tax holidays for certain profits would either need offsetting profits from other lines of activity, or they would need to carry forward an overall loss from their tax holiday period. Therefore, lump sum depreciation and the development rebate are primarily of importance to companies producing for the local market. 3. In 1976, the following new tax incentives were introduced: (a) People's Company. To encourage a broadening of industrial ownership, GOSL introduced the concept of a people's company, enjoying an income tax rate of 40%, compared to the normal company tax rate of 60%. The main features of a people's company are that there must be more than fifty shareholders, with no person or family controlling more than 10% of the issued share capital, and where the nominal value per share would not be larger than Rs 10. (b) Relief in Respect of Approved Investment Plan. Companies, other than people's companies, which after April 1, 1975 make investments in accordance with an approved investment plan are entitled to deduct from the income tax the amount of the investment or 10% of taxable income, whichever is lower. (c) Relief for Obtaining Foreign Exchange. Persons or companies carrying on an undertaking in Sri Lanka and bringing in foreign exchange (other than export earnings) for the purposes of the undertaking are entitled to a deduction from payable income tax equal to the amount brought in or 20% of attributable income tax, whichever is lower. (d) Relief for Increasing Employment. This relief is granted for companies engaged in agriculture, fisheries, mining, manufactur- ing, or any activity that will promote these activities. Such companies set up prior to January 1, 1976, and which provide for an increase in the labor force (based on the total employed during the previous year), will be eligible for a reduction in the payable tax of up to 20%, in the same ratio as between the increase in employment to previous employment. Companies set up in 1976 and employing at least 50 persons will be entitled to a deduction of 20% from payable tax. Thus an existing company would have to double its workforce to obtain a 20% reduction in its tax rate, while most new companies would  ANNEX 2 Page 4 enjoy tax holidays and/or lump sum depreciation and development rebate. Therefore, this measure is too weak to have much impact on employment generation in Sri Lanka. (f) Limitation. The aggregate deductions arising from (c), (d), and (e) above plus a similar deduction for housing and land development, shall not exceed 33 1/3% of the income tax other- wise payable. 4. Export-oriented enterprises can make use of all the incentives discussed above. Companies catering to the local market can now be found eligible for investment relief, if they are considered essential for the economic progress of Sri Lanka. They are also entitled to lump sum depre- ciation, development rebate, and the tax incentives recently introduced (para 3). In addition, such companies enjoy full import protection, which is granted by the Import Restriction Committee, an inter-ministerial committee chaired by the Secretary, Ministry of Industries and Scientific Affairs. Normally, import protection is granted for products satisfying three cri- teria: (a) satisfactory quality; (b) sufficient capacity to cater for the local market; (c) the product must be sold at a price giving the manufacturer a reasonable profit margin. 5. Tourism projects are entitled to FEECs, CRAs, investment relief, special custom duty rebates, lump sum depreciation and development rebate, and the tax reliefs in para 3 except relief for increasing employment and for in- crease in production or in export. In addition, tourism projects have the following special incentives: (a) Tax Holidays. Hotel projects are granted a five-year full tax holiday and thereafter, for companies approved by the Minister prior to April 1, 1976, a 15-year partial (50%) exemption from income tax. Dividends from hotel projects are treated in the same way as for other companies (para 1 (c)). (b) Capital Expenditures. As an alternative to lump sum depreciation and development rebate, purchases of machinery, equipment, and furniture can be deducted in full from assessable profits. 