Turkey - Railways Restructuring Project

Documentof The World Bank FOR OFFICIAL USE ONLY ReportNo: 28049-TU PROJECTAPPRAISAL DOCUMENT ONA PROPOSEDLOAN INTHEAMOUNT OFEURO143.7MILLION (USS184.7 MILLIONEQUIVALENT) TO THE REPUBLIC OF TURKEY FORA RAILWAYS RESTRUCTURINGPROJECT INSUPPORTOFTHEFIRSTPHASEOF THE RAILWAYS RESTRUCTURINGPROGRAM May 12,2005 InfrastructureandEnergyDepartment Europeand CentralAsia 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 disclosedwithout World Bank authorization.  CURRENCY EQUIVALENTS (Exchange Rate EffectiveApril 30,2005) Currency Unit = Yeni Turkish Lira (YTL) 1YTL = US$1.369 US$1 = 0.73YTL FISCALYEAR January 1 - December31 ABBREVIATIONS AND ACRONYMS APL Adaptable Program Loan B/CR Benefit Cost Ratio CAS Country Assistance Strategy CFAA Country FinancialAccountabilityAssessment CTC Central Traffic Control EIRR Economic InternalRate o fReturn EMP Environmental Management Plan EMU Electric MotorizedUnit ERP Enterprise ResourcePlanning Project EU European Union FDI ForeignDirect Investment FMR Financial Monitoring Report FMS FinancialManagement System FRS Financial Reporting Standards FY FiscalYear GNP Gross National Product I A S International Accounting Standards ICT InlandContainer Terminal IFC International Finance Corporation IFRS International Financial ReportingStandards ILO Intemational Labor Organization IMM Izmir MetropolitanMunicipality IMO International Maritime Organization ISA International Standards on Auditing JBIC JapanBank for International Cooperation KPI KeyPerformance Indicators LSDP Letter o f Sector Development Policy MIS Management InformationSystem MoF Ministry of Finance MOT MinistryofTransport NPV Net Present Value OED Operation Evaluation Department .. 11  FOROFFICIAL USEONLY OPMIS Operational Management InformationSystem PFMC Public Financial Management ControlLaw PHRD Policy andHumanResourcesDevelopment Fund PlU Project ImplementationUnit PSO Public Service Obligation PSSP Privatization Social Support Project SA1 SupremeAudit Institution SBA StandByAgreement SBD StandardBidding Documents SEE State Economic Enterprise SPO StatePlanning Organization TCA Turkish Court o fAccounts TCDD General Directorate o f State Railways Administration- "Turkiye Cumhuriyeti Devlet Demiryollari" U T Undersecretariat of Treasury VSL Variable SpreadLoan YDK HighAudit Board Vice President: Shigeo Katsu, ECAVP Country Director: Andrew N.Vorkink, ECCU6 Sector ManagerDirector: Motoo Konishi/Hossein Razavi, ECSIE Task Team Leaders: MichelAudigUOlivier L e Ber, ECSIE ... 111 8 This document has a restricted distribution and may be used by recipients only in the performance of their official duties. I t s contents may not be otherwise disclosed without W o r l d Bank authorization.   TURKEY RAILWAYSRESTRUCTURING CONTENTS Page A. STRATEGICCONTEXT AND RATIONALE ................................................................... 1 1. Country and Sector Issues.................................................................................................... 1 2. Rationale for BankInvolvement .......................................................................................... 3 3. Higher Level Objectives to which the Project Contributes.................................................. 3 B. PROJECTDESCRIPTION ................................................................................................... 4 1. LendingInstrument .............................................................................................................. 4 2. Program Objective andPhases............................................................................................. 4 3. Project Development Objective andKey Indicators............................................................ 7 4. APLl Components............................................................................................................... 8 5. Lessons Learned andReflected inthe Project Design....................................................... 10 6 . Alternatives Considered andReasons for Rejection.......................................................... 10 C IMPLEMENTATION . .......................................................................................................... 11 1. Partnership Arrangements.................................................................................................. 11 2. Institutional andImplementationArrangements ................................................................ 11 3. Monitoringand Evaluation o f Outcomes/Results .............................................................. 11 4 . Sustainability ...................................................................................................................... 12 5. Critical Risks andPossible Controversial Aspects............................................................. 12 6. Loadcredit Conditions and Covenants ............................................................................. 13 D APPRAISAL SUMMARY . ................................................................................................... 14 1. Economic and Financial Analyses ..................................................................................... 14 2. Technical ............................................................................................................................ 15 3. Fiduciary............................................................................................................................. . . 15 4. Social.................................................................................................................................. 17 5. Environment ....................................................................................................................... 18 6. Safeguard Policies .............................................................................................................. 18 7. Policy Exceptions and Readiness ....................................................................................... 19 iv  Annex 1:Country and Sector or ProgramBackground ........................................................... 20 Annex 2: Major RelatedProjectsFinancedby the Bank and/or other Agencies ...................35 Annex 3: ResultsFrameworkandMonitoring .......................................................................... 36 Annex 4: DetailedProjectDescription ....................................................................................... 38 Annex 5: ProjectCosts................................................................................................................. 41 Annex 6: ImplementationArrangements ................................................................................... 43 Annex 7: FinancialManagementandDisbursementArrangements ...................................... 45 Annex 8: Procurement ................................................................................................................. 54 Annex 9: EconomicandFinancialAnalysis ............................................................................... 60 Annex 10: SafeguardPolicyIssues ............................................................................................. 73 Annex 11:ProjectPreparationand Supervision ....................................................................... 75 Annex 12: Documentsin the ProjectFile ................................................................................... 77 Annex 13: Statementof LoansandCredits ............................................................................... 78 Annex 14: Country at aGlance ................................................................................................... 80 MAP IBRDNo.33687 V  TURKEY Railway Restructuring Program Project Appraisal Document Europe and central Asia ECSIE Date: May 12,2005 Team Leader: Michel Audigk Country Director: Andrew N.Vorkink Sectors: Railways (100%) Sector Mangermirector: Motoo Konishi Themes: Infrastructure services for private sector development (P);Other public sector governance (S) Project I D : PO77328 Environmental screening category: B LendingInstrument: Adaptable ProgramLoan Safeguard screening category:N.A. US$m YO US$m US$m Date Date APL 1 Load 184.7 84 36.3 221.O 09/15/2005 12/31/2009 Republic ofTurkey Credit APL 2 Loan/ 115.3 50 114.7 230.0 01/01/2007 12/31/2011 RepublicofTurkey Credit APL 3 Load Credit Total 300.0 66 151.0 451 For Loans/Credits/Others: Total Bank financing (US$m.): 184.7 (143.7 equivalent) Proposedterms: Variable Spread Loan(VSL) on IBRD standardterms - 17 years maturity, RECONSTRUCTION AND DEVELOPMENT Total: 142.9 78.1 221.0  Borrower: Jndersecretary o f Treasury 3eneral Directorate o f ForeignEconomics relations [smet InonuBulvari No: 36 Balgat 4nkara - Turkey Tel: (90) 312 88 55 -Fax: (90) 312 212 85 50 Email: ozgur.pelhivan@hazine.gov.tr ResponsibleAgency: riirkiye Cumhuriyeti Devlet Demiryollari" (TCDD) Sene1Mudiirlugu 36330 Gar -Ankara - Turkey Tel: (90) 505 256 15 34 Email: ismetduman@tcdd.gov.tr Estimateddisbursements(BankFY/US$m) Expectedeffectiveness date: September 1st, 2005 Expectedclosing date: September 30,2009 Does the project depart from the CAS incontent or other significant respects? Ref: PADA.3 [ ]Yes [XINO Does the project require any exceptions from Bank policies? Ref: PAD D.7 [ ]Yes [XINO Have these been approved by Bank management? [[ ]Yes [XINO ]Yes [ IN0 I s approval for any policy exception sought from the Board? Does the project include any critical risks rated "substantial" or "high"? Ref: PAD C.5 [XIYes [ ] N o Does the project meet the Regional criteria for readiness for implementation? Ref: PAD D.7 [XIYes [ ] N o Project development objective Ref: PAD B.2, Technical Annex 3 The overall objective o fthe project is to improve the financial viability, productivity, and effectiveness o f railways operations. Project description [one-sentence summary of each component] Ref: PAD B.3.a, Technical Annex 4 The APLl (with a total cost o fUS$221.0 million o f which US$184.7 million are Bank financed) would include: (i) advisory services to implement the restructuring o f the TCDD under current Railway law and to prepare APL2; (ii) initial staff adjustment program; (iii) capacity line increase along Mersin-Toprakkale and Yenice-Bogazkoprii corridors; (iv) training for TCDD staff; (v) support for improved internal and public communication; and (vi) support for project implementationcosts.  Which safeguard policies are triggered, ifany? Re$ PAD 0.6, Technical Annex 10 Environmental Assessment (OB/BP/GP 4.01) Significant, non-standard conditions, if any, for: Re$ PAD C.7 Board presentation: None. Loadcredit effectiveness: (i) finalization of the project operational manual by TCDD; (ii) signing o f the Project Implementation Protocol between the Undersecretariat o f Treasury, as the representative o f the Borrower, and TCDD; and (iii)legal opinions related to the Project Implementation Protocol are submittedbythe Undersecretariat o f Treasury andTCDD. Covenants applicable to project implementation: Project Covenants: the following covenants aim to ensure that the APLl meets its key objectives: (i) track access charge system - as defined by the new Laws - is established not the later than December 31, 2007; (ii) based on the results o f the rationalization o f passenger services study financed under the project, the line Ministries and the TCDD sign multi-annual Public Service Contracts with railways operators for passenger loss-making services retained by the Turkish Authorities for social purposes by December 31, 2007; (iii) on the finding o f based the study related to the review of railways investment/maintenance program for railways infrastructure and freight operations financed under the project, TCDD revises its investment/maintenance program inthe railways sector; and (iv) a mid-term review o f fthe APLl will take place inMay 2007. Financial Covenants: the project implementing agency will maintain a financial management system acceptable to the Bank. Both project and entity financial statements, Statement of Expenses and Special Account will be audited by independent auditors acceptable to the Bank and on terms of reference acceptable to the Bank'. The annual audited statements and audit report will be provided to the Bank within six months of the end o f each fiscal year. Inorder to buildup the financial management capacity of the TCDD, the following covenants are proposed: (i) order improvethefinancialmanagement controls atTCDD, the companywill engage In consultants for carrying out a detailed review o f intemal controls which will identify gaps and weaknesses inintemal control framework. The Bank, through supervision missions, will monitor implementation of the action plan to strengthen the intemal controls in TCDD. (ii)a modem ERP2is installed and operational by end of December 2007; and (iii) will maintain a TCDD financial management system acceptable to the Bank. 'Theproject financial statements will be audited by independent auditors acceptable to the Bank and on t e r m of reference acceptable to the Bank. TCDD financial statements will be audited by independent auditors acceptable to the Bank inaccordance with IFRSand ISA. For the first two years o f the project audit reports o f TCDD preparedby YDK will be relied upon for purposes of satisfying extemal audit requirements of the project. The annual audited statements and audit report o f TCDD and the Project will be provided to the Bank within six months of the end of each fiscal year. ERPstands for Enterprise Resource Planning   A. STRATEGIC CONTEXT AND RATIONALE 1. CountryandSector Issues Only four years ago the Turkish economy suffered a serious crisis, leading to the devaluation o f the currency by some 50 percent, a jump in nominal interest rates to 100 percent, the virtual collapse of the banking system and the bankruptcy o f scores o f enterprises. At the end o f 2001, Turkey registered a 10 percent decline in GNP, inflation was on the order o f 70 percent, and the net public debt to GNP ratio reached 94 percent. Turkey's economy has rebounded from this crisis, and economic growth has been strong since 2001 (namely 8 percent in2002, 6 percent in2003 and close to 10percent in2004). At the same time, inflation has been brought under control reaching single digits (9.3 percent) in 2004, the lowest in Turkey for thirty years. N e t public debt to GNP decreased significantly to 63.5 percent at end-2004. This impressive macroeconomic performance has been achieved through a combination o f stabilization measures, with strong fiscal discipline at its core allowing the maintenance o f large primary surpluses o f the public sector on the order o f 6.5 percent o f GNP, an ongoing structural reform agenda that was initiated by the previous Government, and followed by the current one, and political stability since the November 2002 elections. As a result, Turkey's economy has become significantly more resilient to external shocks over the past two years. Nonetheless, risks do exist that should not be underestimated, such as ifthere were to be a sharp change inthe global economic scene, a potential rise ininterest rates, which may affect the Government's ability to roll over public debt, or possible reform fatigue inTurkey. The decision o f last December's European Union (EU) summit on the opening o f accession negotiations in October 2005 has been an important signal for the financial markets and has created a firm anchor for Turkey's development inthe years ahead. As observed elsewhere, the process o f accession provides a strong incentive to continue with political, macroeconomic and structural reforms. Turkey's ownpre-accession program sets out ambitious objectives including 5 percent growth and the reaching o f the Maastricht gross debt criteria o f 60 percent o f GNP in 3 years. The potential for significant FDI could also be unlocked by the prospect o f EU membership, although this will take time to buildup. The Turkey Country Assistance Strategy (discussed by the Board o f Directors o f the World Bank on November 6, 2003) recognizes that raising the efficiency o f Turkey's transport sector will contribute to economic growth, environmental sustainability and poverty alleviation. Key priorities for the medium term include inter-alia: (i) continuing the restructuring andprivatization o f public utilities coupled with sector reform; and (ii)implementing the reform process inherent inthe EU"acquis communautaires". Turkey's geopolitical position - as a link between Europe and Asia - makes the transport sector crucial for the economic development o f the region. Turkey is a major player both as a transit country and as an origin and destination o f fieight. The recent positive political developments with regardto the EUaccession process andthe growing role o f Turkey intrade between Central 1  Asia and the South Caucasus with an enlargedEuropeanmarket make the focus on transport even more important. TCDD, the Turkish State Railways Administration operates the national railway, the seven largest ports, and manufactures and repairs locomotives, wagons, passenger coaches, as well as sleepers and switches. Created as a result of the nationalization of the railways in 1924, TCDD was set up as a State Economic Enterprise (SEE) in 1953. As a State owned enterprise, TCDD has the monopoly of any railways related activities. Yet, it i s currently the largest money loser among Turkey's public sector enterprises: in2004, TCDD lostUS$548 million', The railway related activity i s the largest element o f TCDD, i.e., about 85 percent o f TCDD total operating costs but slightly less than 50 percent o f its operating revenues in 2004. During the period 1993-2004, the railway cost the Government about US$9 billion, averaging about US$750 million a year. In 2004, total support from public finance to cover losses as well as capital investment amounted to US$1,023 million, or 0.4 percent of GDP. The value ofbudget support together with uncovered losses expressed as a share o f GDP i s broadly comparable with other railways in middle-income countries in Europe2. Although the highly profitable port related activities are cross-subsidizing TCDD revenues, its operating revenue does not cover the cost of its staff.3 The staff totals about 39,000 o f which about 10,000 are employed at ports and non- core affiliated companies. The railway traffic market share has been steadily decreasing since the 1950's to become marginal, reaching in 2004, only 2 percent of passenger-km and 4 percent of freight ton-km. The decline in traffic share is the result o f (i)a lack of investment in infi-astructure; and (ii) rapid growth of road transport inthe past decades, while the railway's the traffic grew at a slower pace o f about 2 percent per year. Safety and accident preventioni s a top priority o f successful railways that needs to be thoroughly strengthened within the TCDD from management to workers. Safety policies exist in principle, but are notproperly enforced inpractice. The Turkish Government has decided to restructure its transport system and particularly the role of the railway and its economic value. Despite the shrinkingshare of the rail market, it would not be either politically acceptable or economically sound to consider the closing o f the railways as some social and economic needs cannot be fulfilled by other transport modes, e.g., dry and liquid bulk, containerized traffic and urban transport services in already highly congested cities. The railway reform strategy of the Government i s detailed in its Letter o f Sector Development Strategy signedby the Minister of Transport inDecember 2004 (see Annex 1). Letter of Sector development Policy (LSDP): The Government has taken a clear commitment to change the TCDD's structure and technology to cope better with the competitioninthe global market and to increase the share o f rail in the transport sector. More specifically, the LSDP includes unequivocal commitment for an in-depthreform o f the TCDD with the preparation o f two new Laws: (i) Railway Law providing a new legal framework for railway activity a 'US643 ~~ millionifprofit fromports is excluded. Railway loss in2003 was US640million equivalent. CroatianRailways (1.3% of GDP), Romanian Railways (0.7%), Bulgarian Railways (0.6%), Poland (0.4%). As imposedby the currentRailwaysLaw, Treasury has to financially cover TCDD staff cost on amonthly basis,which clearly doesnot createany incentivefor TCDD to reduce its excess of staff. 2  consistent with EUdirectives; and (ii)TCDD Law supportingthe reorganization o f the national a railway company. Through a technical assistance grant provided by the EU to the Turkish Government, the preparation o f the two laws started inearly 2005 and a first draft is expected for June 2005. The above reform will have to be completed by the end o f 2006. The restructuring includes essentially the separation and eventually the privatization o f the affiliated companies and o f the ports operations, the reshaping o f the labor force and the reduction inredundant staff. The social plan is to be implemented gradually in order to minimize the negative impact resulting from the staff adjustment process. Several o f these actions have been initiated andare detailed in the Letter o f Sector Development Policy (see Annex 1). TCDD Business Plan 2005-2010. To support the decision taken by the Turkish authorities to reform the TCDD, a detailed TCDD Business Plan for the period 2005-2010 has been prepared with the assistance o f specialized consultants andhas beenapproved by the Boardof Directors o f the TCDD on March 23, 2005. The main objectives o f the Business Plan aim to: (i) improve its financial situation; (ii)establish a more client oriented structure; (iii)increase railway competitiveness and market share; (iv) integrate the national network into the European and Asian network; and (v) provide an equitable, secure and economic service for the users. The satisfactory implementation o f the Business Plan is an integral part o f the proposed project, A summary o fthe Business Plani s included inthe Annex 1. 2. Rationale for Bank Involvement The Government has requested the assistance o f the Bank inboth roles as an independent advisor and as a financier. With its experiences all around the world in restructuring railway national companies, the Banki s certainly ina unique position to provide appropriate advice andto work in close cooperation with the EUto help TCDD to reduce its financial losses and inmeeting the EU accession requirements. Financing would be required to support consultancy services, staff retrenchment, and some financially sound rehabilitation o f infrastructure and operating assets. As a result o f the policy dialogue between the Government, TCDD and the Bank, which has taken place since 2001, inparticular through ESW (TCDD - Options for reform - June 2002), there is now a reciprocal trust inthe success o f the project. 3. Higher Level Objectives to which the Project Contributes It is expected that the project will reduce the logistical costs associated with the current inefficiencies and high costs o f both the railway and port sub-sectors, allowing importers and exporters to develop existing trade related businesses. The project will also contribute to improve the level o f safety and security for train passengers contributing to a modal shift between road and rail transportation. The railway institutional reform initiated under the project with the support o f the European Commission will contribute to Turkey's accession process to the European Union. The benefits expected from the railway restructuring will result in gradually decreasing the financial support from the national budget, allowing a redeployment o f the scarce public resource inother sectors. 3  B. PROJECTDESCRIPTION 1. LendingInstrument The lendinginstrumentproposed for this project is a two-phased Adaptable Program Loan (APL) to be implementedrespectively over 2005-2009 and 2007-2011.The loan type for the first phase is the Bank's single currency variable spread loan (VSL) with a 17 year maturity, including a 4 year graceperiod. According to the Public Finance and Debt Management Law, Treasury cannot guarantee an agency which i s making financial losses. By Law No 5319 - amending various Laws, approved on April 2005, Treasury has been authorized to grant foreign loan proceeds to TCCD, including those proposedunderthis project. Taking into consideration the nature of the project which: (i) supports an in-depth institutional reform of the railway sector incompliance with the EUAcquis Communautaires; (ii) results ina complete reorganization o f the TCDD to make it more market and client oriented; (iii) supports restructuring which significantly improves the financial performance o f TCDD; and (iv) includes a relatively modest investment modernization component with regards o f the existing TCDD assets, such financial arrangement is found relevant and acceptable. The financial forecast of the railways included in the PAD has been performed considering the World Bank loan proceeds as a grant to TCDD. Based on the output o f the TCDD financial model used for the preparation o f the project, the impact o f on-lending the US$184.7 million APLl loanproceeds on commercial terms, Le., 3 year grace period and 5.6% interest per year, would result indelaying the expectedprogressivere-establishment o fthe financial situation ofthe TCDD by about one year. 2. ProgramObjectiveandPhases The overall objective of the program is to improve the financial viability, productivity, and effectiveness of railways operations. The overall strategy o f the Turkish Government as statedin the LSDP spells out the Railways Restructuring project objectives. Because some o f the reforms can be implemented only after the enactment o f the future Railway and TCDD Laws, a two stage approach for the reform i s suitable. The Bank's investment lending support for the proposed Government's railway restructuring program would be through a two-phased Adaptable Program Loan(APL). The choice of an APL would allow greater flexibility inprogram execution to gradually achieve the reform, which partially depends o f the enactment o f laws to be submitted to the Parliament later in 2005. The first phase the proposed APLl project - will be executed over a period of - four years (2005-2009). The first phase o f the APL will launch the restructuring o f TCDD by carryingout an internal reorganization and staff rationalizationachievable under the current legal framework. Technical assistance will develop the institutional reform, and prepare the studies necessary for the implementation o f APL2. The enactment of the future Railway and TCDD Laws (which i s the main trigger for APL2), will create the legal framework compulsory for the whole implementation o fthe reform, inparticular o f the secondpart ofthe staff retrenchment, not 4  currently achievable under the current legal framework. The second phase (APL2) will build on the institutional developments achieved under ApLl and on the first steps o f TCDD restructuring, and will consolidate andprovide sustainability for the restructuring project. Perfonnance during the first phase will be the key determinant intriggering the second loan. Although likely improbable, a major delay in the enactment o f the future Railway and TCDD Laws due - for example - to an unexpected political situation, would not compromise the outcomes expected from the APLl project. The decision to reorganize the TCDD into "lines o f businesses" will lead to improved operational performances, and the staff adjustment foreseen under APLl will improve the TCDD working ratio whilst the line capacity increase will contribute in generating additional revenues. The main consequence o f a major delay in the enactment o f the new laws would be to lengthen the staff adjustment process and to postpone some key elements o f the reform such as the introduction o f competition in the railway sector, and the establishment o f public services contractual arrangements for transport o f passengers on loss-making lines. The proposedAPL is structured according to the following characteristics: Programduration: The whole APL program described above would be implementedbetween 2005 and 2011. The APL will include two phases that will each be implemented over a period o f 4 years or less. Structured as a vertical APL supporting a long-term investment program o f about US$450 million (of which US$300 million is expected to be Bank financed), the first phase will begin inSeptember 2005 andthe second phase possibly inSeptember 2007, which would overlap with Phase 1, as the institutional requirements have been met by the Government and the new interventions are ready to be implemented. Phases description: The APLl (with a total cost o f US$221.0 million of which US$184.7 million are Bank financed) would include: (i) advisory services to implement the restructuring of the TCDD under current Railway law and to prepare APL2; (ii) staff adjustment program; initial (iii)line capacity increase along Mersin-Toprakkale and Yenice-Bogazkoprii corridors; (iv) training for TCDD staff; and (v) support for improved internal andpublic communication. The APL2 (with a total cost o f about US$230 million o f which at least US$115 million is expected to be Bank financed) that will be finalized during the implementation o f the APLl would include: (i) advisory services to complete the restructuring o f the TCDD and assist inthe implementation o f the new institutional and regulatory setup resulting from the new laws; (ii) support for continuing the staff adjustment program; (iii) capacity increase along Irmak- line Zonguldak corridor; and (iv) other components as deemed necessary to ensure the success o f the of the overall program. 