Nepal - Power Sector Efficiency Project

Document of The World Bank FOR OFFICIAL USE ONLY Report No: 20634 IMPLEMENTATION COMPLETION REPORT (23470) ON A CREDIT IN THE AMOUNT OF SDR 48.1 MILLION (US$65 MILLION EQUIVALENT) TO THE GOVERNMENT OF NEPAL FORA POWER SECTOR EFFICIENCY PROJECT June 27, 2000 Energy Sector Unit South Asia Sector This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  CURRENCY EQUIVALENTS (Exchange Rate Effective February 1999) Currency Unit = Nepalese Rupees (NRs) NRs 62.00 = US$ 1.00 US$ 0.0161 = NRs 1.00 FISCAL YEAR July 16 - July 15 ABBREVIATIONS AND ACRONYMS ADB Asian Development Bank CIWEC Canadian International Water and Energy Consultants DCA Development Credit Agreement DHM Department of Hydrology and Meteorology DOR Department of Roads EA Environmental Assessment EdF Electricite de France EIA Environmental Impact Assessment EIRR Economic Internal Rate of Return EWS Early Warning System GLOF Glacier Lake Outburst Flood GOF Government of France GTZ The Deutsche Gesellschaft fur Technische Zusammenarbeit GWh Gigawatt - hour HEP Hydroelectric Project HMGN His Majesty's Government of Nepal HV High Voltage IDA Intemational Development Association KfW Kreditanstalt fur Wiederaufbau KV Kilovolt KWh Kilowatt - hour MCMPP Marsyangdi Catchment Management Pilot Project MHDC Multipower Hydroelectric Development Corporation MHPP Marsyangdi Hydroelectric Power Project MOI Ministiy of Industry MOWR Ministry of Water Resources MW Megawatt NEA Nepal Electricity Authority NDF Nordic Development Fund OEES Office of Energy Efficiency Services O&M Operation & Maintenance PA Performance Agreement PSEP Power Sector Efficiency Project PSR Power Subsector Review ROR Rate of Return SAR Staff Appraisal Report SFR Self Financing Ratio S&R Screening & Ranking Vice President: TMieko Nishiomizu Country Director: Hans M. Rothenbuhler Sector Director: Alastair J. McKechrnie Task Team Leader/Task Leader: Tjaarda P. Storm van Leeuwen/Argun Ceyhan  FOR OFFICIAL USE ONLY IMPLEMENTATION COMPLETION REPORT CONTENTS Page No. 1. Project Data 1 2. Principal Performance Ratings 1 3. Assessment of Development Objective and Design, and of Quality at Entry 1 4. Achievement of Objective and Outputs 4 5. Major Factors Affecting Implementation and Outcome 10 6. Sustainability 12 7. Bank and Borrower Performance 13 8. Lessons Learned 15 9. Partner Comments 16 10. Additional Information 16 Annex 1. Key Performance Indicators/Log Frame Matrix 21 Annex 2. Project Costs and Financing 23 Annex 3. Economic Costs and Benefits 25 Annex 4. Bank Inputs 28 Annex 5. Ratings for Achievement of Objectives/Outputs of Components 29 Annex 6. Ratings of Bank and Borrower Performance 30 Annex 7. List of Supporting Documents 31 This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not be otherwise disclosed without World Bank authorization.   Project ID: P0 10392 Project Name: POWER EFF IMPROVEMEN Team Leader: Argun Ceyhan TL Unit: SASEG ICR Type: Core ICR Report Date: June 27, 2000 1. Project Data Name: POWER EFF IMPROVEMEN L/C/TF Number: 23470 CountryIDepartment: NEPAL Region: South Asia Regional Office Sector/subsector: PH - Hydro KEY DATES Original Revised/Actual PCD: 10/23/89 Effective: 10/15/92 01/15/93 Appraisal: 06/23/90 MTR: 03/01/96 Approval: 03/26/92 Closing: 12/31/97 06/30/99 Borrower/Implementing Agency: HMGNINEA Other Partners: Nordic Development Fund STAFF Current At Appraisal Vice President: Mieko Nishimizu D. Joseph Wood Country Manager: Hans M. Rothenbuhler J. Kraske Sector Manager: Alastair J. Mckechnie Frederick C. Temple Team Leader at ICR: Tjaarda P. Storm Van Leeuwen Donal O'Leary ICR Primary Author: Argun Ceyhan 2. Principal Performance Ratings (HS=Highly Satisfactory, S=Satisfactory, U=Unsatisfactory, HL=Highly Likely, L-Likely, UN=-Unlikely, HUN=Highly Unlikely, HU=Highly Unsatisfactory, H=High, SU=Substantial, M=Modest, N=Negligible) Outcome: S Sustainability: L Institutional Development Impact: M Bank Performance: S Borrower Performance: S QAG (if available) ICR Quality at Entry: S Project at Risk at Any Time: Yes 3. Assessment of Development Objective and Design, and of Quality at Entry 3.1 Original Objective: The project's primary objectives were to: * Increase the supply capacity of the Nepal Electricity Authority (NEA) by improving technical and operational efficiency, upgrading existing generation capacity and improving the system load factor; * Restore NEA's financial viability and strengthen its institutional performance; * Enhance energy conservation measures, implemented by the Ministry of Industry (MOI) and NEA; and * Address the remaining environmental concerns arising from the Marsyangdi Hydroelectric Project (Cr.  1478-NEP) by supporting an innovative approach to catchment management on a pilot basis, implemented by the Ministry of Local Development, Department of Roads (DOR) and NEA. 3.2 Revised Objective: Following IDA's decision in August 1995 to defer consideration of the Arun III Hydroelectric Project (Arun III HEP), HMGN and IDA agreed to add as an objective the development of a high quality pipeline of hydropower projects to be offered for development. The reason for this was not only the expected future scarcity of public multilateral and bilateral aid funds, but also the need to more explicitly take into account environmental and social impacts in project selection. To define such a pipeline, a Medium Hydropower Study, launched as part of the Project, included a comprehensive Screening and Ranking (S&R) process for project selection. 3.3 Original Components: The project included the following components: A. Components Implemented by NEA: * Generation Rehabilitation. Upgrading of the civil works of the Trishuli and Devighat hydroelectric plants and the retrofitting of the Trishuli electro-mechanical equipment. * High Voltage Transmission Network Reinforcement. - Investments in the Kathmandu Valley to: * Increase the 66 kV circuit capacity to improve voltage regulation and reliability; * Upgrade the 66/11 kV transformer capacity at existing substations and construct two substations near the load centers in Kathmandu (Teku and Bhaktapur); * Construct a S km 132 kV intertie between the Marsyangdi and Kulekhari system and a 12 km 132 kV line from Bhaktapur to New Chabel (initially operated at 66 kV); and * Construct a 4 km, 4-circuit 132 kV line between Teku and Suichatar. * Investments in other parts of Nepal to: * Provide equipment, spare parts and tools for the Western, Eastern and Bagmati transmission sections; * Construct a 132 kV interconnection line between Duhabi and Kataiya (Bihar, India) to upgrade power exchange capability with India; and * Install the second circuit on the existing 132 kV Kusaha-Dhalkebar line and expand the associated substations. * NEA Infrastructure/Buildings. The component included: * NEA Headquarters: provision of imported equipment such as electrical/mechanical building services, communication equipment, computers, filing and drafting systems and other appropriate furnishings; * Workshops: provision of spare parts, tools, cranes and vehicles for NEA's mechanical and electrical workshops; and * Training Center: construction of a Central Training Facility and provision of training equipment together with consultant services to extend NEA's training programs. * Rural Electrification. Electrification of the Besisahar area and vicinity under the Marsyangdi Catchment Management Plan. * Technical Assistance to NEA in the form of consultant services to assist NEA in: * Implementation of the generation rehabilitation and high voltage (HV) network reinforcements; * Design of NEA infrastructure and buildings; * Preparation of feasibility and/or detailed engineering studies for priority hydroelectric projects; * Continuation of the "twinning" support to NEA (para. 10.3); * Preparation of a Training Master Plan and detailed project for a new central training facility in Kathmandu (para. 10.4); and * Efforts to improve the system load factor by providing services and equipment to upgrade NEA's load dispatch center and install low frequency relays, load monitoring equipment, time of day metering -2 -  and communications equipment to be used for the load management program. B. Components Implemented by Other Agencies: * Marsvangdi Catchment Management Plan. The component included financing of consultant services, materials and equipment necessary to implement the pilot project which covered: * A soil conservation and sediment reduction program, implemented by the Ministry of Local Development; * Institutional support to the Local Development Office (Lamjung District) of the Ministry of Local Development and to the Department of Soil Conservation and Watershed Management of the Ministry of Forests and Environment; * Upgrading of the Dumre-Besisahar road, implemented by DOR; and * Electrification of the Besisahar area and vicinity, implemented by NEA (see above). * Industrial Energv Audits. The component implemented by MOI, included: * Financing of consultant services and equipment needed for the establishment of an Energy Audit Unit within MOI which would provide technical advisory services to assist local industries in implementing energy conservation measures. * Technical Assistance to DOR. This component included consultant services to assist DOR in upgrading of the Dumre-Besisahar road. 3.4 Revised Components: The following components were added: A. Component Implemented by NEA: * Rehabilitation of NEA's Gandak Hydropower Plant through provision of electro-mechanical equipment and spares (funded from NEA's own resources); and * Medium Hydropower Study (Screening and Ranking exercise). B. Component Implemented by Other Agency: * Establishment of an Early Warning System against Glacier Lake Outburst Flood (GLOF) dangers at the Tsho Rolpa Glacier Lake (implemented by the Department of Hydrology and Meteorology - DHM). 