Mozambique - Railways and Ports Restructuring Project

Document of The World Bank Report No: 19085-MOZ PROJECT APPRAISAL DOCUMENT ONA PROPOSED CREDIT IN THE AMOUNT OF SDR 73.8 MILLION (US$100.0 MILLION EQUIVALENT) TO THE REPUBLIC OF MOZAMBIQUE FOR A RAILWAYS AND PORTS RESTRUCTURING PROJECT September 14, 1999 Transport Operations Eastern and Southern Africa Region  CURRENCY EQUIVALENTS (Exchange Rate Effective August 16, 1999) Currency Unit = Metical (Mt) Mt 1,000 = US$0.081 SDR 1 = Mt 16,740 US$1.00 = Mt 12,355 FISCAL YEAR January 1 to December 31 ABBREVIATIONS AND ACRONYMS BOT = Build, Operate, and Transfer CFM = Portos e Caninhos de Ferro de Mocambique, E.P. DANIDA = Danish International Development Assistance DGIS = Direktoraat Generaal International Samenwerking EIRR = Economic Internal Rate of Return EMP - Environment Management Plan EU - European Union FINNIDA = Finnish International Development Agency FRR = Financial Rate of Return GAPROMAR = Gabinete de Projectos Maritimos, Ministry of Transport and Communications GOM = Government of Mozambique INAC = Instituto Nacional de AviacAo Civil IRF = Infrastructure Reserve Fund KfW = Kreditanstalt fur Wiederaufbau LACI - Loan Administration Change Initiative MTC = Ministry of Transport and Communications mtpa = Million tons per annum NPV = Net Present Value ODA = Overseas Development Administration PAS - Project Account Section PMR - Project Management Report SADC = Southern Africa Development Community SARL - Sociedade Anonima de Responsabilidade Limitada SATCC = Southern Africa Transport & Communications Commission SIDA - Swedish International Development Authority SRSAP = Staff Redeployment and Social Adjustment Program SRP = Staff Rationalization Plan NORAD = Norwegian Agency for Development Cooperation USAID = United States Agency for International Development Vice President : Callisto E. Madavo Country Director : Phyllis R. Pomerantz Sector Manager : Yusupha B. Crookes Team Leader : Yash P. Kedia  REPUBLIC OF MOZAMBIQUE Railways and Ports Restructuring Project PROJECT APPRAISAL DOCUMENT Table of Contents Page Nos. A. PROJECT DEVELOPMENT OBJECTIVES 1. PROJECT DEVELOPMENT OBJECTIVES .......................................... ...........................2 2. KEY PERFORMANCE INDICATORS .....................................................................2 B. STRATEGIC CONTEXT .....................................................................2 1. SECTOR-RELATED COUNTRY ASSISTANCE STRATEGY (CAS) GOAL SUPPORTED BY THE PROJECT.. 2 2. MAIN SECTOR ISSUES AND GOVERNMENT STRATEGY .......................................................2 3. SECTOR ISSUES TO BE ADDRESSED BY THE PROJECT AND STRATEGIC CHOICES ................4 C. PROJECT DESCRIPTION SUMMARY ..................................... ................................4 1. PROJECT COMPONENTS ....................................................................4 2. KEY POLICY AND INSTITUTIONAL REFORMS SUPPORTED BY THE PROJECT .......... .............7 3. BENEFITS AND TARGET POPULATION ..........................................7..........................7 4. INSTITUTIONAL AND IMPLEMENTATION ARRANGEMENTS ...................... ..........................8 D. PROJECT RATIONALE .....................................................................9 1. PROJECT ALTERNATIVES CONSIDERED AND REASONS FOR REJECTION ........... ..................9 2. MAJOR RELATED PROJECTS FINANCED BY THE BANK AND/OR OTHER DEVELOPMENT AGENCIES ... 1 0 3. LESSONS LEARNED AND REFLECTED IN THE PROJECT DESIGN ................ ........................ 10 4. INDICATIONS OF BORROWER COMMITMENT AND OWNERSHIP ................ ........................ 11 5. VALUE ADDED OF BANK SUPPORT IN THIS PROJECT ........................................................ 1 1 E. SUMMARY PROJECT ANALYSIS ................................................................... 11 1. ECONOMIC ................................................................... 11 2. FINANCIAL .................................................................... 12 3. TECHNICAL ................................................................... 14 4. INSTITUTIONAL ................................................................... 14 5. SOCIAL ........................................................................... 15 6. ENVIRONMENTAL ASSESSMENT ................................................................... 16 7. PARTICIPATORY APPROACH ................................................................... 16 F. SUSTAINABILITY AND RISKS ...................................................................... 16 1. SUSTAINABILITY .................................................................... 16 2. CRITICAL RISKS ................................................................... 17 3. POSSIBLE CONTROVERSiAL ASPECTS ................................................. .................. 17 G. MAIN CREDIT CONDITIONS ................................................................... 18 1. EFFECTIVENESS CONDITIONS ...................... ............................................. 18 H. READINESS FOR IMPLEMENTATION ................................................................... 19 I. COMPLIANCE WIT'H BANK POLICIES ................................................. ................... 1 9  List of Annexes Annex 1. Project Design Summary .............................................. 21 Annex 2. Detailed Project Description .............................................. 25 Annex 2.1 Detailed Background and Current Status of Ports and Railways Concessioning. 32 Annex 3. Estimated Project Costs .......................... 36 Annex 4A. CFM's Past and Current Performance .......................... 37 Annex 4B. Cost-Benefit Analysis Summary .......................... 39 Annex 4C. Financial Analysis Summary .......................... 44 Annex 5. Financial Summary .......................... 50 Annex 6. Procurement, Disbursement and Accounting, Financial Reporting and Auditing Arrangements .............................................. 51 Table A: Project Costs by Procurement Arrangements ................................ ..... 55 Table B: Thresholds for Procurement Methods and Prior Review ............... ...... 56 Table C: Allocation of Credit Proceeds .............................................. 57 Annex 7. Project Processing Budget and Schedule .............................................. 58 Annex 8. Documents in Project File .............................................. 59 Annex 9. Statement of Loans and Credits .............................................. 60 Annex 10. Country at a Glance .............................................. 61 Annex 11. Letter of Development Policy for the Transport Sector ....................................... 63 Annex 12. Social Impact Analysis of the Proposed Earlier Retirement and Retrenchment of the CFM Staff .67 Map: IBRD No. 30191  INTERNATIONAL BANK FOR RECONSTRUCTION AND) DEVELOPMENT INTERNATIONAL DEVELOPMENT ASSOCIATION AFRICA REGION REPUBLIC OF MOZAMBIQUE Railways and Ports Restructuring Project (RPRP) PROJECT APPRAISAL DOCUMENT Date: September 14, 1999 Team Leader: Yash P. Kedia Country Director: Phyllis R. Pomerantz Sector Manager: Yusupha B. Crookes Project ID: MZ-PA-42039 Sector: Transport Lending Instrument: Specific Investment Credit Theme(s): Privatization Poverty Targeted Intervention: [ Yes [x] No Project Financing Data []Loan [x] Credit []Grant []Guarantee [3 Other Specify For Loans/Credits/Others: Amount: US$100.0 million /SDR 73.8 million Proposed Terms: 0 Multi Currency [x] Single currency, specify [ Fixed Grace period (years): 10 Years to maturity: 40 Commitment fee: 0.5% Service charge: 0.75% Front-end fee on Bank loan: 0.0% Financing plan: US$120.0 million Local Foreign Total Government 20.0 0.0 20.0 IDA 74.0 26.0 100.0 Total 94.0 26.0 120.0 Borrower: Republic of Mozambique Guarantor: N.A. Responsible agencies: Ministry of Transport and Communications (MTC) and Portos e Caminhos de Ferro de Mocambique, E.P. (CFM) Estimated disbursements (Bank FY/US$M): 2000 2001 2002 2003 2004 Annual: 30.0 20.0 15.0 15.0 20.0 Cumulative: 30.0 50.0 65.0 80.0 100.0 Project implementation period: Five years; January 1, 2000 to December 31, 2004 Expected effectiveness date: January 1, 2000 Expected closing date: December 31, 2004 Implementing agencies: Ministry of Transport and Communications (MTC) and Portos e Camninhos de Ferro de Mocambique, E.P. (CFM) Contact persons: Mr. E. Uamusse (MTC) Mr. Rui Fonseca (CFM) Addresses: Av. Martires de Inhaminga 336, Caixa Postal 2158, Caixa Postal 276, Maputo, Mozambique Praca dos Trabalhadores, Maputo, Mozambique Ph. 258 ( 1) 424447 Fax: 258 (1) 424240 Ph. 258 (1) 431706 Fax: 258 (1) 431703  - 2 - A: Project Development Objectives 1. Project Development Objectives (see Annex 1): The main objective of the Project is to substantially increase the operating efficiency of the three major port-rail systems in Mozambique and enable them to increase their share of the international freight traffic of the neighboring countries. The increase in freight traffic should enable: (a) the neighboring countries to reduce the surface transport costs of their exports and imports resulting from use of shorter routes, increased efficiency of operations, and use of railways in preference to roads; (b) the ports and railways in Mozambiqueto become financially self-sustaining; (c) Portos e Caminhos de Ferro de Movambique, E.P. (CFM) to increase its net income (net of its own expenses and provision for long-term infrastructure replacements) and, consequently, be in a position to pay dividends to the Government of Mozambique (GOM); and (d) Mozamnbique to generate more foreign exchange from the neighboring countries' use of railways and port facilities in Mozambique. A related but equally important objective is to strengthen the transport sector policy, the regulatory framework, and the institutional capacity of the Ministry of Transport and Communications (MTC). 2. Key Performance Indicators (see Annex 1): The level of the neighboring countries' international traffic moving over the port-railway systems in Mozambique is proposed to be used as the main indicator of performance. The indicator is not only easy to monitor, it is strongly correlated to and is a good proxy indicator of the Project expectations indicated above,viz., reduction in the cost of surface transport of the neighboring countries' international traffic, improvement in the financial self- sustainability of the ports and railways, increase in CFM's net income, and increase in the net foreign exchange earnings for the country. Level of financial flow from CFM to GOM and completion of the various key activities and actions under the Project as per the agreed schedule are proposed to be used as other indicators of perfornance. B: Strategic Context 1. Sector-Related Country Assistance Strategy (CAS) Goal Supported by the Project: (see Annex 1): CAS Document number: 17180-MOZ Date of latest CAS discussion: December 18, 1997. A central pillar of the Bank's assistance strategy calls for promoting dynamic growth that is sustainable and broadly based from a geographical, environmental, and socio-economic viewpoint. Private sector led growth includes developing local enterprise as well as partnership with foreign capital. Along with continuing economic policy reform, IDA, IFC, and MIGA are to combine efforts to support the development of high potential growth sectors, transport being one such sector. Supporting the transport sector through the Railways and Ports Restructuring Project (RPRP) is an important component of the CAS strategy. Given its importance for the economy, progress in concessioning of the Maputo, Beira, and Nacala port-railway systems has been included in the CAS as one of the key base case indicators. 2. Main Sector Issues and Government Strategy: Main Sector Issues: The Railways and Ports are not Financially Self-sustaining. There is no explicit financial support being provided by the Government for CFM's operations, but CFM has not been able to service its outstanding external loans since 1987 even though CFM has been: (a) paying salaries amounting to about US$3.5 million annually to staff who retired during the last four years or so but whose pension settlement has not been finalized as yet by the Ministry of Planning and Finance; and (b) undertaking public service obligations to the extent of US$10.0 million each year. CFM also does not have adequate capacity to finance long-term replacement of its infrastructure and operating assets. As a result, the arrears of maintenance are mounting and can be cleared only with substantial  financial assistance from the Government. The main reason for CFM's current insufficiency of resources is the slow building up of confidence with its traditional neighbors after a long disruption of business relations due to the war situation in the country and the consequent adverse impact on the efficiency of operations and quality of services. The current revenue generation is about half of the real potential of the three main port-railway systems. Poor condition of some parts of the infrastructure, excess staff, inadequate incentives, and inadequate availability of appropriately skilled staff are some other causes for the inadequate quality of service and operating efficiency and, consequently, the inadequacy of resources. High Transport Costs for Exports/lImports of the Neighboring Countries. Due to the problems mentioned above combined with unfair competition and business practices, part of the trade flows generating in the neighboring countries - Zimbabwe, Malawi, Swaziland, and South Africa (Mapuphalanga region) - are forced to use alternative routes (generally much longer) and alternative modes of transport such as road (generally more expensive) for their exports and imports. The additional costs associated with these alternatives for all of Mozambique's neighboring countries taken together are estimated to be about US$200.0 million per year. Inadequacy of the Parastatal Frameworkfor the Current Competitive Environment. Public management seems to have hindered the organizational and corporate restructuring that is necessary to revitalize the rail and port systems and improve their performance. Indeed, the continuing problems of excess employment and lack of financial resources raise doubts about the efficacy of public management. Technological and economic developments and inter-country experience strongly suggest significant advantages to a major rebalancing of the private-public sectors' roles in this industry. Accepting this position, GOM is in the process of concessioning the three major port-rail systems - Beira, Maputo, and Nacala. Inadequate Organization Structure of CFM. CFM's organizational structure is inefficient due mainly to: (i) too many levels of management, first at the port-railway system level and then at the headquarters level; (ii) lack of motivation for the staff; (iii) too much staff but very few with sufficient technical or managerial skills; and (iv) inadequacy of operating and management systems. The CFM headquarters has taken on the responsibility for many administrative and technical functions such as the procurement of common and expensive spares, development of management and operating infornation systems, tariff setting, staff training, and designing of engineering systems. To undertake these functions, CFM maintains a staff strength of close to 400 at the headquarters. In addition, the three port-rail systems have their own heavily-staffed headquarters. Apart from substantially adding to the overhead costs, CFM's organizational structure tends to slow down communications and the decision-making process. There is obviously a need to restructure CFM's organization to enable it to focus on key corporate functions instead ofjust the routine matters. Surplus Staff. CFM is grossly overstaffed. About 12,200 of the total staff strength of about 19,200 is estimated to be surplus. Inadequate Regulatory Framework. Currently the responsibility for safety and environment-related regulation for the railways and the land side services at the ports is exercised by CFM itself. GOM is in the process of developing a comprehensive regulatory framework and setting up of an appropriate regulatory body as an integral part of the concessioning process for the port-rail systems. These tasks need to be completed preferably before the operationalization of the various concessions. Poor Condition of Some Tertiary Ports. Some of the tertiary ports also serve the hinterland in a significant manner. To ensure their efficient operation, GOM is in the process of concessioning them with public financing of their rehabilitation to start with. Inadequacy of the Transport Sector Policy. The current transport sector policy does not comprehensively cover the key emerging issues such as concessioning, public service obligations, technical and economic regulation, and investment rationale.  -4 - Government Strategy: The Government strategy to address the sectoral issues is six-fold: (a) Large scale involvement of the private sector in the operations and management of all the ports and railways, such involvement comprising: (i) concessioning of major operational port-railway systems; (ii) leasing of equipment and operating assets; (iii) joint ventures for subsidiary businesses such as real estate management, management of training facilities and information systems with major equity holding remaining with the private partners; and (iv) build, operate, and transfer (BOT) arrangements for railway networks requiring major rehabilitation such as the Sena line. (b) Rationalization of CFM staff including retrenchment of surplus staff. (c) Comprehensive restructuring of CFM involving: (i) separation of strategic, corporate, and regulatory functions from day-to-day commercial and operating functions; (ii) making the headquarters and the zonal units lean and thin; (iii) replacing traditional railway skills in the headquarters with specialized legal, financial, institutional, and corporate ones; and (iv) increasing accountability through well- structured performance contracts between GOM and CFM. (d) Strengthening the Ministry of Transport and Communications and refining the Transport sector Policy. (e) Establishing an appropriate regulatory framework for the whole transport sector to ensure its healthy development in a competitive enviromnent. (f) Rehabilitation of a number of tertiary ports as part of the concession agreement for these ports. 