Philippines - Second Rural Finance Project

Document of The World Bank FOR OFFICIAL USE ONLY Report No.: 19725 IMPLEMENTATION COMPLETION REPORT (LOAN 39380; 3938A; 39390; 39400) ON A LOAN IN THE AMOUNT OF US$ 150.0 MILLION TO THE REPUBLIC OF THE PHILIPPINES FOR A SECOND RURAL FINANCE PROJECT February 4, 2000 Rural Development and Natural Resources Sector Unit East Asia and Pacific Region 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 as of September 30, 1999) Currency Unit = Peso (P) 1 pesos= US$ 0.0250 US$ 1.00 = 40 Pesos FISCAL YEAR Government: January 1 - December 31 ABBREVIATIONS AND ACRONYMS ARF - Agrarian Reform Fund CLF - Countryside Loan Fund DENR - Department of Environment and Natural Resources DOF - Department of Finance EU - Environmental Unit FXRC - Foreign Exchange Risk Cover GOP - Government of the Philippines GRT - Gross Receipts Tax ISAP - Institutional Strengthening Action Plan LBP - Land Bank of the Philippines NG - National Government PFIs - Participating Financial Institutions RFP - Rural Finance Project RBs - Rural Banks RCF - Retail Cofinancing Fund SAR - Staff Appraisal Report TBs - Thrift Banks TRFP - Third Rural Finance Project Vice President: Jean-Michel Severino, EAPVP Country Director: Vinay K. Bhargava, EACPF Sector Director: Geoffrey Fox, EASRD Task Team Leader/Task Manager: Arie Chupak, EASRD FOR OFFICIAL USE ONLY CONTENTS Page No 1. Project Data 1 2. Principal Performance Ratings 1 3. Assessment of Development Objective and Design, and of Quality at Entry 2 4. Achievement of Objective and Outputs 4 5. Major Factors Affecting Implementation and Outcome 7 6. Sustainability 9 7. Bank and Borrower Performance 10 8. Lessons Learned 12 9. Partner Comments 13 10. Additional Information 21 Annex 1. Key Performance Indicators/Log Frame Matrix 22 Annex 2. Project Costs and Financing 23 Annex 3. Economic Costs and Benefits 24 Annex 4. Bank Inputs 25 Annex 5. Ratings for Achievement of Objectives/Outputs of Components 26 Annex 6. Ratings of Bank and Borrower Performance 27 Annex 7. List of Supporting Documents 28 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.  Project ID: P004614 Project Name: RURAL FINANCE II Team Leader: Arie Chupak TL Unit: EASRD ICR Type: Core ICR Report Date: February 4, 2000 1. Project Data Name: RURAL FINANCE II L/C Number: 39380; 3938A; 39390; 39400 Country/Department: PHILIPPINES Region: East Asia and Pacific Region Sector/subsector: AC - Agricultural Credit KEY DATES Original Revised/Actual PCD: 05/12/93 Effective: 01/08/96 04/23/96 Appraisal: 04/28/94 MTR: Approval: 09/14/95 Closing: 12/15/99 Borrower/Implementing Agency: LBP/LBP Other Partners: STAFF Current At Appraisal Vice President: Jean-Michael Severino Gautam Kaji Country Manager: Vinay K. Bhargava Thomas W. Allen Sector Manager: Geoffrey Fox Pamela Cox Team Leader at ICR: Arie Chupak ICR Primary Author: Paul Harrison; Consultant 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: HL Institutional Development SU Impact: 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 objective of the project as stated in the Staff Appraisal Report (SAR) was 'to help expand the volume of medium and long term commercial credit to agriculture and rural development in the Philippines and to enhance the policy framework of the rural financial sector by: (a) supporting the development of Land Bank of the Philippines (LBP) two funds, the Countryside Loan Fund (CLF) and Retail Cofinancing Fund (RCF) to finance private sector investments in the rural areas; (b) strengthening LBP as the main wholesale financial institution serving rural areas; and (c) upgrading the operational capacity of rural cooperatives, Participating Financial Institutions (PFIs), particularly Thrift Banks (TBs) and Rural Banks (RBs), to provide financial services in the rural areas'. The project was also concerned with environmental impact. It was intended that... "sub-projects financed should be environmentally sound and comply with GOP environmental laws and regulations". These primary objectives were, and continue to be, important. Because of the undeveloped domestic market in long term financial instruments, was, and continues to be a shortage of finance for long term investments. Investment projects are financed by short term loans which are rolled over, exposing them to potential liquidity crises when financial markets tighten, as happened under the recent financial crisis. The objective of using retail as well as wholesale mechanisms reflected the fact that LBP has become an important rural credit retailer as well as a wholesaler, and the inclusion of this fund would also allow LBP to prudently expand its own long lending for rural investments. It provided the opportunity to broaden project coverage beyond that of CLF I. The strengthening of LBP and upgrading of the various intermediaries operational capacity were also important, and relevant, objectives as their achievement would result in a system which functioned more smoothly and would be better able to make sound credit decisions. The policy objectives of distancing LBP financially from the Agrarian Reform Fund, and limiting dividends to rational levels 1/ were very important. In particular because of the 1992 law requiring all State Enterprises, including Government Financial Institutions (GFIs) to pay dividends at 50% of nominal profits. These objectives are still more important now because (i) the value of outstanding Land Reform Bonds and their annual service/retirement cost are much higher than at the time of appraisal; and (ii) the financial crisis has had a negative effect on the balance sheet strength of all Philippine Banks, including LBP, thereby making conservation of real equity vital. The approach on environmental matters was in line with the Bank's OD 4.00 - environmental policies. However, for full compliance to have been realistic within a credit project, the tools for environmental evaluation and enforcement, (i.e.: a strong and efficient environmental setting and regulations at state level) should have been in place at the time of project inception. While GOP had a reasonable set of environmental regulations, it had not yet demonstrated the capability of implementing them effectively. The SAR did not raise concerns explicitly as to the extent that this objective could be achieved although probably it should have done so. However the fact that the Bank encouraged the establishment of the Environmental Unit (EU) in LBP indicates implicit concern about GOP's implementation capacity. 1/ There were covenants in the loan and guarantee agreements to require that exemption from the act should be obtained. These were that LBP would pay only dividends out of profit in real terms after inflation adjustment and providing additional equity to cover 1/8 of the incremental growth of agrarian lending (with the advent of the Third Rural Finance Project (TRFP) this was modified to take account of the need for paying preference share dividends and to provide for incremental equity to support CLF III incremental loans). -2- 3.2 Revised Objective: N/A 3.3 Original Components: The project would be implemented over five years, and would comprise the following components: (a) Credit: medium and long term loans to finance private investments in agricultural and other viable rural operations, (both fixed assets and incremental working capital) for a broad spectrum of agricultural and non-farm rural investment, (e.g. production, processing, marketing, transport services, storage facilities, custom service or leasing operations, and import of critical inputs). The credit operation would be determined by market forces, with no earmarked allocations by crop or type of investment and would bear a market determined interest rate. This component would include two programs. (i) CLF II: a wholesale operation to be carried out by LBP. CLF 11 resources would be channeled through accredited financial institutions for onlending to private investors; (ii) RCF: a cofinancing lending program for medium and long term rural investments, implemented by LBP to finance, together with other financial institutions, eligible sub-projects initiated by LBP's own customers; (b) Institutional Strengthening Program. Strengthening LBP financially and organizationally to ensure its sustainability in providing financial services to the rural population. This component would support LBP's long-term development program with concentration on private saving mobilization, agrarian lending policy, and organizational streamlining. The component would consist of implementation of an Institutional Strengthening Action Plan (ISAP) aimed at strengthening LBP's financial and institutional capabilities as wholesale financial institution serving the rural areas. An important element of this would be training and technical assistance with special attention on the management and members/staff of the cooperative, TBs, and RBs. These components were well linked to the objectives of the project, and CLF II followed on from the successful implementation of CLF under the earlier Rural Finance Project. Both ISAP and CLF II were appropriate to the implementing capacity of LBP. The initial Bank approach had been to provide LBP with medium and long-term