6. The current level of incentives for the manufacturing and hotel sectors in Sri Lanka is adequate. The package of fiscal incentives has a pronounced bias in favor of industries earning foreign exchange; this is desirable in view of the strong advantage otherwise connected with pro- duction for the protected local market. Most incentives are aimed at encouraging investments, either directly (investment relief, lump sum  ANNEX 2 Page 5 depreciation, development rebate, relief for approved investments), or indirectly through incentives concerning export sales or proEits. On the other hand, there are virtually no incentives encouraging employment creation per se. Nevertheless, in general private sector investments are not excessively capital intensive, as indicated, e.g., by the fixed investment per job for DFCC projects of $1,575 at the FEEC rate.  ANNEX 3 DEVELOPMENT FINANCE CORPORATION OF CEYLON Interest Rate Structure in Sri Lanka (% p.a.) Before April 1975 Apr.-Dec. 1975 After Jan. 1976 Min. Max. Min. Max. Min. Max. 1. Deposit Rates Commercial Banks - Savings Deposits 4.5 5.5 ) Fixed Deposits ) 3 - 12 months 4.5 4.75 ) 3 months 6 6.75 ) 6 months 6.5 7.0 ) -do- 12 months 7.0 7.5 ) 2 years 4.75 5.0 ) ) 3 years 5.0 5.25 ) 7.0 7.5 ) 4 years 5.25 5.5 ) National Savings Bank - Savings Deposits 7.2 7.2 ) Fixed Deposits (12 mths) 7.5 7.5 ) Savings Certificates ) (10 years) 11.0 11.0 ) - do ) 2. Government Securities ) Treasury Bills 5.0 5.0 Rupee Loans (10-12 yrs.) 9.0 9.0 3. Lending Rates Bank Rate (Central Bank) 6.5 6.5 6.5 Commercial Banks Inter-bank call loans 5 8 8 Bills purchased & discounted 6.5 10 8.5 12 8.5 13 Secured by Govt. Securities 7.0 10 7.5 11 7.5 14 Secured by Shares of jt. stock companies 9.0 12 9.0 12 9.0 13 Secured by stock in trade 8.5 12.5 8.5 13 8.5 14 Secured by Immovable property 8.0 12 8.5 12 8.5 14 Secured by others 6.5 12.5 6.5 13 6.5 14 Unsecured 8.5 13.5 9.5 14 9.5 14 State Mortgage Bank 5.0 12.0 5.0 12.0 ) Agricultural & Industrial ) Credit Corporation 9.0 12.0 9.0 12.0 ) - do - National Housing Dept. 6.0 9.0 6.0 9.0 ) National Savings Bank 10.0 12.0 10.0 12.0 ) December 7, 1976  ANNEX 4 DEVELOPMENT FINANCE CORP0RPJ',)OPI.' GF CEYLON j.ist of Shareholders as of Junre 30, 1976 No, of o . o, Name of Shareholders Shareholders 'hares PercentaR Private domestic shareholders W. Siriwardena, S.R.A. Dharmaratne & P.A.R.S. Perera 5,825k 7.3 Hunter & Company Ltd. 3,590 4.5 Hatton National Bank Ltd. 3,000 3.7 Commercial Bank of Ceylon Ltd. 2,000 2.5 The Ceylon Guardian Investment Trust Ltd. 2,000 2,5 Asso. Newspapers of Ceylon Ltd. 2,000 2.5 Free Lanka Insurance Co. Ltd. 1,943 2.4 Mrs. E.R. Amarasuriya L.Y45 1-7 Others holding less than 1,200 shares 273 14,22i 17.8 Subtotal 281 gJ,,> 44.9 (of which individuals 245 :.7,899 22.4) Government shareholders Bank of Ceylon 15,640 19.5 Insurance Corporation of Ceylon 4,4 220 7.3 Others holding less than 1,200 shares X7 Sub total 0,' Foreign shareholders Grindlays Bank Limited Chartered Bank 5,00i Hongkong & Shanghai Bank Corp. 000 i Commonwealth Dev. Fin. Co. Ltd. 220 Indian (Overseas) Bank 1,229 Others holding less than 1,200 shares 21 4,179 Subtotal 26 23X (58 Total1 311 80,000 1Q00.0 * Heed for Lake House Provident Fund. December 7, 1976  ANNEX 5 DEVELOPMENT FINANCE CORPORATION OF CEYLON Board of Directors as of July 1, 1976 Year of Election/ Name Appointment Background Status Mr. W. Tennekoon 1974 Former Governor, Shareholder (Chairman) Central Bank of Ceylon Director Mr. H.C. Goonewardena 1970 Retired Permanent Shareholder Secretary Director Mr. L.A. Weerasinghe 1969 Retired Auditor Shareholder General Director Mr. E.C.G. Wickremasinghe 1976 General Manager, Bank Shareholder of Ceylon Director Mr. L.N. de L. Bandaranaike 1974 Secretary, Ministry Government of Industries & Director Scientific Affairs Dr. W. Rasaputram 1975 Deputy Governor, Government Central Bank of Director Ceylon Mr. S.F. Laurentius 1975 Director, Ceylon Ex-officio Institute of Director Scientific Affairs Mr. D.D.W. Kannangara 1976 General Manager, DFCC Ex-officio Director December 7, 1976  ANNEX 6 DEVELOPMENT FINANCE CORPORATION OF CEYLON Number and Classification of Staff, 1974-1976 September 30, September 30, June 30, Category of Staff 1974 1975 1976 Professional Staff Accountants and Financial and Marketing Analysts including Cost Account- ants andl4ppraisal Officers- 8 14 15 2/ Engineers 2 2 2- Legal Officers 1 1 2 Others 1 1 1 Sub-total 12 18 20 Non-Professional Staff 26 27 26 Total 38 45 46 1/ Includes General Manager 2/ One engineer has since left DFCC. December 7, 1976  ANNEX 7 Page 1 SRI LANKA APPRAISAL OF THE DEVELOPMENT FINANCE CORPORATION OF CEYLON Statement of Policy (Adopted by the Board on 4/11/67 and amended on 7/10/69, 9/05/74 and 8/05/75) 1. The function of the Development Finance Corporation of Ceylon (the Corporation) is to further the economic development of Ceylon by assist- ing in the promotion, establishment, expansion and modernization of private industrial, agricultural and commercial enterprises in Ceylon and encouraging the participation of private capital, both internal and external, in such enterprises. Commercial enterprises eligible for financing by the Corporation will include projects in fields such as hotels, transportation, construction and engineering, which are conducive to the economic development of Ceylon. However, the Corporation will not finance enterprises which are solely en- gaged in trading activities, i.e. the buying and selling of goods. 