3. Sector Issues to be Addressed by the Project and Strategic Choices: The Project will assist GOM/CFM in the: (a) Finalization and operationalization of private concessions for the major sea ports and railways in the country. (b) Rationalization of staff through: (i) retrenchment of surplus staff; (ii) counseling, retraining, and redeployment of retrenched staff; and (iii) setting-up of a pension fund for remaining staff of CFM as well as those joining the concessionaires. (c) Restructuring of CFM to enable CFM to focus on strategic, corporate, and regulatory functions while relegating the commercial and operating functions to a separate holding company proposed to be established as a part of the Project as well as establishing function-specific subsidiary companies of CFM to undertake specific functions such as real estate management, leasing of assets, construction and public works, tourism, etc. (d) Restructuring of MTC, enhancement of its conceptual and analytical capacity and the refinement and elaboration of the transport sector policy. (e) Development of an appropriate cost-effective regulatory framework and setting up a regulatory body. (f) Rehabilitation of the Tertiary Sea Ports. C: Project Description Summary 1. Project Components: The project comprises six main and a number of sub-components. The main and sub components along with their costs are given in the Table below. A brief description of the components follows the Table. (See Annex 2for a detailed description and Annex 3 for a detailed cost breakdown.)  - 5 - PROJECT COST (USS million) Total Cost Of which Local Foreign Total Consultancy &Technical Staff Civil Component Assistance Training Redundancy works Equipment Concessioning of CFM ports & milways 0.2 0.8 1.0 1.0 Staff Rationalization 87.6 5.9 93.5 4.7 4.0 84.0 0.0 0.8 - Staff Redundancy 84.0 0.0 84.0 84.0| Staff Redeployment 3 4 7.0 3.0 4.0 - Social Mitigation 0.2 0.4 0.6 0.6 - Pension Fund 0.1 0.4 0.5 0.5 - Pension Study 0.2 0.8 1.0 1.0 - Information Dissemination 0.1 0.3 0.4 0.2 0.2 Corporate Restructuring 0.5 1.8 2.3 1.8 0.5 MTC Strengthening 0.3 1.4 1.7 1.1 0.4 0.2 - New Role and Functions 0.2 0.8 1.0 0.4 0.4 0.2 - Civil Aviation Strategy 0.1 0.6 0.7 0.7 Regulatory Framework 1.6 5.6 7.2 6.4 0.8 - Economic 1 4 5.0 4.5 0.5 - Technical for Ports and Railwa 0.4 0.9 1.3 1.1 0.2 -Technical Civil Aviation 0.2 0.7 0.9 0.8 l 0.1 Tertiary Ports 0.4 8.6 9.0 0.8 8.2 - Infrastructure Rehabilitation 0.0 8.2 8.2 8.2 -Supervision of Works 0.2 0.2 0.4 0.4 - Inhambane Port Study 0.2 0.2 0.4 0.4 Total Baseline Cost (wio contingencies) 90.6 24.1 114.7 15.8 4.4 84.0 82 2.3 Contingency - Physical (@ 10% on civil works) 0.0 0.8 0.8 0.81 Total with Physical contingency 90.6 24.9 115.5 15.8! 4.4 84.0 9.0 2.3 Contingency - Price (@4%ontotal) 3.4 1.1 4.5 0.71 0.21 3.0 0.5 0.1 Total Project Cost 94.0 26.0a 120.0 16.5 4.61 87.01 9.s 2.4 * NPV of the statutory pension payments for early retirees discounted at 4% Concessioning of CFMPorts and Railways. CFM has advanced considerably in initiating the concessioning of its main ports and railway systems. Memoranda of Understanding (MoUs) have been signed with the preferred bidders for the Maputo port and the southern rail system, with the exception of the Ressano Garcia line, for which suitable arrangements are being worked out. A further MoU has been signed with a private consortium, which had submitted a concession offer for the Nacala port and the northern rail system. In Beira, three terminal concessions are being operated by private partners and a terminal joint venture is under preparation. Preparations are also being made for concessioning of the Machipanda rail line together with the rail line linking the port of Beira to Moatize coalfields (the latter needs complete rehabilitation). This component would focus on provision of advisory services which may be required by CFM to: (i) develop the bidding documents for the concessioning of the remaining ports, railways, and port services; (ii) design, negotiate, implement and monitor concession agreements, and (iii) structure, implement and carry out its new role as equity shareholder in concessions and joint ventures. The services would be concentrated on assistance in legal, financial, technical and environmental matters. Inputs for this component would comprise consultancy services. Base cost (without any physical and price contingencies) of the component is estimated at US$ 1.0 million to be financed by IDA (1% of the Project cost).  - 6- Staff Rationalization. Studies show that CFM, with a total employment of nearly 19,200, is grossly overstaffed. Average labor productivity indicators in both the rail and port sectors are below CFM's targets. Based on a detailed staff inventory and functional analyses for each system, the staff requirements have been estimated at about 7,000 leaving a surplus of close to 12,200. CFM has already identified individual redundant staff while recognizing that final redundancy levels will be determined by the concessionaires who will be given full flexibility to select staff from the existing CFM pool according to their need. In order to minimize the adverse impact of involuntary separations of such a large number of surplus staff, GOM and CFM have developed a staff rationalization plan which comprises: (i) retrenchment of surplus staff and severance payments to the ietrenched staff using specially designed retirement and retrenchment packages; (ii) redeployment support to help workers find alternative jobs or become self-employed; (iii) social mitigation measures; (iv) creation of a pension fund for the remaining CFM employees; and (v) arrangements for timely dissemination of information to all concerned. The whole Staff Rationalization Plan (SRP) including the packages to be offered has been discussed by the CFM management with the staff unions and staff representatives. The net present value of the statutory pension streams (at 5% discount rates) of the staff proposed to be retrenched, is estimated at US$50.0 million and of the severance payments and supplements to about US$34.0 million. Inputs for this component would comprise statutory pension, supplement, transition, severance payments, consultancy services, training, retraining and counseling of retrenched staff, and office equipment. Base cost of the component is estimated at US$93.5 million to be financed by IDA (US$73.5 million or 61% of the Project cost) and GOM (US$20.0 million or 17% of the Project cost). Corporate Restructuring. The existing entity, viz., CFM, Empressa Nblica (CFM, EP), established through a Government decree and charged with the responsibility for the development of the railways and ports sectors and their effective management, is planning to continue spinning-off its commercial activities, through the establishment of joint-ventures with private investors and through the creation of fully-owned subsidiaries. As the spinning-off of its commercial activities progresses, so will the number of shareholdings initially retained by CFM, EP. In order to clearly separate CFM's commercial interests from its other activities, it is the CFM Board's intention to create an incorporated limited company, to be called CFM, Sociedade Anonima de Responsabilidade Limitada (CFM, SARL), with a view to manage its subsidiaries and affiliates. This company would initially be a fully-owned subsidiary of CFM, EP, although a minority equity participation could later be sold to institutional investors, such as the foreseen pension fund. The creation of CFM, SARL is subject, however, to the clarification of the legal framework for "holding" companies in Mozambique. A legal framework study is proposed to be undertaken to clarify the legal framework and recommend changes in legislation to enable the creation of the proposed holding and subsidiary companies. This Project component would focus on a study on the spin-off of the commercial activities of CFM, EP under a new holding company, on the new role of CFM, EP, and on the provision of consultant services and equipment to enable the implementation of the recommendations of the study thereof. Inputs for this component would comprise consultancy services and office equipment. Base cost of the component estimated at US$2.3 million is to be financed by IDA (2% of the Project cost). MTC Strengthening. MTC's current organizational structure comprises various line directorates with responsibility for the various transport modes, and staff directorates responsible for economics, finance and administration. In a fast changing external environment, including market developments and the foreseen civil service reform process, MTC is actively looking for ways to enhance its internal efficiency while operating with a small, well-trained, and motivated staff. At this juncture, MTC considers it important to assess its strategy/purpose, internal structure, work processes, staff skills and attributes, and behavioral and reward structure, if MTC is to meet its fast evolving new role and challenges. This component would comprise a study to review MTC's new organizational requirements in a framework dominated by an increasing private participation in transport. Technical assistance services, training and equipment would also be provided under the component to pursue the ongoing restructuring program, to enable the implementation of the recommendations of the study, and to strengthen MTC's capabilities in policy formulation particularly in the aviation sub-sector. Inputs for this component would comprise consultancy services, training, and office equipment. Base cost of the component is estimated at US$1.7 million to be financed by IDA (1% of the Project cost). Regulatory Framework. During the last three years, GOM has been actively pursuing a policy of increasing private participation in the provision of revenue-earning transport services and infrastructure. The involvement of  the private sector is mostly being secured through long-term concession agreements. Public sector enterprises are often expressing their interest in taking minority shareholdings in the concession companies and in joint-venture with private investors. This is already the case in the railways and ports sub-sectors, in which CFM, EP detains minority shareholdings in various concession companies. In this framework, the state is progressively changing its role in sector management away from the direct provision of services and major infrastructure. Following MTC's recent restructuring, the Directorate for Economics is responsible to carry out the economic regulation of the transport sector. However, in a more transaction-determined environment, the various functions through which the State discharges its role in the sector need to be made more explicit, if private participation is to be secured and, indeed, sustained. These functions typically involve the unbundling of the role of the State as a policy-maker, formulator of development strategy, conceding authority, shareholder, supervisor of concession contracts, technical regulator, interpreter of concession agreements, settler of disputes under concession agreements, and economic regulator. This component would include studies for the development of a regulatory framework for the transport sector. This framework would cover economic and technical regulation aspects. The economic aspects of transport sector regulation would be addressed under a study for the development of a regulatory agency at the level of MTC, covering the various transport sub-sectors. Finance would also be provided under this component for the provision of equipment and technical assistance services to enable the launching of the agency. The technical regulation aspects, with specific sub-sector attributes, would be addressed through the provision of technical assistance and equipment to Instituto Nacional de Aviacao Civil (INAC) (civil aviation) and of technical assistance to CFM, EP (railways and ports). Inputs for this component would comprise consultancy services, technical assistance, and office equipment. Base cost of the component is estimated at US$7.2 million to be financed by IDA (6% of the Project cost). Tertiary Ports. This component would include rehabilitation works for the small ports of Angoche, Macuse, Mocimboa da Praia, and Pebane and a feasibility study for the revitalization of the port of Inhambane. Summary preliminary results of the revised economic analysis for the four tertiary ports suggest economic viability of the proposed investments. The revised estimated values for the EIRR reflect revised traffic projections and capital cost estimates in line with the highest bid received during the tendering process undertaken on a turn-key basis. Consultant services would also be provided under the component for the supervision of civil works in the four ports and for the preparation of a study on the revitalization of the Inhambane Port. Inputs for this component would comprise consultancy services and civil works. Base cost of the component is estimated at US$9.0 million to be financed by IDA (8% of the Project cost). 2. Key Policy and Institutional Reforms Supported by the Project: The focus of the Project is on institutional reform. Key institutional reforms comprise: (a) private sector participation in the operation and management of the sea ports, railways, and airports; (b) staff rationalization including setting up of a pension fund for the ports and railways staff and institutional arrangements for the counseling, retraining, and redeployment of redundant staff; (c) corporate restructuring of CFM including creation of a holding company and a number of specialized subsidiary companies; (d) restructuring of MTC and enhancement of its conceptual and analytical capacity; and (e) establishing a regulatory framework and appropriate regulatory bodies. 3. Benefits and Target Population: The restructuring of CFM and the concessioning of the three port-railway systems are expected to lead to a quantum jump in the operating efficiency of the ports and the railways and the quality of service provided by them and, consequently, the ports and the railways are expected to attract the traffic from the neighboring countries for which they hold an advantage over the other ports and other modes of transport. The concessionaires would also be expected to respond quickly to the changing market conditions. A point of reference for the level up to which the traffic can increase is provided by what was carried by the three systems prior to the conflict, i.e., 15 million tons for the ports and 13 million tons for the railways in 1975. Even though the regional traffic has increased at the cost of overseas traffic in the recent past, particularly after the dismantling of apartheid in South Africa, any traffic projections for the port-railway systems in Mozambique will need to consider the changes that have taken place in the region since the 1970s, particularly the following: (i) exports of coal, minerals, agricultural products, and  -8- manufactured goods have gradually increased in the recent past and, with the privatization of major industries in almost all the countries of Southern Africa, this trend is expected to get a big boost; and (ii) with the liberal policies being followed by GOM, the exports and imports by Mozambique itself are expected to increase manifold. Taking these changes into account, it appears realistic to project that the traffic on the three port-railway systems in Mozambique could increase at least to ten and seven million tons for ports and railways respectively within four years of the Project commencement, i.e., by the year 2002. This increase in traffic would also translate into an increase in the gross revenues from the three systems from the current level of US$80.0 million equivalent to about US$150.0 million equivalent. While the traffic is projected to increase, both the direct and shared costs per unit of traffic are expected to decrease substantially. With the involvement of the private sector in the operation and management of the ports and railways, both equipment and human resources are expected to be utilized intensively, overheads brought down to the minimum, the infrastructure maintained to standards adequate for the business on hand, and all kinds of waste completely eliminated. While direct costs will be reduced due to increased productivity and efficiency, shared costs per unit will also be reduced substantially both due to reduced costs of maintenance and these being shared by a larger volume of traffic. The increase in the volume of business and the reduction in operating costs is expected to result in benefits discussed below. Increase in GOM's Revenue. GOM's revenues are expected to increase (i) directly through increased income tax on profits of the concessioning companies and joint ventures as well as custom duty on increased imports of Mozambique, and (ii) indirectly through a right to a major share of CFM's increased earnings from concession fees, lease and hire charges for locomotives/wagons/real estate/other assets, rent from land and buildings, and dividend in proportion of CFM's equity in the joint ventures. CFM's earnings are expected to be in the region of about 20% of gross income of about US$150.0 million, i.e., about US$30.0 million. The allocation of this income between CFM's expenses, the provision for future replacements of assets being CFM's liability under the concession agreements, and the dividend to GOM would be deterrnined by a comprehensive Perforrmance Agreement that CFM and GOM are in the process of negotiating. Reduced Cost of Transport for the Neighboring Countries. The costs of overseas imports/exports for the neighboring countries of Zimbabwe, Malawi, Swaziland, South Africa as well as Zambia and the Congo are expected to reduce substantially as a result of: (i) the reduced distance for surface transport, the ports in Mozambique being the nearest to these countries; (ii)the shift of considerable percentage of traffic from road to rail, the rail tariffs being lower than those for the road; and (iii) the expected reduction in port charges and rail tariffs by the concessionaires with a view to pass on some of the gains of increased productivity to the rail and port users. Reduced Cost of Transportfor the Mozambican Traffic. The costs of Mozarnbican traffic, overseas, regional or local, will also reduce substantially as a result of: (i) more intensive use of the rail mode of transport; and (ii) expected reduction in port and rail tariffs by the concessionaires in order to increase their share of traffic. Reduction in GOM's Financial Risk GOM's risk arising from the operation of the ports and railways will become almost nil since the concessionaires will be committed to the maintenance of the infrastructure for the term of the concession and will absorb the commercial risk. 4. InstitutionalandImplementationArrangements: Implementation Period: Five years (January 1, 2000 to December 31, 2004). Executing Agencies: These comprise: (a) The Ministry of Transport and Communications (MTC) for components