resources entirely through CLF II. By the time of negotiations, GOP and LBP were anxious for a retail component also. The Bank yielded to this request because (i) LBP as the administrator of CLF had not been able to offer CLF funds to its own clients, thereby placing it at a disadvantage compared with CLF accredited banks, and (ii) existing rural customers of LBP were being deprived of CLF funds. However, the resultant RCF component was a compromise concept, which, although geared towards achieving Project objectives, and aimed at SMEs in the countryside, was not capable of being effectively implemented. Despite considerable preparation and promotion efforts, no lending had been made under the RCF by early 1997. It appears that under the original structure of RCF, the maximum sub-loan size was too small to attract co-financing. Shortage of long-term resources among potential co-financiers (which was not addressed by the project in this component) may also have been a contributing factor. -3- 3.4 Revised Components: While the CLF II component remains as it was designed at the time of the SAR, the RCF component was redesigned. This was a pro-active initiative to restructure the component before it affected the performance of the entire project. In June 1997 the RCF component was amended as follows: (i) the fund was restricted to lending to medium and small borrowers with a maximum of total assets of P60 million (US$2.3 million); (ii) sub-loans were not to exceed P4 million; (iii) financing of sub-projects under RCF were as follows: minimum 15% equity contribution by the sub-borrowers (as under the CLF II), at least 35% LBP's participation using its own resources, with the balance, not to exceed 65%, be provided out of the proceeds of the Bank's loans. Cofinancing by another financial institution was no longer required. At the same time, as the component redesign, US$40 million allocated originally to RCF was reallocated to CLF II. [Loan 3938 (CPL) US$5 million; Loan 3939 (FRSCL) US$20 million; and Loan 3940 (VRSCL) US$15 million] As a result of this reallocation total funds to be available for CLF II (under the three loans) was increased from US$90 million to US$130 million and funds available for RCF were reduced from US$60 million to US$20 million. This change in RCF and expansion of CLF II resources is expected to (i) allow LBP to accommodate its traditional customers; (ii) strengthen the CLF II and provide it with more funds to meet the strong demand (within one year of project start up, more than 66% of the initial fund allocated to the CLF II had been disbursed and an additional US$18 million of sub-loan applications were being processed); (iii) encourage more PFIs to actively participate and finance viable investments in the rural areas, thus increasing the generation of incremental gross value added and employment, and contributing to poverty alleviation efforts; (iv) enhance project ability to meet its agreed objectives; and (v) accommodate potential rural investors which otherwise may not have been supported, thus advancing project objectives. 3.5 Quality at Entry: Peer Reviewers and Bank decision makers endorsed the project design, its features and components. Therefore quality at entry was satisfactory. (QAG did not exist at the time of project approval). 4. Achievement of Objective and Outputs 4.1 Outcome/achievement of objective: There were no macro-economic policy objectives, nor broad sector policy objectives. However the narrower sector policy objectives with regard to distancing LBP from the ARF, and limiting LBP's dividends to real profits have been achieved to date. The ARF assets and liabilities are now outside LBP's balance sheet and the original Land Reform Bonds, issued in LBPs name have been converted to National Government (NG) Bonds with the same terms and conditions. Although there is still pressure from GOP to try to obtain dividends from LBP in relationship to nominal profits, the existence of specific covenants to prevent this has helped to ensure compliance with the agreement so far. Other than being confined to 'rural areas', the credit component of the project was undirected, consequently there were no specific physical development objectives under the project. Although if the achievement of levels of investment which result in expansion of physical assets are considered as general physical objectives, then the project was highly successful because the rate of investment has been more rapid than projected at appraisal. The project did not specifically set social objectives in the areas of poverty alleviation or gender concerns. However, with incremental economic activity and creation of over 10,000 jobs in the rural areas being likely results of investment under the project, it would be expected to have a positive impact on poverty -4- alleviation. By the same token, enhanced availability of medium term finance and the involvement of a large number of smaller financial institutions have both had a positive impact on private sector development. 4.2 Outputs by components: Credit. The project has been successful both in terms of the volume of lending and the proportion channeled through TBs and RBs. By March 1999, some 678 CLF loans had been made, including 451 loans through TBs and RBs. The CLF and total targets for amount lent and the amount channeled through TBs and RBs both have both been exceeded, but the RCF has failed to take off so far. Funds delivered under the project, are now expected to support investment of about US$260 million, almost identical to the level planned at appraisal, the main difference being that CLF will be substantially larger than initially envisaged and RCF smaller. The question of additionality for the credit component is open to debate. Under the project, commercial sub-project selection criteria were applied, and, as a result, the investments supported were sound. Because of this, many of the specific investments financed under the project would probably also have been made 'without project' using alternative funding. The project's additionality in this regard should be assessed not on whether specific investments were induced but rather on whether it resulted in an increase in overall investments and further that it did not 'crowd out' deposits, particularly term deposits. Macro data for the Philippine banking system as a whole indicates that over the project period, there was on aggregate a substantial expansion in intermediate and long term loans. Between December 1995 and June 1998, intermediate and long term loans of commercial banks as a whole 2/ grew by P364 billion or 320%, while the corresponding growth of short term and demand loans was 208%. The project's contribution to this growth in term loans was about 1%. Project contribution in terms of rural investments is likely to have been much larger than 1% as not all of the P364 billion total growth in lending went to rural areas. On the resources side, there was a growth in deposits of the banking system over the period December 1995 to December 1998 of 72% overall, but a 118% growth in time deposits. The absolute amount of time deposit growth was P280 billion (compared with project funds disbursed over the same period of P3.6 billion). Furthermore, over this period, Philippine banks, on average had adequate risk assets to equity ratios, consequently, the limitation to lending was availability of resources. 3/ A reasonable inference to be drawn from this data therefore is that the project contributed to the overall expansion of the availability of longer term resources and hence loans and investment. There is no evidence of 'crowding out'. Institutional Strengthening Program The institutional development objectives of strengthening LBP and the PFIs implementing the credit component of the project were largely achieved. In addition, the considerable support to co-operatives has resulted in improvements in their classification in excess of that targeted within the Key Performance Indicators (KPIs). On resource mobilization, LBP was successful in mobilizing private deposits, but, partly as a result of the financial crisis, it has not yet issued long or medium term peso debt instruments; 4/ LBP did, however, issue preference shares which partially substituted for these. Some specific but minor institutional development components, unrelated to the credit line such as the establishment of co-operatives' cross guarantee programs were not implemented mainly because it became clear, that many of these co-operatives were too weak to undertake this additional activity. Through its Environmental Unit (EU), LBP has developed the ability to ensure that sub-borrowers can secure the environmental permits required by the Department of Environment and Natural Resources (DENR). To this extent it reported that by May 1999, 55% of subprojects obtained DENR permits, -5- compared to 70% targeted 5/ for the year end. However, spot check audits 6/ indicate that actual compliance with environmental regulations is not being achieved in some cases. This deficiency can be attributed to lack of enforcement by DENR, although it could be helped by more intense dialogue between the EU, the PFI and the borrower to ensure that DENR stipulations are actually translated into mitigation measures. Achievement of project with respect to ensuring that all sub-projects are environmentally sound can thus be rated only as partially satisfactory. 