5  APLl:Detailed Project Costs APL 2: NotionalProjectCosts Project Total Cost By Component and/or Activity (US$ million) A -Modernization ofinfrastructure (Irmak-Zonguldak) 127.0 B-TCDD staffadjustment & socialmitigation under new 100.0 Laws C - Advisory services to the TCDD 1.8 D-TCDD stafftraining andre-trainingprogram 0.5 E-Public communication and surveys 0.2 F-Project Implementationcosts 0.5 Total APL2 Notionalcost estimate I 230.0 115.3 - L Triggers for the preparation of the APL2: Triggers for the second phase o f the APL are summarized below. A summary report for the first phase would have to be submitted six months prior to the launching o f the second phase and will serve as a basis determining readiness for APL2. 0 Both the new Railway and TCDD Laws are approved by the Parliament and enacted, since the APL2 essentially aims to support the implementation of the Laws, especially with regards to the finalization o fthe restructuring o fthe TCDD. 6  0 Satisfactory progress, assessed along the following criteria, has been made during the implementation o f APLl: a. Decision is taken by the TCDD Board of Directors to replace current "regional based" organization by a "line of business" organization in compliance with the content o f Letter of Sector Development Policy and the TCDD 2005-2010 Business Plan, not later than six months after the enactment of the above mentionednew Laws.; b. Through management decisions resulting from the implementation of the TCDD 2005-2010 Business Plan, railway staff (excluding port and affiliated companies) i s reduced significantly ina socially acceptableway; c. The design o f TCDD Operations Management Information System (OPMIS) i s compliant with the best international standards i s completed by December 31, 2006; d. The following studies: (i) rationalization of passenger services in view of the the preparation o f draft multi-annual Public Service Contracts; and (ii) review of the railways investment/maintenance program for railways infrastructure and freight operations are completed byDecember 31,2006; and e. Ports under TCDD are fully separatedfrom TCDD by December 31,2006. Inlinewiththe aforementioneddiscussion, the set oftriggers chosento moveto the secondphase will ensure: (i) achievement of substantial progress in the implementationof the APL1 and the (ii) establishmentofanenablinglegalenvironmenttocontinuethereform. the 3. ProjectDevelopmentObjectiveand Key Indicators The objective of the Project is to support the Borrower's implementation ofthe Program over the four (4) year period 2005-2009, to improve productivity and effectiveness o f railway operations and to assist TCDD inreaching a financially sustainable situation and reduce the fiscal burden TCDD represents for the Borrower. The project principal outcome is to align the Turkish railways competitiveness with European railways, and thus reducing its current financial deficit from 0.4 percent to about 0.2 percent of GDP in2009. This will be achieved through an in-depth reorganization o f the TCDD, with a clear separation o f infrastructure from operations, increasing accountability and competitiveness in rail operations, restructuring and rationalization of passenger services, labor rationalization, as well as corporatization andprivatizationo f some non- core activities. More specifically, the APLl aims at: (a) assisting in setting up a new legal framework allowing TCDD to operate on a commercial basis and receive public service obligations (PSO) payments for services rendered to the government for social and/or political reasons; (b) increasing the transparency and accountability o f TCDD operations through the separation of the infrastructure and operating (freight, passenger) entities; (c) shifting from current regional based organization toward a "lines ofbusiness" organization4; (d) adjusting TCDD work force through an acceptable gradual reduction o f staff; (e) modernizing some of TCDD's core infrastructure and operating i.e., freight, passengers, infrastructure and tractive & rolling stock (see Annex Ifor details). 7  assets to improve safety level; and, (f) divesting from some non-core services. Inthe short term, establishing a new structure with accrued accounting, operating, bidding procedures, transparency, and efficient governance, will permit pinpointing the flaws o f the company, so as to be able to solve them more efficiently ina subsequent phase o fthe reform. Key Performance Indicators (KPI). Inaddition to the proposedtriggers detailedinthe precedent paragraph, APLl's overall performance would be assessed through a number o f qualitative and quantitative indicators. The specified indicators would be regularly monitored and evaluated by Treasury and TCDD. The agreed key performance indicators to be used to assess the progress made under APLl are detailed inh e x 3. The key performanceindicators include: KPZl: Institutional reform: A new legal and regulatory framework o f the sector - compliant with the EU"Acquis communautaires - is inplaceby endo f 2006. " D I 2 : Competitivenessof rail operations: (i) operating annual revenues increases by at TCDD least 10percent per year duringthe period 2005-2009; and(ii) Freight traffic increases fiom 9.6 billion ton-km in2004 to 11.6 billion ton-km by2009. KPI3: Productivity and effectiveness of rail operations: TCDD operating losses are significantly reduced, and the working ratio5without subsidy would improve from 366 percent in2004 to 200 percent or less by 2009; Kplq: Staff adjustment: TCDD railway staff is reduced significantly in a socially acceptable way; -Is: Reduction offiscal burden: TCDD's dependence on public finance to cover rail deficit and investment decreases from 0.4 percent o f GDP in 2004 to less than 0.2 percent of GDP in 2009. 4. APLl Components The APLl total cost is estimated at US$221.0 million, o f which, the World Bank finances US$184.7 million (143.7 million equivalent6). It includes the following components: (i) rehabilitatiodmodemization of infrastructure and operating assets to increase the capacity o f the most active links within the Turkish railway core network; (ii) gradual but significant TCDD staff adjustment and social mitigation plan designed under a socially acceptable program; (iii) transaction assistance and other advisory services to the TCDD to carry out well targeted key activities detailed below; (iv) staff training and re-training; and, (v) TCDD public communication improvement. working ratio without subsidy: defined as operating costs before depreciation, dividedby operating revenue, excluding subsidy. I C equivalent to US$l.2853 at the time of negotiations on May 5,2005 8  Component A: Railway infrastructure modernization: This component includes investment aimed at increasing freight transport capacity and safety o f train movements on the double-track Mersin-Toprakkale and on the single-track Yenice-Bogazkoprii lines (lengthening o f crossing loops, color-light signaling and Central Traffic Control, mechanical ventilation o f tunnels, optic fiber telecommunication, and improvement o f railway connection to Mersinport customers). (see Annex 4 for details). Component B: Staff adjustment and social plan: This component will support the implementation o f the restructuring process o f the TCDD with a reduced number o f employees. In order to avoid social unrest, the project will provide adequate financial resources to allow TCDD to implement its social mitigation program which consists ina broad number o f incentives and services geared to the varying circumstances o f employees. The social mitigation program has been designed to mitigate the adverse effects on TCDD employees o f technological, operational and organizational changes. The various incentives and services proposed by TCDD for downsizing are quite common andhave been applied successfully inmany other employment restructuring projects, and quite recently in Turkey as part o f the Privatization Social Support Project financed by the World Bank. The proposed social mitigation program for TCDD is organized into three components: (i)severance payment and compensation incentives; (ii) retraining andredeployment; and(iii) services (See Annex 4 for details). support Component C:Advisory services to TCDD:This component will provide for technical assistance and consultancy services to TCDD as needed to complete the new institutional framework and implement restructuring o f TCDD assets andoperational practices (See Annex 4 for details). Component D : TCDD Staff training and re-training: This component would support the implementation o f part o f the TCDD 2005-2008 training program in the following fields: (i) railway procedures review and design; (ii) operational performance monitoring; (iii) improved communication and negotiation skills within the TCDD; (iv) labor regulation on safety and health; and, (v) other areas Component E: TCDD Public communication and periodic surveys: This component would provide technical assistance for developing an efficient communication strategy within and outside the TCDD aiming to improve the poor image Turkish railways suffers from among the public. Periodic customer surveys would be conducted in order to track positive changes and to improve commercial strategy. Component F Project ImplementationCosts: P C U Incremental Operating Costs include PCU staff salaries (excluding government employees) and staff per diems and lodging as well as travel costs for field trips related to the implementation o f the project, supplies, utilities, sanitary cleaning, communication and security cost including internet, transport costs for training o f IPCU staff, seminars and workshops, office equipment, hardware and software, fumiture and M&O including fuel, service andcar insurance for vehicles andprocurement/leasing/renting o fvehicles. 9  5. LessonsLearned and Reflectedinthe Project Design The client and the Bank have drawn valuable lessons from preparing and implementing past railway projects in Eastern Europe and elsewhere, and inparticular projects aimed at helpingthe restructuring and privatization o f railways and these have been taken into account in the preparation o f this project. The two railway projects financed by the World Bank in the past decades (see Annex 2) aimed at transforming the TCDD into a commercially viable enterprise by modernizing its infrastructure andproviding technical assistance. Although the two projects have been successfbl in meeting some o f their sub-objectives, Le., civil works and acquisition o f equipment, three major lessons resulted from the assessment carried out by the World Bank Operation Evaluation Department (OED). First, more effort should have been made by the World Bank in persuading the Turkish Government to address the root causes o f TCDD's poor efficiency, which were identified at that time as it's regional based organization, inadequate institutional status, and staffing. Second, in order to reduce its unit operational costs - instead o f relying primarily on tariff adjustments- the TCDD was found inefficient in capturing more freight traffic, especially dry and liquid bulk, Third, the traffic projections used during the preparation o f the projects proved excessively optimistic. Another lesson learned from similar railway restructuring projects is that particular attention should be paid to the staff retrenchment program and the related social mitigation. The most crucial lesson learned is that any staff retrenchment program needs to be well defined interms o f an overall strategy: the type o f compensation options, the retrenchment policy (voluntary or involuntary), andwhether retrenchment is to be phased or sequenced. Further, the overall strategy should be agreed between the government, the railway andthe trade unions. The overall concept o f the proposedproject is based on a clear commitment from the Government to proceed with the reform o f the railway sector, Le., signed Letter o f Sector development Policy, and on a TCDD Board approved action plan, i.e., 2005-2010 Business Plan. The infrastructure component o f the proposed project has been primarily designed to increase line capacity for freight along one of its major trade corridors. Regarding traffic forecast, the project team has chosen more conservative figures for traffic projections, than those initially proposed by TCDD, with, however, a reasonable increase in freight volume resulting from: (i) sustained economic growth o f Turkey foreseen for the next coming years; (ii) development o f new activities, e.g., petroleum products and containers; (iii) improved connection between the ports and the railway network; and, (iv) sustained demand o f transit traffic to and from Iraq. Finally, irreversible actions have been taken during project preparation to inform the TCDD staff on the necessary staff adjustment program to be implemented under the project. 6. Alternatives Considered and Reasons for Rejection As currently done in other countries inthe region, e.g., Croatia, the reform o f the railway sector could have been implemented through an adjustment-type operation. However, an APL was found by both the World Bank and the Turkish Government as the most appropriate instrument 10  for the following reasons: (i)the crucial importance attached to the enactment o f a new institutional setup that requires Parliament approval; (ii)the strong commitment to reform expressed by the Government; and, (iii)the importance o f the infrastructure modernization component included inthe project to generate additional revenues. C. IMPLEMENTATION 1. PartnershipArrangements The technical assistance provided by Bank staff, consultants, and under past railway and road projects in helping to shape the Government program and institutional reforms, has been fully supported by the European Commission delegation in Ankara. The Turkish govemment and the World Bank have maintained regular contact with representatives o f the EuropeanUnion, as well as with JBIC and the IFC, to keep them informed and to consult them on the content o f the project duringits preparation phase. 2. InstitutionalandImplementationArrangements Implementing Enti@. TCDD will have the overall responsibility for project coordination through the Project Implementation Unit (PIU), which has been already established within the TCDD's Research, Planning and Coordination Department. TCDD has implemented several foreign donor financed projects and in the past few years, PIU staff has developed capacity in preparation o f bidding documents and cash flow forecasts. The PIU will be responsible for the day-to-day management o f the project including procurement, financial management, and liaison with the Bankteam. The PIUwill be headedby a Project Manager with appropriate qualifications and experience and assisted by current TCDD experienced senior staff. The current information systems o f TCDD are inadequate and integration of the accounting and reporting systems is required for sound financial management at TCDD. There is no network connection between regions and the headquarters and there i s not a central data base for financial data storage. Therefore financial reports are produced manually. To address these deficiencies TCDD is considering the implementation o f an ERP; an integrated system which will include a management infomation system, related hardware, software and procedural standards. TCDD systems will be relied upon to generate the project financial statements when the ERP becomes functional. Until then temporary arrangements will be relied upon for project accounting and reporting. The progress with building up the financial management capacity will be monitored closely by the Bank and necessary technical support inthe area will beprovided. Funds Flow. As i s common for Bank-financedprojects, there will be one special account for the project at the Central Bank o f Turkey to be operated by TCDD. All payments to the contractors, suppliers and consultants will be made from this special account with the endorsement o f the PIU Project Manager andthe Project FinancialManager. 3. MonitoringandEvaluationof OutcomesResults Project monitoring during the course o f project implementation and after the project has been completed would be carried out by the PIU staff, with the assistance and guidance provided by 11  TCDD relevant experts, under close supervision from MOTand Treasury. This would entail updating the business plan on a regular basis, auditing o f financial statements, and monitoring project performance indicators for the duration o f the project (per agreed indicators - Annex 3). Project progress reports would be prepared by the PIU on a semi-annual basis and submitted to the Bank's review. The progress reports will focus on results rather than providing process related information. 4. Sustainability The Government i s committed to reform the railways, moving from the past situation o f "wanting to do something'' to the definition o f a clear policy as detailed in the signed Letter o f Sector Development Policy (LSDP). The decision taken by the Government to initiate the preparation o f a new legal and regulatory framework for the railways with the technical assistance funded bythe EU, together with the progress achieved so far inthe policy dialogue duringproject preparation, contribute to the sustainability o f the proposedproject. 5. Critical Risks and Possible Controversial Aspects Risk Rating RiskMinimizationMeasure Insufficient political will M The commitment o fthe Government to reform the to reform. TCDD was confirmed duringpreparation. Several important steps have already been taken, e.g., signature o f the LSDP by the Minister o f Transport inDecember 2004. Institutional weakness. S The technical assistance providedby the EUaccession process significantly minimizes this particular risk. Social resistance to H Risk mitigation measures would include close changes. cooperationbetweenthe Government, TCDD management andthe trade unions, early definition o f an appropriate social plan, expeditious payment o f the severance benefits and assistance to staff. Insufficient funding for S Adequate provisions are beingdiscussed between MOT maintenance o f the and SPO to be includedinthe Railway Law under infrastructure or for preparation. Public Service Obligation. Important delay inthe H The commitment o fthe management o f TCDD was shift from current confirmed duringpreparation, e.g., formal approval o f "Regional" to "Lines o f the 2005-2010 Business Planby the Board o f the TCDD business" organization inMarch2005. Overall Risk Rating H 5skRating-H(HighRisk), S IubstantialRisk),M(ModestRisk),N(Negligibleor Low Risk) The pace o f railway restructuring could be subjected to various political factors and considerations. Especially, trade unions may turn against TCDD reform and this could put pressure on the government's ability to make the required decisions. However, the possible 12  negative social impact of the project, related to labor reduction inthe TCDD, has been taken into account in the design o f the project, as explained in D.4 below. In addition, the proposed TCDD's public communication improvement will help inmitigatingthis risk. 6. Loadcredit Conditionsand Covenants Conditionsfor Board Presentation: None. Conditions for Effectiveness: (i) finalization of the project operational manual by TCDD; (ii) signing o f the Project Implementation Protocol between the Undersecretariat o f Treasury, as the representative o f the Borrower, and TCDD; and (iii)legal opinions related to the Project Implementation Protocolare submittedby the Undersecretariat o fTreasury and TCDD. Project Covenants: the following covenants aim to ensure that the APLl meets its key objectives: (i) the track access charge system - as defined by the new Laws - i s established not later thanDecember 31,2007; (ii) basedon the results o fthe rationalizationo fpassengerservices study financed under the project, the line Ministries and the TCDD sign multi-annual Public Service Contracts with railways operators for passenger loss-making services retained by the Turkish Authorities for social purposes by December 31, 2007; (iii) on the finding o f the based study related to the review of railways investment/maintenance program for railways infrastructure and freight operations financed under the project, TCDD revises its investment/maintenance program inthe railways sector; and (iv) a mid-term reviewoff the APLl will take place inMay 2007. Financial Covenants: the project implementing agency will maintain a financial management system acceptable to the Bank. Both project and entity financial statements, Statement of Expenses and Special Account will be audited by independent auditors acceptable to the Bank and on terms of reference acceptable to the Bank7. The annual audited statements and audit report will be provided to the Bank within six months of the end o f each fiscal year. Inorder to buildup the financial management capacity of the TCDD, the following covenants are proposed: (i) orderimprovethefinancial managementcontrols atTCDD, the companywillengage In consultants for carrying out a detailed review o f intemal controls which will identify gaps and weaknesses inintemal control framework. The Bank, through supervision missions, will monitor implementation o f the action plan to strengthen the internal controls in TCDD. (ii) a modem ERP' is installed and operational by end of December 2007; and (iii) will maintain a TCDD financial management system acceptableto the Bank. 'The project financial statements will be audited by independent auditors acceptable to the Bank and on terms of reference acceptable to the Bank. TCDD financial statements will be audited by independent auditors acceptable to the Bank inaccordance with IFRS and ISA. For the first two years o f the project audit reports o f TCDD preparedby YDK will be relied upon for purposes of satisfjmg external audit requirements of the project. The annual audited statements and audit report of TCDD and the Project will be provided to the Bank withm six months o f the end o f each fiscal year. * EW stands for Enterprise Resource Planning 13  D. APPRAISAL SUMMARY 1. Economicand FinancialAnalyses Economic Analysis: The physical investments financed under the project (Component A, which represents about 60 percent of the total cost of the project in APL1) are mainly aimed at increasing freight transport capacity on single-track railway lines between the Mersin-Adana- Toprakkale-Iskenderun zone and the Kayseri-Ankara zones. The economic analysis o f component A was estimated by the use of a stylized model that considered the actual and forecast freight traffic on the three line sections, and the impact of the proposed investments on available line capacity ina defined `do-nothing' scenario and a defined `do-something' scenario. The economic benefits were defined as the additional revenue that will be realized from additional traffic that can be carried on these line sections, following the increase in capacity, in the defined `do-something' scenario vis-a-vis the defined `do-nothing' scenario of no capacity enhancements, where a capacity constraint was estimated to restrict fbture growth intraffic and revenue in2004, 2007 and 2011,respectively, on the three line sections. The capacity o f the line sections in both o f the scenarios has been calculated by considering the required travel time through the longest single line section, together with a line and station safety margin. The results o f the economic analysis indicate that component A o f the APLl i s economically viable, returning a positive NPV of YTL 44.6 Million, following an investment o f YTL 206.66 million. The Economic Internal Rate of Return is 15%, and the estimated benefit-cost ratio i s 1.29, which since it i s greater than one, would support a decision to invest in the project. (see Annex 9 for more detail). Financial Analysis: The financial benefits of the project will be derived from: (i) additional the revenue that will be realized from additional freight traffic that can be carried as a result of investments for capacity improvements and (ii) the reduction in labor cost as a result of a significant staffreductionduringthe period2005-2010. The financial analysis indicates that the project is financially viable, returning a very high net present value (NPV) o f US$405 million at a discount rate o f 12 percent, following an investment of US$129 million for capacity improvements on the above three line sections, US$93 million for compensation incentives offered to TCDD staff for voluntary departures, as well as US$238 million for structural cost of retirement benefits, which i s an accrued liability. Total labor cost savings during 2005-2009 alone amount to US$671 million, more than twice the total cost of retrenchment and more than 7 times the cost of the compensation incentives. The financial internal rate ofreturn i s estimated to about 50 percent. I t is expected that the investments planned for the railways under the project will lead to substantial improvements in the overall financial position o f TCDD. The railway deficitg i s expectedto decrease by about 30% in6 years from US$548 millionin2004 to US$380millionin 2010. Railway revenues are expected to grow annually by about 10% during this same six year Excluding depreciation. 