Nepal - Kathmandu Water Supply and Sanitation Project

Report No. PID10067 Project Name Nepal-Kathmandu Water Supply and Sanitation Region South Asia Regional Office Sector Urban Water Supply Project ID NPPE67602 Borrower(s) HIS MAJESTY'S GOVERNMENT OF NEPAL (HMGN) Implementing Agency Address MINISTRY OF HOUSING & PHYSICAL PLANNING/PSP COMMITTEE Ministry of Physical Planning & Works Singha Durbar, Kathmandu, Nepal Contact Person: Mr. Hiranya Lal Regmi, Secretary Tel: (977-1) 227280 Fax: (977-1) 228420 Environment Category B Date PID Prepared March 8, 2001 Projected Appraisal Date October 22, 2001 Projected Board Date July 3, 2002 1. Country and Sector Background Major shortfalls in the level and quality of water supply and sanitation services In spite of the continued high priority accorded in Nepal to the water supply and sanitation sector, which has been allocated about 6 percent of the development budget over the last five years, still a third of the population does not have access to safe water and about 80 percent are without proper sanitation facilities. In the Kathmandu Valley, the Nepal Water Supply Corporation (NWSC) currently serves about 1.0 million people in 5 municipalities (Kathmandu, Lalitpur, Bhaktapur, Kirtipur and Madhyapur ), and in some rural areas close to its transmission mains. NWSC also operates sewerage services in Kathmandu, Lalitpur and Bhaktapur (the other towns do not have waterborne sewerage). There are major shortfalls in the level and quality of service. Even in the rainy season, water service is intermittent and most users receive water for less than four hours per day, at such low pressure that many people extract it from the mains with pumps. A few areas enjoy 24-hour water supply, while other areas do not receive water at all. Only one third of customers have fully plumbed household connections, most rely on a shared supply. Roughly one eighth of the population has no access at all to piped water supplies. Service connections are of the "spaghetti" type - 15mm galvanized iron (GI) pipes laid at very shallow depths often with long extensions, they leak extensively and fraudulent taps are numerous. Bulk metering at sources and reservoirs is lacking. About 75 percent of the service connections are metered; but less than half the meters function. As meters create a headloss which further reduces the pressure at the tap, many users have removed their own meters, or obtained that NWSC move them to an unmetered supply. As a result, any estimates on water usage, demand, production and network efficiency are highly unreliable. Average domestic per capita consumption has been reported as 50 - 70 lpcd but it  seems unlikely that users of shared taps or those without pumps and storage facilities would consume this much. Non-domestic small enterprise demand is estimated at just 5 percent of domestic demand, since most hotels and industries install their own ground water supplies and /or procure tanker services. The cost of coping with deficient water services is a major concern for businesses and for all residents, but it affects disproportionately the poor who can ill afford high-cost substitution services such as delivery by water tankers. Lack of clarity of institutional roles and responsibilities The main sector agencies are the Department of Water Supply and Sewerage (DWSS), the Nepal Water Supply Corporation (NWSC), and the Rural Water Supply and Sanitation Fund Development Board (the Fund Board), all reporting to the Ministry of Physical Planning and Works (MPPW). The MPPW is the line ministry responsible for formulating policies and plans in the sector, in close coordination with the National Planning Commission (NPC) responsible for overall national and sectoral planning including the annual development plans. NWSC has jurisdiction over 27 of the larger municipalities, including those in the Kathmandu Valley. The DWSS is responsible for water services in 30 smaller towns. DWSS also implements a large share of government-funded rural water supply and sanitation schemes, a sub-sector in which the Fund Board is also active. Many non-governmental agencies (I/NGOs) have initiated programs to provide village and small-town water supply and sanitation services directly with communities. Under Nepal's decentralization process, local governments (LG) are expected to play a growing role in service delivery, including for water supply and sanitation. Local government services are monitored and supported in central government by the Ministry of Local Government, which is also in charge of rural development. In addition to frequent overlaps in agency responsibilities, the current sector organization is characterized by a lack of clarity in incentives and roles - in particular, the functions of management, asset ownership, corporate governance, tariff-setting, service monitoring, and capital expansion planning in the Kathmandu utility are all bundled under the Ministry, and none of these functions has been insulated from political interference, regulation in particular.Institutional and management deficiencies NWSC, although it is on paper a corporate entity with significant autonomy in its day-to-day management, dedicated to delivering services in an efficient and sustainable manner, suffers in practice from serious institutional