pertaining to the MTC's Restructuring and Capacity Enhancement, Regulatory Framework, and Tertiary Ports Rehabilitation, and (b) CFM for components pertaining to the Concessioning of the port-railway systems; Staff Rationalization including staff retrenchment, staff retraining and redeployment, social mitigation, and establishing a pension Fund, and the corporate restructuring of CFM. Procurement Arrangements. (Details are at Annex 6, procurement arrangements - Table A; Prior review thresholds- Table B). The main features of the procurement arrangements are as follows (values within  - 9 - parenthesis indicate the approximate value of goods/works/services proposed to be obtained through the specified procurement method and are inclusive of physical and price contingencies): (a) Civil works would be procured through International Competitive Bidding (US$5.0 million), National Competitive Bidding (US$4.0 million), and Direct Contracting (US$0.5 million). (b) Goods would be procured through International Competitive Bidding (US$1.0 million), National Competitive Bidding (US$1.0 million), and Shopping (US$0.4 million). (c) Consultants' services would be procured through Quality and Cost Based Selection (US$1 1.0 million) and Selection Based on Quality of Consultants (US$5.5 million). (d) Training and retraining of retrenched staff would be procured through Quality and Cost Based Selection (US$2.4 million), Selection Based on Quality of Training Institutions (US$1.0 million), and Internal, i.e., within CFM's training institutions (US$1.0 million). (e) US$87.0 million will be disbursed towards severance payments directly by CFM. Disbursement Arrangements. (Details of arrangements are at Annex 6 and the allocations of the proceeds of the credit atAnnex 6- Table C). The proceeds of the IDA credit of US$70.0 million will be disbursed over the five- year Project period, i.e., from January 1, 2000 to December 31, 2004. A period of six months will be allowed after the closing date to enable disbursements for expenditures incurred prior to the closing date. The annual estimated disbursements are indicated in a table on the first page of this Document. Accounting and Financial Reporting Arrangements. CFM and Cabinete de Projectos Maritimos, Ministry of Transport and Communications (GAPROMAR) will maintain accounts and records in accordance with Mozambique and International Accounting Standards. Separate financial accounts will be kept for the Project, using accounting procedures and systems acceptable to IDA. Special accounts and all disbursements under Statements of Expenditure will be audited annually. Project accounts will be audited annually by an independent auditor acceptable to IDA and an annual audit report will be submitted to IDA within six months of the end of each fiscal year. D: Project Rationale 1. Project Alternatives Considered and Reasons for Rejection: The following two alternatives were considered and rejected: (a) two separate projects following one another, the first dealing with the restructuring of CFM, rehabilitation, and efficiency improvement, and the second dealing with the privatization of the remaining corridors; and (b) three separate projects, one for each of the three port-railway systems. The rationale for the first alternative is that a restructured and improved railway could prove to be more attractive to potential concessionaires leading to a higher value of the concession overall. This alternative was, however, rejected for two reasons: (i) the concessioning of the three port-rail systems is already well advanced; and (ii) experience of previous similar approaches has not been very satisfactory. Most of the past railway and port projects focused on rehabilitating infrastructure, creating adequate operational capacity; developing operations and management support systems, limited organization restructuring, staff and assets rationalization, performance indicators; and performance contracts between the railways/ports and the governments. Even so, these projects generally failed to improve the railway/port performance. In most cases, the railway/port performance actually deteriorated to such an extent that the railways' revitalization at a later stage became more difficult and expensive. The strategy adopted under the Project is to implement the two main activities, viz., the concessioning of the ports and railways and restructuring of CFM and retrenchment of surplus staff, in parallel. This will result in the concessionaires not being burdened with the issues of staff rationalization and thus enhancing the value of the concessions. This will also leave the government free to develop their own timetable for implementing the restructuring and staff rationalization plans.  - 10- The main advantage of the second alternative could have been to focus on each port-rail system separately along with their impact on the neighboring countries, even to the extent of considering a joint concession for the two sides of the corridor. However, given the fact that most restructuring, staff rationalization, and other issues are common to the whole CFM and that the private concessioning of the individual port-rail systems can still be considered independent of each other, there was not much merit in considering this approach. 2. Major Related Projects Financed by the Bank and/or Other Development Agencies (completed, ongoing and planned). Latest Form Sector Issue I Project 590 Ratings IP iDO Bank-Financed Restructuring and privatization of the port Maputo Corridor Revitalization S S terminals and port services in the port of I Technical Assistance Project Maputo and the linked rail systems. (Cr. 2454 MOZ). Rehabilitation of the infrastructure and assets in Beira Transport Rehabilitation S the port of Beira and the linked rail systems. f Project (Cr. 2065-MOZ). R S IP/DO Ratings: HS (Highly Satisfactory), S (Satisfactory), U (Unsatisfactory), HU (Highly Unsatisfactory) Other Development Agencies (a) KfW - Rehabilitation of the energy system in the port of Maputo, supply and commissioning of equipment for bulk handling, rehabilitation of Port of Quelimane; (b) CFD - Rehabilitation of the Nacala rail system; (c) EU - Rehabilitation of stations and water tanks for the railway system; (d) Portuguese Cooperation - Nacala railways; (e) ODA/KfW - Rehabilitation of Matola Oil terminal, Limpopo line, Grain terminal at Matola and Quelimane; (f) Italy - Rehabilitation of Boane-Machava line; (g) NORDIC - TA for Beira Corridor Authority; (h) DGIS - TA for Beira Corridor Authority; (i) DANIDA - TA for operation of tug boats; (j) SIDA/FINNIDA - Acquisition of container equipment; and (k) NORAD - Rehabilitation of port of Beira, and TA for CFM (N). 3. Lessons Learned and Reflected in the Project Design: Lesson 1: With Government-appointed managers managing without adequate authority, and continuing Government interference in their management, most railways and ports in Sub-Saharan Africa, with only a few exceptions, have been unable to become financially self-sustaining or sustain financial sustainability, if achieved. To enable the railways and ports to become financially viable and self-sustaining, the Project would focus on private sector involvement in ports and railways through long-term concession agreements. Lesson 2: Every railway and port in the Sub-Saharan African region is overstaffed, some even to the extent of about 200 to 300%. Whether managed as it is or through private participation, the railways and ports are unlikely to become financially viable unless surplus staff is retired/retrenched. Even though politically unpleasant and difficult to implement, the Project would be designed with staff rationalization as one of the key components. Lesson 3: Massive investments in infrastructure, locomotives, rolling stock, and communication systems have generally been ineffective in improving reliability or efficiency because the investments were not always directed at  -11 - removing the most critical constraints. The Project would, therefore, require that future investments in railways and ports are linked to firm government plans for the concessioning of the port-railway systems and that the selected private concessionaires share the risk in proportion to their equity. Lesson 4: A change in the legislative framework which affects the railways and ports is important as most past legislation is generally restrictive of their autonomy, particularly with regard to its organizational restructuring, commercialization, and privatization. In the case of CFM, modifying the legislative framework would be particularly essential in view of the proposal to restructure CFM to separate the corporate from commercial and operating functions and to establish a holding company to take responsibility for commercial functions. 4. Indications of Borrower Commitment and Ownership: (a) The borrower, in fulfilling one of the conditions for the release of the third tranche under the Second Economic Recovery Credit (SERC), submitted to the Bank a Restructuring Plan for CFM which committed GOM to wide-ranging actions aimed at staff and asset rationalization, organizational restructuring, private participation in the management and operation of ports and terminals, sale of redundant assets, and intensive collaboration with neighboring countries. (b) The whole staff rationalization program has been designed by CFM including, inter alia, the number of staff to be retirediretrenched, pension supplements, severance payments, assistance package for facilitating transition, and other benefits. During the design process, CFM has kept MTC and MPF informed and obtained their approval. (c) The borrower, in an address before the Consultative Group Meeting in Paris on April 18, 1996, confirmed its commitment and outlined the basic option for involving the private sector in ports and railways. (d) CFM with the approval of GOM has already entered into several concession agreements for the provision of port services in the ports of Maputo and Beira and these concessions are operating generally satisfactorily. (e) GOM has already successfully implemented the Maputo Corridor Revitalization Project (MCRP) and signed MOUs for the award of concessions for the port of Maputo and the rail systems within the Maputo corridor. (f) GOM has further committed itself to a comprehensive restructuring of CFM and extensive private participation in the management and operation of all ports and railways in Mozambique in the Policy Framework Paper of February 1998. 5. Value Added of Bank Support in this Project: IDA has aleady assisted GOM/CFM in: (a) improving CFM's performnance through two Projects mentioned in paragraph 2, Section D; (b) clarifying and concretizing the concepts behind restructuring; (c) providing continuous analysis of project features; (d) coordinating with the donor agencies to develop an integrated approach towards the rail and port sub-sectors through non-lending operations. By continuing its involvement in extending its assistance to the areas not covered under the two previous projects and by extending the recommendations and experiences of MCRP to the other two port-rail systems, IDA would be able to assist GOM and CFM in consolidating this process, and would also help ensure appropriate incorporation of lessons from other regional railway projects. IDA is also supporting similar restructuring, revitalization, and privatization projects in the neighboring countries of Malawi, Zimbabwe, and Zambia and would be in a position to help Mozambique as well as the neighboring countries reach a common understanding for the efficient management of the rail corridors in the region. E: Summary Project Analysis: (Detailed assessments are in the projectfile, see Annex 8). 1. Economic Analysis (supported by Annex 4b): [X] Cost-Benefit Analysis: []Cost Effectiveness Analysis [1 Other (specify): NPV (@ 12%)=357.0 million; EIRR= 52% for the railways and Ports Privatization and Restructuring Program NPV (@ 12%)=40.5 million; EIRR= 25.9% (weighted by investment) for the IDA-financed components. For purposes of economic assessment, a benefit-cost analysis was carried out for the proposed main railway and port privatization/restructuring program, as a whole. Specific economic assessments were also carried out for the programs for staff rationalization and the investments in the tertiary ports, these being the main components to be  -12- financed under the Project. A discount rate of 12% was used throughout the analysis, since this is the value assumed for the opportunity cost of capital in Mozambique. Benefits from the overall program for railway and port privatization and restructuring are mainly expected to be derived from: (i) the incremental revenue gains from transit traffic; (ii) the cost savings in shipping for Mozambique trade; and (iii) the avoided road transport costs resulting from a more efficient private railway operation. Additional benefits would accrue from the marginal productivity of retrenched CFM staff elsewhere in the economy. The matching cost streams would comprise: (a) the incremental investments costs to be borne by the concessionaires; (b) the costs incurred by CFM in the concessioning/restructuring process; (c) the costs to GOM from the development and operation of the regulatory framework and of needed institutional strengthening; and (d) the training costs for surplus CFM staff. The economic NPV, over 20 years (the period of the concessions), is estimated at some US$357.0 million and the EIRR at 52%. Since almost 80% of quantified project benefits would accrue from transit traffic, the key assumption of the analysis is the corresponding growth rate. For the first ten-year period of the analysis, this rate was forecasted at 10% p.a. under private concessioning, as compared to 5% in the "without-project" scenario However, results of sensitivity analysis show that, in case traffic would grow by only some 7.5% p.a. (in the "with-project" scenario) or the increment in the growth rate would be limited to 2.5% (rather than 5%), the estimated EIRR would still be above 30%. Direct benefits from the IDA-financed staff rationalization program would basically be derived from the marginal productivity value of CFM's retrenched staff. These benefits were estimated on the basis of: (a) the marginal productivity value of the foregone staff cost to CFM; and (b) the marginal productivity of retrenched staff elsewhere in the economy. Estimated benefits were matched against the costs of the staff rationalization program, including those for severance payments (both statutory and incremental), staff training, as well as social mitigation. The statutory payments to the retrenched staff were assumed as costs in the economic analysis to reflect their opportunity cost in the highly-constrained budget situation faced by Mozambique. The economic NPV, over a 20-year period, is estimated at about US$33.0 million and the EIRR at 25%. The underlying key assumption, based on a sample survey, is that about 48% of the staff, after early retirement or retrenchment, will be able to get redeployed after appropriate skill upgrading. Results of the sensitivity analysis also indicate that, even if in the extreme case the marginal productivity of retrenched staff would be nil, EIRR would be above 12%. Risk analysis was also carried out using Monte-Carlo simulation. Since the simulation model has the capability to inter-link the various programs subject to specific economic analysis, the simulations were jointly carried out. Four key variables, and the associated probability distributions, were selected in order to factor uncertainty into the analysis. Overall, the results of the simulation analysis show that the risk that the estimated EIRRs would not be achieved is higher for the SRP (66%) than for the overall program for privatization and restructuring (52%). In any case, it is most unlikely that any of the evaluated programs would yield an EIRR below 12%, except for the labor retraining program which has a certainty of level of only 87%. This component needs to be carefully monitored during implementation, particularly in terms of the cumulative number of displaced CFM workers finding alternative productive activities and their net-incomes thereof. For the physical investments in tertiary ports, the combined estimated economic NPV is US$7.5 million, with individual EIRR ranging from 63% at Pebane to 12% at Macuse. Benefits from the proposed investments are mainly derived from reduced ship stay at port, and avoidable road transport costs for export movement through ports. Additional benefits are likely to accrue in the form of generated exports for which alternative routes would not be economically feasible in view of the high proportion of inland transport costs to be incurred. These benefits are, however, difficult to estimate and they have not been considered into the analysis. The consolidated NPV for the IDA-financed components, i.e., staff rationalization and tertiary ports rehabilitation, weighted by investments, is US$40.5 million and the EIRR is 25.9%. 2. Financial (see Annex 4c): NPV = US$158.0 million. FRR = N.A.  - 13 - CFM's financial position has progressively weakened in the past. Over the most recent four-year period (1994- 1997), CFM has incurred net losses between US$3.5 and US$76.2 million (after taking into account depreciation). A revaluation of assets was carried out in 1995 leading to provisions for depreciation of about US$60.0 million a year and thus increasing book losses. Moreover, CFM has been paying about US$ 3.5 million annually in salaries for retired staff, whose papers have been under process for over three years in the Ministry of Planning and Finance, and has been undertaking public service obligations (provision of water and energy to a number of cities) to the extent of US$10.0 million per year. As a result of all these factors, CFM has not been able to properly compensate its capital providers nor carry out reinvestments. The effect has been a progressive decapitalization of the company, continuous implicit (non-cash) Government subsidies and virtual absence of major reinvestment reflecting its financial decapitalization. The principal financial objective of CFM' s restructuring is to establish long-term sustainability of the company by reduction of its surplus staff costs, increase of revenues from concessioned operations, debt restructuring, and creation of an adequate investment reserve. This would halt the company's decapitalization, reduce or eliminate the implicit Government subsidy, ensure adequate reinvestment and replacement of infrastructure, and lay the basis for eventual appropriate remuneration of capital. Financial projections have been carried out to assess the impact of CFM's restructuring program on its future financial position. Measures of particular significance include the concessioning of CFM's main operations in the three transport corridors, and the staff retrenchment program. The projections demonstrate that under the assumptions of the base case the annual average deficit would be reduced to about US$3.0 million. While this would still imply an implicit (non-cash) Government subsidy, it would be considered tolerable given revenue levels approaching US$100.0 million over the concession period. The computation of depreciation (about US$60.0 million) is estimated on the basis of all infrastructure assets currently in CFM's books. Eventually, the asset base could shrink as some of the assets are given up subsequent to concessioning and some others are not required to be maintained to the current technical standards. This would lead to the reduction of the level of depreciation. The restructuring program can, therefore, be expected to lead to positive financial results and achieve CFM's sustainability if: (i) CFM is relieved and/or properly remunerated for its social service obligations, and (ii) a careful review of railway and port infrastructure results in lower replacement needs and depreciation than currently estimated. Achievement of financial sustainability would also depend on restructuring of CFM's accumulated debt which needs to be determined by the arrangements of the performance contract with the Government. The financial cost-benefit analysis focused - like the financial projections - on the issue of CFM's long-term financial sustainability. It, thus, assessed the net benefits generated for CFM from the restructuring process. The "with project" situation is based on the assumptions underlying the financial projections and includes taxes paid by CFM. The "without project" situation is based on the traffic volume, revenue, cost, and investment assumptions used in the economic analysis without economic adjustments, and without taking into account certain economic benefits (avoided road transport costs, marginal productivity of retrenched workers). While the FRR was not calculable due to positive net benefits in the first years, the NPV for CFM at 12% amounts to US$158.0 million. A sensitivity analysis was carried out to assess the effects of different assumptions for the pace of concessioning, debt reduction, and depreciation on CFM's financial sustainability as measured by the average annual deficit. It showed that average annual deficits would increase to levels between US$12.0 million and US$5 1.0 million if concessioning were not carried out or implemented slowly, or long-term debt were only partially restructured. On the other hand, average annual profits of US$14.0 million could be achieved if infrastructure reinvestment, i.e., depreciation were reduced by about US$20.0 million p.a. A Monte-Carlo simulation showed that changes in market conditions for concessionaires (i.e., variations in realized rail and port traffic) would be unlikely to have a substantial impact on CFM's financial results. Even in the base case, i.e., with slight average annual deficits, CFM will generate cash surpluses which could be a source for replacement investment to be carried out by CFM. However, since this investment is expected to be considerably lower than annual depreciation until about 2010, substantial cash surpluses would be kept as savings  - 14- for a long period. One option considered by CFM is that of a dedicated Infrastructure Reserve Fund (IRF) ensuring availability of resources as needed. The other option would be to maintain a relatively small IRF, enough for emergency rehabilitation, and to transfer the remaining surplus to GOM, in which case GOM will have the responsibilities of mobilizing resources for future rehabilitation of assets. 3. Technical Assessment and Issues: Infrastructure Standards. The setting of standards has a direct implication for the operating costs, the concession fees, and the overall financial viability of the rail and port systems. Higher standards often mean higher cost of maintenance, more investrnent on expensive track maintenance equipment, and higher provision for depreciation without any appreciable impact on revenues. Use of standards that are appropriate for the service proposed to be provided could lead to considerable cost savings. Under the Project, emphasis would be on defining the minimum safety and environment-related standards and the concessionaires would be left free to decide on the operational standards such as the speed of trains in relation to the traffic requirements. Compliance with Standards. Provisions will be made in the concession agreements for periodic independent inspections including use of computerized track recording cars to assess the degree to which the standards are being maintained and linking the quality of maintenance to penalties/rewards. Accident Investigations. Provisions will be made in the contract for independent investigation of accidents, at least for those accidents where public property is involved. 4. Institutional Assessment and Issues: CFM's Authority to Award Concessions. CFM was established with a broad mandate to exploit the potential of the port-railway systems in Mozambique. This was akin to making CFM a sort of Master Concessionaire, the terms of the concession being left to be decided through periodic "Performance Agreements" between CFM and GOM. The decree establishing CFM also gave it wide powers to enter into any type of contract with anyone with GOM's approval in order to achieve its broad mandate. The contracts mentioned in the decree are not spelt out but can be interpreted to include concessions, sub-contracts, and joint ventures. The preliminary analysis of the consultants also supports the interpretation that: (a) CFM has the legal authority to award concessions with GOM's approval; and (b) CFM can be a partner in the concessions if there is advantage in doing so. The conflict, that is apparent in CFM awarding the concession as well as being a part of the concession, has been sought to be minimized by ensuring that: (i) CFM remains a minority shareholder; and (ii) the regulatory body proposed to monitor the implementation of the concession contracts is independent of CFM. CFM's Role and Structure after Concessioning After the concessions for the Maputo, Nacala, and Beira port- railway systems have been awarded and the responsibility for the operations and management of these port- railway systems passes to the concessionaires, the existing zonal CFM management would have to be right-sized. CFM at the central level would, however, continue to focus on the following functions: (a) disposal of surplus assets including the leasing of operating assets to the concessionaires; (b) exercising landlord functions (property management); (c) retirement/retrenchment of surplus staff; (d) shouldering of the responsibilities of a minority (33%) shareholder in various concessions; and (e) management of the income from operations, concessions, leasing of assets, and dividends as well as CFM's liabilities. To manage these functions effectively, the restructuring of CFM envisages the establishment of a holding company with the original CFM focusing on strategic issues and the holding company on commercial and operating issues. Role of SADC. Southern Africa Transport & Communications Commission (SATCC), the specialized body under Southern Africa Development Community (SADC) to deal with transport issues, has been supportive of the need to privatize the railways and ports and has in recent times advised the different railways in the region to implement Railways and Ports privatization programs. The Bank has been in regular touch with SATCC and would ensure their participation at all stages of the Project.  - Is - Linkages to Neighboring Countries. It is evident that, for optimal results, the railway systems in the neighboring countries which use the port-railway systems in Mozambique would have also to improve their performance. While Zimbabwe, Zambia, and Malawi have initiated action towards privatizing their railways, others - Swaziland, South Africa - could probably take a little longer. Eventually, all railways are expected to be concessioned and that would ensure an overall increase in operating performance. The neighboring railways need to reach agreements on: (i) accessing each other's markets through agreements on haulage and track usage charges; (ii) sharing each other's facilities, particularly the expensive ones; and (iii) developing a common marketing and pricing strategy. The Project would include components to facilitate development of such mutually-beneficial agreements. Donor Agencies. As is clear from paragraph 2, Section D, a large number of donor agencies have provided assistance to CFM in the past and still continue to maintain their interest in the revitalization of the ports and railways in the country. However, no donor agency is involved in co-financing the Project even though they remain supportive. Regulatory Framework. The implementation of an autonomous regulatory body with supporting regulatory framework is essential to ensure that the concession agreements are implemented correctly and rigorously. To avoid excessive regulation, the concession agreement will be developed so as to specify all possible details and leave very little to the subjective interpretation of the regulatory body. The task of the regulatory body would then be to enforce what has already been agreed to. Consultants will soon be engaged to develop a regulatory framework for the surface transport as a whole. Special attention would also be put in avoiding "ex-ante" regulatory capacity through redeployment of staff from executing to regulatory functions. 5. Social Analysis and Issues: The program of staff rationalization was designed by CFM with the assistance of external consultants and after consulting staff and their union representatives. Even so, with a view to better understand the staff perceptions pertaining to the upcoming staff retrenchment, their fears and concerns, and the type of assistance that, in their view, could soften the economic and even more traumatic social consequences of retrenchment, a comprehensive and wide-ranging staff survey was undertaken by a different external consultant. This survey, undertaken during the months of October and November 1998, involved a large representative sample of CFM workers (n--3020) in the four Executive Directorates (South, Center, North and Zambezia) and was probably one of the most comprehensive socio-economic surveys undertaken in Mozambique. The results of the survey, while confirming several key assumptions/perceptions, also produced some surprises. The main assumptions to be confirmed were that: (a) a sizeable proportion of CFM staff are unlikely to be psychologically prepared to handle the impact of early retirement/retrenchment; and (b) there are distinctive differences between staff perception in each of the four principal zones - the South, Center, North and Zambezia. The surprise finding was that a large proportion (42%) of the staff indicated during the survey that they would prefer to be retired/retrenched than to maintain their current jobs. The survey also established that the social consequences of retrenchment could in most cases be as traumatic as the economic consequences, sometimes even more. The survey results would be used by CFM to: (a) refine the staff retraining and redeployment program that has already been outlined; and (b) build into the program additional measures for assisting staff in appropriately managing the social consequences of retrenchment. The extended program would, henceforth, be referred to as the Staff Redeployment and Social Adjustment Program or SRSAP. Two main recommendations of the social impact analysis are that: (a) an accurate and coordinated information dissemination campaign needs to be undertaken by CFM; and (b) CFM needs to make arrangements for appropriate and sensitized counseling.  -1 6- Annex 1I deals in detail with: (a) the social costs and benefits of retrenchment; (b) a socio-economic profile of the retrenched workers; (c) the reactions to the prospect of imminent retirement/retrenchment; (d) the regional differences and their policy implications; and (e) the recommendations thereof. 6. Environmental Assessment: Environmental Category [ i A [X] B [] C An Environment Management Plan (EMP) has been prepared by CFMIGOM with assistance from external consultants, who undertook an extensive environment audit of the port-railway systems in the country. The EMP has been prepared, taking into account the safety- and environment-related regulation included in Mozambique's transport sector policy and the Railways-related legislation. EMP would form an integral part of the Performance Agreement to be signed between GOM and CFM and all the concession contracts. The progress of implementation would be periodically reviewed. The concessionaires would be required to make specific allocation of funds for procurement of safety- and environment-related equipment for the railways and the ports, and for technical assistance and consultancy studies, if required. The operating costs towards implementation of EMP would be required to be provided by the zonal CFMs/concessionaires. 7. Participatory Approach: Participatory Approach Preparation Implementation Beneficiaries/Community Groups Formal survey Regular consultation Intermediary NGOs Informal Consultation Regular consultation Academic Institutions Local Government Consultation/Collaboration Consultation/Collaboration Donor Agencies Consultation/Informnation Consultation/Information Trade Unions Consultation Consultation F: Sustainability and Risks 1. Sustainability: The long-term sustainability of the port-railway systems in Mozambique would be enhanced under the Project by: (a) the very implementation of the project which focuses on long-term private concessions for the ports and railways in Mozambique: (b) reorienting CFM's remaining operations to their most competitive and productive advantage; (c) balancing the pace of the concessioning process to reflect existing capacity constraints; (d) emphasizing transparency in the selection of the private concessionaire in order to optimize the value of the concession; and (e) addressing implementation issues in sufficint detail in the concession agreements so as to preempt any possible legal action namely by setting a credible, independent, and fast system for the settlement of disputes. The long-term sustainability of operations of the three zonal port-railway systems would also depend upon the efficient operation of the railway systems in the neighboring countries. To ensure this, RPRP would provide assistance to CFM EP in: (a) setting-up institutional mechanisms, one for each of the neighboring railways, to facilitate close coordination among the entities managing the different segments of the rail route; (b) developing agreements between the neighboring railways with regard to using the same, if not similar, rolling stock management systems, each other's workshop facilities; (c) easing transit formalities at the borders; and (d) collaborating in developing and implementing regional marketing strategies.  - 17- 2. Critical Risks: (reflecting assumptions in the fourth column of Annex 1). Risk Risk Rating Risk Minimization Measure The regulatory framework being ineffective in S Technical assistance for the regulatory body, enforcing the terms of the contract. particularly during the early periods of ______________ _ _ implementation. Appropriate institutional arrangements not being M Prejudicial discussion groups to be set-up. in place for quickly resolving any incipient disputes. The neighboring railways performance remains S Operations agreements between the inadequate. concessionaires and the neighboring railways to be encouraged and penalties to be attached to violations. The concessionaires fail to perform adequately or M Close monitoring of concession agreements abandon the concession. Even though the by the regulatory units, which would be concessionaires may be liable under the provided technical assistance for the first few concession agreement, there could be an years of their operations. immediate impact on the transport system, the customers in the neighboring countries, and the revenues and foreign exchange earnings of GOM. The early retirees/staff retrenches, even after M CFM and GOM to meticulously implement: accepting the agreed package, could become (i) the agreements with regard to payment of frustrated in their efforts to find alternative jobs statutory pensions, pension supplements and or self-employment and could start a campaign severance payments; and (ii) the Staff for redress of their problems. This could affect Redeployment and social Mitigation both the concessionaires and CFM. Program. GOM may fail to make adequate budgetary S As for retrenchment payments until they provision for the payment of statutory pensions, reach the normal retirement age, financing which could lead to agitation by the early l I arrangements have been under RPRP. With retirees. | regard to normal pension payments, which XGOM has been finding difficult to finance, l GOM has agreed to undertake a comprehensive pension study for staff of all l public enterprises, including CFM with the intention of establishing an independently- managed pension fund with assistance from I IDA and other donor agencies. Overall Risk Rating. S I- Risk Rating - H (High Risk), S (Substantial Risk), M (Modest Risk), N (Negligible or Low Risk) 3. Possible Controversial Aspects: CFMHolding Equity in the Concessions. CFM being the conceding authority, their equity participation in the company selected for the award of the concession is seen to be causing a conflict of interest. While some conflict of interest is inherent in this arrangement, such arrangements are not uncommon. To minimize the impact of equity participation by CFM, a separate holding company is proposed to be established to take over the operational and commercial functions of CFM as a shareholder of subsidiary and affiliates while CFM, EP would be the conceding authority in charge of the supervision of the concession agreement.  - 18- Staff Redundancy. The level of redundancy being addressed under the Project is large compared to the total formal employment in Mozambique and could have considerable economic and social consequences for staff. Not retrenching the staff has its own economic consequences for the efficient performance of the port-railway systems. While there is agreement on the need to retrench surplus staff, there are differences of opinion on the pace of implementation of the staff retrenchment plans, on the adequacy of the severance packages (considered generous by some and not adequate by others), and some of the measures that CFM wants to take to assist the staff in getting self-employed. In particular, CFM feels that it is duty-bound to assist the staff to get redeployed in all possible ways -- an agreement which is endorsed by all. What is contentious is that CFM intends to establish a Redeployment Fund to assist staff with small projects. As this is a new area, and to allay concerns in this regard, only a few pilot projects would first be undertaken and financed by CFM, and depending on the results of the pilot projects, more projects could be undertaken with financing under the Project. Additionally, given these concerns, emphasis would be laid on dissemination of information and systematic and appropriate counseling of staff and scrutiny of all proposals pertaining to micro financing and small projects. Participation in the Concessions by Local Entrepreneurs. There is some concern by the local entrepreneurs that, being financially stronger, the foreign companies will corner all the concessions and the local entrepreneurs will have no opportunity to grow. To address this concern, GOM may offer part of the 16% minority shareholding to local entrepreneurs at a later date when the stock exchanges are established and effective. Concessionaires Performance. The concessionaires' performance depends to a large extent on the clarity of the concession agreements. The process of negotiation for many of the concessions has been quite difficult and the clauses in the agreement could lead to different interpretations at a later date. The alternative of endless negotiations to make the concession agreements absolutely satisfactory and unambiguous could endanger the possibility of reaching an agreement and also lead to loss of valuable time. A useful step would be to establish non-judicial bodies comprising representatives from the concessionaires, the conceding authority, GOM, and key customers. These bodies could deal with different interpretations in an objective manner and persuade the main players to accept compromises. Efforts at Redeployment of Staff. The staff, in a survey conducted in October 1998, indicated less preference for assistance in training or retraining as compared to assistance for house construction. CFM's view is that their chances for redeployment would increase after training/retraining. The experience worldwide on this has been mixed. It is difficult to settle the difference of opinion on this key issue. As a starting point, the Project has recognized the need for training/retraining but all such programs would be preceded by appropriate counseling and identification of the right training programs. This should hopefully increase the usefulness of training. G: Main Credit Conditions Effectiveness Conditions: (a) CFM has appointed a financial management committee for CFM with terms of reference acceptable to the Association. (b) The Borrower has appointed a financial management committee for MTC, with terms of reference acceptable to the Association. (c) The Borrower has established a project accounting system within MTC for the purpose of Section 4.01 of the Development Credit Agreement (DCA), satisfactory to the Association. (d) CFM has established a project accounting system for the purpose of Section 4.01 of the Project Agreement, satisfactory to the Association. (e) CFM has appointed a financial manager, in accordance with the provisions of Section II of Schedule 3 of the DCA. (f) The Performance Contract between the Borrower and CFM, in form and substance satisfactory to the Association, has been executed. (g) The Subsidiary Agreement has been executed on behalf of the Borrower and CFM. (h) The Borrower has, in accordance with Section 3.05(b) of the DCA, made the initial deposit into the Project Account.  - 19 - (i) CFM has appointed an independent external auditor, in accordance with the provisions of Section II of Schedule 3 to the DCA. (j) The Borrower has adopted a Staff Rationalization Plan, in form and substance satisfactory to the Association. H: Readiness for Implementation (a) The engineering design documents for the first year's activities are complete and ready for the start of project implementation. (b) The procurement documents for the first year's activities are complete and ready for the start of project implementation. (c) The Project Implementation Plan has been appraised and found to be realistic and of satisfactory quality. I: Compliance with Bank Policies This Project complies with all applicable Bank policies. Yash P. Kedia, Team Leader, AFTTI PyusllisR.Pomeraozes, Sector Manager, AFTTI Phyllis R. Pomeranttz, Country Director, AFC02  -20- ANNEXES  -21 - Annex 1: Project Design Summary Narrative Summary Key Performance Indicators' Monitoring and Supervision Critical Assumptions CAS Objective [CAS Objective to Bank Mission] Reduction of poverty through accelerated growth No capital or operating Statistics of the Ministry of Concessionaires will perform in the transport sector to generate employment, subsidy from the GOM to Finance and CFM according to the concession foreign exchange and Govermment revenues CFM agreements through policy reforms, private sector Dividends from CFM to participation, and investments, if necessary. GOM as per the Performance Contract between CFM and GOM Redeployment of at least The probability of redeployment 30% redundant staff after of surplus staff will increase after training, retraining, and training, retraining, and counseling counseling Project Development Objectives [Development Objectives to CAS Objective] The main objectives to substantially increase the The traffic from the Records of the concessionaires The Developmental objectives operating efficiency of the three major port-rail neighboring countries to and the neighboring countries are closely linked to the CAS systems in Mozambique and enable them to exceed 10 million tons (port) objectives increase their share of the international freight and 7 million tons traffic from the neighboring countries. The (railways) by year 2002 increase in freight traffic should enable: (a) The neighboring countries to reduce the surface transport costs of their exports and imports resulting from use of shorter routes, increased efficiency of operations, and use of railways in preference to roads; (b) The concessioned ports and railways to become financially self-sustaining; Baseline and targeted values should be shown, with the latter divided into values expected at mid-term, end of project and full impact.  - 22 - Narrative Summary Key Performance Indicators' Monitoring and Supervision Critical Assumptions (c) CFM to increase its net income (net of its own expenses provision for long-term infrastructure replacement and, consequently, be in a position to pay dividends to GOM; and (d) Mozambique to generate more foreign exchange since the neighboring countries are required to pay in foreign exchange for the use of railways and port facilities in Mozambique. A related and equally important objective is to strengthen the Transport sector policy, the regulatory framework, and the institutional capacity of MTC. Project Outputs [Outputs to Development Objectives] 1. Concessioning of seaports, railways, and airports CONCESSION AGREEMENTS SIGNED Nacala port/railways - 9/99 CFM records and concession Satisfactory proposals from the Beira Rail system - 3/002 contracts potential concessionaires would Maputo port/railways -9/99 have been received - Concessions operationalized Nacala port/railways - 12/99 Beira Rail system - 6/00 Maputo port/railways -12/99 2. Staff Rationalization - Retrenchment/early retirement of surplus 6,000 (cumulative) by 12/2000 staff completed 8,600 (cumulative) by 12/2001 Both CFM and GOM continue to 11,300 (cumulative) by 12/2001 hoth teM of the - Pension Fund established December 2001 Performance Agreement - A functioning Staff redundancy management January 2000 unit - Staff retraining and redeployment completed December 2004 2 The concession for the two main terminals of the Beira port, viz., container and general purpose, has already been signed and is operational.  -23 - Narrative Summary Key Performance Indicators' Monitoring and Supervision Critical Assumptions 3. Restructuring of CFM December 2000 CFM's internal records, CFM - Holding and subsidiary companies June 2001 Board resolutions and incorporated supervision missions Performance Agreement, SIGNING OF THE GOM-CFM supervision mission, and CFM's PERFORMANCE AGREEMENT internal records 4. Institutional Reform - The regulatory framework agreed and the Design by 3/00 Records of the Ministry of regulatory body established Regulatory body - 12/00 Transport, interviews with Reform of MTC December 2001 concessionaires and customers, and Supervision Mission 5. Rehabilitation of tertiary ports completed December 2001 Baseline and targeted values should be shown, with the latter divided into values expected at mid-term, end of project and full impact.  - 24 - Narrative Summary Key Performance Indicators' Monitoring and Supervision Critical Assumptions Project Component Project inputs Supervision and Monitoring Assumptions and risks [Components to Outputs] Concessioning Ports and railways Investment and advisory Bidding / Transaction documents GOM remains committed to services, consultancy studies and study reports concessioning of the port-rail systems: International interest in concessions is maintained STAFF RATIONALIZATION STAFF REDUNDANCY . GOM remains committed to Staff retraining and redeployment Financing of staff severance CFM accounts and supervision retrenchment of staff; payments missions The staff unions accept the Consultancy studies and Terms of reference, study staff rationalization plan and technical assistance reports, supervision missions the retrenchment package Pension Fund Consultancy studies Terms of reference, study reports. supervision missions CFM RESTRUCTURING Consultancy studies, TA and Supervision missions computer equipment MTC Strengthening Transport policy and restructuring of the Ministry Consultancy studies, TA and Supervision missions GOM remains committed to of Transport computer equipment the restructuring of the Transport sector Regulatory reform Consultancy studies and Supervision missions GOM remains committed to computer equipment creating a competitive and a level playing field for all transport modes and a minimal regulation Tertiary ports rehabilitation Civil works, equipment, and Supervision missions consultancy studies Contract supervision Baseline and targeted values should be shown, with the latter divided into values expected at mid-term, end of project and full impact.  -25 - Annex 2: Detailed Project Description The project would consist of the following six main components: (a) Concessioning of CFM Ports and Railways (b) Staff Rationalization Staff redundancy * Staff Statutory Pension Staff retraining, redeployment Social Mitigation Pension Fund Pension Study * Information Dissemination (c) Corporate Restructuring (d) MTC Strengthening Organizational Civil Aviation (e) Regulatory Reform Economic Technical for CFM * Technical for Civil aviation (f) Tertiary Ports * Rehabilitation Contract Supervision Inhambane Port Study The following is a description of the components Component 1. Concessioning of CFM Ports and Railways. (More details atAnnex 2.1 at the end of Annex2). Background. The corporate mission of the restructured CFM is to transform Mozambique's railways and ports into a modem, competitive, efficient, market-driven, financially viable railway and port transport system with sufficient capacity to meet the transport needs of the country and its neighbors. CFM is committed to foster private sector participation as the key to this development. In its new role, CFM would thus act primarily as investor/shareholder, promoter, and developer, and to a much lesser degree than today as operator. Although the transportation sector would remain its main focus, it recognizes that diversification is crucial to its further development, particularly given its vast property assets throughout the country. It thus proposes to enter into joint ventures also in areas such as tourism, transportation-related industries, construction, and real estate development. Status. The current situation and next steps of the principal elements of CFM's concessioning program are summarized below. Concessioning of the Nacala port-railway system including the port terminals, the sea and land-side port services, and the rail systems linking the port of Nacala to the rail system in Malawi. A Memorandum of Understanding (MoU) has been signed with a consortium of private partners and negotiations on the concession agreement are proceeding.  -26- Concessioning of the Beira port-railway system including the port terminals, the sea and land-side port services, and the rail systems linking the port of Beira to the rail system in Zimbabwe. Concessions have been awarded for the operation and management of the container, general cargo, and cold storage terminals. A joint venture for the development of a grain terminal is under consideration. The Machipanda rail line is to be concessioned together with the Sena line, in order to facilitate the mobilization of capital for the rehabilitation of the latter and to derive the advantages of scale through ruming of an integrated system. CFM's target is to start the Sena rehabilitation works by June 2000. No private interest has yet materialized with respect to operation of the maritime services, which for now will continue to be managed by CFM. Concessioning of the Maputo port-rail system, for which the concessioning process was completed under the MCRP. MoUs have been signed with (a) Consorcio 2000 for the concession of the Limpopo and Goba rail links, the marshalling yard, and the workshop; and (b) Maputo Harbor Consortium for the master concession of the port of Maputo and the coal terminal at Matola. Negotiations with Transnet for the concession of the Ressano-Garcia rail link have been canceled on the basis of the last offer, which was considered unsatisfactory. CFM is currently developing alternative options for concessioning of this link. Description. This component would cover the costs of advisory services which CFM may require as conceding authority to design, negotiate, implement and monitor concession agreements. It would also focus on providing advisory services which CFM may need to structure, implement and carry out its new role as equity shareholder in concessions and joint ventures. The component would provide assistance in areas relevant for concessioning and joint-venturing, such as legal assistance for preparation and negotiation of concessions, articles of incorporation and shareholder agreements, as well as for contract interpretation and dispute resolution;, assistance in questions of finance, accounting, asset valuation, and resource mobilization; assistance in specialized technical matters, including those pertaining to the environment; and assistance in market intelligence and assessment. Assistance under the Project. The allocation of total cost for this component is US$ 1.0 million (about I% of the Project cost). Component 2. Staff Rationalization Studies show that CFM, with the current staff strength of nearly 19,200, is grossly overstaffed. As a result, average labor productivity indicators in both the Railways and Ports sectors are below CFM's targets. Based on a detailed staff inventory and functional analysis for each port-railway system, the staff requirements have been estimated to be about 7,000, leaving a surplus of close to 12,200. However, to avoid over or under retrenchment, it is intended that the potential concessionaires would be given the first right to select staff from the existing CFM pool according to need and the staff not selected would be deemed surplus. The actual number of staff to be retired early or retrenched would, therefore, be known only after the selected concessionaires have made their choices. In order to minimize the adverse impact of involuntary separations of such a large number of surplus staff, the Government of Mozambique and CFM have developed a staff rationalization program that offers: (a) specially designed retirement and retrenchment packages; (b) redeployment support to help workers find alternative jobs or become self-employed; (c) social mitigation measures; (d) to create a pension fund for the remaining CFM employees; (e) a comprehensive pension study for all public enterprises including CFM: and (f) an angements for timely dissemination of information to all concerned.  -27- Staff Redundancy Of the 12,200 surplus staff, close to 9,400 joined CFM before 1989 when CFM became autonomous and are governed by civil service regulations. The remaining 2,800 or so were hired after January 1989 and are governed by existing labor law. CFM has designed separate packages for both categories of staff and has secured union agreement to the contents and timing of the redundancy packages by providing financial incentives and assurances about the availability of funds, both from the Government for the payment of legally acquired pension rights and from IDA under the project for those components which are retrenchment-related and exceed normal pension claims. (i) Retirement Packages for Staff Governed by Civil Service Regulations Normal retirement: Normal retirement is applicable to staff who have reached the age of 60 for men and 55 for women, or those who have completed 35 years of service. In addition to normal pension entitlements, CFM has agreed to pay six months basic salary on a lump-sum basis to provide income support for workers during the transition period during which the regular pension entitlements are being computed and processed. Early retirement: Existing pension rules allow for voluntary early retirement for employees with a minimum of 15 years of service. However, staff have not made use of this option given the loss of pension benefits. In view of this, CFM has developed supplements in addition to the normal pension entitlements payable by the Ministry of Planning and Finance (MPF) (according to existing pension rules) as per the formula agreed with the unions (Table 1). The early retirement incentive will also cover employees who do not meet the minimum 15 years of service to qualify for early retirement, and payment of the monthly pension contribution (7% of basic wages) up to 15 years of service would be paid by CFM to the Government of Mozambique (GOM). In addition, early retirees would receive six months basic salary to provide transition support. Pending the establishment of the pension fund (see below), the net present value of the supplementary pension would be paid either as lump sum or in installments not exceeding the project implementation period. Table 1 Item No. Service Total Pension 1. Between 31 and 35 years 100% 2. Between 26 and 30 years 90% 3. Between 21 and 25 years 80% 4. Between 15 and 20 years 70% 5. Less than 15 years 60% (ii) Severance Packages for Staff Governed by the Labor Law As per the labor law (Article 26), CFM must compensate redundant staff according to the following criteria: (i) in the case of contracts for a definite period, the compensation must correspond to the remuneration up to the time foreseen in the contract; and (b) in the case of contracts for indefinite periods, termination benefits for staff over three years of service amount to three months salary for every two years of service. The negotiated package increases this amount to six months salary for every two years of service. Staff in this category will receive six months salary on a lump-sum basis as income support during the transition period. Assistance under the Project. All payments to retrenched staff except for pensions payable on their reaching the normal age of retirement would be covered under the project. These would comprise: (a) statutory pension payments for early retirees until they reach the normal retirement age; (b) the pension supplement to make the severance payments more attractive to the retrenched staff; (c) severance payments to staff who joined CFM after 1989 and are not considered belonging to the civil service and are not entitled to pension; and (d) transition payments to all retrenched staff. The NPV of these payments is estimated at US$84.0 million (70% of the Project cost), the estimate for the statutory payments being about US$60.0 million. Agreement has been reached with CFM that staff accepting any of the above packages would not be re-employed by CFM.  -28- Staff Redeployment A staff redeployment program has been developed to help staff deal with job loss, counsel them on individual options available, and provide support in labor-market integration or setting up of small businesses. A small technical unit in CFM will be created to manage the staff rationalization program including the development and implementation of the redeployment program. The unit would comprise a unit head, a social scientist, a psychologist, two economists, two engineers, one administrative accountant, a few field counselors, and other specialists as deemed necessary. The unit is envisaged for a period of five years but the initial contracts for its key members would be for a period of two years. CFM is developing the design and set up of the technical unit, preparing job descriptions for its members, and defining criteria for the preparation and appraisal of pilot projects as well as a supervision and monitoring system. In developing the redeployment program, the unit would make use of the survey that was carried out by a consultant of 3,020 randomly selected CFM workers across all four regions. The objectives of the survey were to assess the demand for different types of redeployment support and identify the main target groups for receiving support. The survey shows that workers have most interest in obtaining basic business training to help start up their own businesses as well as agricultural assistance. Regional differences in attitudes and expectations will be taken into account in developing the detailed options. (i) Counseling and Employment Services The transition from many years of wage dependency to a life of self-determined survival will be traumatic for many CFM staff. Counseling would aim to: (a) inform workers about the various retrenchment packages and their legal rights; (b) provide financial counseling to help workers decide how best to utilize the packages; (c) explain the redeployment options including skills and business training opportunities, micro-financing sources, and employment opportunities; and (d) deal with the social and psychological aspects of sudden unemployment within family and community. (ii) Training Retraining programs will be developed to help retrenched workers reintegrate into the labor market or become self-employed. Training is provided to reduce the job search period or equip workers with the skills to start their own businesses, thereby reducing the social problems of unemployment. Training programs would be closely linked to the job opportunities in the labor market as well as to the characteristics of the workers. Appropriate options for the delivery of training services would be determined including the use of existing training institutions in Mozambique and distance learning. (iii) Support for Small Projects As the capacity to find a job in the formal sector is limited, economic reinsertion for many would have to be via self-employed or cooperative activities. In Mozambique the three main avenues for self-employment are farming, productive artisan-based activities (e.g., mechanics, electricians, plumbers, welders), and small commercial activities such as vending. As few are likely to obtain substantial loans to start their own businesses, participation in a micro-finance scheme would be an alternative option, funds for which could be allocated under the Project. Initially, pilot projects comprising 10-15 retrenched staff would be designed and initiated, and the investment financed on a credit basis up to a maximum of US$100,000 per project. The priority areas for these projects are expected to be in agriculture, small-scale agro-industry, and small-scale construction units. Redeploymentfund. Social mitigation would include not only the usual items such as counseling, establishment of libraries, community centers etc., but the creation of a specific "Redeployment Fund" to meaningfully employ some of the surplus staff in small projects. As the capacity to find ajob in the formal sector is limited, economic reinsertion through self-employment or cooperative activities needs to be actively pursued. This fund would be the key component of social mitigation. In Mozambique the main avenues for self-employment would be agriculture and artisan based activities. Agriculture is likely to appeal to rural based workers. Establishing a small business requires minimum vocational skills and some initial investment. Under this, financing would be  - 29- provided under "best practice" principles with long term sustainability in mind. Loans would be provided under the specific conditions of the participating operators and would be granted after rigorous requirements are met such as accredited proof of skill or educational qualifications, completion of prescribed courses, business plans, official attestation from counseling service, etc. To begin with only two or three pilot projects would be undertaken and depending on the results obtained, the scheme would be extended. Broad Outline. Some of the features of how the proposed deployment of fund would work are as under: No. Description 1 Avenues for self- Agriculture, construction, maintenance, small artisan-based employment workshops such as mechanics, electricians, plumbers, welders. 2 Group size Ideally 15 in a group, with the minimum being ten. 3 Financing arrangements Type of Fund The Redeployment Fund would in the nature of revolving fund with a capital of US$2.0 million. Amount of loan Maximum value of US$100,000. Own Equity Although normally it would be ideal to have equity participation (ten to 20%) which may be drawn from severance pay, the amount of severance pay being not large, equity participation would not be insisted upon. Term Medium- to long-term. Interest rate Concessional interest rates would be charged. 4 Pre-requisites a) Completion of an approved business course for some key members of the group. b) Technical & Feasibility report. c) Business plans. 5 Evaluation This would also involve actual field visits to verify the feasibility of the project. 6 Administration This would be a sub-unit under the Staff Technical Unit. Regular field visits to examine the implementation and operation of the small projects would be provided for. 7 Supervision Supervision would be made by a seven-member Board consisting of one representative from the Ministry of Planning & Finance, one representative from the Ministry of Transport & Communications, two from the donor community (including one from the World Bank) and three from CFM . 8 Audit The "Redeployment Fund" would be specifically audited by an international auditing firm. Appointment of Consultant A short term consultant would be appointed to develop a manual for the implementation of small business projects. Assistance under the Project. The allocation of total cost for this sub-component (US$7.0 million, about 6% of the Project cost) is as follows: (a) the staff rationalization unit for providing counseling and employment services including the costs of personnel as well as of equipment - US$2.5 million; (b) Training and retraining of staff covering the costs of course fees, distance learning, and the like - US$3.0 million; and (c) small projects - US$1.5 million. The funds for small projects would be made available after the review of the experience of the first schemes to be financed internally by CFM. Criteria for preparation and appraisal of pilot projects and supervision and monitoring systems would be worked out in detail before any funds are disbursed.  - 30- Social Mitigation A draft report to assess the adverse social impact of staff rationalization and to suggest mitigation measures was submitted by the consultants in early April 1999. The package of measures to be implemented would be finalized shortly. The detailed assistance for social mitigation would be defined on the basis of the consultant's report with an overall budgetary provision of US$0.6 million. Pension Fund CFM has been considering the creation of a pension fund for the staff who will not be retrenched remain either with CFM or would be employed by the concessionaires. The proposed pension fund would be developed and managed by a professional entity with expertise in dealing with pension administration. CFM is currently in discussion with insurance companies and fund managers to explore the best options in this regard. Assistance under the Project. Any assistance required under the project would depend on the conclusions in the consultant's final report. For surplus staff, the option of a lump-sum payment or payments in several installments over the project period would be considered if the pension fund cannot be established within a reasonable period. For existing staff continuing to be employed by CFM or the concessionaires, the current contributions to the Government pension scheme would continue to be deducted until the pension fund is established and their pension rights have been transferred, or a different scheme implemented. A provision for consultancy support to the extent of US$0.5 million has been made for this sub-component. Pension Study MoF has been having difficulties in meeting its obligations towards staff under the social security system retiring on reaching the normal retirement age. Already, about 4,500 staff of CFM, having retired during the last 5 years, are awaiting the settlement of their pensions by the Ministry. Another 1,700 cases of normal retirement are due to be sent to the Ministry soon. The delay is mainly due to the inability of the Government to make the necessary budgetary allocations for retirement due to inadequacy of resources. As such, GOM has decided to undertake a comprehensive Pension Study for all public enterprises including CFM and implement the accepted recommendations. The study will establish GOM's actuarial liability for public sector staff, make recommendations for the institutional arrangements, such as a retirement fund, for managing the pension scheme on behalf of GOM, and identify ways to make the proposed institutional arrangement financially sustainable. A provision for consultancy support to the extent of US$ 1.0 million has been made for this sub-component. Information Dissemination CFM proposes to develop a system to disseminate information on a regular basis both to the staff affected by rationalization as well as to the outside world regarding the issues pertaining to the restructuring of CFM in general and the staff rationalization in particular. The proposed staff rationalization unit would design the information dissemination system with the help of consultants. A provision for consultancy support and equipment to the extent of US$0.4 million has been made for this sub-component. Component 3. Corporate Restructuring The existing entity, viz., CFM, Empressa Puiblica (CFM, EP), established through a Govemment decree and charged with the responsibility for the development of the port-railway sectors and their effective management, is planning to continue spinning-off its commercial activities, through the establishment of joint-ventures with private investors and through the creation of fully-owned subsidiaries. As the spinning-off of its commercial activities progresses, so will the number of shareholdings initially detained by CFM, EP. In order to clearly separate CFM's commercial interests from its other activities, it is the CFM Board's intention to create an incorporated limited company, to be called CFM, SARL, with a view to manage its subsidiaries and affiliates. This company would initially be a fully-owned subsidiary of CFM, EP, although a minority equity participation  - 31 - could later be sold to institutional investors, such as the foreseen pension fund. The creation of CFM, SARL is subject, however, to the clarification of the legal framework for "holding" companies in Mozambique. A legal framework study is proposed to be undertaken to clarify the legal framework and recommend changes in legislation to enable the creation of the proposed holding and subsidiary companies This Project component would focus on the preparation of a study on the spin-off of the commercial activities of CFM, EP under a new holding company, on the new role of CFM, EP, and on the provision of consultant services and equipment to enable the implementation of the recommendations of the study thereof. Inputs for this component would comprise consultancy services and office equipment. Base cost of the component estimated at US$2.3 million is to be financed by IDA (about 2% of the Project cost). Component 4. MTC Strengthening This component would include a study to (i) review of framework for transport policy; (ii) define the new functions of MTC to discharge its role; (iii) assess MTC's organizational structure in the framework of this evolving role; (iv) determine staffing requirements, taking into account the GOM's civil service reform program; and (v) follow-up on legal and institutional arrangements for concessions, including the preparation of model(s) for concession agreement(s)/contract(s). The component would also include the provision of consultant services for technical assistance to enable the implementation of the recommendations of the study. In addition, technical assistance would be provided under the Credit for strengthening the capabilities of MTC ' s Civil Aviation Directorate in the formulation of sub-sector policies and strategies. Inputs for this component would comprise consultancy services and office equipment. Base cost of the component estimated at US$1.7 million is to be financed by IDA (about 1% of the Project cost). Component 5. Regulatory Framework This component would include a study to (i) identify the scope, functions, and instruments for the economic regulatory framework; (ii) recommend the sectoral coverage and accountability relationships for the regulatory institution(s); (iii) define the staffing, internal organization, operating costs and financing mechanisms for a new regulatory agency; and (iv) prepare the required draft legislation. The component would also include the provision of equipment and technical assistance services to enable the launching of the agency and the preparation of its staff thereof. Additional finance provided under this component would cover the technical aspects of the regulatory framework. Consultant services for a study and for technical assistance would be targeted at the development of the required capabilities within CFM, EP to enable it to effectively discharge its role as a supervisor of port and railway concession contracts. The strengthening of INAC's capabilities in the technical regulation of the civil aviation sub-sector would also be addressed through the provision of technical assistance services and equipment. Inputs for this component would comprise consultancy services and office equipment. Base cost of the component estimated at US$7.2 million is to be financed by IDA (about 6% of the Project cost). Component 6. Tertiary Ports This component, amounting to around 8% of total project base cost, would include rehabilitation works for the small ports of Angoche, Macuse, Mocimboa da Praia, and Pebane. These works would be carried out in the framework of a public/private partnership for port management and operations. The concession agreement for all ports except Angoche, has already been negotiated with private parties. IDA financing for the rehabilitation of these ports was initially envisaged under the ROCS 1 Project. However, since the closing date of the ROCS 1 is June 30, 1999, GOM has requested that port rehabilitation is included and followed under the Project. Consultant services would also be provided under this component for the supervision of the civil works in the four ports and for the preparation of a study on the revitalization of the Inhambane Port.  - 32 - Annex 2.1: Detailed Background and Current Status of Ports and Railways Concessioning Background CFM is the first railway/port authority in Southern Africa to have introduced private sector participation in the railways and ports sector and in its other activities. The first privatization effort took place as early as May 1991 with the formation of a joint venture to manage and operate the rail-road terminal in Gare de Mercadorias. Since then private sector involvement has been initiated or prepared for a number of operations. The current status of private sector participation is reflected in the Table below. Private Sector Participation in CFM Terminal Party Date 1. Lease Coal Terminal, Matola TCM May 1993 Sugar Terminal, Maputo SSA & ZSA February 1994 Citrus Terminal, Maputo Outspan September 1994 Mozal Terrninal Mozal January 1998 2. Joint Ventures Gare de Mercadorias STM (CFM & Tertir) December 1991 Container Terminal, Maputo MIPS (CFM, Rennies, July 1995 P&O) Cold Storage Terminal, Beira BCCS (CFM, January 1996 Watertight) Container and GC Termninals, Cornelder, national October 1998 Beira interests, CFM 3. Miscellaneous Grain handling facilities at Xigaio July 1993 Matola Tank farm of vegetable oils Olivine June 1980 and tallow at Beira Tank farm for POL at the ports Various oil companies On-going since of Maputo, Beira, and Nacala 1950 Tank farn for vegetable oil Lever Brothers August 1994 and tallow at the port of Nacala Cometal Tata (5 1%), CFM January 1997 (15%), Private & staff (34%) Cimentos de Mocambique Various (CFM 4% December 1997 stake) Maputo Corridor Development Various (CFM 25% January 1998 Corporation stake) Operational Alliance Nectar Shipping October 1998 Instituto de Transportes e Various CFM (13.5%) May 1998 Communicacoes Over the course of the last few years, CFM and GOM have adopted the following general concessioning principles which, in anticipation of a governmental concession policy, constitute the basis for any privatization process and thus for negotiations with private companies.  - 33 - All infrastructure facilities are concessioned and thus remain property of CFM. Concessions involve operation, maintenance and rehabilitation of infrastructure and facilities. Concessions are granted to joint-venture-companies comprising CFM, a Private Investor and interested stakeholders. The shares of concession companies are held by CFM 30%-33%, the Private Investor 51% and interested stakeholders 16%-19%. The Private Investor can be a single firm or consortium and needs to have relevant experience to operate and manage a rail or port system. Interested stakeholders may include neighboring railways, freight forwarders, business groups, or financial institutions in whose interest it is to generate future growth of railways and ports in Mozambique. The Private Investor and interested stakeholders inject equity in cash, while CFM's contribution is generally in kind (e.g., market value of equipment). The concessionaires have to provide traffic targets and adopt intensive and innovative marketing efforts to increase traffic levels. The concession fee has three components: an initial down payment, and a fixed and variable part. The concession period ranges from 15 to 25 years depending on the expected level of investment. All infrastructure and facilities are handed over on "as is where is" basis. All investments required for rehabilitating and upgrading the rail/port system need to be carried out and financed by the concessionaire. The source of financing would be equity capital/shareholders' loans, surpluses generated through operations and of commercial loans. The contractual arrangements would include a concession agreement between CFM and the joint venture company and a shareholders'/articles of association agreement between the partners. Two essential features proposed to be included in the concession agreements are: (a) Investment strategy: The emphasis in the new concession agreements has been on standards of maintenance of the assets concessioned (e.g. channel depth, condition of the quay structure, track speed) and not on the investment program as pre-agreed investment programs are difficult to administer. Once the standards have been adequately defined, the concessionaire would be left free to develop an investment program and financing plan to achieve the specified standards. The conceding authority as technical regulator would ensure through frequent technical audits that the standards are being achieved and maintained. The concession agreement provides for penalties in case standards are not achieved or maintained. (b) Compensationfor undepreciated investment: In general, for railways/ports, it is essential to make periodic investments throughout the working life of these systems. However, not all of these assets will be fully depreciated at a certain point of time, including the end of an individual concession. Concession agreements will, therefore, include clauses to compensate the concessionaire at the end of the concession period for the undepreciated value of the investments. CFM's approach to private participation has been to carefully select its strategic partners based on the following criteria: (a) internationally recognized companies with long experience and relevant know-how in the transport, logistics, and distribution industry; (b) capacity and ability to improve and substantially increase trade flows through the Mozambican corridors and ports; (c) strong capabilities to mobilize the necessary financial resources for new investments and maintenance to international standards; (d) capacity to achieve high levels of return and consequently generate dividends for CFM/GOM; and (e) ability to tap the global network of the ocean-going trade and transport industry.  - 34- Maputo Corridor Supported by the IDA-financed Maputo Corridor Revitalization Project (MCRP), CFM designed a concession framework and in late 1997 launched a bidding process for the Maputo Corridor railway system and Maputo port After bid evaluation and award, GOM signed in July 1998 a memorandum of understanding (MoU) with Consorcio 2000 for the Limpopo and Goba rail lines, and the marshalling yard and workshops. Negotiations with this Consortium on the concession agreement have started in October 1998 and are expected to be fnalized end-1999. Negotiations with South Africa's Transnet regarding the Ressano Garcia rail line have been canceled, and CFM is considering alternative options. On the port side, a MoU with the Maputo Port Development Consortium was signed in October 1998, and negotiations on the concession agreement have started in early 1999. A master plan for private sector investment in the Matola Industrial Port is now being developed. The existing channels would be retained as the main waterway with possible increase in draught to ten meters in the near future. Separate areas would be earmarked for break bulk such as general cargo, exports of cold storage products, aluminum, steel slabs, pulp and paper products, and ferro-alloys as well as for dry bulk and liquids such as imports of petroleum, alumina, grain, sulphur and exports of coal, and wood chip. The zoning at Matola seeks to separate clean dry bulk, dirty dry bulk, break bulk and petroleum products. Better road access is also planned. The Ponta Dobela project was designed in the mid 1970's to cater to the traffic requirements of the hinterland region. However due to a number of economic and political reasons, the project was not pursued. CFM has recently signed a MoU with Colyn Braun and partners to continue with the project development. Some of the expected benefits include positive effects on the balance of trade, enhancement of Mozambique's transport competitiveness through a cost-effective alternative to South Africa's Richard's Bay, direct and indirect employment, and development of commercial, industrial, mining and natural resources in the region. The project is estimated to cost around US$200.0 - US$250.0 million. When the terminal is fully operational, the traffic expected to be handled is 20 mtpa. CFM would have a 30% equity in the joint venture company with another 10% for Mozambican interests. Beira Corridor Beira port. The Cold Storage Terminal was concessioned to Watertight in 1996, and the Container and the General Cargo Terminals to Comelder de Mocambique in 1998. Operations of the latter started in October. A joint venture for the development of a grain terminal is under consideration. CFM has also approached a number of private partners with respect to concessioning of the maritime services. However, the interest demonstrated to date has not been sufficient to proceed with either a competitive bid or a sole source selection, and CFM is considering options for hiring independent contractors under its own management. A consultancy firm was engaged to undertake a pre-feasibility study on the development of the Moatize coal mine. The study was financed through the Danish Trust Fund and administered by the Bank. The main objective was to establish the feasibility of mining and exporting coal from the Moatize coalfields taking into consideration costs of mining and transportation. Coal reserves in the Moatize region are estimated at 2.5 billion tons. The potential production levels range between two and nine million tpa depending on the investments. The study concluded that the now defunct Sena rail line would be the most cost-effective alternative, specifically in comparison with transport to Nacala. The latter would require higher investment because of construction of a new connecting rail line and would also imply higher operating costs. GOM has accorded the highest national priority to the rehabilitation of the Sena line. A Round Table Conference of potential investors and donors recently held in Beira attracted a lot of interest, in particular on the part of private mining companies which plan to develop the Moatize coalfields for the purpose of export of coking and on-site use of steam coal. A number of financing institutions as well as other potential users of the line for transport of sugar, limestone, cement, etc. have already had discussions with CFM on how best to structure an investment and financing package for the Sena line rehabilitation on a BOT basis. Because of the investment requirements for infrastructure alone (approximately US$200.0 million), CFM is currently considering a BOT contract of up to 50 years under a joint concession agreement for the Sena and the Machipanda lines. The operationalBeira-Machipanda rail line would provide positive cash flow already in the early years, which would facilitate the mobilization of  - 35 - financing. China has also shown interest in providing official financing for the reconstruction of the Sena line. In order to accelerate the relevant decision, CFM intends to form a Consortium of potential players as soon as possible. It is then expected that the line could be rehabilitated within two to five years depending on the technology used for its rehabilitation. Simultaneously it would be necessary to increase the existing coal handling facilities in the Port of Beira, or to construct a new bulk port north of the city in accordance with plans pursued by South Africa's mining company JCI Limited. Nacala Corridor The current performance of the Nacala corridor is encouraging with the traffic level in 1998 showing a 23% increase compared to the same period of 1997. More traffic could be moved over the corridor if the following issues were addressed: (a) urgent rehabilitation of the Cuamba - Entre Lagos section linking the rail line to Malawi; and (b) better operational performance to reduce the present high turnaround time of wagons and their poor availability. A diagnostic and feasibility study for the Nacala Corridor financed by the European Union has been completed. An understanding on initiation of a concession was reached between CFM and a consortium of investors and Railways and Ports operators on a sole-source basis in November 1997. Under this arrangement the consortium submitted in May 1998, a proposal for a concession to operate and manage the Nacala port-rail system. The proposal was not considered satisfactory by CFM, and preliminary negotiations held in November 1998 have focused on issues such as projected traffic levels, the need and financing source of desired public investment (US$80.0 million), the financial structure and the level of concession fees. The second round of negotiations in January 1999 was successful and resulted in the conclusion of a MoU. Negotiations on the concession agreement are underway. The proposed concession also includes the now largely inoperative Cuamba-Lichinga connection. Considerable traffic has been projected to originate from the northern region of Mozambique, but commercial and fmancial viability of rehabilitating this line have not been established. CFM's own internal study has indicated that the connection can be rehabilitated in two phases: the first phase comprising replacement of about 50% of sleepers and 20% ballast at a cost of about US$10.0 million, and the second phase comprising the remainder of necessary rehabilitation works, estimated at US$26.0 million. CFM has also decided to bid for the Malawi Railways concession and has included the Nacala Consortium with a 51% shareholding.  - 36- Annex 3: Estimated Project Costs Project Cost _________ (US$ million) Total CostI Component Local Foreign | Total Concessioning of CFM Ports & Railways 0.2 0.8 1.0 Staff Rationalization 87.6 5.9 93.5 - Staff Redundancy 84.0 1 84.0 - Staff Redeployment 3.0 4.0 7.0 - Social Mitigation 0.2 0.4 0.6 - Pension Fund 0.1 0.4 0.5 - Pension Study 0.2 0.8 1.0 - Information Dissemination 0.1 0.3 0.4 Corporate Restructuring 0.5 1.8 2.3 MTC Strengthening 0.3 1.4 1.7 - New Role and Functions 0.2 0.8 I 1 - Civil Aviation Strategy 0.1 0.6 l 0.7 Regulatory Framework 1.6 5.6 7.2 - Economic 1.0 4.0 l 5.0 - Technical for Ports and Railways 0.4 0.9 1.3 - Technical Civil Aviation 0.2 0.7 0.9 Tertiary Ports 0.4 8.6 9.0 - Infrastructure Rehabilitation 0.0 8.2 8.2 - Supervision of Works 0.2 0.2 , 0.4 - Inhambane Port Study 0.2 0.2 0.4 Total Baseline Cost (w/o contingencies) 90.6 24.1 114.7 Contingency - Physical (@ 10% on civil works) 0.0 l 0.8 0.8 Contingency - Price (@ 4% on total) 3.4 1 1.1 4.5 Total Project Cost 94.0 { 26.0 ! 120.0  -37- Annex 4A: CFM's Current and Past Performance I. CFM. Mocambique has three important transport corridors each consisting of integrated railways and port facilities and serving primarily regional transit traffic. The corridors are distinct geographical segments with no physical linkages between them in Mocambique. The corridors are managed and operated by Portos e Caminhos de Ferro de Mocambique, E.P. (CFM). It is the largest rail-port system in Sub-Saharan Africa under one management after South Africa. The Maputo Corridor system comprises: (a) the port of Maputo; (b) a 534- km long rail line linking the port of Maputo to the network of the National Railways of Zimbabwe (also known as Limpopo line); (c) a 68-km long rail line linking the port of Maputo to the network of Swaziland Railways (also known as Goba line); and (d) an 88-km long rail line linking the port of Maputo to the network of South African railway (also known as Ressano-Garcia line). The Beira Corridor system comprises: (i) the port of Beira; (ii) a 331-km long rail line linking the port of Beira to the Malawi Railways network (also known as Sena line but currently non-operational and in need of massive rehabilitation); (iii) a 317-km long rail line linking the port of Beira to the network of the National Railways of Zimbabwe (also known as Machipanda line); and (iv) a 200-km long link, off the Sena line, to the Moatize coalfields which is also currently non-operational. TheNacala Corridor system comprises: i) the port of Nacala; ii) a 615-km long rail line linking the port of Nacala to the Malawi Railways network; and iii) a 267-km long rail line from Cuamba to Lichinga. All the three ports are equipped to handle containers, oils and liquids, and many other types of general and special cargo. On January 1, 1995, CFM was transformed into an autonomous public company to be managed through a Board of Directors appointed by the Government of Mozambique (GOM) in its capacity as the sole shareholder of the company. The complexity, size, and the spread of the port and rail system in Mozambique poses a major challenge to its effective management. 2. Transit Advantage. The geographical setting of Mozambique makes it an ideal country for the international transit trade of the neighboring countries of Zimbabwe, Swaziland and Malawi as also the North Eastern Transvaal Region of the Republic of South Africa. The rail and road distances to the Mozambique sea ports - Nacala, Beira, and Maputo - are considerably shorter than those by alternative routes. This gives tremendous advantage in transit transport costs. 3. Pre-Conflict Performance. Before the outbreak of conflict in the 1980s, the three ports and the corresponding rail routes attracted a major share of the overseas export and imnport traffic of the neighboring countries. In 1975, the peak year of operation, the three ports handled a total of about 15 million tons (mt) of traffic, 10 million tons being the overseas export/import traffic from the neighboring countries - South Africa (4.5 mt), Zimbabwe (2.5 mt), Swaziland (2.1 mt), and Malawi (0.7 mt). The three railway systems also moved a total of 13 million tons, I I million tons being the export/import traffic. Apart from providing the shortest and the least expensive access to sea ports from the land-locked countries in the region, the intensive use of the port-railway systems led to their becoming one of the largest employers in Mozambique (about 30,000 staff). Prior to independence in 1975, the considerable deficit on the merchandise account was financed by a surplus on the services account. In 1973, for example, the deficit on merchandise account of the balance of payments was US$115.0 million while the corresponding surplus on the services account was US$122.0 million, the transport sector accounting for 90% of this surplus. 4. Performance Decline Consequent to Conflict. As a result of the conflict, considerable damage of the infrastructure and facilities occurred and resulted in unreliable and uncertain operations. This in turn provoked lack of confidence from customers and, consequently, by the end of the 1980s, the trade flows had declined sharply to their lowest levels, about 5.0 and 3.0 million tons for the ports and the railways respectively. The consequences were painful for Mozambique as well as the land-locked countries served by these rail-port systems. Mozambique's foreign exchange earnings declined by about 80%, and, with the staff and assets being maintained at the original level, the operations on all the three rail-port systems resulted in big yearly losses. The land-locked countries were also forced to use the much longer rail and road routes to the ports in South Africa with a consequently high increase in their surface transport costs, cumulatively estimated at about US$200.0 million per year.  -38- 5. Signs of Improvement. During the last ten years, GOM with the assistance from the donor agencies and the World Bank, has been successful in rebuilding the port and rail infrastructure to a large extent and reverse the declining trend of performance. During 1996, the ports and the railways handled a total of 8.0 and 4.0 million tons of traffic respectively, an increase over 1990 of 40% and 30% respectively. The traffic earnings also increased to about US$90.0 million equivalent, an increase of a little more than 80%. CFM is likely to reach the traffic levels reached during the peak year of 1975 as is evident from: (a) the increasing traffic levels in a] I the systems with the exception of the Central system, where the traffic is temporarily stagnant for reasons whtich are linked to the economic problems in Zimbabwe; and (b) new shipping lines now calling at Mozambican ports, which is an unequivocal indication of their recognition of the role Mozambique can play as an excellent transit country due to its geo-strategic position. As the criteria of transport/logistics cost/efficiency rationale gets reestablished, CFM could expect to capture the traffic for which it has an advantage through its initiative of associating with the private sector and eventually increasing the efficiency of the system, quality of services, and interactions with the users. 