3.5 Quality at Entry: The quality at entry is rated as "satisfactory". No specific QAG review was conducted for this Project. The Project was prepared within the context of IDA's lending strategy for the power sector in Nepal. Specifically, the strategy then called for assisting HMGN to: (i) develop Nepal's hydroelectric potential with minimal adverse environmental impacts; (ii) upgrade the corporate performance of NEA; (iii) formulate a comprehensive investment program to meet demand; and (iv) to set tariffs which reflect the economic cost of supply. The proposed investment program for FY92-97 envisaged the creation of more than a billion dollars worth of power facilities which NEA would be responsible for managing. The project was designed to reduce system and financial losses and thereby help strengthen NEA's capacity, as a relatively new entity, to carry out the proposed power investment program, and operate and maintain the system. To facilitate smooth project start-up, the project was submitted for board approval only after a significant (61%) increase in NEA's tariffs was effected, provisions of the Performance Agreement between NEA and HMGN agreed to, and procurement actions were well advanced for the principal components of the project. The project was prepared, appraised and approved when there was an intensive ongoing dialogue between the Government and other co-financiers', particularly in the context of the preparation of the Arun III HEP. This dialogue included a discussion on possible wider sector reforms. The Project was, however, approved before the Bank's new strategy in the power sector was agreed with the Government (The Bank's Role in the Electric Power Sector. Policies for Effective Institutional, Regulatory and Financial Reform, June 30, 1992, R92- 193). During the appraisal of Arun III HEP (SAR dated August 29, 1994), IDA and HMGN continued the dialogue on sectoral issues and agreement was reached on a wider set of sectoral reforms. As a result, in late 1992 -3 -  and 1993, HMGN started to implement reforms, and as a first step adopted new legislation, allowing private investment into the power sector. Within the context of Nepal, this more gradual approach to sector reform taken in the dimensions of this project is considered appropriate and the quality at entry was satisfactory. 4. Achievement of Objective and Outputs 4.1 Outcome/achievement of objective: Objective 1: Increase the supply capacity of the Nepal Electricity Authority (NEA) by improving technical and operational efficiency, upgrading existing generation capacity, and improving the system load factor. The project's overall outcome is assessed as satisfactory given that most of the major objectives were achieved, albeit after some delays and subject to occasional shortfalls during the project implementation period. As stated in the Staff Appraisal Report (SAR), targets included reducing losses from 29 percent in FY90 to 24 percent in FY93, and eventually to 21 percent by FY97. Improvement in operational efficiency is demonstrated by a reduction of system losses to less than 25 percent by FY93 and to less than 22 percent by FY98, although this was accomplished over a longer period than envisaged. Reduction of financial losses was achieved very early in the project as evidenced by a rapid turn-around in NEA's operating accounts from a negative income position in FY91 and FY92, to progressively increasing profit margins from FY93 onwards, with the exception of FY98 where profit levels fell but still remained positive. Moreover, in line with the target set in the SAR, accounts receivable were reduced from the equivalent of 5.6 months average billings in FY90 to the current 3 to 4 months . The rehabilitation of power stations and the expansion of the HV network were satisfactorily completed and their operational efficiency substantially improved as a result of the project. During the implementation of the project, power exports to India increased, and Nepal is expected to become a net exporter of energy over the next few years. Therefore, this main objective was achieved. However, NEA's overall operational efficiency can be further improved because of the continuing relatively high level of losses in the distribution system. Rehabilitation of the distribution system was not part of the scope of the project, but it was taken up by NEA with financing from other donors. Objective 2: Restore NEA'sfinancial viability and strengthen its institutionalperformance Based on the discussion below, it is concluded that Objective 2 was partially achieved. A. NEA's Financial Viabilitv. * With tariff adjustments of 60 percent in November 1991 (a condition of effectiveness of Cr. 2347-NEP for the Project), 25 pecent in March 1993, 38 percent in March 1994 and 20 percent in June 1996, NEA was substantially in compliance with most financial covenants until FY96/97 (ending Ju:ly 15, 1997). In the early years of Project implementation, NEA's financial performance improved rather dramatically compared to the situation before approval. However, HMGN did not allow any tariff increases in FY97/98 and FY98/99, and during those years NEA was not fully in compliance with the financial covenants. With the tariff increase of about 25 percent approved in November 1999, it is expected that NEA's financial situation will substantially improve by the end of the current FY. Bill collection, from government agencies in particular, remains problematic. Although at the time of closing of the Credit NEA was not fully in compliance with its financial covenants, given the recent actions the overall objective of restoring NEA's financial viability can be considered as being substantially achieved. * NEA took various other actions to strengthen its Finance Department. These included: (i) appointment from outside NEA of a professionally qualified Finance Director and two professionally qualified accountants to assist the Director (when the Finance Director left NEA, his successor, appointed from the ranks of NEA, was professionally qualified, also); (ii) establishment of an Internal A.udit Department and training of its staff; (iii) implementation of a basic accountancy training program; and (iv) initiation of com - 4 -  puterization in billing and accounting. * During the project implementation period, NEA's accounts were audited by international auditors. The audits revealed various deficiencies in the accounting system and the way the accounts were kept. NEA failed to adequately act on the auditors findings and its audit reports remained qualified. NEA's most recent audit report had a "disclaimed" audit opinion. Major issues include: (i) adjustment in the treatment of the revaluation surplus in the financial statements for FY97/98 and FY98/99; (ii) ensuring future compliance with the International Accounting Standard 16 (relates to accounting treatment of revaluation of assets); and (iii) ensuring that NEA's annual financial statements and audit reports are duly signed after the approval by the Board of Directors in a timely manner. These corrective measures form part of the program recently agreed with ADB (and IDA) to address the issues raised by the auditors. The program is under implementation. B. NEA's Institutional Performance. * In 1992, HMGN changed the NEA Act with the objective of addressing the shortcomings in the original Act in an attempt to establish an institutional framework which would enable NEA to operate more autonomously and as a commercially oriented entity. * The new NEA Act has a provision for the sale of NEA shares to the general public or institutional investors. When a minimum of 10 percent of NEA's share capital is sold, an Annual General Meeting will be constituted and a new Board of Directors would have to be elected. Divestiture of NEA's shares was not anticipated to take place during the implementation of this project. T The new NEA Act also modified the composition of NEA's Board of Directors. It reduced the number of government officials on the eight-member Board from six to three. The chairman is still the Minister of Water Resources, and the secretaries of the Ministries of Finance and Water Resources are members. The remainder of the Board consists of three private sector representatives and one consumer representative nominated by HMGN, and NEA's Managing Director. * HMGN and NEA signed a Performance Agreement (PA) which covered: (i) NEA's objectives; (ii) the respective rights and obligations of NEA and HMGN; and (iii) the agreed investment plan and its financing, performance indicators, and financial projections. The PA was to be updated annually. Conclusion of the first PA, with conditions satisfactory to IDA, was a condition of effectiveness of Cr. 2347-NEP for the project. The PA was signed in October 1992. In compliance with its commitments under Cr. 2347-NEP for the project, NEA established a Human Resource Department and a Rural Electrification Directorate. However, the most significant positive institutional development impact of the project has been the on-the-job training of NEA staff working with the consultants carrying out the Medium Hydropower Study, which was a state of the art exercise completed during project implementation. Most staff are still with NEA. * Although not part of the project scope, a new accounting system was designed and NEA started to introduce this new system. Plans to computerize the accounting and billing systems did not materialize because funding to finance these activities was not available after IDA's withdrawal of support for the Arun III project. * Although these measures represented important steps in the right direction, in practice, NEA's autonomy and functioning as a modem utility leaves a lot to be desired. Although no specific target was set for institutional improvements, one can conclude that the objectives have only been partially met. * Objective 3: Enhance energy conservation measures. All three phases of the industrial energy audits program implemented by MOI were satisfactorily completed. NEA's load dispatch center is being upgraded through a credit by KfW. A Non-Technical Loss Reduction Project was undertaken by an ADB Technical Assistance Grant. A separate ADB funded pilot project for computerized billing demonstrated the advantages of such systems for, inter alia, loss reduction. Overall, this objective is considered to have been substantially achieved. * Objective 4: Address the remaining environmental concerns arisingfrom the Marsyangdi Hydroelectric Project by supporting an innovative approach to catchment management on a pilot basis. Soil conservation and sediment reduction programs were initiated and continue under GTZ funding. With the completion of the upgrading of the Dumre-Besisahar road and rural electrification in the Marsyangdi area, this objective has been substantially -5-  achieved. 