2! This data applies to the banking system as a whole, while the project was concerned with rural investment. Nevertheless, the incremental lending and resource mobilization is so large that it is reasonable to assume that the picture for the 'rural areas' (defined under the project as the Philippines, excluding Metro Manila) would have been similar. Funds provided under the project would have still been small compared to total rural investment and time deposit mobilization. 3! LBP's analysis of the 30 commercial banks with which it has credit lines indicates a weighted average risk assets to equity ratio of 6.2 at end 1995, 6.8 for end 1996, 7.0 for end 1997 and 6.5 for end 1998. These are all well within the BSP requirement of 10. Only at the end of 1997 were a significant number of banks (25%) having problems meeting this prudential ratio. 4/ LBP is planning to retail a floating rate five year deposit instrument, which will allow depositors to take advantage of recent tax law changes. That is, because its maturity is over five years, the instrument will be free of the 20% final withholding tax on interest. 5/ Target added during project implementation. It assumes that by year end 1999, 70% of requests for environmental permits would have been fulfilled. Of the 30% remaining, most would be still in process and would be approved later. 6/ An audit of 18 out of 123 projects requiring environmental clearance indicated that 39% had fully complied with regulations, 44% had partially complied and 17% had not complied at all. 4.3 Net Present Value/Economic rate of return: At appraisal, no specific 7/ estimate was made of the project's likely economic rate of return because at that time it was unclear what types of demand-led investments would be made. Subprojects of above P1 billion were simply required to have ex-ante ERRs in real terms in excess of 12% (15% since June 1998), and to be outside metro Manila. An analysis of the 47 projects (amounting to 52% of investment) for which ERRs were calculated, ex ante, indicates a highly satisfactory median ERR of 27%. Because the sub-projects are all quite new, an ex-post analysis of ERR would be premature at this stage. If resources could be found, an analysis of ex-post sub-project financial and economic performance would be useful in about 5-8 years time, by when, most of the sub-projects would be mature and the first round loans would have been repaid. 7/ The SAR pointed out that ex ante FRRs for the first Rural Finance Project had averaged about 30% and ERRs 35% and that similar results could be anticipated under this project. 4.4 Financial rate of return: In line with its objective, the project is contributing to raising the profitability of LBP, PFIs and sub-borrowers. Analysis of LBP's internal accounts show the net profit from CLF II operations over the first three years as follows: -6- Year 1996 1997 1998 P Million P Million P Million Income on CLF II Funds 87.5 217.6 454.6 Interest Cost 41.6 133.9 184.3 FXRC fee, Guarantee fee etc. 28.0 49.5 179.5 Provisions for loan losses - - 0.8 Estimated Administrative Costs 6.1 8.4 11.4 LBP Profit from CLF II 11.8 25.8 78.6 The net profit at a little over 2% of the outstanding CLF II portfolio is quite robust, with administrative costs only amounting to about 12% of the gross margin. It will be important, however, that the provisions for losses remain reasonable. It is possible that over the next year or so these would have to increase substantially. If for example CLF past dues were covered 100% by provisions, loss provisions in the 1998 income and expense account would have needed to be P16 million, rather than P0.8 million, even so, LBP would still have shown a profit of P63 million for the year. The PFIs have reported operating spreads on CLF II funds of typically 3%-4% for medium - large loans by commercial banks and up to 8-12% for rural banks. No detailed analysis of the marginal profitability of PFIs from CLF II has been made, but the fact that there has been a fairly strong demand and significant repeat business indicates that PFIs view this funding opportunity as profitable. Ex ante analysis of sub-borrowers Financial Rates of Return (FRR) indicates that of those projects for which FRRs were estimated, amounting to 84% of project investment, three quarters projected FRRs in excess of 20%. The median FRR was 28%. 4.5 Institutional development impact: See 4.2 - Institutional development was a Project component. 5. Major Factors Affecting Implementation and Outcome 5.1 Factors outside the control of government or implementing agency: The Asian Financial Crisis - this has had the effect of slowing demand and weakening the financial sector, has reduced credit demand, rendered some PFIs no longer acceptable conduits and made achievement of LBP's ISAP more difficult. 5.2 Factors generally subject to government control: The project was prepared early 1994 and appraised in summer, 1994 and, after being updated through a desk analysis in spring 1995, was negotiated in June 1995. The loan was signed on October 10, 1995, became effective in early 1996 and started disbursing in the spring of 1996. The appraisal to negotiations delay resulted from concerns of GOP's cabinet. The secretary of finance at that time (who was also ex officio chairman of LBP) postponed negotiations, just prior to their planned start because it was felt that the Project should have been retail oriented. This was not acceptable to the Bank. By early 1995, GOP accepted that the project would be basically a wholesale banking operation, as originally designed and negotiations were set for June 1995. However, GOP pressured LBP to request a larger 'retail element' during negotiations. As a result, the size of the proposed loan for the Retail Cofinancing (RCF) component was doubled from US$30 million to US$60 million. Further, the proportion of the cofinancing element to -7- be sourced from LBP was to fall from 50% to 25%. This implied an increase in financing by other, as yet unidentified financiers of a factor of four. It was seen as means to allow LBP to further develop its cofinancing and syndication activities. Other factors subject to GOP control include: * The dividend policy for GFIs introduced in 1992 and the 1998 change in tax policy has reduced the potential for LBP increasing its equity from organic growth. * The long standing GOP Policy of not allowing provisions as a tax deductible reduces the incentive for making adequate provisions against bad debts. This is a particular problem when balance sheets are weakening as is the case at present (1997-1999). * GOP's policy to keep agrarian lending rates low acts as a break on LBP expanding its agrarian lending in line with its ISAP target. * The inconsistent interest rate policy among donors, which has recently become more significant, is making wholesaling under CLF more difficult. * The moderate capacity of GOP's environmental agencies makes it difficult to ensure that investments will be environmentally sound. 5.3 Factors generally subject to implementing agency control: The project was implemented by LBP which (i) provided funds borrowed under the Bank Loans on a wholesale basis (via its CLF) to PFIs for on-lending to sub-borrowers based on a project implementation manual agreed by the WB and LBP (ii) undertook retail financing using RCF 8/ resources, and (iii) implemented an Institutional Strengthening Action Plan (ISAP) for itself. * CLF II has benefited from experience gained from ALF and CLF I and LBP's decision to manage these funds using the same staff and systems. * There seems to have been a lack of interest in and full understanding of RCF (since it has become a retail fund) by LBP's branches. This may be the result of LBP marketing too many loan products, lack of appropriate incentives for RCF lending and possibly ineffective communications between head office and the branches. * Over the past two years, perhaps as a result of organizational changes there appears to have been a deterioration in the quality of accreditation and supervision of Countryside Financial Institutions (CFIs). 8/ The initial cofinancing component did not move at all. The size of loan targeted (below US$3 million) was thought by LBP to be too small and other banks did not want to participate, consequently, in 1997 the loan agreement was amended to reallocate $40 million back to CLF. The remaining US$20 million was to be for retail lending by LBP specifically to SMEs. The initial proposals were for loan size to be less than $150,000 and total assets of the borrower less than P60 million (equivalent to USS2.3 million at that time). 