14  period as a result o f the combination o f (i) estimated traffic growth o f 6% per annum driven an by modernization and rehabilitation o f infrastructure financed under the project, the ongoing Ankara-Istanbul rehabilitation project financed by the Spanish bilateral f i d , and a new commuter rail system inIzmir; and, (ii)more commercially oriented tariff policy especially for a new activities such as transport o f petroleum products and containerized cargo, inaddition to the expected sharp increase incommuter passengers services. To reach and sustain a positive financial situation, TCDD will require substantial levels o f budgetary support for investment and delivering passenger services requested by the Government duringthe period2005-2010 (details inAnnex 9). 2. Technical The main focus o f the project is to improve competitiveness o f railway transport, particularly for freight. The key element to improving competitiveness i s to restructure assets and operating practices o f TCDD with the objective o f improving quality o f service rendered to the customers andcutting costs. The project will achieve its objectivesnotably through technical assistance and advisory services and through investment aiming at modernizing infrastructure (lengthening o f crossing loops, installation o f color-light signaling with Central Traffic Control, fiber optic telecommunication, etc.) on a keyroute for freight transport. There are no technical issues with the proposed investment. Design standards for all the investments are well established. Part o f equipment to be installed (signaling and telecommunication equipment) pertains to high-level technology. However, there are numerous quality suppliers o f such equipment on the international market. No trial or experimentation is involved and there are no important risks concerning technology, design or installation, and fbture maintenance o fthe equipment and systems involved 3. Fiduciary Financial Management An assessment o f the financial management arrangements for the project is undertaken in December 2004 and updated in March 2005. TCDD institutional financial management arrangements are inneed o f improvement and temporary arrangements are undertaken to address the project financial management issues. TCDD has decided to implement an Enterprise Resource Planning Project (ERP) which will network the regions and the headquarters and facilitate sharing o f data and timely preparation o f consolidated financial reports and statements. To ensure that TCDD has a reliable financial management environment, installation o f ERP is necessary. TCDD is committed to have the ERP fictional inDecember 2007 andthis will be a dated loan covenant. The auditing arrangements for the entity will also be geared towards improving the financial management systems o f TCDD as well as establishing a sound control environment. TCDD will engage consultants for carrying out a detailed review o f internal controls which will identify gaps 15  and weaknesses in internal control framework. The bank, through supervision missions, will monitor implementation o fthe action planto strengthen the internal controls inTCDD. Temporary arrangements will be relied upon for detailed project accounting and reporting. The data base currently used for all foreign loans will be used for this purpose. There will be a special account for the project at the Central Bank o f Turkey to be operated by TCDD. All payments to the contractors, suppliers and consultants will be made from this special account with the endorsement of the Project Director and the vice president responsible for project financial management. Government institutions, including state economic enterprises, such as TCDD submit their planned investments for the coming year to the State Planning Organization (SPO) and Ministry of Finance (MoF) in June. Through discussions between the institution, SPO, and MoF, budget allocations for all institutions are finalized inDecember. Thus, it will be TCDD's responsibility to ensure that sufficient provision is made inthe annual budget for the project. Counterpart funds for the project will be paid directly by the accounting department of TCDD andwill be integratedinto project accounting. Procurement Procurement activities will be carried out by the PIUto be established inthe General Directorate o f Railways (TCDD). An assessment o f the capacity of the TCDD to implement procurement actions for the project was carried out inJune, 2004. The assessment reviewed the organizational structure for implementing the project. The key issues and risks concerning procurement for implementation o f the project have been identified and include lack o f experience with the Bank-financed projects. It was agreed that the procurement specialists and selected technical staff to be assigned by the TCDD for this project are sent to English language training to improve their language skills through the proceeds o f the PHRD Grant (TF053200) and then sent for training organized preferably by ILO at Turin /Italy, according to their needs for further development o f procurement knowledge and qualifications. A local procurement consultant will be hired to support the TCDD procurement staff to be assigned for this project. The initial overall project risk for procurement is high. The risk rating will be re-evaluated after one year o f Loan effectiveness and adjustments made accordingly. During the project launch workshop, the Bank will organize a training program to the TCDD personnel who may be involved in the procurement activities to introduce the Bank's Guidelines and standard bidding documents to be usedinthe implementation o fthe project. The Borrower through TCDD, at appraisal, developed a procurement plan for project implementation, which provides the basis for the procurement methods. This plan has been agreed between the TCDD and the Project Team on M a y 6,2005. Among the other procurement items, it consists of ICB contracts amounting US$132.6 million, and QCBS consulting services contracts estimated to cost US$3.8 million. The Procurement Planwill be updated in agreement with the Project Team semi-annually or as required to reflect the actual project implementation needs andimprovements ininstitutional capacity 16  4. Social The overall impact o f this project will be country-wide and positive, although it will have a negative impact on some employees who are releaseddue to restructuring. Measures are included to mitigate this impact, however, by making the downsizing process transparent, maximizing voluntary retirement, providing various support mechanisms to assist employees adjust, and implementing the program at a pace that will enable affected workers to prepare in advance for the change. The project supports the Government's policy to improve the country's railway network and make rail transportation more effective and safe. Improved railway transport networks and services are also expected to attract foreign and local investors to do business across the country and not only around the largest cities. This, in tum, is expected to contribute to more evenly distributedeconomic growth andreduce regional disparities. Reliable transport services facilitate access to schools, health andjob markets. TCDD has operated under apolicy of no hirindno layofffor a decade or more, and a reductionin employment levels was achievedthrough natural attrition and the special provisions that provided an additional lump sum top-up o f 20 percent over the "end of service" compensation to workers eligible for early retirement. For this reason, there i s little TCDD experience dealing with the social impact on railway workers o f a broader program of staff adjustment associated with restructuring. However, there i s recent experience with social impact associated with the privatization o f state enterprises uponwhich the proposed component draws. According to the recent social monitoring survey data inthe Bank's Privatization Social Support Project (PSSP), the most vulnerable group is prime age workers with families and financial commitments between 30-45 years o f age and not those close to retirement as was originally anticipated when the PSSP was implemented. The main beneficiaries o f "end o f service" or severance compensation in the proposed project will be determined when specific hctional areas o fredundancy are identifiedby TCDD with the assistance o f a specialized consultant. Two stakeholder workshops were held duringappraisal that provided opportunities to discuss the implications o f the TCDD business plan and associated restructuring on the labor force with senior management, union leaders, external stakeholders, and middle-level management, respectively. These will be followed by similar workshops when subsequent consultant reports are released, and during the preparation o f a detailed implementation plan, to offer an opportunity for stakeholder input at each stage. TCDD will also launch an ongoing information campaign to keep employees and the public aware o f the changes that are plannedand underway, in order to help employees anticipate and adjust to the changes. In addition, TCDD will set up an independent social monitoringprogram to monitor and assess social impacts o f restructuring and to identifyunanticipated impacts that needto be addressed. 17  5. Environment The project is in full compliance with all environmental regulations, policies and procedures o f the Government of Turkey and the World Bank. In accordance with World Bank safeguard policies, the project i s rated environmental category B and an EnvironmentalManagement Plan (EMP) acceptable to the Bank has been preparedby TCDD. The TCDD has conducted public consultations, and disclosed the Turkish languageEMPpublicly inTurkey at the TCDD Regional Offices at the end of February, 2005. The Englishlanguageversion o f the EMP was received by the Bank on February 23, 2005 and was placed in the Infoshop on March 3, 2005. The English languageversion of the EMP i s also includedinthe project files. The project is expected to have minor negative impacts on the environment. Only the implementation o f the signaling program (component A of the project) can trigger environmental issues, Inevitably, the diggingof trenches for electrical cable and erection o f poles will introduce noise, disturb the ecosystem near railway tracks and may disturb the public at intersections o f roads and railroad, due to the movement of men, equipment and materials. These slight negative impacts will be limited to the construction phase. Once the project i s completed, the improved traffic flow may increase air and noise pollution along the railroad. However, the reallocation o f traffic from road to rail will result in reduction o f congestion, and higher reduction o f pollution caused by hydrocarbons, particulates and lead. The net result will be a diminution o f pollution causedby traffic. Noresettlement or landacquisition is involved. The World Bank policy on cultural heritage will not be triggered, as all the works will be implemented in a zone that has already been explored during the construction o f the railroad. However, the Environmental Management Plan includes a requirement that all construction contracts contain a provision regarding handling of unexpected findings o f items o f cultural significance inaccordance with Turkishregulations on cultural property. 6. Safeguard Policies Given the nature of the interventions supported by the project, the project does not trigger any social safeguard policies. However, it i s quite likely that the implementation o f the proposed sector reform agenda will generate a number o f social issues that will require the Borrower's careful attention throughout the project implementation period. To manage this process, TCDD will establish a social impact monitoring program to follow the reform process and enable it to deal with unexpected social impacts o f the redundancy program. This will complement the greatly expanded consultation process that has been launched, includingpublic consultations and internal staff and worker briefings that reach all concerned stakeholders, as well as a targeted, user-friendly public informationcampaign that keeps employees aware o f changes underway and those that will follow: 18  Safeguard Policies Triggered by the Project Yes No Environmental Assessment (OP/BP/GP 4.01) [XI [I NaturalHabitats (OP/BP 4.04) [I [XI Pest Management (OP 4.09) [I [XI CulturalProperty (OPN 11.03, beingrevised as OP 4.11) [I [XI InvoluntaryResettlement (OP/BP 4.12) [I [XI Indigenous Peoples (OD 4.20, beingrevised as OP 4.10) [I [XI Forests (OP/BP 4.36) [I [XI Safety o fDams (OP/BP 4.37) [I [XI Projects inDisputedAreas (OP/BP/GP 7.60)'' [I [XI Projects on International Waterways (OP/BP/GP 7.50) [I [XI 7. Policy Exceptions andReadiness The Project complies with all applicable Bank policies. The engineering design documents for the first year's activities are complete and ready for the start o f project implementation. The procurement documents for the first year's activities are complete and ready for the start o f project implementation. The Project Implementation Plan has been appraised and found realistic ando f satisfactory quality. lo supportingtheproposedproject, theBankdoesnotintendtoprejudicethefinaldeterminationof theparties'claimsonthe By disputed areas 19  Annex 1: Country and Sector or ProgramBackground TURKEY: RAILWAYSRESTRUCTURING Only four years ago the Turkish economy suffered a serious crisis, leading to the devaluation o f the currency by some 50 percent, a jump in nominal interest rates to 100 percent, the virtual collapse of the banking system and the bankruptcy o f scores o f enterprises. At the end of 2001, Turkey registereda 10- percent decline in GNP, inflation was on the order o f 70 percent, and the net public debt to GNP ratio reached 94 percent. Turkey's economy has rebounded from this crisis, and economic growth has been strong since 2001 (namely 8 percent in 2002, 6 percent in 2003 and an close to 10 percent in 2004). At the same time, inflation has been brought under control reaching single digits (9.3 percent) in2004, the lowest inTurkey for thirty years. Net public debt to GNP has decreased significantly to 63.5 percent by end-2004. This impressive macroeconomic performance has been achieved through a combination o f stabilization measures, with strong fiscal discipline at its core allowing the maintenance of large primary surpluses of the public sector on the order of 6.5 percent o f GNP, an ongoing structural reform agenda that was initiated by the previous Government, and followed by the current one, and political stability since the November 2002 elections. As a result Turkey's economy has become significantly more resilient to external shocks over the past two years. Nonetheless, risks do exist which should not be underestimated, such as if there were to be a sharp change in the global economic scene, a potential rise in interest rates which would affect the Government's ability to roll over public debt, or possible reform fatigue inTurkey. The decision o f last December's EUsummit on the opening o f accessionnegotiationsinOctober 2005 has been an important signal for the financial markets andhas created a firmanchor for Turkey's development in the years ahead. As observed elsewhere, the process of accession provides a strong incentive to continue with political, macroeconomic and structural reforms. Turkey's own pre-accession program sets out ambitious objectives including5 percent growth and the reaching of the Maastricht gross debt criteria of 60 percent o f GNP in3 years. The potential for significant FDIcould also be unlocked by the prospect of EUmembership, althoughthis will take time to buildup. A new 3-year Stand-by Arrangement (SBA) has been agreed on with the Fund. A Fundprogram and an ongoing EUaccession processwill serve as powerful external anchors. It i s expected that the focus of the EU reforms will shift from emphasizing political criteria to economic ones ensuring an anchor for the reform process into the mediumterm. Background The Government of Turkey initiated a number o f economic reforms to contain spending, cut its deficit, reduce inflation, and provide a basis for renewed economic growth. The Government has mapped out a structural reform program encompassing measures to address the biggest sources o f fiscal deficits, strengthen the legal and regulatory frameworks, and accelerate the privatization o f the remaining state enterprises. Reformof the Turkish Sate Railways (TCDD) is one o f the main targets for change. Over the past few decades, TCDD has fallen into a financial crisis from which it will not be able to emerge without a dramatic restructuringo f its governance and organization. TCDD, the Turkish State Railways operatesthe national railway, the seven largest ports, and manufactures and repairs locomotives, wagons, passenger coaches, as well as sleepers and switches. Created as a result of the nationalization of the railways in 1924, TCDD was set up as a State Economic Enterprise (SEE) in 1953. As a State owned enterprise, TCDD has the monopoly o f any railways related activities. Yet, it i s 20  currently the largest money loser among Turkey's public sector enterprises: in 2004, TCDD operational loss amounted to US$548 million. The railway relatedactivity is the largest element of TCDD, i.e., about 85% o fTCDDtotal operating costs but slightlyless than 50% ofits operating revenues in2003. Duringthe period 1993-2002, the railwaycost the government about US$7.5 billion, averaging about US$750 million a year, or 0.4% o f GDP. If this figure i s comparable with other countries, Turkey's particularity lays in the efficiency o f rail operations that i s low above average o f lower middle-income group ECA countries. Although ports (highly profitable) related activities are cross-subsidizing TCDD revenues, its overall income does not cover the cost of its stafe', which represents 180% of railway revenue. The staff totals about to 39,000 o f which about 10,000 are employed at ports or at non-core affiliated companies. The railway traffic market share has been steadily decreasing since the 1950's to become marginal, reaching in 2003 2% o f passenger-km and 4 % of freight ton-km. The decline in traffic share is the result of: (i) a lack o f investment in infrastructure; and (ii) rapid growth of road transport in the past decades, while the railway's traffic the grew at a slower pace (+2% per year). Structureof the Transport Market andthe Role of the Railway Transport demand in Turkey has grown significantly over the past five decades. Overall, demand (as measured by passenger-kilometers and ton-kilometers) has grown at an annual rate o f nearly 8% since 1950. Demand for Road transport has grown at an annual rate o f about 7.6% while rail transport demand grown at about 2%, demand for water transport by 5% and air at over 16% per year. As in most developing countries, road transport i s becoming a much more significant factor for both freight and passenger transport. Road transport represented about 37% and rail 55% of the total transport market in 1950. By 2000, road transport represented 93% o f the total market, rail about 4%, water about 2% and air 1% of the total intercity transport market inTurkey.While the current rail transport task is not insignificant, it i s certainly much less important to the economy o f Turkey than in the past. Although TCDD's rail traffic market shares have declined significantly, overall railway traffic has grown somewhat. Total TCDD railway traffic units'* have grown at about a 2% annual rate. Freight services have grown at an annual rate of about 2.3%; Suburban services have lost traffic at about 3% per year, while intercity passenger traffic has increasedbyabout 1%peryear. Inthe past, itwas arguedthat the railway couldbemore competitive andcommercial ifitreducedits cost structure and thus able to reduce its tariffs. This argument can no longer be made-freight prices already reflect a low cost structure. Over the past 20 years, TCDD has significantly reduced its freight tariffs. Low tariffs, set at levels o f the most efficient railways in the world, have not helped TCDD attract freight traffic. Over the same period, TCDD has not done much to reduce its cost structure and now generates very large loses. TCDD is in the curious position o f decreasing freight tariffs while increasingpassenger tariffs, thus shifting relative government transport benefits from passengers, most likely poor, to major industrial concems. To become a commercial enterprise, the railway will have to be radically reduced in size, service improved, andtariffs increased. 'IAs imposedby the current RailwaysLaw, Treasury has to financially cover TCDD staff cost on a monthly basis, which clearly does not encourage TCDD to reduce its excess of staff. l2Traffic unitsare definedaston-kilometers o f freight traffic +passenger-kilometers o fpassenger traffic. 21  TCDDLegalStatus The Decree Law N o 233 dated June 18, 1984 and the Statues of the Republic o f Turkey General Directorate of State Railways Administration (TCDD) adopted pursuant to the Decree law ,establish the legal status of TCDD, its purpose and field of activity, organisation structure, institutions and subsidiaries and affiliates. These establish TCDD as a State Economic Enterprise (SEE) affiliated to the Ministry of Transport for the following purposes: (i) operate, enlarge and renew the railways, ports and piers to delivered to it by the State; (ii) direct its affiliated corporations and shared inaccordance with the laws to andregulations within the framework of development plans and annual programmes; (iii) when necessary, to carry out all kinds of complementary activities regarding rail transport such as maritime and inland transport including ferry operations; (iv) to manufacture rolling stock and similar vehicles, establish warehouses, depot and passenger facilities; (v) to undertake railway construction works home and abroad; and (vi) to fulfil all tasks entrusted bythe Council o f Ministers relatedto its field of activities. There are two types o f SEE inTurkey and TCCD is a State Economic Organisation(SEO), which is a SEE established to provide a monopoly service. TCDD has monopoly rights inthe transport of passengers and freight by rail in Turkey. State Economic Enterprises are governed by Decree by Law number 233. Amongst other things, Law 233 defines the arrangements by which SEESand TCDD are governed and managed. TCDD i s managed by a Board of Directors, which has 6 members, including the General Manager of TCDD who acts as the President o f the Board of Directors. The General Manager o f a SEE i s appointed on the basis o f the recommendation of the relevant Minister with the approval of Government. Of the remaining Boardmembers: two are appointed by the Ministry o f Transport; one by Treasury; and two onthe recommendation o fthe Ministryof Transport, selected among the Deputy General Managers o f TCDD and approvedby Govemment. The period o ftenure o f Boardmembersis 3 years. As set out in Law 233, SEESshould operate according to `basic economic and commercial principles'. The Board o f Directors i s responsible for these decisions, but because they are public enterprises, their decisions should be consistent with Government policy. Budgets, investment and finance plans require the approval o f the HighPlanningCouncil. Article 35 o f Law 233 states that SEESare free to set the prices for the commodities and services that they produce. However, it also states that Government (the Council o f Ministers) may set prices. TCDD i s free to set its price and tariff levels but inpractice these are subject to considerable influence by the Ministry of Transport and politicians, such that they require, in effect, Government approval. Any losses that occur as a result o f Government changes to tariffs are supposed to be compensatedinthe followingyear's budget by a subsidy equivalent to the cost plus 10%. Organization of the TCDD TCCD's current organisational structure i s shown inthe figure below. TCCD i s organised on a functional basis and i s highly vertically integrated, it i s responsible for both infrastructure construction and maintenance and train operations and buys in few services from outside o f the organisation. TCDD has a regional structure comprising o f sevenregions. Most o f the staff o f the functional departments are based in the regions and report to regional headquarters. TCDD has recently tried to remove the regional structure as part of implementinga business unit structure but with limited success as many senior staff remain in place despite their positions disappearing inthe structure. The main functional Departments are presented below. Commercial Department -the main task o f the commercial department i s to plan and organise passenger train services, including the setting o f fares, the marketing of train services, the timetabling o f services, direct ticket sales and the collection of revenue. The commercial department will become the Passenger 22  Business Unit in TCDD's proposed new organisation, possibly split into separate Long distance and Suburbanpassengersunits. Movement Department - the main task of the movement department i s customer contact activities, predominantly freight, at stations and trains and organising trains and the shuntingo f freight wagons. The movement department will become the Freight Business Unit inTCDD's proposed new organisation. Installations Department. The installations department i s responsible for designing, constructing, operating and maintaining signalling, line electrification and communications systems and providing train dispatch services. Permanent Way Department. The permanent way department i s responsible for maintaining civil works such as tracks, roads, bridges, and tunnels.. The installations and permanent way departments will be combinedinTCDD's proposed new organisation to form a single Infrastructure Business Unit. The Traction Department i s responsible for operating and maintaining locomotives and passenger and freight rolling stock. Locomotive dnvers arebasedwithinthe traction department. The traction department will become a WorkshopBusiness Unit withinTCCD's proposedneworganisation. TCDD also owns and operates three affiliated companies, as follows: (i) Tulomsas - responsible for the manufacture o f locomotives under licence; (ii) Tuvasas - responsible for the manufacture of passenger coaches; and (iii) Tudemsas-responsible for the manufacture o f freight wagons. The affiliated companies also undertake the heavy overhaul and maintenance o f TCDD's traction and rolling stock. It i s the consultants' understanding that overhaul and maintenance i s the prime source of work for the affiliated companies at present. TCDD also operates several factories within the permanent way department. These include a switch factory, two concrete sleeper factories and arail welding facility. TCDD owns and operates a total of 7 ports that have railway access: Haydarpasa, Mersin, Iskenderun, Derince, Izmir, Samsun and Bandirma. The ports are currently the only part o f TCDD that are operating profitably and are cross-subsiding railway operations. 