4.2 Outputs by components: A. Components Implemented by NEA. * Generation Rehabilitation. * Following the rehabilitation/refurbishment works, generation at the Trishuli liydropower Plant was increased from about 12 MW to 21 MW; the generation at the Devighat Hydropower Plant was increased from 9.4 MW to 14.1 MW. * Rehabilitation of the Gandak Hydropower Plant was carried out under NEA's own resources. * High Voltage Transmission Network Reinforcement. Following reinforcement of the high voltage network in the Kathmandu Valley, supply capacity has increased from 160 MVA to 250 MVA. * NEA is transferring, during the dry season, about 30MW from India via the Duhabi - Kataiya 132 kV transmission line. * NEA Infrastructure/Buildings. Installation of communication equipment, computers, and filing and drafting systems has somewhat improved working conditions at NEA's headquarters; provision of equipment to NEA's transformer workshop has substantially upgraded the repair capacity of this workshop. R Rural Electrification. Electrification works in the Besisahar area and vicinity have been completed. * Technical Assistance to NEA. Consultants were employed for: * The supervision of the rehabilitation of the Trishuli-Devighat hydropower complex and high voltage transmission network reinforcement; and * Carrying out a screening and ranking exercise of medium-sized hydropower projects in Nepal and feasibility studies for the seven projects identified in the optimum high-quality project portfolio. The S&R process has been a state of the art exercise on introducing participatory approaches in project selection including a series of review meetings with stakeholders, combined sound technical and economic analysis, and taking into account social development and environm-ntal impact aspects (para. 10.2). The expected outputs of the S&R exercise were to: a) help develop Nepal's hydroelectric potential by building up a high quality pipeline of projects which had been selected through a participatory S&R process that recognized technical, economic, financial as well as environmental and social impacts, and ensured an appropriate balance between investments in generation, transmission, and distribution; and b) establish procedures for introducing corapetition between private power developers to construct and operate new plants. * "Twinning" Arrangements. During the appraisal and approval of PSEP, NEA s "twinning" arrangement with Electricite de France (EdF) was ongoing. For this reason, th.e Project included continuation of this arrangement as a component. The component was planned to be funded under a bilateral credit from the Government of France (GOF). Towards end- 1992, EclF concluded that within the environment then prevailing, a twinning arrangement was not a form of intervention strong enough to be successful. EdF recommended that NEA sign a performance management contract with an outside contractor. However, during the preparation of the Arun III HEP, HMGN and IDA did not agree with this recommendation. The NEA/EdF twinning arrangement was discontinued in 1992, and HMGN, IDA and the potential co-financiers of Arun III HEP concentrated on strengthening NEA's institutional capability and performance with actions and conditionality summarized in para. 10.3. * Central Training Facility and Programs. This component was also planned to be funded under the above credit from GOF. When this credit did not materialize, in late 1994 HMGN and IDA agreed to fund this component under the IDA credit for the project (Cr. 2347-NEP). Because of the delays in selecting consultants for the design of the training center and training programs to be implemented at this center, the construction of the training center had not been completed by the time the Credit was -6 -  closed. Since then, NEA has been funding the balance of expenditures to complete the construction of the center and installation and commissioning of the equipment. At the time of this report, the training center was still under construction (para. 10.4). * NEA's Efforts to Improve System Load Factor. As mentioned above (para. 4. 1; Objective 3), NEA's efforts continue under KfW and ADB projects. B. ComDonents Imlnemented by the Other Agencies. * Marsvanedi Catchment Management Plan. Institutional support was provided by GTZ of Germany to the Local Development Office (Lamjung District) of the Ministry of Local Development. Soil conservation and sediment reduction programs were initiated and continue. Electrification of the Besisahar area and upgrading of the Dumre-Besisahar road have been completed. * Industrial Energy Audits. * Within this program, an inventory of 250 industrial boilers throughout Nepal was prepared. The following audits and projects were completed: 77 walk-through audits, 30 preliminary audits, 10 simple demonstration projects, and 3 minor retrofit demonstration projects. * Consultants assisted MOI, industries and hotels in implementing energy conservation measures; formulating policies to encourage efficient use of energy; and undertaking training and outreach activities. E Early Warning System Against the GLOF Dangers from the Tsho Rolpa Glacier Lake. The system was installed in 1998, successfully tested, and was in operation during the monsoons of 1998 and 1999. * Technical Assistance to DOR. Consultants were employed and helped DOR satisfactorily complete the upgrading of the Dumre-Besisahar road. 4.3 Net Present Value/Economic rate of return: At appraisal, the economic internal rate of return (EIRR) was estimated for: (a) NEA's investment program (time-slice for FY92 - FY2002, over an operation period of 30 years); and (b) the rehabilitation of the Trishuli-Devighat power plants. The EIRR for the FY92-FY2002 time-slice was calculated at appraisal as 2.4 percent without taking into account consumer surplus; and 18.1 percent after taking into account the consumer surplus. This time-slice included the construction of the Arun III HEP. Since the decision to defer this project, NEA's investment program has been substantially changed. Thus, in the ICR, an EIRR for the revised time-slice was calculated. The EIRR for the revised time-slice was computed as 12 percent without taking into account consumer surplus. As the EIRR was greater than 10 percent, another computation taking into account consumer surplus was not undertaken. The EIRR for the rehabilitation of the Trishuli-Devighat power plants was calculated at appraisal as 23 percent for firm energy only. On the same basis, the EIRR for this component was calculated as 16 percent, using actual tariffs paid. 4.4 Financial rate of return: A financial rate of return has not been calculated as it is more relevant to assess NEA's financial performance through a number of financial ratios. NEA's overall financial position showed improvement with four successive tariff increases during FY91/92 - FY96/97. The total electricity sales increased from 737.4 GWh in FY91/92 to 1124.8 GWh in FY98/99. The average retail tariff increased steadily from NR 1.99/kWh in FY91/92 to NR 4.96/kWh (about 8.1 cents/kWh) in FY96/97, and the rate of return on revalued assets (ROR) increased from -0.5 percent in FY91/92 to 4.2 percent in FY96/97. NEA's self-financing ratio (SFR) increased to about 40.4 percent in FY96/97 and its debt service - 7 -  coverage ratio was 2.0 (See Table I below). Thereafter, NEA's financial performance started to deteriorate and NEA was unable to comply with the main financial covenants under the project, mainly because HMGN did not allow any tariff increases. However, in November 1999, tariffs were increased with another 25 percent to about Rs. 6.2/kWh or about US cents 9.9/kWh, making it one of the highest in the region. Efficiency improvements were not sufficient to compensate for the lack of tariff increases, and NEA resorted to using its cash r eserves built up in the early nineties to help fund its investment program. The level of accounts receivable, excluding sales to India, remains about 3 to 4 months of sales equivalent, mainly because of difficulties in collecting from government departments and municipalities. NEA's non compliance with its financial covenants in FY97/98 and 98/99 was one of the miajor reasons that IDA did not agree to extend the closing date for a second time, i.e. beyond December 31, 1998 (the Closing Date of the Credit was extended once in December 31, 1997), except for the road component for which the Credit remained open until June 30, 1999. -8 -  Table 1: NEA Financial Summary 1991/92 1992/93 1993/94 1994/95 1995/96 1996/97 1997/98 1998/99 1999/2000 Audited Audited Audited Audited Audited Audited Audited Provisional Estimated EnergyGenerated(GWh) 901.2 851.7 901.9 929.7 1109.4 1136.4 1079.4 1162.8 1227.7 Energy Purchased (GWh) 25.0 29.8 30.7 74.0 80.6 78.2 83.5 90.0 104.0 Gross SystemLosses (% ofAvg Energy) 24.8 24.3 25.9 25.1 24.6 24.9 21.6 21.7 18.8 Energy Sales (GWh) 737.4 733.8 765.9 824.6 936.7 1010.6 