2. The Corporation will provide finance in the forms which it considers most appropriate and as empowered by the DFCC act, namely, by medium and long-term loans with or without security, by share participation, by under- writing operations and by guaranteeing loans from other sources. 3. The Corporation will assist in promoting the growth of a capital market in Ceylon by selling investments from its portfolio when it can do so on satisfactory terms, and by underwriting security issues in suitable cases. 4. The Corporation will develop and maintain a strong and well-balanced organization capable of appraising the projects financed by it and of assist- ing its clients, if necessary, in the formulation and execution of their proj- ects. 5. The Corporation will ensure that every application for assistance is considered on its financial, technical, and economic merits. 6. In considering the amount and form of its financial assistance to an enterprise, the Corporation will take account of the total financial requirements of the project and the soundness of the resulting financial structure for the enterprise. 7. The Corporation will not in normal circumstances manage enterprises which it assists in promoting. It will not seek in any enterprise it finances a controlling interest or other interest which will give it the primary responsibility for management of that enterprise. It will not normally take  ANNEX 7 Page 2 up more than 25% of the issued ordinary share capital of any individual enterprise. Notwithstanding the above limitations, in any case of jeopardy it may take such action as it considers necessary to protect its investments. 8. The Corporation will develop a balanced portfolio by distributing its loans and share investments among the various economic sectors. 9. (a) The aggregate amount of the Corporation's loans to, share investments in, and guarantees on behalf of, any individual enterprise will not normally exceed 20% of the sum of the Corporation's equity and the outstanding amount of the subordinated Government loan. (b) The Corporation will not normally commit to any individual enterprise in the form of share investments more than 10% of the sum of the Corporation's equity and the outstanding amount of the subordinated Govern- ment Loan. (c) The aggregate of the Corporation's share investments will not exceed the sum of its equity and the outstanding amount of the subordinated Government Loan. 10. The Corporation will restrict its long-term indebtedness to a maximum of seven times the sum of its equity. For the purposes of paragraphs 9 and lO, the Corporation's equity is defined as the sum of its share capital, surplus and reserves not allocated to cover specific liabilities. 11. The Corporation will protect itself fully against any foreign ex- change risks which it may assume in respect of borrowings which are repay- able in foreign currencies. 12. The Corporation will levy charges for its loans and services which, together with the earnings on its share investments, will enable it to pay a satisfactory dividend and to accumulate reserves consistent with sound financial practice. It will make adequate provisions for bad debts and other losses on investments. In addition to the special reserve the Corporation is required to provide in accordance with the DFCC Act, it will allocate an adequate portion of its income to a general reserve, so as to build up total reserves to a level appropriate to the size and quality of its portfolio of loans and share investment. 13. Subject to the restriction of dividends as provided in the DFCC Act and subject to the observance of sound financial policies, the Corporation will pay such dividends to its shareholders as will give them a reasonable return on their investments.  