Zambia - Mining Sector Technical Assistance Project

Do_mmt of The World Bank FOR OFMCLAL USE ONLY ROMij;1 No. P-5496-ZA MEMORANDUM AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL DEVELOPMENT ASSOCIATION TO THE EXECUTIVE DIRECTORS ON A PROPOSED CREDIT OF SDR 15.6 MILLION TO THE REPUBLIC OF ZAMBIA FOR A MINING SECTOR TECHNICAL ASSISTANCE PROJECT MAY 23, 1991 This document has a rstrkited distation and may be used by recipients only in the perfoanae of thedr dkal dutis. Its contents may not otherwise be discosd wihout Wo_id Dak authrztion.  CURRENCY AND EQUIVALENT UNITS Currency Name Kwacha US$1.00 48 Kwacha (end-December 1990) Kwacha 1.00 US$0.0208 VEIGHTS AND MEASURES 1 short ton (T) = 2,000 lbs. 1 metric tonne (mt) = 2,205 lbs. ABBREVIATIONS AfDB - African Development Bank BoZ - Bank of Zambia EEC - European Economic Community MEMACO - Metals Marketing Corporation Ltd. HIL - Mulungushi Investments Ltd. ODA - Overseas Development Agency SADCC - Southern African Development Coordination Conference ZAL - Zambia Holdings Ltd. ZCCM - Zambia Consolidated Copper Mines Ltd. ZIMCO - Zambia Industrial and Mining Company Ltd. FISCAL YEAR ZCCM: April 1 - March 31 Government: January I - December 31  FOR OFFXILAL USE ONLY ZABIA MINING SECTOR TECHNICAL ASSISTANCE PROJECT TABLE OF CONTENTS Page No. CREDIT AND PROJECT SUMMARY PART I - THE MINING SECTOR ***************...................... 1 Background ................................................... 1 Sector Organization ........................................... 2 Mining Sector Issues ....................................... 3 nART II - THE PROJECT . ....................... .. ..... . ........ 8 Project Objectives ............. ......................................... 8 Rationale for IDA Involvement ............................... 9 Lessons Learned from Previous Operations .................... 9 Project Description ......................................... 10 Implementation and Reporting .. ......... ....... ...... ..... 15 Project Cost and Financing . ............ ............. ....... . 16 Procurement and Disbursement ................................ 16 PART III - JUSTIFICATION AND RISKS ...............to...... ..... 17 PART IV - RECOMM ENDATION ............................ . ....... 18 ANNEXES 1. Estimated Costs and Financing Plan 2. Disbursement and Procurement 3. Supplementary Credit Data Sheet 4. Status of Bank Group Operations 5. Key Project Activities 6. Scope of Project Components 7. Issues to be Covered in the Mining Sector Policy Letter 8. The Zambian Mining Sector This President's Report was prepared on the basis of an appraisal mission that visited Zambia in January 1991. The mission consisted of James Moose (Mission Leader/Economist), Ernst Bolte (Economist), Felix Remy (Mining Specialist) and Derek Bullock (Consultant). The managing Division Chief is David Cook (AF6IE) and the Country Director is Stephen Denning (AF6). This document has a rtricted distribution and may be used by recipients onlY in the pertotimance of their offlcia duties. Its contents may not otherwise be disclosed without Wofd Bank authrizatier .  ZAMBIA MINING SECTOR TECHNICAL ASSISTANCE PROJECT CREDIT AND PROJECT SUMMARY lBrrowert Government of Zambia Beneficiariess ZCCM, Government, Naamba Collieries Amount: SDR 15.6 million (US$21 million) Termst Standard with 40 years maturity Onlending Terms: The Government will onlend to ZCCM and Maamba at the IBRD lending rate plus a 3OZ premium for 10 years including a 3- year grace period. (At the current IBRD lending rate of 7.732 p.a., this would result in an onlending rate of 8.52 p.a.). ZCCM and Maamba would bear the foreign exchange risk. Financing Plan: IDA US$21.0 million ZCCM US$ 2.3 million Government US$ 0.6 million Maamba US$ 0.1 million Total US$24.0 million Economic Rate of Ret.rn: Not applicable Appraisal Report: This is a combined President's Report and Staff Appraisal Report.  EMNORANDUM AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL DEVELOPMENT ASSOCIATION TO THE EXECUTIVE DIRECTORS ON A PROPOSED CREDIT TO ZAMBIA FOR A MINING SECTOR TECENICAL ASSISTANCE PROJECT 1. The following memorandum and recommendation on a proposed development credit to Zambia for SDR 15.6 million (US$21 million equivalent) is submitted for approval. The proposed credit would help finance a technical assistance project to aid the mining sector, the country's leading foreign exchange earner. The three components of the project would cover technical assistance to Zambia Consolidated Copper Mines Ltd. (ZCCK), the state copper mining company; the Ministry of Mines; and Maamba Collieries Ltd., the state coal mining company. The credit would be on standard IDA terms to the Government who would on-lend part of the credit to ZCCM and Maamba Collieries on terms and conditions acceptable to IDA. I. *THE MINING SECTOR Background 2. The mining sector has long been the backbone to the Zambian economy. It consistently contributes about 852 of foreign exchange earnings, around 152 of GDP and 302 of Government revenue. It is also the largest formal employer after the Government. The dominant product is copper which is 852 of the mining sector value added and exports, and is produced solely by ZCCM. Cobalt (a copper by-product) and small volumes of lead and zinc are also solely produced by ZCCM, while a modest amount of coal is produced by Maamba Collieries. Finally, substantial amounts of gemstones, mostly emeralds, are mined by artisanal miners and two -mll industrial mining operations. Most of the gemstones are currently smuggled out of the country. 3. The dominating enterprise in Zambia's mining sector is ZCCM. The company currently produces per year about 430,000 tonnes of copper, 4,500 tonnes of cobalt, 3,700 tonnes of lead and 12,000 tonnes of zinc. ZCCH's lead, zinc and copper production declined sharply during 1975-85, while cobalt output experienced a substantial increase. In recent years copper production, which accounts for over 802 of ZCCM's revenues, has stabilized and ZCCH projects that output can be maintained above 400,000 tonnes for another 7-9 years. ZCCQ exports practically all of its production, earning over US$1,000 million per year in foreign exchange. Annual tax payments of ZCCM have been of the order of US$250 million in recent years. ZCCH performs also an Important function as an employer. In contrast with the company's declining production trend, its total workforce increased from less than 60,000 during the early 1980s to currently over 67,000 of which about 12,000 are employed by subsidiary companies. In the area where most of ZCCH's operations are located (Copperbelt), but to some extent also in other parts of Zambia, ZCCM provides a broad variety of services, including schooling, medical services, transportation and  - 2 - housing. Such services frequently benefit not only ZCCM's workforce but also the population at large. 