23  f I I i t I I 1 I  TCDDBusinessPlan2005-2010 TCDD, in close collaboration with the World Bank and consultants (CANAUIBM), has detailed its short-medium term strategy inits 2005-2010 Business Plan approved by the TCDD Board of Directors in March 2005. The main objectives of the Business Plan are to: (i) its financial situation; (ii) improve establish a more client oriented structure; (iii) increase railway competitiveness and market share; (iv) integratethe national network into the European and Asian network; and (v) provide an equitable, secure and economic service for the users. The satisfactory implementation o f the Business Plan i s an integral part o f the proposedproject. The key actions plannedto reach those objectives includethe following: 1. Reorganization ofthe Entity Structure shifl: Early 2005, the freight and passenger units was separated from the core management, and established as `operations' and `commercial' departments, respectively. By end 2006, the current inefficient regional-based structure will bereorganized accordingto the following lines o fbusiness: BusinessUnits Sub-sectors Freight Bulkandothers. Passenger Long Distance, Regional, Suburban Infrastructure Permanent Way, Traffic, Assets Rolling Stock Maintenance Workshops, Rolling Stock Corporate Support Functions Finance, HumanResources, IT, Purchasing, Real Estate.. .etc. Introduction of MIS: In order to facilitate the above reorganization, a management information system (MIS) will be introduced inthe company by endof 2006, comprising inparticular an accounting system, ERPandOperationalMIS (OPMIS). Staff rationalization: Natural attrition and hiring freeze since 1992has brought up labor productivity to 500,000 TU/employee, but still far below western European levels. Staff rationalization i s one of key restructuring measures prescribed in the Business Plan. The staff retrenchment program, targeted to eliminate redundant positions, will bringdown the number o f staff ina significant proportion which will contribute to reduce railway deficits. Non-core activities: The status o f non-core activities will be revised: (i) ownership and management the o f the 3 affiliated ~ompanies'~,are to be partly transferred to the private sector; (ii) the sleepers factories and switch company are under evaluation to prepare an eventual privatization through management contract while the rail welding and ADF rolling stock companies will remain under TCDD's control; and (iii) surplusrealestateownedbyTCDDwillbesoldorleased,leadingtoanadditionalrevenue the estimated to US$60 millionper year. 2. Modification of Relations with Government The two railways laws under preparation will set the legal framework for contractual relations between TCCD and the Government. By 2006, TCDD, in cooperation with the EUtechnical assistance, will have prepared Public Service contracts and definedPublic Service Obligations. l3TULOMSAS, locomotives manufacturing and maintenance; TUVASAS, passenger rolling stock manufacturing and maintenance, TUDEMSAS, freight rolling stock manufacturing and repair. 25  3. IncreasingFreight Market Share TCDD i s aware o f the potential market for rail freight transport, but also o f its current poor commercial orientated customer relations. The Business Plan includes a detailed freight traffic forecast by commodities and sets the following short term strategies, inorder to attract freight customers: 0 Increase runningofblock trains inparallel o f decreasing shunting operations; 0 Reduceturn around cycle by 50% and improve dispatching and tracking o f wagons, supported by the centralization of marketingand traffic activities and the introduction o fthe OPMIS system; 0 Introduce elastic-sensitivity based pricing: thus the freight tariff i s foreseen to increase by an average 4% per year duringthe next five years; 0 Develop combinedtransport operations; and 0 Reducethe number o f freight stations. 4. Passenger Traffic Mainline services: The main objective i s to eliminate the substantial loss created by servicing passenger services. The Business Planplans the closure o f all uneconomic lines that will not be compensatedby the government under the Public Service Contracts. An additional major target i s to transform relations with passengers into customer relationship instead o f 'user-relationship' by (i) providing services based on customer demand analysis; (ii) introduction o f external marketing communication; and (iii) transfer o f ticket sales to agencies and websites. Flexible Pri~ing'~ will be introduced, basedonthe improvement o f quality and reduction of journey time. The implementation o f signaling systems on new sections will allow the closing o fnearly empty stations andrationalization of staff. Suburban lines: TCDD has initiated the transfer of the re~ponsibility'~o f suburban services to municipalities. By early 2006 Izmir will become the most significant revenue eaming activity, transporting on average 120millionpassengers annually. Ankara-Istanbul high Speed train: The US$1.5 billion investment for the construction of a 3 hour connection betweenAnkara- Istanbul i s financially viable, given the estimated annual revenue o f US$lOO millionby 2010 withan estimated traffic volume o f 9 million passengers. 5. Infrastructure and Rolling Stock Permanent way activities will be improvedby: (i) rationalizing o f equipment and service wagons with the scrapping o f 200 wagons and the adjusting the level of staff to the optimum level; and (ii) transferring the maintenance responsibility to the central headquarters. The signaling component of the project, including the lengthening o f crossing loops financed under the World Bank loan will increase line capacity and the runningof longer trains along major freight corridors. TCDD plans to electrify 3000kmo f line along the east west axis. The numerous and scattered rolling stock maintenance workshops will be consolidated in order to improve effectiveness of maintenance. The projected procurement o f new rolling stock, evaluated to about 300 US$ million will reduce significantly the present level of maintenance and repair o f obsolete wagons. l4Today the government decides ultimately o f tariffs levels. The new legal framework will allow autonomous tariff setting. l5Operations will be carried out by TCDD; pricing, scheduling will be set by the local authorities. 26  6. Safety and Security The business plan lists Security and Safety at the top o f TCDD's agenda for the next five years. Safety and accident preventionneeds to be thoroughly strengthened within TCDD from management to workers. Safety policies exist in principle, but are absent in practice. In order to assess the situation, an independent operations safety audit will be financed under the project leading to clear recommendations on how to improve the situation and to make Turkish railways at par with best European performers. These recommendations, once endorsed by TCDD management will be translated into a Safety improvement action plan, including realistic targets and performance monitoring indicators. 7. InvestmentProgram The table below summarizes the tentative investments program foreseen inthe short medium term which i s to be reviewed and adjusted according to financial analysis findings. Financial Financial Source: TCDDBusinessPlan 2005-2009 27  Draft Letter of Sector development Policy (Signed inDecember 30,2004) Duringthe project preparation initiated in2003, the project team and the Steering Committee have had a constructive policy dialogue and discussed in detail the content of the Letter of Sector Development Policy which was signed by the Minister of Transport and Communication on December 30, 2004 (attached below). 28  TURKEY -Railways Restructuring Project: Letter of Sector Development Policy (Signed December 30, 2004) REPUBLICOF TURKEY MINISTRY OF TRANSPORT International Bank for Reconstructionand Development Mr. James D. Wolfensohn Presidentof The World Bank Dear Mr. Wolfensohn, Within the World Bank Group country assistance strategy for the period FYO4-06, the Government of Turkey has committed itself to implement fundamental reforms to reduce economic vulnerability and achieve high and stable growth. The proposed Country Assistance Strategy (CAS) aims at reducing the risk of reemergence of crises and helping Turkey address the many economic challenges of getting ready for European Union (EU) membership. The proposed assistance program for FYO4-06 and the expected outcomes are structured around four development themes in line with the Government's priorities: (i) sound macroeconomics and governance; (ii) equitable human and social development; (iii) attractive business climate and knowledge; and (iv) strong environmental management and disaster prevention. In this regard, it is foreseen to support the restructuring of Turkish rail sector. Rail services in Turkey are operated by The Republic of Turkey General Directorate of State Railways Administration (TCDD), which is a traditional, vertically integrated and state owned organisation. TCDD operates a network of 10.984 track-kilometres. The network is predominantly single-tracked (95 TO),only 440 km is double-track, and is characterised by mountainousterrain, tight curvatures and steep gradients. 19 O/Oof the network is electrified at 25kv, 50Hz. Concrete sleepers used on around 63% of the network. 23% of the network is signalized. There are around 180 km of tunnels and more than 24,000 bridges and structures on the network. Since 1950's only 1770 km of new railway was constructed. Many new railway projects preparedcould not realized due to lack of funds. In common with many rail companies throughout Europe TCDD's performance has declined in recent years. Passenger numbers have declined by around 50% during the 10-year period, to a market share of around 2%. Over the same period freight traffic has declined by around 10% to a market share of around 4%. At the same time TCDD`s financial position is precarious. TCDD made a loss of 292 million US $ in 2003 and expected loss for the year 2004 is 513 million US $. Treasury has transferred 331 million US $ to TCDD in 2003. The cost coverage ratio in operations is realized as 23.6 YOin passenger transport and 30.2 YOin freight transport in 2003. The most urgent needs of railways - financially sound, efficient and friendly to the environment mode of transport - compel such comprehensive TCDD restructuring, which would enable railways to compete effectively within the EU in a near future. The overall strategy of the Turkish Government is threefold: (i)to significantly reduce the current fiscal burden of TCDD on public finance, (ii) to increase the competitiveness of the Turkish economy by reducing the 29  logistic costs associated with the inefficiencies of the railway and port sub-sectors; and (iii) to contribute to Turkey's accession to the European Union. Itis aimed to realize great changes at TCDD both in structure and technology in order to cope with the competition in the global market and increasethe share of rail in the transport sector. Restructuring of TCDD is one of the commitments of Turkish Government included in the Accession Partnership and National Program for the Adoption of the "AcquiS' of EU and also included in the Government's EmergentAction Plan. More specifically, with restructuring: Under the Railway Law; 'IA new legal framework for railwayactivity willbe put in place. Under thi3 new framework which will be consistent with EU directives on railways (a) port operations presently under TCDD will be seperatedfrom railway operations; (6) rail infrastructure will be seperatedfrom operations, at leastin the form of accountseperation; (c) a clear dist-inctionwill be made between commercial railway activitiesj to be operated under a deregulated environment, and services operated under Public Service Obligation (PSO) scheme, to be operated under contractualarrangementsbetween Government(national or local) and railway operators; (d) therailway operating companyto be createdfrom the restructuringof TCDD will be a limited-kability company and will be vested with full management autonomy; (e) the Government will be entitled to grant concessions for railway infrastructure construction and specifiedin the law; and (0 a new system of access charges for the use of infrastructure in management and to issue licenses to private railway transport operators under conditions accordancewithEUstandartswillbe developed." framework: 01 TCDD work force will be aausted through an acceptable gradual reduction of Under the TCDD Law;'IA new legal framework for TCDD will be put in place. Under this new staff and uneconomicservices willbe discont-inued,reducedor operatedunder a PSO scheme; (io TCDD'S core infrastructure and operathg assets will be modernized; (iioresponsibilitiesfor suburban passenger services will be transferred to local governments and services will be provided under contract by TCDD or private operators; and (iv) all non-core services will be divested.'! In this framework, some activities mentioned below have already been initiated regarding the restructuring of Turkish railways which is to be completed by the end of year 2006. KEYACTIONS I.Studieson-progressbyEUFunds First of all, considering the accession process to EU, the on-going restructuring studies have been evaluated for their alignment with the EU "acquid' in the field of rail transport with the support of European Commission between March-June 2003. As a result of this study, it is recommended to prepare and draft new laws (Framework law for rail sector & TCDD law) to comply with EU legislation regarding rail transport and an Action Plan for the period of 2003- 2008 has been prepared including short and long term measures for railway sector. Projects includedthe Action Plan to be financed by EU are as follows: 30  1. Organizationofthe RailwaySector This project involves establishing the necessary legislative basis for the rail sector in Turkey, in compliance with EU legislation. The contract has already been awarded which will be pursued under the responsibility of Ministry of Transport. The project involvesthe following activities: Preparation and drafting of new laws (Framework law for rail sector &TCDD law). Identification of bodies necessary according to EU regulations (Infrastructure Manager, Regulatory Body, License issuing Body, Safety Certificate issuing Body), their roles and responsibilitiesand location. Regulations and legally binding methodologies underlying the calculation of infrastructure charges, the publication of polices and the non-discriminatory application of methodologies. Regulations and legally binding methodologies underlyingthe allocation of infrastructure capacity, establishing a process for applying for infrastructure capacity, the publication of rules and proceduresfor applying for capacity and the non-discriminatory application of methodologies. Legally binding contracts defining the rights and obligations between infrastructure manager and applicants in respect of any allocation of capacity. Procedures, criteria and specific requirementsto obtain railway operating licenses. Procedures, criteria and specific requirementsto obtain railway safety certificates. Protection of consumer rights and settlement of dispute mechanisms and procedures for capacity charging and allocation, including measures for judicial review. The preparation and drafting of new laws which will start in 2005 is planned to be completed in 18 months, i.e., end of June 2006. The draft laws, compliant with EU 'Aquis communautaires" will be ready by September 2005 at the latest. 2. New TCDD Organizationand FinancialRelationswith Government This project which involves the technical assistance in establishment of business units and training of the business unit managers and technical assistance in defining Public Service Obligations, preparation of Public Service Contracts, analysis of General Financial Relations such as income, cost, subsidies, and cash flow will start in 2005. The restructuring process of the TCDD will be completed by end of 2006. 3. ManagementInformation System-MIS Tendering processfor the procurementof MIS which will allow keeping accounts of business units and sub units separately, measuring and monitoring their financial performance will start in 2005. 11.Other StudiesInitiated inTCDDWithin the Frameworkof Restructuring Important steps have been taken in TCDD regarding projects which are complementary adaptation of EU '~cquis"communautaires'! 31  eTCDD is currently implementing an Employment Restructuring study carried out by specialized consultant CANAC under a Japanese PHRD grant. The objective of the study is to assess the feasibility and determine the costs and benefits of labour force adjustments in the restructuring period of TCDD, including an overall framework for the implementation of the staff adjustment. e The change in TCDD Status, which gives private operators access to TCDD network has been completed and an opportunity is given to the private companies to operate their trains in TCDD lines. TCDD`s Hospitals have been rented to the General Directorate of Social Security Institution (SSK) for 10 years. 405 hospital staffs were also devolved to SSK. Real estate not required for operational activities have been identified. To use in financing new railway investments, some of them were sold and process for the remaining ones is going on. e The devolving works of Cankiri switch, Sivas and Afyon Sleeper factories to private management have been initiated so as to cut down their costs and increase their international competitiveness. e In the scope of closing ineffective and inactive units, 9 permanent way workshops were completely closed and 5 of them have been transformed into Mechanical Workshops by closing their building sections. TCDD Board has decided to initiate studies for setting up new factories in with domestic and foreign firms on the existing premisesof its three affiliated companies. TCDD has 99 depots and workshops for rolling stock repair-maintenance works throughout the network. Opening of these 99 depots and workshops to surrounding subsidiary industry,by renting or work contracts is also on TCDD's agenda. e Regarding the ports, a project namely "Strengthening of the institutional and management structure of Turkish State Railways' (TCDD) Izmir Port, and recommendations for amendments in the legal infrastructure for the alignment and implementation of EU and IMO regulations, for the improvement of the market position and maritime safety" project has recently been completed with the technical support of the Netherlands Government. According to the results of this pilot project, it is planned to implementthis structure on other ports as well. e In order to minimize the costs in freight transportation, the block train operations has already been started. This project has increased freight transporting distances, decreased shunting costs, improved commercial speed, and lessened turnaround time,. Hence with this application, it will be possible to transport more freight with less resource. e To improve the container transport, which has the highest potential share in combined transport, the construction of inland container terminals (IO)is continued. Up to now, an Inland ContainerTerminal (ICT) was built in Gaziantep. 32  111. Establishing a Management Information System (MIS) To perform most of the work manually brings about greater rate of important employment utilization. With this respect, our Administration firstly worked on MIS and other important Information Systems project. Beside the benefit to be gained from personnel savings, it is expected to make eminent improvements in the costs reduction due to speeded decision making process. More specifically, the MIS will include: (a) a real time Freight Operations and Commercial Managementmodule to monitors all freight movements, and to controls all switching activities in the stations; (ii)a RollingStockManagementmodule to assist the railway management in the planning of maintenance and repairs of all rolling stock; (iii) a Railway Inkastructure Management module to monitor the maintenance of all the railway infrastructure; and (iv) a TrainCirculationSystemmodulethat displays the status of all trains in circulation and allows to optimize the movement of trains on the railway network system. These MIS projects will be implementedin close cooperation with World Bank In this regard, in order to support the restructuring studies mentioned above, we would like to use the US$200 million credit, which allocated by World Bank's in the scope of CAS High Case scenario, for the installation of signaling systems within the scope of the rehabilitation of infrastructure and operating assets, establishment of information and automation systems for doing modern operation, supporting integration with EU, restructuring of TCDD's staff and preparing social mitigation plan, and re-training the staff. Proposed Projects: Establishing Signaling System and Installations The signaling is one of the indispensableelement for modernized railway operations. It provides crucial contributions to ensuring of traffic safety, saving in employment and increasing of line capacity. Within this frame; by support of World Bank in Ulukqla-Bogazkopru-Yenice-Mersin- Adana-Toprakkale and Irmak-Zonguldak line sections signaling system shall be realized, as these sections have traffic density and also often suffer from operations bottlenecks. Complementary works will be also carried out, including extension to 750 m. of the loops within crossing stations, mechanical ventilation of tunnels, and optic fibres along the lines for improved communication, CTC centralization, improved railway interface at both the container terminal and the free zone within the port of Mersin, and rehabilitation of the oil charging facility. By realizingthis Project: Saving in manpower: In both line sections approximately 300 personnel will be saved from station personnel and line maintenance workers. Therefore the personnel expenditures will significantly be decreased. 0 Saving in repair and maintenance costs of stations and their premises: After completing the project number of stations will be decreased by 70%, which are currently 86. By planned closing of 60 station premises and fixed installations, It is estimated approximately 1.5 Million $ will be saved from repairmen and maintenance expenditures in a year. Moreover, 33  transfer of mentioned fixed installations located in these stations will come up and nearly additional 1Million $ of source will be obtained. Increase in line capacity: In aforesaid line sections at the present mainly single line operation is made. By putting signaling system into operation minimum 30% increase in line capacity will be achieved. Traffic Safety: It is obvious that by taking signaling system into service the important rate of occurred incidents will be taken under control. In this context, It is aimed to save around 25 Million $ per year and significantly increase the freight traffic revenues (from 45 Million $ In 2004 to 172 million $ in 2010) by installing signaling system on the aforementioned line sections. Implementation of TCDD Staff Adjustmentand Social MitigationPlan It is envisaged by parallel to implementation of restructuring process the number employee working in our Administration, including office personnel and workers, will lessen to level of 20,000. By the funds obtained it is targeted to provide transferring of important number office personnelto operation personnel by completing their re-training. On the other hand, should any personnel could not be assigned in any case, it is plannedto retrenchthem again with the same funds, within the scope of mitigation plan under preparation. Advisory Servicesto the MOTand the TCDD This component will provide for technical assistance, consultancy services, and transaction advisory services to the Ministry of Transport and the TCDD as needed to complete the restructuring and to carry out - on a pilot basis - the decentralization and/or concession of some well targeted key activities such as urban passengertransport services in a major city and promotion of containerized cargo related services from one key port underTCDD management. TCDD Staff Training and Re-training This component would support the implementation of part of the TCDD 2005-2008 training program in the following fields: (a) railway procedures review and design; (b) operational performance monitoring; (c) improved communication and negotiation skills within the TCDD; (d) labour regulation on safety and health; and (e) other area TCDD PublicCommunicationand PeriodicSurveys This component would provide assistance for developing an efficient communication strategy within and outside the TCDD aiming to improve the poor image Turkish railways suffers from among the public. Periodic customers surveys would be conducted in order to track positive changes and to improvecommercial strategy. Finally, the support obtained from will facilitate requirements for an effective railway organizationto compete in transport market of Europe and Turkey. Yours faithfully, Binali Yildirim Minister of Transport 34  gu VI a2 g a2 * * * * 0 2 W c! d v, N W 0 0 m I d 0 . . 0 N 0 3  Annex 3: Results Framework and Monitoring TURKEY: RAILWAYS RESTRUCTURING ResultsFramework PDO Outcome Indicators Use of Outcome Information The overall objective o fthe project TCDD operating annual revenues Determine the capacity o f the TCDD is to improve the financial viability, would increase by at least 60% inusingmore effectively and productivity, and effectiveness o f during the period2004-2009 efficiently the railway assets and railway operations. equipment. TCDD operating losses are significantly reduced, and the Demonstrate TCDD's management worlung ratio without subsidy would commitment to: (i) significantly improve from the current 370 % to reducing financial support from 200% by 2009; National Budget; (ii) contribute to the Government efforts to reform the sub-sector; and (iii)promote the fi role o fthe private sector inrailways operations. Intermediate Results Results Indicators for Each Use of Results Monitoring One per Component Component predictive part of ComDonent One: The most Component One: Freight traffic ComponentOne: Demonstratethe the freight along the modernized network is performance o fboththe TCDD network i s modemized and freight increasing from 9.6 billionton.km in operation and marketing traffic i s increased significantly. 2004 to 11.6 billionton.km in2009. departments inusing the modernized assets. Component Two: TCDD staffis Component Two: TCCD railway ComponentTwo: Demonstrate the adjusted ina socially acceptable way staff is reducedina socially capacity o f TCDD management to without social unrest. acceptable way. implement the staffredundancy scheme through a continuous dialogue with unions. Component Three: TCDD Component Three: TCDD ComponentThree: Demonstrate Business Plani s implemented restructuring is implemented the capacity o fTCDD management successfully. successfully. to implement Government strategy. Component Four:Numberof staff ComponentFour:Demonstratethe professional capacity is improved. trained during the project capacity o f TCDD Humanresource implementation: 2,500 department inimplementing the training and retraining program for the period 2005-2008. Component Five: independent ComponentFive: Demonstratethe Communication and Surveys. surveys carried out: 3 capacity o f TCDD to become more client oriented. 