shortcomings, including lack of autonomy, accountability, or incentives for performance. Being chronically dependent on operating subsidies, it functions more like a civil service department than a commercial utility, and faces daily interference in internal management matters such as staff recruitment or use of vehicles. Perhaps because NWSC has always depended on donor and government funds for its investments, it is not sensitive to the cost of capital: the remedy constantly proposed for rapidly deteriorating facilities has been to seek new investments to increase the supply of water, while failing to maximize the use of existing facilities by proper repair and maintenance.. NWSC's Financial performance, and Service Pricing The financial performance of NWSC has deteriorated over the past few years. User charges covered 100 percent of operating expenses in 1998, but only 88.9 percent in 1999 and 84 percent in 2000. If capital-related charges such as depreciation and interest are included, user charges cover barely 50 percent of costs. Despite the measures taken to reschedule debt service (including the conversion of dues to IDA into Government equity), the lack of internal cash generation has prevented -2 -  NWSC from investing at a scale that would match demand growth or make a dent in its service backlog--or even keep its existing assets in working condition. Factors that have contributed to the unhealthy financial status of NWSC include (i) inefficient operation with high technical losses (approximately 25 percent), low bill collection efficiency (approximately 70 percent of the amounts billed), and overstaffing; (ii) low tariff level (around 1 to 2 percent of household income), and a deteriorating trend in pricing with annual adjustments (5 percent per year) insufficient to match to the high growth in operating expenses. While the average tariff level produces insufficient revenues, tariff structure is equally flawed and provides no incentives for conservation. A progressive block tariff is used, but it is hard to implement with faulty metering, does little to help the poor (few are connected individually, and in shared supplies multiple families under one meter risk being in the higher tariff blocks), and benefits mainly middle class customers in areas that have relatively better service. NWSC distributes water to some 100,000 private connections, including yard connections, and 1,300 standposts.. Separate water charges currently apply to metered and non-metered domestic supplies. Non-metered house connections of 15mm diameter are charged a flat rate NRs.176.00 (US$2.38). Metered charges are based on increasing blocks, with a 10m3 consumption per month for a minimum charge, and additional consumption charged at NRs. 9.70 per cu.m (US$0.13). Poor water resources and water demand management NWSC is not the sole supplier of water in the Kathmandu valley. Many commercial and industrial operations, and some individual households, draw their water from their own wells, and numerous private operators provide tanker supplies. Private tankers do not, generally, supply NWSC water; instead they are filled from springs. Tanker supplies are unregulated both in terms of quality and price. The on-selling of NWSC water is also unrestricted, and there are examples of this being done on a commercial basis. There is no organized system of water rights or licenses to ensure orderly allocation of the limited water resources of the Valley, and agency responsibilities for monitoring and allocating water resources are ill-defined. There is evidence that groundwater in the Kathmandu Valley is being mined, and the dropping water table is endangering future supplies. Both surface and groundwater in Kathmandu Valley are used for irrigation, and competition between the agricultural and municipal uses is increasing. The poor rely heavily on shallow groundwater, and their needs should be considered in any management of resources or restriction of the use of groundwater. Thus, there is a need to comprehensively manage water resources in the Kathmandu valley, improve conjunctive use of surface and groundwater, and promote efficient allocation of water among users. An optimization study of multi-sectoral water use in the Valley, funded by ADB, will be completed by end 2001. It is commonly believed that water shortages in the Kathmandu Valley are mainly due to inadequate water supplies, and that tapping new water supplies would address the problem. However, evidence instead points to the mismanagement of existing water supplies as the main culprit. NWSC estimates of unaccounted for water (UFW) is 40 percent and were it not for the intermittent and low pressure in the network, the figure would be higher. Water leakage and wastage (mainly due to lack of volumetric pricing), misallocation of water, poor design and operation of distribution and storage facilities are all contributing to a situation which results in constrained demand. Studies have shown that fixing the network problems is the most cost-effective and priority measure to produce "new" water.Public Health Issues and -3 -  Environmental Degradation Pipe networks with intermittent supplies are prone to contamination, as distribution pipes are often under zero or negative pressure which enables pollutants to enter. This is a