6. Future Challenge. Since the cessation of hostilities in Mozambique, the overseas exports/imports by the neighboring countries have increased both in CFM-North and CFM-South sub-systems. In CFM-Center, the level of the port traffic has been steady while the rail traffic has declined by about 19% due mainly to decrease in export of food grains from Zimbabwe and in its imports. The benefits to the Mozambican economy from this traffic transiting through the ports of Mozambique can be quite significant. The two-fold challenge for the three port-railway systems is, therefore, quite clear: (i) to improve the quality of service so as to capture all the traffic on offer; and (ii) to operate efficiently so as generate a surplus. The identification of a comprehensive restructuring program, viz., the Railways and Ports Restructuring Project (RPRP), by CFM is the logical response to the rising expectations from the rail and the port sectors. The focus of the new project would be on addressing all the key constraints and issues in a comprehensive manner. CFM's Past and Current Performance Item Units 1975 1990 1991 1992 1993 1994 1995 1996 1997 1998 Rail Total FreightTraffic Million Tons 13.4 3.1 2.2 2.5 3.1 2.6 3.1 4.1 3.8 4.1 International Traffic Million Tons 11.2 2.0 1.4 1.7 2.2 2.2 2.8 3.6 3.2 3.3 % 84 65 64 68 71 85 90 88 84 80 Total Freight Traffic Million Ton- 2,413 422 306 573 652 655 893 983 896 775 kms Passengers 000s 5,632 2,344 1,818 892 1,848 3,088 5,470 5,677 4,092 3,212 Port Total Port Traffic Million Port 14.9 6.0 5.8 6.2 6.6 6.5 7.5 8.4 9.0 7.6 Tons Transit Traffic Million Port 9.8 4.9 4.8 5.4 5.9 6.1 7.1 6.9 7.2 5.6 Tons Financial Revenues - (a) Million Mt 62 99 214 295 467 764 1,070 1,092 860 (Operating) Expenditure - (b) Million Mt 54 100 184 299 490 1,376 1,888 1,633 1,515 (Operating) Operating Ratio (b)/(a) Percentage 87 101 86 101 105 180 176 150 176 Deficit (Operating) Million Mt +8 1 +30 4 23 612 818 541 655 Staff-RelatedCosts MillionMt 20 28 41 71 110 191 311 404 308 Staff-Related Costs as Percentage 32 28 19 24 24 25 29 37 36 % of Revenue  - 39- Annex 4B: Cost Benefit Analysis Summary The economic analysis for the main railways and ports components of the Project was carried out by Consultants, the Netherlands Economic Institute, following Terms of Reference prepared by, and a methodology agreed with, IDA. Results of the analysis were revised during appraisal, in close consultation with CFM staff. This revised assessment, including the model developed by Bank staff for the economic and risk analysis, is available in Project Files (see Annex 8). For the Tertiary Ports component, the analysis was developed by GAPROMAR, assisted by Consultants Scott Wilson, and revised by Bank staff during appraisal. The Consultant background reports are also available in the Project File. A: The Framework The components of the Project are mostly targeted at enabling and facilitating the concession of Mozambique's main port/railways systems. To this extent, it is important to assess the expected costs and benefits associated with an increased private participation, for the economy as a whole. On the benefit side, the overriding goal to be pursued is the increase in foreign exchange earnings from transit traffic, resulting from improved efficiency in the provision of transport services in the corridors. Simultaneously, the private sector is expected to undertake substantial capital investments during the period of the concessions. These investments are targeted at accommodating the foreseen increase in traffic, and at preventing the deterioration of the conceding assets below acceptable serviceability levels. The privatization process has underscored the considerable amount of unproductive labor employed by CFM, leading to the preparation of a staff rationalization program. The privatization process has also determined the need for a corporate restructuring of CFM aimed, inter-alia, at spinning-off the management of its business activities, including minority stockholdings in the concession companies. Moreover, and in order to accommodate an increasing private participation in the sector, the decision was taken to develop an independent regulatory framework and to assess the new role and organizational structure of the Ministry of Transport and Communications (MTC). The interdependence of the above developments, led to their joint consideration in the economic analysis of the main Railways and Ports Restructuring Project. Nevertheless, a separate economic analysis was carried out for the staff rationalization program, which accounts for the majority of project costs. The analysis of the staff rationalization program was based on the methodology initially developed by the Bank during appraisal of the Brazil - Federal Railway Restructuring and Privatization Project (Report No. 15580-BR). Physical investments in the tertiary port component were also independently assessed. B. Economic Analysis of the Program for the Railways and Ports Privatization and Restructuring A key element to assess the costs and benefits of the proposed program is the scenario related to the "without- case" situation. Without the involvement of the private sector, CFM would experience a chronic lack of investment resources and marketing capability. Despite management efforts to the contrary, this would limit increases in efficiency and hamper efforts to attract new customers in the competitive intemational transit routes. As a result, potential foreign customers would continue to by-pass Mozambique's railways and ports; domestically-generated foreign trade would shift to substitute railway modes whenever available; and captive users would have to incur the direct (and indirect costs) arising from higher charges and/or lower quality of services. Even so, traffic using CFM's facilities would grow at an average rate of some 5% p.a. over the next ten years, and at 1.3% thereafter. With the concessioning to the private sector, the average annual growth rate for traffic in the corridors is expected to be 10% in the first ten-year period, and 2.5% thereof. These traffic growth rates are consistent with the business plans independently prepared for the negotiation of the concession agreements.  - 40 - The incremental traffic attracted under the privatization scenario would generate various benefits to the economy of Mozambique. First, additional revenues from transit traffic are expected to increase to US$94.0 million in year 15 of the analysis from US$8.0 million in the second year (average revenue for ports and railways estimated at US$10.0 per ton). Second, costs savings accruing to domestic shipping would increase to US$6.3 million in year 15 of the analysis from US$450,000 million in year two, as a result of a one day decrease per ship-stay in port to be fully achieved in year five (corresponding to average cost savings per ton raging from $0.95 in Maputo to US$0.74 for Beira). And third, avoided costs of road haulage would increase to US$1 1.3 million in year 15 of the analysis from US$0.8 million in the first year, as a result of an avoided small shift for substitute road transport whenever feasible. An average US$0.8 per ton km was assumed for the road transport cost. Additional benefits from the privatization and restructuring program would also accrue from the marginal productivity of displaced CFM workers elsewhere in the economy. Based on survey data, it is assumed that some 60% of redundant workers would be seeking alternative employment, and that 80% of these will be able to find employment at a net income 20% above current CFM wages. This premium reflects mainly the foreseen gains in labor productivity to be achieved as a result of the proposed training program. The incremental costs for this program include the difference between the investments to be undertaken by the concessionaire companies (NPV of US$146.0 million) and the investments that would otherwise be undertaken by CFM (assumed at 50% of that value). Moreover; they include the costs still to be incurred with the concessioning program (US$1.0 million); the costs of CFM's corporate restructuring (US$2.3 million); the attributable costs of the regulatory framework and institutional strengthening (US$7.3 million); and the costs of staff retraining (US$5.6 million). For the privatization/restructuring program as a whole, an EIRR of 52% was estimated, corresponding to a NPV of some US$357.0 million. The benefits are dominated by revenue gains from transit traffic (77%), followed by avoided road transport costs (9%), costs savings for domestic shipping (6%), and labor productivity gains (8%). Sensitivity analysis was carried out independently for the several sources of benefits and for the investment levels. Results of the sensitivity analysis show that the EIRR would still be above 30% under the following sensitivity assumptions: traffic growing by only some 7.5% p.a. (in the "with-case" scenario); increment in the traffic growth rate limited to 2.5% (rather than 5%); shipping costs savings nil; avoidable road costs nil; and investments levels 20% above estimate. Since there is limited interaction among developments in the various transport corridors, and within each corridor the railway and port systems are closely related, the analysis was also carried out separately for each of the three main port-railway systems. The calculation of investment efficiency indicators lead to the estimation of EIRRs about 59%, 52% and 47% for the Beira, Maputo and Nacala corridors, respectively. This range of variation essentially reflects the relative importance of the benefits derived from transit traffic in the three corridors. C. Economic Analysis of the Staff Rationalization Program (i) Background The staff rationalization program is aimed at facilitating the redeployment of some 12,200 unproductive CFM staff towards productive activities elsewhere in the economy while mitigating adverse social impacts. To this extent, the program includes mainly staff redeployment and social mitigation measures (including training), as well as staff redundancy and statutory payments amounting to a total base cost of US$93.5 million In unconstrained circumstances, the redundancy and statutory outlays (amounting to a base cost of US$84.0 million) would be considered as transfers in the economic sense. However, in the case of Mozambique, where severe budgetary constraints prevail, these outlays were considered as costs in the economic analysis to reflect their opportunity cost. The underlying assumption is that by financing severance and early retirement obligations, these public funds have an equivalent economic cost which needs to be factored into the analysis. The analysis was initially developed for the staff redundancy program alone, with a view to independently estimate the associated economic return. An incremental analysis was then carried out for the retraining program  - 41 - towards assessing whether the additional resources to be allocated to training would be justified at the margin. Benefits and costs for both programs were then consolidated, allowing for the estimation of investment efficiency indicators for the staff rationalization program as a whole. (ii) StaffRedundancy Program Benefits from the staff redundancy program were estimated based on the marginal productivity value of the foregone labor cost of CFM and on the marginal productivity value of laid-off labor elsewhere in the economy. The former was estimated as equivalent to the foregone labor cost (an average of US$75.0 per worker-month). The underlying assumption is that savings in labor costs can be used in railway-port investments to provide extra capacity and/or improve efficiency. The marginal productivity value of laid-off labor, in turn, is estimated based on the probability of former staff's engagement in a productive activity and of the net income generated by such activity (conservatively estimated also at an average US$75.0 per worker-month, in the absence of the training program). Based on surveys of the labor market, on CFM's existing staff profile, and on the estimated outcomes of the training activities, that probability has been estimated at 48% countrywide. Cash-flow analysis was then carried out by matching the estimated benefits and costs over a 20-year period. The NPV for the staff redundancy program is estimated at about US$45.0 million, corresponding to an EIRR of 34%. Sensitivity analysis was carried out for the probability of redundant staff finding an alternative productive activity and for the marginal productivity value of laid-off labor. The impact of this sensitivity analysis on the EIRR is reduced. Furthermore, and even in the extreme case that the marginal productivity value of laid-off labor would be nil, investments in this component would still yield an EIRR estimated at some 16%, thus above the 12% value assumed for the opportunity cost of capital. (iii) Staff Training Program An incremental NPV was then estimated for the labor retraining program. The key assumption is that trained laid-off workers would see their net income potential outside CFM enhanced by some 20%. This premium was estimated based on surveys of the labor market completed by interviews of local specialists. The costs of the program include the provision of basic vocational and managerial training for some 60% of the laid-off workers who have expressed interest in seeking training opportunities, through a survey targeted at assessing CFM workers' revealed preferences. Program costs also include job counseling and allocable program administration specifically targeted at improving productivity and marketability of displaced workers. Results of the economic analysis for the labor training program lead to an estimated NPV of US$1.7 million and a corresponding EIRR of 21%, thus above the 12% value assumed for the opportunity cost of capital. This indicates that the additional investmnent in training is justified at the margin. (iv) ConsolidatedAnalysis The flows of benefits and costs from the analysis of the staff redundancy and of the labor training programs were then consolidated, yielding a NPV of about US$33.0 million and an EIRR of 25% for the staff rationalization program as a whole. D: Economic Analysis of the Tertiary Ports Rehabilitation Investments in the tertiary ports of Angoche, Macuse, Mocimboa da Praia, and Pebane were initially considered under the ROCS-1 Project, with the then proposed investments meeting IDA's eligibility criteria. During appraisal, an economic re-assessment was carried out to reflect, inter-alia, updated traffic projections and investment levels, including any required environmental mitigation measures. In the absence of the proposed investments, ship loading operations in the ports of with continue at a very slow pace. This would imply incurring ship time costs at their current US$15.0 per ton, rather than at US$3.75 per ton as envisaged upon completion of the investments. Moreover, the improved ports would be capable of handling  - 42- export traffic which would otherwise have to use alternative ports after a longer inland transport. In addition, the rehabilitated ports are expected to generate additional traffic, on the form of exports of copra (priced at US$259.0 per ton), timber (priced at US$290.0 per ton) and cashew (priced at 3,523 per ton) which would not be otherwise economically in view of the costly inland transport. The above considerations imply that the proposed investments would yield attractive returns, even if the current levels of traffic in the ports is low. EIRRs of 33%, 12%, 34% and 63% were estimated for the investments in the ports of Angoche, Macuse, Mocimboa da Praia, and Pebane, respectively. These estimates can be considered conservative to the extent that benefits from generated exports have not be taken into account, as a result of the difficulty in assessing the reliability of the available projections. Overall, the consolidated NPV for this component is estimated at US$13.0 million whereas the EIRR (weighted by investment) is estimated at 34.7%, thus well above the value assumed for the opportunity cost of capital. E: Economic Analysis of the IDA-financed Components, i.e., Staff Rationalization and Tertiary Ports Rehabilitation The consolidated NPV for the IDA-financed components, i.e., staff rationalization and tertiary ports rehabilitation, weighted by investments, is US$40.5 million and the EIRR is 25.9%. F: Risk Analysis Stochastic risk analysis was also carried out using Monte-Carlo simulation. Since the model has the capability to inter-link the various programs subject to specific economic analysis, the simulations were jointly carried out, using available commercial software (Crystal Ball). In order to factor uncertainty into the analysis, four key variables were selected as a function of their major influence in the project net benefits: probability of redundant staff looking for a job; expected net income; benefits from transit traffic; and investments in railways and ports. As indicated below, independent triangular probability distributions were assumed for the selected variables, with the extreme values reflecting available evidence andfor experience elsewhere. Using the possibilities offered by Crystal Ball, the distributions for the probability of looking for ajob and for the expected net income on one hand, and the distributions for transit traffic and investments on the other, were assumed as positively correlated. U, U, 0.51 an 1. 11 W" 0* en .M a 4l oa3 as? c OD 7 so go RX  - 43 - One thousand simulations were then carried out, and frequency distributions generated for the EIRRs for the following programs: labor retraining; staff redundancy; staff rationalization program (consolidated); and main rail/port privatization and restructuring. The corresponding cumulative charts are presented below, together with the likely certainty levels for the estimated EIRR. FaotERRbslhn lhntElFglb t@>OTd ~ ~~~~~~~~~ OnllCm ml-1 | 1TbaFe1iB Pm51RRPb.iha% F_ _t Mmi-& . _- I,MTeWh O. . Owt 11 %=Tek cl: _dv. cw C O,Ih. 7 I~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~0 Oe r of te _o _ sw ta e rk t e e s d nt (52%3 1In aa an -- ; 12a except for the,5i lao tanigpoga wihha crant f ee ofouonly*187o. This componentsdhoulb IO <- >