36  0 4 -s0 00 0 g VI v) v) m 0 . m m 0 0 N a&e a 6e m m zm s v) v) z 0 0 N a&E a 6e m 0 s v) v) m 0 0 e N + 0 N a6e a 6e wl N z -g VI v) 0 r 4 m 0 N a&e a &e P 0 \o g v) v) 0 . - m r 4 N 0 m 8 a&e a 6e P m g 0 wl d 0 c N \o Q) N rr, m :- 0 N ;4:S L ci 0  Annex 4: DetailedProjectDescription TURKEY: RAILWAYS RESTRUCTURING The project total cost i s estimated to US$221.O million andit includesthe following components: (i) financially sound program of rehabilitatiodmodernization of infrastructure and operating assets to increase the capacity of the most active links within the Turkish railway core network; (ii) butsignificantTCDDstaffadjustmentandsocialmitigationplandesignedundera gradual socially acceptable program; (iii) technical assistance and other advisory services to the TCDD for the implementation o f its Business plan; (iv) staff training and re-training; and (v) TCDD public communication improvement. ComponentA: Railway infrastructure modernization:This component includes b Investments: (i) lengthening o f crossing loops to 750 m. on the single-track Yenice- Bogazkoprii line; (ii) introduction o f color-light signaling system with Central Traffic Control (CTC); (iii), mechanical ventilation of two long tunnels (PK299 and PK303); (iv) installation of an optic fiber communication trunk line; and (v) improvement o f railway connections with the container terminal and the free zone and rehabilitation o f petroleum products loading facilities in the Mersin area. Investmentwill allow: Operation of heavier, longer freight trains. Operation of such trains i s presently constrained by the length o f crossing loops in the stations. Crossing loops will be lengthened to accommodate 750m long trains. Another limitation on the operation of heavy trains presently comes from the fact that multiple diesel locomotives cannot efficiently operate in two tunnels on the Yenice-Ulukisla section ([PK299+36OZ0- 303+16870]and [PK303+58320-305+68450],and possibly additional tunnels as a result of the ongoing review study, because o f lack o f adequate ventilation in these tunnels. Mechanicalventilation will be installed; 0 Operation of more trains, thanks to the introduction of a Central Traffic Control (CTC) block system. This system will also improve fluidity of traffic and improve safety o f train movements. Installation o f signaling equipment will be supplemented by installation of a moderntelecommunication system; and 0 Improvement of railfreight loading/unloadingfacilities notably in the port o f Mersin for container traffic and creation o f rail access to major potential customers in the Mersin area (including the petroleumproducts storage area and the MersinFree Zone). ComponentB: Staff Adjustment and SocialPlan: The project will support the implementation o f a staff adjustment program that will be made coincidently with the restructuring of TCDD assets and operating practices: A detailed analysis by consultant CANAC financed under a Japanese PHRD grant, indicates a future optimized TCDD workforce. A phased labor reduction and social mitigation plan is envisaged that would include Phase 1, based on the Letter of Policy Development, which states that the TCDD workforce will be adjusted through an acceptable gradual reduction o f redundant staff and unjustified services. Phase 2, would be based on the Railway Law, which would include more specific incentives targeted on railway employees who are redundant. Pending legal advice, both Phase 1 (under APL1) and Phase 2 (under APL2) retrenchment would be based on targeting only railway employees that are redundant to ensure that the railway does not lose its critical skills.  Component C: Advisory Services to the TCDD: This component will provide for technical assistance to the TCDD as needed to complete the new institutional framework and implement restructuring o f TCDD assets and operational practices. The following items will be included in this component: (a) audit of TCDD operations safety and preparationof a safety action plan; (b) market studies for freight services (including containers and petroleum products); (c) a study of passenger services and preparation of contracts for operation o f some services under a Public Service Contract scheme; (d) technical assistance related to rail border crossing and trade facilitation on strategic corridors; (e) various services to support implementation of TCDD assets and operating practices restructuring; (f) consulting services for preparation o f APL2; (g) financial audits o f TCDD; and (h) internal controlrisk assessment study. C.a TCDD operations safety audit and preparation of actionplan [US$400,000]: Safety and accident prevention i s a top priority of successful railways which needs to be thoroughly strengthened within TCDD from management to workers. Safety policies exist inprinciple, but are absent inpractice. Inorder to assess the situation, an independent operations safety audit will be financed under the project leadingto clear recommendations on how to improve the situation and to make Turkish railways at par with best European performers. These recommendations, once endorsed by TCDD management will be translated into a Safety improvement action plan, includingrealistic targets andperformancemonitoring indicators. C.b. Market studies for freight services, incl. containers and petroleum products [US$400,000]: The studies will aim at analyzing current freight market andtheir prospective development inthe short and mediumterms. A particular attention will be given to potential new freight services for key products including containerized cargo to/from main ports and petroleum products. Recommendations will be made to the TCDD on how to increase its share o f the market from its main competitor the truck industry. Current technical and commercial basis o f road transporters will be also assessed to allow TCDD to respond better to the demand and to adjust its tariffs along with the improvement o f the quality o f its services. C.e. Rationalization and PSCschemefor passenger services [US$400,000]: The study will aimed at analyzing the passenger services, assessing the cost to run loss making services, reviewing and revising TCDD investment program for passenger services and preparing a draft multi-annual Public Service Contracts. C.d. Rail border crossing trade facilitation on strategic corridors [US%500,000]: The proposed technical assistance will focus on streamlining rail border crossing operational procedures, within the framework of a regional approach which i s targeting Rail Corridor IV and X. It will build upon lessons learned from the Trade and Transport Facilitation in Southeast Europe program (TTFSE) and the Railway Border Crossing studies in Balkan countries. Main operational problems the Kapikule (Turkey) - Svilengrad (Bulgaria) rail border crossing have already been identified, but the development and implementation of an appropriate action plan to tackle these problems i s lacking. Apart from TA for this border crossing, the assistance could also extend to include the identification o f operational border crossing problems at rail connections with Iraq, Syria, and Armenia (although the latter crossing i s actually closed). Both TCDD Passenger and Freight Departments support the proposed assistance. C.e. Supportfor the implementation of the TCDD restructuring [US$l.O million]: Many o f the actions included in the 2005-2010 Business Plan will imply specific studies to assist 39  TCDD management in its decision making process. For example, changes in the current organization of the TCDD will require well focused studies in a variety o f sector such as human resource, operations, information technology, marketing, finance, relation with the railway users, etc ...The agreed optimization ofrailways investmenumaintenance program for railways infrastructure and fieight operations will also require technical/economical/financial analysis to be carried out by specialized consultants. Punctual assistancewill also beprovided to the P l U during the implementation of the APLl regarding its obligations pertaining to procurement, financial management o f the project and environmental areas, for which individualnational consultants may be mobilized on demand for short term assignments. C.$ Consultingsewicesfor preparation APL2 [US$SOO,OOO]: All the preparationwork for the APL2 will be financed under the ApLl. Feasibility study, economic analysis and detailed engineering o f the line capacity increase along the Irmak-Zonguldak will be financed under the APL1, as well as other required independent assessment pertaining to staff adjustment, development of OPMIS and other investment found relevant at the time of the APL2. C.g. Financial audits of the TCDD[US$l50,000]: The APLl will finance all compulsory financial audits listed in the project loan agreement. Both project and entity financial statements, SoEs and Special Account will have to be audited by independent auditors acceptable to the Bank and on terms o f reference acceptable to the Bank. The annual audited statements and audit report have to be provided to the Bank within six months of the end of each fiscal year. C.h. Internal control risk assessment of the TCDD[US$50,000]: The assessmentis aiming to improve TCDDInternalControl system andperformances. Component D: TCDD Staff Training and Re-training: This component would support the implementation o f part o f the TCDD 2005-2008 training program in the following fields: (a) railway procedures review and design; (b) operational performance monitoring; (c) improved communication and negotiation skills withinthe TCDD; (d) labor regulation on safety andhealth; and (e) other areas. Component E: TCDD Public Communication and Periodic Surveys: This component would provide technical assistance for developing an efficient communication strategy within and outside the TCDD aiming to improve the poor image Turkish railways suffers from among the public. Periodic customer surveys would be conducted in order to track positive changes and to improve commercial strategy. Component F: ProjectImplementationcosts: PCU Incremental Operating Costs include PCU staff salaries (excluding government employees) and staffper diems and lodging as well as travel costs for field trips related to the implementation o f the project, supplies, utilities, sanitary cleaning, communication and security cost including internet, transport costs for training o f IPCU staff, seminars and workshops, office equipment, hardware and software, furniture and M&O including fuel, service and car insurance for vehicles andprocurementneasinghenting o f vehicles. 40  Annex 5: ProjectCosts TURKEY: RAILWAYS RESTRUCTURING The tables bellow providethe details o fthe project cost. -ProjectCost By Component Total Cost including and/orActivity (US$million) - Contingencies A - Modernizationofinfrastructure 110.2 134.6 B- TCDD staff adjustment & social 74.2 81.5 mitigation 3.1 3.4 D- TCDD stafftraining andre- C - Advisory services to the TCDD 0.5 0.6 training program I1 E-Public communication and 0.2 1 0.0 0.2 0.2 surveys F-Proiect Irndementationcosts 0.1 0.6 0.7 0.7 I I TURKEY Railway RestructuringProject Components Project Cost Summary (YTL Million) (US$ Million) Local Foreian Total Local Foreian Total 1. Line capacity increase 68.1 97.3 165.3 45.4 64.8 110.2 2. TechnicalAdvisoryServices 0.5 4.1 4.6 0.3 2.8 3.1 3. Staffadjustement 111.3 - 111.3 74.2 - 74.2 4. Training 0.2 0.6 0.8 0.1 0.4 0.5 5. Communication 0.3 0.1 0.3 0.2 0.0 0.2 6. Project implementationcosts 0.1 0.9 1.o 0.1 0.6 0.7 Total BASELINECOSTS 180.4 102.9 283.4 120.3 68.6 188.9 Physical Contingencies 12.4 10.0 22.4 8.3 6.7 14.9 Price Contingencies 21.5 4.3 25.7 14.3 2.8 17.2 Total PROJECTCOSTS 214.3 117.2 331.5 142.9 78.1 221.0 41  Railway RestructuringProject International Components by Financiers Bank for (US$ Million) Reconstruction The Government and Development Total Amount % Amount YO Amount YO 1. Line capacity increase 20.0 14.9 114.5 85.1 134.5 60.9 2. TechnicalAdvisory Services 0.0 3.4 100.0 3.4 1.6 3. Staff adjustement 16.3 20.0 65.2 80.0 81.5 36.9 4. Training 0.0 0.6 100.0 0.6 0.3 5. Communication 0.2 100.0 0.2 0.1 6. Project implementationcosts 0.0 0.7 100.0 0.7 0.3 Total PROJECT COSTS 36.3 16.4 184.7 83.6 221.0 100.0 1ErRestructuring Project ProjectComponentsbyYear -- BaseCosts ---------Total BaseCost(YTLMillion) BaseCost (US$ Million) 2005 2006 2007 2008 Total 2005 2006 2007 2008 1. Linecapacity increase 18.2 73.1 70.7 3.4 165.3 12.1 48.7 47.2 2.2 110.2 2. TechnicalAdvisory Services - 2.6 1.9 0.1 4.6 - 1.7 1.3 0.1 3.1 3. Staff adjustement 20.3 21.0 35.0 35.0 111.3 13.5 14.0 23.3 23.3 74.2 4. Training 0.1 0.2 0.2 0.2 0.8 0.0 0.2 0.2 0.2 0.5 5. Communication 0.1 0.1 0.1 0.1 0.3 0.1 0.1 0.1 0.1 0.2 6. Project implementationcosts --------- 0.3 0.3 0.3 0.3 1.0 0.2 0.2 0.2 TotalBASELINECOSTS 38.9 97.3 108.2 39.0 283.4 25.9 64.8 72.1 2602 O -I PhysicalContingencies 2.8 8.5 8.9 2.1 22.4 1.9 5.7 6.0 PriceContingencies --------- 1.0 8.2 13.1 3.4 25.7 0.7 5.4 8.8 2.3 TotalPROJECTCOSTS 42.7 113.9 130.3 44.6 331.5 28.5 75.9 86.9 42  Annex 6: ImplementationArrangements TURKEY: RAILWAYS RESTRUCTURING OverallProject Management. TCDD through PIUwill have the responsibility for overallproject management and coordination. The TCDD has developed significant capacity inpreparation and implementation of bidding documents, in cash flow calculations and payments, and with the advice of its experts (engineer and financial analyst) TCDD i s found capable o f implementingthe proposed project. The project components will be implemented by the General Directorate o f State Railways (TCDD). Project Implementation Unit. The PIU has been established in the Research Planning and project implementation, monitoring, financial management, as well as procurement. . Coordination Department. Respective Departments within the TCDD will be responsible for The PIUwill be the centralunitresponsible for day to day operations ofthe project andwill work with all related departments on matters related to project preparation and implementation. The PIU would be led by a Project Director who will report to the TCDD General Deputy Manager which in turn will report to the Minister of Transport. The procurement specialist of the PIU would be hired under service contract. During the project preparation, some funds fiom the PHRD Grant have been usedto train the PIU staff. The core staff o f the PIU, including the PIUDirector, procurement specialist, financial manager, accountant, disbursement officer, executive secretary, and translator will be assigned by the TCDD and outsourced as consultants*6. The core PIU staff comprising the PIU Director, procurement and FMS specialists will be employed on a permanent basis untilthe completion o f the ApL1, andbeyondifthe ApL2 materializes. WorldBank Supervision. The World Bank will devote about 30 staff weeks per year and a total of about 120 staff weeks through FY05 to FY09 to help the Government in implementing the project and supervise progress. Implementation support and supervision - with a minimumo f two missions per annum, -- as well as direct involvement o f the Ankara Country Office specialized staff, will in particular focus on performance o f the TCDD in managing contracts, procurement and financial matters, as well as incompleting the agreed implementation plans. Project monitoring during the course of project implementation and after the project has been completed would be carried out by the PIU staff, with the assistance provided by other TCDD specialists, in close cooperation with Treasury. This would entail updating TCDD business plan on a regular basis, auditing o f financial statements, and monitoringproject performance indicators for the duration o f the project. Project progress reports would be prepared by the PIU on a semi annual basis and submittedto the Bank's review. The progress reports will focus onresults rather than providing process related information. Procurement. The PIU shall coordinate the following procurement tasks to be carried out by the various specialized departments o f the TCDD duringproject implementation: l6Outsourcingisrelated to procurement andfinancial management specialists. 43  implementation ofthe respective project components; implementation monitoring, includingcompliance with the relevant Bankpolicies; developments of terms ofreference for the activities under theirjurisdiction; preparation of bidding documents and contracts for works, goods and consultancy services; evaluation of bids; signingo fthe contracts; monitoring and management of contracts, certification and/or commissioning o f delivered products; a making payments to the contractors from the respective Special Account; a monitoring the contracts which are subject to post review by the Bank and ensure compatibility to the Bank's guidelines and LoanAgreement. preparationfor audit arrangementsandreporting; and preparationof periodicalprogress reports; and monitoring of project implementation and evaluationof project impact. 44  Annex 7: FinancialManagementandDisbursementArrangements TURKEY: RAILWAYSRESTRUCTURING SUMMARY OFFINANCIAL MANAGEMENTARRANGEMENTS An assessment o f the financial management arrangements for the project i s undertaken in December 2004 and updated in March 2005. TCDD institutional financial management arrangements are inneed of improvement and temporary arrangements are undertaken to address the project financial management issues. These temporary arrangements will be relied upon until TCDD buildsup its financial management capacity. A summary ofthe conclusions for the project financial managementpurposes are as follows: Board(YDK)auditreporthasbeen CountryIssues A Country Financial Accountability Assessment for Turkey was carried out in2001. The draft CFAA report identified some weaknesses in the Turkish financial accountability, in both the public andthe private sector. Since 2001 the financial management environment has improved in Turkey. State Economic Enterprises in Turkey are subject to basic accounting and auditing obligations which apply to companies inTurkey. These are laid down inthe Commercial Code, which was last revised in 1956. More detailed requirements were introduced in the Tax Procedures Law of 1950 (which has since been consolidated into the T a Procedures Code). Under the powers granted to it by the Code, the Ministry o f Finance (MOF) introduced a Uniform Chart of Accounts which became effective on January 1, 1994. This prescribes certain fundamental accounting concepts, a code of accounts, and a format for the presentation o f financial statements which, with the exceptions listed below, i s applicable to all limitedliability companies. (There are simplified requirements for small businesses, which constitute the majority of taxpayers by number). The purpose of these requirements i s to provide information to the taxation authorities, there i s no obligation to publish the financial statements, nor are they subject to a mandatory financial statement audit. 45  Financial statements of SOEs are audited annually by the Higher Audit Board (YDK), which functions under the Prime Ministry.As per provisions o f the Public Financial Management and Control Law (PFMC), YDK will soon merge with the Turkish Court of Accounts (TCA), the Supreme Audit Institution(SAI) of the country. The YDK audit reports are submitted to the SOE commission o f the Parliament. RiskAnalysis A summary of the riskassessment for the project is as follows: Risk Comments [NHERENTRISK T C o u n t r y FinancialManagement Risk High Based on CFAA report 2. Project FinancialManagement Issues Moderate 3. Counterpart funds Moderate Overall Inherent Risk Moderate CONTROLRISK 1.ImplementingEntity Substantial TCDD's financial management environment is in need o f improvement. Main transactions in the loan will be integrated into the company systems, however for detailed project accounting and reporting purposes a data base and excel spreadsheets will be relied upon. 2. FundsFlow Moderate TCDD needs to ensure that sufficient funds for the project are included in the annual budget. 3. Staffing Negligible 4. Accounting Policies and Procedures Substantial See 1above 5. Internal Audit NIA 6. External Audit Substantial TCDD is currently audited by YDK which on an annual basis. YDK i s an independent body, but the focus o f the audits i s more on compliance than on financial statements. 7. Reporting and Monitoring Moderate FMRs will be generated by the integrated excel sheets. 8. Information Systems Substantial TCDD does not have an integrated information system, but plans to implement one by 2007. OverallControlRisk Substantial 46  Risk Mitigation Strategy Country financial management risk - the project will be implemented by TCDD a state owned enterprise. TCDD has implementedtwo World Bank funded projects inthe past and has set up a Project Coordination Unit for the Railways project. Control Risk- TCDD has decided to implement an Enterprise Resource Planning Project (ERP) which will network the regions and the headquarters and facilitate sharing of data and timely preparation o f consolidated financial reports and statements. To ensure that TCDD has a reliable financial management environment, installation o f ERP i s necessary.TCDD i s committed to have the ERP functional inDecember 2007 andthis will be a dated loancovenant. The auditing arrangements for the entity will also be geared towards improving the financial management systems o f TCDD as well as establishing a sound control environment. TCDD will engage consultants for carrying out a detailed review o f internal controls whichwill identify gaps and weaknesses in internal control framework. The Bank, through supervision missions, will monitor implementation of the actionplanto strengthen the intemal controls inTCDD. Temporary arrangements will be relied upon for detailed project accounting and reporting. The data base currently usedfor all foreign loans will be used for this purpose. ImplementingEntity The TCDD through PIU will have the overall responsibility for project coordination. TCDD has implemented several foreign donor financed projects and in the past few years and therefore has developed capacity inpreparationof biddingdocuments and cash flow forecasts. PIU will be responsible for the day-to-day management o f the project, including procurement, financial management, and liaison with the Bank team. PIU will be headed by a Project Manager with appropriate qualifications and experience and who will be deputed amongst current senior staff of TCDD. TCDD has nominated the financial staff that will be working in the PIU. Accordingly, the PIU financial functions will be under the supervision of the vice president responsible for Financial Affairs, and project accounting, reporting and disbursement duties will be performed by a loans specialist and a loan officer. The current information systems of TCDD are inadequate and integration o f the accounting and reporting systems i s required for sound financial management at TCDD. There i s no network connectionbetween regions and the headquarters and there i s not a central data base for financial data storage. Therefore financial reports are produced manually. To address these deficiencies TCDD i s considering implementation o f ERP; an integrated system which will include a management information system, related hardware, software and procedural standards. TCDD systems will be relied upon to generate the project financial statements when the ERP becomes functional. Until then temporary arrangements will be relied upon for project accounting and reporting. The risk associated with the implementing entity is assessed as substantial. The progress with building up the financial management capacity will be monitored closely by the Bank and necessarytechnical support inthe area will be provided. 47  Funds Flow There will be a special account for the project at the Central Bank o f Turkey to be operated by TCDD. All payments to the contractors, suppliers and consultants will be made from this special account with the endorsement of the Project Director and the vice president responsible for project financial management. A "Draft law on amending some laws and decreeby laws" preparedbythe MinistryofFinance is enacted in Parliament on March 22, 2005. Provisional Article No.2 o f this law enables Turkish Railways Company (TCDD) to be treated as general and annex budget institution with respect to its foreign credits, even though TCDD i s a state owned enterprise (SOE). This means that Treasury will be the borrower in case foreign credits extended to TCDD. Law no: 4749, Public Finance and Debt Management Law (no 4749) requires the borrower to be TCDD since it i s a SOE and SOEs shouldbe the borrowers themselves. The authority for determiningthe principles o f implementing this article i s given to the Minister in charge o f Treasury. Accordingly, the borrower of the loan that will be given by the Bank for the Railways Restructuring Project will be the Treasury. Treasury will then allocate these funds to TCDD. These will be shown as transfers from Treasury in the financial statements o f TCDD as equity infusions and TCDD will not be responsible for debt service. Government institutions, including state economic enterprises, such as TCDD submit their planned investments for the coming year to the State Planning Organization (SPO) and Ministry of Finance (MoF) in June. Through discussions between the institution, SPO, and MoF, budget allocations for all institutions are finalized inDecember. Thus, it will be TCDD's responsibility to ensure that sufficientprovision is made inthe annual budget for the project. Counterpart funds for the project will be paid directly by the accounting department o f TCDD and will be integrated into project accounting. The risk associatedwith funds flow i s considered as moderate. The responsibility to ensure that sufficient counterpart funds are includedinthe annual budget belongsto TCDD. Staffig The designated personnel in TCDD for having overall responsibility for the project financial management are the Deputy Head o f the Department for Financial Affairs. He will be responsible for ensuring coordination with TCDD's regular Finance Department and there are two designatedpersonnel from the loans department responsible for project accounting, reporting and disbursement. TCDD has provided the names o f designated personnel who will be responsible for project financial management. These staffs are civil servants and are currently working in the loans department of TCDD which deals with accounting andreporting o f foreign loans. The riskassociatedwith staffing i s considered as negligible. Accounting Policies and Procedures The main transactions that i s the movements o f the special account and project expenditures will be inthe Company`s main accounting system. TCDD follows accrual basis o f accounting. TCDD has adopted decentralized accounting, which i s carried in 18 different locations besides the central accounting division at the headquarters. They have an Oracle 7.0 database on Unix 48  platform that i s capable o f generating trial balances. The system is not integrated and therefore each location sends monthly trial balance to the HO for consolidation and preparation of financial statements. The financial statementsare prepared manually usingExcel spreadsheets. TCDD uses a standard chart o f accounts which i s usedby all the state economic enterprises inTurkey. The current accounting system of the institution i s quite old and i s not integrated. Movements in the special account as well as the project expenses (paid from special account and counterpart funds) will be first recordedinto TCDD's own financial accounting system and simultaneously a memorandumrecord will be maintainedin a database to keep track o f project expenses. Regular reconciliation will be made between the main accounting records and the database to ensure accuracy o fproject financial reports. The reporting for the project will be integrated into TCDD's general system when the ERP is installed. ERP will include arrangements for producing detailed reports for project purposes. Until then project accounting will be maintained in the Loans Department o f TCDD and project reports will be generated from the database that will be used for thispurpose. Inorder to provide guidelines for efficient project implementation and for ensuring uniformity, TCDD has prepared a project Financial Management Manual. The Manual describes the financial management system for the project. The risk associated with accounting policies and procedures i s considered as substantial. For project purposes the data base currently used for all foreign projects will be relied upon. The implementation o f EPP i s a dated loan covenant. InternalAudit TCDD has an investigation department which investigates irregularities noted in the institution, but it does not have an IntemalAudit department .The enacted Public FinancialManagement and Control Law require intemal control departments to be established at Govemment institutions. TCDD does not fall within the scope of this requirement under PFMC however it i s still important that TCDD considers the establishment o f a modem Internal Audit Department inline with the developments inthe Country. Reporting andMonitoring. TCDD will maintain records and will ensure appropriate accounting for the funds provided. Financial statements for the project will be prepared by TCDD from the data base that will be usedfor project accounting. The Financial MonitoringReports (FMR) will be prepared quarterly and will be submitted to the Bank no later than 45 days after the end o f the previous quarter. The Bank and TCDD agreed on the formats and the contents o f the FMRs and they include the ..... followingreports; Statement of Sources andUses o fFundsby categories Statement of Sources and Uses of Fundsby Project Components Special Account Statement A detailedschedule for tracking disbursements against specific contracts. Procurement reports. The risk associated with reporting and monitoring is assessed as moderate. The FMRs will be generatedbythe use o f the database currently used for foreign loans. 