ANNEX 8 Page 1 SRI LANKA APPRAISAL OF THE DEVELOPMENT FINANCE CORPORATION OF CEYLON Development Strategy 1/ 1. The Government's objectives remain as outlined in the Five Year Plan of 1971: (a) maximum use of labor; (b) investment which optimizes the use of scarce foreign exchange resources; (c) development and diversification of the agricultural sector; (d) full and efficient use of industrial plant, expansion of selected industries and investment in new industrial projects on the basis of national priorities; (e) the development of a new export sector; (f) the formulation and execution of development projects at the local level. 2. Within this framework, DFCC's operations over the next three years will concentrate on the promotion and assistance of small, medium and large projects, (a) maximizing employment generation; (b) earning foreign exchange; (c) utilizing local raw materials; (d) for balancing and modernization of existing machinery; (e) for the setting-up of essential import substitution industry. 3. With almost one million unemployed, DFCC will, in all sectors, give priority to projects that will maximize employment generation. 1/ The approval by DFCC's Board of this statement or another statement acceptable to IDA will be a condition of credit effectiveness.  ANNEX 8 Page 2 4. DFCC will continue to encourage export-oriented projects, in particular, industries that make use of local raw materials. There is considerable potential in areas such as readymade garments, rubber goods, leather products, essential oils, and the cutting and polishing of pre- cious stones. 5. The tourism sector will continue to receive DFCC assistance. An estimated 200,000 arrivals by 1980 would require an increase of about 1,000 rooms in addition to the 4,220 rooms in operation as of August 1976. To achieve this increase, DFCC will finance a few larger hotels, of 80 rooms or more each, in the more developed resort areas. In addition, DFCC will concentrate on expansion and upgrading projects including the development of recreational facilities. 6. Projects utilizing local raw materials, particularly agro-based projects, will be accorded high priority. This will be done in consultation with the Ceylon Institute of Scientific and Industrial Research (CISIR). Special emphasis will be placed on products derived from rubber, coconut products such as activated carbon and coconut fibre, wood products and essential oils. 7. To achieve higher capacity utilization in existing industries, DFCC will pay attention to the balancing, modernization and replacement of machinery in existing units. Much of the machinery in existing industry is worn out and obsolete, and many units operate unbalanced plants. Therefore, relatively small investments can yield substantial benefits. Otherwise, DFCC will not finance the creation of new capacity in sectors where existing industrial units have significant under-utilized capacity, except in cases where there is special justification for DFCC assistance. 8. Import substitution industries considered essential for the economy, will be assisted. With the growth of the industrial and agricultural sectors, there is scope for development of the light engineering industry, for the manufacture of machine tools, agricultural implements, machinery and motor spares. Projects for assisting agricultural productivity such as the manu- facture of hand tractors, pumps, sprayers, insecticides, pesticides and weedicides will also be encouraged. 9. DFCC is conscious of the benefits of small scale industry and has taken an initial step by participating in the joint Industrial Develop- ment Board/People's Bank/Bank of Ceylon scheme through which foreign exchange will be made available to small industrialists. DFCC will try to expand its activities in this area, in co-operation with the other institutions servicing the sector. 10. DFCC participates in the design of industrial projects through its appraisal process. This qualitative input will be improved, in particular regarding technical and economic analysis. In addition, DFCC will endeavor to increase its promotional activities through sectoral  ANNEX 8 Page 3 studies, project identification and formulation. It is one of DFCC's functions to serve as a channel of communication between the Government and the private sector. DFCC will continue to maintain close contact with Government Ministries and Agencies and try to give advice on policy implementation where appropriate. 11. DFCC will encourage foreign private investment in fields where high technical know-how, managerial and marketing skills are needed for projects of national importance. In such cases, if required, DFCC will help foreign investors to find suitable local partners. For local projects with foreign exchange requirements too large for DFCC, it will attempt to get suitable outside agencies to participate. 