particular concern in cities like Kathmandu where sewage is often disposed of in open ditches close to water distribution pipes. In-house storage tanks, installed by users to cope with the intermittent supply, add to the risk of bacteriological deterioration of water and loss of residual chlorine. A high proportion of water samples at the tap have unacceptably high coliform content. Only 17 percent of households in Kathmandu and 34 percent in Patan are connected to sewers, which mostly discharge untreated sewage into the Bagmati and Bishnumati rivers. Other municipalities, except Bhaktapur, do not have sewerage. Attempts to introduce sewage treatment met with limited success: two treatment plants were built under earlier IDA assistance for Kathmandu and Lalitpur (Patan) but have not been operational as little sewage flows into them; two more in Bhaktapur failed, apparently because farmers blocked the lines and directed sewage on to their fields. One of the most obvious manifestations of inadequate sanitation in Kathmandu is the Bagmati River, which receives a heavy load from sewers and open drains as well as suffering pollution from industrial effluent. It is a serious public health hazard, but still used by some poor communities albeit for non-drinking purposes. Reducing pollution of the river is an environmental health priority for the city. Of the latrines in use, many do not provide safe disposal of faeces; either they do not have proper pits at all, or the pits are not sealed. Households also commonly build septic tanks (improperly designed) or other systems that discharge their effluent directly into street drains or onto river banks. Open-field defecation is still commonly practiced in all urban areas. Municipalities are responsible for the provision of public toilets (there are currently 26 public toilets, some of which are maintained under lease by independent operators), but responsibility for household sanitation is not clearly defined. It currently falls somewhere between the municipality and NWSC, but the latter is interested only in sewerage, which covers only a small portion of Kathmandu and Patan as well as Bhaktapur.Service Access for the Poor The poor in the Kathmandu Valley find it extremely difficult to obtain a connection to NWSC water, as a result of high connection charges (in part because of a lack of tertiary network in poor areas) and cumbersome procedures. What connections there are in poor communities have been obtained generally though the intermediation of NGOs or local government (the Wards). To compensate for the lack of network water, the poor use a wide variety of sources of water, including traditional sources such as dug wells and "stone spouts" (ancient water points served by spring water piped from outside the city), and to a large extent on shallow groundwater. Many poor households have inexpensive suction handpumps (installed for much less than the cost of a connection), and many of the NGO financed water points are supplied by shared shallow tubewells. The poor also rely on water from free public standposts, which are paid for by the Ministry of Finance. NWSC has a policy of not installing any new free standposts. Service at these standposts is unreliable in the extreme due to intermittent supply; as a result some public water points have been fitted with tanks which are filled by NWSC tankers. NWSC tankers also bring water to poor communities in times of extreme water stress, but this service is sporadic. There are private NWSC connections in some poor neighborhoods, but these are usually heavily shared. Government strategy The policy outlook in Nepal is changing in line with global trends in decentralization, devolution to - 4 -  communities, and increased reliance on the private sector. From being the main provider of services, Government is redefining its role and aims to become an enabler, increasing the responsibilities of local government and inviting both NGOs and the private sector to play a part in service delivery. There are, however, severe institutional constraints on the fulfillment of either existing or proposed roles. So far, decentralization has impacted primarily on health and solid waste management services.Water Supply Policy The Ninth Five Year Plan (1997-2002) estimated national urban water supply coverage at 62.5 percent, and set a target for 100 percent coverage by the end of the plan period. The National Water Supply Sector Policy (Policies and Strategies), April 1998, summarizes the Plan's policies and strategies which include, inter alia, the following:redefine the roles and responsibility of existing sector institutions for effective and efficient service delivery and facilitate decentralized operational modalities;develop NGOs, Community based organizations and Private Sector Organizations as partner organizations for the overall development of the sector; develop alternative institutions to enhance existing service levels in urban water supply services and promote the involvement of the private sector;user groups and local authorities shall be made fully responsible in the process of project formulation and operation/maintenance of the services;develop technical and institutional capacity for lowering the high level of present leakage and wastage to appropriate levels in urban areas;tariff