5.4 Costs and financing: As at March 31, 1999, the project cost 9/ to date, excluding minor 'second use of repaid funds' amounted to US$206 million. Estimated project cost at completion (December 2000) is almost identical to the Appraisal figure at $263 million. However, the CLF component at US$223 million is 86% larger than anticipated, and the RCF component, now estimated to be US$38 million is substantially (73%) smaller. CLF sub borrowers contributed significantly more to investments than the minimum required (30% rather than a minimum of 15%). This, together with the PFI contribution of 17% of the sub-loan amount, rather than a minimum of 13.3% helped to leverage Bank funds for CLF II well beyond the appraisal estimate (US$1 of Bank loan supported US$1.71 of investment, rather than the appraisal estimate of US$1.33). This offset the effect of a reduction in size of the RCF (in which Bank funds were planned to be more -8- highly leveraged). The cost of the training component was in line with the appraisal estimate. Despite the devaluation, average exchange rate for the whole project - likely to be about P32 per US$ - is slightly lower than that estimated at appraisal (P33 per US$). Overall, the project has been implemented within the time frame envisaged. Delays have occurred in RCF, but CLF is well ahead of schedule. 9/ Because this is a credit project, costs are mostly induced investment by private entrepreneurs borrowing under the project. The cost figures for the CLF and RCF components represent the value of investments partly financed by project resources. 6. Sustainability 6.1 Rationale for sustainability rating: The project is highly likely to be sustainable at sub-borrower, PFI, LBP and Government levels. For the sub-borrowers, investments have been assessed as being profitable ex ante with a median FRR of 28%, well in excess of the cost of funds. The fact that loan repayment record is substantially better 10/ than that for the banking system as a whole, supports the thesis that loans under the project have been relatively good and that on average, the investments are sustainable. The PFIs under the project have set interest rates and fees at levels which make project lending profitable to them. This, together with the long maturity of project funds means that this type of lending, will be sustainable using project resources for more than another 10 years. Beyond that, other long term borrowing from development or commercial institutions, increased capitalization or the issuance of bonds would allow the levels of medium/long term investment lending initiated under the project to be sustained and expanded. LBP's internal accounts show that the project adds to LBP's net income, and so it will be sustainable provided LBP continues to be prudent in its accreditation process and the need for loan loss provisions against its lending under the project remains low (well below 1% per annum). However, if LBP becomes constrained by its risk assets to equity ratio, there is a possibility that wholesale lending could be crovded out by retail lending with higher spreads. Because of the timing of the Asian financial crisis and the associated devaluation, this project will probably be less beneficial to GOP than RFP on which substantial fees were earned prior to the crisis, or TRFP, which is post crisis. 11/ The simple Foreign Exchange Risk Cover (FXRC) fee is unlikely to be sufficient to cover the foreign exchange loss. However, that fee represents only a small part of the direct project benefits to GOP. In addition, GOP also receives a 1% 'guarantee fee' and gross receipts tax (GRT) both on income to LBP from funds on-lent to PFIs or invested in Government Securities and further GRT on interest paid by sub-borrowers to PFIs. The incremental GOP income from these direct fees and taxes and incremental company tax stemming from incremental value added by sub-projects is estimated to more than cover the foreign exchange risk exposure. Analysis based on past and projected interest rates, exchange rates and project loans indicates that the net present value (NPV) 12/ to GOP of incremental Guarantee fees, FXRC fees and Gross Receipts Tax (GRT) less incremental foreign exchange cover costs resulting from the project is positive at US$1.2 million. If incremental income tax on estimated incremental profits of LBP, PFIs and the sub-borrowers is also taken into account, the NPV rises to US$P32 million. Environmental sustainability requires that LBP continues to insist on conformity with environmental laws -9- in future lending operations. This is probable, at least in the medium term, because the Bank, and other environmentally conscious donors are continuing to fund projects through LBP and while this goes on, its EU will remain in place and be reasonably effective. Its sustainability would be sure if the 'playing field were leveled' and the code of practice presently adopted under the project were required for all investment loans by the entire banking sector. Without certainty that this will happen, there are some minor doubts as to the long term sustainability of the environmental objectives of the project. 10/ The overall level of gross past dues for the banking sector as a whole at end 1998 was 11% whilst those of CLF II sub borrowers to PFIs was 6.6%. 11/ As a result of, and in response to, the Asian financial crisis a Third Rural Finance Project (TRFP) was approved by the WB in December 1998. The TRFP's main objective is to provide financial support to the rural economy to overcome the difficulties created by the regional financial crisis. The project was designed as a wholesale banking operation, incorporating fully the lessons learned from RFP and RFP II. 12/ Discounted at 10% real interest rate. Using a higher real discount rate (12% or 15%) would increase the net benefit from US$1.2 million to US$2.1 million and USS3.1 million respectively. 6.2 Transition arrangement to regular operations: The first round of fund use under the project is virtually complete. Future operations revolve around LBP continuing to collect the sub-loans from the PFIs and making new sub-loans using rolled over funds for similar purposes. This process is already in place. The detailed operational manual will continue to be used and lending procedures will be harmonized with those of the successor project (TRFP). The institutional strengthening of LBP, initiated under this project through the ISAP will be continued under TRFP's Institutional Development Plan (IDP). The performance of this will be monitored through the TRFP KPIs. 7. Bank and Borrower Performance Bank 7.1 Lending: The main elements of Project design (CLF and ISAP) were relatively simple, and took account of lessons learned under the earlier Rural Finance Project (RFP). The initially proposed RCF sub-component, was new and untested. It was intended to attract additional commercial finance to SIE countryside lending as well as to provide LBP with retail funds under the Project. The appraisal process was relatively smooth and rapid. However, there was a substantial delay, caused by GOP, between appraisal and negotiations with the project being negotiated some time after the appraisal mission. The decision by the Bank at negotiations to agree to a doubling of the retail (cofinancing) element which had not been prepared in detail, but then to insist upon 75% contribution from other banks was probably strategically sound. It kept the project alive but created a component which was unlikely to (and indeed did not) move. In due course, this component was amended. The time period from negotiations to board approval was normal and the project became effective in Spring 1996.. It has been the practice in some Bank credit projects to establish an environmental unit in the financial intermediary processing the loan. Ideally, it is preferred that state environmental authorities should look after monitoring and enforcement of environmental regulation. Experience in the Asia region shows, however, that strengthening the national agencies is a slow process, often inefficient, that is never available in time to serve the individual project under discussion. The Bank observed this situation in the Philippines at the time of Project preparation, and, having evaluated DENR agreed with LBP to incorporate an - 10- Environmental Unit (EU) within the project structure, to enhance compliance. Because it lacked the leverage, the Bank did not try to insist that all Philippine banks operate in this way. The Bank also made a sensible decision to accept compliance with GOP regulations as the sole environmental eligibility criteria under the project. This simplified the project's environmental requirements and eliminated more demanding, complex Bank procedures. The training program incorporated in the project helped raise environmental awareness inside and outside the LBP. 7.2 Supervision: Following loan effectiveness, the Bank mounted supervision missions once 13/ a year. Most supervision missions were staffed by a financial analyst and a financial/agricultural economist, with additional support, on several occasions, from an environmental specialist. The supervision missions worked closely with LBP on resolving any problems concerned with the credit lines, including amending the size and scope of the RCF component. They also participated in the review and updating the ISAP, helped fine tune policies to ensure adequate provisioning for agrarian loan losses and maintained dialogue with GOP to ensure that the specific covenants which protected LBP's financial strength were met. On environment, the Bank's initiative has meant that investments under the project are more environmentally sound than they would otherwise have been, but it is not clear whether the improvement in environmental systems will extend any further. An important feature of this project was Bank staff and consultant continuity. This was appreciated by the borrower and led to good communications and a high degree of trust and understanding. During supervision, the Bank's missions identified a significant gap between legal eligibility to borrow (from an environmental standpoint) and actual compliance with environmental regulations. To monitor and help to close this gap, environmental audits have been incorporated in project implementation. As a result of the EU introduced under the project, investments have been more environmentally sound than they would otherwise have been. But the project has not come up with an improvement in environmental systems which is sure to be sustainable. The Bank's performance with regard to environmental matters is therefore rated as satisfactory rather than highly satisfactory. 