1056.7 1124.8 1293.2 Average Revenue Rate(NRS/kWh) 1.99 2.54 3.38 3.98 4.15 4.96 4.94 4.94 6.2 Total Operating Revenues 1514.20 1904.5 2611.8 3463.5 4012.2 5083.6 5419.0 5809.4 8326.5 Total Operating Expenses 1618.1 1853.6 2188.7 2830.9 3234.2 3729.0 4667.0 4627.9 5545.8 Operatinglncome(NRsMil) -103.9 50.9 423.1 632.6 778.0 1354.6 752.0 1181.5 2780.7 Net Income (NRs Mil) -50.5 106.2 101.0 26.5 678.6 687.4 344.6 838.6 2264.7 Rate of Return on Revalued Assets (%) -0.5 0.2 1.6 4.4 2.4 4.2 2.1 3.6 7.9 SelfFinancingRatioofTotalCost(3YrAvg) 9.08 35.8 46.2 26.3 10.6 40.4 28.7 3.4 15.5 Debt Service Coverage Ratio (times) 6.3 1.5 1.7 1.3 2.2 2.0 1.8 1.8 2.3 Current Ratio 1.9 1.4 0.9 1.1 1.8 1.2 1.0 1.3 1.5 Operating Ratio 106.9 97.0 84.0 82.0 82.5 76.2 88.2 81.1 69.0 Source: NEA 4.5 Institutional development impact: A. HMGN Actions in Power Sector Reform: * Although the project itself cannot be directly credited, during the life of the project, HMGN, based on recommendations made in IDA's 1992 sector report, enacted new legislation which formed the basis of wider reforms in the Nepal power sector. These included the Hydropower Development Policy of 1992; the Water Resources Act 1992; Electricity Act 1992; Electricity Regulations 1993; and Electricity Tariff Fixation Regulations 1993. This new legislation opened the power sector up for private investment. The Electricity Development Center was established in 1993 to serve as a one-stop window to private investors, and the Electricity Tariff Fixation Commission was constituted in 1994. * These policy changes have helped attract private investment for Khimti 1 (60 MW), Upper Bhote Koshi (36 MW) and Indravati (5 MW) hydropower projects. Also, considerable preparatory works for the export oriented West Seti (750 MW) hydropower project have been completed. NEA is implementing Chileme (20 MW) and Modi (14 MW) projects in joint ventures with private investors. Several other private investors have obtained survey licenses. * Also during this period, HMGN concluded bilateral agreements for the development of water resources. These include the agreement on electricity trade between Nepal and India and the Nepal-India Treaty for the Mahakali River Integrated Development. These agreements raise prospects for private investment in large multi-purpose projects such as Pancheswar and Kamali-Chisapani, and for creating a basis for expanding exports of electricity to India. * While sector reforms are still in early stages of implementation, it is worth noting that HMGN in its Ninth Plan (1997-2001) articulated a long term vision for the development of the power sector which includes unbundling of NEA and privatization of distribution. In a recently concluded draft Power Sector Development Strategy Report, the conclusion was also reached that further changes along the lines as suggested in the Ninth Plan are desirable to enable HMGN to mobilize the financial resources required for the planned development of the country. -9-  B. NEA. * Since the various actions taken by HMGN and NEA, listed in para. 4. 1, NEA's institutional capability and financial performance improved substantially compared to its position in March 1.992 when Cr. 2347-NEP for the project was approved. However, much remains to be done, particularly in areas such as administration and accounting, billing and collection and distribution system losses. * On the positive side, secondment of 47 NEA staff to consultants in charge of the screening and ranking exercise and feasibility studies for three hydropower projects between 100MW and 300MW, and contracting out of preparation of environmental assessments and feasibility reports for four medium-sized (below 100MW) projects, provided an enormous amount of transfer of knowledge to the NEA and the Nepali engineering community. C. Other Implementing A2encies. * The Office of Energy Efficiency Services (OEES) was established in MOI during the first phase of the project and operated satisfactorily during the life of the project. * Consultants assisted the Ministry of Local Development and its Lamjung District Office in initiating and implementing soil conservation and sediment reduction programs. * Consultants assisted DOR in designing, contracting, and supervising the upgrading of the Dumre-Besisahar road. * Consultants assisted DHM in designing, contracting, supervising, and commissioning the EWS against GLOF dangers from the Tsho Rolpa Glacier Lake. 5. Major Factors Affecting Implementation and Outcome 5.1 Factors outside the control of government or implementing agency: The two factors outside the control of HMGN were: * IDA's decision in August 1995 to defer consideration of the Arun III HEP (to withdraw from this project). IDA's decision affected, for some period of time, HMGN's relations with the Bank and other cofinanciers. It also caused considerable delays in implementation of some of the institutional strengthening measures. - Non-materialization of the bilateral aid from France, which was expected to provide funding for the design and construction of the central training facility and training programs. The training center is still under construction and some of the training which was planned to be given in this center was given in NEA's existing smaller training centers. 5.2 Factors generally subject to government control: A. NEA. * The changes to the NEA Act enhanced NEA's autonomy on paper, but in practice, HMGN appears to be unwilling to provide NEA with the degree of autonomy that is a necessary (but nolt sufficient) condition for the utility to operate on a commercial basis. There were frequent changes in managing directors and interference into day to day matters including recruitment of staff. Also, HMGN's reluctance to adjust tariffs harmed the relations with the principal donors. B. Other Implementing Agencies. * For reasons outside NEA's control HMGN revoked the license of the contractor who was in charge of building a portion of the Dumre-Besisahar road. DOR had to rebid the works, and this delayed the completion of the road. 5.3 Factors generally subject to implementing agency control: A. NEA. * NEA's managerial weaknesses; difficulties in recruiting qualified accounting staff, and a lack of attention to financial management continued to be main factors (closely tied to the previous:ly mentioned factors) impeding a satisfactory institutional development of the utility. * Attention to staff training was insufficient partly because NEA could not decide oni the hiring of consulting firm to set up the new training center and programs. - 10 -  * NEA had difficulties in preparing the technical specifications for the software it purchased to enhance its engineering capacity. * The incident which occurred in the Trishuli hydropower plant in 1998 interrupted the operation of this plant and that of Devighat, which is downstream of Trishuli, for a short period of time. NEA took emergency actions to clean the power station and restore the four unaffected units to service. Repairs were completed in March 1999. More information about this incident is given in para. 10.5. B. Other Implementing Agencies. * Delays in the completion of the components implemented by MOI, DOR, and DHM occurred because the agencies had to familiarize themselves with the Bank's procurement guidelines. 5.4 Costs andfinancing: At appraisal, the project's total cost, including physical and price contingencies, and duties and taxes, was estimated at US$88.6 million, based on mid-1990 prices. The unit costs were on recently signed contracts for comparable civil works, transmission and distribution projects, and recent quotations for spare parts and consultant estimates for the Trishuli-Devighat electro-mechanical equipment. Physical contingencies were included at the rate of 15 percent for the Trishuli-Devighat civil works and 10 percent for the other components. Price contingencies assumed in the estimates were based on IDA's projections. Costs proved to be over-estimated because of the slow but continuous depreciation of the Nepali Rupee with regard to the US dollar. The exchange rates at appraisal and at closing of the Credit in end-1998, were NRs. 42.7/US$ and NRs. 62/US$, respectively. However, it should be noted that just one month after the Credit was declared effective, it was determined that there was going to be US$7.2 million of savings. NEA/HMGN requested the savings to be used for other investments in line with the objectives of the project , and to prepare a new operation after the cancellation of Arun III HEP. The S&R process was one of the sub-components which was included into PSEP. The total cost of the project is currently estimated at US$62.8 million, only about 71 percent of the estimates. At appraisal, financing requirements, including interest during construction at an annual rate of 10.25 percent, were estimated at US$100.1 million. The IDA Credit of US$65 million equivalent would finance about 65 percent of the project's total cost. At the time, HMGN had requested from the Government of France (GOF) US$5.1 million equivalent for the NEA training component. GOF had agreed to fund the first tranche (US$0.71 million equivalent), and it was anticipated that further financing would be agreed upon during future discussions between HMGN and GOF. This financing, however, never materialized, and in end-1994 IDA agreed to include funding of the training component under the IDA Credit 2347-NEP. The Nordic Development Fund (NDF) provided SDR 4 million (US$5.4 million equivalent) to finance spares and equipment for the transmission and rural electrification component of the Marsyangdi Catchment Management Pilot Project (MCMPP). The Government of the Federal Republic of Germany provided funds, through GTZ, to finance the components related to soil conservation and watershed management of, and institutional support for, MCMPP. HMGN onlent the proceeds of the