for urban areas should incorporate adequate cost recovery based on different consumption levelsNational Sanitation Policy Nepal's first national sanitation policy was produced in 1994, and while it prompted some positive initiatives it had little impact on coverage among the urban poor. Generally, the sector focus has been on rural more than urban development and water rather than sanitation. In the Ninth Five Year Plan there is a shift away from explicit allocation to sanitation programs and only one sanitation project is mentioned explicitly, for sewage treatment prior to disposal in the Bagmati river. Despite this the plan sets very ambitious targets for latrine coverage: 40 percent of the population as a whole, comprising 36 percent rural and 60 percent urban. This means doubling coverage within 5 years, but the policy does not specify the institutional mechanisms by which this will be achieved. With the assistance of UNICEF, DWSS has revised the 1994 Sanitation Policy as of January 2001. Strategy for the Kathmandu Valley Water Resources Management. The need to manage the water resources in Kathmandu Valley is well recognized. This will be done in a comprehensive manner and in keeping with the overall Water Resources Strategy currently under preparation. Regulation. A National Regulatory Board will be formed to protect the interests of consumers and monitor operators against agreed contractual targets as well as to approve tariffs in line with Government policy. It is envisaged that the NRB will first start regulatory work in Kathmandu Valley and gradually become a national body. Further, a Kathmandu Valley Water Authority has been proposed to be set up, possibly as an Asset Owning vehicle for the infrastructure. The roles, responsibilities of the KVWA will be studied in more detail during project preparation. To address the long-term water supply and sanitation issues in the Kathmandu Valley towns and improve services, HMGN has embarked on a long-term investment program, called the "Melamchi Project" which would be supported by institutional and regulatory reforms, and, private sector participation. The long-term investment program includes major augmentation of supply through an inter-basin transfer of water, new water treatment plant, extension of bulk distribution network and storage - 5-  capacity, and, waste water treatment capacity. The Melamchi Project is a multi-donor project (ADB, NORAD, JBIC, SIDA, NDF, OPEC), in preparation by the Melamchi Water Supply Development Board (MWSDB). ADB's financing for the Melamchi project has been approved in December 2000. The Kathmandu Water Supply Project (the proposed project) comprises urgent distribution network improvements in five towns in the Kathmandu Valley (Kathmandu, Lalitpur, Bhaktapur, Kirtipur and Madhypur). Private sector participation in water supply operations will be implemented through a management/lease contract covering these five towns. The Private Sector Participation (High Level) Committee (PSPC) which report to the Minister of MPPW, is responsible for recruiting a competent and experienced private operator. A wastewater system improvement program for the Kathmandu Valley, with ADB as the main donor, is currently being prepared by the MWSDB. ADB funding under the Melamchi Project would be available initially for immediate rehabilitation works and construction of interceptor sewers. 2. Objectives The proposed project will help the Kathmandu Valley water utility become self-sustaining and more consumer responsive, and to provide improved services to its customers while ensuring more equitable access of the services to the unconnected, most of whom are poor. Specific objectives are to (a) improve the operational performance and financial viability of the utility though private sector participation, improved tariff-setting processes, and priority rehabilitation investments in the distribution network, and (b) improve access to safe and affordable drinking water and adequate sanitation services for the urban poor. 3. Rationale for Bank's Involvement The Bank has been involved in the urban water sector in Nepal for more than 25 years. From the lessons of past efforts and experience, the Government and the Bank have realized the need for drastic institutional reforms. The Government and other donors involved in the sector have requested the Bank to continue its support with a focus on institutional reforms, for which they felt that IDA had a comparative advantage given its worldwide experience in PSP. The application of the Bank's procurement procedures (ICB) would help assure potential operators of transparency in bidding the operator contract, while also helping assure that the PSPC will select the most beneficial offer. During project preparation, IDA involvement has helped clarify a number of policy and transaction design options. 