13/ Because there were other ongoing activities with LBP during the project period involving the same task manager and consultants, closer contact was maintained with the project than the one per year supervision missions indicated here. 7.3 Overall Bank performance: Overall, the Bank's performance is rated as satisfactory on project design and appraisal and highly satisfactory during implementation. Borrower 7.4 Preparation: Preparation of the project was largely undertaken by LBP, based on the knowledge gained from the RFP. This was professionally undertaken and the main elements of the project, CLF and ISAP were harmoniously developed together with Bank support and can be considered highly satisfactory. There was little preparation undertaken on the RCF component however which is one of the reasons that in its initial form it did not move. This is considered unsatisfactory. Taken overall, the borrowers preparation performance can be considered as satisfactory. 7.5 Government implementation performance: GOP's performance has been less satisfactory than LBP's. It delayed the project process for about a year - 11 - by postponing negotiations, but has still ended up with a project which is pretty close to the original design. As Guarantor of the project GOP has needed to be reminded of its obligations, both in the area of dividend policy 14/, and in ensuring that ARF does not become overdrawn at LBP beyond the covenanted level of P1 billion. Overall, the performance of the project's borrower and guarantor, taken together can be viewed as satisfactory, providing GOP cancels its 1998 dividend proposals and quickly restores the ARF balance to an acceptable range. 14/ GOP's Initial proposals for dividend payments on ordinary shares out of 1998 nominal earnings were contrary to the loan and guarantee agreements in that they sought cash dividends even though LBP's earnings were insufficient to cover erosion of equity by inflation, adequate provisions for loan losses and preference share dividends. 7.6 Implementing Agency: LBP, the principal implementing agency and the borrower has generally performed well under the project. On the credit side, CLF funds moved quickly and in line with project estimates. Targets on numbers of loans, numbers of PFIs and flows through RBs and TBs indicating diversity of coverage were all met. Collection rates and levels of past dues have been good but some problems resulting from the financial crisis appear to be surfacing. Until July 1997, there were no past dues to LBP under CLF, but now (June 1999), past dues from the PFIs to LBP amount to 0.82% - still a pretty low level. Performance under the wholesale part of the project has been highly satisfactory. The main credit problem has been the fact that the RCF did not move. Probably, the original design was insufficiently researched, although there also appear to have been problems within LBP's organization of providing appropriate incentives to lending units to make use of the funds. The program has now been redesigned somewhat and LBP branch management expect that the reduced RCF (US$20 million) will be disbursed in the next 18 months, on time for project completion. LBP has made progress with most elements related to institutional strengthening, although the KPIs which were set shortly before the financial crisis were not all met. LBP has taken the agreed actions to safeguard financial strength, but growth in real equity has been lower than planned. Lending objectives have been realistically set. Quite rationally, in view of market conditions, no long term peso instruments have been introduced, but LBP intends that these will be introduced before project closure. The costs of agrarian lending are still excessive, but a marked improvement has taken place between 1997 and 1998. Agrarian loan loss provisioning has been rationalized in line with the ISAP proposals. Cooperative strengthening has been implemented and the agrarian loan data base improved. The internally funded training and technical assistance program under the project has been implemented more or less as envisaged. Overall, LBP performance on this part of the project has been satisfactory. Project monitoring and reporting has been satisfactory, with an agreed format, which allows performance against KPIs to be monitored, having been adhered to and reports provided on time. 7.7 Overall Borrower performance: Overall, the performance of the project's borrower and guarantor, taken together can be viewed as satisfactory, providing GOP cancels its 1998 dividend proposals and quickly restores the ARF balance to an acceptable range. 8. Lessons Learned The generally successful project outcome underlines a number of positive experiences on which to draw in future and lessons learned when implementing credit projects in countries with a diverse banking system. - 12 - Firstly, using a sound wholesale institution with a strong accreditation unit to appraise PFIs, rather than having the Bank review each can work satisfactorily in a system where there are many potential lenders. Secondly, this type of project is a suitable mechanism for disbursing relatively large loans quickly to the private sector, without placing much burden on Government. By on-lending at domestic market rates and having the Government benefit from the interest rate arbitrage, but bear the foreign exchange risk, the long term liklihood is that the Government will not lose and that domestic markets will be strengthened. Furthermore, any benefits derived from the fact that a country can borrow Bank funds more cheaply than commercial funds would accrue to Government. This type of operation is more transparent with single currency libor linked loans than with pool loans. 9. Partner Comments (a) Borrower/implementing agency: RURAL FINANCE PROJECT II (RFP II) IMPLEMENTATION COMPLETION REPORT I. Evaluation of the Project A. Project Objectives * The objective of the project which was to help expand the volume of medium and long term commercial credit to agriculture and rural development in the Philippines was highly relevant at the time of project inception considering the developmental needs of the Philippine countryside. Moreover, with the underdeveloped capital markets in the country, the supply of long-term funds was very limited. * The project aimed to fuel economic activity in the rural areas and support the Philippine government's regional dispersal policy. This is meant to achieve a balanced regional development structure with strategic growth poles in the various regions outside the National Capital Region. * As a credit program , RFP II was designed to provide long-term financing to private sector priority projects in the countryside. The focus sectors were agriculture, fishery, agro-processing, manufacturing and services. These are high impact sectors with large multiplier effects in rural areas. * RFP II also aimed at increasing the supply of long-term financing for small and medium enterprises (SMEs) and further boost the development of the SME sector. The country's vision is to develop SMEs as the principal engine of economic growth. * With regard to environment, sub-projects financed should be environmentally sound and comply with existing environmental laws and regulations of the Philippines. Such objective would safeguard the use of the fund to sub-projects which would not adversely impact on the environment and thus, promote sustainable development. * The project will continue to be significant as the long term financial market in the Philippines has not yet fully developed. Most banks do not readily lend on long term basis unless long term - 13- funds are tapped from special financing programs such as the Countryside Loan Fund II. For the institutional component of the project, the principal objectives of the RFP 11 were as follows: 1. To strengthen LBP as a development financing institution and deepen its impact as the principal source of formal credit for small farmers and fisherfolk. 2. To expand LBP's role as a catalyst of countryside development. 