IDA Credit to NEA at an interest rate of 10.25 percent per annum, repayable over a period of 25 years, including a grace period of 5 years. HMGN bears the foreign exchange risk. The balance was passed to the Ministries of Public Works (for the Dumre-Besisahar road), Industry (for the industrial energy audits), Local Development (for MCMPP) and Science and Technology (for the early warning system against GLOF dangers from the Tsho Rolpa Glacier Lake). As stated above, costs were below the estimates and all of the IDA Credit was not utilized by HMGN. SDR 8.3 million (US$11.2 million equivalent, with the rate valid on the date of cancellation) was canceled on February 18, 2000. - 11 -  6. Sustainability 6.1 Rationale for sustainability rating: Likely, overall. A. Components Implemented by NEA. * NEA has developed the capability to satisfactorily operate and maintain the Trishuli-Devighat hydropower complex; the high voltage transmission network; and equipment repair workshops. However, NEA will continue to need technical assistance to improve its operational efficiency. These needs will be taken up as part of the recently approved ADB Nepal: Rural Electrification, Distribution and Transmission Project and the proposed Power Development Project. * NEA staff considerably benefited from the transfer of knowledge during the screening and ranking exercise and feasibility studies for medium-sized hydropower projects, carried out under PSEP. Most staff are still with NEA. For-exercises of this nature, it is logical that NEA continues to rely on outside consulting services in specific areas such as surveys, feasibilities and detailed engineering reports for large and storage projects. a Overall, it is assessed that the sustainability of the benefits obtained from the components implemented by NEA is "likely". B. Components Implemented by the Other Agencies. * HMGN may continue to experience fiscal difficulties in allocating funds for the operation and maintenance of the Dumre-Besisahar road. * HMGN will need additional technical assistance and foreign funds to maintain the benefits it obtained and capacity it built under the Industrial Energy Audits component. * HMGN will need additional foreign funds to: * operate and maintain the Early Warning System against the GLOF dangers at the Tsho Rolpa Glacier Lake, and e sustain the benefits obtained under the Marsyangdi Catchment Management Plan Pilot Project and expand the catchment management beyond the scope of the pilot. * Under the current situation, sustainability of the benefits obtained from the above components is assessed as "unlikely". C. Overall Sustainability for the Proiect. * As NEA components formed the major part of PSEP, it is assessed that overall the sustainability of the benefits obtained from PSEP is "likely". 6.2 Transition arrangement to regular operations: A. Components Implemented by NEA. * Except for a short period of time in 1998, the Trishuli and Devighat hydropower plants have been in operation since August 1995. NEA's operation and maintenance staff at the plants vere trained by the Engineer and Contractor at the site, and manuals were provided to the plant management. * The transmission lines and substations were transferred to NEA's Operations Direct orates. NEA has the competence to operate and maintain its distribution and transmission networks. B. Components Implemented by the Other Agencies. * During the audits, the industries were willing to implement the findings and recommendations of the audits. However, MOI lacks the capacity and financial resources to follow up with the industries. * The Dumre-Besisahar road has been taken over by DOR. DOR has the human resource capacity to operate and maintain this road but it lacks financing resources. However, HMGN has started the sustainable Road Maintenance Scheme by introducing the Road Fund Act 2000. DOR has informed the Bank that regular maintenance of the Road will be properly provided for after the Road Fund is operational. - 12 -  * The operation and maintenance of the Tsho Rolpa EWS has been taken over by DHM. The Department's human resource capacity to operate and maintain such a high-tech system needs to be complemented by technical assistance. While agreeing in funding the EWS under Cr. 2347-NEP, IDA had conditioned that DHM sign an O&M contract for at least five years with a competent firm. DHM lacks the financing resources to fund such a technical assistance contract. HMGN (DHM) has requested to finance the O&M contract from another ongoing IDA project. 7. Bank and Borrower Performance Bank 7.1 Lending: Marginally satisfactory. * The project was designed to improve NEA corporate autonomy and to provide it with the capability to complete the physical construction. IDA waited a long time from appraisal in June 1990 to Board presentation in March 1992 for HMGN and NEA to take the necessary actions identified during appraisal. The most important actions were a tariff increase and conclusion of a Performance Agreement (PA) between HMGN and NEA, both satisfactory to IDA. Procurement for the principal components (rehabilitation of the Trishuli-Devighat hydropower complex and reinforcement of the high voltage network) was initiated, and bids for the high voltage network contracts had been received. - However, the institution building measures were not well defined before Board approval. They were still being developed under the NEA-EdF twinning arrangement. No specific targets were formulated as part of the project although some performance targets were set in the PA. The intention appeared to have been to incorporate more specific institution building measures in the next IDA project, which was expected at the time to be Arun III HEP, and was scheduled for approval relatively quickly after the PSEP. Major efforts were put into cooperation and coordination among HMGN, NEA, IDA and all the interested co-financiers which led to a general agreement on the wider development objectives for the sector during project implementation. * While the overall development objectives agreed upon during appraisal where appropriate at the time, in retrospect, they should be considered rather ambitious taking into account the implementation capacity of the client. The appraisal mission had a lot of confidence in the proposed twinning arrangements and the Performance Agreement; in retrospect, these have not been effective instruments in the context of NEA. 7.2 Supervision: Satisfactory. * Eleven supervision missions were fielded. Issues were identified quite in advance, and recommendations were provided in a timely manner. The general HMGN-IDA dialogue on the power sector was affected by IDA's decision to defer consideration of Arun III HEP, but the direct relation with NEA project staff responsible for implementing the PSEP did not suffer. However, Bank staff should have requested that NEA make a decision on the issue of consultants for the training center and program much sooner. Furthermore, well before the closing date, more emphasis should have been placed on the importance to accelerate the implementation of the planned computerization of the accounting and billing and metering systems, in particular when it became clear that alternative funding sources were not available. 7.3 Overall Bankperformance: Satisfactory. It is recognized that the institution building measures could have been better designed at entry, but this was only one aspect of the project and on balance the overall Bank performance is considered satisfactory Borrower 7.4 Preparation: Satisfactory. * The feasibility reports for the rehabilitation of the Trishuli-Devighat hydropower complex and high voltage - 13 -  network reinforcements were well prepared. However, the Environmental Assessment for HV Reinforcement was not detailed enough and failed to recognize any difficulties which NEA later experienced on compensation and access to tower sites. 7.5 Government implementation performance: Marginally satisfactory, overall. A. Components Imnlemented by NEA: * HMGN's support of NEA for the physical components was stronger than its support for institution-building activities, in particular, for putting NEA's finances on sound footing by approving the necessary tariff adjustments in a timely manner. The tariff adjustment which was put into effect in November 1991 was late. NEA needed further tariff adjustments in July 1998. It was only in the summer of 1999 that NEA applied to the Electricity Tariffs Fixation Commission for an adjustment, and the Commission approved tariff adjustments of an average of 25 percent in November 1999. B. Components Implemented by the Other Aeencies: * HMGN's support for DOR, MOI and DHM was satisfactory. 7.6 Implementing Agency: A. NEA: Marginally satisfactory. * The physical components (except for the Trishuli and Devighat sub-component) were completed later than projected at appraisal. * NEA's performance in implementing the physical components was better than its performance in implementing the institutional actions; however, it should be noted that several of the critical components, such as the computerization of the accounting and billing system, were not part of the original Project scope. Most of these components have since been taken up with assistance from other donors, notably ADB. NEA also receives technical assitance in other areas under various donor financed programs. * It is noted that changes in the senior levels of NEA did not negatively affect the quality of PSEP project management although decisions were sometimes held up. * The performances of the Project Coordinator and Project Managers in charge of each of the components were satisfactory. B. The Other Implementing Agencies: * The Department of Roads (DOR): DOR was slow in appointing the consultants, conducting the procurement/evaluation, and finalizing the contracts. DOR's supervision of the contracts was more efficient. DOR's performance was marginally satisfactory. * The Ministry of Industry (MOD: MOI appointed the consultants for Phases I and 2 in relatively short periods and supervised, rather efficiently, the consultants' works during their audits and demonstration projects. MOI's performance was satisfactory. * The Department of Hydrology and Meteorologe (DHM): The early warning system against GLOF dangers was the first project DHM had with the Bank. They had to learn about the Bank's procedures and guidelines. Thus the selection of the consultant took longer than planned. Once the contract was signed, DHM followed the design, implementation, testing and commissioning of the system efficiently. DHM's performance was satisfactory. 