12. DFCC expects that it will be faced with an increasing demand for financial assistance. Therefore, it will take steps to increase its re- sources by increasing its share capital considerably and seeking new sources of both rupee and foreign exchange funds. Thus, in addition to the present sources of rupee finance from the Bank of Ceylon and the Central Bank, DFCC has negotiated a line of credit from the National Savings Bank and obtained the sanction of Government to accept deposits of 'Blocked Funds'. It is also considering other sources such as the Insurance Corpor- ation of Sri Lanka. To increase reserves, it will try to place about 25Z of its total assistance to limited liability companies in preference and ordinary shares, subject to its overall exposure limit for equity invest- ments. With respect to foreign resources, in addition to the lines of credit under negotiation with IDA and ADB, DFCC may approach other lending agencies such as the KFW and CIDA. 13. DFCC will place increased emphasis on its follow-up work. Projects under construction will be visited at least once a quarter, and projects in operation at least once a year. DFCC will seek to make its follow-up work more analytical, with emphasis on identifying problems the clients may have, and finding solutions to these problems. 14. DFCC intends to have competent and experienced staff from several disciplines. It will continue the training of its staff, and will recruit new staff to meet the expected increase in DFCC's financial and promotional activities.  ANNEX 9 DEVELOPMENT FINANCE CORPORATION OF CEYLON Main Terms and Conditions for Assistance (as of June 30, 1976) Interest rate on rupee loans : a) 9.5% for agricultural loans refinanced by the Central Bank; b) 12% for all other loans. Interest rate on foreign currency loans : a) 11% on SSI loans; b) 12% (of which 2% to the participating commercial bank) on loans under the SSI scheme. c) 12.5% on all other loans. d) 15% on loans to unincorporated bodies. Preference share investments (local and foreign currency) :12% dividend Penalty Rate :2% for foreiRn currency loans. and 1% for local currency loans, both in the form of rebate for promipt reDayment. Appraisal fee :1% on foreign currency loans and investments. :0.5% on rupee loans and investments. Cuarantee Commission : 1% Underwriting Commission 1% December 7, 1976  ANNEX 10 DEVELOPMENT FINANCE CORPORATION OF CEYLON Resource Position as of June 30, 1976 (Rs million) Domestic Currency Equity 14.967 Provisions for doubtful accounts 2.875 Government loan (subordinated) 16.000 Bank of Ceylon credit facility 25.500 Central Bank refinancing 35.917 National Savings Bank 10.000 105.259 Rupee loans outstanding 64.694 Rupee investments outstanding 1/ 12.755 Special reserve fund investments- 2.670 Fixed assets 0.972 Income tax liability 1.917 Excess of outstanding loans and investments in foreign currency 2/ over foreign currency borrowings- 0.127 83.135 Domestic currency resources available for disbursement 22.124 Loans and investments committed but not disbursed 17.664 Domestic currency resources available for 4.460 commitment Loans and investments approved but not committed 8.049 3/ Domestic resources available for approval-3 (3.589) Foreign Currency4- ($ million) IDA line of credit 4.500 Loans and investments disbursed under IDA line of credit 0.184 Foreign exchange resources available for disbursement 4.316 Loans and investments committed but not disbursed 1.859 Foreign exchange resources available for commitment 2.457 Loans and investments approved but not committed 1.441 Foreign exchange resources available for approval 1.016 1/ Reserves tied up in fixed deposits, and earmarked for repayment of the GOSL subordinated loan. 2/ The amount of domestic currency resources DFCC has had to use for payments of foreign currency borrowings due to delays in repayments by DFCC's clients. 3/ Loans approved as of June 30, 1976 for which refinance applications have been made to the Central Bank amounted to Rs 5.2 million; further applications would be made for Rs 17.2 million. 4/ Net of fully disbursed IBRD loans. December 7, 1976  DEVELOPNENT FINANCE CORPORATION OF CEYLON Summasay of Operations .Y73- Y6 and FY77 (first quarter) RsmiIlEon r Local Currency Loans Foreign Currency Loans Share Investments-Local Currency Share Investm nts-Foreign Currency Total No. of No. of No. of No. of 20. 