4. Given its high dependence on copper mining and ZCCM in particular, the Zambian economy deteriorated rapidly after the end of the camnodities boom in the early 19708. Large and unsustainable external and internal imbalances developed, savings and investment ratios fell and the external debt rose sharply. Several attempts at economic reform were made but were unsuccessful. By mid-1988, Zambia was facing a number of acute economic problems, including a large and rising budget deficit, accelerating inflation, low investment levels, shortages of essential imported inputs due to lack of foreign exchange, and a severe external debt problem. In late 1988 and early 1989, the Government, in the context of a Policy Framework Paper agreed with the Bank and the Fund, began to take remedial actions which involved the devaluation of the kwacha, decontrol of prices, and interest rate increases. Zambia has basically remained on the adjustment program through 1990, though with occasional slippages. 5. Zambia's commitment to the adjustment program has been reinforced during the discussions with the Bank, in late 1990 and early 1991, on an Economic Recovery Credit (ERC) and on a strengthened Policy Framework Paper for 1991-93. The adjustment program for 1991-93 aims at stabilizing the economy through fiscal and monetary restraint and, in the medium term, at restoring economic growth through effective policies of structural realignment. Specifically, such policies would aim at diversifying the economy away from its over-reliance on copper and would emphasize private sector development. In the mining sector, the Government's adjustment policies focus on increasing the efficiency and productivity of existing operations, in particular those of ZCCM, and on opening the sector to private investments in order to encourage the development of new mines sad mineral exports. Sector Organization 6. Ministry of Mines. The Ministry of Mines is the main Governmental institution in the mining sector. It is organized in three departments: the Mines Development Department has responsibility for monitoring the sector and encouraging new investments; the Geological Survey Department gathers geological data and provides geological information to mining investors; and the Mine Safety Department supervises the safety of mining operations. The Ministry's mining policies are determined by the Mines and Minerals Act of 1977. This Act was issued at a time when Zambian economic policies emphasized public sector domination in mining and tight regulation and close control of the remaining private mining operations. A supplementary description of Zambia's mining sector is in Annex 8. 7. ZCCM. ZCCM is owned 60.32 by the Zambia Industrial and Mining Company Ltd. (ZIMCO), which in turn is wholly owned by the Government of Zambia. The remaining 39.7t of ZCCN is held by private investors the largest of which is a subsidiary of Anglo-American Corporation of South Africa (which holds 27.32 of the company). ZIMCO, though it owns the majority of ZCCM, does not control its operations. Rather, the Chairman  - 3 - and Chief Etecutive of ZCCN is appointed by the President of Zambia, who is alse Chairman of ZIMCO, and reports directly to him. 8. ZCCO's production complex consists primarily of four large copperlcobalt divisions as well as a small leadjzinc division. The coppericobalt divis_ons, consisting of mines and metallurgical processing facilities are all located in the Copperbelt adjacent to the Zairean border while the lead/zinc division is located in Rabwe, between Lusaka and the Copperbelt. ZCCM has two main subsidiaries, ZAL Holdings Ltd. (ZAL) and Mulungushi Investments Ltd. (MIL). The former consists largely of the U.K.-based subsidiaries which provide services that cannot easily be obta84ed in Zambia. MIL consists of the Zambia-based subsidiaries of ZCCM, most of which are suppliers to it, but some of which are engaged in other businesses such as farming and tourism. 9. Maamba Collieries. Maamba, which is a well-managed operation, consists of a single strip mine which is located in the Southern part of Zambia. Maamba is presently in a loss-making position. Current annual production is about 450,000 tons of coal with a relatively high ash content which results in marketing problems. Employment is about 1,400 workers. 10. Small-scale mining. Mining of emeralds, amethysts and aquamarines has experienced strong growth in recent years. Estimates of total annual production value of Zambian gemstones are in the range of US$180-400 million. Emeralds account for an estimated 802 of the total. Reportedly, a quarter of the world supply of emeralds is mined in Zambia. The enterprise structure of the gemstone sector includes two mechanized larger-scale operations which are joint-ventured with the Government, an estimated 30-40 registered generally non-mechanized private gemstone mines and a large number, probably several thousand, of unregistered artisanal miners. Mining Sector Issues 11. MininR Policy Issues. The Mines and Minerals Act is now out of date and does not meet the requiremeuts of the Government's private sector orientation outlined in the Policy Framework Paper and the new draft Investment Act of 1990. The proposed project will finance a review of the Mines and Minerals Act as well as the preparation of a new draft Act. The review of the Nines and Minerals Act would be conducted in the context of a broad-based analysis of the constraints to private mining investment in Zambia. The mining policy analysis would result in detailed proposals for mineral taxation and incentives. The Government will also prepare a mining policy statement outlining the overall direction of policies the Government intends to implement with respect to privatization, revision of the Mines and Minerals Act, mineral taxation and Incentives as well as the policy measures needed for improving the growth prospects of gemstone mining. The issues to be covered in the mining policy statement are in Annex 7. 12. While the Mine Safety Department of the Ministry of Nines obtains substantial operational assistance from ODA of the U.K., the Mines Development and Geological Survey Departments need strengthening both in terms of their operational capabilities and in terms of fully defining  their tasks. In particular, the Ministry must play a more active and helpful role In attracting private investment to the mining sector, both by foreign firms and by small Zambian entrepreneurs. The Ministry siould substantially simplify the procedures and shorten the processing period for issuing exploration and mining licenses as well as improve the provision of geological information to potential investors. The proposed project will provide assistance to the Mines Development and Geological Survey Departments which would strengthen their capabilities in the above mentioned areas. 