7.7 Overall Borrower performance: Marginally satisfactory. As NEA components formed the major part of PSEP, it is assessed that Overall Borrower Performance was "marginally satisfactory". Although, it was not directly part of the project, recognition should also be given to the adoption by HMGN of new policies and legislation, which opened up the power sector to private investors. Nepal - 14 -  has been a front runner in that respect. Thesc :.beralization measures were formulated as'jart of the continuous dialogue between HMGN, NEA and Bank stafi. 8. Lessons Learned * The Performance Agreement signed as a condition of effectiveness, and which was designed as an instrument to enhance NEA's autonomy and monitor its institutional performance, has proven to be difficult to enforce. While changes were made in the composition of the Board of Directors the :najority of the Directors remained ex-officio government officials and this proved to be insufficient to guard NEA against political interference in day to day matters. While the Government long run policy for the power sector includes the privatization of NEA, possibly after unbundling, in the context of Nepal, it will take time to achieve. In the interim, further modifying the composition of the Board of Directors could be a second best alternative. * The design of the institutional development measures was not effective. Effective training and recruitment of qualified staff should have been given more priority to ensure institutional development actions are sustainable. Under the project, technical staff benefited much more from on the job training and coaching of consultants; but training of financial staff received much less attention. Weaknesses in available skilled human resources (particularly in the financial and administrative areas); lack of appropriately designed training programs; and practical problems of donor coordination all contributed to the difficulties in meeting institutional development targets. The project team would have benefited from specialist staff to ensure that such project components were realistic and well designed. * Setting specific performance targets and having to rely on other donors funding for implementation creates risks, particularly in a situation where strong corporate management is not yet in place. A good example was the issue of the central training facility and training programs that was left unresolved at Board presentation. It was expected that a bilateral credit from France would be forthcoming, but this did not materialize. It was almost two years later that HMGN and the Bank agreed to fund the training center sub-component under the Credit. Selection of the engineering consultant to design the center and prepare the Master Training Plan took longer than planned. When the Credit was closed, construction of the training center was not completed. Since then, NEA has been funding the training center from its own resources. T The project has shown the advantage of addressing key issues and procurement early in the project cycle. This approach should be continued in future projects. - Appropriate external audit arrangements can be used as a tool for increasing accountability and institution building. Initially, the Office of the Auditor General (OAG) appointed a local audit firm to carry out the audit of NEA accounts, but the scope of that audit and the capabilities of the local audit were not acceptable by IDA. It was therefore agreed to have a special auditor appointed complementing the work of the local auditor. During project implementation it was however, agreed with NEA and OAG to have one single annual audit carried out meeting the requirements of both the OAG and IDA. Over the last few years, in practice, the annual audit was carried out by an international audit firm in association with a local firm. This arrangement has proven to be valuable both for improving audit standards and developing auditing skills in Nepal. * Environmental Impact Assessments should be initiated early in the project cycle. At the time of this project, procedures for assessments were quite different than in following years. With new procedures, information gathering is more thorough and will decrease such ambiguities that were present in this project. Although only about 40 families were affected for just small portions of their land, court proceedings took a long time and construction of some of the HV transmission lines was delayed. On these lands/ parcels, transmission towers were built. The land required for the construction of a tower is minimal. The owners took NEA to court to increase their compensations. In one case (the one which lasted longest), there was a two story house over which the line was to pass. The owner built two more stories (illegally - without any permission from the municipal authorities) and then wanted compensation for the additional floors too. After NEA won the case, the then-MD of NEA still did not want to use force. NEA took some more time, diverted a portion of the line, avoided the house, and paid some compensation for the portions of the garden used. * Public consultations based on sound technical, economic, financial criteria and taking into account social - 15-  and environmental criteria, as used in the screening and ranking exercise of the Medium Hydropower Study, should be made an integral part of the preparatory process to create a political consensus on proposed hydropower investmepts. It is an essential tool for mitigating social and environmental impacts as well as implementation risks. 9. Partner Comments (a) Borrower/implementing agency: The Borrower, after reviewing the Implementation Completion Report (ICR), had minor comments. These comments are included as part of the Borrower's Evaluation Report which is attached to this ICR. (b) Cofinanciers: N/A (c) Other partners (NGOs/private sector): N/A 10. Additional Information 10.1 Background to Preparation/ Appraisal and Approval of PSEP. In 1987 at the request of HMGN, ADB and IDA conducted a diagnostic study of Ne:pal's Power Subsector. As a result of the Power Subsector Review (PSR - Report No. 6879a-NEP; dated January 1988), HMGN, ADB and IDA agreed that further attention needed to be given to improving institutional performance, energy pricing and resource mobilization, investment planning and bulk electricity exports. Arun III HEP was identified as the next new generation project to be implemented. The PSR also identified that there was a need to rehabilitate two existing hydropower plants, strengthen the high voltage network in the Kathmandu Valley, and continue the institutional strengthening of NEA. IDA prepared and approved the Third Technical Assistance (Pancheswar) Project (Cr. 1902-NEP) to help NEA implement the PSR' s recommendations relating to investment preparation in generation, transmission and distribution; upgrading of existing generation facilities; electricity tariffs; and improving NEA's operational efficiency. Funded under the then ongoing Cr. 1478-NEP for the Marsyangdi Hydroelectric Power Project (MHPP) and the above mentioned Cr. 1902-NEP, the following reports were prepared, as part of preparation of the Power Sector Efficiency Project (PSEP): (a) the feasibility report for the rehabilitation of the Trishuli-Devighat Hydropower Complex; (b) the detailed project report for the urgent reinforcements in the high voltage network in the Kathmandu Valley; and (c) reports on load management options and measures for the 1992-1996 period. The recommendations of these studies were amalgamated into the PSEP, funded under IDA Credit 2347-NEP, which is the subject of this ICR. By the time PSEP was approved, IDA, ADB and other co-financiers (OECF of Japani, KfW of Germany, and bilateral aid agencies of the Govemments of France, Sweden and Finland) had focused their assistance and dialogue with HMGN and NEA on the preparation of the Arun III HEP. HMGN took actions in line with the commitments it made during the appraisal of Arun III HEP. In 1995, IDA undertook a comprehensive re-review of the Arun III HEP, and under the circumstances prevailing in August 1995, concluded that the risks to Nepal in undertaking a large complex project such as Arun III HEP were too great to justify proceeding with the project. Thus, IDA decided to defer consideration of Arun III HEP and assured HMGN that it attached the highest priority to helping Nepal in devising and implementing an alternative strategy for meeting its needs for electric power. For some period of time, IDA's decision affected HMGN's relations with the Bank and other cofinanciers. 