05 N. o No. of No. of No. of No. of Compa- Pro- No. of Compa- Pro- No. of Compa- Pro- No. of Compa- Pro- No. of Compa- Pro- No. of nies Jects Loans Amount nies jects Loans Amount nies jects Loans Amount nies jects Loans Amount Les jects Loans Anount tBbts ApproVals FY73 9 9 9 7,120 7 7 7 9,544 1 1 1 2,500 - - - - 13 13 17 19,164 FY74 16 16 16 16,800 10 10 10 e4,74I11 - 18 18 26 21,544 FY75 7 7 7 7,716 1 1 1 100 2 2 2 1,000 - - - 8 8 10 8,816 FY76 25 25 26 24,414 21 21 22 18,985 17 17 17 9,188 13 13 13 6,499 40 40 78 59,08o FY77 (3 months to 6/30/76) 8 8 8 4,545 8 8 8 4,557 11 11 11 3,385 7 7 7 1,152 20 20 34 13,639 Since Inception 116 183 228 155,673 54 60 76 72,549 47 47 67 27,934 15 15 20 7,651 153 225 391 263,807 Cancellations FY73 - - - - - - - - - - - - - - - - - - - - FY74 2 2 2 787 2 2 2 863 - - _- 2 2 4 1,65o FY75 - - - - - - - - - - - - - - - - - - - - FY76 1 1 1 300 2 2 2 990 1 1 1 189 1 1 1 236 3 3 5 1,715 FY77 (3 months to 6/30/76 1 1 1 500 1 1 1 2,505 1 1 1 500 - _ _ - 2 2 3 3,505 Since Ineeption 12 12 12 9,010 12 12 13 19,773 6 6 6 2,939 1 1 1 236 17 17 32 31,958 Net Approvals FY73 9 9 9 7,120 7 7 7 9,544 1 1 1 2,500 - - _ - 13 13 17 19,164 FY74 14 14 14 16,013 8 8 8 3,881 - - - - -- - 16 16 22 19,894 FY75 7 7 7 7,716 1 1 1 100 2 2 2 1,000 - - - - 8 8 10 8,816 FY76 24 24 25 24,114 19 19 20 17,995 16 16 16 8,999 12 12 12 6,263 37 37 73 57,371 FY77 (3 months to 6/30/76 7 7 7 4,o45 7 7 7 2,052 10 10 10 2,885 7 7 7 1,152 18 18 31 10,134 Since Inception 104 171 216 146,663 42 48 63 52,776 41 41 61 24,995 114 14 19 7,415 136 208 359 231,849 Net Camnitments FY73 8 8 8 5,620 7 7 7 9,231 1 1 1 2,500 - - - - 13 11 16 17,351 FY74 12 12 12 15,399 8 8 8 3,117 - - - - - - - - 14 13 20 18,516 FY75 7 7 7 7,716 1 1 1 100 2 2 2 1,000 - - - - 8 8 10 8,816 FY76 23 23 24 19,554 17 17 18 11,957 15 15 15 6,999 8 8 8 4,322 35 35 65 42,832 FY77 (3 months to 6/30/76) 7 7 7 4,045 2 2 2 258 10 10 10 2,885 3 3 3 368 14 14 22 7,556 Since Inception 100 167 212 139,541 38 43 44 43,325 40 40 60 23,690 6 6 6 4,690 130 200 322 211,246 Disbursements FY73 - - - 985 - - - 2,494 - - - - - - - - - - - 3,479 FY74 - - - 6,073 - - - 5,063 - - - 2,500 - _ _ _ _ _ _ 13,636 FY75 - - - 12,048 - - - 5,269 - - - - - _ _ _ _ _ _ 17,317 FY76 - _ 18,989 - - - 2,501 - - - 4.017 - - - 300 - - - 25.80- FY77 (3 mosiths to 6/30/76 - - 3,414 - - - 398 - - - 983 - - 4 _ _ _ - 4,795 Since Inception 94 _ - 127,281 34 - - 31,968 36 - - 17,151 1 - - 300 116 _ 176,700 x Deconber 7, 1976  DEVELOPMENT FINANCE CORPORATION OF CEYLON ComlFarative Statement of Loans and Inveetments Approvdi' FY73-FY77 ifirst quarter) (Re million)i FY73 FY74 FY75 FY76 FY77 (3 months) Loans Investments Loans Investments Loans Investments Loans investments Loans Investments Size No7Mount No.7AMount No.IAinount No. Amount No. Amount No. Amount No. Amount No. Amount No. Amount No. Amount Rs 50,000-250,000 2 0.423 - - 2 0.276 - - 2 0.300 - - 7 0.850 6 0.700 7 1.023 10 1,437 Rs 250,000-500,000 2 0.847 - - 2 0.900 - - - - - - 4 1.684 7 2.312 5 2.239 6 1.900 Rs 500,000.1 million 4 2.350 - - 7 5.654 - - 2 1.200 2 1.000 7 4.770 7 4.375 1 0.535 2 1.200 Rs 1 million-1.5 million - - - - - - - - 2 2.316 - _ 7 7.929 6 6.300 2 2,800 - - R. 1.5 million and above 5 13.044 1 2.500 7 14.714 - 2 4.000 - _ 10 28.166 1 2.000 1 2.505 - - Total 13 16.664 1 2.500 18 21.544 - - 8 7.816 2 1.000 35 43.399 27 15.687 16 9.102 18 4.537 Geographical Spread West (incl. Colombo) 9 11.564 1 2.500 12 11.194 - - 6 4.800 1 0.500 27 37.155 20 13.262 13 7.002 9 1.987 South 3 1.600 - - 4 6.950 - - 1 1.700 1 0.500 3 1.510 2 1.300 1 0.300 2 0.650 North - - Central - - 3 2.550 3 0.725 - 4 0.700 East 1 3-.500 _ _ 2 3.400 - - 1 1.316 - - 2 2.184 2 0.400 2 1_8_0 3 1.200 Total 13 16.664 1 2.500 18 21.544 _ 8 7.81-6 2 1.000 35 43.399 27 15.687 16 9.102 18 4.537 Maeurit 2/ Less than 5 years 1 0.750 - - 1 0.050 - - - - - - 5-7 years 1 3.148 - - 2 3.664 - - 2 0.700 2 1.000 10 7.280 4 2.650 3 2.176 9 2.027 8-9 years 2 3.777 - - 4 2.900 - - 1 0.700 - - 7 6.266 5 1.375 6 3.031 1 0.300 10-11 years 7 5.302 1 2.500 7 10.030 - 4 4.716 - - 17 28.443 12 5.079 5 3.520 7 1.530 12 years and above 2 3.687 - - 4 4.900 - - 1 1.700 - - I 1.000 9 3.884 2 0.375 - - Totai 13 16.664 1 2.500 18 21.544 _ _ 8 7.816 2 1.000 35 42.989-/ 30-/ 12.988 16 9.102 17 3.857 1/ Gross approvals; "No." show number of projects. / Exclusive of grace period. For investments: redeemable shares only. 3/ Theme is a slight discrepancy between this and other totals for FY76. 