13. ODerational Issues of ZCCM. Zambia's existing mining operations, both ZCCM and Maamba Collieries, have considerable scope for improvements in their efficiency of operations. ZCCM is profitable and its cost of copper production is currently slightly below average world production costs. ZCCGWs competitiveness is due to the relatively high ore grades mined in the Copperbelt which have compensated to a large extent for ZCCM's comparatively low labor and capital productivity rates. As the ore grades that ZCCM will mine in the future are rapidly declining--and mining conditions in the Copperbelt are becoming more difficult--measures to improve productivity have to be introduced if ZCCM is to remain competitive. 14. ZCCM is in a tight financial situation. Though the company is profitable, its cash requirements are also very high. In addition to operating costs, ZCCM has exceptionally large cash requirements for debt service, taxes, capital investments and working capital. ZCCM's cash generation from operations during fiscal 1990 was about US$400 million on operating revenues of about US$1,280 million, valued at the official exchange rate. Total available funds were US$475 million including US$75 million of long-term borrowing. The main non-operational expenditures were for net debt repayments US$70 million; income and copper revenue tax payments: US$75 million; capital investments: US$120 million; and working capital increases: US$100 million. The fiscal 1990 cash flow surplus of ZCCM was about US$70 million. ZCCM had a cash deficit during 1991 since debt service obligations, tax payments and working capital requirements increased while gross revenues declined due to lower copper prices. 15. ZCCM's difficult financial situation evolved in spite of a recent longer period of favorable copper prices on the world market. The company is currently unable to finance all of its cash requirements with its cash flow and borrowing potential. Among the main reasons for this situation are high tax payments, heavy net debt service obligations and relatively high production costs. ZCCH's tax payments rose considerably with effect of April 1, 1990 when the Government introduced a minerals export levy on copper. The levy is in addition to the corporate income tax of 45Z of net income and taxes all ZCCM copper revenues resulting from prices above US$1.00 per pound of copper. The tax rate varies between 60S and 100t of additional revenues. Therefore, adjustments in ZCCM's payments of the copper revenue tax will largely offset any future decline in ZCCM's sales revenues due to lower copper prices (for details see Annex 8). ZCCMl's debt service obligations result from a debt of about US$820 million, most of which is long term and in US dollars. In tVe short term, debt service payments will decline due to the limitations imposed on ZCCM under  the macroeconomic restructuring arrangements agreed with major bilateral donors, IF and the Bsank. In the longer term, an analysis of ZCCH's financial structure which will be performed under the project would support a reduction in ZCCM's debt service obligations. ZCCM should also be able to reduce current high additions to working capital if policies of valuing spare part stocks and inventory managemuent are improved. The proposed project will help ZCGM to achieve the needed improvements in these areas. Finally, ZCCM's operating costs have considerable scope for reduction. The company is relatively inefficient in its use of labor and, to a lesser extent, in its use of capital equipment. Reduction in ZCCM's current severe over-staffing will have a strong effect on the company's labor productivity and on financial performance. The program of adjustment in the labor force which is to be implemented under the proposed project would reduce over-staffing in stages and could reduce ZCCG's annual operating costs by about 5Z. Overall, in the medium and long term, a reform of mineral taxation, financial restructuring of the company, improved inventory management and a reduction of labor costs -- all of which are supported by the proposed project -- would place ZCCM in a much stronger financial position. 16. Recent adjustments in the Government's exchange rate regulations with respect to ZCCM also help achieve short-term improvements in the company's profitability and cash flow. Because ZCCM is a net seller of foreign exchange, the company's kwacha revenues have been lower than they might have been, since ZCCM has used the "official* exchange rate to convert dollars into kwacha rather than the higher 'second window' rate. These two rates were unified in April 1991 so that this is no longer a cause for reductions in ZCCM's profits and cash flow. 17. within the framework of a comprehensive corporate plan, consulting services will assist ZCCH in strengthening maintenance and operational planning areas, improving procurement and inventory operations, strengthening training, and enhancing management information systems which currently suffer from certain weaknesses. The assistance provided by consultants aims at rationalizing ZCCM4's operations, helping to reduce costs and improve capital productivity by permitting a higher degree of utilization of ZCCM's plant and equipment. Externally hired technical specialists -- who would be subsequently replaced with trained Zambians -- have a crucial function in implementing the corporate plan developed by the management consultants. Due to ZCCM's past policies of sharply reducing employment of expatriate staff, the company faces serious shortages of technical skills in critical areas of production and planning. Implementation of an effective corporate plan would only be feasible if ZCCM quickly fills such key operating and planning positions. The proposed project would finance the cost of a small number of consulting specialists who would put into practice the operational part of the corporate plan designed by the consultants. At the same time, the specialists would perform, within the overall concepts developed by the consultants, an important function in the training of Zambian staff who would take over the positions of the expatriate specialists after termination of their assignments. Specialist hiring and training components therefore perform crucial roles in achieving the objectives of the proposed project.  - 6 - 18. ZCCH's copper ore reserves are being steadily depleted and no substantial new reserves have been developed for a number of years. As a result, copper production has tended to decline during the past 15-year period, though it has stabilized in recent years, partly as the result of the Bank-assisted rehabilitation of ZCCM during the 1980s (Export Rehabilitation and Diversification Project No. 2391-ZA). During implementation of this project, a number of weaknesses in ZCCM's operations, staffing and planning procedures became apparent. The project showed that ZCCM couli not effectively address its long-term problems of declining copper reserves, increasingly difficult mining conditions and rapidly declining competitiveness on the world market without specific measures taken within a comprehensive corporate plan prepared for the whole company. Current cash operating costs of ZCCM are about US$0.70 per pound of copper which is slightly below the world average of about US$0.75. ZCCM's total costs, including tax, depreciation and interest payments, however, are considerably higher than one US dollar per pound of copper, creating financial problems for the company even at the current relatively high copper prices. Furthermore, declining ore grades and increasingly difficult mining conditions will tend to raise both cash operating costs and total costs of ZCCM. Without measures aimed at sharply reducing ZCCM's costs, in both operational and non-operational areas, the company would rapidly lose its competitiveness on world markets. The corporate plan which will be prepared and implemented under the proposed project would help ZCCM to reduce costs and remain competitive. 