4. Description The project has the following six components:Component 1: Priority rehabilitation of distribution. This component, to be implemented by the PO, would finance urgent operational investments to improve the efficiency of water supply and sanitation services in Kathmandu Valley towns. The specific investment activities, including bulk metering, priority network rehabilitation and renewal of connections, would be identified and evaluated during project preparation based on a baseline survey of the distribution assets.Component 2: Social connection program. This component would finance a targeted program of connections (including yard taps and standpipes) in low-income communities, based on recommendations of a willingness to pay/affordability study (in execution), to improve service access for the poor. Target households/neighborhoods and appropriate service delivery options will be identified based on participatory surveys - 6 -  conducted during project preparation.Component 3: Studies and Supervision: This component includes: provision of technical advisory services to HMGN in carrying out detailed studies, including maintenance performance and financial audits, and supervision of works planned in the physical investment component, to be executed by the PO.Component 4: Partial financing of operator's fees: In the medium-term it is expected that user charges will be sufficient to cover in full the O&M costs of the services. Initially however, the system has a negative cash-flow, and tariffs cannot be hiked immediately to a sufficient level before the users start observing some improvements in the services. This component would therefore finance a part of the operator's fee. This part would be capped, time-bound, and declining according to a pre-set calendar ensuring that before the end of the project the operation stands on its own revenues and is "weaned" from operating subsidies.Component 5: Regulatory development and capacity building: This component would help HMGN develop capacity of the newly established regulatory board, both by training its core staff and by financing the contracting out of technical support to regulatory functions. The component would also finance public awareness campaigns including health education and demand management.Component 6: Reimbursement of Project Preparation Facility (PPF). The PPF will finance technical, financial, and legal advisory services to HMGN necessary to prepare and implement the private participation transaction and to prepare other aspects of the project. Priority Rehabilitation of Distribution Social Connection Program Studies and Supervision Partial Financing of Operator's Fee Regulatory Development and Capacity Building Project Preparation Facility (PPF) 5. Financing Total ( US$m) Total Project Cost 17 6. Implementation Private Sector Participation The Ministry of Physical Planning and Works (MPPW) has given the mandate to the Private Sector Participation Committee (PSPC) to prepare a 10 year management lease contract for the urban water supply and sanitation services within the Kathmandu Valley, and to procure the international private partner of the PO. The MPPW will be the signatory of the contract with the PO and would be responsible for contract administration. The terms of the contract are summarized in Annex 5. Financial management capacity was taken into account when prequalifying the international private partners (IPP). Three enterprises were prequalified who do have a track record in this area. The IPP who wins the bidding process, will establish the private operating company (PO) in Nepal (in which he will be the majority shareholder), and will bring with him the needed financial management capacity to the PO. Implementation of the Project Two options are under consideration where financial management of the project will reside: in MPPW, or in the state asset holding company, yet to be established. A financial management assessment will be carrried out during project preparation and an action plan will have to be agreed to raise the level of accounting and financial management to comply with the requirements for LACI procedures. This action plan will likely include but not be limited to: (i) the issuance of - 7 -  a Procedures Manual and the selection of an auditor before credit effectiveness; (ii) budget monitoring procedures and a system to monitor physical progress of project implementation; and, (ii) capacity building and training of staff for using the new procedures. The PO would implement the works through an Operating Investment Fund (OIF), and implementation progress and performance would feed into contractual incentives. The OIF would provide additional needed funds to the PO for the purchase of materials, supplies, and equipment that is necessary to (i) rehabilitate the network, (ii) renew and improve the water supply system, and (iii) carry out connections to the network at different service levels and technologies. The OIF would not be used for capacity extension capital investments. The PO would prepare for each contract year an annual operating investment plan for the use of OIF funds and procurement plan indicating also the procurement method. After the client has approved the annual operating investment plan and procurement plan, the identified expenditures would be eligible for procurement by the private operator and payment through the OIF. The private operator should procure goods, works and services on behalf of the client, following the Bank's Procurement Guidelines and the ICB/NCB/IS/NS thresholds specified in the Procurement Appendix of the management lease contract. The PO will implement and will also sign the contracts on behalf of the client. This mode of operation would ensure a speedy implementation of rehabilitation, renewal and improvement capital investments. Timing of these investments is important since it affects the ability of the private operator to reach his contractual performance targets in terms of Unaccounted-For-Water (UFW). Proposed overall investments in rehabilitation, renewal and improvement of the water supply system would be in line with the contractual performance targets of UFW. An incentive structure will also be built within the management lease contract for the implementation of the social connection program. 