3. To enhance LBP's financial soundness and delivery capability as well as operational viability. B. Project Design * The design of the wholesale credit component was highly effective as the project was able to build-up from the experiences, organizational set-up, and systems and procedures of the two predecessor projects which LBP successfully implemented - the Countryside Loan Fund I and the Agricultural Loan Fund. * The project proved anew that a wholesale approach, with LBP as the apex financial institution, was effective in reaching out to more beneficiaries nationwide. It was able to capitalize on LBP's financial strength and capability to implement the accreditation process and performance review of PFIs. LBP's strong presence in the rural areas, as well as the geographical location of the rural and thrift banks, and the branch network of the universal/commercial banks also contributed to the wide dispersal of the fund. * The project was likewise designed to respond to the needs of the countryside economy at the time of its inception. In addition to the eligible projects of CLF I, CLF II was able to assist tourism-related and environment protection projects. Moreover, CLF II loan in US Dollar denomination became available to serve the long term foreign currency loan requirements of sub-borrowers. * Same cannot be told, however, on the original design of the Retail Countryside Fund, the loan component for direct lending to LBP's clients. The initial RCF project design required the participation of a co-financier. However, the sub-borrower's asset-size limit of P 250 Million was too small to attract co-financing. The asset size likewise discouraged loan syndications as small loan size would not be cost efficient. The rural banks, on the other hand, preferred to avail CLF II under the wholesale operations rather than participate as a co-financier. The RCF features were subsequently amended with the deletion of the co-financier and increasing the maximum asset size and loan size. With such amendments, LBP management is confident that the remaining fund will be fully disbursed before the end of year 2000. * Effective systems and procedures were in place to ensure that prior to funding, sub-projects either had the necessary environmental clearances/permits or had been reviewed as non-coverage projects. However, there were weaknesses in the monitoring of the sub-borrowers' compliance to the conditionalities of the Environmental Compliance Certificate (ECC) approval, principally because of the government's weak enforcement of environmental laws and regulation. LBP addressed this thru its own environmental audit but the coverage of environmental audits being conducted by LBP's Environmental Unit (EU) was constrained by the limited number of EU personnel. - 14 - C. Achievement of Objectives Credit Component - Achievement of the project's credit objectives was rated highly satisfactory as proven by the following: The project increased the volume of medium and long term credit in the countryside with an aggregate of P3,790.141 Million for 672 sub-projects as of March 31, 1999. More importantly, the project was able to encourage the financial participation of the PFIs and sub-borrowers at a level exceeding the minimum requirement of the project. (The PFIs and sub-borrowers provided 12% and 30%, respectively, exceeding the minimum 10% and 15% participation). It could not be claimed, however, that these project investments would not have pushed through without CLF II funding as these viable projects could have otherwise tapped alternative sources of financing. - The loan releases and investment activities helped fuel regional development and contributed to the regional dispersal policy of the Philippine government. Loan releases were distributed among the various regions. The highest availment rates were in the following regions: Southern Tagalog, Central Luzon, Southern Mindanao, Western Visayas, and Ilocos. * The objective to expand long-term financing for SMEs was adequately met. SMEs accounted for the bulk of the loans granted with a 67% share or P2.68 Billion . In fact, for "small enterprises", the total loans granted amounted to P1.81 Billion representing 45% of total loans. * Loan drawdowns had always been ahead of the 5 year drawdown schedule. After less than 3 years from effectivity date, 82% of the US$150 Million had been drawn from the Loan Account. * The project's key performance indicators which included total project investments, number of loans, amount and number of loans released thru thrift and rural banks and employment generation were all surpassed. * The project contributed positively to the overall financial performance of LBP, the PFIs and the sub-borrowers. Aside from increased economic activity in the countryside, the project created socio-economic impact through employment generation and revenues to the government. * All sub-projects had been reviewed and endorsed as environmentally acceptable by LBP's EU prior to CLF II funding. The project likewise (a) promoted awareness of the PFIs and sub-borrowers with the prevailing environmental laws and regulations; and (b) enhanced the PFI's environmental due diligence through the conduct of relevant trainings and seminars. Institutional Strengthening Action Plan (ISAP) - In 1994, LBP prepared an ISAP for 1994-1998. ISAP was a medium-term business plan which outlined the main actions which were to be taken by LBP to maximize its economic development impact while maintaining a high level of financial health. The achievement of the ISAP and RFP II institutional objectives was highly satisfactory. The strategic impact of the actions taken is considered extensive. The benefits registered in the plan period 1994 to 1998 shall continue to be recorded in the coming years. - 15 - The following are the principal results of RFP II and its impact on LBP. Sustained growth in loans to farmers and fisherfolk cooperatives. LBP was able to reinforce its position as the principal source of credit for small farmers. From only P6 Billion in 1994 (the initial year of the medium-term plan), loan releases to farmers' cooperatives doubled to P12.3 Billion in 1998. For 1999, loan releases to small farmers are projected to increase further to, at least, P13 Billion. Consistent expansion in reserves coverage with the adoption of a stringent loan loss provisioning policy. This is a very concrete and positive result of the ISAP and RFP II. Since the commencement of RFP II, LBP adopted a highly conservative loan loss provisioning policy on its small farmers loan portfolio. This exerted a drag on overall profitability but strengthened LBP's balance sheet. Moreover the build-up in reserves was executed over a five-year period. Thus, during the crisis years of 1997 and 1998 the lumping of provisioning expenses was avoided. AGRARIAN LOANS PROVISIONING AND RESERVES 1994-1999 Provision Reserves for Net Past Reserves to for Loan Probable Due Loans PDL Losses Losses (PMillion) (PMillion) (PMillion) 1994 733 1,363 1,644 45 1995 711 1.413 1,342 51 1996 1,383 2.424 746 76 1997 1,457 3.118 435 88 1998 403 2,270 376 86 1999 S 471 2,498 317 89 The provisioning formula adopted was -100% for past due loans of more than 2 years, 50% for past due loans of less than 2 years, and 25% for restructured loans. "Reserves to past due loans" or the coverage ratio was almost doubled from only 45% in 1994 to 88% in 1997 and 86% in 1998. This is deemed a highly comfortable level which will insulate LBP from sharp turndowns. Moreover, the positive impact of the high reserves will benefit LBP in the medium term. Sustained improvement in agrarian loan quality. LBP has been highly successful in improving the quality of loans to farmers and fisherfolk. From 1994-1997, the past due rate was at 30% to 32%. In 1998, this was reduced to only 23.6%. The improvement was recorded despite the various problems affecting the agricultural sector. As of September 1999, the past due rate stood at 25% with past due loans outstanding at P2.8 Billion. - 16 - Agrarian Loans Past Due Loans Past Due Rate Outstanding (P Million) (%) (PMillion) 1994 11.688 3,006 31.2 1995 9.200 2,754 29.9 1996 10,672 3,170 29.7 1997 11,288 3,553 31.5 1998 11.176 2,646 23.6 1999S 11,253 2,815 25.0 The improvement in loan quality was the result of various initiatives undertaken by LBP. The strengthening of the farmers' cooperatives was highly instrumental. In addition, LBP revised its "cooperative accreditation criteria" to strengthen the rating system. Relative to the improvement in the loan quality was the enhancement of the agrarian loans monitoring system. Statistics on loan disbursements and collections were upgraded. This led to the effective tracking and monitoring of agrarian loan performance. * Segregation of Agrarian Reform accounts and issuance of bonds by the Philippine Government. On 25 July 1995, Executive Order 267 was issued and this provided for (1) the issuance by the National Government of Agrarian Reform bonds; and (2) the segregation of the agrarian reform accounts from the books of LBP. Previously, LBP was the issuer of Agrarian Reform Bonds used to compensate landowners. This was a high-priority item which was effectively implemented by LBP in coordination with various government agencies. The segregation has transformed the financial condition of LBP. Likewise, the Bank has been insulated from