19,. Provided ZCCM invests adequately in mine development and plant maintenance and strengthening its operations, staffing and management in line with the recommendations resulting from the studies under the proposed project, ZCCM's annual copper production can be stabilized at current levels of 410,000-430,000 tonnes for the next six to seven years. Towards the end of the decade, however, ZCCM's copper production will start to drop sharply to less than half of current output, as several of ZCCM's major mines will have exhausted their known reserves. Zambia still has sizeable copper resources which can be developed to partially offset the decline in production from ZCCM's existing mines. The economic viability of these copper resources has not been fully determined, although it is clear that large investments will be required and that the mining and metallurgical processing costs would be higher than in the current operations. The analysis of ZCCM's resource base and assets forms a key input into the preparation of the company's corporate plan, including a program for divestiture, and would be financed by an advance provided under a Project Preparation Facility. 20. Given the sizeable financial resources needed to develop the remaining copper resources as well as the requirement for highly efficient operation of the new mines in order to make them economically viable, the Government and ZCCM intend to attract private investors to implement and manage the new copper mining projects in Zambia. ZCCM's longer-term strategy, in addition, would focus on managing the existing mines and plants with maximum efficiency and on the systematic phasing-out of certain mines at the end of this decade. ZCCM will also sell to the private sector certain operations which are not directly related to mining. ZCCM will develop a detailed corporate plan in order to implement the overall  - 7 - corporate strategy, including the measures needed to ersable ZCCM to remain viable while major components of its operations are being phased out. The proposed project would assist ZCCM in conducting the necessary strategic studies as well as in preparing a comprehensive corporate plan. 21. Operational Issues of Maamba Collieries. Hamsba Collieries has also room for productivity improvements, and the coal mine faces additional constraints to achieving profitability from lack of foreign exchange, transport bottlenecks and marketing problems. Haamba obtained support from IDA-financed technical assistance from 1984 to 1986 (Coal Engineering Project 1333-ZA), but is currently again in need of major rehabilitation investments in order to remain operational. Given Maamba's difficulties in marketing its low-quality coal, the rehabilitation program should only be implemented after an analysis has determined the mine's longer-term outlook. The proposed project would provide the financing for such an analysis, which would also address the environmental problems faced by Maamba. Assistance is also proposed to ascertain if Maamba's short-term foreign exchange requirements can be reduced by proaucing certain spare parts in the company's workshop. 22. Issues of Small-scale Mining. Mining of gemstones has suffered under past restrictive Government policies. In order to increase production and profitability, the gemstone miners need access to financing and technical assistance. This in turn requires the complete legalization of gemstone mining. More recently, the Government has taken steps to liberalize the marketing of gemstones by eliminating the buying monopo.,es and supporting the establishment of a gemstone auction organized by the private sector. However, the Government continues to impose tight restriction on the mining of gemstones while providing inadequate assistance to improve production and profitability of the small-scale miners. The proposed project would provide support to a study of operational, financial and marketing problems of small-scale mining which is aAzed at developing effective measures to strengthen artisanal gemstone mining in Zambia. The project would also provide assistance in setting-up the gemstone auction and in monitoring the functioning of the new private gemstone marketing system. 23. Environmental Issues of Mining. There are no environmental issues directly associated with this project. 1/ However, ZCCM, Maamba Collieries and small-scale gemstone mining all have a number of serious environmental problems in their operations. ZCCM's environmental problems are mainly related to (a) pollution of the Kafue river which supplies water to both the population in the Copperbelt and ZCCM's operations; (b) ZCCWBe tailings dams, some of which require additional vegetation to increase their stability and reduce erosion; and (c) the end of life of several mines at the turn of the century. ZCCM operates a small environmental unit which needs additional staff, supplementary outside analytical inputs to address specific environmental issues, and more effective integration into 1/ The project is in Category C with no substantial environmental issues.  - 8 - ZCCM's overall corporate planning process. The proposed project would strengthen ZCCM's activities in environmental protection by: (a) providing qualified specialists to strengthen ZCCM's environmental unit; (b) helping ZCCM to prepare a comprehensive corporate plan which would provide for effective Integration of environmental aspect into ZCCM's operation and planning process; and (c) supporting the preparation of phase-down studies for ZCCM's mining operations with an emphasis on the required environmental protection measures. 