7. Sustainability Sustainability of the proposed project is enhanced by demonstrated Government commitment to water sector reform, including private sector participation. Factors critical to the sustainability of the project will be mainly:Effective communication with government commitment, on the objectives of reform explaining benefits expected, to utility personnel, unions, consumers and public at large;Stepwise annual tariff adjustments in line with improved quality of service;Continued commitment from politicians for implementing agreed sector policies specifically related to tariff and labor issues;Government not detracted by different donor views from making full commitment to reforms as envisaged under the proposed project;The Regulatory Board independent and autonomous and its capacity built as planned;Key objectives achieved by the private operator in terms of efficiency improvement and coverage expansion;Management skills and know-how brought by the international private partner effectively transferred to the personnel leading to fundamental and sustainable changes in the Kathmandu Valley water supply and sewerage operations. 8. Lessons learned from past operations in the country/sector Some of the lessons learnt from previous IDA urban water operations in Nepal, and from sector experience in other countries, are listed below, and have been incorporated in the design of the proposed project :Investments in physical infrastructure may provide short lived benefits - 8-  unless institutional issues are addressed up-front;Institutional autonomy was essential to reduce political interference in day-to-day management and to meet development objectives. The NWSC Act provided autonomy in paper, but in practice it was never implemented. This was the single greatest failure of the fourth project;Politicization of tariff increases, staff recruitment, procurement and other administrative and financial matters undermined project objectives and service delivery;Stakeholder participation - Wide participation and discussion with various stakeholders were essential for ownership and commitment to reforms. Supply-driven approaches caused implementation difficulties and failure to achieve the needed commitment of stakeholders. 9. Program of Targeted Intervention (PTI) N 10. Environment Aspects (including any public consultation) Issues The project is expected to produce substantial positive environmental impacts in the five municipalities covered. Negative environmental impacts are expected to be limited because most physical investments will be small in size and directed towards rehabilitation of existing infrastructure. However, some of the works could create adverse environmental impacts if not properly planned, sites, designed, constructed and operated and maintained. Typical negative impacts that may arise include: (i) inappropriate disposal of residuals, principally sludges from water and wastewater treatment, (ii) disturbance to other service lines due to construction and operation activities, (iii) unsafe disposal of silt removed from sewers, (iv) pollution by construction run-offs, spillage of chemicals and improper disposal of demolition debris, (v) disturbance and safety hazards during construction including dust, noise, vibration, access restriction, closure of roads, and congestion. Because the exact nature of the investments to be implemented by the PO will not be known before project effectiveness, a detailed environmental assessment will not be undertaken as part of project preparation. However, EA guidelines based on accepted codes of practice will be prepared and will form an integral component of the contractual obligations of the operator. In addition, during project preparation an assessment of the following issues will be carried out:current environmental management capacity, institutional arrangements, and enforcement capacity, with the purpose of defining a possible strengthening programenvironmental guidelines - to be applied to the PO's operations that will include screening criteria, comparison of investment alternatives, identification of significant environmental effects, and design of mitigation measures and monitoring planlicensing procedures, environmental audit and monitoring by the Regulator or its substitute 11. Contact Point: Task Manager Jan G. Janssens The World Bank 1818 H Street, NW Washington D.C. 20433 Telephone: 202-458-7247 Fax: 202-522-2418 9  12. For information on other project related documents contact: The InfoShop The World Bank 1818 H Street, NW Washington, D.C. 20433 Telephone: (202) 458-5454 Fax: (202) 522-1500 Web: http:// www.worldbank.org/infoshop Note: This is information on an evolving project. Certain components may not be necessarily included in the final project. - 10 -