Honduras - Interim Power Project

R E S T R I C T E D Report No.P-iq5 This report was prepared for use within the Bank. In making it available to others, the Bank assumes no responsibility to them for the accuracy or completeness of the information contained herein. INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT REPORT AND RECOMMENDATIONS OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON THE PROPOSED LOAN TO THE EMPRESA NACIONAL DE ENERGIA ELECTRICA OF HONDURAS May 12, 1959  REPORT AND RECO!1ENDATIONS OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO THE E1WPRESA NACIONAL DE ENERGIA ELECTRICA, HONDURAS 1. I submit the following report and recommendations on a proposed loan in an amount in various currencies equivalent to $1.L5 million to the Empresa Nacional de Energia Electrica (ENEE) to help finance an interim program for increasing generating capacity and improving dis- tribution facilities in the Tegucigalpa area. PART I - HISTORICAL 2. In preparing an investment program for the years 1958-62 the Honduran National Economic Council assigned a very high priority to the development of power resources. As early as 1955 the Government had obtained the services of consulting engineers to make oreliminary studies of the power market and of the possibility of developing hydroelectric power at a site on the Rio Lindo. In 1957 it estab- lished an autonomous agency, the Empresa Nacional de Energia Electrica (EN.;EE), to prepare and execute a power program. 3. In the autunn of 1957 the Honduran Government requested the Bank to assist in financing key projects of its 1958-62 investment Program including the proposed hydroelectric project on the Rio Lindo. In the light of subsequent examination of the prospective power market and of the problem of financing a project of this magnitude along with other important phases of the investment program, it was decided that, before embarking upon the Rio Lindo project, ENEE should as a preliminary step improve distribution facilities and increase diesel generating capacity. Early in 1959 the Honduran Government requested the Bank to assist in financing this interim program. 4. INegotiations for the proposed loan began on April 28, 1959 in Washington. ENEE was reoresented by Mr. Luis Bogran F., Manager, and the Government by Mr. Jorge Bueso Arias, Minister of Finance. 5. If the loan is made, it will increase the total amount of Bank loans to Honduras to $11.5 million equivalent. The Bank has already made the following loans to Honduras:  Number Borrower Purpose Amount (equivalent in U.S.$) 135 HO Republic of Honduras Highway Maintenance $ 4,200,000 195 HO Republic of Honduras Highway Construction and Improvement 5,500,000 9,700,000 Of which has been repaid 732,000 Total now outstanding 8,968,000 Amount sold $ 1,171,000 Of which has been repaid 732,000 39,000 Net amount now held by Bank $ 8,529,000 PART II - DESCRIPTION OF THE PROPOSED LOAN 6. The proposed loan would have the following characteristics: Purpose The Project consists of: A. The installation in the La Leona power station in Tegucigalpa of two diesel electric generating units of 1,250 Kl each. This would bring the total capacity available for Tegucigalpa to 9,600 K,v. B. The expansion and improvement of distribution facilities sufficient for a demand of 10,000 KW, and designed for a future expansion up to 30,000 rW. C. Preparation of further engineering and survey work for the first stage of the Rio Lindo project. Borrower EmDresa Nacional de Energia Electrica (ENEE). Guarantor The Republic of Honduras. Amount The equivalent in various currencies of $1.45 mil- lion.  Amortization 25 semi-annual instalments, September 1962 to September 1974. Interest Rate 6% Commitment Charge 3/4 of 1% per annum. fiment Dates March 1 and September 1. PART III - LEGAL INSTRUMhNTS AND LEGAL AUTHORITY 7, A draft Loan Agreement between ENEE and the Bank (No. 1) and a draft Guarantee Agreement between the Repliblic of Honduras and the Bank (No. 2) are attached. Both are in substantially the same form as those usually entered into by the Bank for similar projectss 8. In Section 5.03 of the Loan Agreement, the Borrower agrees not to exceed a debt equity ratio of 2 to 1. Section 5.09 of the Loan Agree- ment and Section 3.06 of the Guarantee Agreement contain rate covenants similar to those which have been employed in previous agreements for power projects. Supplementing the rate covenant, ENEE undertakes in a letter (No. 3) to take all necessary steps to maintain revenues adequate to enable it to finance from this source approximately 20% of the cost of investments in the expansion of its system which are planned for 1960-63. 9. Legislation has been passed authorizing ENEE to borrow and the Government to guarantee the Loan. The Guarantee Agreement would be ratified by the Honduran legislature before becoming effective. 10. The report of the Committee Drovided for in Article II Section h (iii) of the Articles of Agreement of the Bank is attached (No. 4). PART IV - APPRAISAL OF THE PROPOSED LOAN Justification of the Project 11. A detailed description of the Project (TO 206-A) is attached (No. 5). 12. Because of limited generating and distributing capacity in Tegu- cigalpa, power rates have been kept high in order to restrict the demand for electric power. As a result, the level of consumption is one of the lowest in Latin America, and shortage of power is an ob- stacle to the development of the region. It is estimated that consump- tion would increase by about 20% per year for the next five years if sufficient power were available at reasonable rates.  -4 - 13. The project would quickly make additional power available to the region by increasing generating capacity, by extending the distribution system to areas not presently served and by substantially reducing (to about 10%) the present very high distribution losses (about 26%). As a consequence, the Empresa should be able, while maintaining a fully satis- factory firancial position, to reduce rates and to permit consumption in the Tegucigalpa area to attain normal growth during the period before Rio Lindo is brought into operation. ENEE's Financial Position 14. ENEE is a state-owned autonomous entity established for the purpose of deveiopirg power resources. Its charter provides that for an interim period ENEE aould also be responsible for the water supply of Tegucigalpa, but arrangements are being made to relieve ENEE of this responsibility by the end of 1960. ENEEts capitalization is almost entirely in the form of equity which amounted to about 6 million lempiras at the end of 1958. Its c'iarter permits retention of earnings to finance power expansion. 15. ENEE and its predecessor, the Enpresa de Agua y Luz de Tegucigalpa, have had consistently high earnings because of their high rate policies. In 1958 the Company showed a return on net fixed assets of 11.4% from its power operations and 9% from its water operations. The return on net fixed assets from power operations will rise sharply in 1959 and is not expected to fall below 16.4% until 1964 when the Rio Lindo hydroelectric plant would go into operation and its construction costs would be included in net fixed assets (assuming its construction begins in 1960 as is presently contemplated) If power rates have been reduced by that time as presently planned, the return would still be about 12.8%. Thereafter, it is expected that with increased sales from expanded generating capacity, ENEE could continue to earn an adequate rate of return. Arrangements for Financing 16. The total cost of the Project is estimated at the equivalent of $1.78 million. The foreign currency requirements of 41.45 million would be covered by the proposed Bank loan and the local currency costs of $0.33 million equivalent would be provided by ENEE from earnings. Procurement 17. The procedures followed by ENEE in procuring equipment have been in line with sound utility practice. All major pieces of equipment for the project are expected to be procured through international competitive bidding. ENEE's Management 18. The general organization of the Company as setforth in its charter is satisfactory for an undertaking of this kind and size. The management  and the technical staff are deemed capable of carrying out both the day- to-day activities of the Empresa and the expansion work under the Project, if assisted by competent engineering consultants. Economic Situation 19. Since the time of the preparation of the last economic report (WH-71) in the latter part of 1957, Honduras has experienced economic difficulties. In 1958, lower export income from bananas and coffee adversely affected government fimnces, private savings and investment. The Government ex- panded its expenditures beyond its means and had to have recourse to the Central Bank and to private commercial credit to finance the major part of its growing deficit, Meanwhile, bank credit to the private sector also expanded,, The excessive demand generated by credit expansion to both the public and private sectors led to some rise in domestic prices but was primarily reflected in a sustained pressure on the balance of payments. This si-tuation was aggravated by a reduction in the rate of foreign in- vestmenit; and an outward movement of priv-.to short-term capital gained momentUri as a result of labor unrest and 1,oL tical tension. Net foreign rcserves of the Central Bank at the end of 1?$58 reached a seriously low leve:l o2 $8.2 million, little more than encugh to cover one month's imports, 20 In order to strengthen its economic and financial position, the Honduran Government early in J959 undertook a program of economic stabili- zation in accordance with an agreement with the ID' which made available a standby credit of $4.5 million. The Government has committed itself to balance its 1959 budget net of long-term foreign borrowing. Bank credit ceilings to be imposed by the Central Bank have been agreed upon. rhile it is still too early to judge the effectiveness of this stabilization program, present information is encouraging. If the Government continues to carry out the program, the prospects for continued economic grewth over the long run foreseen in the last economic report remain good. Prospects of Fulfillment of Obligations 210 The Project has been prepared by ENEE with the assistance of qualified engineering consultants who are being retained to supervise its execution. The high level of ENEE's present and estimated earnings should enable it without difficulty to provide the funds needed to cover the modest local currency costs of the Project and to purchase the foreign exchange needed to service the proposed loan. Honduras should be able to provide the foreign exchange required to service the loan in addition to its other external obligations. PART V - COMPLIANCE WITH ARTICLES OF AGREEMENT 22. I am satisfied that the proposed loan would comply with the Articles of Agreement of the Bank.  - 6 - PART VI - RECOvbNEIIDATIONS 23. I recommend that the Bank make a loan to the Empresa Nacional de Energia Electrica w.ith the guarantee of the Republic of Honduras in an amount in various currencies equivalent to $1.45 million with interest (including commission) at 6% per annum and on such other terms as are specified in the attached draft Loan and Guarantee Agreements and that the Executive Directors adopt a Resolution to that effect in the form attached (No. 6). Davidson Sommers, Vice President For Eugene R. Black President Washington, D.C. May 12, 1959