24. The environmental problems of Maamba Collieries result from the spontaneous combustion of the over-burden and from the acid minJe drainage. The study of Maamba's long-term outlook would analyze these environmental problems and design mitigating measures. There is little detailed knowledge of the environmental problems created by the small gemstone miners but evidence from other countries indicates that there may be serious safety and other operational problems which requires urgent attention. The study of small-scale mining which forms part of the proposed project will analyze the safety and environmental problems in the gemstone mining areas and will propose measures for their elimination. Finally, the proposed project would include preparation of environmental regulations and strengthening of environmental capabilities in the Ministry of Mines, and would provide for effective integration of environmental aspects of mining into the Environmental Protection and Pollution Control Act which the Government is currently preparing. II. THE PROJECT Prolect Objectives 25. The proposed project would help the Government of Zambia to implement an effective development strategy for the mining sector. In the short term, the strategy aims at making the mining sector more efficient and productive than -urrently, so that mining can continue to generate the resources needed to oupport recovery and diversification of the Zambian economy. In the longer term, the strategy would support the development of new copper mines by private investors in the framework of joint ventures with ZCCH; would ensure the systematic phasing-out of certain mining operations as reserves are depleted; and would support the development of non-copper mining sector exports, in particular by attracting investment to gemstone mining. The strategy would also aim at strengthening environmental protection in the mining sector. 26. The proposed project would achieve the above objectives bys (i) assisting ZCCM to improve its mining and metallurgical operations with a particular focus on lowering costs; (i;) supporting development and implementation of a comprehensive corporate plan which will include an efficient phase-down plan for certain ZCCM mining operations with depleting reserves; (iii) assisting ZCCM in joint-venturing its undeveloped copper resources and in the divestiture of subsidiaries and/or assets with little direct relation to mining; (iv) supporting a program to encourage new private investments in gemstone mining; (v) facilitating the preparation of a plan to aesist small-scale miners, especially gemstone miners; (vi)  - 9 - developing a long-run strategy for Maamba Collieries: and (vii) assisting in developing environmental regulations for mining and providing support to the protection of the environment in the areas mined by ZCCM, Maamba and the small-scale miners. Rationale for IDA Involvement 27. 2CCM and the mining sector play a dominant role in the Zambian economy. A close working relationship between ZCCM and IDA and a broad- based dialogue with the Government about the future of the mining sector are therefore an effective part of the support provided by the Bank to the recovery and the restructuring of the Zambian economy. Furthermore, it is important for the Bank to support Zambia in the difficult tasks of opening the mining sector to private investors and the joint-venturing of ZCCM's assets. The proposed technical assistance project would strengthen the existing relationship with ZCCM and renew the dialogue with the Government. 28. The Bank Group has played a major role in providing assistance to the mining sector. In 1983, IDA extended SDR 4 million for a Coal Engineering Credit to Maamba Collieries. In 1984, as part of a US$300 million rehabilitation program, the Bank extended a loan of US$75 million to ZCCM and assisted with arranging cofinancing of approximately another US$90 million from AfDB and EEC. The IFC provided project financing to ZCCM in 1980 and 1982. In the course of the ZCCM Export Rehabilitation and Diversification Project, it became clear that ZCCH's operations suffered from a shortage of skills, especially in the intermediate management and technical areas. In 1986, ZCCM and the Government of Zambia requested IDA to finance a technical assistance project for ZCCM. Negotiations for the project were completed in 1987, but further processing was discontinued due to Zambia's arrear; problems. 29. The current project resumes the dialogue with ZCCM and the Zambian Government, broadens it to include the entire sector and focuses on strategic and mining policy issues as well as on improving operations of ZCCM, Maamba and the gemstone mines. The project emphasizes helping ZCCM to develop a comprehensive corporate plan which would include divestiture and joint-venturing of important assets of the company. The project component aimed at mining policy reform focusses on the creation of an enabling environment for private mining investmen-:, including a revision of the Mines and Minerals Act and the design of a new mineral taxation and incentive system. It will also help improve environmental, health and safety conditions in the sector. Both the divestiture of ZCCM assets and the reform of mining sector policy will be conducted in the framework of the Government's economic restructuring and privatization programs which are supported by the Bank with lending operations and technical assistance. Lessons Learned from Previous Operations 30. The design of the project takes the experience from the two prior Bank group operations in Zambia's mining sector into account. The Export Rehabilitation and Diversification Project (Loan 2391-ZA) which mainly provided funds for replacement and rehabilitation investments in ZCCMHs plant and facilities during 1984 to 1987 was generally successful in  - 10 - helping stabilize the declining copper production trend of ZCCM at about 430,000 tone per year. The main lessons learned from the project result from the macroeconomic role of ZCCM in terms of foreign exchange earnings and fiscal revenues. ZCCM also dominates major parts of Zambia's non- mining economy, particularly transportation and power supply, and has a strong influence on practically all other sectors of the economy through its subsidiary companies. Corporate planning and decision making in ZCCM therefore have been frequently determined by macroeconomic factors leading, in many cases, to less than optimal decisions in investment, production and employment. The proposed project assists the Government to establish a mining policy and incentive framework which will reduce ZCCM's dependency on short-term changes in Zambia's macroeconomic environment. Furthermore, divestiture of undeveloped copper resources and non-mining operations, which is supported by the proposed project, will tend to reduce over time the overwhelming role of ZCCM in the mining sector and in other parts of the country's economy. 