possible cashflow risks arising from the acceleration of the CARP program and inadequate program funding. * Transformation of Deposit Base - Rapid Expansion of Private Deposits and Growth in Long-Term Deposits. The ISAP implementation spurred LBP to undertake a transformation of its deposit base. Cognizant of the need to lower its dependence on government deposits and to expand term deposits, LBP implemented various projects and initiatives. Over the past five years, deposit generation and retention campaigns were carried out to boost private deposits. In all branches, customer service became a crucial focus. Likewise, LBP floated 5-year Certificates of Deposit for private depositors. In summary, LBP has been highly successful in transforming the deposit base. This has improved LBP's liquidity position and asset/liability profile. - 17- LBP DEPOSITS PROFILE (In P Billion) MATURITY TOTAL PRIVATE GOVERNMENT SHORT- MEDIUM/ TERM LONG TERM 1994 55 9.2 45.8 54.9 0.1 1995 75.1 14.8 60.3 75.0 0.1 1996 91.1 23.3 67.8 89.8 1.3 1997 113.2 38.8 74.4 103.1 10.1 1998 124.0 47.5 76.5 107.3 16.7 1999 S 135.5 49.7 85.8 116.6 18.9 D. Project Implementation and Operation Experience * The loan component was implemented strictly in accordance with the agreed CLF II and RCF policy manuals. * The training program for CLF-related staff of LBP and PFIs were likewise successfully implemented. Trainings in the field of financial analysis, economic analysis, project evaluation, environmental impact assessment, among others, were implemented at the start of the project, thus contributed to the capability build-up of the program implementors and PFI availers. * The regional financial crisis which started in mid-1997, however, had adverse effects on project loan disbursements. With economic instability and lower consumer demand, start-up or expansion projects were deferred as reassessments had to be carefully done to ensure project feasibility during this critical period, thus slowed down PFI availments. Moreover, loan defaults within the banking sector increased sharply, thus, precipitated more cautious lending from PFIs. Coupled with the weakening in the financial position, particularly of the smaller banks, the number of accredited PFIs decreased by as much as 15%. * Additional operational workload were encountered in view of the three (3) loan currencies availed under SRFP (Currency Pool Loan, Floating Rate Single Currency Loan in US Dollars, and Fixed Rate Single Currency Loan in US Dollars) and the two loan categories (wholesale and retail) under the three loan accounts, e.g., preparing the project loan documentation, applications for funding and replenishment, servicing the bills payable, payment/claims regarding foreign currency exchange cover, etc. ; * The environmental requirement of the program increased the awareness of the PFIs on the significance of environmental due diligence in sub-project evaluation. Moreover, the level of PFIs' environmental consciousness was further intensified thru the environmental trainings and seminars conducted by LBP. - 18- E. Future Operations * The first generation funds are expected to be fully disbursed before the end of year 2000. Reflows or collections will be relent anew in accordance with the approved CLF II / RCF policy manuals. * The accreditation process and PFI performance review, particularly for the countryside financial institutions, will be further strengthened thru enhancements of the organizational structure for CFI lending operations. * The EU will endeavor to expand its coverage of environmental audits of sub-projects . Moreover, increased sub-borrowers' and PFIs' awareness with the compliance to the conditionalities of the ECC approval shall be achieved thru the various environmental seminars and trainings to be conducted by the EU. II. Evaluation of Borrower's Own Performance * The overall performance of LBP for the period 1994 to 1999 has been highly satisfactory. In the agrarian operations, the performance was highly commendable and structural adjustments were undertaken. These have set a platform for sustained growth. * In terms of overall financial performance, the trajectory was set during the first half of the plan period 1994-97. Sustained growth was attained and this was projected to continue until 1999. However, the Asian crisis which started in July 1997 and continued up to 1999, induced a downward adjustment on the annual targets for 1998 and 1999. * The Asian crisis required an adjustment process as its impact will still be felt in the coming years. In the medium-term, LBP shall be transformed into a stronger institution with a deeper impact on the countryside. * Borrower's performance under the credit component was highly satisfactory. The KPIs were all surpassed. The loan disbursements, particularly under the wholesale component, were always ahead of the five (5) year drawdown schedule. Aside from the good product design, this could be attributed to the various marketing initiatives of LBP which include client calls, conduct of product briefings/presentations to PFIs and potential sub-borrowers, strong linkages with bank associations, provision of incentives to PFIs mainly thru annual recognition awards to outstanding PFIs and CLF training programs. * Collection rates had been highly satisfactory as a result of a very good PFI accreditation process. Recently, however, there were some defaults from rural banks which experienced a weakening of financial position. Past due level, however, was contained within a minimal level of 0.72% as of November 30, 1999. * LBP's performance with regard to environmental compliance can be rated as highly satisfactory. All sub-projects were reviewed for compliance to environmental requirements by the EU which was technically capable of doing the said task. The EU was allowed by EMB to clear non-coverage projects for CLF funding. Moreover, the EU was given by WB the free hand - 19- to accredit environmental consultants without need for further WB clearance. Lessons Learned * While there were benefits of availing under three (3) currency options, there were likewise observed disadvantages such as: (a) More administrative work in drawing/servicing three loan accounts; (b) So far, fixed rate single currency loans had been more expensive than the LIBOR-based single currency loan and Currency Pool Loan (c) Because Fixed Rate Single Currency Loan has shorter drawdown period, there was a need to extend for another year the closing date of Loan No. 3939. * The PFIs had been sensitive to CLF II pricing vis a vis the prevailing market rate. Initially, the CLF II pass-on rate was repriced quarterly. However, the timing lag made the CLF interest rate either lower or higher than market. To address this matter, CLF II interest rate for new loans was reviewed monthly, but outstanding variable rate loans were repriced quarterly. * The inconsistent interest rate policies among various multilateral and bilateral agencies/ wholesale funders may work for or against a project. As far as interest rate was concerned, the program could not compete with other wholesale funds as WB funded projects were more expensive. * A good set of accreditation criteria and a good system of PFI performance review was critical to the success of a wholesale lending program. The low past due level despite the financial crisis proved that LBP successfully implemented the PFI accreditation process. * A major lesson learned under the RCF was the non-feasibility of syndicating small-sized loans. The small asset-sized sub-borrowers preferred simple loan packages and documentation. Rural banks , on the other hand, preferred to avail the wholesale funds than participate as co-financiers. * The compliance of sub-borrowers to the terms and conditions of the ECC approval, however, could not be strictly enforced by LBP as it is the task of the environmental agency. However, the environmental audit being conducted by the EU had contributed towards increased environmental consciousness of the sub-borrowers. Furthermore, the environmental trainings conducted by the EU had significantly contributed to the capability build-up of PFIs and LBP staff in evaluating the environmental aspect of sub-projects. III. Evaluation of World Bank Performance * LBP's partnership with WB started in 1990 with RFP I. Since then and up to 1999, the overall performance of the Bank, in general, and the project supervision team, in particular, has been highly commendable. Indeed, WB has been very instrumental in making LBP a stronger institution with a deeper impact in rural development. * The WB project supervision team has consistently shown foresight and fresh ideas. With a wealth of experience and cross-country knowledge, the team has been able to assess LBP in a very comprehensive manner. Likewise, new standards and measures have been established which are highly relevant to current conditions. - 20 - * The recommendations and insights of the team have been strategic and highly beneficial. For example, the segregation of the Agrarian Reform accounts was a strategic issue. The benefits of this move will continue to impact on LBP in the long-term. * The continuity of the project team was highly crucial in the clarity and consistency