4/ No. of investments. December 7, 1976  DEVELOPMENT FINANCE CORPORATION OF CEYLON Comparative Statement of DFCC's Clients- FY73-FY77 (first quarter) (Rs million) FY73 FY74 FY75 FY76 FY77 (3 months) No. Amount No. Amount No. Amount No. Amount No. Amount Type of Enterprise New 2 4.550 2 4.064 2 3.300 8 22.500 3 2.278 Existing 11 14.613 16 17.480 6 5.516 32 36.585 17 11.361 Total 13 19.163 18 21.544 8 8.816 40 59.085 20 13.639 Type of Client New 6 6.182 9 12.264 4 5.316 20 31.688 10 7.014 Existing 7 12.981 9 9.280 4 3.500 20 27.397 10 6.625 Total 13 19.163 18 21.544 8 8.816 40 59.085 20 13.639 2/ Size of Client-/ Less than Rs 500,000 1 0.235 1 0.050 . - 3 0.200 1 0.027 Rs 500,000-Rs 2 million 7 7.153 5 2.930 3 1.900 9 5.492 7 3.009 Rs 2 million-Rs 5 million 2 3.877 8 12.814 2 3.300 10 12.389 5 2.253 Rs 5 million-Rs 10 million - - 4 5.750 1 0.100 10 18.827 5 4.350 Above Rs 10 million 3 7.898 - - 2 3.516 8 22.177 2 4.000 Total 13 19.163 18 21.544 8 8.816 40 59.085 20 13.639 Nature of Project New 5 8.997 6 11.214 4 5.316 11 24.434 9 8.849 Expansion 5 5.852 6 7.030 1 2.200 16 25.231 8 2.215 Balancing, mondernization and replacement 2 3.564 1 0.900 1 0.100 7 6.470 1 0.375 Working Capital3/ 1 0.750 5 2.400 2 1.200 6 2.950 2 2.200 Total 13 19.163 18 21.544 8 8.816 40 59.095 20 13.639 1/ Loans and investments combined; "No." show number of projects. 2/ By value of fixed assets. 3/ Term finance for clients that had financed fixed assets with short-term borrowings. December 7, 1976  DEVELOPMENT FINANCE CORPORATION OF CEYLON Industrial Distribution of Loans and Investments Approved-, FY73-FY77 (First Quarter), and Outstanding Portfolio as of March 31, 1976 (Re million) FY73 FY74 FY75 FY76 FY77 (First Quarter) Outstanding Portfolio as of March 31. 1976 No. Amount /. No. Amount %7 No. Amount % No. Amount % No. Amount 7. Loans Investments Total % Chemical Products - - - 2 1.250 5.8 - - - 3 6.450 10.9 - - - 5.355 0.600 5.955 6.3 Textiles 1 4.000 20.9 1 0.600 2.8 1 0.700 8.0 2 4.000 6.8 - - - 5.355 3.768 9.123 9.7 Electrical Products 1 0.188 1.0 1 0.500 2.3 1 0.200 2.3 1 0.720 1.2 1 0.178 1.3 3.476 0.337 3.813 4.0 Tourism 4 5.300 27.6 7 13.500 62.6 3 5.816 66.0 14 17.631 29.8 11 8.090 59.3 30.132 3.167 33.299 35.2 Building Materials 2 1.754 9.2 - - - 1 1.000 11.3 1 0.675 1.1 - - - 1.048 0.150 1.198 1.3 Readymade Garments - - - - - - - - - 2 9.800 16.6 2 0.756 5.5 4.786 0.500 5.286 5.6 Food 2 3.777 19.7 2 0.900 4.2 - - - 1 0.160 0.3 1 0.200 1.5 7.284 0.200 7.484 7.9 Engineering - - - - - - 1 1,000 11.3 2 2.200 3.7 - - - 6.107 1.450 7.557 8.0 Rubber Products 1 0.550 2.9 1 1.200 5.6 - - - 2 5.233 8.9 2 0.938 6.9 2.053 0.090 2.143 2.3 Printing and Packaging - - - 1 0.580 2.7 - - - 4 2.200 3.7 1 3.000 22,0 2.606 0.330 2.936 3.1 Agriculture - - - - - - - - - - - - - - - 1.543 - 1.543 1.6 Beverages - - = 1 0.900 4.2 1 0.100 1.1 - - - 1 0.450 3.3 1.166 0.271 1.437 1.5 Metal Products - - - - - - - - - 1 0.250 0.4 - - - 1.666 - 1.666 1.8 Gem Cutting - - - - - - - - - 1 3.750 6.4 - - - - - - - Miscellaneous 2 3.595 18.7 2 2.114 9.8 - - - 6 6.017 10.2 1 0.027 0.2 9.791 1.250 11.041 11.7 Total 13 19.164 100.0 18 21.544 100.0 8 8.816 100.0 40 59.086 100.0 20 13.639 100.0 82.368 12.113 94.481 100.0 1/ Gross approvals; by number of projects. December 7, 1976  DEVELOPMENT FINANCE CORPORATION OF CEYLON Loans in Arrears over Three Months as of June 30 1976 (Rs Thousand) Arrears over three months Total 3 - 6 months 6 - 12 months 1 - 2 years Over 2 years Number Outstanding Total Overdue Overdue Overdue Overdue of Balance Prin- Inter- Prin- Inter- Prin- Inter- Prin- Inter- Prin- Inter- Companies Principal cipal est cipal est cipal est cipal est cipal est Company A. Companies Operating Profitably: l - 14 - - - 14 - - B. Compinies under construction or in pre-operating stage, not in technical or financial difficul- ties: 1 2,300 - 78 - 78 - - - - C. Companies Operatiang at a loss or in technical or financial difficulties: 2 455 5 24 - 21 - - - - 5 3 D. Companies in Liquidation: 1 169 122 45 - - - - - 122 45 E. Companies taken over by the Govt: 3 1,751 613 103 20 - 73 4 - - 520 99 Total 4,890 740 264 20 99 73 18 - - 5L7 147 December 7, 1976  ANNEX 16 DEVELOPMENT FINANCE CORPORATION OF CEYLON Summarized Income Statements, FY73-FY76 and FY77 (First Quarter) (Rs Million) FY73 FY74 FY75 FY76 FY77 (First Quarter) - Audited -- - - - - - Unaudited - - - INCOME Interest income - Rupee 3.96 3.64 4.03 4.73 1.53 - Foreign exchange 1.35 1.74 1.96 2.01 0.51 Dividends (gross) 0.34 0.54 1.02 1.24 0.12 Commitment charges 0.08 0.08 0.05 0.01 - Other fees and charges 0.21 0.29 0.15 0.54 0.13 Interest on fixed deposits 0.07 0.12 0.14 0.17 0.05 TOTAL GROSS INCOME 6.01 6.41 7.35 8.70 2.34 EXPENSES