31. The Coal Engineering Project (Credit 1333-ZA), which financed technical assistance to Maambs Collieries during 1983 to 1986, provided also an important lesson for the design of the proposed project. While Maamba's operational performance, with the support of IDA's Engineering Project, improved substantially in recent years, increasingly difficult mining conditions, declining markets and transportation problems may not permit profitable operations in the future. The proposed project will therefore finance a study of the longer-term outlook of Maamba Collieries which would determine whether or not the needed major rehabilitation investments in the mine are economical. Prolect Description 32. The project consists of three major components providing assistance to ZCCM, the Ministry of Mines and Maamba Collieries. Annex 6 presents a detailed description of the project components. The technical assistance for ZCCM covers the following components: Mi) preparation of basic information needed for the divestiture of undeveloped mining resources and non- copper assets to be implemented under the project. This component would be financed under a Project Preparation Facility (P683/ZA) which would provide an advance of US$500,000 for assisting in the completion of on-going work regarding ZCCM's ore deposits and mining operations; (ii) a comprehensive corporate plan prepared by consultants in collaboration with ZCCMI's management, covering both the near term and the longer (15-year) term. The plan would spell out in detail the technical, financial and staffing strategies and actions needed by ZCCM during a period of deteriorating mining conditions and severe financial constraints. The plan will specifically take into account the expected phasing down of existing mines due to ore depletion, the proposed  - 11 - joint-venturing, divestiture or sale of mining and non-mining assets and the need to strengthen the financial structure of the company including a possible financial restructuring. Total estimated requirements in terms of consultants staff time would be 450 man months. Major activities to be performed as part of the preparation and implementation of the corporate plan includes (a) a program of joint-venturing and divestiture of ZCCM's under-utilized or unused assets. Certain copper resources, shut mines, and under-utilized or unused metallurgical plants would be sold to or joint-ventured with private investors who would be responsible for providing financing and management. Other assets, which are largely unrelated to ZCCM's copper operations, including those of its subsidiaries, such as agricultural and tourist facilities, would be divested and sold. ZCCM would also reduce its involvement, through a variety of divestiture methods, in housing, transportation, schools, health service facilities as well as in other services which it currently operates. Asset divestiture would be a pro-active process with the management consultants not only assisting ZCCM to identify and contact potential partners and buyers, but also to subsequently complete the divestiture or joint-venturing process; (b) phase-down plans for mines with depleting reserves, placing particular emphasis on workforce implications, environmental protection and land reclamation measures; (c) various studies and implementation of recommendations to improve ZCCM's efficiency and financial performance, including studies to improve procurement, inventory management, marketing and financial structure; and (d) a manpower and training plan for ZCCM and the implementation of such a plan, including phased reduction in the labor force to support increased labor efficiency in ZCCM. (iii) hiring of technical specialists with urgently needed skills, especially in maintenance, operations, inventory management, management information systems  - 12 - and environmental protection. The specialists would perform crucial functions in implementing the short- term measures recommended by the consultants for the first phase of the corporate plan. The specialists would perform hands-on operational and planning functions in key areas of ZCCM's operation wbere improvements are most needed and ZCCM is currently inadequately staffed to effectively implement the measures recommended in the corporate plan. The crucial function of implementing the corporate plan performed by the specialists requires their close cooperation with the consultants. Given the specific role of the technical specialists in the corporate plan they cannot effectively be employed under ZCCM's normal expatriate hiring program. The specialists should be highly qualified professionals who would perform their functions of implementing the corporate plan under guidelines established by the consultants; (iv) a training program for Zambian staff with a view to effectively filling, in due course, the positions of the technical specialists. The component would also strengthen both in-house and overseas training activities of ZCCM. The training of Zambian staff would be closely linked to the specialist hiring program under (iii) above. The consultants, in cooperation with the specialists and ZCCM staff, would (a) identify Zambians for training, (b) organize training programs in Zambia, mainly by working closely with the specialists, and in well selected overseas assignments, and (c) prepare and select Zambians to take over the functions of the hired specialists in implementing the corporate plan after termination of the specialist contracts. The consultants would be responsible for the design of the training program and would assist in achieving the objectives of the program. 33. The second component of the project would be technical assistance to the Ministry of Mines with a view tot (i) providing about 60 man months of consultancy to: (a) establish an environment in the mining sector which would attract private investment; and (b) improve small-scale mining. The measures to be taken to establish an enabling environment would be based upon the mining policy letter which the Government would send to IDA prior to Credit effectiveness. The measures would involve undertaking a study of the barriers to private sector mining investment, preparing a new Mines and Minerals Act, designing a new taxation and incentive system for mining, preparing and implementing an organizational plan for  - 13 - the Ministry of Mines, developing and implementing a program for strengthening the capabilities of Ministry personnel, including extensive training, so that the Ministry can take an active role In attracting private investors to mining, and improving environmental. health and safety regulations. Improvements in the operations of small-scale miners (especially gemstone miners), will involve undertaking a study of small- scale mining activities, identifying and implementing technical assistance measures for small-scale miners and specialized training of those Ministry employees who would work with small-scale miners. (ii) providing better services for potential new investors by creating data banks for geological and mining title information and for economic mining sector data, and preparing additional geological maps; and (iii) providing urgently needed assaying equipment for the laboratory of the Ministry of Mines. 34. The third component would be technical assistance for Maamba Collieries and would consist ofs *il identification and implementation of measures to achieve short-run savings of foreign exchange expenditures; and (ii) a consultancy of about 30 man months to determine the longer-term outlook of the mine and to devise and implement a long-term strategy to deal with Maamba's problems of environment, marketing, transportation, excess capacity and inadequate foreign exchange. 