10.2 Screening and Ranking (S&R) Exercise In the past, HMGN's development and IDA's lending strategies for the power sector in Nepal were based on supporting relatively large hydroelectric power stations to be executed in the public sector. The Arun III HEP was the latest example for this strategy. Following IDA's decision in August 1995 to defer the construction of the Arun III HEP, HMGN and IDA adopted an alternative strategy with an initial focus on an accelerated pursuit of smaller hydropower projects for meeting Nepal's power requirements. In view of the expected future scarcity of public - 16-  multilateral and bilateral aid funds, a pipeline formed of high quality medium sized hydropower projects would be an appropriate instrument to be presented for private development. With financing from Cr.2347-NEP, a Screening and Ranking (S&R) exercise, aimed at reducing project implementation risks by selecting hydroelectric schemes through a transparent and public process, in addition to application of comprehensive evaluation criteria was carried out in 1996/97. The evaluation criteria, was based on technical, economic, financial, environmental and social development impacts of the proposed projects. Thus, the traditional criteria, which included only the technical, economic and financial characteristics and impacts, was broadened to include the expected impacts of the projects on the physical environment and to the local society in the vicinity of each project. The first step included the evaluation of 145 hydropower sites in a coarse S&R. Subsequently, 24 sites were selected for more detailed evaluation (fine S&R). Seven of those 24 projects were selected and formed the high quality project pipeline. Feasibility studies and preliminary environmental impact assessments (EIAs) for these projects were carried out by international and local consulting companies in 1997/98. The feasibility studies and preliminary EIAs for four large projects (Upper Karnali, Dudh Koshi and Tamur 4/5) were carried out by an international consultant (CIWEC of Canada); the feasibility studies and preliminary EIAs for three medium sized projects (Rahughat Khola, Likhu-4, Kabeli A and Budhi Ganga) were conducted by local consulting firms, under the supervision and responsibility of CIWEC. This creative arrangement of having the international consultant responsible for the outputs ensured that the results were subject to the quality assurance of experienced and competent experts from the international consultant, while the local consultants broadened their knowledge and know-how in designing hydropower projects. Secondment of 47 NEA staff to CIWEC and employment of local consulting firms allowed enormous transfer of knowledge to the Nepali engineering industry. During the fine S&R process, seven additional sites for which licenses (survey or production licenses) had already been granted to private developers and NEA were also reviewed. They were all confirmed as fitting the S&R criteria and were among those projects chosen for implementation. (Some of them are in the process of construction). The feasibility studies and preliminary EIAs confirmed recommendations emerging from the S&R exercise that the development of small and medium-sized projects (IOMW to 300MW) were appropriate for meeting Nepal's domestic demand for electricity in the medium term. During the S&R process, a stakeholder analysis for identification of the legitimate stakeholders was also conducted, and systematic public consultations with those stakeholders were held. (Details of the consultation process are available in the project files) The S & R exercise: * Developed Nepal's hydroelectric potential by building up a high quality pipeline of projects which had been selected through a participatory S&R process that recognized technical, economic, financial as well as environmental and social impacts and ensured an appropriate balance between investments in generation, transmission and distribution; * Improved the regulatory environiment for private investment in the power sector and established procedures for competition between private power developers; and * Improved the efficiency of operations and creditworthiness of NEA. The S&R process was a state of the art exercise on participatory approaches with review meetings with stakeholders and taking into account social development and environmental impact aspects. However, before projects are approved by HMGN for implementation, detailed environmental and social - 17 -  assessments will be carried out in accordance with Nepalese guidelines. In the case of projects funded under possible, subsequent IDA Credits, these detailed environmental and social assessments would also be carried out in accordance with IDA guidelines. The process includes an interagency review and full public stakeholder consultation and participation, in particular, for the preparation of the environmental management and resettlement and rehabilitation action plans. 10.3 NEA - Electricite de France (EdF) Twinning Arrangement During the appraisal and approval of PSEP, NEA's "twinning" arrangement with l,lectricite de France (EdF) was continuing. For this reason, the Project included continuation of this arrangement as a component. Under Cr. 1902-NEP for the Third Technical Assistance (Pancheswar) Project, NLA signed a twinning contract with EdF. The arrangement consolidated the studies and technical assistance measures in support of NEA's institutional development and provided for expertise in all aspects of power utility piractices with special emphasis on assisting NEA to develop a corporate plan and improve operations management. ADB and IDA rejected the first version of the diagnostic study of NEA's institutional development plan. IDA and ADB accepted a second proposal but called for further development of the overall implementation plan. These reviews and communications delayed the start of implementation by about 18 months. Some findings and recommendations of the twinning, such as the establishment of separate Human Resources and Rural Electrification Departments (each one headed by a Director reporting directly to NEA's senior management) and appointment of accounting consultants to separate NEA's rural electrification accounts (so that HMGN would reimburse NEA for annual loses incurred in rural electrification), were included under PSEP. NEA and EdF developed a performance improvement plan which was incorporated into a Perforrnance Agreement (PA) between HMGN and NEA, the first of which was signed in October 1992 as a condition of effectiveness of PSEP; IDA was consulted in the process. The terms of the PA required annual reviews. In additiorn, NEA developed a preliminary three-year rolling Corporate Plan. Diagnostic studies were carried out and recommendations were developed for the other institution building issues such as loss reduction, computerization of the billing, accounting and material management functions, etc. At the end of the twinning contract, EdF concluded that within the environment prevailing in 1992, a twinning arrangement was not a form of intervention strong enough to be successful. Its impact would take too long to effectively address the serious short-term problems of the Nepal power sector. EdF recommended that the next step in the institutional development of the Nepal power sector and NEA would be a performance contract with an outside contractor who would be in charge of NEA's day-to-day operation. Its primary goals would be to take short-term and mid-term actions to improve the personnel's productivity, lower the level of customer accounts payable and better oversee working capital requirements. The performance management contract would stipulate upfront the improvement objectives to be achieved. The contractor would bring in its own slaff in key management positions and would have the required autonomy to make the decisions needed. Its compensation would be tied to the performance achieved: it would include a fixed payrnent and a variable remuneration based on actual performance. However, during the preparation/appraisal/negotiations of the then proposed Aran III HEP, HMGN and IDA did not agree with the above recommendation which could have been seen as a first step towards private sector involvement in NEA. The NEA/EdF twinning arrangement was discontinued. Instead, HMGN, IDA and the potential co-financiers for Arun III HEP concentrated on strengthening NEA's institutional capability with actions and conditionality on the following: * Annual revisions and reviews of a Performance Agreement between HMGN and NEA; * Annual update of NEA's Corporate Plan; * Preparation and implementation of the following plans targeting NEA's institutional strengthening: NEA Commercialization Plan, Materials Management Plan, Accounting Action Plan, Receivable Action Plan, Insurance Action Plan, Loss Reduction Program, three-year rolling Investment Plan, Annual Capital Investment Program, plan of action for NEA's computerization of its consumer - 18 -  accounts, actuarial valuation of NEA's liabilities for staff pensions, and financing plan for these liabilities. Many of the above plans were prepared and their implementation, satisfactory to IDA and other prospective co-financiers of Arun III HEP, were made conditions for that project. However, following IDA's withdrawal from the Arun III HEP, it was difficult for IDA and the co-financiers to enforce and monitor the timely implementation of these plans. Progress has been slow in part because of funding for required technical assistance was not available. Since August 1995, IDA, ADB and KfW, together with HMGN and NEA, have been working on defining and implementing many of the institutional measures and financial support has been including in other follow up projects. 