of measurement and monitoring. Likewise common understanding of focus and objectives has been attained. Because of this continuity, transition interruptions have been avoided. Moreover, the continuity of the WB staff and consultants handling the projects likewise contributed towards good communication and rapport not only between the Bank and the Borrower but also with critical partners in the project implementation such as the guarantor and the PFIs. * The team has shown flexibility and open-mindedness in assessing LBP's attainment of objectives and targets. For example, the liquidity targets were revised to take into consideration the emergence of long-term government securities in the market. * The team has a good understanding of the macro environment wherein LBP operates. With its understanding of the Philippine economy, the agricultural sector and the Comprehensive Agrarian Reform Program, the team is very able to situate LBP in the appropriate context. * The team has been very effective in uhdertaking strategic discussions and coordination with government entities such as the Department of Finance and the Bureau of Treasury. * The team has always shown the diligence and effort in fully explaining to LBP officers and personnel the methodologies, empirical process and underlying logic in their supervision reviews. * Responses to borrower's queries and approvals/comments to loans exceeding the Borrower's free-limit were promptly acted upon. The frequency of the supervision missions were likewise sufficient to closely monitor the project and resolve any program issues. * The key performance indicators for the project were, however, negotiated during project implementation. This was in view of a requirement made by WB management after loan negotiation and signing. Nevertheless, the task manager had been very objective in setting up the KPIs after due consultation with the program implementors. Fund applications/replenishments were processed by WB and received by LBP within reasonable time. (b) Cofinanciers: N/A (c) Other partners (NGOs/private sector): N/A 10. Additional Information N/A -21 - Annex 1. Key Performance Indicators/Log Frame Matrix Outcome / Impact Indicators: Indicator/Matrix Projeced in lst PR Actual/Latest Estimate Number of Loans Made 880 at Project Completion (690 by June 30, 678 as at March 31, 1999 1999) Total Sub Project Investment US$191 million at Project Completion US$205 million by March 31, 1999 (US$158 million by June 30, 1999) Number of Jobs Created 12,500 by Project Completion (10,000 jobs 10,213 permanent jobs plus 5,918 jobs to result from projects financed by June 30, during construction period expected from 1999) projects financed by March 31, 1999. Amount Lent by Thrift Banks (TBs) and US$ 29 million by Project Completion US$47 miilion by March 31, 1999 Rural Banks (RBs (US$23 million by June 30, 1999) Number of Active TBs and RBs 43 by Project Completion (35 by June 30, 48 by March 31, 1999 1999) Cumulative Loans made through RBs and 520 by Project Completion (380 by June 30, 451 by March 31, 1999. TBs 1999) Output Indicators: IndicatortMatrix Proje in last PSR Actual/Latet Estimate Real Increase in Equity over 1995 year end 32% by December 2000 (20% by Year end 17.3% real increase by end 1998 level 1998) Proportion of Private Deposits to Total 35% by December 2000 (30% by year end 33.3% (excuding foreign currency CDs) ny Deposits 1998) end 1998 Subsidy Dependency Index (SDI) for LBP as -5% (negative figure means LBP is not 5.3% (positive figure means LBP was a whole subsidy dependent) subsidy dependent in 1998) ISAP Quality Index for Agricultural Lending 85 for the year 2000 (75 for 1998) 80 for 1998 Operating Costs of Agrarian lending (as % of 7% for the year 2000 (9% for 1998) 10.6% for 1998 net outstanding loans) Net number of co-operatives improving 250/year in 1999 & 2000 (200 for 1998) 663 upgraded and 219 downgraded, giving classification net upgrade of 444 in 1998 End of project - 22 - Annex 2. Project Costs and Financing Project Appraisal Latest Estimate Percentage of Component Estimate Appraisal CLF II a/ 120.0 222.9 186% RCF a/ 141.2 38.5 27% TA & Training 1.5 1.5 100% Total 262.7 262.9 100% a/ Appraisal estimates and latest estimates are for investments financed (in part) by the line of credit under the project. They can be considered as the investment induced by the project credit line. Project Financing by Component (in US$ million equivalent) Component Appraisal Estimate Latest Estimate Percentage of Appraisal Bank LBP PFIs S-Bs Total Bank LBP I PFIs S-Bs Total Bank LBP I PFIs S-Bs Total CLF II 90.0 - 12.0 18.0 120.0 130.0 26.6 66.3 222.9 144% n.a. 222% 368% 186% RCF 60.0 15.0 45.0 21.2 141.2 20.0 10.8 7.7 38.5 33% 72% 0% 36% 27% TA & Training - 1.5 - - 1.5 1.3 0.2 1.5 87% Inf Totals 150.0 16.5 57.0 39.2 262.7 150.0 12.1 26.8 74.0 262.9 100% 73% 47% 189% 100% - 23 - Annex 3: Economic Costs and Benefits As this was a credit project no financial or economic analysis of the project was undertaken. Ex Ante financial analysis on 192 sub projects, which accounted for 84% of project investment, gave a frequency distribution of expected FRRs as follows: Predicted FRR Number of Percent of those with Total projects Cost Percent of cost of total Projects projections (P Million) projects with projections 15% and less 5 3 267 5 Over 15 - 20% 41 21 1,071 20 Over 20% - 25% 35 18 916 17 Over 25% - 30% 35 18 1,180 22 Over 30% - 40% 38 20 745 14 Over 40% 38 20 1,276 24 Total with Projected 192 100 5,457 100 FRR No Projection Made 480 1,042 Total Projects 672 6,499 Ex Ante economic analysis on 47 sub projects, which accounted for 52% of project investment, gave a frequency distribution of expected ERRs as follows: Predicted ERR Number of Percent of those with Total projects Cost Percent of cost of Projects projections (P Million) total projects with projections 15% and less 1 2 247 7 Over 15- 20% 13 28 581 17 Over 20% - 25% 9 19 664 20 Over 25% - 30% 11 23 721 22 Over 30% - 40% 4 9 216 6 Over 40% 9 19 941 28 Total with Projected 47 100 3,371 100 ERR No Projection Made 625 3,128 Total Projects 672 6,499 The median ERR is in the 25-30% range, and the average, weighted by investment is about 30%. - 24 - Annex 4. Bank Inputs (a) Missions: Sta.e of Projec[ C'.ClQ No of Persons and Speciali- Pertorniance Rating te.g 2 Economists. I F.115. eic Implementation Development Monih Year Count I Speciatl Progress Objective Identification/Preparation 5 A,B,D,F S S 5/93 Appraisal/Negotiation Appr. 4/94 5 A,B,D,F S S Pre-Appr.: 1/94 Nego.: 6/95 4 A,B,D,F Board: 9/95 3 B,G Sign.: 10/95 Eff.: 4/96 Supervision 7/96 2* A,B S S 4/97 2* A,B 2/98 3* A,B,F ICR 6/99 4 A,B,F S, S Specialty: A: Agricultural Economist B: Financial Analyst C: Agricultural Credit D: Financial Management Specialist E: Economist F: Environmental Specialist G: Legal Counsel (b) Staff: Sta-e of ProjcCI C\cle Actual'Latest F.Mimate No Staffweeks SS(.00 _ Identification/Preparation 35.6 150.0 Appraisal/Negotiation 35.2 119.8 Supervision 49.6* 180.0** ICR Total *Because there were other ongoing activities with LBP during the project period involving the same task manager and consultants, closer contact was maintained with the project than the one per year supervision missions indicated here. ** Info as of June 1999. No further report was available under SAP. -25- Annex 5. Ratings for Achievement of Objectives/Outputs of Components (H=High, SU=Substantial, M=Modest, N=Negligible, NA=Not Applicable) Rating SMacro policies OH OSUOM ON * NA SSector Policies OH OSUOM ON ONA E Physical OH OSUOM ON ONA E Financial O H OsUOM ON ONA E Institutional Development 0 H S SU 0 M 0 N 0 NA SEnvironmental OH OSUOM ON ONA Social E Poverty Reduction OH GSUOM ON ONA E Gender OH OSUOM ON * NA O Other (Please specify) " Private sector development 0 H O SU M 0 N 0 NA " Public sector management 0 H SU OM 0 N * NA 0 Other (Please specify) *Poverty Reduction /Private Sector Development - The project did not directly address these issues, but its outcome is satisfactory in terms of contributing towards poverty alleviation by providing incremental jobs. In that its focus is entirely on improving financial access to the private sector, which it has done successfully, it can also be considered as having a satisfactory Private Sector Development Impact. - 26 - Annex 6. Ratings of Bank and Borrower Performance (HS=Highly Satisfactory, S=Satisfactory, U=Unsatisfactory, HU=Highly Unsatisfactory) 6.1 Bank performance Rating Z Lending OHS OS OU OHU Z Supervision 6HSOS OU OHU Z Overall OHS OS OU OHU 6.2 Borrower performance Rating 2 Preparation O HS OS Ou HU 0 Government implementation performance O HS OS C U C HU Z Implementation agency performance 0 HS OS C U C HU Z Overall OHS OS OU OHU Government Implementation performance - Would be downgraded to unsatisfactory if Dividend issues and the those concerned with ARF's debt to LBP are not resolved by June 2000. Implementation agency performance - Would be upgraded to highly satisfactory if RCF component disburses fully and LBP meets its equity growth target by end 2000. - 27 - Annex 7. List of Supporting Documents Staff Appraisal Report Legal Documents Supervision Reports Progress Reports Impact of Project on Government Cash Flow - 28 -