35. During negotiations, the following agreements have been reached: (a) the Government will: (i) carry out an analysis of the barriers to private investment in the Zambian mining industry including institutional, legal and regulatory issues and availability of geological information, and recommend measures to overcome those barriers and encourage new investments, discuss the analysis and recommendations with IDA by December 31, 1992, and implement measures acceptable to IDA by December 31, 1993; (ii) prepare a new Mines and Minerals Act and design a new tax and incentive system for mining; discuss proposals with IDA by December 31, 1992 and present for enactment the proposed legislation and regulations to the appropriate legislative authority by December 31, 1993;  - 14 - tiiL) design a program to support the sound and timely development of small-scale mining with adequate environmental, health and safety provisions, discuss the program with IDA by December 31, 1992 and implement the program by December 31, 1993; (iv) design plans for the staffing of the Ministry of Mines, discuss the draft plan with IDA by December 31, 1992, and implement the staffing plan by December 31, 1993 taking into account IDA's views. (v) submit quarterly reports to IDA on the progress made in implementing the project components of the Ministry of Mines and of Maamba Collieries. The first reports should cover the period January-March, 1992. (b) ZCCM will: Mi) prepare a corporate plan covering both the near and longer term, with suitable performance targets, specifically addressing the expected phasing down of existing mines due to ore depletion, and the need to strengthen the financial structure of the company including possible balance sheet restructuring. An outline of the plan should be prepared and discussed with IDA by December 31, 1992 and a plan acceptable to IDA implemented for ZCCM's fiscal year starting April 1, 1993. Subsequently, the plan will be updated and discussed with IDA by December 31 of each year; (Li) develop and discuss with IDA by December 31, 1992, programs and timetables fort (a) joint venturing or selling its under-utilized or unused assets relating to mining activities; (b) rationalizing and divesting the non-mining assets and activities; (c) improving the performance of the procurement, materials management and maintenance functions; and (d) improving the marketing functions. The above programs will be included in the corporate plan and implemented by June 30, 1995. Ciii) prepare a manpower and training program for the period 1993-1995, including a phased reduction in labor force, and discuss it with IDA by December 31, 1992 and include a program, acceptable to IDA, in the annual corporate plan and implement it with agreed year by year targets for completion by December 31, 1995. The training program, in line with the requirements of the corporate plan, would aim at on- the-job and overseas training for a total of about fifty professional staff. The training program for artisans would aim at achieving the annual graduation rate of about two hundred artisans. The program for  - 15 - the reduction in ZCCM's labor force alms at an approximate 40 percent reduction of ZCCM's total staff of currently 67,000, including subsidiaries, through attrition, divestiture and dismissals. The approximate employment targets are 55,000 for December 31, 19921 47,000 for December 31, 1993 and 40.000 for December 31, 1994. (iv) submit quarterly reports to IDA on the progress made in implementing the project component. The first report should cover the period January-March, 1992. (c) Maamba Collieries will prepare an analysis of the long-term outlook of its operations including measures to reduce foreign exchange requirements, with recorwndations for a follow-up action program, and discuss the analysis and recommendations with IDA by December 31, 1992 and implement them by June 30, 1994. 36. The following are conditions of effectiveness (i) the Government will prepare a Mining Policy Letter satisfactory to IDA supporting private investment in the mining sector and divestitures by ZCCM consistent with the Government's overall private sector development strategy, (ii) the Government will enter into subsidiary Loan Agreements with ZCCM and Maamba Collieries, and (iii) the Ministry of Mines, ZCCM and Maamba Collieries will each establish counterpart teams to coordinate project activities with staff and terms of reference acceptable to IDA. Implementation and Reporting 37. ZCCM, the Ministry of Mines, and Maamba Collieries have already identified senior staff in their institutions who will function as counterpart for cooperation with the consultants. Project coordination arrangements satisfactory to IDA would be established prior to effectiveness of the Credit. The counterpart teams would be responsible for submitting quarterly progress reports covering all project aspects including use of technical experts and implementation of training activities. The progress reports should be submitted to IDA not later than 45 days after each quarter. IDA would closely supervise implementation of the project. A mid-term project review, scheduled for early 1993, would provide a detailed analysis of the progress in implementing the project in particular concerning the meeting of the December 31, 1992 target date. 38. ZCCM and Maamba Collieries will submit to IDA annual reports examined by independent auditors, acceptable to IDA, within six months of the end of the accounting year. At the completion of the project, ZCCM, the Ministry of Mines and Maamba Collieries will prepare a completion report satisfactory to IDA. In the past, ZCCM and Maamba Collieries have consistently complied with the auditing and reporting requirements under the Export Rehabilitation and Diversification Project and the Coal Engineering Project. They have also complied with the requirement of preparing completion reports for these projects.  - 16- Prolect Cost and Financing 39. The total cost of the proposed project would be US$24.0 million equivalent, including US$3.2 million for contingencies. IDA would finance US$21.0 million, ZCCM US$2.3 million, the Government of Zambia US$0.6 million and Maamba Collieries US$0.1 million. IDA's component would cover the project's direct foreign exchange costs while ZCCM, tis Government and Maamba would finance the kwacha costs of their respective project components. The Republic of Zambia would be the Borrower and the Government would on-lend the designated credit components to ZCCM and Haamba for 10 years including a 3-year grace period at the IBRD lending rate plus a premium equivalent to one tenth of the IBRD lending rate. 40. Detailed cost estimates are shown in Annex 1. 