49  Information Systems TCDD has been usinga database for the accounting and reporting o f foreign funded loans. The same database will be used for Railways Project. The current accounting system o f TCDD i s old and therefore it i s not possible to integrate detailedproject accounting and reporting into the main system. The risk associated with information systems is assessed as substantial. A database supported with excel worksheets will berelied uponuntilERPbecomes functional. Strengths and Weaknesses One significant strength o f the project is that it will be implementedby TCDD and a PIUi s dedicated to the project implementation withinthe institution. The Weaknesses inthe project are as follows: There are no IFRS financial statements audited in accordance with ISA available for TCDD. TCDD however is subject to YDK audit, which i s more o f compliance audit then financial audit. The YDK report for the year ended December 31, 2003 i s reviewed and there were no major issues relating to internal controls except for the lack o f an integrated system. Inorder to improve the financial management controls at TCDD, the company will engage consultants for carrying out a detailed review of internal controls which will identify gaps and weaknesses in internal control framework. The Bank, through supervision missions, will monitor implementation of the action plan to strengthen the internal controls in TCDD. YDK will be relied upon to be the external auditor of the company in the first two years. After the action plan i s implemented, TCDD will hire the services of an international auditor to carry out the audits of its lFRS financial statementsinaccordance with ISA. The current accounting system of TCDD is not an integrated system and financial statements are generatedmanually inexcel. TCDD i s currently updating its systembut the CRPP i s not expected to become functional before December 2007. TCDD has an investigation department inplace. However the Company does not have an Internal Control Department. The enacted Public Financial Management and Control Law require internal control departments to be established at Government institutions. TCDD does not fall within the scope o f these articles of PFMC. However it i s still important that TCDD considers the establishment o f a modem Intemal Control Department in line with the developments in the Country. It is concludedthat the financial management environment of TCDD includes many deficiencies and TCDD should take immediate action to address these deficiencies. Temporary arrangements will be relied upon for project accounting and reporting purposes but ultimately when TCDD has sound financial management environment reliance will be placed on the Company systems for project accounting and reporting procedures. Following action plan i s proposed to address the deficiencies inthe TCDD financial management environment: 50  Supervision Plan The frequency o f supervisionwould be dependent on the Project's riskrating. However, during the initial stage o f the project, consideringthe reliance on TCDD's system for project accounting and reporting, intense supervision efforts would be ensured. During supervision missions, project's financial management and disbursement arrangements (including a review o f a sample of SOEs and movements on the Special Account) would be reviewed to ensure compliance with the Bank`s minimumfiduciary requirements. The Country FMS would review the FMRs for the project on a regular basis and the results andor issues would be followed up during the supervision missions. The Audited Project Financial Statementswould be reviewed and identified issues would be followed up with the PIU. ExternalAudit TCDD financial statements are audited annually by the High Audit Board (YDK), which functions under the Prime Ministry. As per provisions o f the PFMC Law, YDK will soon merge with the Turkish Court of Accounts (TCA), the Supreme Audit Institution (SAI) o f the country. The YDK audit reports are submittedto the SOE commission o f the Parliament. YDK audit report for the year ended December 31, 2003 includes the following comments relatingto financial management: The auditors recommended establishment of an integrated accounting system that will enable the head ofice to monitor cash and inventories in the branches and to have a more reliable and detailed cost accounting module. The auditors recommended restructuring the accounting procedures of TCDD in EU "acquis communautaires ". accordance with uniform chart of accounts as published by the Ministry of Finance and TCDD inorder to address these recommendations, decided to implementan EnterpriseResource PlanningProgram. The borrower for the loan will be the Treasury, however its implementation will be done by TCDD, and since TCDD i s a revenue eaming entity under the Bank policies it i s required to submit audited financial statements to the Bank over the life of the project. However also as analyzed by YDK auditors, the financial management systems and procedures in TCDD need to be upgraded. TCDD does not have the capacity to prepare financial statements in accordance with International Financial Reporting Standards and therefore a regular audit that is typically 51  conducted on the IFRS financial statements of entities in accordance with ISA, is in all probability goingto result ina disclaimer opinion. In order to support the establishment of a sound financial management environment inTCDD, during the first year of the project -- instead of requiring IFRS audit of TCDD financial statements, -- TCDD will be asked to engage an acceptable firm to carry out a detailed assessment o f internal controls in the company covering various business system and regional offices. The outcome of this assignment would be an action plan for strengthening the internal controls inTCDD. Inthe secondyear TCDD will work on the implementation of the action plan. During these first two years, the Bank will accept the YDK audit report, for the purposes of complying with the external audit requirements for revenue earning entities. Starting from the third year o fthe project annual financial statementsof TCDD will be auditedby independent auditors following International Standards on Auditing (ISA) and under TOR acceptable to the Bank. Since the ERF' implementation i s expected to be completed by that time, TCDD will be in a position to prepare consolidated financial statements that can then be audited by an independentauditor. The project financial statements will be audited by the Treasury Controllers inaccordance with International Standardson Auditing(ISA) and under TOR that i s agreedwith the Bank. The risk associated with external audit i s assessed as substantial. There are no audited financial statements available for TCDD prepared inaccordance with IFRS and ISA. However TCDD will implement an action plan to improve its financial management environment and aim for a qualified or unqualified audit opinion. Disbursements The Borrower through TCDD has agreed for this project to finance expenditure using the traditional methods o f disbursement. While there is also a requirement for the preparation and submission o f quarterly FMRs, these will not be used as basis for disbursements but for monitoring and evaluationpurposes. Proceedso f the loan will be allocatedas follows: rURKEY ?ailway RestructuringProject International International ExpenditureAccounts by Financiers Bank for Bank for :US$ Million) Reconstruction Reconstruction -------- The Government and Development Total and Development Amount % Amount % Amount % Euros US$ I.InvestmentCosts A. Civil Works (incl.Supply & Installation) 20.0 15.0 113.1 85.0 133.1 59.6 88.0 113.1 B. Goods and equipment 0.0 15.0 0.1 85.0 0.2 0.1 0.1 0.1 C. Staff Adjustment 16.3 20.0 65.6 80.0 81.9 36.9 51.0 65.E D. Consultingservicesand training 5.1 100.0 5.1 2.8 4.0 5.1 E. Project Implementationcosts -------- -- 0.8 100.0 0.8 0.3 0.6 0.f 36.3 16.4 184.7 83.6 221.0 100.0 143.7 184.i rota1PROJECTCOSTS 52  Special Account To facilitate timely disbursement against eligible expenditure for the project, a Special Account will be opened inthe Central Bank to be managed and operated by the PIU. The internal control procedure for the operation o f the Special Account i s outlined in the financial manual. The account will be denominated in Euros with an authorized allocation o f 14 million except that this will be limited to 7 million at the start-up o f the project until such time as total disbursements including special commitments under the loan reach 25 million. The account will be reconciled on a monthly basis and all supporting documentation will be retained by the project and made available for audit purposes and Bank supervision missions. The procurement plan features several highvalue contracts; direct payments will be usedas i s necessary. Use of Statement of Expenditure (SOE) Requests for disbursements can be made using the SOE procedures for payments against contracts not subject to the Bank's prior review as follows: (a) all contractsfor works valued at $5,000,000 equivalent, (b) contracts for goods, (c) contracts for the services o f consulting firms valued at $200,000 equivalent and for individual consultants valued at $50,000, (d) training (e) incremental operating costs; and (0 severance payments. For expenditure not reported on the SOE basis, the project will submit summary of expenditure reports supported by necessary documentation (contracts, invoices, receipts, etc). With regards to expenditure for severance payments, the eligibility criteria for these are provided in the operational manual and all documentationwill be retained at the PIUand made available for post review. 53  Annex 8: Procurement TURKEY: RAILWAYSRESTRUCTURING A. General Procurement for the proposed project would be carried out in accordance with the World Bank's "Guidelines: Procurement under IBRD Loans and IDA Credits" dated May 2004; and "Guidelines: Selection and Employment of Consultants by World Bank Borrowers" dated May 2004, and the provisions stipulated in the Legal Agreement. The various items under different expenditure categories are described in general below. For each contract to be financed by the Loan, the different procurement methods or consultant selection methods, the need for pre- qualification, estimated costs, prior review requirements, and time frame are agreed between the Borrower through TCDD and the Bank in the Procurement Plan. The Procurement Plan will be updated at least annually or as required to reflect the actual project implementation needs and improvements ininstitutional capacity. B. Procurementof Works includingSupply andInstallationContracts This project has two Supply and Installation(S&I) contracts. One large (US$132.4 million) ICB, Supply and Installation (%I) for signalization of the selected routes and station loops contract extensions subject to prequalification and the other ICB/S&I contract for Tunnel mechanical ventilation. The procurement for Supply and Installation contracts will be done usingthe Bank's Standard Bidding Documents (SBD). The preceding large S&I contract will be conducted with prequalification o f bidders by using the Bank's Standard Prequalification and Bidding Documents. The project has two NCB Works contracts. The procurement o f works will be done by using the Bank's Standard BiddingDocuments (SBD) for all ICB Works, and by usingthe Bank's sample NCB documents for ECARegion for Works. The works contracts to cost less than USD 5 million may be awarded through NCB. Any ambiguity regarding predominance of the Bank's procurement rules in the case o f contracts conducted in NCB procedures will be overcome by usingthe Bank's sample NCB documents for ECA Region for Works. The conditions for using NCB are listed below from paragraph A to K below shall be discussed at the negotiations and made part o f the Loan Agreement. Based on the performance o f the project implementation unit (PIU) on the NCB contracts, the Bank will consider increasing the NCB Works threshold per contract to USD 6 million or above after one year o f implementation pursuant to effectiveness of the LoanAgreement. A. Eligibility Biddingshallnotberestrictedto domestic bidders.Norestriction shallbe appliedto foreign bidders who wish to submit a bid. B. Procedures Invitations to bid shall be advertised in the Official Gazette and in at least one widely circulated national daily newspaper or in an electronic portal o f free access allowing a minimumof 30 days for the preparationand submission ofbids. 54  C. Assessment of the Bidder'sQualifications In the procurement of goods and works, where pre-qualification is not used, the qualifications of the bidderwho i s recommended for award o f contract shall be assessed by post-qualification, applying minimum experience, technical and financial requirements which shallbe explicitly stated inthe biddingdocuments andwhich shall be determinedby a `pass/fail' method, not through use of a meritpoint system. D. Participationbv Government-ownedEnterprises Government-owned enterprises in the Republic of Turkey shall be eligible to participate in bidding only if they can establish that they are legally and financially autonomous, operate under commercial law and are not a dependent agency o f the Government. Furthermore, they will be subject to the same bid and performance security requirements as other bidders. E. participationbvJointVentures Participation shall be allowed fromjoint ventures on the condition that suchjoint venture partners will bejointly and severally liable under the Contract. F. BiddingDocuments Procuring entities shall use the Bank's sample NCB documents for ECA Region for Works and Goods and shall draft contract and conditions of contract acceptable to the Bank. G. BidEvaluation a) Evaluation o f bids shall be made in strict adherence to the monetarily quantifiable criteria declared inthe biddingdocuments and a meritpoint system shall not be used. b) Extension of bid validity shall be allowed once only for not more than 30 days. No further extensions shouldberequestedwithout the prior approval o f the Bank c) Contracts shallbe awarded to qualified bidders having submittedthe lowest evaluated substantially responsive bid. d) No domestic preference shall apply under National Competitive Bidding. H. PriceAdiustment Civil works contracts of long duration (e.g. more than eighteen (18) months) shall contain an appropriate price adjustment clause. I.ReiectionofAllBids All bidsshallnotberejected andnewbidssolicitedwithout the Bank's prior written concurrence. 55  J. Contracts All contracts shall be in writing, signed and stamped by authorized signatories of the Purchaser and the Supplier and contain identical terms and conditions of contract to those included inthe tender documents. K. Securities BidSecurities shouldnot exceed 3 % (three percent) of the estimated cost ofthe contract; Performance Securities not more than 10 % (ten percent). No advance payments shall be made to Contractors without a suitable Advance Payment security. The wording o f all such securities shall be included into the bidding documents and shall be acceptable to the Bank C. Procurementof Goods Goods procuredunder this project would include equipment for railways and tunnel rehabilitation on the selected routes and also minor goods such as office hardware, software, and office equipment/furniture for the project coordination unit. D. Selectionof Consultants TCDD will select and hire consultants for the preparation of bidding documents including the detailed design drawings, technical specifications and bills of quantities and for the construction supervision assistance for the two major Supply and Installation contracts for signalization o f the selected routes and other works contracts. TCDD will also select and hire consultants to provide institution buildingsupport and technical assistance to TCDD on various aspects related to improving efficiency and restructuring o f the institution. Consultant services also comprise the TA to support implementation o f the project, training and seminars, financial management assistanceandproject financial audits. E. Assessment oftheAgency's Capacityto ImplementProcurement Procurement activities will be carried out by the PIUto be established inthe General Directorate o f Railways (TCDD). An assessment o f the capacity o f the TCDD to implement procurement actions for the project has been carried out by Ibrahim Sirer (ECSPS) in June, 2004. The assessment reviewedthe organizational structure for implementingthe project. The key issues and risks conceming procurement for implementation of the project have been identified and include lack of experience with the Bank-financed projects. It was agreed that the procurement specialists and selected technical staff to be assigned by the TCDD for this project are sent to English language training to improve their language slulls through the proceeds of the PHRDGrant (TF053200) and then sent for training organized preferably by E O at Turin/Italy, accordingto their needs for further development o f procurement knowledge and qualifications. A local procurement consultant will be hired to support the TCDD procurement staff to be assigned 56  for this project. The initial overall project risk for procurement i s high. The risk rating will bere- evaluated after one year of Loan effectiveness and adjustment made accordingly. During the project launch workshop the Bank will organize a training program to the TCDD personnel who may be involved inthe procurement activities to introduce the Bank's Guidelines and standardbiddingdocuments to be usedinthe implementationo f the project. F. ProcurementPlan The Borrower through TCDD, at appraisal, developed a procurement plan for project implementation which provides the basis for the procurement methods. This plan has been agreedbetweenthe Borrower andthe Project Team on May 6,2005 and is summarized in Section H.Among the other procurement items, itconsistsofICBcontracts amountingUS$132,6million, and QCBS consulting services contracts estimated to cost US$ 3,8 million. The Procurement Plan will be updatedin agreement with the Project Team bi-annually or as required to reflect the actual project implementationneeds and improvements ininstitutional capacity. G. Frequency of Procurement Supervision Contracts not subject to Bank's prior review will be post reviewed by Bank's supervision missions and/or duringregular post-reviews by PAS on sampling basis, i.e,. one out o f every five contracts. The frequency o fprocurementsupervision shouldbe every six months. H. Detailsof theProcurement ArrangementsInvolvingInternationalCompetition 1. Goods, Works, andNonConsultingServices (a) List o f contract packages to beprocured following ICB and direct contracting: 1 2 3 4 5 6 7 Ref Contract Estimated Procure P-Q Domestic Review No. (Description) cost ment Preference by Bank Method (yesho) (Prior I Post) 1 Mersin-Toprakkale& Yenice- 132,400,000 ICB Pre- No Prior Bogazktjpriisignalingand Q stationloop extension 2 Tunnelmechanicalventilation 200,000 ICB Post- No Prior (b) All ICB contracts for Works, Supply and Installation and Goods and first NCB works, and Goods contracts, first Shopping Contract and all direct contracting will be subject to prior review by the Bank. 57  2. ConsultingServices (a) List o f consulting assignmentswith short-list of international firms. 1 1 2 3 4 5 Ref Description of Assignment Estimated Selection Review No. cost Method byBank (Prior I Post) 1 Construction Supervision of 1,000,000 QCBS Prior Mersin-Toprakkale & Yenice Bogazkopru signaling and station 2 I TCDD operations safety audit and I 400,000 QCBS Prior preparation of actidnplan 3 Rationalizationand PSO for 400,000 QCBS Prior 4 1 Railborder crossing trade 500,000 QCBS Prior facilitation on strategic-corridors 5 Consulting services for 500,000 QCBS Prior preparationAPL~ 6 Support for the implementation of 1,000,000 QCBS Prior TCDD restructuring (b) Consultancy services by firms estimated to cost US$200,000 or more per contract, individual consultant contracts estimated to cost US$ 50,000 or more and single source selection o f consultants will be subject to priorreview by the Bank. (c) Short lists composed entirely o f national consultants: Short lists o f consultants for services estimated to cost less than US$200,000 equivalent per contract may be composed entirely o f national consultants in accordance with the provisions o f paragraph 2.7 of the Consultant Guidelines. The following table provides the details ofthe agreedproject procurement plan. 58  PROCUREMENT PLAN FOR RAILWAYS RESTRUCTURING PROJECTas of May 6,2005 I I C I . 0 I I " IWORKSlSUPPLY 6 INSTALLATION I 1 Raillinkage container terminal in Mersin Port w 1 0 2 NCB Post review 'I 2 Raillinkage for oil products in Mersin Port w 1 0.3 NCB Post review 'I 3 Tunnel mechanicalventilation SI 1 0.2 ICB Prior Review 8 Rail border crossing trade facilitation on strategic corridors CS Multiple 0.5 PCBS Prior Review 9 Consulting services for preparation APLZ CS Multiple 0.5 QCBS Prior Review 10s upport for the implementation ofTCDD restructuring CS Multiple 1 PCBS Prior Review 11F inancial AuditsoftheTCDD CS 1 0.15 LCS Post review " I I 121 nternal Conbol risk assesment of TCDD I I I 13 ~ 1ublic communication and SUNeYs I CQ I 1 Post review 1)I Consultant Sub.Total 4.9 TRAINING 1 Railway procedures review and design 0 2 Other 2 Elaboration of Training Program 0 2 Other 3 identificabonof labor needs 0 2 Other Tranining Sub.Total 0 6 PROJECT IMPLEMENTATIONCOST PCU Incrementa Operatlng Costs including PCU staff salaries (excluding government employees) and staff per diems and lodging as well as travel costs for field trips related to the impiementabonofthe prolect supplies a)All IC8 contractsfor works and goods and first NCB works and goods contracts first Shopping Contracts and all direct contracting will be subject to prior review by the Bank b) The works contractsto cost less than USD 5 m liion each may be awarded through NCB The scheduled NCB-Works contracts in the procurement plan has an estimated aggregate of USD900 000 Banks sample NCB documents for ECA Region for Works will be used The conditlons for using NCB are listed in Schedule 4 to the Loan Agreement e)Consultancy sewices by firms estimated to cost US$ZOO000 or more per contract individual consultant contracts estimated to cost USS50 000 or more and s ngle source seiecbon of consultants will be subject to prior review by the Bank d) Short lists composed entirelv of national consuitants Short lists of consultants for services estimated to cost less than USS200 000 equivalent per contract may be composed entirely of national consultants in accordance w i n the provisions of paragraph 2 7 ofthe Consultant Guidelines  Annex 9: Economicand FinancialAnalysis TURKEY: RAILWAYSRESTRUCTURING This annex presents the economic and financial analysis ofthe project. It comprises three main sections: the economic analysis, including the sensitivity analysis, of the proposed project components, and the financial analysis o f TCDD and the impact of the project on financial sustainability; and the formal risk analysis o fthe proposedproject. 1.TheEconomicAnalysis The economic analysis of the project hasbeenundertaken on those components whichhave been defined for inclusion in the first tranche o f the APL (as defined in Annex 4 of this document) and include the following: 1. Component A: The Mersin-Toprakkale, Bogazkoprii-Ulukisla, and Ulukisla- Yenice line sections: This component includes the signaling o f the Mersin-Toprakkale (146km) and Bogazkoprii - Ulukisla (176km) and Ulukisla - Yenice (109km) line sections. It also includes complementary works for the extension to 750 meters o f the passing loops within stations, mechanical ventilation o f two long tunnels (PK299 and PK303), installation of optic fiber along the lines for improved communication, CTC centralization, improved railway interface at boththe container terminal and the free zone within the port o f Mersin, and rehabilitation o f the oil charging facility. 