10.4NEA Central Training Facility and Training Programs With technical assistance provided by EdF under Cr. 1 902-NEP, NEA obtained the essential elements to manage its training activities. At the time of appraisal of PSEP, training activities were carried out at three centers: Bhrikuti Mandap, Panauti Hydropower Station, and Balaju. Instructors for generation and maintenance, distribution, computers, general sciences, administration and finance were at work at these centers. However, within the NEA/EdF twinning diagnostic studies, it was determined that the lack of a central training complex was impeding NEA from developing a sustainable training program. To address this issue, technical assistance for the extension of NEA's ongoing training program and its broadening to cover training in management and finance and procurement of pedagogic training equipment were included in PSEP. NEA was to acquire land and construct a central training facility, using local and foreign design and civil engineering consultants. Later, funding of the construction of the center was also included in PSEP. At first, NEA opted to continue to employ EdF as its consultant for the preparation of a Training Master Plan and design of the center and training programs. IDA agreed to NEA's proposal to negotiate a contract with EdF. Later, IDA concluded that the scope of the contract was too broad and expensive and recommended that NEA renegotiate the contract and restrict the scope of the services. After IDA's recommendation, EdF lost interest and communications/negotiations took a very long time. NEA decided to break its negotiations with EdF and proceed with the selection of consultants in accordance with a short-list. Upon IDA agreement on this last proposal, the joint venture of Tenega Nasional Berhad of Malaysia and SILT Consultants (P.) Ltd. of Nepal was selected in accordance with IDA Guidelines. The Consultants prepared the Training Master Plan and detailed project for the center. However, all these activities took much longer than planned at appraisal of PSEP, and by the time Cr. 2347-NEP was closed, the construction of the center was still ongoing. Most of the equipment was delivered to Nepal. Since then, NEA has been funding the completion of the construction and installation of the equipment. At the time of this report, the training center was still under construction. NEA continued its training activities in its above mentioned existing training centers. 10.5The Trishuli Incident: On May 21, 1998, the inlet butterfly valve of Unit 1 burst suddenly, causing extensive flooding in the power house. The valve was destroyed. Due to the flooding, all seven units of the power station were out of service for 35-50 days. The first three units (Phase 1) were commissioned in 1956, and the butterfly valves were manufactured in a then-Yugoslav, currently-Slovene, company. Their housings were made of cast iron. The other four units (Phase 2), manufactured in Japan, were commissioned in 1969. The housings of the butterfly valves for these units were made of cast steel. The conditions just prior to the incident are worth mentioning. At around 6:30pm on May 21, 1998, there was a grid failure and the units at Trishuli tripped out . After grid resumption, the machines were operated from Unit 7 onwards and all units were put into service on the grid. Unit I was also put on load for ten minutes. During the adjustment for load, speed and frequency variations, there was a major explosion and it was observed that major pieces of the body of the butterfly of Unit I flung in all directions; water gushed like a fountain; and all the units were submerged under water. Due to lack of electricity, even the top channel gates could not be operated. Only the next morning was help received from the Devighat power plant, and the gates were closed. - 19 -  During the rehabilitation and upgrading of the Trishuli power plant (under the Project), the butterfly valves too were opened, cleaned and refurbished. The contractor was Multipower Hydroelectric Devwlopment Corporation (MHDC) of China. The valve and its servomotor were checked and tested. The contractor had elected to refurbish the valves and servomotors at site, rather than remove them to a fully equipped workshop for overhaul. The contractors' works were supervised by the engineering consultants (CIWEC of Canada). Following the incident, HMGNINEA fortned a joint Investigation Committee. The Chairman, Mr. Laxman Prashad Upadhyay, Special Secretary at the Ministry of Water Resources (MOWR), and the members were appointed by MOWR. NEA went back to the Consultant's Commissioning Report and found that the Consultant had remarked that handling by the Contractor of the valves of the first three units was not satisfactory. The Consultant had noted that "there [was] no indication how successful the Contractor [had] been in its attempt to return the valve bodies to their original roundness or if the bodies will continue to remain round." NEA asked the Consultants why they had not stopped the Contractor carrying out unsatisfactory handling. The power plant remained out of service until July 10, 1998. After dewatering, cleaning ard rechecking, the four units of Phase 2 were put back into service with five days of intervals between each unit. The butterfly valves of the other two units of Phase 1, whose valves had been subjected to the same "unsatisfactory handling", and those of Unit I were replaced under a turn-key contract which included manufacture, installation, testing and commissioning. The units were put back into operation in December 1998 with some of the components in manual control. The full automated system control was completed in July 1999. NEA financed the repairs from its own resources. - 20 -  Annex 1. Key Performance Indicators/Log Frame Matrix Outcome / Impact Indicators: IndicatorlMatrix Projeced ;Q last PSR ActuallLatest Estimate Increase capacity of Trishuli to 21 MW (its Component completed in 1995. Power station delivers 21 MW. original capacity). Increase capacity of Devighat to 14 MW (its Component completed in 1995. Power station delivers 14 MW. original capacity). Increase transmission capacity in Component completed in 1998. The transmission capacity has been Kathmandu Valley to 250 MVA. increased to 250 MVA. Provide 30 MW transfer capacity between Component completed in 1996. NEA is able to transfer about 30 MW from Nepal and India, over the Duhabi-Kataiya Bihar, India. line. Develop a high-quality hydro project portfolio Screening and Ranking completed in 1996. Feasibility studies for the said seven hydro through a Screening and Ranking process. Feasibility studies for the seven hydro projects were completed in December 1998. projects identified to be completed by December 1998. Construct a Training Center and implement Training Center to be completed in 1999. Construction of the training center continues. training programs at NEA. Training programs not begun yet. Implement institutional development actions Computerization of the accounting functions Computerization of the accounting, billing, at NEA. to start in 1999. materials management functions will be taken up under the next IDA operation. Improve transportation capability on the Road to be completed in June 1999. The road was completed in June 1999. Dumre-Besisahar road. Build rural electrification networks in the Rural electrification completed in 1997. Rural electrification networks expected to be Besisahar area. transferred to local private operation entities by end-i 999 and 2000. Enhance energy conservation by assisting Assistance to local industries to be Assistance was completed in December local industries. completed in December 1998. 1998. Install an Early Waming System against EWS was installed in 1998. EWS was in operation during monsoons of GLOF dangers from Tsho Rolpa Lake. 1998 and 1999. - 21 -  Output Indicators: IndI@aterfM:tri:; x :1i_ I Pr*@I.d ift hat i:tPR AttualLaest istiat Trishuli: 21 MW. Power staticon delivers 21 MW. Devighat: 14 MW. Power staticn delivers 14 MW. Kathmandu Valley HV Network:250 MVA. The transmission capacity has been increased to 250 MVA. Duhabi-Kataiya Line: 30 MW. NEA is able to transfer about 30 MW from Bihar, India. Completion of S & R and identification of the Feasibility and EA reports to be completed by Reports connpleted. high-quality project portfolio. December 1998. Training center and programs. Construction to continue in 1999. Construction continues. Institutional development at NEA - To be initiated in 1999. Will be undertaken under the proposed ADB computerization. Nepal: Rural Electrification, Distribution and Transmission Project and the IDA's proposed Power Development Project. Dumre-Besisahar road. To be completed in June 1999. Completed in June 1999. Rural electrification in Besisahar Area. Completed in 1997. Energy Conservation - Audits. To be completed in December 1998. Completed in December 1998. Early Waming System at Tsho Rolpa Lake. Completed in 1998. End of project - 22 -  Annex 2. Project Costs and Financing Project Cost by Component (in US$ million equivalent) . Appraisal Actualatest Percentage of -Estinat Estimate Appraisal Project CQst By Component US$ millon US$ million A. Generation Rehabilitation 23.60 26.30 111.4 B. High Voltage Reinforcement 15.10 16.70 110.6 C. NEA Infiastructure/Buildings 7.60 5.10 67.1 D. Marsyangdi Catchment Pilot Project 9.00 5.60 62.2 E. Industrial Energy Audits and Load Management 2.60 2.10 80.8 F. Technical Assistance 12.50 7.00 56 Total Baseline Cost 70.40 115.40 Physical Contingencies 8.80 Price Contingencies 9.40 _ Total Project Costs 88.60 115.40 Interest during construction 11.50 Total Financing Required 100.10 115.40 Project Costs by Procuremen Arrangements (Appraisal Estimate) (US$ million equivalent) Procurenwt Method Expw m -Catwy N Oiher N.B,F. Total Cost 1. Works 14.20 8.80 0.00 1.00 24.00 (12.70) (7.80) (0.00) (0.00) (20.50) 2. Goods 33.30 0.00 0.00 9.50 42.80 (30.00) 0.00) (0.00) (0.00) (30.00) 3. Services 0.00 0.00 16.90 4.90 21.80 (0.00) (0.00) (14.50) (0.00) (14.50) 4. Miscellaneous 0.00 0.00 0.00 0.00 0.00 (0.00) (0.00 0.00) (0.00) (0.00) 5. Miscellaneous 0.00 0.00 0.00 0.00 0.00 (0.00) (0.00) (0.00) (0.00) (0.00) 6. Miscellaneous 0.00 0.00 0.00 0.00 0.00 (0.00) (0.00) (0.00) (0.00) (0.00) Total 47.50 8.80 16.90 15.40 88.60 (42.70) (7.80) (14.50) (0.00) (65.00) - 23 -  Project Costs byPocuremnt Arrangements (Actual/Latest Estimate) (US$ million equival nt) Procurement MethodI Expendkure Cateory I