Interest expenses - Rupee 1.44 1.31 1.33 1.95 0.74 - Foreign exchange 0.92 1.18 1.30 1.31 0.33 Commitment charges 0.11 0.07 0.03 0.01 - Administrative expenses 0.85 0.78 0.88 1.20 0.27 Depreciation 0.02 0.02 0.02 0.02 - TOTAL EXPENSES 3.34 3.36 3.56 4.49 1.34 PROFIT BEFORE TAX AND PROVISIONS 2.67 3.05 3.79 4.21 1.00 Provisions for doubtful loans 0.20 0.40 0.75 - N.A. Provisions for doubtful investments 0.10 0.15 0.13 - N.A. PROFIT BEFORE TAX 2.37 2.50 2.91 4.21 1.00 Income Tax 1.40 1.51 1.67 2.18 N.A. NET PROFIT 0.97 0.99 1.24 2.03 1.00 APPROPRIATIONS Unappropriated profit b/f 0.05 0.05 0.06 0.06 0.05 Special reserve 0.16 0.16 0.33 0.37 N.A. General reserve 0.17 0.18 0.27 0.95 N.A. Dividends (gross) 0.64 0.64 0.64 0.72 N.A. Unappropriated profit c/f 0.05 0.06 0.06 0.05 N.A. RATIOS Profit before tax and provisions/Average total assets (%) 3.7 4.3 5.0 4.8 N.A. Net profit/Average equity 8.4 8.3 10.0 15.2 N.A. Administrative costs/Average total assets(%) 1.2 1.1 1.2 1.4 N.A. Dividend payout (%) 66.0 64.6 51.6 35.5 N.A. Rate of dividend (%) 8.0 8.0 8.0 9.0 N.A. December 7, 1976  ANNEX 17 DEVELOPMENT FINANCE CORPORATION OF CEYLON Cash Flow Statements, FY73-FY76 and FY77 (First Quarter) (Rs Million) FY73 FY74 FY75 FY76 FY77 (first quarter) SOURCES Net profit before tax 2.73 2.50 2.91 4.21 1.00 Provisions for loans and investments 0.30 0.55 0.88 - - Depreciation 0.02 0.02 0.02 0.02 - Bank of Ceylon loans and overdraft - 2.90 3.40 8.15 - Central Bank refinance 0.09 0.75 3.57 11.66 7.56 Foreign currency loans 2.50 5.06 5.27 2.80 0.40 Loan repayments - Rupee 5.79 8.99 4.61 5.12 1.12 - Foreign currency 1.57 2.01 2.75 3.40 1.18 Share redemptions 0.42 0.33 0.59 0.85 0.04 Encashment of temporary investments - - 1.14 0.16 - TOTAL 13.06 23.11 25.14 36.37 11.30 USES Loan disbursements - Rupee 0.99 6.07 12.05 18.99 3.41 - Foreign currency 2.49 5.06 5.27 2.50 0.40 Investments - Rupee - 2.50 - 4.02 0.98 - Foreign currency - - - 0.30 - Special reserve fund investments 0.17 0.16 0.16 0.26 0.37 Repayments - Central Bank 2.93 2.54 2.85 3.04 0.57 - Bank of Ceylon loans and overdrafts 2.84 2.02 0.97 0.48 3.12 - Foreign currency 1.71 1.95 2.84 3.79 1.51 Fixed assets 0.01 0.01 0.01 0.03 0.02 Taxation 0.85 1.42 1.48 1.76 0.42 Dividend (gross) 0.64 0.64 0.64 0.64 - Temporary investments 0.80 0.50 - - - Net increase (decrease) in working capital (0.37) 0.24 (1.13) 0.56 0.50 TOTAL 13.06 23.11 25.14 36.37 11.30 Debt service coverage (times) 1.22 1.72 1.39 1.43 N.A. December 7, 1976  ANNEX 18 DEVELOPMENT FINANCE CORPORATION OF CEYLON Summarized Balance Sheets. FY73-FY76 and FY77 (first quarter) (Rs million) FY73 FY74 FY75 FY76 FY77 (lot quarter) ASSETS ---------------Audited------------ - -Unaudited - - - Cash, accrued income, and deposits 1.83 2.10 1.26 2.00 2.00 Temporary investments 0.80 1.30 0.16 - - Special reserve fund investments. 1.72 1.88 2.04 2.30 2.67 4.35 5.28 3.46 4.30 4.67 Local currency loans 44.01 41.09 48.54 62.40 64.70 Foreign currency loans 15.30 18.35 20.86 19.97 19.18 59.31 59,44 69.40 82.37 83.88 Less: Provision for doubtful loans 0.95 1.35 2.10 2.10 2.10 Total Loans 58.36 58.09 67.30 80.27 81.78 Equity investments: Rupee 7.06 9.23 8.64 11.81 12.75 Foreign Currency - - - 0.30 0.30 7.06 9.23 8.64 12.11 13.05 Less: Provision for doubtful investments 0.50 0.65 0.77 0.77 0.77 Total Investments 6.56 8.58 7.87 11.34 12.28 Fixed assets 0.97 0.95 0.94 0.95 0.97 TOTAL ASSETS 70.24 72.90 79.57 96.86 99.70 LIABILITIES AND EQUITY Creditors 0.95 0.98 1.27 1.44 0.94 Bank of Ceylon overdraft - - 0.66 3.31 2.22 Taxation 1.76 1.85 2.04 2.46 2.04 Dividends (gross) 0.64 0.64 0.64 0.72 0.72 3.35 3.47 4.61 7.93 5.92 Foreign currency borrowings 15.91 19.02 21.45 20.46 19.35 GOSL subordinated loan 16.00 16.00 16.00 16.00 16.00 Central Bank refinance 21.37 19.58 20.30 28.93 35.92 Bank of Ceylon 1.89 2.77 4.55 9.57 7.54 Total Long-Term Debt 55.17 57.37 62.30 74.96 78.81 Share Capital 8.00 8.00 8.00 8.00 8.00 Special Reserve 1.88 2.04 2.30 2.67 2.67 General Reserve 1.79 1.97 2.30 3.25 3.25 Unappropriated Profit 0.05 0.05 0.06 0.05 1.05 Net Worth 1.1.72 12.06 12.66 13.97 14.97 TOTAL LIABILITIES AND EQUITY 70.24 72.90 79.57 96.86 99.70 RATIOS Long term debt/equity 4.7 4.8 4.9 5.4 5.3 Reserves plus provisions/ loan and equity portfolio (%) 7.8 8.8 9.6 9.4 10.2 Provisions/loan and equity portfolio (%) 2.2 2.9 3.7 3.0 3.0 Book value/par value (x) 146.5 150.8 158.3 174.6 187.1 December 7, 1976  ANNEX 19 DEVELOPMENT FINA14CE CORPORATION OF CEYLON Comparative Operational Ratios - FY73-FY82 FY73 FY74 FY75 FY76 FY77 FY78 FY79 FY80 FY81 FY82 - - - -