2. Component B: Staff adjustment and social plan: The second main component relates to the implementation o f a labor restructuringplan within TCDD. A phased labor reduction and social mitigation plan has been developed and i s described in Annex 4. The economic analysis o f this component has been undertaken and is reportedseparately ina subsequent section. Actual andPotentialTraffic Table 1 presents data illustrating the trend in freight traffic ingross ton-km on the three line sections in component A over the period 1993-2003: Table 1:Total Freight Transportation by Line Sections Thousands Years Bogazkopru-UlukiSIa Ulukisla-Yenice Mersin-Toprakkale Total Grosstonne-km Annual % 1993 649,125 607,526 554,665 1,811,316 Change 1994 705,282 667,429 613,206 1,985,917 9.64% 1995 779,230 696,020 653,048 2,128,298 7.17% 1996 820,971 722,159 656,787 2,199,917 3.37% 1997 881,774 736,515 703,381 2,321,670 5.53% 1998 909,127 740,120 675,845 2,325,092 0.15% 1999 978,901 978,901 730,839 2,688,641 15.64% 2000 1,032,767 1,032,767 755,987 2,8213 21 4.94% 2001 1,086,633 1,086,633 781,134 2,954,400 4.71% 2002 943,950 1,140,500 806,281 2,890,731 -2.16% 2003 1,194,366 1,194,300 831,429 3,220,095 11.39% 60  Source: TCDD (2005) Bogazkoprii - Ulukyla-Yenice, Mersin - Adana - Toprakkale Signalling, Telecommunication and Station Extension Project - Feasibility Study The table illustrates that freight traffic volume has been volatile over this period, with the annual growth infreight volume, interms of grosstonne-km varying from an increase of 15.6% in 1999, to a decline of just over 2% in 2002. Figure 1, reproduced from TCDD's Annual Business Plan for 2005-2010, illustrates this volatility intotal freight carried inbillionton-km over the period 1996-2003. Figure 1:Total Freight Carriedby TCDD (Billion Ton-km) 1996-2004 TCDD Freight Traffic I 1996 1997 1998 1999 2000 2001 2002 2003 2004 I Source: TCDDAnnual Business Plan 2005-2010. This volatility reflects the macroeconomic instability over the same period, characterized by chronically highinflationand sharp swings inthe business cycle". This i s evidenced by the significant changes in GDP growth (at market prices) over the period 1996-2002, which varied from 7.5% growth in 1997, to a decline o f 4.7% in 1999, to an increase o f 7.4% in2000, followed by a further decline of 7.5% in2001'*. The average annual growth inGDP (at market prices) over the period 1996-2002 i s estimated at 2.9% per annum The average growth in total freight volume carried by TCDD over the period 1996-2002 was 3.4% per annum, which implies an income elasticity o f approximately 1.2. This suggests that for every 1% increase in GDP there will be a 1.2% increase infreight volume on rail. However, the average growth on the three line sections of interest over the period 1993-2003 was 6.4% per annum, which i s almost twice the expected growth, predicating the estimated relationship between GDP growth and rail freight volume. Even over the shorter period, 1996-2002, the average annual growth in freight traffic on the three line sections of interest i s still 4.8% per annum. This higher growth can be explained, at least partially, by the growth in the Cukurova region, which represents the immediate hinterland to these three line sections. This region has experienced above average economic and population growth, with Adana and Mersinnow having an aggregate population of nearly 4 million inhabitants. The region i s also important for agncultural production (fruit, vegetable, l7See World Bank (2003) Turkey Country Economic Memorandum, Volume 1, for more detail. l8World Bank (2003) Turkey CEM, Volume 3 Statistical Appendix, Table 1. 61  citrus fruits, cotton production), industrial production (steel, oil products, natural gas, cement, soda, and paper), and the textile and tourism sector^'^. The opening of the Baku-Ceyhan oil pipeline, the Mersin Free Area, and the further development of Mersin Harbor, are all likely to contribute to above trend growthinthe regional economy2'. Table 2 indicates the forecast growth of rail freight on the three line sections over the period o f the project. The assumed increases reflect that the forecast growth o f GDP at a national level i s 5% per annum, on average, over the period 2005-200621,before declining slightly in subsequent years. Thus, given the estimated income elasticity above, a conservative estimate i s that rail freight volume will grow by a similar amount, up to 2014, when it is assumed to decline to 4% per annum until the end of the appraisal period. The expectation o f above trend growth in the regional economy would support both these forecasts, and the assertion o f conservatism. Line Section 2004-2014 2014-2034 Bogazkoprii-Ulukqla 5yo 4% Ulukigla-Yenice 5% 4% Mersin-Toprakkale 5yo 4% However, these rates are unlikely to be realized by relying on current markets alone, something TCDD recognizes explicitly in its recent Annual Business Plan22,which acknowledges that the growth rates of certain segments o f the market i s likely to slow, namely ores, clinker, cement and steel products. But the expectation is growth will increase in other market segments, such as container traffic, international traffic to and from the Middle Eastern States, and the movement o f oil products following the opening of the Baku-Ceyhan Pipeline. TCDD estimates that the range o f growth rates o f the different market segments will be 2%-7% per annum. In addition, the further introduction of successful service enhancements such as block trains i s also expected to have a positive impact on total freight volume. Figure 2, reproduced from the TCDD Annual Business Plan, indicates the estimated growth in freight volume, innet tons, andrevenues from freight traffic to 2010. Figure 2: Freight Volume (Net Tons) and RevenueProjections I I 18,O T T 300,O I P 250,O 14,O 12,o 1 10,o i150,O 2oo'o 100,oj. 4,O - 50,O 2.0 +I T1 - 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 I Netton (Milyon) -Net Tonnes million) -Toplam Gelir milyon 'YTL) Revenue (Million n L ) - Source: TCDDAnnual Business Plan 2005-2010. l9 TCDD (2005) BogazkBprii-Ulukigla-Yenice, Mersin-Adana - Toprakkale Signalling, Telecommunication and Station ExtensionProject - Feasibility Study. 2oFurtherdetailabout the economic development potentialofthe hinterland ofthe three line sections is contained in TCDD (2005) Bogazkoprii - UlukrSla-Yenice, Mersin -Adana - ToprakkaleSignalling, Telecommunication and Station Extension Project - Feasibility Study. 21EIU(2005) Country Report -Turkey 22TCDD (2005)Annual Business Planfor 2005-2010. 62  The EconomicAppraisalof ComponentA ComponentA: TheMersin-Toprakkale, Bogazkoprii-Ulukisla,and Uukisla- Yenice line sections. The economic analysis of component A was estimated by the use o f a stylized model that considered the actual and forecast fkeight traffic on the three line sections, andthe impact o f the proposed investments on available line capacity in a defined `do-nothing' scenario and a defined `do-something' scenario. The economic costs were defined as the prospective investment costs o f TL 206.66 million (presented in December 2004 prices), together with the costs o f actually operating each train. A stylized assumption was made that the maintenance costs o f the track would be the same in both scenarios. This i s acknowledged to be something o f a simplification, but current costing methods in TCDD precluded an accurate assessment of the incremental marginal costs of the heavier and longer trains in the `do- something scenario'. The economic benefits (also presented inDecember 2004 prices) were defined as the additional revenue that will be realized from additional traffic that can be carried on these line sections, following the increase incapacity, inthe defined `do-something' scenario vis-h-vis the defined `do-nothing' scenario of no capacity enhancements, where a capacity constraint was estimated to restrict fiture growth in traffic and revenue in 2004, 2007 and 2011, respectively, on the three line sections. The capacity of the line sections inboth o f the scenarios has been calculated by considering the required travel time through the longest single line section, together with a line and station safety margin. Table 3 presents the estimated capacity of the three line sections inboththe `do-nothing' and `do-something' scenarios: 1LINESECTIONS `do-nothing scenario' `do-something scenario' (Train/ day ) (Train/day ) Bogazkoprii-Ulukigla 23 30 Ulukigla - Yenice 29 32 Mersin-Adana Toprakkale - 43 182 The required implementation, or construction, period has been assumed to be four years (2004-2008), with a subsequent appraisal period of 25 years (2008-2033). The latter period was defined after consideration o f the operational life of the proposed investments. All costs and benefits presented in December 2004 prices and discounted back to present value terms using a discount rate o f 12%. Appropriate sensitivity analysis has been undertaken to test variation in the key parameters of interest in the project, including the discountrate, andtheresults arereportedinthe subsequent section. The results of the economic analysis, interms of the Net Present Value ("V), the Economic Internal Rate of Return, (EIRR)and the Benefit Cost Ratio (B/CR) for Component A arepresentedinTable 4. Table4 EconomicADDraisalofthe Proiect - Net PresentValue @12% (MillTL) 44.6 I EIRRin% I 15 I The economic analysis indicates that component A i s economically viable, returning a positive NPV o f TL 44.6 Million, following an investmentofTL 206.66 million. The Economic InternalRate ofReturnis 63  15%, and the estimated benefit-cost ratio i s 1.29, which since it i s greater than one, would support a decision to invest inthe project. Since, all three line sections also carry passenger trains, and whilst the introduction o f the improved signaling is likely to result in areductiono f the variability injourney times for these trains, these benefits have not been considered inthe economic appraisal. This would support the assertion that the estimated benefits represented a conservative estimate o fthe total benefitsresultingfrom the investment. Sensitivity and SwitchingAnalysis This section indicates the impact of uncertainty or variation in the key parameters o f interest on the economic appraisal of the different components in the project. In the case of component A, the key parameters are perceived to be the growth rate o f future traffic, the investment costs, and the discount rate. The impact o f definedvariation inthese parameters i s presentedinthe following table, together with the percentage change inthe former necessaryto make the project unviable, the switching values. Table 5 - SensitivityAnalysis of ComponentA Capital Costs -20% Base Case +20% NPV (MillTL) 68.4 44.6 6.5 EIRR(%) 17% 15% 12% Traffic Growth -20% Base Case +20% NPV (MillTL) 3.4 44.6 74.1 EIRR(%) 12% 15% 16% DiscountRate 8% 10% 12% NPV (MillTL) 153.5 83.5 44.6 B/C Ratio 2.8 1.58 1.29 Estimated SwitchingValues Increase incapital costs 20% Reductionintraffic growth 20% The table reveals that component A i s relatively robust to the defined variation in the key parameters o f interest, with significant changes inthe both the capital costs o f the project and the forecast growthrates, still resulting inapositive NPV and an EIRR at the 12% threshold. The sensitivity analysis also revealed the estimated switching values, with capital costs needing to increase by in excess o f 20% and or traffic growth falling short o f the forecast by more than a similar amount before the project became unviable. 2. Financial Analysis The financial benefits will be derivedfrom: (i) additional revenue that will be realized from additional the freight traffic that can be carried as a result o f investments for capacity improvements on the Mersin- Toprakkale, Bo@zkopri.i-Ulukisla, and Ulukisla- Yenice line sections; and (ii)the reduction inlabor cost. 64  Table 6: FinancialAppraisal of the Project NPV and FRR 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 Costs (US$ m) Project investment and accrued 84 91 94 86 82 14 8 liabilitiesfor retirementbenefits Benefits (US$ m) Incrementalrevenue 3 6 8 8 14 Saving in operatingcost 60 100 137 171 202 202 202 202 202 Net benefits (US$m) (84) (31) 6 51 89 191 200 210 210 216 NPV (US$ m) $405 Financial IRR 50% The financial analysis indicates that the project i s financially viable, returning a very high net present value (NPV) o f US$405 million at a discount rate o f 12%, following an investment o f US$129 million for capacity improvements on the above three line sections, $93 million for compensation incentives, as well as US$238 million of structural cost o f retirement benefits, which is an accrued liability. Total labor cost savings during 2005-2009 alone amount to US$671 million, more than twice the total cost of retrenchment and more than 7 times the cost o f the compensation incentives. The financial internal rate o f return is 50%. Transport demand in Turkey has grown at an annual rate o f about 8% since 1950. Yet demand for rail transport has gradually declined and the market share of rail transport fell from 55% in 1950 to 9% in 1980, and declined even further to 3% in2002. Between 1980 and 2002, passenger and freight transport volume has almost tripled and quadrupled respectively. During the same period, demand for road transport has grown, and by 2002, road transport represented 96% of passenger transport and 92% of freight transport. The rail transport represents only a mere 2% o f passenger-km and 4% o f freight ton- km. The sharp decline of railtransport, particularly the loss o f freight traffic contributed to the deteriorationo f TCDD's operational and financial performance. TCDD has significantly reduced its freight tariffs, but this has not helped TCDD to attract freight traffic. Losses of TCDD have grown because of declining traffic as well as low profitability from overstaffing, old facilities and equipment, growing competition, and excessively large size o f network relative to demand. Total route network is 10,948 km, consisting o f 8,671 km of main lines serving major cities in Turkey, and 2,277 km o f secondary lines. Most TCDD railway lines are loss making. TCDD's financial position has now reached unsustainable levels with heavy losses and growing debts. Yet TCDD has not done muchto reduce its cost structure. The railway related activities are the main element of TCDD, representing about 90% of TCDD's total costs, but generating only 55% o f its revenue. Although port related activities are profitable and cross subsidizing railways, the operating revenue o f TCDD is not sufficient even to cover the cost of its staff. TCDD i s compensated for the operation o f the least profitable lines totaling about one fourth o f the network, as well as several loss making express trains and Lake Van train ferry. TCDD also receives subsidies for track maintenance activities, typically for renewal costs. These subsidies are part o f the national budget. Part of deficit has been also covered by equity injection o f the Treasury inthe form o f capital increase. The capital contribution is earmarked specifically to cover the labor cost of the railways, 65  as imposedby the Railway Law. This has not motivatedTCDD to reduce the excess staff. TCDD rarely receives all that it requests and its uncovered deficit was covered by accumulating arrears in employee taxes and social contributions. During the period 1993-2004, the railway cost the Government about US$9 billion, averaging about US$750 millionper year, or 0.2% of GDP. Although the financial deficit i s very large in absolute terms, its value expressed as a share o f GDP compares well with Croatia (1.3% of GDP), Romania (0.7%) and Bulgaria (0.6%), and fairly with Poland (0.4%). All railway systems inWestern Europe receive substantial financial support23by one mechanism or another from govemments to sustaintheir respective railwaynetwork. InU.K.,with a similar length of network, the Government spent around US$2.7 billion (0.2% of GDP) on the railways; US$8.5 billion (0.5%) in Germany; US6.2 billion (0.5%) in France; US$2.3 billion (0.6%) inNetherlands; US$580 million (0.3%) inAustria; andUS$560million (0.5%) inGreece. 1993 1994 1995 1996 1997 1996 1999 2000 2001 2002 2003 2004 1% change 19952w4 FEX(USS = TL) 11,216 30,263 46,559 63,044 155,504 264,163 426,619 626,602 1,245,610 1,517,018 1,493,629 1,493,629 Passenger-Km(billion) 7.1 6.3 5.8 5.2 5.8 6.2 6.1 5.6 5.6 5.2 5.9 5.3 -26% Ton-Km (billion) 6.5 6.3 6.6 9.0 9.7 6.5 6.4 9.9 7.6 7.2 6.7 9.6 12% Tolal Traftic Unit: (pkm+tkm) (billion) 15.7 14.7 14.4 14.2 15.6 14.6 14.6 15.7 13.1 1 2 1 14.5 14.9 -5% Numberof employees (year-end) 42,667 39.943 38,754 37,584 36,276 36,355 36,915 35,530 34,140 32,007 29,637 29,050 -32% Labor productivit#(thousand TU per employee) 367 355 367 373 421 403 396 434 377 376 472 507 38% Rail Revenue 236 161 173 183 202 219 239 246 162 193 304 372 56% Rail Costs 1161 1079 1073 1024 1033 956 916 966 657 612 943 1250 8% DeficR (926) (918) (900) (841) (831) (737) (678) (742) 696) (618) (640) (878) -5% Ports Profit (31) (13) (9) 21 66 116 41 82 77 87 86 96 TCDD defich (957) (931) (909) (820) (766) (622) (637) (660) (617) (631) (656) (783) -16% State budget support, ofbhich: 168 89 93 88 97 103 119 137 169 181 221 271 63% lnflilsbllcturemaintenance 30 12 11 10 9 11 12 13 82 69 116 140 368% Uneconomic lines 104 55 60 57 65 65 77 90 53 63 72 96 -7% Uneconomic express lines 26 16 16 16 19 23 21 26 20 24 25 27 6% Lakevan 9 5 4 3 4 3 4 6 4 5 7 10 17% Net deficit, incl. effect of state budget support V 9 ) (842) (816) (732) (668) (619) (517) (523) (469) (354) (W (509) -36% Working ratio (Mhout port and subsidy) I/ 367% 390% 351% 332% 314% 323% 379% 365% 366% 366% 35396 366% 0% Working ratio (Mhport and Mhout subsidy) 21 251% 220% 201% 160% 169% 164% 202% 213% 193% 196% 161% 207% -16% Working ratio (Mhporl and subsidy) 31 170% 161% 151% 141% 134% 130% 149% 155% 124% 127% 120% 132% -22% GDP 179,406 129,734 152,954 163,513 166,651 179,020 1M,000 172,878 125,158 156,477 201,754 300,209 67% State budget supporl as % of GDP (direct subsidyOnly) 0.1% 0 1% 0.1% 0.1% 0.1w 0.1% 0.1% 0.11 0.1% 0.1% 0.1% 0.1% -2% Slate budget supporl as % of GDP (directsubsidyplus losses) 41 0.5% 0 7% 0.6% 0.5% 0.5% 0.3% 0.4% 0.4% 0.5% 0.3% 0.3% 0.3% -51% PSO Paymentper passenger-km (US$) 0.016 0.011 0.013 0.014 0.014 0.014 0.017 0.020 0.013 0.017 0.016 0.023 26% Rail operatingcost per traffic unit(US$) 51 0.054 0.036 0.042 0.042 0.041 0.045 0.046 0.049 0.041 0.051 0.056 0.066 25% Rail operatingrevenuepertraffic una (US$) 61 0.013 0.006 0.010 0,011 0.011 0.012 0.011 0.011 0.010 0.012 0.015 0.016 27% lcost coverage ratio 24% 22% 23% 25% 2756 26% 23% 23% 24% 24% 25% 24%l 1% I/Workingratio(Mhoutportandsubsidy)definedas:operatingcosk(excludingport)beforedepreciation,dividedbyoperatingrevenue(excludingportandstatesupport). 2/ Working ratio (Mh portand without subsidy) definedas: operating costs before depreciation, divided by operating revenue (excluding budgetsupport) 31 Working ratio (Mhportand subsidy) defined as: Operating cosk before depreciation, divided by operating revenue. 41 Most TCDD losses have been covered by equw injection of the Treasuryinme form of capital increase. 51 Rail operating cost defined as: railoperating costs including depreciation. 61 Excludes budgelsupport. 23 Based on 2001 data. 66  RecentFinancialPerformance Total traffic volume of the railways rose by 2% in 2004, thanks to a 10% growth in freight, mostly in international transport. Passenger traffic dropped by 9%, due mainly to the terrible accident resulting from the derailment of a passenger train between Ankara and Istanbul. However, TCDD still remains as one o f those railways with the lowest traffic density combined with the highest proportions o f passenger traffic. Despite traffic and revenue growth, railways' net results deteriorated sharply with a deficitz4o f US$878 million, due mainly to rising cost of labor, materials, interest and depreciation. The working ratio (defined as the operating cost before depreciation, divided by the operating revenue excluding the budget support) also deteriorated from 353% in 2003 to about 366% in 2004. TCDD ports generated US$95 million profit, up from US$85 million recorded in 2003. Most o f the railways' deficit were covered by the cross subsidy from the ports, the budget subsidy, and equity injection o f the Treasury in the form o f capital increase. In2004, total support from public finance to cover losses as well as capital investment amounted to US$1,023 million which includes US$287 million for operating subsidy, US$380 million for equity injection from Treasury to cover losses and capital investments, and US$356 million on-lent by Treasury for the financing o f TCDD's approved investment projects. Total budget support amounts to 0.3% of estimated GDP. The workforce of TCDD has declined continuously (about 50% since the beginning o f 1980s largely as a result o f natural attrition and employment freeze policy. About 1,200 workers left TCDD in2003 as part o f the Government initiative providing an additional 20% bonus on the early retirement package. Currently, normal retirement payment i s US$23,00O-US$27,000 for blue color workers with 25-30 years o f service, and US$13,00O-S$17,000 for white color workers with 30 years of service. The amount of payment is based on the number of years o f service at an annual rate o f US$l,OOO for blue color and US$500 for white color. The minimumnumber o f years o f service to be eligible for retirement i s 25 years for men and 20 years for women. The mandatory retirement age i s 65 for both men and women. The pension payment averages about 40% o f salary for blue color and 70% for white color. The annual gross salary averages about US$19,000 for blue color and US$12,000 for white color. Net pay is about 70% of gross salary. TCDD currently employs about 29,050 staff, comprising 40% of blue color and 60% of white color employees. While bluecolor workers areprotectedby labor unions andcollective agreements, white color employees are civil servants and protected by many rules governing civil service employment. About 90% o f blue color workers are permanent staff with the remaining 10% filled with temporary workers. Officers o f TCDD totaling about 5% o f white color employees are permanent civil servants, and the remaining 95% are contractual civil servants. Both temporary blue color workers and contractual civil servants have gained almost permanent staff status since their labor contracts have been renewed every year. Inaddition, about 4,800 are employed at ports and another 4,300, at three subsidiary companies. Since 2000, TCDD has imposed a hiring freeze according to govemment policy. However, transfer o f staff from other public entities i s permitted. While most surplus staff relates to white color jobs, the shortage o f skilled trade employees, inparticular that o f engine drivers, i s o f serious concernto TCDD. Subsidiaries and Depots TCDD has three subsidiaries for maintenance, repair andmanufacture of locomotives (Tulomsas), freight wagons (Tudemsas), and passenger coaches (Tuvasas). Mainly because o f overstaffing and outdated facilities and equipment, these companies are highly loss-making. TCDD i s planning to rehabilitate and modernize them by setting upjoint venture with domestic and foreign firms to improve profitability and increase business activities outside TCDD. Inaddition, TCDD operates about 100maintenance and repair 24ExcludingTCDD ports. 67  workshops and depots, some o f which are now being dissolved and merged to reduce costs. TCDD i s also inthe process o f modernizing andrehabilitatingthose that will bekept for operation. Surplus of Assets TCDD i s planning to sell or lease surplus real estate assets to meet its cash needs for modernization and rehabilitation o f infrastructure. It has 14,000 buildings and 275 million square meters o f land, o f which 195 million square meters are covered by the railway track lines and operationalbuildings.Key actions to facilitate the process would include: (i) inventory of railway real estate assets to identify surplus assets; (ii)assessment o f market value; and (iii) examinationof various options for selling and leasing, especially in light of the expected sharp increase in the number of suburban train passengers in metropolitan municipalities such as Izmir and Istanbul following completion of ongoing modernizationo f suburbanrail system in2007 and 2011, respectively. Passenger Transport The total number o f passengers carried by TCDD fell by 50% during the last decade due mainly to the reduction o f suburban passengers as a result of growing alternative urban transport systems. During the period, total passenger kilometers declined by 20%, but passenger revenue increasedby over 25% inreal terms, because o f increase in real tariffs at a rate higher than the decline in ridership. In 2004, TCDD carried 77 million passengers, o f which about 65% on suburban lines and 35% on main lines. It generated a total revenue of US$70 million, consisting o f about 30% from suburban services and 70% from main lines. While the cost recovery o f overall passenger services i s about 25%, suburban passenger services have a muchhigher cost recovery o f about 70%, and mainlines cover only 20% of cost coverage. The Government i s planning to take the suburban passenger train services into municipal government responsibility. According to the protocol signed between TCDD and Izmir Metropolitan Municipality (IMM) in2002, IMMis expected to renovate the existing old stations, construct some new stations, and buy new EMUS. TCDD will complete signalization and maintain infrastructure. IMMhas to pay track access charges for using the TCDD network, but has an option to have TCDD to provide the services or hire private operators. %le about 4 million passengersuse the system per year now, IMMexpects the annual ridership to start increasing in 2006 upon project completion and reach over 100 million passengers by 2007. Istanbul commuter services are also expected to be transferred to the Metropolitan Municipality. The main difficulty in operating suburban passenger trains i s sharing the same line with the main line trains of TCDD, creating priority problems. InIzmir and Istanbul, construction o f two more lines are needed in addition to the existing double lines. InAnkara, the third line has been constructed and the design of the fourth line i s in progress. In Istanbul, two suburban lines and one main line will be available when the ongoing Marmaray Project financed by JBIC for under-crossing o f Bhosphorus would be completed in 2010. The suburban passenger traffic in Istanbul i s likely to drop by 50% in the next several years during the construction period but it will increase sharply after completion o f the ongoing rehabilitation project. Total suburban passenger traffic i s expected to grow from 1.3 millionpassenger- kmin2004 to 3 millionpassenger-kmby 2010. Major problems facing provision o f passenger services include: (i) low speed averaging 50 M o u r ; (ii) travel time being 60% more than buses; (iii) coaches and rolling stock; (iv) frequent delays mainly old due to breakdown of locomotives; (v) reliance on single lines (95% of total network); (vi) travel distance o f TCDD being 30% more than roads; and (vii) light rail and metro services available and beingparallel to TCDD lines inmetropolitanmunicipalities. 