2CCM would obtain the major share (US$15.0 million) of the proposed IDA credit to obtain consultancy services to prepare the different components of the corporate plan (US$5.9 million), to hire needed technical specialists for helping in the implementation of the corporate plan (US$6.5 million) and to train ZCCM staff (US$2.6 million). IDA financing allocated to the Ministry of Mines (US$2.5 million) would cover the cost of consultants to improve the mining sector investment environment and to strengLhen small-scale mining (US$0.8 million), training of Ministry staff (US$0.3 million) preparation of data banks and acquisition of assaying equipment (US$0.6 million) and the preparation of geological maps (US$0.8 million). Maamba's IDA credit share would be for a study by consultants of the mine's longer-term outlook (US$0.4 million) and for technical assistance (US$0.3 million) to achieve foreign exchange savings. Contingencies of 151 have been added to the above cost estimates. Procurement and Disbursement 41. The selection of the consultants for ZCCM, the Ministry of Mines and Maamba Collieries would be in accordance with the "Guidelines for the Use of Consultants by World Bank Borrowers and by the World Bank as Executing Agency" of August 1981. IDA has reviewed during Credit Negotiations the terms of reference, the proposed short list to be used in the selection process and the draft contract (including supplementary conditions) for the consultants financed by the proposed project. For ZCCM, the consultancy services will also include hiring of individual specialist staff for providing support in the implementation of the company's corporate plan. Hiring of the specialist staff will be done by ZCCM in consultation with the consultants in accordance with IDA Guidelines. 42. Procurement of the goods and services needed by the Ministry of Mines to install the data banks, prepare the geological maps and establish the assaying equipment would follow the 'Guidelines for the Procurement under IBRD Loans and IDA Credits" of May 1985. Production of geological maps involves mainly cartographic printing which is performed by a small number of specialized enterprises. Such services will therefore be procured through Limited International Bidding (LIB) obtaining quotations from at least four eligible and qualified suppliers from at least three different countries. This list of such suppliers will be approved by IDA.  - 17 - The establishment of data banks in the Minstry of Mines involves the procurement of hardware (a small number of personal computers and printers) and software (specialized computer programs for mining data banks). Procurement of the hardware would be done through Local Shopping (LS) by inviting quotations from at least three Zambian representatives/agents of foreign manufacturers who have after-sales service and spare parts facilities. Procurement of the computer software would be done through International Shopping (IS) with quotations from at least three suppliers from at least two countries. There are a few software suppliers for such a highly-specialized purpose. The equipment needed for setting up the assaying laboratory vould also be procured through International Shopping (IS) obtaining quotations from at least four suppliers in at least three countries. There are only a small number of specialized firms providing both the equipment and the complete installation of a gold assaying laboratury. All procurement of equipment and services for the data banks, the production of maps and the assaying laboratory would be performed by the Ministry's consultants. IDA would review the procurement of all contracts above US$100,000. Detailed information on the procurement arrangements are in Annex 2. 43. The proposed IDA credit vould be disbursed against 100 percent of foreign exchange expenditures. The proceeds of the proposed credit would be disbursed in four categories: ti) equipment, mainly computing and testing equipment (US$0.3 million); (ii) consultants for studies and technical services (US$9.2 million); (iii) training of staff of ZCCM and the Ministry of Mines, mainly through short-term overseas assignments (US$3.2 million); and (iv) hiring of technical specialists by ZCCM to reduce skills shortages (US$8.3 million). To facilitate foreign exchange payments for the different project components a Special Account would be established in a commercial bank which would be operated according to IDA procedures. An initial deposit of US$1 million from the proposed IDA credit would be used for the initial payments to be made at the time of ordering equipment and appointing consultants. The Special Accourn would be replenished regularly on the basis of documentary evidence as to payments made from the account for goods and services required for the proposed project. Expenditures for less than US$40,000 would be based on statements of expenditures. Annex 2 presents the projected disbursement schedule of the IDA credit. III. JUSTIFICATION AND RISKS 44. Mining is vital to the economy of Zambia both in the short and longer term since, for the rest of this decade, copper is likely to remain Zambia's dominant export and mining the largest industry. Furthermore, Zambia still has considerable potential in the mining sector not only in copper but also in gemstones. The mineral resources must be developed in an effective way during the remainder of this decade, if Zambia's longer- term goals of economic growth and diversification are to be achieved. The proposed project would support the above objectives by providing effective incentives to private investment in Zambian mining. The project would also support ZCCM in maintaining current production levels until about the end of the 19909. The technical assistance and the studies financed by the  - 18 - project would help ZCCM to remain profitable during a period of increasingly difficult mining conditions. The support provided by the project In joint-venturing and divestiture as well as in mining policy reform would open up the sector to private investors. The project would therefore help Zambia in developing its remaining copper resources in an effective way and in diversifying mineral production toward gemstone mining. 45. The main risks of the proposed project result from a weakening in the commitment of the Government and Z5CM to privatization and mining policy reform during project implementation. However, even with a strong commitment, the policy of opening the mining sector will not be successful if private investors are unwilling to risk their capital in the Zambian mining sector. The risk of failure of the privatization program, however, would be reduced by effective macroeconomic policies. Furthermore, ZCCM itself faces a number of risks including sharply lower copper prices, insufficient foreign exchange allocation and a breakdown of the infrastructure systems on which it depends. In all cases, the company would benefit from the increased operating efficiency and skill levels which would result from the project. IV. RECOMMENDATION 46. I am satisfied that the proposed credit would comply with the Articles of Agreement of the Association and recommend that the Executive Directors approve the proposed credit. Barber B. Conable President Washington, D.C. May 23, 1991  - 19 - AnNE 1 REPUBLIC OF ZAMBIA MINING SECTOR TECHNICAL ASSISTANCE PROJECT ESTIMATED COSTS AND FINANCING PLAN Estimated Costs IDA Local Total _------------US$ million---------