68  Freight Transport Between 1993 and 2004, freight traffic, measured in ton-lulometers, has increased by about 12%. Measured in tons, freight traffic has decreased by about 8%, indicating that average length o f haul has grown by 3% from 527 km to 545 km. Over the same period, average freight revenue per ton-km has declined by 40% in real terms. In the next six years, the planned increase in average revenue i s 24%. TCDD started running block trains in December 2003 which has reduced the travel time and increased traffic volume significantly. For example, average travel time between Soma and Erzurum has been reduced to 3 days from 8-10 days. Freight volume innet ton-km has increasedby 12% in2004 compared with 2003. About 90% of cargo is now beingcarriedby block trains, andthe target for 2005 is to increase to 95%. The block train operationwill reduce shunting costs by 60%. Another important development is the establishment o f inland container terminals (ICT) to improve combined transport. The ICT at Gaziantep has been established and i s now in operation. The plan i s to establish six more ICTs. The ongoing initiative to strengthen the institutional capacity and management structure o f major ports would also have a positive impact on freight railtransport. The main commodities carried by TCDD are iron ore, solid minerals (lignite, coal, coke) and construction materials, amounting to about 60% o f a total o f 9.6 billion ton-km and 50% o f freight transport revenue of US$167 million. Petroleum products represent a substantial market still unexploited by TCDD, and their transport would be financially and economically highly profitable. One objective of the project i s therefore to assist TCDD incapturing this market. Borrowing Inthe past, inorder for TCDD to have access to foreign loans, Treasury borrowedandon-lent these loans to TCDD for the financing o f designated investment projects. Total external borrowings, mostly from I F I s since 1968, amounts to about US$2 billion. Total short- and long-term liabilities o f TCDD were about US$995 million at end 2003. The current liabilities (US$572 million) of TCDD included current maturity o f long-term debt totaling US$316 million, far exceeding its current assets of US$572 million. As of end December 31, 2003, TCDD has outstanding long-term debts o f US200 million. Due to acute illiquidity, the Treasury is servicing the TCDD debts, but appropriate mechanisms need to be set up to helpreduce the indebtedness o fTCDD to a level whichdoes not impede sound financial management and to improve their financial situation. InvestmentProgram The ongoing program includes the construction of a new highspeed Ankara-Istanbul line (double track). The first phase rehabilitation of 240 km between Ankara and Eskisehir has been contracted out to the consortium o f Spanish companies and Alsim-Alarko (Turkey). The works are scheduled to be completed in2006 with an estimated total cost of 637 million, fundedpartly by the Spanish Government and partly by export and commercial credit. The feasibility study/application design study for the second phase o f 322 lun between Eskisehir and Istanbul with an estimated cost of EUR 700 million i s under preparation. Tender has been launched early in2005 and i s about to be completed. After completion, the maximumspeedwill increase from 120 km/hour to 250 km/hour, and the travel time will be reduced from 8 hours to 3 hours with the new trains sets. TCCD i s planning to purchase 10 new Electric MultipleUnits (EMUS)at an estimated cost ofUS$l50million with foreign loans. 69  Framework for ReformProgram A framework for restructuringTCDDprescribedbothinthe Letter of Sector DevelopmentPolicy and the Business Plan for 2005-2010 comprises ten key dimensions: setting up anew legal framework for restructuring of TCDD related to reorganization including its relationship with Treasury (inparticularrefinement of Public Service Contracts), separation o f infrastructure from operations to increase transparency and accountability, and labor retrenchment; shiftingfrom aregional structure to aline ofbusiness structure; devolving to municipalitiesor thirdparties responsibility for suburban passenger services; reducing inter-city passenger services where alternative transport modes are readily available at a competitive price andreducing excessrailwaynetwork; downsizing workforce to reduce fixed costs; settingpassengertariffs and freight rates at price according to cost and market conditions to gradually improve cost recovery; exploringmarketniches and developing freight traffic; e rehabilitating, modernizingand developing transport facilities and capacities, inparticular information technology, a central element for businessunits; divesting from non-core activities to provide better long-termvalue for money for TCDD, and closing down or mergingsurplus workshops; and selling, leasing and disposing o f surplus properties. Projected FutureFinancial Situation The Bank's financial projections show that the implementation of the above reform program will lead to substantial financial improvements by the end o f project period. The overall railway deficit" i s expected to decrease in six years by about 30% from about US$548 million in 2004 to US$380 million in 2010. The improvements will be achieved mainly through labor cost reduction and increase of traffic volume and cost coverage ratios, both for freight and passenger services. Inparticular suburban passenger traffic i s expected to increase the cost coverage ratio substantially from 70% in 2004 to 100% by 2010. The performance will depend on the agreement with the municipal governments o f Izmir and Istanbul regarding transfer and operation o f new suburban passenger system, analysis o f the possible disposal of non-operational railway real estate assets and actual sales proceeds, speed of private participation of core andnon-core services, and the market response to the planned reforms. During2005-2010, railway operating revenues are estimated to grow by 72%. The growth of revenue will be met through: (i) estimated increase o f traffic volume by 50% driven by modernization and rehabilitation of infrastructure financed under the project and the ongoing Ankara-Istanbul High Speed train project financed by the Spanishbilateral fund; and the new suburban passenger system in Izmir that i s to become operational in 2007; and (ii)estimated 15% increase of unit average revenue from US$O.O16/TUto US$0.019 /TU. 25 Excludingdepreciation for operating cost and state support for operating revenue. 70  The operating cost (excluding depreciation) is expected to fall by 16%. Staff reduction is the principal restructuring measure leading to an important annual labor cost reduction. Labor accounts for over 50% o f the rail operating cost and 218% of the operating revenue. Port will also shed its staff and will be separated from TCDD by end 2007. Three affiliated companies are expected to be privatized duringthe project implementation period. Net railway deficit (excluding depreciation) and need for Government support is estimated to decrease from US$548 million in2004 to US$380 million in2010. The working ratio (without ports and subsidy) will improve from 366% in 2004 to 180% in 2010. The railway will require substantial levels o f budgetary support for the foreseeable future both for support o f passenger services and investment. There i s need and scope for much more radical restructuring including closure o f uneconomic lines and services and private participation in core transport operations and infrastructure maintenance that will bring substantial financial improvements. Greater emphasis will be given to maintaining political will and impetus for much stronger reform under the umbrella o f the project implementation. The key issues on uneconomic services and adequate compensation for public service obligations would be addressed through the plannedEU-financedTA.. FinancialPerformanceBenchmark The project will support the transformation o f the railway industry into a fully commercial enterprise with gradually reduced Government financial support. It was agreed that progress towards the financial sustainability o f TCDD will be measured in terms of the improvement in the working ratio to achieve a target o f about 180% or less by 2010 from 366% posted in2004. Sensitivity analysis has been performed by assuming no growth in freight traffic and rates; delaying labor restructuring by 12 months and 24 months; and delaying the labor restructuring by 24 months as well as constant freight traffic and rates. Summary results indicatethat, incases less favorable than the base case, TCDD together with the Government would have to take a combination o f measures including rationalization of network and operations, deferral o f infrastructure maintenance, and increase of subsidies. If TCDD were to fall to a financial worst-case scenario with a 24-month delay in staff retrenchment and no growth in freight traffic and rates, the Government would have to bail out with additional subsidies of US$660 millionbetween 2005 and 2010. Scenario 2004 2005 20% 2007 2M)8 2009 2010 WR end-year WR end-year WR end-year WR end-year WR end-year WR end-year WR end-year deficit deficit deficit deficit deficit deficit deficit 366% (727) 320% (647) 285% (593) 269% (564) 202% (468) 192% (443) 180% (414) Sc.1: Freighttraffic andrates remainconstant 366% (727) 334% (659) 315% (620) 316% (607) 241% (529) 234% (512) 230% (505) Sc.2: Laborrestructuringdelayedby 1year 366% (727) 343% (709) 300% (634) 278% (590) 209% (493) 198% (465) 182% (423) Sc.3: Laborrestructuringdelayedby 2 years 366% (727) 343% (709) 322% (695) 292% (631) 215% (519) 205% (490) 187% (445) Sc.4: Laborrestructuringdelayedby 2 years. 366% (727) 359% (720) 355% (722) 344% (675) 257% (580) 249% (559) 239% (536) IWR: workingratioexcludingsubsidy 71  Operational and financial forecast (amountin US$ million: 20052010 constant end-2004 prices) Average passengerrevenue(USS/pkm) II 0.0141 0.0141 0.0141 0.0151 0.0151 0.0151 0.0151 I I I I I I I I Average freight revenue(US$Rkm) I 0.0171 O.Ol8l 0.0191 0.0201 0.0201 0.0201 0.0221 24%1 4% I I I I I I I I I I Rail operatingrevenue(USSmillion) Passenger 75.8 79.8 83.1 76.4 151.7 155.0 159.5 110% 12% Freight 167.0 178.160 193.785 210.047 228.203 236.414 258.373 55% 9% Rail operating expenses(US$ million) Labor 528.7 467.3 426.0 400.0 374.7 352.7 344.0 -35% -1% Otheroperating expenses 360.3 357.3 363.0 370.0 392.3 400.7 407.0 13% 1% Rail nonoperatingand financial revenues I 129.3 I 129.3I 129.3I 129.3I 129.3I 129.31 129.3I 0%( 5% I I I I I II II II II I I I I I I Rail non-operatingand financlalexpenses II 210.0 II 210.0 II 210.0 I 210.0 10% I II 210.0II 210.0II 210.0II O%I I Working ratio(withoutrubsldy) 366% 320% 2bS% 269% 202% '.. 10% 180% -51% (878) Depreciation 151.0 155.0 270.0 330.0 360.0 370.0 380.0 152% 72  Annex 10: Safeguard Policy Issues TURKEY: RAILWAYSRESTRUCTURING ENVIRONMENTALASSESSMENT The project is in full compliance with all environmental regulations, policies and procedures o f the Government o f Turkey and the World Bank. Inaccordance World Bank safeguard policies, the project i s rated environmental category B and an Environmental Management Plan (EMP) has been prepared by TCDD. The TCDD has agreedto conduct public consultations and to disclose the Turkish language EMP publicly in Turkey and to send the English language version to the World Bank for placement in the Infoshop. The project i s expected to trigger only minor issues associatedwith the movement o f men, machines and materials during the construction phase (e.g. dust, noise, etc.). The Environment management plan concluded that the issues are of limited duration, limited in a real extent and easily mitigated with standard procedures of good engineering design and practice. The EMP details effectively the mitigation program, monitoring program, institutional arrangements for effective implementation, schedule, and institutional development needs. The Banki s highly satisfied with the EMPdeliveredpromptly by TCDD, showing the concern of the staff for these issues. Yet, the Bank urges TCDD to establish a unitresponsible for environment management. Indeed, although there are knowledgeable staffs within TCDD, there is no formal environment unit inthe organization. Likewise there i s no institutional capacity for emergency response planning and management. The project will include a technical assistance component to strengthen these capabilities and the Borrower has agreedto create an environmental unitwithin TCDD. The World Bankpolicy on cultural heritage will not be triggered, as all the works will be implemented in a zone that has already been explored duringthe construction of the railroad. However, the team assured that provisions related to unexpected findings will be included in a all construction contracts and the EnvironmentalManagement Plan. SOCIALASSESSMENT The overall impact of this project will be country-wide and positive, although it will have a negative impact on some employees who are released due to restructuring, Measures are included to mitigate this impact, however, by making the downsizing process transparent, maximizing voluntary retirement, providing various support mechanisms to assist employees adjust, and implementing the program at a pace that will enable affected workers to prepare inadvance for the change. The project does not trigger social safeguards policies. The Project supports the Government's policy to improve the country's railway network, make rail transportation more effective and safer. Improved railway transport networks and services are also expected to attract foreign and local investors to do business across the country and not only around largest cities. This, in turn, i s expected to contribute to more evenly distributed economic growth and reduce regional disparities. Reliable transport services facilitate access to schools, health and job markets. Roadworks also generate substantial employment. 73  TCDD has operated under a policy of no hirindno layoff for a decade or more and a reduction in employment levels, was achieved through natural attrition and the special provisions that provided an additional lump sum top-up o f 20% over the "end of service" compensation to workers eligible for early retirement. For this reason, there i s little TCDD experience dealing with the social impact on railway workers of a broader program of staff adjustment associatedwith restructuring. However, there i s recent experience with social impact associated with the privatization o f state enterprises upon which the proposed component draws. According to the recent social monitoring survey data in the Bank`s Privatization Social Support Project (PSSP), the most vulnerable group i s prime age workers with families and financial commitments between 30-45 years o f age andnot those close to retirement as was origmally anticipatedwhen the PSSP was implemented. The mainbeneficiarieso f "end o f service" or severance compensation inthe proposed project will be determined when specific functional areas o f redundancy are identified by TCDD with the assistance o f specialized consultant.. Two stakeholder workshops were held during appraisal that provided opportunities to discuss the implications o f the TCDD business plan and associatedrestructuring on the labor force with senior management, union leaders and external stakeholders and middle-level management, respectively. These will be followed by similar workshops when subsequent consultant reports are released, and duringthe preparation of a detailedimplementationplan, to offer an opportunity for stakeholder input at each stage. TCDD will also launch an ongoing information campaign to keep employees and the public aware of the changes that are planned andunderway, inorder to help employees anticipate and adjust to the changes. In addition, TCDD will set up an independent social monitoring program to monitor and assess social impacts of restructuring and to identify unanticipated impacts that needto be addressed. 74  Annex 11: ProjectPreparationand Supervision TURKEY: RAILWAYS RESTRUCTURING Planned Actual PCNreview 11/22/2003 11/22/2003 Initial PID to PIC 01/03/2004 01/03/2004 Initial ISDS to PIC 06130/2004 06/30/2004 Appraisal 02/01/2005 03/15/2005 Negotiations 05/17/2005 05/06/2005 BoardRVP approval 06/09/2005 Planneddate of effectiveness 09/01/2005 Planneddate of mid-termreview 07/01/2007 Planned closing date 06/30/2009 Keyinstitutionsresponsiblefor preparationof the project:TCDD Bank staff and consultants who worked onthe project included: Name Title Unit Michel AudigC ProgramTeam Leader ECSIE Olivier L e Ber Co-Team Leader ECSIE DilekBarlas Senior Counsel LEGEG Stan Peabody Lead Safeguards Specialist ECSSD Sunja Kim Senior Financial Analyst ECSIE MartinHumphreys Senior Transport Economist ECSIE Alptekin Orhon Senior Financial Analyst ECCO7 IbrahimSirer Senior Procurement Specialist ECC07 Seda Ayromak Senior FMS Specialist ECC07 KarimBudin Railways Specialist Consultant Jolanta Hess Labor Specialist Consultant HakanMat Financial Specialist Consultant BemardBaratz Environmental Specialist. Consultant Julie Morel Project Officer Consultant Paul Amos Lead Railways Specialist Peerreviewer Mirtha Pokomy LeadTransport Economist Peerreviewer Coral Bird Project Assistant ECSIE ElifYukseker Project Assistant ECC07 Ulker Karamullaoglu ProgramAssistant ECC07 Bank funds expended to date on project preparation: 1. Bankresources: $250,000 2. Trust funds: $700,000 3. Total: $950,000 75  Estimated Approval and Supervision costs: 1. Remainingcosts to approval: $50,000 2. Estimatedannual supervisioncost: $100,000. 76  Annex 12: Documentsinthe ProjectFile TURKEY: RAILWAYSRESTRUCTURING 0 World Bank OED, TurkishRailway Project Completion Report, 1985 0 World Bank OED, SecondRailway Project Completion Report, 1995 0 Booz Hallen& Hamilton ,TurkishState Railways restructuring Study, 1996 0 World Bank, Options for Reform: Turkish StateRailways, June 2002 0 Halcrow Group Limited& CarlBro, Assistance to Turkish State Railways: Gap Analysis andAction Plan, March2003 0 World Bank, mission Aide Memoire, April 2004 0 CANAC, TCDD InterimReport, November 2004 0 World Bankmission Aide Memoire, November 2004 0 World Bank, Project InformationDocument, December 2004 0 SignedLetter o f Sector Development Policy, December 2004 0 Project Implementation Plan(PIP), January 2005 0 CANAC, Reports Phase A & ByFebruary2005 0 World BankmissionAide Memoire, February 2005 0 TCDD, 2005-2010 Business Plan, February2005 0 Project Environmental Management Plan(EMP) -March2005 0 CANAC, Reports Phase C & D, March2005 77  Annex 13: Statementof Loansand Credits TURKEY: RAILWAYSRESTRUCTURING Differencebetween expectedand actual Original Amount inUS$Millions disbursements Project ID FY Purpose IBRD IDA SF GEF Cancel. Undisb. Orig. Frm. Rev'd PO94176 2005 ECSEEAPL #2 (TURKEY) (CRL) 66.00 0.00 0.00 0.00 0.00 65.29 0.00 0.00 PO66149 2005 SEC EDUC 104.00 0.00 0.00 0.00 0.00 107.30 0.00 0.00 PO70950 2004 ANATOLIA WATERSHED REHAB 20.00 0.00 0.00 0.00 0.10 19.55 -0.05 0.00 PO72480 2004 RENEW ENERGY 202.03 0.00 0.00 0.00 1.01 198.01 0.99 0.00 PO74053 2004 HEALTH TRANSIT (APL #I) 60.61 0.00 0.00 0.00 0.30 60.32 4.14 0.00 PO75094 2004 WATERSHED REHAB(GEF) 0.00 0.00 0.00 7.00 0.00 6.75 0.15 0.00 PO82801 2004 EFIL2 303.10 0.00 0.00 0.00 0.00 92.61 -147.49 0.00 PO82996 2004 PFPSAL 3 1,000.00 0.00 0.00 0.00 0.00 500.00 -333.33 0.00 PO59872 2003 BASIC ED2 (APL #2) 300.00 0.00 0.00 0.00 0.00 291.46 271.03 52.79 PO74408 2002 SRMP 500.00 0.00 0.00 0.00 0.00 259.67 224.31 -4.19 PO70286 2002 AMP 600.00 0.00 0.00 0.00 0.00 273.71 267.04 50.48 PO69894 2001 PRIV SOC SUF'PRT 250.00 0.00 0.00 0.00 0.00 7.21 7.21 -40.79 PO68368 2000 MARMARA EARTHQUAKE EMG 505.00 0.00 0.00 0.00 0.00 284.36 284.36 26.81 RECON PO44175 2000 BIODIVMTRLRES MGMT (GEF) 0.00 0.00 0.00 8.19 0.00 4.39 3.66 0.25 PO09073 1999 INDUSTRIAL TECH 155.00 0.00 0.00 0.00 0.00 19.97 19.97 0.00 PO48852 1998 NAT'LTRNSM GRID 270.00 0.00 0.00 0.00 27.79 124.25 152.04 56.39 Total: 4,335.74 0.00 0.00 15.19 29.20 2,314.85 754.03 141.74 TURKEY STATEMENTOFIFC's HeldandDisbursedPortfolio InMillions ofUSDollars Committed Disbursed IFC IFC FY Approval Company Loan Equity Quasi Partic. Loan Equity Quasi Partic. 2005 Acibadem 20.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 Altematif Bank 0.50 0.00 0.00 0.00 0.50 0.00 0.00 0.00 1996101/03 Arcelik 19.90 0.00 0.00 0.00 19.90 0.00 0.00 0.00 2000 Arcelik LG Klima 11.17 0.00 0.00 0.00 11.17 0.00 0.00 0.00 2002 Assan 22.50 0.00 0.00 0.00 22.50 0.00 0.00 0.00 2002 Atilim 6.50 0.00 0.00 0.00 6.50 0.00 0.00 0.00 2000 Banvit 10.00 5.00 0.00 0.00 10.00 5.00 0.00 0.00 BayindirbankA.S 3.00 0.00 0.00 0.00 3.00 0.00 0.00 0.00 2002 Beko 33.62 0.00 0.00 28.82 33.62 0.00 0.00 28.82 2001 Bilgi 9.00 0.00 0.00 0.00 9.00 0.00 0.00 0.00 1994196197 Borcelik 9.09 3.21 0.00 0.00 9.09 3.21 0.00 0.00 78  2004 BorusanHolding 30.00 0.00 10.00 0.00 30.00 0.00 10.00 0.00 1994 CBS Holding 3.50 0.00 0.00 0.00 3.50 0.00 0.00 0.00 1990/02 Conrad 3.15 0.00 0.00 0.00 3.15 0.00 0.00 0.00 2002 EKS 11.25 0.00 0.00 0.00 11.25 0.00 0.00 0.00 2004 Ege 10.00 0.00 0.00 8.00 10.00 0.00 0.00 8.00 1995 Entek 19.00 0.00 0.00 9.94 19.00 0.00 0.00 9.94 1999 Finansbank 3.33 0.00 0.00 0.00 3.33 0.00 0.00 0.00 2004 GarantiLeasing 10.00 0.00 0.00 0.00 10.00 0.00 0.00 0.00 1999 GumussuyuKap 4.00 0.00 3.76 0.00 4.00 0.00 3.76 0.00 2001 Gunkol 6.20 0.00 6.25 0.00 6.20 0.00 6.25 0.00 1998 IndoramaIplik 4.38 0.00 0.00 0.00 4.38 0.00 0.00 0.00 1998/00/02 Ipek Paper 11.14 0.00 0.00 0.00 11.14 0.00 0.00 0.00 1990 KepezElektrik 2.43 0.00 0.00 0.00 2.43 0.00 0.00 0.00 1988190 K i r i S 11.66 0.00 0.00 0.00 11.66 0.00 0.00 0.00 2004 Koclease 30.00 0.00 0.00 0.00 30.00 0.00 0.00 0.00 1991 Kula 5.26 0.00 0.00 0.00 5.26 0.00 0.00 0.00 2003 MESA Group 11.oo 0.00 0.00 0.00 11.oo 0.00 0.00 0.00 2004 MeteksanSistem 0.00 0.00 8.50 0.00 0.00 0.00 8.50 0.00 2002 Milli Re 50.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 1998102 ModemKarton 10.00 0.00 0.00 0.00 10.00 0.00 0.00 0.00 1991 NASCO 10.18 0.00 0.00 3.55 10.18 0.00 0.00 3.55 2004 OPET 25.00 0.00 0.00 40.00 8.33 0.00 0.00 25.00 2004 Oyak Bank 50.00 0.00 0.00 0.00 50.00 0.00 0.00 0.00 2002 Pasabahce 3.75 0.00 0.00 0.00 3.75 0.00 0.00 0.00 1998 Pinar ET 3.93 0.00 0.00 0.00 3.93 0.00 0.00 0.00 2000 Pinar SUT 13.08 0.00 0.00 0.00 9.30 0.00 0.00 0.00 1999 SAKoSa 16.96 0.00 0.00 6.82 16.96 0.00 0.00 6.82 1990 Silkar Turim 2.01 0.00 0.00 2.28 2.01 0.00 0.00 2.28 2002/03 Sise ve Cam 69.64 0.00 0.00 43.52 69.64 0.00 0.00 43.52 2002 soktas 2.00 0.00 0.00 0.00 2.00 0.00 0.00 0.00 1999 TEB Finansal 0.56 0.00 0.00 0.00 0.56 0.00 0.00 0.00 2005 TSKB 0.00 0.00 50.00 0.00 0.00 0.00 50.00 0.00 1982183189191/96/99 Trakya Cam 0.00 0.54 0.00 0.00 0.00 0.54 0.00 0.00 1999102 Turk EkonBank 13.33 0.00 15.00 0.00 13.33 0.00 15.00 0.00 2001 TurkishPEF 0.00 10.00 0.00 0.00 0.00 2.52 0.00 0.00 1999 UnyeCement 8.44 0.00 0.00 0.00 8.44 0.00 0.00 0.00 1999 Uzel 8.40 0.00 0.00 4.95 8.40 0.00 0.00 4.95 1998 Viking 8.33 0.00 0.00 0.00 8.33 0.00 0.00 0.00 Totalportfolio: 617.19 18.75 93.51 147.88 526.74 11.27 93.51 132.88 ApprovalsPendingCommitment FY Approval Company Loan Equity Quasi Partic. 2001 Akbank 0.03 0.00 0.00 0.00 2004 Akbank BLoanInc 0.00 0.00 0.00 0.02 2005 Arcelik-Reg. Exp 0.11 0.00 0.00 0.11 2005 Avea 0.12 0.00 0.00 0.30 2005 BandirmaDogalga 0.00 0.00 0.00 0.00 2005 Gemlik Dogalgaz 0.00 0.00 0.00 0.00 79  Annex 14: Countryat a Glance TURKEY: RAILWAYS RESTRUCTURING Europe 8 Lower- POVERTY and SOCIAL Central middle- Turkey Asia income Development diamond' 2003 Population, mid-year (millions) 70.7 473 2,655 II Life expectancy GNI per capita (Atlas method, US$) 2.600 2,570 1,480 GNI (Atlas method, US$ billions) 197.8 1,217 3,934 Average annual growth, 1997-03 T Population (%) 1.7 0.0 0.9 Labor force (56) 2.3 0.2 I.2 I GNI Gross ,per primary Most recent estimate (latest year available, 1997.03) capita nrollment Poverty (% of population below nationalpoverty line) Urban population (% of total population) 66 63 50 Life expectancy at birth (years) 70 69 69 - Infant mortality (per 1,000 live births) 35 31 32 I Child malnutrition (% of children under 5) 6 11 i Access to improved water source Access to an improved water source (% ofpopulation) 82 91 81 Illiteracy (% of population age 75+) 14 3 10 Gross primary enrollment (X of school-age population) 94 103 112 -Turkey Male 96 104 113 __Lower-middle-income group Female 91 102 111 I KEY ECONOMIC RATIOS and LONG-TERM TRENDS 1983 1993 2002 2003 Economic ratlos' GDP (US$ billions) 61.5 179.4 163.9 240.4 Gross domestic investmenVGDP 16.3 27.6 21.3 22.8 Exports of goods and services/GDP 12.5 13.7 29.2 27.4 Trade Gross domestic savings1GDP 12.2 21.9 19.6 19.5 Gross national savingslGDP 15.3 24.6 20.8 19.5 Current account balancelGDP -3.1 -3.6 -0.8 -2.8 Interest paymentslGDP 2.9 2.2 3.8 3.2 Total debVGDP 33.0 36.2 71.3 61.2 Total debt servicelexports 39.2 31.6 50.7 40.3 Present value of debVGDP 73.1 I Present value of debVexports 234.2 Indebtedness 1983-93 1993-03 2002 2003 2003.07 I (average annualgrowth) GOP 5.0 2.7 7.9 5.6 5.6 -Turkey GDP per capita 2.6 0.9 6.2 4.2 4.1 Lower-middle-income group Exports of goods and services 5.9 11.4 11.1 16.0 5.4 STRUCTURE of the ECONOMY 1983 1993 2002 2003 Growth of Investment and GDP (%) (% of GDP) - Agriculture 21.4 16.2 13.0 13.4 50 Industry 25.0 29.6 23.7 21.9 Manufacturing 16.8 18.3 14.0 13.3 Services 53.6 54.0 63.3 64.7 Private consumption 78.4 65.0 66.2 66.9 General government consumption 9.4 13.0 14.0 13.6 I Imports of goods and services 16.6 19.3 30.7 30.7 -GDI -GDP I I 1983.93 1993-03 2002 2003 II (average annualgrowth) Growth of exports and Imports ('A) Agriculture 1.5 I.o 7.4 -2.4 40 T Industry 6.7 2.2 5.6 5.0 20 Manufacturing 6.9 3.0 6.2 6.4 Services 4.3 3.0 7.3 6.4 0 Private consumption 4.7 1.9 2.2 6.7 -20 General government consumption 4 .O 3.9 5.4 -2.4 Gross domestic investment 7.7 1.o 35.9 20.4 Imports of goods and services 11.4 7.8 15.6 27.1 -Exports - D l l m p o r t s Note: 2003 data are preliminary estimates. *The diamonds show four key indicators in the country (in bold) compared with its income-group average. If data are missing, the diamond will be incomplete. 80  Turkey PRICES and GOVERNMENT FINANCE 1983 1993 2002 2003 Domestic prices lnflatlon (%) I (% change) Consumer prices 31.4 66.4 44.8 25.2 Implicit GDP deflator 26.3 67.8 44.1 22.5 Government finance (% of GDP, includes current grants) Current revenue 19.0 31.2 30.4 Current budget balance -3.1 -5.1 -5.3 deflator Overall surplus/deRcit ...... -12.0 -11.9 -10.1 -GDP *CPI I TRADE I 1983 1993 2002 2003 (US$ millions) Exportand Import levels (US$ mlll.) Total exports (fob) 5,905 15,345 40,124 51,206 80.000 Agricultural and livestock 1,032 1,044 2,089 2,545 Mining and quarry products 188 233 387 543 Manufactures 4.685 14.068 33,565 43,912 Total imports (cif) 9,235 29,428 51,554 69,340 Food 123 969 1,245 2,006 Fuel and energy 3,851 3,903 9,192 11,568 I Capital goods 2,311 7,499 9,103 11,792 Export price index (1995=100) 89 92 75 82 91 98 99 00 01 02 Import price index (1995=?00) I00 85 73 83 ~xports w Imports O3 Terms of trade (1995=100) 89 109 102 99 BALANCE of PAYMENTS 1983 1993 2002 2003 (US$ millions) Current account balance to GDP (%) Exports of goods and services 7.865 26,264 54,907 70,231 Imports of goods and services 10,118 33,721 55,365 73,760 'T Resource balance -2,253 -7,457 -458 -3,529 Net income -1,430 -2,744 -4,554 -5,427 Net current transfers 1,760 3,768 3,490 2,106 Current account balance -1,923 -6,433 -1,522 -6,850 Financing items (net) 2,075 6,741 7,675 10,897 Changes in net reserves -152 -308 -6,153 -4,047 Memo: Reserves including gold (US$ millions) 2,253 17,762 38,051 44,957 Conversion rate (DEC. local/US$) 226.0 11,046.7 1,509,471 1,496,668 EXTERNAL DEBT and RESOURCE FLOWS 1983 1993 2002 2003 (US$ millions) :omposition of 2003 debt (US$ mlll.) Total debt outstanding and disbursed 20,324 68,605 131,058 147,035 IBRD 2,336 5,285 5,367 5,214 A: 5,214 IDA 184 142 89 83 G:23.013 B:83 Total debt service 3,138 8,664 29,092 29,172 24,092 IBRD 274 1,183 708 728 IDA 4 7 7 7 D 1,199 E 6,810 Composition of net resource flows Official grants 98 403 Official creditors 327 -740 224 -1,217 Private creditors 139 6,104 6,901 -511 Foreign direct investment 46 622 863 1,063 Portfolio equity 0 189 -1,183 2,250 F 86.624 Wodd Bank program Commitments 675 207 1,650 0 4 IBRD E Bilateral - Disbursements 486 354 1,031 276 3 D -Other multilateral F -Private Principal repayments 115 753 443 502 2 IMF --- IDA G -Short-term Net flows 371 -399 588 -226 Interest payments 163 437 272 233 Net transfers 208 -836 316 -459 Development Economics 9/20/04 81   MAP SECTION